Court: United States Bankruptcy Court, N.D. Ohio; September 18, 2018; Us Bankruptcy; United States Bankruptcy Court
On April 23, 2018, the Debtors filed a motion seeking authority to continue payments under several employee retention plans, specifically highlighting the 2018 Key Employee Retention Plan (KERP) for FirstEnergy Nuclear Operating Company (FENOC), which faced opposition. The Court partially granted the motion on May 14, 2018, allowing payments under five other plans but deferred consideration of the 2018 FENOC KERP for further hearings. Subsequent evidentiary hearings occurred on August 10, 13, 14, 17, and 27, 2018, regarding objections to the 2018 FENOC KERP. Ultimately, the Court denied the motion related to the 2018 FENOC KERP, permitting an amendment. The Court found that the proposed bonus payments were not justified under the relevant provisions of the Bankruptcy Code, specifically 11 U.S.C. §§ 363(b)(1) and 503(c)(3). The decision serves as the Court's findings of fact and conclusions of law. Jurisdiction and venue are established as proper under 28 U.S.C. §§ 1334 and 1409(a), with the proceedings classified as core under 28 U.S.C. § 157(b)(2)(A) and (O). The Debtors, having filed for chapter 11 relief on March 31, 2018, are jointly administered and operate as debtors-in-possession. The Official Committee of Unsecured Creditors was appointed by the United States Trustee on April 11, 2018. FENOC operates the nuclear power plants owned by FirstEnergy Generation, with the majority of the Debtors' workforce being employed by FENOC.
As of March 15, 2018, the Debtors employed 3,076 individuals across three entities: FES (57 employees), FG (686 employees), and FENOC (2,333 employees). Only seven employees qualify as "insiders" under 11 U.S.C. 101(31), and none are involved in any retention plans referenced in the Motion, including the 2018 FENOC Key Employee Retention Plan (KERP). There is consensus that no 2018 FENOC KERP participants are insiders. On March 28, 2018, the FENOC board and NG's managing members decided to notify the Nuclear Regulatory Commission of their intent to deactivate all nuclear power plants, with shutdown dates set between June 1, 2020, and October 31, 2021. The 2018 FENOC KERP was approved alongside this decision, having been developed over several months due to concerns that the existing 2016 FENOC KERP would not adequately retain critical employees amid anticipated plant shutdowns. This previous plan was limited in scope and scheduled to expire in November 2018, leading to fears of significant employee turnover. In January 2018, a Working Group was formed by senior management to explore a new retention strategy, comprising various management and advisory professionals. While other smaller retention plans received court approval in May 2018, the 2018 FENOC KERP faced opposition from the Committee and several labor unions, which supported the other plans but raised concerns about the legality and adequacy of the 2018 FENOC KERP. The Committee expressed intent to negotiate further and potentially object, while the Unions reserved their rights pending further investigation into the KERP's details.
On June 8, 2018, the Unions filed a substantive objection (the "Unions' Response") to the Debtors' Motion for approval of the 2018 FENOC KERP, asserting that the proposed plan was unreasonable and unfairly favored management and non-union employees over union employees. They highlighted the lack of retention bonuses for union employees, particularly skilled workers essential for operating nuclear plants, while management personnel were offered substantial bonuses. The Unions referenced practices of other utility companies that implemented inclusive retention programs during similar shutdowns, arguing that the Debtors' plan discriminated against union members and did not align with industry standards. They raised concerns about the high costs of the plan, which provided bonuses to nearly half of FENOC's workforce but at rates surpassing those of other firms. Additionally, the Unions claimed they were excluded from discussions on the design of the KERP. Following negotiations, the Debtors filed a revised KERP notice on June 29, 2018, addressing some Committee concerns, although the Unions later submitted a Supplemental Objection (Docket No. 944) reiterating their initial positions, emphasizing the exclusion of critical union employees and questioning the necessity of certain management roles. Discovery took place in June and July 2018, culminating in a scheduling order from the Court on July 27, 2018, that set deadlines for completing discovery and outlined procedures for witness testimonies.
