Relying upon a four-part test developed by the Court of Appeals for the Fourth Circuit, the Bankruptcy Court determined that a renewable power purchase and sale agreement is a "forward contract" that is not subject to the automatic stay pursuant to the safe harbor provision of section 362(b)(6) of the Bankruptcy Code. Consequently, the non-Debtor party to the agreement was permitted after the commencement of the Debtor’s bankruptcy case to terminate the agreement and proceed with its rights and remedies thereunder, including the ability to set off or net out the security posted by the Debtor, without first seeking relief from the automatic stay.


On November 15, 2010, Debtor and Non-Debtor entered into a renewable power purchase and sale agreement (the "PPA") with a 20-year term, pursuant to which Debtor agreed to construct, own, and operate a generating facility and to sell the electric energy produced thereby to Non-Debtor. Pursuant to the PPA, Debtor was required to post certain cash or cash equivalents with Non-Debtor in two installments as security for Debtor’s performance under the PPA. Debtor failed to post the second installment, and Non-Debtor declared an event of default. Before the cure period expired, Debtor filed a voluntary petition for relief under chapter 11 of the Bankruptcy Code. Following commencement of Debtor’s bankruptcy case, Non-Debtor acknowledged an additional event of default based upon Debtor’s bankruptcy filing and took actions to recover the posted security and to terminate the PPA. Debtor asserted that Non-Debtor’s actions violated the automatic stay. Non-Debtor argued that the PPA is a "forward contract" to which the automatic stay does not apply pursuant to section 362(b)(6) of the Bankruptcy Code.


Section 362(b)(6) of the Bankruptcy Code provides that the filing of a petition does not operate as a stay of the exercise by a forward contract merchant of any contractual right under any security agreement or arrangement forming part of or related to any forward contract, or of any contractual right to offset or net out any termination value, payment amount, or other transfer obligation arising under or in connection with a forward contract. To determine whether the PPA is a forward contract within the meaning of section 362(b)(6), the Court relied upon a four-part test developed by the Fourth Circuit. Under this test, the elements of a "forward contract" are: (1) the subject of the contract must be a commodity with substantially all of the expected costs of performance attributable to the expected costs of the underlying commodity; (2) the contract must have a maturity date more than two days after the contracting date; (3) the quantity and time elements must be fixed at the time of contracting; and (4) the contract must have a relationship to the financial markets.

The Court concluded that the PPA is a "forward contract" because it satisfied each element of the four-part test. The Court determined that electricity, as a commodity, was the subject of the PPA, and that substantially all of the expected costs of performance, when considered over the PPA’s 20-year term, were consistent with the expected costs of electricity over the same period. Given its 20-year term, the PPA matured beyond the required two days. The PPA contemplated the generation of a certain minimum quantity of power over a specific period of time in satisfaction of the third element. Finally, the Court decided that the primary purpose of the PPA was to allow Non-Debtor to hedge the price that it must pay for power over the long term and, as such, the PPA had a relationship to the financial markets.

Because the PPA is a "forward contract," Non-Debtor is a "forward contract merchant"—an entity whose business is, in part, to enter into forward contracts—and the security interest is incorporated into, and ancillary to the purpose of, the PPA, the Court held that Non-Debtor could terminate the PPA and proceed with its remedies thereunder, including setting off or netting out the security posted by Debtor, following commencement of Debtor’s bankruptcy case without first seeking relief from the automatic stay.


Even though an agreement is not conventionally considered a "forward contract" or another financial contract protected by the safe harbor provisions of the Bankruptcy Code, it still may fit within the meaning of such terms as defined in the Bankruptcy Code and interpreted by the courts. Accordingly, whenever a counterparty files a bankruptcy petition, particularly in the finance and energy industries, it behooves the non-debtor party to analyze whether any of the Bankruptcy Code safe harbors apply.

The case may be found here.