Third Circuit Departs from Momentive and Reinstates EFIH Noteholder Make-Whole Claims Causing Uncertainty over EFH’s Ability to Exit Bankruptcy

Recently, the Third Circuit reversed decisions issued by the Delaware Bankruptcy and District Courts and permitted first and second lien noteholders of Energy Future Intermediate Holding Company LLC and EFIH Finance Inc. to receive payment of a make-whole premium. In re Energy Future Holdings Corp., No. 16-1351 (3d Cir. Nov. 17, 2016).  The decision, which is largely grounded in New York law, departs from recent controversial decisions issued by the Bankruptcy Court and District Court for the Southern District of New York in the Momentive bankruptcy, which we have previously discussed here and here.  In Momentive, the courts reached the opposite conclusion on substantially similar facts.  In Momentive, the courts reached the opposite conclusion on substantially similar facts.  In addition to creating a split between the Third Circuit and the Southern District of New York, the ruling creates uncertainty regarding the ability for the debtors in the long-running EFH bankruptcy to confirm their proposed chapter 11 plan.

Key Takeaways

  1. There’s conflict between the two most popular bankruptcy courts (DE and SDNY) over the law governing make-whole premiums.
  2. To avoid the negative effects of the law within the SDNY, lenders should insist on clear and unambiguous language in their NY law governed loan documents that optional redemption payments are due and owing notwithstanding the acceleration of debt.
  3. This ruling muddies EFH’s path to confirmation (for now).


EFIH borrowed approximately $4 billion at a 10% interest rate by issuing First Lien Notes due in 2020. The First Lien Indenture, which was governed by New York law, contained an “Optional Redemption” in section 3.07.  That provision was intended to protect the lenders’ anticipated interest-rate yield so that if EFIH redeemed all or a part of the Notes prior to December 1, 2015, EFIH would need to pay 100% of the principal amount of the Notes redeemed plus the Applicable Premium.”  The “Applicable Premium” is often referred to as a “make-whole premium”—a contractual substitute for interest lost on Notes redeemed before the maturity date.

EFIH also borrowed additional funds by issuing Second Lien Notes due in 2021 and 2022. In a provision essentially identical to the First Lien Indenture, section 3.07 of the Second Lien Indenture obligated EFIH to pay Second Lien Noteholders a make-whole premium if EFIH chose to redeem the Second Lien Notes by a certain date.

The indentures governing both issuances contained language addressing acceleration should EFIH file for bankruptcy. Under such scenario, section 6.02 of the First Lien Indenture mandates that “all outstanding Notes [are] . . . due and immediately payable.”  Similarly, under section 6.02 of the Second Lien Indenture, if EFIH files for bankruptcy, “all principal of and premium, if any, interest . . .[,] and any other monetary obligations on the outstanding Notes shall be due and payable immediately[.]” (Emphasis in original).

As market rates decreased, EFIH considered refinancing the Notes. By filing for bankruptcy, EFIH believed it could avoid paying the make-whole premiums.  Once in bankruptcy, EFIH asked the Delaware Bankruptcy Court for leave to borrow funds to pay off the First Lien Notes and make a settlement offer to First Lien Noteholders who agreed to waive their right to the make-whole.  This action prompted the trustee for the First Lien Notes to file an adversary proceeding seeking, among other things, a declaration that the refinancing of the First Lien Notes triggered payment of the make-whole premium.

The Delaware Bankruptcy Court did not immediately act on the adversary complaint and instead granted EFIH’s request to refinance the First Lien Notes. On June 19, 2014, EFIH paid off the First Lien Notes and refinanced the debt at a much lower interest rate of 4.25%, saving an estimated $13 million in interest per month.  EFIH did not compensate First Lien Noteholders for this loss by paying the make-whole, which would have been approximately $431 million in total.

After EFIH stated publicly that it reserved the right to redeem all or part of the outstanding Second Lien Notes, the trustees for the Second Lien Notes filed their own adversary proceeding requesting a declaration that EFIH would have to pay the make-whole if it refinanced the Second Lien Notes. The Delaware Bankruptcy Court subsequently approved EFIH’s request to refinance part of the Second Lien Notes.

Litigation before the Lower Courts

Nine months after the Delaware Bankruptcy Court authorized EFIH to refinance the First Lien Notes, it issued a decision denying payment of the make-whole to First Lien Noteholders. The Delaware Bankruptcy Court held that, because section 6.02 took effect when EFIH entered bankruptcy but made no mention of the make-whole, none was due.  The Second Lien Noteholders fared no better as the Delaware Bankruptcy Court adopted its findings and conclusions from the make-whole litigation for the First Lien Noteholders.  The Delaware District Court affirmed the Delaware Bankruptcy Court’s rulings.

The thrust of the Delaware Bankruptcy Court’s decision was grounded in its following of Momentive.  In Momentive, the bankruptcy court denied noteholders approximately $200 million in make-whole payments following the debtor’s early refinancing of their debt.  Like the indentures in EFH, the Momentive indentures required payment of a make-whole on optional redemptions occurring before a certain date and for the automatic acceleration of the debt upon an event of default, such as a bankruptcy filing.  In Momentive, the court analyzed the propriety of the make-whole by looking to New York law governing prepayment premiums.  Under New York law, a prepayment premium will only be due on a default and acceleration “when a clear and unambiguous clause calls” for it.  Although the Momentive indentures provided for the payment of a “premium, if any” following an event of default, the court found that this language was not specific enough to give rise to a make-whole premium, and thus, no make-whole was due.