The Court conducted a multi-day evidentiary hearing regarding the Debtors' proposed 2018 FENOC Key Employee Retention Plan (KERP) from August 10 to August 17, 2018, with closing arguments presented on August 27, 2018. This Memorandum Decision summarizes the Court's evaluation of the Motion alongside the Unions' objections, trial testimonies, and admitted exhibits.
The revised 2018 FENOC KERP, amended after consultations with the Committee and the United States Trustee, establishes three tiers of bonuses for participants, detailed in a previously filed document.
- **Tier I** includes fleet and site management as well as senior reactor operators, who are deemed critical due to their marketability and the time required to replace them. Participants in this tier can receive bonuses up to 100% of their base salary, with an additional $50,000 for reactor operators and senior reactor operators, paid at final vesting.
- **Tier II** is designated for superintendents and supervisors, eligible for bonuses up to 80% of their base salary.
- **Tier III** consists of non-supervisory "individual contributors" considered essential, with a bonus potential of 60% of their base salary.
Participants’ eligibility is outlined in a redacted "Schedule A," which omits names, salaries, and job functions but includes titles, locations, and bonus tiers. Bonus payments are structured with 15% payable after May 1 in 2019 and 2020, and the remaining amount after the participant's full vesting, typically linked to the plant deactivation date, with the last scheduled for October 31, 2021.
Additionally, participants forfeit their bonuses if they transfer positions without permission, voluntarily resign or retire, or are terminated for cause. In cases of death or disability, prorated payments are provided. The KERP allows for early termination if plant deactivation notices are rescinded or if fuel is procured for extended operations, in which case only prorated amounts up to the termination date will be disbursed without further bonus accrual.
The overall estimated cost of the 2018 FENOC KERP is approximately $99.7 million, including a discretionary pool of $4.5 million, with $482,000 already spent before the Motion was filed.
Approval of employee retention plans by Chapter 11 debtors-in-possession, excluding insiders, is governed by 11 U.S.C. § 363(b) and § 503(c)(3). Under § 363(b), a debtor-in-possession may use estate property outside of ordinary business transactions after a hearing, provided there is a "sound business purpose." Courts must find a good business reason for such actions, which requires evidence rather than mere appeasement of creditors. The "business judgment" test applied here is deferential but demands clear justifications that can withstand scrutiny, especially if challenged. The burden lies with the Debtors to prove, by a preponderance of evidence, the justification for the 2018 FENOC Key Employee Retention Plan (KERP) and its associated payments.
While all transactions outside the ordinary course require court approval under § 363(b), employee retention plans also invoke § 503(c), which includes stricter tests for payments to insiders, although the Unions have not contested the absence of insiders in the proposed KERP. Therefore, only § 503(c)(3) applies, which permits bonus payments if justified by the case's facts and circumstances. There is a division among courts on whether § 503(c)(3) imposes additional requirements beyond the business judgment standard of § 363(b)(1). Most courts maintain that § 503(c)(3) does not add additional criteria, while some argue it does, indicating that it should not be conflated with the business judgment standard due to its distinct purpose.
Congress intends for different sections of the Code to have unique implications, and interpreting Section 503(c)(3) as redundant to Section 363(b)(1) contradicts this principle. The requirement that approval for certain transfers and obligations must be "justified by the facts and circumstances of the case" indicates that Congress envisioned a more significant judicial role in scrutinizing insider transactions under Section 503(c)(3). Courts typically apply a business judgment standard, deferring to the debtor in possession or trustee if a valid business reason for a transaction is demonstrated. The Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA) was enacted to address concerns about creditor recoveries being compromised by debtors' misconduct.
While the Unions argue for a more stringent standard than the business judgment test, their arguments largely align with the six factors established in In re Dana Corp. (Dana II), which assesses whether a compensation proposal satisfies the "sound business judgment" test. The factors include: the relationship between the proposed plan and expected results, the reasonableness of the plan's cost, fairness and non-discrimination of the plan's scope, consistency with industry standards, due diligence performed by the debtor, and whether independent counsel was consulted. These factors serve as guidelines rather than strict requirements and are not uniformly weighted. Since the Dana II ruling, these factors have been frequently referenced in cases involving key employee retention plans under Sections 363(b)(1) and 503(c)(3). Notably, no circuit court has clarified the distinctions between Sections 503(c)(3) and 363(b)(1) regarding retention bonuses for non-insiders.
