In re Verasun Energy Corp., No. 08-12606 (BLS) (Bankr. D. Del. March 26, 2012)
Whether claims of former executives for money owed under change-in-control agreements should be capped by section 507(b)(7) of the Bankruptcy Code?
The Bankruptcy Court held that the change in control agreements were employment contracts and that the claims arose from the termination of such contracts. Accordingly, the claims were capped by section 507(b)(7) of the Bankruptcy Code that limits claims arising from the termination of employment contracts to one years’ salary and fringe benefits plus any unpaid compensation.
This summary was prepared by Tara Lattomus of Eckert Seamans
Verasun was a leading producer of ethanol. Looking to increase production, in November, 2008, Verasun signed merger documents with U.S. BioEnergy. In connection with the merger, Verasun also approved change in control (“CIC”) agreements with eight of its executives. All of the executives also had employment contracts that described their jobs, salary and benefits. All had also participated in the meetings leading to the approval of the merger and the CIC agreements.
The CIC agreements provided for a cash payment in a multiplier of the executive’s salary, base salary plus the targeted annual bonus, continued medical benefits, payment for used vacation, and for the vesting of any unvested equity and matching contributions under a 401(k) plan. The CIC agreements also stated that upon a change of control, the executive’s position, duties, compensation, benefits or work location could not be changed without entitling the executive to the benefits provided by the CIC agreements. The execution of the merger documents constituted a “potential change in control” under the CIC agreements triggering the executives’ commitment to stay with the company. The merger was approved six months later.
The economic crisis, however, resulted in a decreased demand for ethanol, causing Verasun to file for bankruptcy protection on October 31, 2008. Of the executives, four were terminated after the bankruptcy filing and filed claims for money owed under the CIC agreements.
Summary of the Court’s Reasoning
The Court considered two issues: (i) whether the CIC agreements were employment contracts as that term is used under section 507(b)(7); and (ii) if so, whether the claims arose from the termination of those contracts. Finding the answer to both questions to be yes, the Court held that the cap of section 507(b)(7) applied.
As the executives were admittedly parties to existing employment contracts, the Court first considered whether the CIC agreements were part of those contracts. Citing black letter law, the Court concluded that a contract and any agreement modifying it may be considered one contract even if executed at different times. Here, the CIC agreements altered the employer-employee relationship in significant ways. In addition, the interpretation of the CIC agreements required reference to the employment contracts. For example, key terms in the CIC agreements such as salary, bonus and benefits were defined in the employment contracts. The CIC agreements also provided that the employment contracts remained in force, but in the event of a conflict, the CIC agreements would apply. For these reasons, the Court held that the CIC agreements and employment contracts constituted one “employment contract” under the Bankruptcy Code.
The Court next analyzed whether the claims were for unpaid severance benefits arising from the termination of an employment contract. Section 507(b)(7) has been used to cap claims of senior executives who are in the best position to provide themselves with generous severance packages. The Court did not accept the executives’ argument that the benefits were not prospective because they were earned when the executives stayed with Verasun through the merger. First, the CIC agreements defined the benefits as severance benefits and the agreements contained many provisions typically found in severance agreements. Second, the CIC agreements stated that the benefits were in lieu of salary after the date that employment is ended. Accordingly, the Court ruled that the claims were subject to the section 507(b)(7) cap and directed the parties to confer regarding the reduced amount of the claims.