Following a critical report from a bankruptcy examiner, a U.S. Trustee on March 11 asked a bankruptcy judge to appoint a chapter 11 bankruptcy trustee that would effectively take over management of Dynegy Holdings LLC and related companies from current management.
Tracy Hope Davis, the U.S. Trustee for Region 2, had originally asked for and gotten approval to name an examiner in this case. The trustee’s report was filed with the court on March 9 and accused Dynegy Inc. (NYSE:DYN) management of fraud when Dynegy Inc. divided up its assets last year, creating the set of assets now controlled by Dynegy Holdings, with other assets placed under separate entities. This division of assets was done before the Dynegy Holdings bankruptcy declaration in November 2011. Davis on March 11 filed the motion with the U.S. Bankruptcy Court for the Southern District of New York York for the appointment of the chapter 11 trustee.
“Based upon the findings and conclusions of the examiner, there are ample grounds for the appointment of a chapter 11 trustee,” said Davis in the March 11 motion. “The mismanagement of the debtors by their current management to the financial detriment of the debtors’ creditors provides cause for the appointment of an independent fiduciary to manage the affairs of these debtors. In the alternative, it is in the best interest of creditors to appoint a chapter 11 trustee.”
The court has set an April 4 hearing on the Davis motion for a trustee to be appointed. Dynegy Inc. had not filed a response with the court as of the morning of March 13 on either the examiner’s report or the motion for a trustee. It did issue a brief public statement on March 9 that it was reviewing the examiner’s report.
Davis added in the March 11 filing: “With respect to cause, the [examiner’s] report issued by the court ordered independent fiduciary presents information that, at a minimum, demonstrates gross mismanagement on the part of current management. As found by the examiner, the Dynegy Holdings board has repeatedly breached its fiduciary duties to Dynegy Holdings. Whether ultimately the examiner’s conclusions regarding an actual fraudulent transfer or constructive fraudulent transfer of valuable assets of Dynegy Holdings are sustained by this court, nonetheless, the breaches of duty of the various boards – all alter egos of one another – to the financial detriment of the debtors, demonstrates cause for the appointment of a chapter 11 trustee within the provisions of Section 1104(a)(1) of the Bankruptcy Code.”
Current company management is not in a position to assess the findings and conclusion of the examiner, and to pursue any and all of the appropriate remedies, Davis added. Only a chapter 11 trustee will have the statutory authority to do so and to assume all the duties and responsibilities of a debtor-in-possession.
August 2011 division of Dynegy assets targeted by Davis
In August 2011, Dynegy Inc., Dynegy Holdings and certain of their direct and indirect subsidiaries implemented an internal reorganization which restructured the debtors’ coal and natural gas operations into two new “ring fenced” indirect subsidiaries of Dynegy Holdings, Davis noted. Also in August 2011, certain debtors and their non-debtor parent corporations obtained a total of $1.7bn in new financing secured by the assets of all of Dynegy Inc.’s operating subsidiaries other than Dynegy Roseton LLC and Dynegy Danskammer LLC, which are two of the Dynegy Holdings affiliates also in bankruptcy protection.
U.S. Bank NA, the successor indenture trustee with respect to the sale-leaseback financings for Dynegy Holdings plants, alleged that the pre-petition restructuring transactions resulted in a significant portion of Dynegy Holdings’ assets being transferred to Dynegy Inc. in exchange for an unsecured undertaking worth less than two thirds of the value Dynegy Holdings ascribed to those assets, without notice to creditors, a third party marketing process or review by independent directors, Davis said. U.S. Bank also alleged that Dynegy Holdings’ board knew its actions were improper and breached its fiduciary duties, Davis added.
The examiner found that there were two phases of Dynegy’s restructuring strategy. The first phase, the “Ring Fencing Transactions,” involved transfers of assets incident to the creation of two distinct silos of assets, CoalCo and GasCo. The examiner found that this strategy was permissible because the transfer did not – and was not intended – to injure creditors, Davis noted. The examiner determined that the transfer of Dynegy Holding’s “opportunity” to restructure indebtedness did not constitute a fraudulent conveyance.
The second phase of the 2011 restructuring ultimately involved the transfer or purported sale of CoalCo, which is mostly coal-fired plants in Illinois, by Holdings to Dynegy Inc. in exchange for a piece of paper called the “Undertaking” that Dynegy Inc. actively avoided valuing, Davis said. The examiner concluded that the CoalCo transfer was made with the intent to hinder and delay – but not necessarily to defraud – the creditors of Dynegy Holdings, Davis added.
The examiner concluded that the transfer of CoalCo to Dynegy Inc. was an actual fraudulent transfer, and assuming that Dynegy Holdings was insolvent on the date of the transfer (approximately two months before the bankruptcy filing), a constructive fraudulent transfer and a breach of fiduciary duty by the board of directors of Dynegy Holdings. CoalCo was exchanged for an “Undertaking” worth significantly less than $1.25bn (the present value to Dynegy Holdings was no more than $862m) and did not constitute reasonably equivalent value for the CoalCo assets, Davis added. The examiner characterized the “Undertaking” as an “illiquid, unsecured, highly unusual financial instrument.”
“The CoalCo transfer, reduced to its essence, transferred hundreds of millions of dollars away from Dynegy’s creditors in favor of its stockholders,” Davis wrote.
Dynegy Inc.’s subsidiaries produce and sell electric energy, capacity and ancillary services in key U.S. markets. The Dynegy Power LLC (GasCo) power generation portfolio consists of about 6,771 MW of primarily natural gas-fired intermediate and peaking power generation facilities. The Dynegy Midwest Generation LLC (CoalCo)portfolio consists of about 3,132 MW of primarily coal-fired baseload power plants. The Dynegy Northeast Generation LLC portfolio, which is involved in the bankruptcy case, consists of about 1,693 MW from two power plants which are primarily natural gas-fired peaking and baseload coal facilities.