Opinion ID: 40556
Heading Depth: 3
Heading Rank: 1

Heading: Hypothetical vs. Actual Test

Text: 33 We begin by addressing the question that affects each of the issues raised by BPA, that is, whether this Circuit adopts the actual or hypothetical approach to the text of § 365(e)(2)(A). The hypothetical test was first announced and adopted in the sole circuit opinion to address the conjunctive effect of § 365 and the Anti-Assignment Act. West, 852 F.2d at 82. In West, a divided panel addressed similar facts and held the bankruptcy court abused its discretion in denying a lift of the Chapter 11 stay, which had the effect of preventing the government from terminating an executory contract under the two statutes. 852 F.2d at 82. Addressing § 365(c), 16 as opposed to § 365(e)(2) at issue here, the West majority created a hypothetical test for the determination of whether the Anti-Assignment Act was an applicable law such that the government could refuse performance under the Act. The West majority rejected an as-applied determination of whether assignment had occurred under the Act. Id. Concluding that hypothetically speaking the Anti-Assignment Act was an applicable law because it made the contract generally unassignable, the majority in West held that § 365(c)(1) foreclosed the debtor's ability to assume the contract. Id. at 83. The majority reasoned: 34 We think that by including the words or the debtor in possession in 11 U.S.C. § 365(c)(1) Congress anticipated an argument like the one here made and wanted that section to reflect its judgment that in the context of the assumption and assignment of executory contracts, a solvent contractor and an insolvent debtor in possession going through bankruptcy are materially distinct entities. While the relevant case law is very sparse, it supports our understanding of the interplay between. . . § 365(c)(1) and 41 U.S.C. § 15. 35 Id. (footnote omitted). 36 In other words, under the Third Circuit's hypothetical approach, which rested on language in § 365(c)(1) that does not appear in § 365(e)(2)(A), a court must ask whether BPA could refuse to accept performance of the Agreement from any assignee because the Anti-Assignment Act makes the Agreement unassignable as a matter of law. If so, then irrelevant is the fact that the debtor did not actually assign, intend to assign, or attempt to assign the contract, and consequently the executory contract is terminable by its ipso facto provision under § 365(c). See id.; see also RCI Tech. Corp. v. Sunterra Corp. ( In re Sunterra Corp. ), 361 F.3d 257 (4th Cir. 2004) (addressing § 365(c) and copyright law); Catapult, 165 F.3d at 747 (addressing § 365(c) and federal patent law); City of Jamestown v. James Cable Partners, L.P. ( In re James Cable Partners, L.P. ), 27 F.3d 534, 537 (11th Cir.1994) (addressing § 365(c) and a municipal ordinance regarding franchise rights). 37 In contrast, the West dissent believed that Congress did not intend for a `solvent contractor and an insolvent debtor in possession going through bankruptcy' [to be] different entities for the purposes of the [Anti-Assignment Act]. West, 852 F.2d at 84 (Higginbotham, J., dissenting in part) (citation omitted). Likewise, those courts that have rejected West 's hypothetical analysis adopt an actual test to determine a law's applicability under § 365. See Summit Inv. & Dev. Corp. v. Leroux, 69 F.3d 608, 613 (1st Cir.1995); see also Cajun Elec. Members Comm. v. Mabey ( In re Cajun Elec. Power Coop., Inc. ), 230 B.R. 693, 705 (Bankr.M.D.La.1999); In re Lil' Things, Inc., 220 B.R. 583, 587 (Bankr. N.D.Tex.1998); Texaco Inc. v. La. Land & Exploration Co., 136 B.R. 658, 669 (Bankr. M.D.La.1992) (concluding the West hypothetical test is incorrect for three primary reasons); In re Hartec Enters., Inc., 117 B.R. 865, 871 (Bankr.W.D.Tex.1990) (stating that the West hypothetical test does not fulfill the purposes of the non-assignment statutes it seeks to enforce, creates inherent inconsistencies in the language of. . . the Code, and fails to adequately account for amendments to the Code), vacated by settlement, 130 B.R. 929 (W.D.Tex.1991). 38 The actual or as-applied determination of whether a law is applicable under § 365(c) and (e)(2)(A) was first adopted by the First Circuit. Summit Inv., 69 F.3d at 613. The actual test requires on a case-by-case basis a showing that the nondebtor party's contract will actually be assigned or that the nondebtor party will in fact be asked to accept performance from or render performance to a party — including the trustee — other than the party with whom it originally contracted. Id. at 612. The actual test contemplates that in a case where no assignment has taken place, § 365(e)(2)(A)'s exception is not available and, as such, an ipso facto clause is invalidated. See id.; see also Institut Pasteur v. Cambridge Biotech Corp., 104 F.3d 489, 493 (1st Cir.1997), abrogated on other grounds by Hardemon v. City of Boston, 144 F.3d 24 (1st Cir.1998); In re Cardinal Indus. Inc., 116 B.R. 964, 982 (Bankr. S.D.Ohio 1990). 39 Although this Circuit has addressed § 365(c)(1), we have yet to address § 365(e) or to name the test we apply to the determination of whether a nonbankruptcy law applies under either § 365(c)(1) or § 365(e)(2)(A). See Stumpf v. McGee ( In re O'Connor ), 258 F.3d 392, 402 (5th Cir.2001); Pension Benefit Guar. Corp. v. Braniff Airways, Inc. ( In re Braniff Airways, Inc.), 700 F.2d 935, 943 (5th Cir. 1983). Review of this Circuit's law, however, reveals that our adoption today of the actual test, in resolving the availability of § 365(e)(2)(A)'s exception, is consistent with prior caselaw. In O'Connor, a panel of this Court determined that a Louisiana statute regarding partnership was an applicable law under § 365(c) and engaged in an as-applied analysis to determine whether an exception to the general rule applied to the case at hand to permit the assumption of the executory contract. 258 F.3d at 403-04 (concluding that the exception was not applicable and declaring the contract unassumable). In Braniff, a nondebtor objected to the district court's order that authorized the debtor in possession to assign its lease agreements with the United States for use of space at Washington National Airport to a different airline under the version of § 365(c) that existed prior to the 1984 amendment. 