It seems only fitting that recent decisions by the United States District Court for the Southern District of New York and its bankruptcy court regarding the nature of electricity should have sent, at least initially, a jolt through the energy community. Perhaps the Southern District court would lead the charge for one side or the other in an ongoing debate over whether electricity constitutes goods or services—a controversy that has potentially far-reaching implications (in bankruptcy cases, concerning the priority of claims of electricity providers, and, in ordinary transactions, for the tort liability of electricity providers). In the end, however, the outcome of the litigation was something less than electrifying. Here’s what happened.
After The Great Atlantic and Pacific Tea Company, Inc., better known as A&P, filed its first chapter 11 petition at the end of 2010,[i] Hudson Energy Services sought to take advantage of section 503(b)(9) of the Bankruptcy Code, which confers administrative priority over general unsecured claims on claims for “the value of any goods received by the debtor within 20 days before the date of the commencement of a case under this title in which the goods have been sold to the debtor in the ordinary course of such debtor’s business.” Asserting rights under section 503(b)(9), Hudson filed an administrative claim seeking payment of over $875,000 for electricity provided to A&P during the twenty days prior to its bankruptcy filing. The bankruptcy court denied Hudson’s claim for priority on the grounds that electricity did not “clearly fall” within the meaning of “goods” for purposes of section 503(b)(9) and that, since administrative expense claims “must be tightly construed,” [ii] it was not appropriate to grant administrative priority to a claim that did not “clearly fit within the statute’s provisions.”[iii] Hudson appealed to the district court.
The district court began its analysis by noting that, although section 503(b)(9) did not define “goods,” there was “consensus” that the definition of “goods” under the UCC should apply. This, however, did not resolve the question in the case of electricity because, although “the majority of courts hold that electricity is a good under UCC Section 2-105(1), a strong minority—led by decisions of the New York Court of Appeals, the Second Circuit, and this Court—disagrees.”[iv] The Second Circuit, for example, had stated flatly that the “UCC does not apply to sale of electricity which is a service under New York law.”[v] One might have thought that a Second Circuit ruling would have ended the inquiry for the purposes of a New York bankruptcy case, but the A&P bankruptcy court took the view that, for purposes of section 503(b)(9), whether electricity was a good or a service was a question of “federal law” requiring a “uniform-throughout-the country analysis,”[vi] even though it based its analysis on UCC’s definition of “goods,” to wit: “Goods” means “all things (including specially manufactured goods) which are movable at the time of identification to the contract for sale other than the money in which the price is to be paid, investment securities (Article 8) and things in action.”[vii]
On appeal, the district court accepted the bankruptcy court’s formulation as the basis for the definition of goods under section 503(b)(9), but then sought to determine from the record of the bankruptcy proceedings below whether electricity qualified as “goods,” or, specifically, whether electricity was still “movable” at the time it was “identified to the contract” for its sale. A&P argued that, on the issues of “movability” and “identification,” an evidentiary hearing was unnecessary, that “electricity is a constant or legislative fact” that does “not vary from case to case.”[viii] The district court disagreed: “while the physics of electricity may be constant, the instant case demonstrates that the economic or business arrangements for its delivery are not.”[ix] Accordingly, the district court reversed the bankruptcy court’s order and remanded so that the bankruptcy court could develop the factual record on the issues of movability and identification to the contract.
On remand, the bankruptcy considered conflicting expert testimony submitted by A&P and by Hudson regarding the metering of electricity usage. The bankruptcy court decided that, if the electricity was “identified” to the contract for its provision, that identification occurred when the use of the electricity was registered on a meter. On appeal, the district court agreed with this conclusion.[x] The question then became whether the electricity was still “moving” when the usage was registered by the meter or had ceased to be “moveable” at that point. Hudson argued that the electricity was still moving after it registered on the meter. Its expert testified that “it would take approximately 226 nanoseconds for electricity to travel from the meter to the end device where it is consumed” so that, in effect, for that period, about 226 nanoseconds, the electricity would have been both moveable and identified to the contract. The bankruptcy and district courts, however, accepted the contrary testimony of A&P’s expert, who concluded that, because of the time it took for a meter to process and display information, “by the time the meter can actually identify the electricity that passes through it, the electricity has already reached its end-point and been consumed.”[xi] In the view of the bankruptcy court (which the district court found to be not clearly erroneous), Hudson, in effect, lost this race to the endpoint by a matter of nanoseconds.
Recognizing the closeness of this factual contest, neither the bankruptcy court nor the district court actually held flat out that electricity was not a “good.” Rather they agreed that “it is ‘far from clear’ that electricity falls within the meaning of goods under Section 503(b)(9).”[xii] They both acknowledged that there is a split of authority on the issue[xiii] but then used this split to bolster their conclusion that electricity should not be treated as a good—as a matter of bankruptcy policy. “Thus, where it is ‘far from clear’ that a claim falls within the Bankruptcy Code’s priority provisions, courts should ‘reject [an] expanded interpretation..[u]nless and until Congress otherwise directs.”[xiv] In the end, therefore, the A&P decisions are more about the nature of bankruptcy priorities than they are about the nature of goods under the UCC.
This will no doubt come as a disappointment to those who were hoping for clear guidance from the district court on the electricity goods-or-services issue. Still, there is probably something in the district court’s opinion for everyone. For those who were hoping for a ruling that provision of electricity constitutes services, the A&P decisions provide considerable support, although the decisions stop short of an outright declaration to that effect. For those who were hoping for a ruling that electricity constitutes goods, to the extent the decisions turn on scientific evidence (which might later be challenged in a different forum) and on bankruptcy policy (no ill-advised expansion of bankruptcy priorities), the decisions leave open the door for further debate in other forums and in other contexts. But for everyone it is a reminder that bankruptcy courts don’t only decide issues about the dischargeability of fraudulent debts and the reaffirmation of contracts to purchase used trucks—and of how surprisingly often important decisions of general business law are made in the context of a bankruptcy case.