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October 19, 2022

Solvent-Debtor Exception Carries the Day in Fifth Circuit Ultra Petroleum Ruling on Make-Wholes and Post-Petition Interest


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On October 14, 2022, the Fifth Circuit issued its decision in Ultra Petroleum, granting favorable outcomes to “unimpaired” creditors that challenged the company’s plan of reorganization and argued for payment (i) of a ~$200 million make-whole and (ii) post-petition interest at the contractual rate, not the Federal Judgment Rate. At issue on appeal was the Chapter 11 plan proposed by the “massively solvent” debtors—Ultra Petroleum Corp. (HoldCo) and its affiliates, including subsidiary Ultra Resources, Inc. (OpCo) (collectively, “Ultra”)—which provided for the payment of all unsecured claims, including OpCo noteholders and OpCo RCF creditors, in full and in cash, with all accrued pre-petition outstanding interest to be paid at the contractual rate, and all post-petition accruing interest to be paid at the Federal Judgment Rate. Ultra deemed such creditors unimpaired under the plan. The plan did not, however, provide for payment of post-petition interest at the contractual default rate or of a make-whole amount triggered upon the filing of the bankruptcy. The decision is the latest circuit court decision on the proper rate of post-petition interest for a creditor in a rare solvent debtor case and the treatment of make whole claims in bankruptcy.

Two groups of creditors appealed the order confirming the plan: (i) OpCo Noteholders and (ii) the Ad Hoc Committee of OpCo Unsecured Creditors, including noteholders and RCF creditors (the “Creditors”). The Creditors argued that they were, in fact, impaired, because the plan did not provide for the payment of make-whole amounts that became due upon Ultra’s bankruptcy filing, nor did it provide for the payment of post-petition interest at the contractual “default rate,” which was significantly higher than the Federal Judgment Rate.

In its opinion, the Fifth Circuit affirmed the decision of the Bankruptcy Court for the Southern District of Texas, holding that, while section 502(b)(2) of the Bankruptcy Code precludes claims for make-whole amounts, as these amounts constitute unmatured interest or its economic equivalent, the solvent-debtor exception that existed prior to enactment of the Bankruptcy Code survived such that Ultra was obligated to pay the make-whole amounts and post-petition interest at the contractual rate.

Some key takeaways from the decision:

  • The Fifth Circuit found that the make-whole amount to be paid here was clearly “unmatured interest” and disallowed under Bankruptcy Code §502(b)(2), in contrast to the bankruptcy court’s holding that it constituted neither “unmatured interest” nor its “economic equivalent.” This stands in contrast to certain decisions finding make whole claims to be liquidated damages claims and not unmatured interest. The Fifth Circuit viewed the fact that such make-whole amounts may be deemed liquidated damages as not changing this analysis. The Court repeatedly referenced In re Pengo Industries, a Fifth Circuit case involving OID that interprets §502(b)(2) as disallowing claims for both unmatured interest and its economic equivalent as being analogous support for its holding. The recent decision in Hertz also gets footnote cites for how the “economic equivalent” of unmatured interest is disallowed by the Bankruptcy Code.
  • The broader ruling—that the make whole amount would, absent operation of the solvent-debtor exception, be disallowed as unmatured interest—should make the Fifth Circuit generally unfriendly to creditors seeking similar make-whole-based recoveries in the future, outside of the rare solvent-debtor case.
  • The Court rejected Ultra’s argument that, in enacting the Bankruptcy Code, Congress abrogated the solvent-debtor exception, thus confirming the Fifth Circuit’s stance in favor of the historical exception. This is in line with the recent Ninth Circuit’s holding in PG&E, which we recently analyzed.
  • In determining whether the solvent-debtor exception applied, the Fifth Circuit looked to the Supreme Court, which has instructed that longstanding historical practice continues apace unless expressly abrogated, unmistakably, by Congress (i.e., in this instance, by the codification of the current Bankruptcy Code in 1978). The majority opinion, here, found that the solvent-debtor exception remained alive and well even after the code was enacted, since clear intent from Congress was lacking. Nonetheless, the dissenting minority opinion focused on this point and found that Congress did provide clear language and intent to abrogate the solvent debtor exception by enacting §502(b)(2) to disallow claims for unmatured interest, full stop, as opposed to the way prior iterations of this provision were crafted.
  • To make a final determination for whether the Ultra debtors would be responsible for the make whole amounts due via the solvent-debtor exception, the Court still needed to find that such amounts were enforceable as liquidated damages under state law (i.e., NY law) and not unenforceable penalties. The Court found the make-whole amount to constitute “enforceable liquidated damages” under New York law, as it was not “plainly or grossly disproportionate to the probable loss,” which would be satisfied if creditors were to receive a double recovery. Moreover, the court distinguished payments for make-wholes and post-petition interest as separate recoveries for separate harms, not double recoveries.
  • The Court is focused on the contractual rights provided—which are at the core of the solvent-debtor exception—and as a result, found that the appropriate post-petition interest rate is the contractual default rate, not the Federal Judgment Rate. This stands in contrast to the recent Ninth Circuit decision in PG&E where the court remanded the appropriate rate to the bankruptcy court for determination. Moreover, the post-petition interest analysis by the court discusses a Ninth Circuit case at the center of the recent PG&E post-petition interest ruling—In re Cardelucci—which looks to Bankruptcy Code §726(a)(5) to say that creditors must receive post-petition interest “at the legal rate” before equity holders could receive anything in a cram-down scenario. Nonetheless, the court here emphasizes that it only sets a floor for impaired creditors, not a ceiling, which would be the contractual default rate.

Special thanks to Josh Friedman, Senior Client Value & BD Lawyer, for co-authoring this publication.