In re Sanchez Energy Corp.

• Decision Date: 22 July 2022
• Docket Number: 19-34508
• Parties: IN RE: SANCHEZ ENERGY CORPORATION, et al., Debtors.
• Court: U.S. Bankruptcy Court — Southern District of Texas

IN RE: SANCHEZ ENERGY CORPORATION, et al., Debtors.

No. 19-34508

United States Bankruptcy Court, S.D. Texas, Houston Division

July 22, 2022

CHAPTER 11

MEMORANDUM OPINION

MARVIN ISGUR, UNITED STATES BANKRUPTCY JUDGE

In Phase 3 of the Lien-Related Litigation, the Creditor Representative and DIP Lenders alerted the Court to outstanding Phase 1 issues. The Court delayed the evidentiary portion of the Phase 3 hearing to assess these Phase 1 issues, including the definition of "proceeds" in the Final DIP Order and whether the DIP Lenders have liens under Section 10(b) of the Final DIP Order. For the reasons set forth below, the "proceeds" of Avoidance Actions include "property recovered or unencumbered." Neither Sections 10(a) nor 10(c) grant liens on the proceeds of Avoidance Actions. The DIP Lenders do have liens under Section 10(b), but the applicability of those liens to the proceeds of Avoidance Actions cannot be determined unless there is an avoidance under § 550 of the Bankruptcy Code. If there is an avoidance, the value of the Section 10(b) liens, if any, may depend on the Creditor Representative's election of remedies.

BACKGROUND

Prior to the petition date, Sanchez Energy Corporation granted certain Senior Noteholders a first-priority lien on substantially all of its assets, including deeds of trust on the Hausser, Harrison, and Koenning oil and gas leases (the "HHK Leases" and the "Senior Noteholders HHK Liens"). (ECF No. 1847 at 2). Several deeds of trust including those pertaining to the HHK Leases, contain inaccuracies. (ECF No. 1847 at 16). The Senior Noteholders engaged Cinco Energy Management Group to file Correction Affidavits for those deeds of trust in June and July 2019. (ECF No. 1847 at 16-17).

On August 11, 2019, Sanchez and its affiliates filed petitions under chapter 11 of the Bankruptcy Code. (ECF No. 1). Certain Senior Noteholders agreed to provide debtor-in-possession ("DIP") financing (the "DIP Lenders") which the Court approved on January 22, 2020 via the Final DIP Order. (ECF Nos. 865; 1847 at 3). Specifically, the Final DIP Order approves access to "a $200 million superpriority, priming, senior secured delayed-draw term loan credit facility including $150 million in New Money Loans and $50 million in Roll-Up Loans." (ECF Nos. 1486 at 12; 865 at 2).

The Final DIP Order grants the DIP Lenders certain superpriority claims. (ECF No. 865 at 20). Under Section 9(a), "all of the DIP Obligations shall constitute allowed superpriority administrative expense claims against the Loan Parties." (ECF No. 865 at 20). The DIP Obligations are the "DIP loans made to and guarantees issued by the Loan Parties and . . . any Loan Obligations (as defined in the DIP Credit Agreement) of the Loan Parties . . . ." (ECF No. 865 at 10-11). The "Loan Parties" are Sanchez and certain subsidiaries. (See ECF No. 865 at 2).

Section 9(b) states:

Notwithstanding anything in paragraph 9(a) to the contrary (but, for the avoidance of doubt, without limiting the payment priority of the First-Out Obligations), the DIP Superpriority Claims shall have no recourse to the Loan Parties' claims and causes of action under sections 502(d), 544, 545, 547, 548 and 550 of the Bankruptcy Code, or any other avoidance actions (collectively "Avoidance Actions") or the proceeds thereof, except that the DIP Superpriority Claims shall have recourse (subject to paragraph 14 and solely with respect to New Money Loans) to up to fifty percent (50%) of each dollar of the first $100 million of proceeds or property recovered or unencumbered by Avoidance Actions against parties other than the Prepetition Secured Parties (in their capacities as such) (such amount of proceeds or property, the "Available Avoidance Proceeds").

(ECF No. 865 at 21).

Broken into its constituent parts, Paragraph 9(b) establishes that:

• With one exception, the holders of DIP superpriority claims have no recourse to Avoidance Actions;

• The holders of DIP superpriority claims have recourse against 50% of the first $100 million of proceeds or property recovered or unencumbered by Avoidance Actions against parties other than the Senior Noteholders;

• Proceeds or property recovered by Avoidance Actions against parties other than the Senior Noteholders are "Available Avoidance Proceeds"; and

• The DIP superpriority claims are not payable from any portion of the Available Avoidance Proceeds with respect to Roll-Up DIP Obligations.

