CHAPTER 9, A. Rejecting Power-Purchase Agreements in Energy Cases

• Jurisdiction: United States

A. Rejecting Power-Purchase Agreements in Energy Cases

Do Bankruptcy Courts Have Exclusive Jurisdiction?

ABI Journal

August 2019

Risa L. Wolf-Smith¹

Holland & Hart LLP

Denver, Colo.

In a much-awaited and pivotal decision in the PG&E chapter 11 proceeding, the U.S. Bankruptcy Court for the Northern District of California held that it not only has exclusive jurisdiction over the rejection of wholesale power-purchase agreements, but that the Federal Energy Regulatory Commission (FERC) has no such jurisdiction and any determinations by FERC to the contrary would be void.² While the decision might not be surprising to most bankruptcy practitioners, the proposition that FERC has no jurisdiction over the breach or modification of a power-purchase agreement is not only shocking to energy practitioners, but contrary to well-established authority in the energy arena.

Further, other courts have held otherwise, and the issue is percolating its way up on appeal to the Sixth and Ninth Circuits. There is a split of authority, and the collision between the regulation of energy sales in interstate commerce and bankruptcy policy is unsettled territory. This article explores the ever-changing legal landscape on the question of whether bankruptcy courts have sole authority to approve rejection of a power agreement otherwise within FERC's province.

Bankruptcy Basics: Rejection of Executory Contracts Is a Core Matter over Which Bankruptcy Courts Have Exclusive Jurisdiction

First, let's review some basic bankruptcy principles. Section 365(a) of the Bankruptcy Code provides that "the trustee [or debtor-in-possession], subject to the court's approval, may assume or reject any executory contract or unexpired lease of the debtor."³ This section allows debtors to be relieved of burdensome agreements, and bankruptcy courts have broad discretion to authorize rejection under this provision. The U.S. Supreme Court has recognized that the authority to reject an executory contract "is vital to the basic purpose of a Chapter 11 reorganization, because rejection can release the debtor's estate from burdensome obligations that can impede a successful reorganization."⁴

Further, bankruptcy courts have "original and exclusive" jurisdiction of all cases "under" title 11.⁵ There is no question that the rejection of contracts under § 365 is a core matter and a proceeding that "invokes a substantive right provided by title 11 or ... a proceeding that, by its nature, could arise only in the context of a bankruptcy case."⁶ Courts have similarly held that "[t]he right of a debtor in possession to reject certain contracts is fundamental to the bankruptcy system because it provides a mechanism through which severe financial burdens [might] be lifted while the debtor attempts to reorganize."⁷

It is also clear that rejection of an executory contract under 11 U.S.C. § 365(a) constitutes a breach of the contract, not a modification or termination.⁸ Rejection creates a contract "breach," and the non-breaching party to the rejected contract holds an unsecured claim against the debtor's estate. The Bankruptcy Code thus permits debtors to breach burdensome contracts and transforms a debtor's obligations to perform into a pre-petition claim for damages under § 365(g) of the Bankruptcy Code.

In reviewing a debtor's request, bankruptcy courts apply the "business judgment" standard to determine whether the rejection of an executory contract or unexpired lease should be authorized.⁹ Rejection is appropriate where it would benefit the estate.¹⁰ In other words, if a bankruptcy court finds that a debtor has exercised sound business judgment to determine that rejection of a contract is in the best interests of the debtor, its creditors and all par-ties-in-interest, the bankruptcy court should approve rejection.¹¹ Generally speaking, bankruptcy courts approve a debtor's decision to reject as a matter of course, and the business-judgment standard is fairly easily satisfied.

FERC Has Exclusive Jurisdiction over Wholesale Energy Contracts: The "Filed Rate" Doctrine (Mobile-Sierra)

However, there is also a well developed body of case law upholding the proposition that FERC has exclusive authority to regulate the provision of electric energy in interstate commerce. Furthermore, it exercises this authority for the "public interest."¹² FERC is vested with exclusive authority to regulate rates for wholesale sales of electric energy, and this exclusive authority extends to the terms and conditions of wholesale power agreements (including their duration and early termination), as well as...