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Oil and Gas Restructuring and Bankruptcy:
Leases, Treatment of JOAs, Lien Rights and
Priorities, DIP Financing
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THURSDAY, NOVEMBER 12, 2020
Presenting a live 90-minute webinar with interactive Q&A
John D. Beck, Counsel, Hogan Lovells US, New York &
Houston
Daniel F. Crowley, III, Director, Houlihan Lokey, New York
David W. Locascio, Partner, Hogan Lovells US, Houston
Richard L. Wynne, Partner, Hogan Lovells US, Los Angeles &
New York
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Oil and Gas Restructuring and Bankruptcy
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• E&P Trends and Market Observations
• Oil and Gas Bankruptcy and Restructuring: Strategic
Overview
• Venue Issues
• Debtor in Possession Financing for E&P Companies
• Distressed Oil and Gas M&A Issues
• Special Issues: Treatment of Gathering/ Processing
Agreements
• Special Issues: Treatment of Joint Operating Agreements,
Leases, and Liens
Oil and Gas Bankruptcy and Restructuring
Hogan Lovells | 6
-
E&P Trends & Market Observations
-
Houlihan Lokey | 8
Oil & Gas Prices
HH | Historical vs Strip ($/mmbtu)WTI | Historical vs Strip
($/bbl)
Source: Bloomberg, EIA
Note: Market pricing as of 10/27/20; reflects monthly
averages
$-
$25
$50
$75
$100
$125
2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025
Historical Spot 1/1/2020 Strip 10/27/2020 Strip
$1.00
$2.20
$3.40
$4.60
$5.80
$7.00
2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025
Historical Spot 1/1/2020 Strip 10/27/2020 Strip
-
Houlihan Lokey | 9
Equity Market
Exhibit C | XOP Performance Relative to S&P 500
(Indexed)Exhibit B | Energy as % of S&P 500
Exhibit A | U.S. Upstream Initial Public Offerings (1)
-
$1.0
$2.0
$3.0
$4.0
Q1
Q2
Q3
Q4
Q1
Q2
Q3
Q4
Q1
Q2
Q3
Q4
Q1
Q2
Q3
Q4
Q1
Q2
Q3
Q4
Q1
Q2
Q3
Q4
Q1
Q2
Q3
2014 2015 2016 2017 2018 2019 2020
Gro
ss P
roceeds (
$bn)
E&P
SPAC
Minerals
0.0%
3.0%
6.0%
9.0%
12.0%
15.0%
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
-
25%
50%
75%
100%
125%
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
Source: PLS, Bloomberg as of 10/27/2020; (1) Excludes IPOs
-
Houlihan Lokey | 10
High Yield Market
Activity Since 2014
Source: PLS, Bloomberg as of 10/27/2020
Note: Excludes investment grade bond issuances and high-yield
issuances
-
Houlihan Lokey | 11
RBL Redetermination Trends | Spring ’20 vs. Fall ‘19
Gas WeightedOil Weighted
(1) Lonestar borrowing based lowered by an additional 21% in
connection with July 2020 forbearance agreement
(2) Average and Median calculations are based on the effective
Borrowing Base inclusive of future step downs
(16%)
(20%)
(0%)
(0%)
(4%)
(5%)
(8%)
(11%)
(14%)
(17%)
(19%)
(20%)
(35%)
(36%)
(37%)
(42%)
(45%) (40%) (35%) (30%) (25%) (20%) (15%) (10%) (5%) 0%
GAS - WEIGHTED MEDIAN
GAS - WEIGHTED AVERAGE
Cabot
Range Resources
Goodrich
Montage Resources
Ascent Utica
Comstock Resources
Southwestern Energy
CNX Resources
PDC Energy
SilverBow Resources
Diversified Gas & Oil
Panhandle
Antero Resources
Gulfport Energy
% Increase / (Decrease) of BB Additional Step-Down % Additional
Step-Down 2 %
(23%)
(30%)
(42%)
(48%)
(54%)
(30%)
(28%)
(0%)
(0%)
(0%)
(1%)
(6%)
(12%)
(14%)
(14%)
(15%)
(18%)
(18%)
(28%)
(31%)
(31%)
(32%)
(32%)
(42%)
(46%)
(48%)
(50%)
(60%)
(67%)
(70%) (60%) (50%) (40%) (30%) (20%) (10%) 0%
OIL - WEIGHTED MEDIAN (2)
OIL - WEIGHTED AVERAGE (2)
Matador Resources
Parsley Energy
WPX
Lonestar Resources (1)
Kosmos Energy
Ring Energy
Talos Energy Inc
W&T Offshore
Earthstone
Magnolia Oil and Gas
Northern Oil and Gas
Battalion Oil
Laredo Petroleum
Penn Virginia
Bonanza Creek
SM Energy
Extraction Oil & Gas
Callon Petroleum
Centennial Resource Development
Amplify Energy
Chaparral Energy
California Resources
Contango
HighPoint Resources
Oasis Petroleum
Berry Petroleum
SandRidge Energy
% Increase / (Decrease) of BB Additional Step-Down % Additional
Step-Down 2 %
-
Houlihan Lokey | 12
M&A&D Activity
Exhibit B | M&A Activity (1,2)
Exhibit A | A&D Activity (1)
Source: PLS; (1) Excludes deals
-
Houlihan Lokey | 13
M&A vs. A&D Activity
Aggregate Deal Value (1,2)
Source: PLS; (1) Excludes deals
-
Houlihan Lokey | 14
Enterprise Value Correlations
Exhibit C | Multiple vs. Production GrowthExhibit B | Multiple
vs. Debt Capitalization (1)
Exhibit A | Multiple vs. Enterprise Value
Source: Capital IQ as of 10/20/20; Note: Based on 60 U.S. and
Canadian public E&Ps with >$50mm market cap and analyst
estimates of production and EBITDA through FY22; Note:
Exhibit A bubble size based on enterprise value; (1) Book value
of debt utilized
R² = 0.63
3.0x
4.0x
5.0x
6.0x
7.0x
$0 $5 $10 $15 $20 $25
2021E
EV
/ E
BIT
DA
Enterprise Value ($bn)
R² = 0.16
3.0x
4.0x
5.0x
6.0x
7.0x
0% 20% 40% 60% 80% 100%
2021E
EV
/ E
BIT
DA
Debt to Enterprise Value
R² = 0.02
3.0x
4.0x
5.0x
6.0x
7.0x
-10.0% -5.0% 0.0% 5.0% 10.0%
2021E
EV
/ E
BIT
DA
Production Growth (2021-2022)
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Oil and Gas Bankruptcy and Restructuring: Strategic Overview
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Hogan Lovells | 16
• Oil and gas is the archetypical boom and bust industry, and
now seems to be in a prolonged challenging period.