The Final DIP Order separately grants the DIP Lenders certain liens against property of Sanchez and certain subsidiaries as collateral for the DIP financing (the "DIP Collateral"). (ECF No. 865 at 22). These liens are defined in Sections 10(a), 10(b), and 10(c). (ECF No. 865 at 22).

Section 10(a) identifies the unencumbered property that will secure the DIP Obligations:

Pursuant to section 364(c)(2) of the Bankruptcy Code, a valid, binding, continuing, enforceable, fully-perfected first priority senior security interest in and lien upon all tangible and intangible pre- and postpetition property of each Loan Party, whether existing on the Petition Date or thereafter acquired, that, on or as of the Petition Date, is not subject to either (x) valid, perfected and non-avoidable liens as of the Petition Date, or (y) valid and non-avoidable liens in existence at the time of the Petition Date that are perfected subsequent thereto as permitted by section 546(b) of the Bankruptcy Code (collectively, the "Unencumbered Property"), in each case other than the Avoidance Actions and proceeds thereof (except, with respect to New Money Loans, the Available Avoidance Proceeds).

Broken into its constituent parts, unencumbered property:

• Includes property that, as of the petition date, was not subject to valid, perfected, and non-avoidable liens;

• Includes property that, as of the petition date, was not subject to valid and non-avoidable liens that were perfected subsequent to the petition date as permitted by section 546(b) of the Bankruptcy Code;

• Excludes Avoidance Actions; • Excludes the proceeds of Avoidance Actions.^[1]

In Section 10(b), the Final DIP Order provides a priming lien on certain property that was already secured by certain prepetition liens:

[A] valid, binding, continuing, enforceable, fully-perfected senior priming security interest in and lien upon all tangible and intangible pre- and postpetition property of each Loan Party, whether existing on the Petition Date or thereafter acquired, that secure the obligations of the Loan Parties under the Secured Notes Indenture (the "Primed Liens"), provided that such DIP Liens shall be junior to (i) the First-Out Obligations, (ii) valid and perfected Permitted Liens that were senior to the Prepetition Liens as of the Petition Date, and (iii) valid and non-avoidable liens in existence at the time of the Petition Date that are perfected subsequent thereto as permitted by Section 546(b) of the Bankruptcy Code.

(ECF No. 865 at 23). The Secured Notes Indenture is the agreement by which the Senior Noteholders acquired the Senior Noteholder HHK Liens. (ECF Nos. 865 at 3-4; 1486 at 9). The DIP Lenders have Section 10(b) liens on property over which the Senior Noteholders had prepetition liens pursuant to the Senior Notes Indenture. (ECF No. 865 at 23). Section 10(b) liens contain no qualifications with respect to Avoidance Actions.^[2] (ECF No. 865 at 23).

The Court confirmed the Sanchez chapter 11 plan of reorganization on April 30, 2020. (ECF No. 1212). The plan establishes "Lien-Related Litigation"^[3] in order to resolve disputes between the DIP Lenders, Senior Noteholders, and unsecured creditors regarding certain challenged leases. Unsecured creditors were permitted to select a “Lien-Related Litigation Creditor Representative.” (ECF No. 1212 at 36). The plan grants that Creditor Representative “standing to pursue, prosecute, and sole authority to settle all Causes of Action referenced and asserted in the Lien Challenge Complaint . . . .” ^[4] (ECF No. 1212 at 53). Article IV.D of the plan outlines the three phases of the Lien-Related Litigation:

Phase 1: The parties to the Lien-Related Litigation shall seek a final hearing date . . . to determine the interpretation of the Final DIP Order. . . .

Phase 2: If the Bankruptcy Court determines that any additional Lien-Related Litigation is necessary in light of the determinations in Phase 1, other than as to the valuation of Causes of Action, the relevant parties shall seek a hearing for determination of such additional issues . . . .

Phase 3: If the Bankruptcy Court determines that the valuation of any Causes of Action are necessary as part of any Lien-Related Litigation in light of Phases 1 and 2, the relevant parties may seek a hearing for determination of such additional issues after the Bankruptcy Court's determination of issues presented in Phases 1 and 2. . . .

(ECF No. 1212 at 50). In Phase 1, the parties submitted questions of law seeking interpretations of the Final DIP Order. The Court addressed these questions on August 14, 2020. (ECF No. 1599). Among other things, the Court determined that (i) the proceeds of Avoidance Actions "remain in the Creditor Representative's bundle of rights" so long as they are traceable and (ii) the DIP Lenders gave up their rights to the Avoidance Actions except when an Avoidance Action is against parties other than the Senior Noteholders. (ECF No. 1599 at 5). The Court did not precisely address the meaning of "proceeds" in Sections 9 and 10 in the Phase 1 hearing. (See ECF No. 1599).

In Phase 2, the parties litigated the existence, validity perfection, and avoidance of liens on certain challenged leases. The Court ruled that the Senior Noteholders HHK Liens are avoidable. (ECF No. 1847 at 38). ...