Must creditors holding claims denominated in a foreign currency against a debtor in a US bankruptcy case bear the risk of a postpetition decline in the value of the dollar? In In re Global Power Equipment Group Inc.,1 the Bankruptcy Court for the District of Delaware says yes, holding that, pursuant to section 502(b) of the Bankruptcy Code, a contested claim denominated in foreign currency must be converted into United States currency as of the petition date instead of a later judgment or breach date.

The Conversion Date Dispute

Global Power Equipment Group Inc. and its affiliated debtors, including Deltak, L.L.C., provide power generation equipment and maintenance services for customers in the domestic and international energy and power infrastructure industries. Prior to filing for chapter 11 protection, Deltak entered into a contract with Maasvlakte Energie B.V. (MEB) to construct and deliver heat recovery steam generators (HRSG's) and provide related technical services.

Upon filing for chapter 11 protection, the debtors sought and obtained Bankruptcy Court authority to wind down the operations of Deltak's HRSG business segment and reject all related executory contracts, including MEB's HRSG contract. Additionally, the Bankruptcy Court authorized the debtors to reach accommodation agreements with their customers for the completion of work outstanding on rejected HRSG contracts in exchange for each such customer's agreement, among other things, to waive rejection damage claims to the extent the debtors completed such customer's HRSG project.

Deltak entered into one such accommodation agreement (the Completion Agreement) with MEB, which provided for (i) the cost-neutral completion of MEB's HRSG project and (ii) defined step-downs of any claim asserted by MEB against the debtors arising from Deltak's rejection of its HRSG contract, with each such step-down denominated in Euros and tied to the debtors' achievement of agreed-upon milestones in the completion of the HRSG project.

MEB filed a claim against Deltak for damages arising from the rejection of its HRSG contract, in an amount stated as €20,000,000, plus additional contingent and unliquidated amounts. MEB also filed a claim against Global Power based upon an alleged guaranty of Deltak's obligations under MEB's HRSG contract. The debtors objected to MEB's claims to the extent they exceeded the applicable capped amounts set forth in the Completion Agreement.

The debtors' proposed chapter 11 plan provided, "[w]here a [c]laim has been denominated in foreign currency on a proof of [c]laim, the [a]llowed amount of such [c]laim shall be calculated in legal tender of the United States based upon the conversion rate in place as of the Petition Date."

In response to MEB's objection to this provision of the plan, the debtors asserted that such provision was consistent with section 502(b) of the Bankruptcy Code, which provides that, with respect to a contested claim, "the court, after notice and a hearing, shall determine the amount of such claim in lawful currency of the United States as of the date of the filing of the petition, and shall allow such claim in such amount..."

The debtors argued that MEB's entitlement to payment under the plan stemmed from MEB's claims, which were based on the debtors' rejection of MEB's HRSG contract and arose by operation of law as of the petition date. Additionally, the debtors argued that the step-downs set forth in the Completion Agreement capped both the amount of MEB's claims and, correspondingly, the ultimate distribution that MEB could receive on those claims. The debtors concluded, therefore, that section 502(b) of the Bankruptcy Code applied and required, consistent with the plan, the valuing of the capped MEB claims in United States currency using the exchange rate as of the petition date.

MEB argued that relevant case law permitted the Bankruptcy Court to convert MEB's claims to United States dollars using the exchange rate as of the contract breach date or the "judgment day."

MEB alternatively argued that the Completion Agreement capped only its actual recovery (i.e., a distribution expressly denominated in Euros), and not the claims themselves. MEB then reasoned that, because section 502(b) only requires the Bankruptcy Court to value claims, but not distributions, in United States currency, the distribution amounts called for under the Completion Agreement did not fall within the ambit of section 502(b). Thus, MEB contended that the Completion Agreement embodied a separately-negotiated "distribution mechanism" and entitled it to receive a distribution either in Euros or in United States dollars using the exchange rate as of the day of distribution rather than the petition date.