Section 503(c)(3) enhances judicial scrutiny over transactions compared to Section 363(b)(1), but Pilgrim's Pride lacks specific guidelines for analysis. A district court later reinforced this by instructing a bankruptcy court to evaluate the Key Employee Retention Plan (KERP) using the Dana II factors and the scrutiny level established in Pilgrim's Pride. The Unions do not challenge the differing standards under Sections 363(b)(1) and 503(c)(3), which limits the case's applicability for interpreting Section 503(c)(3) relative to Section 363(b) in non-insider employee retention plans. Both parties have agreed on relevant factors for the Motion's decision, leading the Court to apply Dana II factors to assess the 2018 FENOC KERP's approval.
During a three-and-a-half-day trial, the Court heard testimonies from various witnesses, including Debtors' executives and expert witnesses, as well as five witnesses from the Unions opposing the Motion. Key testimonies included those of Glenn Camp from the International Brotherhood of Electrical Workers Local Union 29 and other Union representatives.
The Court concluded that the 2018 FENOC KERP is essential for maintaining operations during the planned multi-year shutdown of the Debtors' nuclear power plants, rather than for the Debtors' reorganization under Chapter 11.
The KERP (Key Employee Retention Plan) designed by FENOC (FirstEnergy Nuclear Operating Company) and its advisors was focused on essential job functions necessary for the safe maintenance and operation of nuclear power plants, anticipating a shutdown within two or three years rather than long-term operation. The impetus for the 2018 KERP was FENOC's decision to schedule an early shutdown of its plants, coinciding with the bankruptcy filing. However, there was no indication that the retention plan was directly related to the chapter 11 bankruptcy or the reorganization process. Although counsel argued that this situation was unique due to the intersection of nuclear plant deactivation and bankruptcy, the evidence did not support that the chapter 11 case added complications to retaining critical employees aside from the need for bankruptcy court approval of the KERP.
The 2018 KERP is characterized primarily as a retention plan for the shutdown of nuclear plants rather than a typical chapter 11 reorganization plan. Expert testimony indicated that while the retention plan might appear exceptional compared to standard chapter 11 cases, it aligns more closely with averages observed in nuclear plant shutdowns. The challenges faced by the Debtors, including regulatory, operational, and safety concerns related to deactivating three nuclear plants with four reactors, necessitated a distinct evaluation of the KERP based on appropriate business judgment related to nuclear operations rather than a routine chapter 11 debtor-in-possession scenario. The court's assessment also emphasized that the fairness and reasonableness of the plan were central to the trial, particularly regarding potential unfair discrimination among employees, with overlapping relevance to multiple evaluative factors.
The Court examines the first factor regarding the proposed retention plan for Debtor FENOC's key employees, which could cost up to $99.7 million. The plan must meet the standards of Sections 363(c)(1) and 503(c)(3) of the Bankruptcy Code, specifically whether it is necessary and adequate to ensure safe operations of three nuclear power plants until the target shutdown date. The Court acknowledges FENOC's approach in identifying critical job functions necessary for the shutdown process, such as reactor operators, engineers, and supervisors, and finds this approach reasonable. However, concerns arise regarding the vague definition of participants in Tier III of the plan and insufficient disclosure about who is included. A spreadsheet provided by the Unions, which lists positions without identifying individuals or their specific job functions, raises issues about transparency. The lack of clarity about job functions and employee identification limits the ability of third parties, including Unions and creditors, to assess the effectiveness and reasonableness of the retention plan.
The Court expresses significant concern regarding the 2018 FENOC Key Employee Retention Plan (KERP) and its treatment of reactor operators under Tier I. Reactor operators and senior reactor operators are deemed essential for the safe operation and deactivation of nuclear power plants, as they are licensed professionals critical for overseeing operations and avoiding regulatory violations. Their specialized training makes them difficult to replace, and the process of training new operators is time-consuming, particularly as the plants approach closure.
The Debtors acknowledge that these operators are their most critical employees and propose substantial retention bonuses—100% of annual salary plus an additional $50,000. However, the KERP excludes reactor operators at the Davis-Besse and Beaver Valley plants, only including those at the non-union Perry Nuclear Power Plant. The Court finds this exclusion inconsistent with the Debtors' stated goal of retaining the most critical staff.
