[co-author: Chelsea Baltes]
In In re FirstEnergy Solutions Corp., 2019 WL 6767004 (6th Cir. Ct. App.), the United States Court of Appeals affirmed in part, reversed in part, and remanded to the bankruptcy court for further consideration, the determination that the bankruptcy court held exclusive and unlimited jurisdiction and therefore could enjoin FERC from taking action regarding energy contracts because under the BJR they were financially burdensome on FES and as such could be rejected.
Facts
FirstEnergy Solutions Corp. (“FES”) distributes electricity, buying it from its subsidiaries and selling it to retail clients, corporate affiliates, and the PJM spot market. FES has 1.3 million customers in six states and a total capacity of 10,000 megawatts (MW). Since 2003 regulations have required FES to buy a certain amount of “renewable energy credit” (“RECs”). In 2003, three things were substantially different than they are now: (1) FES’s retail electricity sales were much greater, so its REC requirements were correspondingly greater; (2) the supply of RECs was more limited, so FES was compelled to enter long-term contracts to get enough RECs at an agreeable price; and (3) electricity prices were much higher and expected to remain high.
Recently, the government has relaxed REC requirements, there is an abundance of RECs available for purchase, and energy prices are much lower. These three shifts in the market caused the Power Purchase Agreements (“PPAs”) to be financially burdensome to FES, who was simultaneously selling its entire retail business. FES estimated it was losing $46 million per year on the PPAs. On top of this, because they were selling the business, they had no need or use for the contracts anymore. Even if they weren’t leaving the business, FES had enough surplus RECs in inventory to cover its retail business for years. On top of the PPAs FES entered into, they also entered a multi-party intercompany power purchase agreement (“ICPA”). As with the PPAs, the energy from this contract was no longer needed and the prices were very high. FES also explained that none of their customers or consumers would lose electricity without the ICPA or PPAs.
In March 2018, FES and a subsidiary filed a Chapter 11 bankruptcy proceeding to enjoin the Federal Energy Regulatory Commission (“FERC”) from interfering with its plan to reject certain electricity-purchase contracts that FERC had previously approved under the authority of the Federal Power Act (“FPA”). FERC along with other parties intervened to oppose the action, including three counterparties.
The bankruptcy court determined that it had exclusive and unlimited jurisdiction and FERC had no jurisdiction. Therefore, the court enjoined FERC from taking any action relating to the contracts and proceeded to apply the business judgment rule (“BJR”) in which they found that the contracts were financially burdensome to FES. As a result, the court permitted FES to reject the contracts rendering them breached and the counterparties unsecured creditors to the bankruptcy estate. All the opponents appealed directly to the Sixth Circuit.
The questions presented to the Sixth Circuit concern the status of such federal-agency-endorsed contracts in the bankruptcy proceedings, the nature and extent of jurisdiction as between the bankruptcy court and the federal agency, and the proper standard for deciding a Chapter 11 debtor’s request to reject such contracts.
Decision
The United States Court of Appeals began by emphasizing the importance of pointing out that this case is not a liquidation but rather a debtor-in-possession restructuring. If it were a liquidation, neither FERC nor anyone else could compel the defunct debtor to keep performing the contracts or prevent the debtor from breaching the contracts by non-performance. As a Chapter 11 restructuring, however, FES-acting as the bankruptcy trustee-can “assume” or “reject” any executory contract. So, proceeding arguendo as if these were ordinary executory contracts, these are the questions presented to the court on appeal: (1) Whether and on what basis FES can reject these contracts, or whether FERC can compel FES to assume them in Chapter 11 despite their inhibiting the viability of bankruptcy organization; (2) There may be more obligations under these contracts that may have been disregarded by the bankruptcy court when deciding that FERC’s interest was an overwhelmingly private benefit to the contract counterparties, and not a public interest, and; (3) The contracts are for a very small quantity of electricity in relation to FES’s total electricity capacity or the overall PJM electricity market and in turn the fulfillment of these contracts might be correspondingly small. The court notes that a main concern they have is that under the standard set forth in the bankruptcy court, a distributor could circumvent the FPA and its purpose by filing Chapter 11 and rejecting the contract because it is uneconomical.
