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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

rejections could well depend on which jurisdiction a power marketer chooses for a bankruptcy filing—a matter subject to some discretion and not necessarily bearing any relation to the jurisdiction where customers who may be affected by a contract rejection are located. For example, the Mirant case was filed in the Northern District of Texas with PEPCO and its customers based in the District of Columbia area. The Calpine case is pending in New York, and the customers primarily affected are located in California. The only potential for bringing earlier clarity and uniformity to the matter is through either a United States Supreme Court decision or federal legislation that addresses the relevant issues.

Up to now, LSE counterparties and their customers have dodged the bullet in three rounds of intense bankruptcy-related power-contract litigation. Because a bankrupt power marketer cannot reject a power contract without first obtaining court approval to do so, the litigation delays inherent in processing appeals have worked to the advantage of the LSEs and their customers as a result of favorable early round court decisions prohibiting contract rejection. Had the District Court decided differently at the initial stage of any one of the cases in rounds 1, 2, and 3, contract rejection would have occurred immediately and the affected LSE and its customers would have had to address the consequences while time-consuming appeals were processed. Obviously, if a marketer obtains authority to reject a power contract in any future bankruptcy case, the rejection likewise would become effective while an appeal played out.

It also is significant to recognize that power-contract rejection is not a risk limited solely to large merchant power company bankruptcies such as NRG, Mirant, and Calpine. Such risks are equally present in any power-supply contract entered into by an electric utility with an unregulated wholesale supplier. To the extent that more and more electric utility LSEs enter into medium- and long-term wholesale power contracts (whether through state regulatory supervised auctions or otherwise) as a means to stabilize supply costs, the bankruptcy of a wholesale supply counterparty that resulted in contract rejection would be disruptive to that price stability.

Given the potential impact on ratepayers from power-contract rejection and the prospect of sustained periods of uncertainty in case-by-case litigation, serious attention should be given to enacting federal legislation to address both the relevant jurisdictional issue and the rejection standards pertinent to power contracts in the event of a marketer bankruptcy. At the same time, all affected LSEs, state public utility commissions, and ratepayer advocates carefully should oversee the terms of competitive wholesale power supply arrangements to ensure maximum protection from potential bankruptcy risks. As FERC has noted, 5 it is not automatically the case that LSEs will be able to pass along bankruptcy rejection damages to ratepayers. Thus, scrupulous business judgment and prudence in structuring all aspects of power-supply agreements is particularly critical for the LSE.

While nothing can guarantee the elimination of litigation risk over power contracts in bankruptcy, concerted action and diligence of the type described above would do much to bring greater predictability to power-contract