MAKE WHOLES, B. Ultra Petroleum: A New Perspective on Make-Whole Premiums

• Jurisdiction: United States

B. Ultra Petroleum: A New Perspective on Make-Whole Premiums

ABI Journal

June 2019

Lisa Laukitis¹

Skadden, Arps, Slate, Meagher & Flom LLP

New York, N.Y.

Cameron Fee

Skadden, Arps, Slate, Meagher & Flom LLP

Wilmington, Del.

On Jan. 17, 2019, the U.S. Court of Appeals for the Fifth Circuit in In re Ultra Petroleum Corp.² followed the "monolithic mountain of authority" holding that a claim is impaired only if the plan itself alters a claimant's "legal, equitable, [or] contractual rights."³ Where a plan limits a claim pursuant to the Bankruptcy Code, it is the Code — not the plan — that is doing the impairing.⁴ Since the bankruptcy court concluded otherwise and required Ultra Petroleum to pay a make-whole amount to leave certain creditors unimpaired, the Fifth Circuit reversed and remanded to the bankruptcy court to decide whether the Code disallowed the make-whole amount.

While Ultra is noteworthy because it is only the second court of appeals decision to explicitly adopt a "plan impairment" approach to § 1124, this decision will be remembered for a different reason. In dicta, the Fifth Circuit departed from the way that many courts analyze make-whole premiums and telegraphed that make-whole premiums are, as a matter of law, disallowed under § 502(b)(2) as unmatured interest.⁵ The Fifth Circuit preemptively responded to potential attacks on this observation by strongly insinuating that the longstanding solvent-debtor exception does not exist.⁶

Background⁷

Ultra Petroleum is an oil and gas exploration and production company. Between 2008-10, Ultra Resources Inc. — Ultra Petroleum's operating subsidiary — issued $1.46 billion of unsecured notes under a note-purchase agreement and borrowed another $999 million under a revolving credit facility. After a precipitous decline in oil prices, on April 29, 2016, Ultra Petroleum and certain of its affiliates (the debtors) filed for chapter 11 in the U.S. Bankruptcy Court for the Southern District of Texas.⁸

During the pending bankruptcy, oil prices rebounded to such a degree that the debtors became solvent. Consequently, the debtors' plan proposed to leave the creditors under the note-purchase agreement and revolving credit facility (together, the "Class 4 Creditors") unimpaired by purportedly paying them in full. The debtors proposed to pay them the "outstanding principal [owed] on those obligations, pre-petition interest at a rate of 0.1 percent, and post-petition interest at the federal judgment rate."⁹The Class 4 Creditors argued that they were impaired because the plan did not provide for payment of the make-whole amount and post-petition interest at the contractual default rate.¹⁰

Under the note-purchase agreement, filing for bankruptcy was an event of default that automatically rendered the outstanding principal, any accrued interest and the make-whole amount immediately due and payable.¹¹ The amounts at stake were significant. The Class 4 Creditors claimed that the make-whole amount was $201 million and post-petition interest totaled $186 million.¹²

Instead of addressing this impairment fight at plan confirmation, the parties stipulated that the Class 4 Creditors were unimpaired and that the bankruptcy court could resolve whether such treatment required payment of the make-whole amount and post-petition interest at a later date.¹³ With the stipulation in hand and a $400 million reserve set aside by the debtors, the bankruptcy court confirmed the plan.

Bankruptcy Court Decision

Following confirmation, the bankruptcy court disagreed that the Class 4 Creditors were unimpaired. To be unimpaired under § 1124(1), the Class 4 Creditors must be paid everything they were owed under state law, even if such payments are otherwise disallowed by the Bankruptcy Code.¹⁴ The bankruptcy court further determined that when creditors are unimpaired, the default contract rate, rather than the legal rate, must be applied. Accordingly, the bankruptcy court found that the make-whole amount and default post-petition interest was owed to the Class 4 Creditors.¹⁵ The debtors were granted a direct appeal to the Fifth Circuit.

Fifth Circuit's Holding

Reversing the bankruptcy court, the Fifth Circuit held that disallowance of a claim due to the application of the Bankruptcy Code does not render such claim impaired.¹⁶ The Class 4 Creditors argued at length that their rights had been altered, but the court found that was "both undisputed and insufficient."¹⁷ The court stated that "a creditor's claim outside of bankruptcy is not the relevant barometer for impairment; we must examine whether the plan itself is a source of limitation on a creditor's legal, equitable, or contractual rights.'"¹⁸

The impairment inquiry focuses on whether the "plan itself" alters a creditor's rights. Section 1124(1) provides that "a class of claims or interests" is unimpaired where "the plan ... leaves unaltered the [holder's] legal, equitable, and contractual rights."¹⁹ According to the Fifth Circuit, § 1124(1) plainly provides that the plan — not the Bankruptcy Code — must do the altering in order for a claim to be impaired.

Because the bankruptcy court determined that the Class 4 Noteholders must be paid all amounts owed under the note-purchase agreement and revolving credit facility, irrespective of whether the Code disallowed such payments, it did not rule on whether the Code disallows the (1) make-whole amount and (2) post-petition at the contractual default rate. The Fifth Circuit remanded these questions to the bankruptcy court to answer in the first instance.²⁰ However, before doing so, the Fifth Circuit discussed at length how it would rule.

Fifth Circuit's "Dicta"

The Fifth Circuit all but ruled that the make-whole amount should be disallowed under § 502(b)(2),²¹ which disallows a claim to the extent that it is for "unmatured interest." The Fifth Circuit determined that the make-whole amount was unmatured and constituted interest. The make-whole amount was "unmatured" because, on the date that the debtors filed for chapter 11, it was not owed. Even though the make-whole amount was triggered upon an event of acceleration, which included a bankruptcy filing, the Fifth Circuit determined that it was an unenforceable ipso facto clause.²²

Significantly, the Fifth Circuit also found that "the Make-Whole Amount is the economic equivalent of 'interest.'"²³ Make-whole premiums are meant to compensate a lender for lost interest in the event of early repayment. At its core, "unmatured interest" under § 502(b)(2) focuses on the "economic realities, not trivial formalities."²⁴ Section 502(b)(2)...