The Appellants argued that these are not ordinary contracts. Rather, by filing them with FERC, they are no longer contracts but instead have effectively become federal regulations. As such, FES cannot reject them in bankruptcy because rejection can only apply to contracts. Instead, if FES wants to change its obligations under these de jure regulations, FES would have to persuade FERC to revise them pursuant to the FPA and controlling legal doctrines. Even the Supreme Court, in some circumstances, has treated such filed contracts as other than ordinary contracts. From this treatment, courts have opined that once a contract is filed with FERC, it is to be treated as though it were a statute, binding on the buyer and seller alike.
Despite this general understanding by various other courts, the more specific question at play here is whether these contracts have the force of regulation vis-à-vis the bankruptcy court, to keep the bankruptcy court from messing with them. The bankruptcy court wants to treat them as ordinary contracts so the debtor can reject them. This is contrary to the holdings in Sierra and Pennsylvania Water where FERC can compel performance of money-losing contracts and illegal contracts. Yet, in Boston Edison and Permian Basin, they consider public necessity and it is argued that a bankruptcy could satisfy a public necessity. Therefore, the Sixth Circuit court held that the public necessity of available and functional bankruptcy relief is generally superior to the necessity of FERC’s having complete and exclusive authority to regulate energy contracts. In other words, the contracts are not de jure regulations but rather ordinary contracts susceptible to rejection in bankruptcy. FES can reject the contracts subject to proper bankruptcy court approval and FERC cannot independently prevent it.
The next argument the court addresses is that by the bankruptcy court who claimed that as one of its sources of authority, Chapter 11’s automatic stay provision, 11 U.S.C. § 362(a), barred any FERC proceedings related to the contracts as filed contracts and further, that the regulatory powers exception did not apply. Sixth Circuit precedent uses two tests to determine whether an action qualifies as a proceeding pursuant to a governmental unit’s regulatory power and therefore falls outside the automatic stay. The court decided the applicable test here was the public-policy test. Under this test, the reviewing courts must distinguish between proceedings that adjudicate private rights and those that effectuate public policy. In applying the test, courts should examine the type of enforcement action brought and the relationship between a particular suit and Congress’s declared public policy. If the private interests do not significantly outweigh the public benefit from enforcement, courts should defer to the enforcement authority. If the action incidentally serves the public interests but more substantially adjudicates private rights, courts should regard the suit as outside the enforcement authority exception.
The bankruptcy court concluded that a FERC action would fail the public policy test because it would “be only incidentally related to the core public policy of the Federal Power Act and would be more substantially about litigating who gets what from the insolvent enterprise.” The Sixth Circuit then agreed in part by stating that “the tiny amount of energy involved in the contracts (relative to the market), FES’s small stake in the ICPA, and the lack of damages to the PPA counterparties versus the anticipated disproportionate harm to the other creditors, meant a FERC action would only incidentally serve public interests but more substantially adjudicate private rights and therefore fail the public interest test necessary to avoid the stay.” However, the Sixth Circuit qualifies this agreement by noting that the bankruptcy court was wrong in that they did not limit the injunction to those facts but rather determined that any such contracts will always be substantially private and only incidentally public and thereby enjoined FERC from do anything at all. The case the bankruptcy court relied on was Chao v. Hosp. Staffing Servs., but the Sixth Circuit denounced their interpretation of the case calling it “misleading and neither accurate nor reasonable.” Chao v. Hosp. Staffing Servs., Inc., 270 F.3d 374 (6th Cir. 2001). Under Chao, the Sixth Circuit stated, “once the bankruptcy court determined that the anticipated FERC action of ordering contract performance would fail the public policy test and, therefore, not qualify as a regulatory-powers exception to the automatic stay, then it could enjoin FERC from issuing such an order. But the bankruptcy court was not entitled to enjoin FERC from risking its own jurisdictional decision, conducting business, or issuing orders that would not conflict with the bankruptcy court’s rulings.”
