Enron Australia Finance v Yallourn Energy [2005] NSWSC 56

New South Wales Supreme Court

CITATION : Enron Australia Finance v Yallourn Energy [2005] NSWSC 56

HEARING DATE(S) : 3 February 2005

JUDGMENT DATE : 24 February 2005

JURISDICTION : Equity

JUDGMENT OF : Campbell J

DECISION : (a) no; (b) no; (c) yes

CATCHWORDS : CONTRACTS - electricity swap contracts in form of 1992 Master Agreement of International Swap Dealers Association Inc - (a) whether interest payable by defaulting party before it can designate an Early Termination Date - (b) whether non-defaulting party can avoid designation of an Early Termination Date by paying an amount exclusive of interest - (c) whether non-defaulting party obliged to pay interest once Early Termination Date is designated. ENERGY AND RESOURCES - Electricity - electricity swap contracts in form of 1992 Master Agreement of International Swap Dealers Association Inc - (a) whether interest payable by defaulting party before it can designate an Early Termination Date - (b) whether non-defaulting party can avoid designation of an Early Termination Date by paying an amount exclusive of interest - (c) whether non-defaulting party obliged to pay interest once Early Termination Date is designated

Enron Australia Finance Pty Limited (in liq) - Plaintiff PARTIES : Yallourn Energy Pty Ltd - Defendant

FILE NUMBER(S) : SC 5942/04

J C Sheahan SC; V F Kerr - Plaintiff COUNSEL : H Sifris SC - Defendant

Blake Dawson Waldron - Plaintiff SOLICITORS : Baker & McKenzie - Defendant

LOWER COURT JURISDICTION :