• As shown by Dan Crowley, there have been huge, historic price
gyrations, including going negative on April 20, 2020.
Strategic Overview
-
Hogan Lovells | 17
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Hogan Lovells | 18
• What are we seeing with trends– how many producers have filed,
and what are the strategies behind the recent filings?
• In particular, what are the pro’s and cons of filing for
Chapter 11 versus out of court workouts and consensual
restructurings?
• What are the panel’s predictions for future restructuring
trends?
Strategic Overview
-
| 19
Key Deal Themes
“The addition of Parsley’s high-quality assets
enhances Pioneer’s investment framework by
improving our free cash flow profile and
strengthening our ability to return capital to
shareholders.” – Pioneer, October 20, 2020
”“The combined company… will benefit from
enhanced scale, improved margins, higher free
cash flow and the financial strength to
accelerate the return of cash to shareholders
through an industry-first “fixed plus
variable” dividend strategy.” – Devon
Energy, September 28, 2020
“
”
“Hancock Whitney Corporation today
announced it has agreed to sell $497
million of energy loans to certain funds and
accounts managed by Oaktree Capital
Management, L.P.” – Hancock Whitney, July
17, 2020
”“Morgan Stanley today announced a new
commitment to reach net-zero financed
emissions by 2050.” – Morgan Stanley,
September 21, 2020
“
”
“ ““The company will target an average reinvestment level of
less than 70 percent of cash from operations to ensure sufficient
free cash flow generation to fund compelling
returns of capital to shareholders.” –
ConocoPhillips, October 19, 2020
”“And this is worth mentioning again, with any
pricing windfall, we will be extremely
disciplined with our capital programs and
limit growth in any given year to no more
than 5%.” – Richard Muncrief, CEO of WPX
Energy, September 28, 2020
“
”
“
Houlihan Lokey
-
| 20Hogan Lovells
MONTANA2
NORTH DAKOTA2
WYOMING4
CALIFORNIA7
NEVADA1
TEXAS269
COLORADO17
UTAH4
LOUISIANA32
NEBRASKA1
KANSAS3
NEW YORK24
GEORGIA1
ALABAMA2
MISSISSIPPI2
NO. CAROLINA1
ARIZONA3
DELAWARE64
NEW JERSEY1
OKLAHOMA15
MASSACHUSETTS1
MINNESOTA2
TENNESSEE1
PENNSYLVANIA11
VIRGINIA1
W. VIRGINIA2
OHIO6
MICHIGAN3
NEW MEXICO6
ALASKA3
SECTOR BREAKDOWN
E&P: 230
Oilfield Services: 233
Midstream: 31
KENTUCKY3
2015 – 2020 U.S. Oil & Gas Bankruptcy Filings By State
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Hogan Lovells | 21
• What can we determine from this data?
• First, its an enormous amount of the large and medium sized
Chapter 11 cases nationwide
• 494 total Chapter 11 cases, with about $300 billion in
debt
• Relatively few midstream companies- 31 with $20 billion in
debt
• Almost evenly split between E&P and oilfield services,
• 230 E&P versus 233 oilfield services companies
• $175 billion in E&P debt versus $100 billion for oilfield
service companies
The New Normal
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Hogan Lovells | 22
• Pro’s and cons of Chapter 11 cases versus out of court
workouts
• Chapter 11 is best for complex, multi-party, multi-dispute
cases where the underlying business is sound, but has a balance
sheet problem, or operational problems that are fixable
• It is also a necessary measuring tool or yardstick for out of
court workouts, and to force holdouts to consent to a deal or have
one imposed by the court
Strategic Overview
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Hogan Lovells | 23
• Management remains in control [usually]
• All creditor actions stayed, and usually consolidated into one
forum
• Company chooses the forum, can select most favorable option
for legal and strategic reasons
• Company obtains new powers as a pseudo-bankruptcy trustee
• Company obtains the ability to delever the balance sheet, by
court order if can’t obtain consent, full or partial debt/equity
conversions are common, and can eliminate or reduce expensive
debt
Strategic Overview: Chapter 11 Pros
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Hogan Lovells | 24
• Can obtain a breathing spell, has 120 day “Exclusive” period
to file a restructuring/reorganization plan, which can be
extended
• Can obtain new senior DIP credit
• Can eliminate contractual or contingent liabilities that are a
significant future drag-lease by lease, contract by contract
decisions to assume/reject/abandon
• Can create new management and employee incentive plans
• Can remove the pressure to sell assets at below market prices,
or obtain debt at above market cost
Strategic Overview: Chapter 11 Pros (cont.)
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Hogan Lovells | 25
• The company and its future control is effectively “In
Play”
• Unless it’s a pre-pack or pre-arranged, final outcome is
uncertain
• Bankruptcy court control is extensive and rulings often not
appealable-either legally or practically
• Interaction of Ch. 11 required timelines, and volatile pricing
environment can result in significant valuation changes, for better
or worse
• Very expensive process-have to pay own professionals--lawyers,
financial advisors—as well as lender and creditor committee
professionals
• It is a fishbowl, everything normally becomes public
• DIP lenders (if needed for liquidity) can obtain significant
rights of control and can force the sale of assets/whole
company
Strategic Overview: Chapter 11 Cons
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Hogan Lovells | 26
Strategic Overview: Near Term Predictions
-
Hogan Lovells | 27
• Impact of next fall borrowing base Redeterminations? 15% drop
or more
• Hedging
• Switch from debt to equity based financing structures
• Reserve based borrowing- what will be the new normal?
