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Smackdown! Round Three - The Bankruptcy Court vs. FERC

The jurisdictional battle over authorizing rejection of wholesale power contracts continues.

Fortnightly Magazine - April 2006

Potomac Electric Power Co. (PEPCO) in relation to several so-called back-to-back power-supply contracts Mirant asserted were out of the money. Seeking to avoid the prospect of a parallel FERC proceeding and potentially conflicting FERC order as had occurred in NRG, Mirant obtained from the Texas bankruptcy court an injunctive order prohibiting any such parallel proceeding. Mirant then sought contract rejection in the bankruptcy court. PEPCO and FERC immediately responded by seeking and obtaining a withdrawal of reference of the contract rejection case from the bankruptcy court to the United States District Court for the Northern District of Texas, which ruled that FERC had exclusive jurisdiction over the matter. That decision was appealed to the United States Court of Appeals for the 5th Circuit, which issued a decision later in 2004 reversing the District Court, in part, and remanding the case for further proceedings. 3

In reversing the District Court, the 5th Circuit held that the bankruptcy court, rather than FERC, has jurisdiction to determine whether a debtor party to a power contract should be permitted to reject that contract. However, the 5th Circuit also held that a stricter standard than the business judgment standard should govern such a rejection by the bankruptcy court:

Clearly the business judgment standard normally applicable to rejection motions is more deferential than the public interest standard applicable in FERC proceedings to alter the terms of a contract within its jurisdiction. Use of the business judgment standard would be inappropriate in this case because it would not account for the public interest inherent in the transmission and sale of electricity.

Therefore, upon remand, the District Court should consider applying a more rigorous standard to the rejection of the back-to-back agreement. If the district court decides that a more rigorous standard is required, then it might adopt a standard by which it would authorize rejection of an executory power contract only if the debtor can show that it “burdens the estate, that, after careful scrutiny, the equities balance in favor of rejecting” that power contract, and that rejection of the contract would further the Chapter 11 goal of permitting the successful rehabilitation of debtors.

Following remand, the District Court refused to authorize rejection of the back-to-back power contracts. However, that decision was based primarily on certain factors unique to the Mirant-PEPCO case that limit its precedential value in other power- contract rejection matters. 4

Calpine Case

Having observed the formidable battles in rounds one and two, the Calpine combatants exchanged a dizzying flurry of blows to start round three. As was the case with NRG and Mirant before it, Calpine was party to a number of substantial wholesale power contracts with load-serving entity (LSE) counterparties. Sensing that Calpine’s bankruptcy was imminent, the California Electricity Oversight Board, the California attorney general, and the California Department of Water Resources (the California parties) filed an emergency petition with FERC on Dec. 19, 2005, seeking a pre-emptive order prohibiting Calpine from rejecting various power contracts. Two days later, and before FERC had acted on the emergency petition, Calpine commenced Chapter 11 proceedings in