Following an August 4, 2022 memorandum opinion from Judge Brendan L. Shannon of the United States Bankruptcy Court for the District of Delaware, a party to a safe harbored contract can qualify as a “financial participant” under section 546(e) of the Bankruptcy Code even where the party was not a financial participant at the time of the transaction. The decision is significant because an expansive reading of financial participant could help financial participants shield certain prepetition transfers from avoidance actions that may otherwise be avoidable under the Bankruptcy Code.1
As background, in 2011 the controlling shareholders of Samson Investment Company (“SIC”) executed a leveraged buyout via three transactions:
- SIC transferred $2.75 billion in cash to the selling shareholders in partial redemption of their shares in SIC (the “Redemption Transaction”);
- Debtor Samson Resources Corporation (“SRC”) transferred $3.5 billion in cash to the selling shareholders in consideration of their simultaneous transfer of their remaining shares in SIC; and
- SIC divested significant assets through a series of transactions whereby three of SIC’s subsidiaries acquired certain of the divested assets; non-debtor Samson Energy then acquired ownership of those three entities and other divested assets in exchange for the selling shareholders’ discharge of certain subordinated notes payable to them by SIC.
Amid a cyclical downturn in the oil and gas market, SRC and certain affiliates (together, the “Debtors”) filed for chapter 11 bankruptcy protection on September 17, 2015 with the goal of reducing their first-lien debt, canceling their outstanding second-lien debt, unsecured debt, preferred equity and equity interests. Pursuant to the Debtors’ plan of reorganization, which was confirmed on February 13, 2017, the Debtors formed a liquidating trust to pursue recoveries for over $2.4 billion of general unsecured claims against the Debtors.
On September 15, 2017, the trustee for the liquidating trust (the “Trustee”) filed an adversary complaint against the selling shareholders and the Samson entities involved in the leveraged buyout transactions (together, the “Defendants”), seeking to avoid the transactions as fraudulent transfers under the Bankruptcy Code.2 In response, the Defendants argued, among other things, that the avoidance actions pertaining to the Redemption Transaction were barred by the safe harbor provided in section 546(e) of the Bankruptcy Code, which provides:3
Notwithstanding sections 544, 545, 547, 548(a)(1)(B), and 548(b) of this title, the trustee may not avoid a transfer that is a margin payment, as defined in section 101, 741, or 761 of this title, or settlement payment, as defined in section 101 or 741 of this title, made by or to (or for the benefit of) a commodity broker, forward contract merchant, stockbroker, financial institution, financial participant, or securities clearing agency, or that is a transfer made by or to (or for the benefit of) a commodity broker, forward contract merchant, stockbroker, financial institution, financial participant, or securities clearing agency, in connection with a securities contract, as defined in section 741(7), commodity contract, as defined in section 761(4), or forward contract, that is made before the commencement of the case, except under section 548(a)(1)(A) of this title.
The Court heard oral argument on May 19, 2022 and entered the memorandum opinion on August 4, 2022.
The Trustee made two primary arguments. First, the Trustee argued that a plain reading of section 546(e) leads to the conclusion that a transfer cannot be a “transfer made by a financial participant” unless the transferor is a financial participant at the time of the transfer. Second, the Trustee bolstered this argument by referencing other decisions interpreting other sections of the Bankruptcy Code, such as section 548(a)(1)(B)(ii)(IV), which has been interpreted to require that an entity must be an “insider” at the time of the subject transfer to be avoided as fraudulent.4
In contrast, the Defendants argued that the language of section 546(e) of the Bankruptcy Code requires consideration of the definition of “financial participant” in section 101(22A) of the Bankruptcy Code, which provides that an entity’s satisfaction of the criteria to be a financial participant can be measured on any of three dates: (a) the time the entity enters into a securities contract, (b) the petition date, or (c) any day during the 15-month period preceding the petition date.5 As such, the Defendants argued that, even though the transfer in question was made almost four years before the petition date, (a) SIC held sufficient transactions to qualify as a financial participant both on the petition date, as well as a date within 15 months preceding the petition date, both of which were relevant to the dates in the Bankruptcy Code’s definition of “financial participant” and (b) the transfers in the Redemption Transaction were made “in connection with a securities contract,” therefore section 546(e) shielded those transfers from avoidance. The Defendants further argued that the Trustee’s argument was inapposite because the relevant definitions in the sections of the Bankruptcy Code cited by the Trustee were silent as to when the time of a transaction should be measured.
Finding the Defendants’ reading more persuasive, the Court noted that the Defendants’ expert declarations (using methodologies from both the Defendants’ and the Trustee’s experts) showed that SIC had gross mark-to-market positions in commodity swaps and commodity options with a value in excess of $100 million on the petition date and as of August 31, 2015 (within the 15 months prior), thus rendering SIC a financial participant within the meaning of section 101(22A) and in satisfaction of section 546(e) of the Bankruptcy Code. Accordingly, the Court granted the Defendants’ motion for summary judgment with respect to the Redemption Transaction.
Following the Court’s opinion, parties evaluating the avoidability of sizable prepetition transfers have another potential defense in their toolbox (in addition to traditional arguments surrounding the transferor’s solvency or the receipt of reasonably equivalent value). A party cannot avail itself of the protections in section 546(e) of the Bankruptcy Code if it never satisfies the definition of “financial participant.” However, parties do not have to qualify as financial participants at the time of the transfer. Parties that fall in and out of the relevant thresholds for qualification as a financial participant can take some comfort that failing to qualify at the time of transfer may not leave the transfer subject to avoidance if the parties can attain financial participant status either on the petition date or the 15 months prior.