Strategic Overview: Near Term Predictions
-
Hogan Lovells | 28
• Higher pricing
• Tighter covenants/smaller new debt baskets, tighter cash
controls and possible sweeps
• Restrictions on CapEx
• Redefined value-will PUD’s be included in the borrowing
bases?
• Higher and more stringent hedging requirements
Reserve Based Lending Predictions for E&P Companies
-
Venue Issues
-
• Over the last five years more and more oil and gas debtors
filing their Chapter 11 proceedings in Texas as opposed to the more
traditional venues in Delaware and New York.
• Why? Comfort is the easy answer, but it’s a combination of
legal and strategic issues
• There are fundamentally different legal regimes in various
states as to how they treat oil and gas leases, royalty agreements
or interests, gathering agreements and even typical trade credit
agreements with service providers
Venue Issues
Hogan Lovells | 30
-
MONTANA2
NORTH DAKOTA2
WYOMING4
CALIFORNIA7
NEVADA1
TEXAS269
COLORADO17
UTAH4
LOUISIANA32
NEBRASKA1
KANSAS3
NEW YORK24
GEORGIA1
ALABAMA2
MISSISSIPPI2
NO. CAROLINA1
ARIZONA3
DELAWARE64
NEW JERSEY1
OKLAHOMA15
MASSACHUSETTS1
MINNESOTA2
TENNESSEE1
PENNSYLVANIA11
VIRGINIA1
W. VIRGINIA2
OHIO6
MICHIGAN3
NEW MEXICO6
ALASKA3
SECTOR BREAKDOWN
E&P: 230
Oilfield Services: 233
Midstream: 31
KENTUCKY3
2015 – 2020 U.S. Oil & Gas Bankruptcy Filings By State
Hogan Lovells | 31
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Hogan Lovells | 32
• Many of the players involved in oil and gas cases are located
in or near Texas, and there is a well developed body of oil and gas
law in Texas, along with experienced professionals
• Many of the issues related to oil and gas deal with state and
local laws. Local bankruptcy courts have extensive experience with
these issues
• Certainty. The Houston bankruptcy courts adopted a local rule
where only two judges are assigned all of the large chapter 11
cases
• Another contributing factor is Judge Chapman’s ruling in In re
Sabine (discussed later in the presentation) and likely Judge
Sontchi’s recent ruling in Extraction Oil that some gathering
agreements did not create covenants running with the land and thus
were executory contracts that could be rejected
Venue Issues (cont.)
-
Debtor in Possession Financing for E&P Companies
-
Hogan Lovells | 34
• A Debtor with sufficient cash on hand can operate in
bankruptcy by using its cash collateral if authorized by the
bankruptcy court
• But the debtor may require additional credit through
debtor-in-possession financing (“DIP Financing”), with special
incentives and protections for the DIP Financing lender
• Cash starved or highly leveraged E&P companies may only
have DIP Financing as an option, due to Lender’s concerns about
making loans to them without the extra protections that can be
offered in a Chapter 11 Case
• Cash collateral orders and debtor-in-possession financing
orders set forth the terms, protections and provisions of such use
of cash collateral and DIP Financing
DIP Financing Overview
-
Hogan Lovells | 35
• DIP Financing under Section 364 of the Bankruptcy Code
contemplates additional “new money” advances not otherwise
available to the debtor
• This “new money” can be made available by the debtor’s
pre-petition lender or from a new lender who begins lending money
to the debtor after the commencement of the case
• If the debtor is unable to find a lender willing to extend
unsecured credit allowable as an administrative expense, Section
364(c) authorizes the court, after notice and a hearing, to grant
to such lender:
– a super-priority administrative claim (having priority over
all other administrative expenses);
– a lien on property of the estate that is not otherwise subject
to a lien;
– or a junior lien on property of the estate that is subject to
a lien.
DIP Financing Overview (cont.)
-
Hogan Lovells | 36
• Priming of pre-petition liens is allowed under Section 364(d)
of the Bankruptcy Code if:
– Debtor is unable to obtain needed credit otherwise
– Adequate protection is provided to the holder of the
preexisting lien for the interest on the property of the estate
which the priming lien or equal lien is granted
– True priming liens are rarely granted because of the
difficulty of providing adequate protection for the lien being
primed
– At times allowed if sufficient “equity cushion” to the primed
lienholder only where such equity cushion is sufficient to protect
both the pre-petition lender and the DIP lender
DIP Financing Overview (cont.)
-
• A DIP lender can impose significant control over the debtors’
bankruptcy case by including in the DIP credit agreement milestones
and other covenants requiring the debtor to take certain actions,
and within certain time periods, or risk defaulting under the DIP
credit agreement and the DIP lender taking enforcement action
against the collateral.
• Common controls include:
– Access to extensive financial and operational reporting
– Budgetary requirements
– Ability to review the Debtors’ court filings in advance
– Milestones for important bankruptcy events (e.g., confirmation
of a plan)
– Requirement to run a sale process and a consent right over the
bidding procedures
– Seek releases of claims against the DIP lender (incl. in
capacity as a prepetition lenders)
DIP Financing - Strategic DIP Actions
Hogan Lovells | 37
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Hogan Lovells | 38
• Roll-up
– Many courts will allow a portion of prepetition debt to be
refinanced by and “rolled-up” into the post-petition DIP Facility,
providing the prepetition debt all the protection of a DIP
Facility
• Credit bidding-Loan to Own
– The DIP obligations may be credit bid against a purchase of
the assets conversion to exit facility or equity
• Equity Sweeteners or Exit Facility Conversion Rights
– The DIP Facility may provide preferential rights to purchase
equity or participate in an equity offering
– The DIP Facility can be converted into an exit facility or
converted to equity in the reorganized company
DIP Financing - Strategic DIP Actions (cont.)
