EFH Court Rules That Minority Bondholders Cannot Step Into Shoes of Indenture Trustee

November 30, 2015

In In re Energy Future Holdings Corp., et al., Case No. 14-10979 (CSS), pending before the United States Bankruptcy Court for the District of Delaware, the bankruptcy court recently held that minority bondholders could not pursue their indenture trustee’s plan objection in the event the indenture trustee withdrew its objection at the direction of a majority of bondholders. The ruling came in the context of the debtors’ proposed settlement with certain bondholders concerning disputes over the bondholders’ entitlement to postpetition interest at the contract rate and to certain make-whole payments and premiums under the indenture. The indenture trustee, acting at the direction of a majority of bondholders, filed numerous pleadings, including an objection to confirmation, raising issues related to, among other things, the so-called “unimpaired” treatment of the bondholders in the debtors’ Chapter 11 plan. However, four days after the deadline to object to the plan expired, the debtors announced a settlement with certain of the bondholders, conditioned on the settling bondholders directing the indenture trustee to withdraw its plan objection.

Both the indenture trustee and the minority non-settling bondholders filed responses to the approval of the settlement, contending that the minority non-settling bondholders’ rights would be prejudiced if the indenture trustee were to withdraw its plan objection because the minority non-settling bondholders had relied on the indenture trustee’s objection and had not timely filed their own objection. The minority bondholders and the indenture trustee asked the court to allow the minority to substitute in for the indenture trustee and prosecute the indenture trustee’s objection. On the other hand, the debtors and the settling majority bondholders argued that allowing the minority to take over the indenture trustee’s objection would be at odds with the bankruptcy court’s scheduling order, which set the parameters for participating in, and fixed deadlines with respect to, the plan confirmation proceedings.

Although the bankruptcy court found the issue to be a “difficult quandary,” it ultimately agreed with the debtors and the settling bondholders in a bench ruling that allowing the minority non-settling bondholders to substitute in for the indenture trustee would disadvantage the other parties involved in the confirmation process, who relied on the court’s scheduling order to determine the identity of their opponents for purposes of litigating and settling their claims. The bankruptcy court found that the disadvantage to these parties-in-interest “far outweighs whatever disadvantage is falling on the minority non-settling holders who had every ability to protect themselves from this situation had they taken action earlier and decided to participate more fulsomely in the process.” Indeed, the bankruptcy court noted that the minority non-settling bondholders were “sophisticated parties” and “always knew or should have known that it was possible the trustee would have to take direction from other bondholders who would be contrary to the position they preferred” and that in relying on the indenture trustee to pursue the objection, the minority non-settling bondholders made a decision that “has advantages” but also “has risks.” Moreover, the bankruptcy court had little sympathy for the minority non-settling bondholders who it believed had notice that a settlement was in the works that might result in a majority of the holders settling prior to the expiration of the confirmation objection deadline.

The events surrounding the bankruptcy court’s ruling highlight the tension an indenture trustee faces when receiving a direction to discontinue an action from a majority of settling bondholders. As a consequence of the bankruptcy court’s ruling, minority bondholders may need to explore the viability of filing their own objections or joinders to any pleadings filed by an indenture trustee in order to preserve their right to continue to prosecute any claim or objection should the indenture trustee discontinue its own action.