Third Circuit Reverses

The Third Circuit began its analysis by finding that section 3.07 “on its face” required that EFIH pay the Noteholders the make-whole. In so holding, the Third Circuit rejected the view taken in Momentive that the words “premium, if any” appearing in the Second Lien Indenture were not specific enough to require payment of the make-whole premium.  Rather, the Third Circuit found that these words “make explicit . . . the link between acceleration under § 6.02 and the make-whole for an optional redemption per § 3.07.”

Having found that the indentures appeared to require payment of the make-whole, the Third Circuit next examined the interplay between two operative provisions—section 3.07, which sets forth when the make-whole is due, and section 6.02, which states that the Notes accelerate upon a bankruptcy filing. The Court rejected EFIH’s argument—and the ruling from the lower courts—that acceleration of the Notes pursuant to section 6.02 negated the effect of section 3.07.  Rather, the Court found that the sections “simply address different things:  § 6.02 causes the maturity of EFIH’s debt to accelerate on its bankruptcy, and § 3.07 causes a make-whole to become due when there is an optional redemption before [a date certain].  Rather than ‘different pathways,’ together they form the map to guide the parties through post-acceleration redemption.”

The Third Circuit then addressed EFIH’s argument that it should not have to pay the make-whole because section 6.02 caused the Notes to mature before they were paid off. The Third Circuit disagreed and instead cited to NML Capital v. Republic of Argentina, 952 N.E.2d 482 (N.Y. 2011), a decision issued by the New York Court of Appeals.  In NML Capital, the New York Court of Appeals held that “[w]hile it is understood that acceleration advances the maturity date of the debt, there is no rule of New York law declaring that other terms of the contract not necessarily impacted by acceleration . . . automatically cease to be enforceable after acceleration.” NML Capital therefore suggests that “§ 3.07 applies no less following acceleration of the Notes’ maturity than it would to a pre-acceleration redemption.”

Next, EFIH contended that it should not be required to pay the make-whole because, in Northwestern Mutual Life Insurance Co. v. Uniondale Realty Associates, 816 N.Y.S.2d 831, 836 (N.Y. Sup. Ct. 2006), the court held that a “prepayment premium will not be enforced under default circumstances in the absence of a clause which so states[.]”  In that case, the court held that a mortgage lender who chose to foreclose following default was not entitled to a “prepayment premium” because foreclosure had advanced the debt’s maturity date.  This argument reflects the bankruptcy court’s ruling in Momentive.

The Third Circuit observed that the “Northwestern rule” made logical sense in the context of prepayments.  But here, in contrast, a redemption of a debt security may take place at or before maturity and therefore remain unaffected by acceleration of a debt’s maturity.  The drafters of the indentures here did not use the word “prepayment” in section 3.07, and by choosing to use the term “redemption” instead, they decided that the make-whole would apply without regard to maturity.  Therefore, “[t]he Indentures . . . present no linguistic tension to resolve.  Nothing in § 6.02 negates the premium § 3.07 requires if an optional redemption occurs before a stated date.  Acceleration here has no bearing on whether and when the make-whole is due.”

Based on this reasoning, the Third Circuit departed from recent bankruptcy court decisions, such as Momentive, which the Court believed “stretched Northwestern beyond its language and applied its clear-statement rule to yield protection payments not styled as prepayment premiums.”


The most immediate consequence of the Third Circuit’s ruling will be felt in the EFH bankruptcy. The plan confirmation hearing, which was scheduled to start on December 1, 2016, was adjourned so the debtors could engage in discussions with key creditor constituencies and the plan sponsor, NextEra Energy, Inc., in order to assess the decision’s impact on the viability of the plan.  On December 1, 2016, the debtors modified their proposed plan of reorganization to provide for the potential payment of the make-whole claims.  The terms of the modified plan now provide the Noteholders with a lien on the debtors’ distribution account (an account designated to fund plan distributions) until the make-whole claims are either allowed and paid in full in cash or disallowed.  This change could result in diminished distributions to general unsecured creditors if the modified plan is confirmed.  As of now, it is unclear how unsecured creditors will react to the modified plan.  Furthermore, the debtors are currently weighing their appellate options and participating in settlement negotiations with the Noteholders that could obviate the need for an appeal.  We will update this post as further developments unfold.

EFH is also significant beyond its immediate facts and circumstances because it could result in a circuit split if the Second Circuit affirms Momentive.  The Second Circuit has taken the matter under advisement.  For now, however, parties face uncertainty and distinction between the popular Delaware and Southern District of New York Bankruptcy Courts.

EFH offers guidance to courts when analyzing make-whole claims under New York law because it raises an important difference between prepayment premiums and redemption premiums. Generally speaking, the former cannot be paid following maturity while the latter is not dependent on maturity.  This distinction may give rise to additional drafting considerations when parties negotiate credit documents.  For a borrower to avoid payment of a redemption premium, EFH suggests that clear and unambiguous language must be added to the acceleration and/or redemption provisions in the underlying credit documents making clear that such premium will not be paid upon maturity.  This will, of course, serve as a source of tension between borrowers and lenders as they negotiate terms and pricing.