-
Hogan Lovells | 39
Due to the nature of the collateral, DIP financing for E&P
companies differs from traditional Chapter 11 DIP financing
DIP Financing – E&P
-
Hogan Lovells | 40
• With reserve-based lending, the collateral is based on the
value of the reserves and repayment comes from the production
proceeds
• Unlike traditional financing, an E&P company’s assets are
constantly changing. Here are a few examples:
– Borrower may have an interest in a lease to a certain depth
and later acquire interests at other depths
– The mortgage may be limited to certain depths
– Borrower may enter into a farmout agreement and earn
acreage
– Borrower’s leasehold interest may expire as to certain
acreage
DIP Financing – E&P (cont.)
-
Hogan Lovells | 41
The goal for DIP financing is to have as lean a budget as
possible; just enough to cover existing operating expenses
DIP Financing – Budgets
-
Hogan Lovells | 42
• When does it make sense to budget for new drilling
activity?
– Valuable leases sometimes have continuous drilling obligations
that require new drilling
– The debtor may be a party to a farm-in agreement. The value of
maintaining that contract may be worth the capital spend on
drilling new wells
DIP Financing (cont.)
-
Hogan Lovells | 43
• In 2018, Gastar Exploration Inc. sought approval of a DIP
facility that included a make whole premium that was payable in the
event of the DIP facility was repaid prior to its maturity, other
than repayment with proceeds of an asset sale or pursuant to an
acceptable plan
DIP Financing - Other Trends in E&P
-
Distressed Oil and Gas M&A Issues
-
• Section 363. As an introductory matter, when people talk about
asset sales in bankruptcy, they usually refer to “Section 363
sales.” This is because Section 363(b) of the Bankruptcy Code is
the Bankruptcy Code section that permits Debtors to sell assets out
of the ordinary course.
– Specifically, Section 363(b) states as follows: “The trustee
[or debtor in possession] after notice and a hearing, may use,
sell, or lease other than in the ordinary course of business,
property of the estate.”
• Sound Business Purpose. A “sound business purpose” is required
for a bankruptcy court to authorize the sale of all the debtor’s
assets under Bankruptcy Code section 363, and can be broken down
into several components:
– sound business reason;
– accurate and reasonable notice;
– adequate price; and
– good faith (e.g., sufficient efforts made to solicit several
offers).
• The Key is Court Approval. The key phrase in this provision is
“after notice and a hearing.”
– The fact that a court ultimately blesses every part of the
sale – the procedures, the process, the Debtors’ business judgment,
the Buyer’s good faith, the sale “free and clear,” etc. – is what
makes this type of sale the cleanest from a buyer and seller’s
perspective, even though it is potentially more costly and time
consuming than an out-of-court transaction.
– Because the sale is done on notice to all parties in interest,
they will have an opportunity to object and be heard by the court.
As a result, potential problems with the sale and the process are
raised before the sale is consummated and they can be addressed and
hopefully resolved through negotiation or, if appropriate,
overruled by the court on an expedited basis.
The most common type of Distressed M&A Transaction is the
Section 363 Sale of Assets
In-Court Transactions: Sale of Assets
Hogan Lovells | 45
-
There are five primary reasons to consummate distressed asset
sales via Section 363 Sales: Free and Clear; Fiduciary Duty;
Finality; (Good) Faith; and, Freedom to Reject Contracts/Leases
1. Free and Clear. Any sale, as approved by the Court through
the entry of a Court Order, will typically include language in the
Court Order approving the sale saying that the sale is “Free and
Clear” of any liens, encumbrances, etc., which gives comfort to the
buyer.
– Section 363(f). “The trustee may sell property under section
(b) or (c) of this section free and clear of any interest in such
property of an entity other than the estate, only if –
(1) applicable nonbankruptcy law permits sale of such property
free and clear of such interest;
(2) such entity consents;
(3) such interest is a lien and the price at which such property
is to be sold is greater than the aggregate value of all liens
on such property;
(4) such interest is in bona fide dispute; or
(5) such entity could be compelled, in a legal or equitable
proceeding, to accept a money satisfaction of such interest.
THE FIVE “Fs”
In-Court Transactions: Sale of Assets – Why Do It?
Hogan Lovells | 46
-
2. Fiduciary Duty. The Seller’s Board will run a sale/marketing
process that is pre-approved by the Court after notice and a
hearing, and so long as the Seller conducts itself in accordance
with such procedures, its Board should be protected in acting in
accordance with its fiduciary duties to maximize value for its
stakeholders. Given that the Board is essentially a lame duck after
the sale, this blessing is very important and Board members will
focus on it.
3. Finality. Any sale will require Court approval (after notice
and a hearing), meaning that, other than any appeals, the Buyer and
Seller should not be subject to later litigation/second guessing.
This is important because out-of-court sales carry potential
litigation risk, including fraudulent conveyance. The Court’s
approval of the sale will be memorialized in a written sale order
signed by the Court setting forth the various important protections
of the sale including the FREE & CLEAR language. While
“successor liability” risk is not eliminated, it is substantially
reduced.
THE FIVE “Fs” (continued)
In-Court Transactions: Sale of Assets – Why Do It? (cont.)
Hogan Lovells | 47
-
4. (Good) Faith. Any sale order will typically include a
provision finding the Buyer is acting in “good faith” under Section
363(m).
– Section 363(m). “The reversal or modification on appeal of an
authorization under subsection (b) or (c) of this section of a sale
or lease of property does not affect the validity of a sale or
lease under such authorization to an entity that purchased or
leased such property in good faith, whether or not such entity knew
of the pendency of the appeal, unless such authorization and such
sale or lease were stayed pending appeal.”
