Writing Sample for Greg M.

Moore
This writing sample is a memo building upon previous research into a bankruptcy issue. The memo was based on research that I conducted without assistance, and the writing is entirely my own. The final project was submitted to a senior shareholder in my firm and subsequently distributed to the client. I have redacted the clients name, and edited out any confidential information. Background facts: Our client is a national distributor of natural gas. The client delivered natural gas pursuant to a forward contract to several affiliates of an entity called SemGroup and subsequently asked SemGroup to post a $10.1m letter of credit in the clients favor in order to reduce the amount owed for previous gas deliveries. SemGroup, soon after posting the letter of credit, filed a bankruptcy petition. In this situation, the bankruptcy petition implicated a code provision whereby certain transactions executed by an insolvent debtor may be deemed preferences under 11 U.S.C 547. When the receiving creditor in the transaction would benefit by receiving a disproportionately greater share of the debtors assets than allowed by the distribution provisions of bankruptcy law, the trustee may invalidate the transaction. Anticipating that the trustee or debtor-in-possession of SemGroup might attempt to avoid the letter of credit as a preference, this research was conducted. A previous memo expressed opinions that (1) our client was in fact a forward contract merchant under these facts, and (2) that if the letter of credit was in fact a margin payment the trustee is prohibited from avoiding the letter of credit transaction. This writing sample presumes both previous opinions are correct. The bankruptcy case was filed in Delaware, so the memo focuses on bankruptcy law in the Third Circuit.

DATE: TO:

MARCH 17, 2009

SENIOR SHAREHOLDER GREG MOORE [OUR CLIENT]: THIRD CIRCUIT LAW CONSTRUING MARGIN PAYMENTS IN THE CONTEXT OF 11 U.S.C. 546(E). QUESTION PRESENTED

FROM: SUBJECT:

This is a presentation of my findings pursuant to your request to research case law applicable to 11 U.S.C. 546(e), the statutory provision that limits a bankruptcy trustees power to avoid a margin payment made to a forward contract merchant. You asked that I research whether a letter of credit (LC) opened in favor of our client, [a national distributor of natural gas], would be viewed by courts in the Third Circuit as a margin payment, and therefore protected from any avoidance action taken by the trustee. SHORT ANSWER After examination of the legislative history and case law construing 546(e), it is our opinion that the Delaware Bankruptcy Court will view SemGroups LC as a margin payment and thus protect the LC from any avoidance action taken by the trustee. DISCUSSION Our client, [a national distributor of natural gas], entered into forward contracts with various entities that are non-debtor affiliates of SemGroup, the debtor. These contracts are governed in part by the General Terms and Conditions (GTCs), which contain a margin payment provision, and SemGroup subsequently responded to a margin call by posting an LC for $10.1m. In our memo dated September 17, 2008 we outlined the protection offered by 546(e) to [our client] as a forward contract merchant and reached the opinion that federal law prohibits the trustee (or debtor-in-possession as the case may be) from invalidating a margin payment transfer to [our client]. Margin payments are broadly defined, both in statute 1 and case law. Furthermore, the prohibition on the bankruptcy trustee to avoid margin payments is grounded in clear legislative policy considerations. While the Third Circuit has yet to directly construe the term margin payment within the 546(e) context, the Circuit has broadly construed settlement payments in the same section. Because the Congressional policies
1

Margin Payments are defined by 11 U.S.C 101(38) as, [a] payment or deposit of cash, a security or other property, that is commonly known in the forward contract trade as original margin, initial margin, maintenance margin, or variation margin, including mark-to-market payments, or variation payments. Sections 741 & 761, also referenced as definitions of margin payment, consist of substantially identical language.

