A March 8 2016 decision of the influential Bankruptcy Court for the Southern District of New York has attracted attention from – and caused concern for – owners of pipelines and other midstream assets, as well as lenders to midstream and upstream lenders across the United States.
Sabine Oil & Gas Corporation recently brought an application under Section 365 of the Bankruptcy Code in its Chapter 11 proceedings. Section 365 of the Bankruptcy Code allows a debtor to apply for court approval to terminate ongoing agreements in certain circumstances. In its application, Sabine sought court approval allowing it to reject certain gas gathering and handling agreements that it had with Nordheim Eagle Ford Gathering LLC and High Point Infrastructure Partners LLC. Sabine argued that these contracts were too expensive to maintain and rejecting them was necessary to allow it to restructure its operations.
Consistent with her preliminary assessment of the issue during oral argument, Judge Shelley Chapman granted Sabine's application to reject these agreements over the objections of the pipeline owners, which had argued that the dedication of production under their respective agreements created an interest in real property that therefore ran with the land. Hence, the pipeline owners had argued that the agreements at issue could not be rejected under Section 365 of the Bankruptcy Code.
Chapman ruled that the agreements could be rejected under Section 365, since the decision to reject them was based on a reasonable exercise of business judgment by the debtor's management. She further suggested that although she was also inclined to find that the specific dedications under the respective agreements did not run with the land, she was not yet in a proper procedural position to make a final ruling on this issue, since it could be properly and finally adjudicated only pursuant to an adversary proceeding under the bankruptcy rules. As a result, this important legal question remains to be finally determined.
Further, it remains to be seen exactly what the effect would be on an application to reject such agreements if a court concluded that agreements of this nature created an interest in land, and whether such a finding would mean (as the pipeline companies in Sabine argued) that even though such agreements could be rejected under Section 365, the covenants running with the land would not be expunged.
Some of these issues may come back to Chapman for determination in the future, in which case the application will be sure to attract the interest of all participants in the midstream industry. Importantly, even if Chapman ultimately concludes that the agreements in Sabine did not create covenants running with the land, any decision will almost certainly be limited to the specific facts of the Sabine agreements and the language contained in the subject documents. Therefore, the ruling should not stand for – or be interpreted as – general precedent that other agreements containing different language would not be construed as creating covenants running with the land that inure to the benefit of a midstream company.
For further information on this topic please contact Wayne W Fedun, Howard A Gorman or Randall S Van der Mosselaer at Norton Rose Fulbright by telephone (+1 403 355 3550) or email ([email protected], [email protected] or [email protected]). The Norton Rose Fulbright website can be accessed at www.nortonrosefulbright.com.
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