Twenty years after Noble Energy, Inc. acquired assets from the bankruptcy estate of Alma Energy Corp., ConocoPhillips, Co. asserted a US$63 million claim against Noble regarding the acquisition. Conoco’s claim was based on the indemnity provisions of an old agreement between Conoco and Alma that had never been disclosed by Alma, but which the Texas Supreme Court held had been assumed and assigned to Noble as part of the sale pursuant to a boilerplate provision in Alma’s chapter 11 plan.1 This article argues that this decision, now the subject of a petition for review before the US Supreme Court, should be reversed.
Bankruptcy courts generally do not permit assumption and assignment of undisclosed executory contracts without full disclosure
Under the US Bankruptcy Code, a debtor may not assign an executory contract unless it first assumes the agreement; cures all defaults; provides adequate assurance of the assignee's future performance; and the bankruptcy court approves the assumption and assignment. 11 U.S.C. §§ 365(a), (b), (f)(2). Underlying this analysis is the requirement that a debtor in bankruptcy disclose all of its assets and liabilities during the bankruptcy case. 11 U.S.C. § 521. Without disclosure of an executory contract during a bankruptcy case, a bankruptcy court cannot analyze whether assumption and assignment of the contract is appropriate. See Noble, 532 S.W.3d at 789 ("Alma's failure to disclose the Exchange Agreement factors into the ultimate question of whether Alma assumed and assigned it in accordance with section 365's requirements.") (Johnson, J., dissenting).By way of example (cited heavily by the parties and the Texas Supreme Court in Noble), in In re O'Connor, 258 F.3d 392, 401 (5th Cir. 2001), the Fifth Circuit considered whether a partnership agreement had been assumed pursuant to boilerplate language in a plan where "[n]either the Disclosure Statement nor the Plan made any specific reference to the agreement." The plan in O'Connor simply provided that "all executory contracts . . . not rejected . . . will be assumed." Id. The Fifth Circuit, deferring to the bankruptcy court's interpretation of the plan, concluded that such an undisclosed "executory contract may not be assumed either by implication or through the use of boilerplate plan language." Id. (emphasis added) (collecting cases). In O'Connor, the Fifth Circuit ultimately held that the partnership agreement at issue was not assumable, but this did not render the court's analysis regarding undisclosed executory contracts mere dicta.
Texas Supreme Court’s view in Noble
In 1999, Noble Energy purchased certain assets of Alma Energy through Alma's chapter 11 case. Almost 20 years later, the Texas Supreme Court, in a divided opinion, held that Noble owes a third party, ConocoPhillips, US$63 million based on an indemnification provision in an exchange agreement that was assumed and assigned to Noble through a boilerplate "assumed-unless-rejected" provision in Alma's chapter 11 plan without any specific disclosure. Noble recently filed a petition for certiorari, requesting review by the US Supreme Court.
In the Texas Supreme Court's view, "the actual holdings in O'Connor were that the partnership agreement was not an assumable executory contract and that the bankruptcy court's interpretation of the plan's literal language was entitled to deference." Noble, 532 S.W.3d at 780. O'Connor's statement of bankruptcy law is widely accepted, but the Texas Supreme Court's narrow view of the O'Connor holding is wrong.
In Noble, the Texas Supreme Court analyzed a number of cases upholding catch-all "rejection" provisions (as distinguished from assumption and assignment provisions) in cases where there was disclosure during the bankruptcy cases of an executory contract during the bankruptcy case to satisfy due process concerns. Id. at 780–82. These conclusions are unremarkable. In sum, the Texas Supreme Court in Noble had no difficulty applying Alma's catch-all assumption and assignment provision to the exchange agreement because, it concluded, Noble had constructive knowledge of the exchange agreement, even though Alma had not disclosed it during its bankruptcy cases. Id. at 781-82.
Even if Noble had constructive knowledge of the exchange agreement, constructive knowledge of the existence of an executory contract does not absolve the debtor of its general disclosure obligations.2 Without complete disclosure in accordance with the Bankruptcy Code, a bankruptcy court cannot make the necessary findings under Bankruptcy Code section 365(b) to authorize assumption and assignment.
Under the Bankruptcy Code and Bankruptcy Rules, the debtor is responsible for making complete disclosure of assets and liabilities, and if appropriate, for making the requisite showing for assumption and assignment; the Noble decision flips that disclosure burden to the court and other constituencies. See Noble, 532 S.W. 3d at 787 ("[B]ankruptcy courts have firmly put both the obligation of full disclosure and the risks of non-disclosure on the debtor.") (Johnson, J., dissenting).
Disclosure is essential in bankruptcy
In our view, the US Supreme Court should grant certiorari and reverse the Texas Supreme Court's decision.
Disclosure is essential as a matter of practice and required as a matter of federal bankruptcy law. Bankruptcy Code section 365(b) requires adjudication of a number of factors (ie, cure amounts, adequate assurance of future performance) before assumption and assignment can be approved. If there is no disclosure of an executory contract, these statutory predicates cannot have been satisfied.
The Texas Supreme Court's decision in Noble undercuts the Bankruptcy Code's disclosure requirements and is contrary to the mandates under section 365. Under Noble, gamesmanship in disclosure may run rampant – parties are incentivized to disclose as little as possible, so as to reap the benefits if a party misses some material non-disclosure. See 532 S.W. 3d at 787 ("Conoco[Phillips] benefits by having a claim against Noble instead of the reorganized Alma, and the reorganized Alma benefits by escaping liability for bankrupt Alma's failure to comply with bankruptcy law by not disclosing an executory contract.").
Both Alma and ConocoPhillips were aware of the exchange agreement and its material terms, including the indemnity provisions, yet neither listed it in definitive sale documentation with Noble, and Alma did not include it in its schedules, disclosure statement or plan. Even though there were references to the exchange agreement in leases that were assumed by Alma and assigned to Noble, providing Noble with "constructive knowledge" of the exchange agreement, as the Texas Supreme Court concluded, this is neither the standard nor sufficient under bankruptcy practice: "[H]ow [could] the bankruptcy court . . . have approved the assumption as required by section 365 when the contract's existence was known only to Alma and Conoco and undisclosed by either of them in the bankruptcy to other parties, the trustee, or the court?" Id. Simply put, it could not have.
Nothing in this article should suggest that boilerplate or catchall provisions should not generally be binding – they are essential parts of chapter 11 practice and are often reiterated in confirmation orders and given the force of a court order. However, boilerplate and catchall provisions should be limited, at the very least, by a debtor's required disclosures. Without disclosure, a bankruptcy court cannot have made the findings required to allow for assumption and assignment. Had Alma (or even ConocoPhillips) disclosed the exchange agreement in Alma's bankruptcy case, perhaps Noble should have borne the burdens associated with its assumption and assignment.
Given the Texas Supreme Court's deviation from established federal bankruptcy law, and the risks of gamesmanship Noble creates with the key concept of disclosure in bankruptcy practice, the US Supreme Court should grant certiorari and reverse the Texas Supreme Court's decision. Disclosure is essential in bankruptcy, and all stakeholders are entitled to rely on the completeness and accuracy of the debtor’s disclosures. Debtors (and counterparties) should not benefit from their non-disclosure of information within their knowledge.