During rebuttal, Debtors' witnesses, including Mr. Harden, indicated that Perry's operators also serve as supervisors, justifying their higher Tier I bonuses. However, the Court notes that there is no clear rationale for why only reactor operators who are also supervisors receive enhanced bonuses, while non-operator supervisors are placed in Tier II. The Debtors further argue that union status provides sufficient justification for this disparity, but the Court finds this reasoning unconvincing, asserting that union membership under a collective bargaining agreement should not be the sole basis for differential treatment in the retention plan.
FENOC plans to shut down its nuclear power plants within two to three years, which was the basis for the 2018 FENOC Key Employee Retention Plan (KERP). The impending closure will result in job losses for union workers, raising doubts about the value of collective bargaining rights, such as grievance procedures and vacation pay, under these circumstances. The exclusion of reactor operators from the 2018 KERP contradicts the earlier 2016 retention plan that included seven operators nearing retirement, aiming to retain them for training new hires. The current reactor operators, recent graduates facing recruitment from companies like Shell Oil and Entergy, are also excluded from the KERP, undermining its intended purpose. The Court views the Debtors' rationale for these exclusions as unreasonable justifications for prior decisions. While there is some uncertainty regarding other job categories like I.C. technicians and electricians, FENOC’s Paul Harden indicated there are sufficient mechanics and project managers, making retention bonuses for those roles unnecessary given the anticipated plant shutdown. The analysis of job functions presented to the Court was deemed insufficiently comprehensive, relying more on anecdotal evidence than a thorough review.
The Debtors failed to provide sufficient evidence regarding job functions, management targets, evaluation criteria, and qualifications of employees for each function. While the Court does not dispute the Debtors' theoretical approach, the lack of evidence undermines its implementation. Specifically, the Debtors' inadequate explanation regarding reactor operators raises concerns about their overall job function analysis, except for certain excluded roles like mechanics and project managers. The Court suggests that clearer disclosure and comprehensive testimony could potentially validate the Debtors' current plan, contingent upon modifications.
Testimony from Union witnesses highlighted significant weaknesses in the 2018 FENOC Key Employee Retention Plan (KERP) compared to the Debtors’ justifications. For instance, Patrick Shutic argued that "flight risk" should be evaluated based on employee age and retirement proximity, a view supported by evidence from a prior KERP. In contrast, Debtors’ witnesses claimed that union employees are less likely to leave due to being "locals," but offered no supporting data regarding employee demographics or voluntary attrition rates between union and non-union employees, particularly concerning education and job functions. Furthermore, despite their extensive experience, Debtors' witnesses lack specific experience with the unique challenges posed by the impending shutdowns, further weakening their position.
Union workers, previously satisfied with stable jobs, may not remain with positions that have a set end date if other job opportunities arise. Testimony from Daniel Kunzman highlighted the necessity of specific roles within the Emergency Response Organizations (EROs) at nuclear power plants, contradicting the Debtors' claim that many employees in EROs rendered certain union members unnecessary for retention bonuses. Kunzman detailed essential roles required for EROs that were not accounted for in the 2018 FENOC Key Employee Retention Plan (KERP). His testimony was clearer and more persuasive than that of the Debtors’ witnesses, indicating that the proposed retention plan fails to adequately address staffing needs.
While the Debtors asserted that the KERP was designed with a focus on job categories critical for the nuclear plants’ operations and shutdown processes, the Court found that they did not sufficiently demonstrate that the plan reflected sound business judgment or effectively prepared for the shutdown phase. The Court acknowledged the Debtors' theories regarding job function criticality and attrition but concluded that these were not substantiated by the evidence presented. The treatment of reactor operators raised particular concerns.
Ultimately, the 2018 FENOC KERP, in its current form, is deemed to discriminate unfairly among employees, not satisfying the applicable legal standard necessary for approval.
The Court determined that the 2018 FENOC Key Employee Retention Plan (KERP) discriminates unfairly among employees, rendering it neither fair nor reasonable. The Court's findings highlight that the KERP's structure does not align with the Debtors' objective of retaining critical staff necessary for the nuclear power plants' operations until shutdown. Evidence presented indicated that the Debtors' Working Group prioritized job functions critical to plant safety and operations, focusing on roles that required retention due to limited staffing, marketability, and training challenges.