5. Freedom to Reject Contracts. Because the Seller is in Chapter
11, it can reject contracts it no longer wants (or that the Buyer
doesn’t want when it buys the assets). The Buyer should also be
able to assume any of the Debtors’ contracts so long as there is no
specific Bankruptcy Code prohibition and the Buyer can show
adequate assurance of future performance (i.e., that it has the
financial wherewithal to both pay any “cure” amounts and perform
the contract on a go-forward basis).
THE FIVE “Fs” (continued)
In-Court Transactions: Sale of Assets – Why Do It? (cont.)
Hogan Lovells | 48
-
• Maximizing Value. In order for a Debtor to sell its assets
pursuant to Section 363, it must show that such sale “maximizes
value” for its stakeholders. This concept can depend on timing of
sale, consideration paid by buyer, assurance of consummation of
Buyer, etc. In other words, it does not always mean the price paid
by the winning bidder in the auction process is the highest
amount.
• Court Approval of Procedures. The best way to ensure that the
Debtors can make such a showing is to have the Court bless not just
the final sale, but pre-approve the process of marketing and
selling the assets. Therefore, the Debtors will seek approval of
their “bidding procedures” and “auction process,” before or at
around the time they begin their process.
• Stalking Horse. If the Debtors have a “Stalking Horse,” the
Debtors will likely ask the Court to approve the Stalking Horse as
the “bid to bid against,” and seek approval of the Stalking Horse’s
break-up fee, payment of expenses, and bid protections/approved
procedures (which will have been previously negotiated with the
“Stalking Horse”).
• Naked Auctions. If the Debtors are running a process without a
“Stalking Horse” – a so called “naked auction” – the Debtors will
ask the Court to bless their whole process, from marketing to
possible selection of a stalking horse (including, potentially,
pre-approval of a termination fee, expense reimbursement, bid
protections, etc., to any potential stalking horse) to auction to
sale hearing.
In either case, getting Court approval of these procedures helps
to ensure that the ultimate sale order will contain the necessary
provisions to provide comfort to the buyer and seller.
In-Court Transactions: Sale of Assets - Process
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At some level, every plan of reorganization that envisions a
“conversion” of debt to equity in the reorganized company is, in
effect, a “sale of equity” to the creditors.
• “Sales of Equity” means actual “sales” that are not simply
conversions of prepetition debt to equity under a plan of
reorganization. In such a transaction, the Debtor’s prepetition
common stock would be extinguished under a plan of reorganization
and new common stock would be authorized and issued to the buyer.
The new common stock would not be subject to pre-existing
liabilities discharged under the plan of reorganization.
• Sometimes, companies in Chapter 11 will propose a plan of
reorganization that converts debt to equity (as noted in previous
bullet) but will also permit parties to bid on such equity if they
are willing to pay more for it than the estimated recovery for such
debt converting to equity (i.e., based on the Debtor’s stated
enterprise value under the plan). This is called a “plan sponsor”
auction, and is fairly uncommon. However, if the Debtor does engage
in such an auction, it usually occurs pursuant to the same
procedures used with regard to Sales of Assets and will require
court approval. This may be used as a tool to elude a secured
creditor’s “credit bidding” rights in the context of a sale of
assets that constitute the creditor’s collateral.
In-Court Transactions: Sale of Equity – Plans and Plan Sponsors,
Generally
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Example One: No Stalking Horse (bid procedures approved before
marketing)
In-Court Transactions: Sample Timelines
Day 1: File motion to approve bid procedures
Day 21: Receive approval of bid procedures
Day 21-90: Diligence by potential bidders/ bidders formulate
bids (usually includes interim deadline for submission of
non-binding indications of interest, diligence sessions with
management for bidders that submit such proposals, etc.
Day 91: Deadline to submit binding bids
Day 93: Debtor selects a lead bidder (potentially providing
“stalking horse” benefits and protections)
Day 95: Auction
Day 97: Sale Hearing
Day 100+ Consummation of Sale
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Example Two: Stalking Horse (bid procedures approved after
Company negotiates Stalking Horse Agreement)
In-Court Transactions: Sample Timelines (cont.)
Day 1: Debtor files motion seeking approval of Stalking Horse
bid, break-up fee, expense reimbursement, and bid procedures
Day 21: Receive approval of motion, including bid procedures and
timing*
Day 21-60:** Diligence by potential competing bidders/ competing
bidders formulate bids (usually this period is less than the period
in a “Naked Auction” because Stalking Horse will not want process
to go too long and such a shorter time period is defensible because
presumably Debtor has been in discussions with Stalking Horse for a
period of time)
Day 61: Deadline to submit competing bids
Day 63: Debtor selects a lead bidder
Day 65: Auction
Day 67: Sale Hearing
Day 70+ Consummation of Sale
*The Debtor usually agrees to a no shop in the definitive
agreement with the Stalking Horse until the bid procedures and
buyer protections (break-up fee and expense reimbursement) are
approved by the Court.**The Length of this period may depend on the
extent of any pre-bankruptcy marketing process as well as exigent
circumstances that may compel a faster process (i.e., a “melting
ice cube”.)
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• Break-up Fee and/or Expense Reimbursement to Stalking Horse
Bidder
– Market rate? When paid? How triggered?
• Period During Which Process is Open to Other Bidders
• Forms of Consideration
– Cash, debt, equity, credit bidding
• Consolidating Bids for Different Assets
• Qualifying Bidder Criteria
– Financial wherewithal, deposit, no diligence or financing
outs
• Minimum Overbid
• Running the Auction
– Bid increments, announcement of lead bid
• Back-up Bidders?
– How long required to stand by?
• Attendees at Auction/too much noise?
• Role And Consultation rights of Official Creditors Committee,
DIP Lenders and Other Significant Parties in Interest
• What constitutes “highest and best”?
– Factors – timing of closing commitments, ability to close,
form of consideration, assumption of liabilities, treatment of
employees, regulatory risks (antitrust, CFIUS), etc.