700 F.2d at 942. Reversing the district court and prohibiting the assignment of the lease, the panel concluded that the broad language of § 365(c) was not limited in application solely to personal service contracts. Id. at 943. The Braniff court held that the Code of the District of Columbia and a federal regulation enacted pursuant to that Code were applicable law under § 365(c), which prevented the lease's assignment because, in fact, the assignment had been attempted and ordered by the district court and the assignee airline had not been approved to perform by the agency vested with the authority for such approval. Id. at 942-43. Braniff did not address the hypothetical approach; indeed, the split between actual and hypothetical approaches had not yet emerged nor had any court yet approved a hypothetical approach to the determination of whether a law is applicable. Instead, Braniff addressed the language of § 365(c) prior to its amendment in 1984. However, the pre-amendment language of § 365(c) more closely tracks the current language of § 365(e)(2)(A) than it does the current form of § 365(c). 17 Thus, the approach taken in Braniff informs our approach to § 365(e)(2)(A) on this record, even in light of the statutory amendment to § 365(c) and the post-amendment development of a split between the hypothetical and actual tests. 40 The plain text of § 365(e)(2)(A) requires an actual test for determining whether a law is applicable under the exception, permitting enforcement of an ipso facto clause. According to the statute's plain language, an executory contract's ipso facto clause may be enforced if applicable law excuses a [nondebtor] party ... from accepting performance from or rendering performance . . . to an assignee of such contract and that non-debtor party does not consent to such assumption or assignment. 11 U.S.C. § 365(e)(2)(A). Congress might have chosen the exception to apply if any law prohibited the assignment, but instead Congress tethered the exception to applicable law that excuses a party. It is axiomatic that an applicable law must apply to a set of circumstances; BPA creates smoke and erects mirrors when it argues that a contract not assignable as a matter of law, even if no such assignment existed in fact and no excuse existed in fact for the nondebtor party to refuse acceptance or performance in a particular situation, satisfies the language chosen by Congress in drafting the § 365(e)(2)(A) exception. The law that releases a nondebtor from the general rule foreclosing the enforcement of an ipso facto clause must apply to something and must excuse the nondebtor from some specific performance or acceptance, see § 365(e)(2)(A); thus, if the debtor demonstrates that no application exists or that no excuse obtains on a given record, then the congressional language announces such a circumstance is material, making the § 365(e)(2)(A) exception unavailable. The applicability of the law under § 365(e)(2)(A) is determined not in the abstract but on the record at hand. See Cajun Elec., 230 B.R. at 705; Lil' Things, 220 B.R. at 587; Texaco, 136 B.R. at 669; Cardinal Indus., 116 B.R. at 974-75. 41 That applicability is determined based upon the case is supported also by the congressional choice to structure the exception as a two-part test, the second portion of which requires a fact-based showing. See 11 U.S.C. § 365(e)(2)(A)(i)-(ii). Subsection (ii) provides that the § 365(e)(2)(A) exception lies only where such [nondebtor] party does not consent to such assumption or assignment. § 365(e)(2)(A)(ii). The combination of the plain text and the overall structure of the test that must be met in order for the exception to arise communicates that Congress intended § 365(e)(2)(A) to apply to a given factual situation rather than to a class of executory contracts as BPA urges. 42 BPA argues that the use of the adjective such merely refers to the assumption and assignment provided in the preceding subsection and does not demand that Congress intended an actual test would determine the exception's availability. We are not persuaded that standing alone, Congress's use of the adjective such to modify assignment in § 365(e)(2)(A)(ii) mandates the use of an actual test. The modifier such references the assignments provided in the preceding subsection and does not, on its own, require an as-applied approach to the determination of whether a law applies to permit an ipso facto clause's enforcement. However, in combination with the other factors that demand a case-by-case inquiry into whether a nonbankruptcy law applies to permit termination by ipso facto clause, we cannot agree with so broad an analysis as permitted by the entirely theoretical approach countenanced by those courts adopting the hypothetical approach. 43 Finally, the plain text of the law proffered by BPA as applicable here, the Anti-Assignment Act, cuts against the broad application advanced by BPA. In theory, a law of such general applicability might exist to merit application in most if not all circumstances under § 365(e)(2)(A), but the Anti-Assignment Act is, by its own terms, not so broadly applicable. Subsection (a) of the Act provides a general rule for annulment of a public contract upon a transfer by a party other than the United States. 41 U.S.C. § 15(a). Subsection (b), though, limits the application of the general rule, and the limitation applies on the basis of specific facts. The provisions of subsection (a) of this section shall not apply in any case in which the moneys due or to become due from the United States . . . under a contract providing for payments aggregating $1,000 or more, are assigned to a bank, trust company, or other financing institution given other fact-based circumstances. § 15(b) (emphasis added). Both the text of the Anti-Assignment Act and the text of § 365(e)(2)(A) require a case-by-case inquiry into the application of the Act to the executory contract or lease at issue in the bankruptcy proceeding. As such, we hold that with respect to § 365(e)(2)(A) and the Anti-Assignment Act, the actual test must be used to determine the Act's applicability to a given case. 18 When the law to be applied to a § 365(e)(2)(A) determination cannot apply to the case and the record before the bankruptcy court in fact or law, then § 365(e)(2)(A)'s exception cannot give effect to an ipso facto clause.