Key positions identified were senior reactor operators and reactor operators, which were deemed essential for compliance with regulatory standards. Testimony from Donald Moul emphasized the operational value of reactor operators and noted that there was no difference in training requirements between union and non-union operators. Despite this, the KERP favored non-union reactor operators with a bonus structure that included 100% of annual salary plus an additional $50,000, whereas union-represented operators at specific plants were excluded from this preferential treatment.
Moul justified the exclusion of union operators based on supervisory roles at the Perry facility. However, testimony reinforced that all reactor operators were highly trained and critical to operations, with significant training periods necessary for replacements. The Court found the plan’s disparate treatment of union versus non-union operators unjustifiable, noting that while management decisions warrant deference, significant inconsistencies between their rationale and actions necessitate judicial intervention. Discrimination is acknowledged as permissible, but it must be rational and justifiable.
The retention plan in question fails to meet standards due to unfair discrimination, as highlighted by the Court's observations. The Debtors' flight risk analysis is deemed flawed, relying on stereotypes regarding union employees rather than objective data, despite these employees holding critical positions essential to the operation of nuclear power plants. The justification for excluding union employees from retention bonuses based on collective bargaining agreements is considered weak, particularly given the imminent shutdowns of the plants.
The 2018 FENOC Key Employee Retention Plan (KERP) has vague criteria for employee selection, allowing for potential discrimination based on stereotypes rather than factual data. This plan is inconsistent with FENOC's previous retention initiatives, such as the Local 245 and Local 29 retention plans, which included union workers in critical job functions. Testimony indicated that prior plans actively sought to retain union workers in essential roles, contrasting sharply with the current exclusion of union reactor operators.
While the Debtors suggest that changing circumstances may justify the differences in plans, they fail to provide sufficient evidence to support these claims. The Court finds the explanations given for excluding union reactor operators unconvincing and views them as post-hoc rationalizations in response to union objections, indicating a lack of sound reasoning in the implementation of the retention strategy.
The Court finds the 2018 FENOC Key Employee Retention Plan (KERP) inadequate, noting that while the Unions advocate for including all union workers in the retention plan, this approach is excessive. Witnesses for the Unions argued that including all employees is essential for morale at the nuclear plants, but the Court supports the Debtors’ strategy of limiting retention bonuses to critical employees to maintain efficiency and control costs in the context of a Chapter 11 bankruptcy. The Court acknowledges a comparison to PG&E's broader retention plan at Diablo Canyon but does not deem such a comprehensive approach appropriate here, emphasizing that the Unions need not receive all their demands for the Debtors to avoid unfair discrimination in their plan.
The Court critiques the 2018 FENOC KERP for being inconsistent with industry standards, as it encompasses more employees and a larger budget than typical retention plans in similar Chapter 11 cases. Testimony from the Debtors’ expert, Brian Cumberland, indicated that the KERP lacks alignment with industry norms for nuclear plant shutdowns and Chapter 11 reorganizations. Cumberland's analysis, based on publicly available information, was limited and did not comprehensively identify critical employees or appropriate bonus percentages. His data collection was informal and anecdotal, relying on conversations with a few companies, including details about PG&E’s retention plan, which included all employees at Diablo Canyon.
Mr. Harden and Mr. Cumberland expressed that their examples of nuclear plant shutdown retention plans lacked widespread employee participation, although they acknowledged their lack of conclusive evidence regarding those plans. Mr. Cumberland highlighted that the 2018 FENOC Key Employee Retention Plan (KERP) offered bonuses to 44% of FENOC's total employees and 71% of non-bargaining employees, noting its selectiveness compared to other plans that typically include all employees, including senior management. He emphasized that unlike other non-bankruptcy programs, FENOC's KERP excludes vice presidents and higher-ranking employees.
The court observed that PG&E's retention plan includes all employees, suggesting they retain staff at a lower cost per participant compared to FENOC's KERP. Mr. Cumberland's analysis indicated an average retention payment of $31,000 per employee annually for FENOC's KERP, in comparison to a range of $19,800 to $42,900 for other bankruptcy plans. However, since only 44% of FENOC employees are eligible, the actual average payment per participant is likely higher than reported.
