MTE Holdings’ activities included oil and gas drilling, an activity that generates large amounts of toxic wastewater. These by-products must be disposed of in accordance with applicable environmental regulations.
Prior to bankruptcy, MTE Holdings had initiated a pipeline project to transport wastewater from its various field wells to a central disposal facility. The capacity of this pipeline exceeded the debtor’s wastewater production and the debtor planned to generate additional revenue by billing other oil and gas exploration and production companies for the disposal of the wastewater. The debtor retained the services of Gray Surface to provide consulting and advisory services on elements of the pipeline project.
Following the bankruptcy filing, the debtor’s pre-petition secured lenders announced that they did not support the proposed sewage disposal expansion and would not allow their cash collateral be used for this purpose. The debtor was, however, willing to proceed with the project and assured Gray Surface that its invoices would be paid through a non-debtor affiliate controlled by the debtor’s principal. When the Affiliate failed to pay as promised, Gray Surface filed a lawsuit seeking compensation and immediate payment of an administrative expense for the unpaid invoices.
Claims for administrative costs, which enjoy priority of payment, are allowed for “costs and expenses actual and necessary to preserve the estate” (11 USC § 503(b)(1)(A)). In the Third Circuit, a successful administrative plaintiff must demonstrate that “(1) there was a post-petition transaction between the plaintiff and the estate and (2) those expenses provided a benefit to the estate.” (In re Energy Future Holdings Corp., 990 F.3d 728, 741 (3d Cir. 2021)).
Authorized administrative expense claims must be paid in full before payment is made to lower classifications such as general unsecured claims. A Chapter 11 debtor cannot emerge from bankruptcy without paying authorized administrative debt holders in full as of the effective date of the plan or obtaining their consent to different treatment.
In the MTE Holdings case, there was no dispute regarding the amounts of the invoices or whether Gray Surface performed the services related to its administrative claim. Rather, the main dispute was whether the “benefit to the estate” of the services provided under the sewage disposal project was too speculative to warrant administrative expense status.
In opposing Gray Surface’s motion for an administrative claim, the debtor argued that in order to “bear its heavy burden” in order to qualify for treatment of administrative expenses, Gray Surface had to prove that the bankruptcy estate had obtained “demonstrable increases in profits, revenue or competitive position” as a result. of the services provided.
The bankruptcy court rejected this argument, concluding that the applicable case law does not require an uninitiated third party who provides goods or services to a debtor in possession on ordinary commercial terms to prove that the receipt of those goods or services led directly to increased profits or valuation. The court found that the seller’s belief that “the project would generate additional revenue or increase the value of his business” was sufficient to establish a claim
This opinion provides a strong argument for sellers dealing, after the petition, with debtors on standard commercial terms – notably, that the “benefit to the estate” requirement establishing an administrative priority claim is satisfied simply by demonstrating that the debtor reasonably believed that the goods or services provided would increase revenue or increase the value of the business.
The content of this article is intended to provide a general guide on the subject. Specialist advice should be sought regarding your particular situation.