In a client memo dated March 7, 2007, we reported that the Bankruptcy Court for the Southern District of New York had issued a decision holding that secured lenders to a chapter 11 debtor could assert a valid, but unsecured, damages claim for breach of a contractual provision —known as a “no call” — that prohibits redemption of debt prior to maturity. In re Calpine Corp., 365 B.R. 392 (Bankr. S.D.N.Y. 2007). On appeal, the District Court for the Southern District of New York has held that the secured lenders do not have a valid damages claim for breach of a “no call,” because “no call” provisions, which are common in the credit markets, do not apply in bankruptcy. HSBC Bank USA et al. v. Calpine Corporation et al., No. 07 Civ. 3088 (S.D.N.Y. Sept. 14, 2010).
The Calpine decisions arose out of an effort by chapter 11 debtors to refinance their secured debt at a lower interest rate. Although that debt was subject to “no call” provisions that barred voluntary prepayment prior to certain dates, the debtors contended that “no calls” cannot be enforced to enjoin a chapter 11 debtor from repaying its debts. The debtors further contended that the proposed refinancing would not cause a breach of the “no call” provisions because, under the loan documents, the borrower’s bankruptcy filing automatically accelerated the loans’ maturities, so that any repayment of the loans was not a “prepayment” at all.
The Bankruptcy Court agreed with the debtors that a “no call” cannot be enforced to prohibit a chapter 11 debtor from repaying its debts. The Bankruptcy Court also found that damages for breach of a “no call”— if not fixed in the credit agreement — fall outside of section 506(b) of the Bankruptcy Code, which grants oversecured creditors a secured claim for “reasonable, fees, costs, or charges provided for under the [credit] agreement.” Nonetheless, the Bankruptcy Court granted the lenders an unsecured claim against the debtors for the damages incurred as a result of payment prior to the loans’ original maturities.
On appeal, the District Court concluded that the lenders are not entitled even to an unsecured damages claim. The District Court determined that the automatic acceleration of the loans’ maturities as a result of the bankruptcy filing meant that the loans were immediately “due and payable,” and thus that the “no call” was not applicable. In ruling that the lenders were not entitled to any damages, the District Court emphasized that the loan agreements “could have provided for the payment of premiums in the event of payment pursuant to an acceleration,” but did not do so. Opinion at 8.
The lenders will be able to appeal the District Court’s decision to the United States Court of Appeals for the Second Circuit. Whatever the ultimate outcome, the Calpine decision from the District Court is a reminder that lenders and borrowers should consider the effects of a bankruptcy proceeding when they negotiate loan agreements. Inclusion of contract terms that provide for specific compensation in the event of prepayment, including after acceleration as a result of a bankruptcy, can have significant benefits for lenders.
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