Bankruptcy Courts Lose Ground Amid Texas Electricity Rate Ruling

A Fifth Circuit finding that a Texas bankruptcy court exceeded its power in an electricity pricing dispute stifles debtors looking to use bankruptcy to circumvent state courts in order to nail down cheaper utility pricing.

The US Court of Appeals for the Fifth Circuit’s opinion could not only provide guidance for companies grappling with massive electric bills from 2021’s historic Winter Storm Uri but spill over into bankruptcies that involve other state-regulated utility questions.

“In the faceoff between the two important issues of resolving claims in federal bankruptcy court and respecting the state regulatory power scheme: the state wins,” said Jason Binford, counsel for Ross, Smith & Binford PC.

The decision comes as Texas state courts continue to adjudicate electricity rate fights stemming from the storm and several bankruptcies that followed. It also comes as extreme weather conditions threaten to put continued pressure on state-regulated resources.

The ruling stems from the bankruptcy of natural gas and electricity retailer Just Energy Group Inc., which filed after being hit with a $335 million electric bill during the storm. Just Energy sued the state’s grid operator, Electric Reliability Council of Texas (ERCOT), in bankruptcy court to challenge the bill.

“I think the one benefit of this decision is that market participants enjoy greater reliability and certainty that ERCOT’s pricing will not be subject to attack by federal courts when the traditional state court avenue’s available,” said Luckey McDowell of Shearman & Sterling, an attorney for power generator and retailer NRG Energy Inc., which intervened in the case.

State v. Bankruptcy Court

The Fifth Circuit found that the only way Just Energy could claw back at least $274 million of the $335 million it paid is for a Texas state court to determine whether ERCOT charged the rate lawfully.

Bankruptcy Judge David R. Jones had denied ERCOT’s motion to dismiss Just Energy’s complaint and abstain from the lawsuit.

The bankruptcy court should have considered the judicial Burford doctrine test in addition to a statute that tells federal courts when to abstain from certain state policy matters, the Fifth Circuit found. The five-factor Burford abstention test, created by the US Supreme Court in 1943 out of Burford v. Sun Oil Co., tells federal courts when they should give deference to a state regulatory regime.

The Fifth Circuit found that the test applied in Just Energy’s Chapter 15 weighed in favor of ERCOT, which argued that the bankruptcy court should avoid disrupting the state’s regulatory framework.

Mississauga, Canada-based Just Energy filed for insolvency in Ontario in March 2021, then sought Chapter 15 relief in Texas. The company subsequently lodged a complaint against ERCOT and the Public Utility Commission of Texas to try to claw back payments it made, arguing their actions violated state law and led to wholesale electricity prices of $9,000 per megawatt hour.

“It’s really just a statement by the Fifth Circuit that if you are trying to have a bankruptcy court reprice for a specific period of time or get into the business of pricing electricity at a period in time, that has to be dealt with on the state level,” restructuring attorney Hugh McDonald of Pillsbury Winthrop Shaw Pittman said.

The decision has the potential to affect other Texas market regulation issues if they enter the bankruptcy sphere.

The Fifth Circuit’s opinion holds that a party can’t use a bankruptcy filing as an “end-run around” that regulatory process, said Binford, who previously was a Texas assistant attorney general and worked on the Just Energy bankruptcy case.

“The important public policies of a state can, and should, be considered even when it slows down or otherwise negatively affects a debtor’s ability to reorganize,” Binford said. “I think that this decision constitutes a rebalancing of the scales that had tipped too heavily in favor of debtors.”

Beyond Just Energy

As extreme weather conditions continue to unfold, there may be more instances in which power suppliers are impacted by state-regulated schemes, resulting in challenges that can end up bankruptcy forums.

“It definitely is relevant to any Texas rate-driven cases that it’s going to continue to be set at the state level,” said Doug Mintz, a bankruptcy attorney at Schulte Roth & Zabel LLP. “And that makes sense for future cases, too. The Texas energy market is pretty volatile.”

ERCOT’s energy billing during the storm led in part to several major bankruptcies among Texas energy co-ops and retailers.

The state’s largest cooperative, Brazos Electric Power Cooperative, filed for Chapter 11 protection after receiving invoices totaling $1.9 billion. Similar pricing issues were raised in the Brazos case, but Brazos and ERCOT ultimately settled, and Brazos exited bankruptcy last month.

Griddy Energy LLC, Entrust Energy Inc., Liberty Power Holdings, and Brilliant Energy LLC also filed for bankruptcy protection as a result of the storm.

While Just Energy’s underlying challenge dealt with electricity rates, the opinion could apply to other areas regulated on the state level, such as the distribution of gas or water, McDonald said.

The opinion holds that bankruptcy courts still have the authority to decide whether a debtor is owed money under a claim for a breach of contract. They can also still decide whether a contract potentially can be subject to termination or rejection, McDonald noted.

“But you can’t set the rate that they shouldn’t be paying under that contract that has been approved by the state regulators,” McDonald said.