As the other source of its authority for the injunction, the bankruptcy court argued that 11 U.S.C. § 105(a) gave it “the power to enjoin FERC to avoid the cost and delay of unnecessary proceedings that would ultimately be held void.” In making this argument, the bankruptcy court relied on the case In re Mirant Corporation, which stated that “a bankruptcy court can clearly grant injunctive relief to prohibit FERC from negating a debtor’s rejection of a filed contract by requiring continued performance at the pre-rejection filed rate.” In re Mirant Corporation, 378 F.3d 511, 523 (5th Cir. 2004). The Sixth Circuit on appeal disagreed with the bankruptcy court’s full interpretation of Mirant. Instead, the Sixth Circuit stated that “Mirant teaches that once the bankruptcy court determined that the anticipated FERC action would directly interfere with FES’s request to reject the contracts, 11 U.S.C. § 105(a) gave it the power to enjoin FERC from issuing any such contradictory order but it did not give the bankruptcy court unlimited power to prohibit FERC from taking any action whatsoever or to enjoin all FERC regulatory functions.”
The Appellants then made an argument that when presented with two apparently conflicting federal statutes, such as the Bankruptcy Code and FPA, courts must attempt to harmonize them. Further, Appellants argued this could be easily done here by giving both the bankruptcy court and FERC veto power over the requested contract rejection, based on the BJR and public policy considerations, respectively. The Sixth Circuit rejected this argument by noting that this solution ignores the respective purposes of the statutes as well as certain practical realities. Giving veto power to both the bankruptcy court and FERC is not the only way-or necessarily the most reasonable way-to harmonize the two statutes.
In opposition, FES contended that the way to harmonize the two statutes would be to pretend that the bankruptcy court’s exclusive jurisdiction over the rejection of contracts in bankruptcy does not impinge in any way on FERC’s jurisdiction, which applies only to modification or abrogation of contracts not to rejection. The Sixth Circuit also rejects this approach stating that giving one side complete and exclusive authority over the other does not meet any definition of “harmonize.” The court concluded that the way to harmonize these two statutes is by holding that the bankruptcy court may enjoin FERC from issuing an order that would directly conflict with the bankruptcy court’s orders or interfere with its otherwise-authorized authority, but they bankruptcy court may not enjoin FERC from risking its own jurisdictional decision, conducting its business, or issuing orders that do not interfere with the bankruptcy court. Therefore, the bankruptcy court had the limited authority to enjoin FERC from issuing any order that would require or coerce FES to continue performing the contracts or limit FES to seeking abrogation under the FPA, but the bankruptcy court exceeded its authority by enjoining FERC from initiating or continuing any proceeding or interfering with its exclusive jurisdiction.
Appellants final argument was that the bankruptcy court’s application of only the BJR with no consideration of any public interest principles potentially implicated by the FPA and/or any alleged harm that rejection could cause FES’s contract counterparties or consumers was in error. The Sixth Circuit concluded that an adjusted standard best accommodates the concurrent jurisdiction between, and separate interests of, the Bankruptcy Code and the FPA. On remand, the bankruptcy court was ordered to reconsider its decision under this higher established standard, considering and deciding the impact of the rejection of these contracts on the public interest. In doing so, the bankruptcy court must provide FERC with a reasonable accommodation or suffer a reasonable delay in providing them with the opportunity to give an opinion on the public interest.
Concurrence/Dissent
Following the majority’s opinion in the Sixth Circuit, Judge Griffin concurred in part and dissented in part. Judge Griffin agreed with the majority that the bankruptcy court erred by using the BJR in evaluating the motions to reject the PPA at issue here. Further, Judge Griffin agreed that the bankruptcy court’s injunction was overbroad. However, the Judge believes the bankruptcy court exceeded its jurisdiction and infringed on FERC’s exclusive jurisdiction to decide whether to modify or abrogate a filed rate. Judge Griffin makes this dissent on the grounds that the Supreme Court has made clear that FERC enforces a power company’s obligations under a filed rate pursuant to statutory authority not private contract law. Thus, a filed rate is an independent legal obligation separate from a contract for the sale of power.
