Fourth Circuit Holds Gas Purchase Contracts
Are Protected Transactions Under The
Bankruptcy Code
On February 11, 2009, the United States Court of Appeals for the Fourth Circuit issued an opinion construing the recently amended definition of "swap agreement" under Bankruptcy Code section 101(53B)(A), and effectively expanded the availability of safe-harbor provisions under the Bankruptcy Code for certain qualified financial, commodity and derivative contracts. In re Nat'l Gas Distrib., LLC, 2009 WL 325426 (4th Cir. Feb. 11, 2009). This action puts the Fourth Circuit generally in line with other circuit courts that have addressed the issue.
In 2006, National Gas Distributors, LLC filed for chapter 11 relief in the Eastern District of North Carolina. The trustee initiated an adversary proceeding against counter-parties to long-term gas purchase agreements. Those agreements contained customary netting and close-out terms. The trustee's suit relied on a fraudulent transfer theory, claiming that the contracts were at below-market rates and thus constructively fraudulent. The defendants moved to dismiss, asserting that the relevant agreements qualified as "swap agreements" under the Bankruptcy Code, and thus could not be avoided by the trustee by virtue of the safe-harbor at section 546(g). The Bankruptcy Court ruled that the contracts were not "forward agreements," and thus could not qualify for exceptional treatment as "swap agreements," because they (i) were not traded in a financial market or exchange and (ii) involved physical delivery to an end user. See In re Nat'l Gas Distrib., LLC, 369 B.R. 884 (Bankr. E.D.N.C. 2007).
Reversing the judgment of the Bankruptcy Court, the Court of Appeals held that "commodity forward agreements," which qualify as swap agreements under Bankruptcy Code section 101(53B)(A)(i)(VII), need not be traded in a market or on an exchange, and may involve physical delivery of a commodity. In reaching this result, the Court reasoned that every "forward contract" is a "forward agreement," and thus looked to the Bankruptcy Code’s definition of "forward contract" at section 101(25) in defining "forward agreements." In doing so, the Court approvingly relied on a line of cases that endorse a more expansive definition of "forward contracts" under section 101(25)(A). See In re Olympic Natural Gas Co., 294 F.3d 737, 741 (5th Cir. 2002); In re Borden Chems. & Plastics Operating LP, 336 B.R. 214, 218 (Bankr. D. Del. 2006). The Court emphasized that the contracts at issue contained "real hedging elements," and therefore deserved treatment beyond that afforded regular supply agreements.
The International Swaps and Derivatives Association ("ISDA"), which filed an amicus brief with the Court of Appeals, issued a press release enthusiastically approving the Court’s opinion.
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