The US Court of Appeals for the Seventh Circuit recently issued a decision that expands a debtor's right to assume or reject executory contracts indefinitely under certain circumstances; muddles the "ride through" doctrine (under which executory contracts are sometimes permitted to pass through a bankruptcy case unaffected by the bankruptcy), and creates enormous opportunities for a debtor to game the system at the expense of unsuspecting contract counterparties. In the recent decision, ReGen Capital I, Inc. v. UAL Corporation (In re UAL Corporation), the Seventh Circuit permitted a debtor to reject certain executory contracts more than 29 months after confirmation of a plan even though the plan listed the contracts on an "assumed contract" exhibit. In explaining its rationale, the Court relied upon three main arguments.

On 9 December 2002, United Air Lines (United) and numerous affiliates filed for bankruptcy. At the time, United defaulted on a number of AT&T telecommunication service contracts. In January 2004, AT&T filed a proof of claim relating to the contracts and then sold the claim to ReGen Capital I, Inc. one month later. In late 2005, United filed a plan of reorganisation that provided for the assumption and rejection of executory contracts and specifically included the AT&T contracts in an exhibit to the plan entitled "Assumed Executory Contracts and Unexpired Leases". The plan also included a provision that reserved United's right to reject any executory contract up to fifteen days after the later of; the date on which the contracting parties agreed to the amount of the cure, or the issuance of a final order from the Bankruptcy Court establishing the cure amount. United's plan further provided, among other things, that "[e]ntry of the Confirmation Order by the Bankruptcy Court shall constitute approval of the assumption or conditional assumption of the executory contracts and unexpired leases to be assumed under the Plan as of the Effective Date". (Debtors' Joint Plan of Reorganisation Pursuant to Chapter 11 of the United States Bankruptcy Code (the UAL Plan of Reorganisation), In re UAL Corporation, No. 02-48191 (Bankr. N.D. Ill. Sept. 7, 2005) (Docket No. 12638)).

The plan became effective in February 2006, but United did not make any cure payments with respect to the AT&T contracts. Because ReGen believed that United had assumed the AT&T contracts under the plan, it submitted a cure claim for the full amount of the AT&T contractual default. Two years later, United filed notice of its intent to reject the AT&T contracts. The US Bankruptcy Court for the Northern District of Illinois found that United had properly rejected the AT&T contracts and disallowed the cure claim. The District Court affirmed this decision. On appeal to the Seventh Circuit, the Court found that United never assumed the AT&T contracts and the rejection of the contracts was valid.

The ReGen decision expands a chapter 11 debtor's right to assume or reject an executory contract after confirmation of a plan by effectively giving the debtor a permanent option so long as the plan contains language making a "ride through" of the contract possible. Under section 365 of the Bankruptcy Code, a chapter 11 "trustee may assume or reject an executory contract … at any time before the confirmation of the plan …" (11 U.S.C. § 365(d)(2)). The temporal language of this Bankruptcy Code section suggests that a debtor has a finite amount of time to assume or reject an executory contract. The Seventh Circuit's decision, however, has expanded the time frame indefinitely by permitting debtors to include a plan provision reserving the right to reject until a cure payment is made. One can reasonably question whether the permanent option afforded to the debtors in ReGen is contrary to the spirit of section 365.

Additionally, the Seventh Circuit seemingly confused the nature and effect of the "ride through" doctrine. That doctrine (also known as the "pass through" doctrine) permits a chapter 11 debtor, under certain circumstances, to ignore an executory contract and allow it to "pass" or "ride" through the bankruptcy (See Stumpf v. McGee (In re O’Connor), 258 F.3d 392, 404-05 (5th Cir. 2001)). To invoke the "ride through" doctrine, the debtor "may not treat an executory contract in a Chapter 11 plan and at the same time, effect a ride-through of that contract – these are inconsistent proposals" (In re Hernandez, 287 B.R. 795, 800 (Bankr. D. Ariz. 2002)). Because United's plan in ReGen specifically provided for the treatment of the AT&T contracts, the "ride through" doctrine arguably should have been inapplicable. But perhaps more importantly, the Seventh Circuit failed to account for the fact that when an executory contract passes through a bankruptcy case, that contract is supposed to be completely unaffected by the bankruptcy case; meaning that the counterparty (or claims assignee) retains all of its rights and remedies. If the AT&T contracts had passed through the bankruptcy case, the debtors would have been obligated to pay AT&T's pre-petition claim in full rather than in plan dollars. In other words, ReGen's position would have been stronger in a "ride through" scenario.

The Seventh Circuit's holding that United did not assume the AT&T contracts is a dangerous precedent because it creates great uncertainty for contract counterparties and claims acquirors. Contract counterparties should be entitled to rely on plan schedules and confirmation orders that indicate that their contracts have been assumed. The decision appears to create a temporal distinction between a bankruptcy court’s grant of approval of executory contract assumption and the debtor’s act of assumption (via curing of defaults), which is likely to lead to substantial confusion. By allowing debtors to delay their decisions on executory contracts until some indefinite time after confirmation (almost 2 ½ years in ReGen), the Seventh Circuit’s decision creates ample room for abuse. As a result of ReGen, counterparties would be wise to object to plan language that purports to give the debtor this indefinite option and to move prior to confirmation for a determination of the cure amount if the parties cannot agree. To do otherwise would put the counterparty at risk of losing the economic benefits of the contract and put claims acquirors in the position of receiving a greatly diminished return on the acquired claim.