IN THE SUPREME COURT OF NEW SOUTH WALES EQUITY DIVISION EQUITY LIST

CAMPBELL J

24 FEBRUARY 2005

5942/04 ENRON AUSTRALIA FINANCE PTY LIMITED (IN LIQUIDATION ) v YALLOURN ENERGY PTY LTD JUDGMENT HIS HONOUR: Nature of Case 1 This case concerns the construction of the provisions for interest in an agreement under which electricity swap contracts were entered. Factual Background 2 The plaintiff ("Enron") carried on a business of trading. One of the ways by which it traded was by entering into electricity swap contracts, concerning electricity to be supplied in the Australian national electricity market. Such contracts are referred to as "trades". 3 An electricity swap contract is a species of futures contract. One party agrees to pay a fixed price for designated electricity at a particular future time in return for which the other party agrees to pay a floating price. The floating price is the spot price of the designated electricity at that future time. Thus if, at the relevant time, the spot price exceeds the nominated fixed price then the floating price payer pays the difference to the fixed price payer, and vice versa. Mr Sheahan SC, counsel for Enron, accurately described such contracts as ones: "… in which the parties made bets, as it were, against each other as to the future price of electricity. In the case of parties to such transactions who are in fact participants in the electricity market, such contracts can provide a form of insurance against adverse future outcomes in the market." 4 Enron entered into a written agreement dated 10 August 2001 ("the Agreement") with the defendant ("Yallourn") which governed trades between them. That agreement was in the form of the Master Agreement adopted by the International Swap Dealers Association Inc. in 1992, with certain amendments and addenda. 5 Enron thereafter entered into various swap contracts with Yallourn. In some of those trades Enron took the fixed price position and Yallourn took the floating price position, and in others the position was reversed. It is the nature of an electricity swap contract that, until the time arrives at which the spot price of the electricity is known, one cannot tell whether the spot price will exceed the fixed price or vice versa, nor by how much one will exceed the other. It follows that, until the time for performance of the contract has arrived, one cannot tell which party will owe money to the other under it, nor how much will be owed. During the period that the contract is on foot and there is this uncertainty, it is referred to as an "open trade". 6 On 3 December 2001 administrators were appointed to Enron. On 29 January 2002 the creditors of Enron resolved that it be placed into liquidation, and that the administrators become the liquidators. 7 As at 3 December 2001 there were thirty-three open trades between Enron and Yallourn relating to the price of electricity at various future times. The last of those times was 31 December 2003. 8 The appointment of administrators to Enron, and Enron being placed into liquidation, each constituted an Event of Default under the Agreement. The occurrence of each of those Events of Default entitled Yallourn to terminate the Agreement by designating an Early Termination Date ("ETD"). If an ETD had been designated by Yallourn, this would have entitled Yallourn to "close out" the futures contracts which were then open, and thus to crystallise the amount of the liability of the parties to each other under those contracts. However, Yallourn has not designated an ETD – rather, it has allowed each of the contracts which were "open trades" on 3 December 2001 to remain open until its maturity date. 9 Even though all the contracts which were "open trades" on 3 December 2001 have now reached their maturity date, Enron and Yallourn have still not paid any amounts to each other with respect to those contracts. 10 The Agreement provides a procedure whereby a party with respect to whom an Event of Default has occurred (here, Enron) can make certain payments to the other party concerning transactions entered into under the Agreement in which Enron lost the bet. If Yallourn then refuses to make a payment to Enron concerning transactions in which Yallourn lost the bet, then, in certain circumstances, Enron acquires the right itself to designate an ETD. 11 The liquidators of Enron wish to cause Enron to pay the amount it must pay to Yallourn to initiate this procedure. Then, if Yallourn refuses to make a payment to Enron of amounts which Enron claims, Enron will nominate an ETD. However, Enron and Yallourn disagree about three matters. The first is whether, if Enron is to acquire the right itself to designate an ETD, the amount it must pay to Yallourn is the capital amount of its indebtedness to Yallourn pursuant to those contracts which have resulted in Enron owing money to Yallourn, or whether it is that capital amount plus interest. The second is whether, after Enron has made the payment which is a precondition to Enron having the right to designate an ETD, if Yallourn is then to avoid Enron having a right to nominate an ETD, Yallourn must pay to Enron not only the capital amount which would have been (if there had been no Event of Default) owing by Yallourn under those trades which have now passed their performance date, but must also pay interest on that amount for the period from the performance date to the date when Yallourn makes its payment. The third dispute concerns whether, if Enron is able to designate an ETD, Yallourn is then liable to pay interest to Enron. Provisions of the Agreement 12 The Agreement starts with a recital that the parties: "have entered and/or anticipate entering into one or more transactions (each a "Transaction") that are or will be governed by this Master Agreement, which includes the schedule (the "Schedule"), and the documents and other confirming evidence (each a "Conformation") exchanged between the parties confirming those Transactions." 13 Section 2(a)(i) said: "Each party will make each payment … specified in each Confirmation to be made by it, subject to the other provisions of this Agreement." 14 Section 2 continued: "(a)(ii) Payments under this Agreement will be made on the due date … (a)(iii) Each obligation of each party under Section 2(a)(i) is subject to (1) the condition precedent that no Event of Default or Potential Event of Default with respect to the other party has occurred and is continuing, (2) the condition precedent that no Early Termination Date in respect of the relevant Transaction has occurred or been effectively designated …" 15 Section 2(e) says: "Prior to the occurrence or effective designation of an Early Termination Date in respect of the relevant Transaction, a party that defaults in the performance of any payment obligation will, to the extent permitted by law and subject to Section 6(c), be required to pay interest (before as well as after judgment) on the overdue amount to the other party on demand in the same currency as such overdue amount, for the period from (and including) the original due date for payment to (but excluding) the date of actual payment, at the Default Rate. Such interest will be calculated on the basis of daily compounding and the actual number of days elapsed …" 16 Section 5(a) of the Agreement set out a list of Events of Default, which included a party being subject to the appointment of an administrator, or having a resolution passed for its winding up. 17 Section 5(b) set out a different list of events which constituted Termination Events. There was provision for the Schedule to add to that list by specifying an Additional Termination Event. Part 1(g) of the Schedule identified such an Additional Termination Event, namely: "An Event of Default occurs with respect to a party ("Party X"), Party X has satisfied all its payment … obligations under Section 2(a)(i) with respect to all Transactions and has no future payment … obligations to the other party ("Party Y") whether absolute or contingent under Section 2(a)(i), and Party Y refuses to make a payment to Party X based upon the conditions precedent in Section 2(a)(iii). For the purpose of the foregoing Termination Event, the Affected Party shall be Party X. However, despite Section 6(b)(iv), Party X is the party entitled to give the notice under Section 6(b)(iv) designating the Early Termination Date for the foregoing Termination Event."