• General “Fiduciary Duty/Fiduciary Out” for Debtors to Change
Procedures
In-Court Transactions: Bid Procedures Issues
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• Concept. Secured creditor bids some amount of secured debt it
holds in an auction. Amount (value) of bid is equal to the face
amount of the debt that is bid, regardless of what the secured
creditor paid for debt (i.e., if creditor paid 50 cents on the
dollar to own the debt, it still is permitted to bid the full par
claim).
– Section 363(k): At a sale under subsection (b) of this section
of property that is subject to a lien that secures an allowed
claim, unless the court for cause orders otherwise the holder of
such claim may bid at such sale, and, if the holder of such claim
purchases such property, such holder may offset such claim against
the purchase price of such property.
• Strategy. Credit bidding is a strategy sometimes used by
opportunistic “loan to own” lenders, and has become more popular
recently. It also is often a defensive strategy to prevent below
market value sales of a secured creditor’s collateral. It is
sometimes combined with a credit bidder being the Debtors’ Chapter
11 DIP Financing Lender to ensure as much control of process as
possible.
• Limitations/Pitfalls. In recent years, there have been a spate
of cases addressing the limits and applicability of credit bidding
in various factual scenarios. The United States Supreme Court – in
a unanimous one-page decision in RadLAX Gateway Hotel v.
Amalgamated Bank -- reaffirmed the ability of secured creditors to
credit bid in the sale of their collateral pursuant to a plan under
Section 363(k) . But courts have found that the right to credit bid
is not unqualified.
– The secured creditor cannot credit bid for assets that are not
its collateral
– Avoid acting in bad faith, collusion or trying to rush or
compromise the sale process
– See Fisker Automotive, Free-Lance Star, Aeropostale (credit
bidding limited to amount paid for debt)
In-Court Transactions: Credit Bidding
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I am thinking about buying some oil and gas assets out of
bankruptcy, but they have a lot of existing environmental and
plugging and abandonment liability related to them.
Chapter 11 Sales: Purchasing Distressed Oil and Gas Assets
(cont.)
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Special Issues: Treatment of
Gathering/ Processing
Agreements
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• Gathering/processing agreements (including obligations
therein) may be characterized as covenants running with the land
(or equitable servitudes) or, alternatively, as executory contracts
that are subject to rejection.
• Key Issues:
– Ability to reject under Bankruptcy Code section 365
– Ability to sell estate property free and clear of such
interests under Bankruptcy Code section 363
Treatment of Gathering / Processing Agreements
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• Characterization depends on state law
definitions/interpretation
• If rejection is permitted:
– Considerations of leverage in negotiating new
gathering/processing arrangements
– Issues relating to the calculation of damage claims:
– Claim calculations may be subject to dispute
– Claims may be subject to cap under Bankruptcy Code section
502(b)(6)
– Section 502(b)(6) caps the amount a party may claim as a
result of the debtor's rejection of the lease in order to prevent
that party's damage claim from becoming so large it prevents other
unsecured creditors from recovering
Treatment of Gathering / Processing Agreements (cont.)
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• Debtor sought to reject an unfavorable gas gathering and
dedication agreement governed by Texas law. The contract stated it
was binding on successors and assigns and that it constituted a
covenant running with land.
• Counterparty objected, claiming that contracts constituted (or
contained) covenants running with land (property interests) that
could not be rejected or expunged without adversary proceeding.
• Judge Chapman granted motion to reject as exercise of
reasonable business judgment but stopped short of ruling that the
dedications were not covenants running with the land because of
procedural posture.
In re Sabine Oil & Gas Corp. (Bankr. S.D.N.Y. 2016)
Treatment of Gathering / Processing Agreements (cont.)
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• Court indicated evidence suggested the dedication was not a
covenant running with land.
– There are 5 factors a contract must satisfy in order to be a
covenant running with the land: privity of estate; the covenant
must touch and concern the land; the covenant must relate to a
thing in existence or specifically bind the parties and their
assigns; the parties must intend the covenant to run with the land;
and, the successor to the burden must have notice.
• The scope of this ruling is not all-encompassing.
– The issue concerning the treatment of the dedication
provisions—and specifically whether they are conveyances running
with the land—is a fact-intensive determination that may vary
considerably from case to case.
– The state law of the location of the wells and the governing
law of the contracts will also drive certain differences in the
analyses - all of the Sabine contracts were subject to Texas
law.
• The holdings in In re Sabine were affirmed by the 2nd
Circuit.
In re Sabine Oil & Gas Corp. (Bankr. S.D.N.Y. 2016)
Treatment of Gathering / Processing Agreements (cont.)
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– Sabine has been disagreed with by:
– Bankruptcy Court for the District of Colorado (2019)
– Midlands Midstream, LLC v. Badlands Energy, Inc. (In re
Badlands Energy, Inc.), 608 B.R. 854, 875–76 (Bankr. D. Colo.
2019).
– Bankruptcy Court Southern District of Texas (2019)
– In re Alta Mesa Res., Inc., 613 B.R. 90, 99 (Bankr. S.D. Tex.
2019)
– Badlands and Alta Mesa each found that the agreements at issue
created valid real property covenants under applicable state law
and were thus not executory contracts that could be rejected in
bankruptcy.
Treatment of Gathering / Processing Agreements (cont.)
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• On October 14, 2020, the Honorable Christopher Sontchi, issued
an opinion in the Extraction Oil and Gas bankruptcy case relying on
Sabine and finding that certain oil, gas and water gathering
agreements did not create covenants running with the land under
Colorado law and are thus subject to rejection in Extraction’s
chapter 11 proceedings.
• Facts:
– Prior to the bankruptcy, Extraction entered into agreements to
transport hydrocarbons directly to market in Oklahoma and dispose
of produced water generated in connection with its operations.
During the bankruptcy case and in connection with an asset sale of
substantially all of its assets, Extraction filed a motion seeking
to reject the agreements and commenced adversary proceedings
against the various midstream counterparties seeking declaratory
judgments that the agreements did not create covenants that run
with the land under Colorado law.
