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Sharon Steel Corp. v. National Fuel Gas Distribution Corp.

filed: April 6, 1989.


On Appeal from the United States District Court for the Western District of Pennsylvania, D.C. Civil Action No. 88-00045

Stapleton, Scirica and Cowen, Circuit Judges

Author: Scirica


SCIRICA, Circuit Judge

This appeal arises from the district court's affirmance of a bankruptcy court order approving the rejection of an executory service agreement between the debtor, Sharon Steel Corporation, and National Fuel Gas Distribution Corporation. National Fuel appeals the district court's decision that the agreement was an executory contract subject to the rejection provisions of Bankruptcy Code, its determination that the effective date of the rejection is immediately prior to the date the debtor filed its bankruptcy petition, and its valuation of National Fuel's service as an administrative expense. We will affirm the judgment of the district court on all issues.


Sharon Steel Corporation, a manufacturer of steel and steel products, filed a voluntary petition under Chapter 11 of the Bankruptcy Code on April 17, 1987. Since 1976, Sharon has been serviced by the National Fuel Gas Distribution Corporation, a natural gas public utility serving northwest Pennsylvania, subject to regulation by the Pennsylvania Public Utility Commission ("PUC"). In 1976, National Fuel and Sharon entered into a service agreement, to expire December 1987, by which National Fuel agreed to deliver gas to Sharon's steel plants in Wheatland Borough and the City of Farrell under a rate schedule established by the PUC for large industrial users (the "LIS" rate schedule). The LIS rate schedule provided for a minimum consumption of natural gas per month, as well as payment of a commodity and demand charge. Since April 1985, Sharon had been paying National Fuel under the LIS rate schedule pursuant to a weekly advance payment schedule ordered by the PUC in response to a petition by National Fuel to terminate Sharon's service.*fn1

Four days after Sharon filed for bankruptcy, National Fuel requested Sharon to furnish adequate assurance of payment pursuant to 11 U.S.C. § 366 (1982). At the bankruptcy court hearing on April 30, 1987, Sharon stipulated that it would provide National Fuel with adequate assurance of payment under the service agreement. The oral stipulation was reduced to writing and approved by the bankruptcy court on May 22, 1987.

At the time of both the filing of the Chapter 11 petition and the date of the stipulation, National Fuel was supplying natural gas to all non-contract large industrial customers pursuant to the rate schedule for large volume industrial users (the "LVIS" rate schedule), at a rate that was not less than the rate Sharon was charged under the LIS rate schedule. However, because of a PUC ruling, National Fuel reduced its LVIS rate on August 1, 1987. As a consequence, the rate charged to other large industrial users dropped below the LIS rate charged to Sharon under the service agreement. Because of this, Sharon notified National Fuel on August 7, 1987 that it intended to reject the service agreement as an executory contract pursuant to Bankruptcy Code § 365. After a hearing, the bankruptcy court approved Sharon's motion to reject the service agreement in a Memorandum and Opinion dated November 23, 1987.

The bankruptcy court found that the service agreement was an executory contract for purposes of rejection under 11 U.S.C. § 365 (1982).*fn2 In re Sharon Steel Corp., 79 Bankr. 627, 630 (Bankr. W.D. Pa. 1987). Relying on In re California Steel Co., 24 Bankr. 185 (Bankr. N.D. Ill. 1982), the court concluded that the service agreement was executory in nature because obligations under the agreement remained unperformed by both parties. The court disagreed with National Fuel's assertion that the service agreement was merely the embodiment of a rate schedule and thus not susceptible to rejection under § 365.

The bankruptcy court also found that Sharon demonstrated that the estate would benefit from the contract's rejection, id. at 630 (citing In re Wheeling Pittsburgh Steel Corp., 72 Bankr. 845 (Bankr. W.D. Pa. 1987)), and that under Bankruptcy Code § 365(g)(1), the effective date of the rejection should be the date immediately prior to the filing of the bankruptcy petition.

Because of the rejection of the service agreement, the bankruptcy court was required to decide to what extent, if any, the payments made to National Fuel after filing the bankruptcy petition (the effective date of the rejection) were administrative expenses allowable under § 503(b)(1)(A). Section 503(b)(1) limits the valuation of administrative expenses to the actual and necessary cost and expense of preserving the estate. The court rejected National Fuel's contention that the necessary cost of providing Sharon natural gas and thereby preserving the estate under § 503(b)(1) is presumptively the rate established by the contract. 79 Bankr. at 631 (citing In re Thatcher Glass Corp., 59 Bankr. 797 (Bankr. D. Conn. 1986); In re Grant Broadcasting of Philadelphia, Inc., 71 Bankr. 891 (Bankr. E.D. Pa. 1987)). Rather, the bankruptcy court held that the reasonable value of a utility service should be calculated for purposes of § 503(b)(1) under the non-contract rate set by the PUC (the LVIS rate). Moreover, based on its conclusion that "prospective application of a rejection of an executory contract would minimize the benefits that § 365 provides to the debtor," the court did not require Sharon to pay at the contract rate for natural gas delivered between the date of the filing and the date the court approved its decision to reject the contract. 79 Bankr. at 632 (citing Grant Broadcasting, 71 Bankr. at 897).

Therefore, the bankruptcy court concluded that the LVIS rate represented the actual and necessary cost to the estate for natural gas beginning on the date immediately prior to filing the bankruptcy petition. The court directed National Fuel to remit any excess payment by Sharon if under the LVIS rate, Sharon would have been charged less than it was charged under the service agreement. Alternatively, if the amount due under the LVIS rate would have been greater than that charged under the agreement, National Fuel would be entitled to the difference.

Finally, the bankruptcy court held that Sharon must give National Fuel adequate assurance by paying in advance for all gas. Payments would be made under the stipulation approved on May 22, 1987, but computed at the LVIS rate. The district court, in an order and ...

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