Cadwalader attorneys analyzed a Third Circuit decision holding that distributions to a debtor's first lien creditors are governed by the Bankruptcy Code, rather than an intercreditor agreement ("ICA") waterfall provision on the enforcement of collateral remedies.
As described more fully in the Cadwalader memorandum, the Third Circuit held that the waterfall provision set forth in an intercreditor agreement between three groups of pari passu Texas Competitive Electric Holdings LLC first lien creditors did not govern the allocation of plan distributions and adequate protection payments. Specifically, the Third Circuit found that the plan distributions and adequate protections payments (i) were not collateral or proceeds thereof, and (ii) did not result from any exercise of remedies by the collateral agent, as required by the ICA.
Commentary / Michele Maman
The Third Circuit's decision brings hopeful closure to years of litigation by certain of the first lien creditors that were attempting to claim entitlement to a larger pro rata portion of the distributions at issue, based on an interpretation of the ICA that the Third Circuit has affirmed did not apply.
Specifically, the decision in Texas Competitive Electric Holdings LLC confirms that courts will properly scrutinize the terms of an intercreditor agreement in determining whether such agreement applies to distributions and payments made to creditors in bankruptcy cases. This conforms with other relevant decisions - such as Momentive - which similarly interpreted intercreditor provisions more narrowly. Many intercreditor agreements contain waterfall provisions, which provide a roadmap for certain distributions. The roadmap is often set forth in the preamble to such provisions - much like it was in Section 4.1 of the ICA in this case. As the Third Circuit's decision here confirms, the scope of those provisions is ultimately determined by the language within the preamble. If the preamble provides that it applies only to distributions of collateral received upon an enforcement action by the collateral agent, then the provision might not apply to distributions made under a Chapter 11 plan if those conditions are not also triggered. As such, when negotiating and drafting intercreditor agreements, parties should pay close attention to the language used in an intercreditor agreement's waterfall provision. If the parties' intent is for the waterfall provision to govern plan distributions and adequate protection payments in a bankruptcy case, then the parties should draft the waterfall provision to explicitly cover such distributions.