Treatment of Gathering / Processing Agreements (cont.)
Extraction Oil & Gas (Bankr. D. Del. 2020)
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• Holdings:
– Judge Sontchi analyzed the gathering services provided under
the Agreements and the related dedications and ultimately concluded
that the commodity produced by Extraction and gathered under the
Agreements did not touch and concern Extraction’s mineral estate;
it concerned only personal property and did not affect the physical
use of real property or closely relate to real property.
– Judge Sontchi found that horizontal privity applied and was
not present because even though Extraction conveyed easements and
other property rights to the relevant counterparties, the rights
constituted interests in a severed surface estate rather than in
Extraction’s mineral estates.
Treatment of Gathering / Processing Agreements (cont.)
Extraction Oil & Gas (Bankr. D. Del. 2020) (cont.)
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Special Issues: Treatment of Joint
Operating Agreements,
Leases, and Liens
-
• What JOA issues should I be concerned about in the context of
a bankruptcy proceeding?
– JOAs are typically executory contracts and, until assumption,
are not enforceable against debtors (only enforceable vs.
counterparty).
– The Bankruptcy Code permits the chapter 11 debtor in
possession to assume or reject an executory contract at any time
before confirmation of a plan of reorganization.
– Failure to pay or collect joint interest billings might come
with consequences (such as penalties, replacement as operator, or
termination), so debtors may request court authority to perform
under these agreements in the ordinary course until the debtor has
selected the contracts to assume or reject.
– Debtor has to pay for reasonable value of service it receives
under the contract until assumption.
– Depending on the circumstances, such as the services provided
and initial contract pricing, this reasonable value may or may not
be what is specified in the contract.
Joint Operating Agreements
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• Where the operator under the JOA files for bankruptcy, the
operator may be deemed to have resigned under the terms of the JOA.
However, because such a change in the debtor operator’s rights may
violate the automatic stay, JOAs will commonly provide that, in the
event of the operator’s bankruptcy, the operator and the
non-operators will form an interim operating committee that will
control operations until the debtor elects either to accept or
reject the JOA.
– If a debtor-operator rejects a JOA in its bankruptcy case,
non-operators receive a general unsecured claim for damages under
the JOA.
– If a debtor wants to assume a JOA in its bankruptcy case, the
debtor must cure any defaults under the JOA.
Joint Operating Agreements (cont.)
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• What happens to third party claims related to work performed
for the operator?
– Generally, state statutes provide secured claims for
contractors who provide services to E&P companies
• In connection with a sale of the debtor’s assets, the debtor
may seek to assume and assign the JOA to a third-party purchaser.
In such a circumstance, counterparties to the JOA can demand
adequate assurance that the third-party purchaser has the ability
to perform under the JOA prior to the court’s approval of the sale
transaction.
Joint Operating Agreements (cont.)
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• Overriding Royalty Interest (ORRI)
– ORRIs are carved out of, and subject to, the working interest
in a property. Like the landowner holding the royalty interest,
they are more likely to support assumption of the lease and oppose
its rejection because of the potential future earnings.
– How the bankruptcy court treats each interest (or other
applicable non-bank notes) involves a factual analysis that can
differ district by district as the courts apply state law. The
result of that analysis is what determines the rights each interest
holder owns (SeeATP Oil & Gas).
• Net Profits Interest (NPI)
– NPIs are generally not considered real property interests and
would not be protected from attaching to the bankruptcy estate in
the event of an operator bankruptcy.
– Bankruptcy courts may consider NPIs financings and not
conveyances of real property, meaning the NPI owner would simply be
a personal property owner and another creditor of the debtor.
Treatment of ORRIs and NPIs
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• Unrecorded Farmout Agreements
– Parties often fail to record notice of the farmout. As a
result, the farmee’s rights under the farmout may not be protected
against a third-party bona fide purchaser or the bankruptcy of the
farmor.
– A farmee must provide notice of the farmout and protect its
operator’s lien rights by perfecting its interest under the
farmout. This issue can be resolved by recording a memorandum of
the farmout agreement in the county where the lands are
located.
– Without a formal assignment of interest from the farmor, the
records may not be clear as to whether the farmee has in fact
earned an interest under a farmout agreement. To resolve this
issue, the conditions for earning an assignment and when the
assignment will be delivered to the farmee should be clearly
drafted in the farmout.
– The election of the farmor to retain an overriding royalty
interest or convert it to a BIAPO (back-in after payout) working
interest affects the rights of both parties and their
successors-in-interest. Therefore, the farmor’s election must be
clear from the recorded farmout that was submitted to the
recorder’s office.
Treatment of Farmout Agreements
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• The Bankruptcy Code excludes certain “production payments”
from property of the debtor’s estate.
• Under Bankruptcy Code Section 541, estate property does not
include interest in liquid or gaseous hydrocarbons that have been
transferred pursuant to a farmout or other written conveyance.
• However, there is a risk that the above interests can be
recharacterized as debt claims or another non-qualifying interest,
including where the interest holder provides services or conducts
operations on the subject property.
Treatment of Farmout Agreements (cont.)
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Have questions?
You are welcome to submit questions through the Q&A function
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Presenter Biographies
-
+1 212.497.7845, New [email protected]
Industry Focus
Oil and gas
Education
B.A. in Economics from Columbia College
▪ Dan is a member of Houlihan Lokey’s Oil & Gas Group, and a
regular presenter on current trends in the oil and gas
industry.
▪ Mr. Crowley has approximately 15 years of experience executing
complex transactions, including financial recapitalization /
restructuring, financing, and M&A / A&D transactions.
▪ Mr. Crowley’s notable recent oil and gas recapitalization /
restructuring transactions relate to the following companies, among
others: Fieldwood Energy, Tapstone Energy, Sheridan I, Sheridan II,
Jones Energy, All American Oil & Gas, Energy Corporation of
America, Sabine Oil & Gas, Energy XXI, Magnum Hunter, Endeavour
International, Southern Pacific, BPZ Resources, Quicksilver
Resources, and ATP Oil & Gas.