Debtors' counsel claimed that redistributing the KERP budget of $99.7 million among more employees would undermine its effectiveness, but the court found these assertions to be exaggerated and lacking supporting evidence. The court emphasized that it is not its role to alter the retention plan but noted the absence of evidence indicating that spreading the bonuses would significantly diminish their retentive effect.
The Court acknowledges that diluting the bonus pool may influence its effectiveness in retaining employees but requires more substantial evidence to determine if this effect is significant. Existing evidence, primarily from limited industry case studies, indicates that broader employee retention plans with diluted bonuses can be effective. Consequently, the Court finds the 2018 FENOC Key Employee Retention Plan (KERP) inconsistent with prevailing industry standards.
In evaluating the KERP under the Dana II framework, the Court identifies the first and third factors as the most significant in assessing whether the Debtors demonstrated reasonable business judgment regarding the KERP. The fourth factor, concerning consistency with industry standards, also supports the same conclusion, though based on limited evidence. The other factors are less contentious and do not pose substantial disputes from the Unions.
Cost is highlighted as a crucial aspect of the KERP in the context of a Chapter 11 reorganization. Although the original KERP raised significant concerns, the revised version, which underwent scrutiny by the Committee and the United States Trustee, addressed key issues such as payment thresholds and conditions for bonus waivers. These amendments have the potential to lower costs, especially if the Debtors cancel their shutdown plans. While the total cost of $99.7 million remains a concern, the Court is reassured by the thorough review process and the absence of objections from the Unions, deeming the overall cost reasonable given the unique challenges of nuclear plant shutdowns.
Lastly, the Court recognizes that the Debtors conducted due diligence in preparing the KERP, with contributions from a Working Group, legal and restructuring advisors, and human resources management, which laid a solid foundation for a plan that could be court-approved.
The Court addressed the decision to concentrate on essential job functions for the nuclear power plants before their eventual shutdowns in two to three years. The Working Group evaluated staffing levels and acceptable attrition rates for these critical roles. The Court denied the Motion but allowed the Debtors to amend it. It affirmed that it cannot rewrite the existing 2018 FENOC Key Employee Retention Plan (KERP) or create a new one, but it encourages the Debtors to revise the KERP and to seek input from the Committee, Unions, the United States Trustee, and other interested parties, ensuring transparency in any proposed changes.
The Debtors retain the authority to manage their business under 11 U.S.C. §§ 1107 and 1108, and any decision not to amend the Motion rests solely with them. The Court will not issue a final order immediately and will instead schedule a status conference with relevant stakeholders within two weeks. If the Debtors wish to appeal, the Court will expedite a final order based on this Memorandum Decision. The Debtors must demonstrate that the 2018 KERP is a sound business judgment and justified, which involves meeting certain criteria such as purpose relevance, fairness, and industry standards. The Court concluded that the Debtors failed to meet these criteria, partly due to their lack of clarity in presenting evidence.
The 2018 FENOC Key Employee Retention Plan (KERP) is criticized for excluding certain employees deemed critical and difficult to replace, giving the Debtors excessive discretion in selecting KERP participants without adequate disclosure to creditors or the Court. The plan is found to rely on stereotypes rather than sound judgment, as it discriminates against union employees; over 70% of non-union employees are eligible for bonuses of at least 60% of their annual salary, while no union employees can receive bonuses. The Debtors have not demonstrated a valid business justification for this discrimination. Moreover, the proposed bonuses are higher than those in comparable retention plans within the nuclear industry, especially in the context of impending plant shutdowns, and the plan excludes more employees than similar plans from other electricity producers. Consequently, the Court will not approve the 2018 FENOC KERP as a reasonable business decision under the circumstances of the bankruptcy. However, the Motion is denied with leave for the Debtors to amend the KERP and seek approval for a revised version after a further hearing. If the Debtors wish to appeal, a final order will be entered. A status conference will be scheduled within two weeks, and judgment on the Motion will be finalized only after a separate judgment is entered by the Clerk. Additionally, five other retention plans are mentioned, covering a total of 324 employees across various retention periods that have already ended or will end soon.