Analysis and Holding of the Bankruptcy Court

The Bankruptcy Court began its analysis with the "seemingly clear application of section 502(b)," which "prevents the value of a claim from fluctuating by freezing the claim as of the petition date and converting it to United States dollars."2 After considering the primary cases relied upon in support of MEB's argument that conversion of its claim should occur either on the breach date or judgment date, the Bankruptcy Court found such cases unavailing.

First, many of the cases relied upon by MEB were decided prior to the enactment of the Bankruptcy Code, and thus section 502(b) was not yet applicable. Second, two of the cases cited by MEB involved creditors' claims that were based on final, foreign judgments obtained before commencement of any bankruptcy proceedings and in both cases the courts held that the proper date for determining the appropriate exchange rate was a prepetition date. "Neither case involved a claim's value fluctuating post-petition and neither court endorsed using a post-petition exchange rate that would unfreeze the value of a claim in a manner contrary to section 502(b)'s unambiguous design."3 Finally, although MEB asserted that other courts have eliminated the need for converting funds altogether by issuing the judgment in the currency in which the parties dealt, whether it be foreign or domestic, none of the cases relied upon by MEB in support of this assertion discussed determining the allowed amount of a contested claim pursuant to section 502(b) and none involved a party that had filed for bankruptcy.

The Bankruptcy Court next addressed MEB's alternative argument that, by entering into the Completion Agreement, the parties contracted for specific treatment of MEB's claims, irrespective of the provisions of section 502(b). In support of this argument, MEB cited several provisions of the Completion Agreement in an attempt to demonstrate that only the distributions on account of MEB's claims were capped under the Completion Agreement, as opposed to the underlying claims, and because such distributions would be less than the allowed amount of MEB's claims, regardless of the date of conversion to United States currency, application of section 502(b) would be unnecessary.

For example, MEB noted that Section 2 of the Completion Agreement is entitled "Limitation Upon Bankruptcy Distributions From Deltak's Estate." The Bankruptcy Court found this irrelevant given that Section 4.16 of the Completion Agreement provides that "[t]he headings of the Sections of this Agreement are inserted for convenience only and will not in any way affect the meaning or construction of any provision of this agreement."

Moreover, MEB pointed to several provisions of the Completion Agreement, which it argued expressly provided for a limitation on distributions on account of its claims, as opposed to a limitation on the amount of the claims themselves.

The Bankruptcy Court found, however, that the "nature of any distribution is that it is based on the allowed amount of the underlying claim and, in this case, the allowed amount of the underlying claim is capped by the Completion Agreement."4 Indeed, the Bankruptcy Court noted that several provisions of the Completion Agreement expressly provide for a cap on claims, and not just on distributions thereon. For example, Section 2.2 of the Completion Agreement provides, in pertinent part, that MEB's "claim against Deltak for rejection and other damages...shall not exceed the Rejection Damage Cap."

The Bankruptcy Court therefore held that (i) the parties intended the Completion Agreement to dictate the amount of MEB's claims and not just the ultimate distribution MEB would receive, and (ii) pursuant to the plan and consistent with section 502(b) of the Bankruptcy Code, MEB's claims would be subject to conversion from Euros to United States dollars using the exchange rate that prevailed as of the petition date.

Comment

The significant decline of the US dollar's value in relation to the Euro in recent months renders the dispute in In re Global Power Equipment Group Inc. more than just an academic debate. Indeed, as the Bankruptcy Court noted, assuming an allowed MEB claim of €20,000,000, the exchange rate differences between the petition date and the plan's effective date would lead to a payout difference of approximately $3,800,000. As such, creditors holding claims in foreign currency should be wary of the application of section 502(b) of the Bankruptcy Code to their claims, as they will likely bear the risk of any decline in the value of US currency relative to the foreign currency denominated in their claims.

MEB has filed an appeal from the Bankruptcy Court's ruling. We will report any significant developments in the case in a future Client Alert.

Follow these links for additional articles from the March 2008 Insolvency Notes:

Court Relies on Market Capitalization to Determine Solvency of Debtor Prior to Bankruptcy

Bankruptcy Appellate Panel Says Section 510(b) May Effectively Extinguish Fraud, Breach of Contract Claims Arising from Purchase of LLC Interests