Fifth Circuit Holds that Fixed Quantities are Not Required to Satisfy the “Forward Contracts” Safe Harbor Defense

by Cadwalader, Wickersham & Taft LLP

[authors: Thomas Curtin]

On August 2, 2012, the United States Court of Appeals for the Fifth Circuit held that a requirements contract for the supply of electricity constituted a “forward contract” under the Bankruptcy Code and, therefore, was exempt from preference avoidance actions. The Fifth Circuit held that the contract in this case met the plain language definition of a “forward contract,” notwithstanding the fact that it lacked fixed quantity and delivery date terms. Lightfoot v. MXEnergy Elec., Inc. (In re MBS Mgmt. Servs., Inc.), 2012 WL 3125167 (5th Cir. Aug. 2, 2012).

Section 546(e) Safe Harbor for Forward Contracts

The Bankruptcy Code’s “safe harbor” provisions insulate certain types of contracts from avoidance actions under chapter 5 of the Bankruptcy Code. Section 546(e) of the Bankruptcy Code provides that, among other things, a trustee may not avoid a settlement payment made by or to a “forward contract merchant…in connection with….a forward contract” that is made before the commencement of the case. 11 U.S.C. § 546(e).  A “forward contract” is defined as a contract “for the purchase, sale, or transfer of a commodity…with a maturity date more than two days after the contract is entered into….” 11 U.S.C. § 101(25)(A).

Certain courts have held, either implicitly or explicitly, that a contract need not specify the quantities purchased to qualify as a “forward contract” as defined in section 101(25)(A). See Lightfoot v. MXEnergy, Inc., 2011 WL 1899764 (E.D. La. May 19, 2011); In re Magnesium Corp. of America, 460 B.R. 360 (Bankr. S.D.N.Y. 2011). At least one court, however, has held that a contract that does not require the delivery of a specified quantity of a commodity was not protected by the safe harbor under section 546(g), which pertains to swap agreements, not forward contracts. See In re Nat’l Gas Distrib., LLC, 556 F.3d 247, 260 (4th Cir. 2009). The Nat’l Gas Court held that such a contract would not constitute a “forward agreement,” a term used in the definition of swap agreements at section 101(53B) of the Bankruptcy Code. However, the term “forward agreement” is not defined in the Bankruptcy Code and relates to a separate safe harbor for swap agreements. Consequently, the term “forward agreement” is distinguishable from the term “forward contract” at issue in the MBS Mgmt. case.


MBS Management Services, Inc. provided management services for apartment complexes in Texas and Louisiana. In December 2005, MBS entered into a supply agreement with Vantage Power Services, LP that provided that Vantage would “supply the full requirements” to MBS, and that MBS would “receive and take its full electric requirements from Vantage.” The supply contract had a term for twenty-four months at a delivery rate of $0.119 per kilowatt-hour, based on actual metered usage. Notably, the supply agreement did not provide for a specific amount of electricity to be purchased and it did not contain specific delivery dates.

In 2007, Vantage sold its electrical service agreements in Texas to MXEnergy Electric, Inc., including its supply contract with MBS. In late August 2007, MBS paid $156,345 to MXEnergy to cover its past-due electric bills.

MBS filed for chapter 11 on November 5, 2007, in the Eastern District of Louisiana, and following the confirmation of its plan, MBS transferred all of its rights to prosecute actions to avoid preferential and fraudulent conveyances to a litigation trust. Claude Lightfoot, the trustee, initiated an adversary proceeding against MXEnergy, seeking to recover the $156,345 payment as an avoidable preferential transfer under section 547(b) of the Bankruptcy Code. Even though the parties stipulated that all of the elements of a preference avoidance action existed here, MXEnergy argued that avoidance of the payments was impermissible under section 546(e) because the electricity supply agreement constituted a “forward contract.”

Lower Courts’ Decisions

The Bankruptcy Court ruled on May 7, 2010, that the electricity supply agreement qualified as a forward contract under the Bankruptcy Code and therefore the payments made pursuant to that contract fell within section 546(e)’s safe harbor and could not be avoided. Because the Bankruptcy Code does not provide specific criteria to define what constitutes a forward contract, the Bankruptcy Court found no need to distinguish between financial forward contracts and ordinary purchase and sale forward contracts. Furthermore, the Bankruptcy Court held that a contract that does not require a set quantity of the commodity to be delivered may nevertheless qualify as a forward contract. Because section 101(25)(A)’s definition of a “forward contract” did not explicitly require the inclusion of specified quantities, the Bankruptcy Court held that the failure to include such terms would not per se disqualify a contract that lacked such terms from the protections of section 546(e). The District Court subsequently affirmed the Bankruptcy Court’s decision.