underpinning 546(e) encourage a broad construction of margin payment for the same rationale expressed by the Third Circuit in construing settlement payments, we believe that the Third Circuit will similarly extend a broad definition to margin payments. The seminal case in Third Circuit jurisprudence construing the effect of 546(e) is In re Resorts Intern., Inc., 181 F.3d 505 (3rd. Cir. 1999). In Resorts, an entity made payment, at a merger price, for shares tendered by a shareholder demanding appraisal. See id. at 508-09. After initiation of Chapter 11 reorganization, the entity sought to recover payment for the shares pursuant to 546(e), among other theories. See id. The Third Circuit broadly construed the definition of settlement payment and held that the payment to the shareholder was a settlement payment not subject to trustee avoidance under 546(e). See id. at 516. The Resorts Court based its broad construction of settlement payment on a previous Third Circuit holding in Bevill, Bresler & Schulman Asset Management Corp. v. Spencer Savings and Loan Assn., 878 F.2d 742 (3rd Cir. 1989) (ruling in the context of 546(f) which prohibits a trustee from avoiding transfers related to repurchase agreements). Finding that 546(e) was the model on which 546(f) was based, the Bevill Court reviewed the legislative intent behind 546(e), and the term settlement payment, so as to determine the intended scope of 546(f). Bevill, 878 F.2d at 747. Congress was concerned about the volatile nature of the commodities and securities markets, and decided that certain protections were necessary to prevent the insolvency of one commodity or security firm from spreading to other firms and possibly threatening the collapse of the affected market. Id. (quoting H.R. REP. NO. 420, 97th CONG., 2D SESS. 2 (1982), reprinted in 1982 U.S. CODE CONG. & ADMIN. NEWS 583, 583). Congress's purpose for 546(e) was thus to minimize the displacement caused in the commodities and securities markets in the event of a major bankruptcy affecting those industries and curtail any subsequent ripple effect in the marketplace caused by the reversal of settled transactions. H.R. REP. NO. 420, 97th CONG., 2D SESS. 2 (1982), reprinted in 1982 U.S. CODE CONG. & ADMIN. NEWS at 583. After reviewing Congressional intent as set forth in Bevill, the Third Circuit in Resorts observed that the settlement payment exception of 546(e) should be broadly construed in order to be consistent with the intent of protecting the securities clearance system. See Resorts, 181 F.3d at 515-16. In holding for such a broad definition of settlement payment, the Resorts Court explicitly rejected a narrower construction of the term advanced by various federal courts outside the Third Circuit. Id. at 515. These courts reasoned that since Congressional intent was to protect against a ripple effect in the marketplace through a trustees exercise of avoidance powers, only settlement payments actually implicating the system of intermediaries and guarantees would fall under the prohibition of 546(e). See e.g. Zahn v. Yucaipa Capital Fund, 218 B.R. 656, 677 (D. R.I. 1998); see also Wieboldt Stores, Inc. v. Schottenstein, 131 B.R. 655, 664-65 (N.D. Ill. 1991). The Third Circuit opted instead for a broader interpretation of settlement payment, based on the plain language of the statute, to include almost any securities transaction in which a settlement payment is executed. See Resorts, 181 F.3d at 515-16 (citing Kaiser Steel Corp. v.

Charles Schwab & Co., Inc., 913 F.2d 846 (10th Cir. 1990), In re Comark, 971 F.2d 322, 325 (9th Cir. 1992) & Bevill, 878 F.2d at 751). When Congress revised the language of 546(e) in 1982, its intent was to broaden the commodities market protections and expressly extend similar protections to the securities market. H.R. REP. NO. 420, 97th CONG., 2D SESS. 2 (1989), reprinted in 1982 U.S. CODE CONG. & ADMIN. NEWS at 583. Such an extension of similar protections points to the need for a broad construction of margin payment within the Third Circuit analogous to the breadth given settlement payment. This broad construction is required lest asymmetrical treatment of the two terms undermine the legislative intent to protect national financial and commodities markets from instability caused by the reversal of settled commodities transactions. Holdings by Bankruptcy Courts and District Courts outside the Third Circuit have given the term margin payment a broad sweep in the 546(e) context consistent with Congressional policy. The term margin payment . . . is interpreted very broadly and includes any payment by the debtor to reduce a deficiency in her margin account. In re David, 193 B.R. 935, 940 (Bankr. C.D. Cal. 1996) (emphasis added) (citing Kaiser Steel Corp. 913 F.2d at 848). Further, the Bankruptcy Court for the Eastern District of Virginia held that margin payments are very broadly defined by the Bankruptcy Code, and the court therefore accepted the argument that any payment by the debtor used to reduce a deficiency in a margin account constituted either a margin payment or settlement payment for purposes of 546(e). In re Blanton, 105 B.R. 321, 347 (1989); see also In re Yeagley, 220 B.R. 402, 405 (Bankr. D. Kan. 1998) (the term margin payment includes any payment by the debtor to reduce a deficiency in that debtors margin account) (emphasis added). CONCLUSION In conclusion, no Third Circuit decisions have construed margin payments in the 546(e) context. Given, however, the Circuits expansive treatment of the related term settlement payment and the underlying Congressional policy decisions intrinsic to that treatment, the Third Circuit will likely construe margin payments very broadly. Under such an expansive construction SemGroups LC, opened in favor of [our client] pursuant to the margin payment provisions contained within the GTCs, will most likely be held to be a 546(e) margin payment, and thus be protected from avoidance by the trustee.