▪ Mr. Crowley’s notable recent oil and gas financing and M&A
/ A&D transactions relate to the following companies, among
others: Midstates Petroleum, ERG Resources, Samson Resources II,
Trident Resources, and TC Pipelines.
• Partner, Houston
Dan Crowley IIIDirector, Houlihan Lokey, New York
Houlihan Lokey | 73
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+1 713 632 1430, Houston
[email protected]
Practices
Infrastructure, Energy, Resources, and Projects
Education
J.D., Northwestern University School of Law, 1989
B.S., University of Illinois at Urbana-Champaign, 1984
▪ Whether representing an energy company in a complex
acquisition, joint venture, or financing; an infrastructure company
in greenfield development or finance; or a lender or underwriter
providing unsecured or secured financing, Dave Locascio brings a
business perspective to each transaction.
▪ Having experienced prior downturns in the upstream oil and
gas, and power sectors, Dave understands the difficulties facing
companies and lenders as they navigate through uncertain times. He
works with clients to proactively address looming challenges and to
protect companies and lenders from the potential adverse actions of
counterparties.
▪ Dave represents clients in upstream oil and gas projects; gas,
oil, or CO2 pipelines; liquefied natural gas (LNG) export and
import facilities; and oil and refined products refinery or storage
facilities. He helps major energy companies in the acquisition,
joint venture, development, and financing of such projects.
▪ Dave serves as the head of the firm's U.S. P3 practice. He has
been at the forefront of the developing U.S. public-private
partnership (P3) industry, having worked on a multitude of U.S. P3
projects over the last several years. Since he has acted as
consortium, lenders and monoline counsel in P3 projects, he
understands the different concerns and perspectives of the
participants and helps his clients focus on and understand the
issues material to them.
▪ In helping a range of parties develop and finance conventional
and renewable power generation, both domestically and
internationally, Dave knows the distinctive transactional and
regulatory aspects of regional power markets.
• Partner, Houston
David LocascioPartner, Houston
Hogan Lovells| 74
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+1 310 785 4602, Los Angeles
[email protected]
Practices
Business Restructuring and Insolvency
Education
J.D., Columbia Law School, 1982
B.A., with distinction, Indiana University, 1979
▪ Richard Wynne has a national reputation for successfully
representing company and creditor/bondholder clients in complex
restructurings in a wide variety of industries, including extensive
experience in oil and gas restructurings. He focuses on solving
clients' most challenging problems by designing and implementing
negotiations and litigation strategy, and serving as lead trial
counsel.
▪ Richard's results-oriented approach was noted in Chambers
2017: "It was hard to see a goal line rather than a direction;
being able to maneuver through that complex process was one of the
skills few lawyers have, and Rick is on that short list."
▪ Richard's recent engagements include Mattel, Inc. as the
largest creditor and Creditors Committee Co-Chair in the Toys R Us
Chapter 11 case; Synopsys, plan co-proponent in the ATopTech
chapter 11 case; acting as lead debtor's counsel for Achaogen,
Inc., All American Oil & Gas, Inc., American Apparel and
Relativity Media, LLC; representing FGIC, leading creditor and
Creditors' Committee Chair in ResCap; the Ad Hoc Bondholders
Committee in Chemtura; the Non-Agent Secured Lenders Committee in
Adelphia; and Universal and Fox in the Rhythm & Hues case.
▪ In a decisive recent victory, federal bankruptcy Judge Wiles
ordered Netflix to pay Relativity Media all its US$800,000 in
attorney fees. Netflix argued that "Relativity should not be
allowed to recover the cost of a Cadillac (or a Ferrari) if a Honda
Civic would have done the job." Judge Wiles responded: "A
complicated, fast-paced 'bet the company' litigation requires
counsel of higher caliber and expense than a routine case with
little at stake. A party may not need a Ferrari to go to the corner
grocery store, but winning a Grand Prix race is a different
matter."
• Partner, Houston
Richard Wynne Partner, Los Angeles
Hogan Lovells| 75
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+1 212 918 3076, New York+1 713 632 1422, Houston
[email protected]
Practices
Business Restructuring and Insolvency
Education
J.D., summa cum laude, Order of the Coif, Texas Tech University
School of Law, 2010
B.B.A., University of Texas at Tyler, 2007
▪ John has a wide array of both in and out of court experience,
equipping him with the knowledge to achieve economically efficient
results for his clients in whatever forum is required. John has
engaged in numerous financial restructurings involving, among other
things, refinancing senior debt, converting debt to equity, and
implementing exchange offers, as well as pre-packaged and
pre-negotiated bankruptcy filings. However, because not all
distressed situations can be resolved consensually, John also has
extensive litigation experience representing both debtors and
creditors in bankruptcy and state court proceedings, including
Chapter 11 bankruptcy and state court enforcement actions.
▪ John’s oil and gas related experience includes: All American
Oil & Gas in its chapter 11 filing; the private equity sponsor
of Milagro Oil & Gas; the largest unsecured creditor and member
of the creditors’ committee in Valaris plc, the largest offshore
drilling contractor; Signal International, an offshore services
company, in its chapter 11 filing; company counsel in several
out-of-court restructurings of E&P companies; and advisor to a
large mid-stream provider in connection with multiple E&P
bankruptcy filings.
▪ Prior to private practice, John had the prestigious honor of
serving as judicial clerk to the Honorable Phil Johnson of the
Supreme Court of Texas. Since that time, John has immersed himself
in the exciting world of distressed investment and restructuring
and was named a Rising Star for the New York Metro Area by Super
Lawyers from 2014 to 2020 and a member of Class VIII of the NextGen
Leadership Program of the International Insolvency Institute.
• Partner, Houston
John BeckCounsel, New York
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