The Fifth Circuit’s Decision

The Fifth Circuit ultimately affirmed the lower courts’ determination that MXEnergy and MBS were parties to a forward contract for purposes of the section 546(e) safe harbor. The Court based its decision on several considerations.

The Court found that the agreement was, “in practice…a two years futures contract for the sale of electricity by a broker, MX, at a fixed price.” The terms of the agreement, according to the Court, comported with the Bankruptcy Code’s definition of a forward contract, as it provided for the purchase of a commodity with a maturity date more than two days after the contract is entered into. Because the terms of the contract satisfied the plain language of the Code’s definition of a “forward contract,” then the payments to MXEnergy, a forward contract merchant, constituted “settlement payments” and could not be avoided.

The Court rejected the trustee’s argument that a contract fails to qualify as a forward contract when it does not contain a specific quantity to be purchased or specific delivery dates. On appeal, the trustee asserted that mere evidence of recurring payments for a commodity would be insufficient to fall within the definition of a forward contract. The Court concluded that its task was to apply the statutory policies as Congress wrote and, accordingly, the trustee’s argument failed because he could not point to any section of the Bankruptcy Code’s forward contract definition that required a fixed quantity or fixed delivery date. Furthermore, the Court found the trustee’s argument unconvincing because, if correct, “would exclude many natural gas, fuel and electricity requirements contracts” from section 546(e)’s protections.

In addition, the Fifth Circuit found that the trustee’s reliance on Nat’l Gas was unfounded because that decision was inapplicable and related to a different safe harbor for “swap agreements.” Although the Nat’l Gas decision used the terms “forward agreement” and “forward contract” interchangeably, the Nat’l Gas decision pertained only to the safe harbor for swap agreements under section 546(g) and the use of the term “forward agreement” under 101(53B). Moreover, even though the Nat’l Gas decision referenced section 546(e) cases, the Fifth Circuit concluded that the discussion of those cases in the Nat’l Gas decision was “intentionally open-ended” and “evocative rather than prescriptive.” Id. Indeed, the Fifth Circuit noted that none of the previous cases dealing with section 546(e) explicitly stated that an agreement must contain a fixed quantity term. Rather, those cases involved contracts that contained fixed quantity terms. Id. Consequently, the Fifth Circuit found the trustee’s reliance on the decision in Nat’l Gas to be unpersuasive, as it “had little bearing on the issues before the Court.” Id.

In sum, the Court concluded that the agreement between MBS and MXEnergy clearly fit within the definition of “forward contract” under sections 101(25)(A) and 546(e), and therefore, the trustee could not recover the payments that MBS made to MXEnergy in August 2007.


The MBS Mgmt. decision provides counterparties to contracts for the purchase and supply of commodities greater protections under section 546(e)’s safe harbor provision. The decision clarifies that a contract that lacks terms specifying the quantity purchased and date delivered is not per se excluded from the forward contract definition.

While consistent with the plain language of section 101(25) of the Bankruptcy Code, the MBS Mgmt. decision takes an expansive view of the safe harbor that could have potentially far-reaching implications and could stretch the “forward contract” safe harbor to cover a broad panoply of contractual arrangements. It remains to be seen whether any requirements contract with a maturity date more than two days after the date of the contract for the purchase or sale of a commodity, such as coal, would constitute a safe harbored contract. This issue is likely to play out in the pending Patriot Coal bankruptcy, and similar issues could arise in oil and gas bankruptcy cases. If these contracts are protected by the safe harbor, reorganization of commodity producing companies could prove difficult.

Perhaps recognizing the breadth of its opinion, the Court left open the issue of whether a supply contract between a residential consumer and a local utility company that is locked in at a favorable rate would be shielded by section 546(e). Notably, the Court stated in dicta that even if such contracts fall within the purview of the forward contracts safe harbor, the protections of that safe harbor would not be dissimilar to the special protections afforded to debtors and utility companies under section 366 of the Bankruptcy Code (regarding utility providers).

[View source.]

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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