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Enron v TXU (2003) ‘Obligated to terminate? – To be or not to be under Section 2 (a)(iii)’

Enron Australia v TXU Electricity [2003] NSWSC 1169


Enron v TXU outlined the Australian approach on the application of Section 2 (a)(iii) of the ISDA Master Agreement (MA) 1992. It would determine whether the non-defaulting party bears an obligation to designate an early termination date, thereby obtaining the power to lawfully suspend payments owed to a defaulting party, potentially indefinitely.

The judgement can be found here.


Enron was a multinational energy and utility conglomerate based out of Houston with operations spanning over 20 countries. TXU, likewise from Texas, was an emerging North American electricity retailer. These two firms were parties to a significant number of electricity swap agreements under the ISDA MA 1992 entering into a master contract known as the “TXU Agreement” in December 2000. Both parties took fixed and floating positions in various swaps. Prior to administration, the outstanding net payments between the parties, as a result of the swap agreements, would be settled on a weekly basis.

Enron fell into voluntary administration in December 2001 followed by subsequent liquidation in early 2002, both of which constituted an ‘event of default’ underlined by Section 5 (a) of ISDA MA 1992. Since Enron’s default on 3rd December, TXU refrained from settling any outstanding payments to Enron, who at the time were ‘in-the-money’. Enron contended that TXU owed approximately $3.3 million as a result of their agreement to be paid upon the early termination date, which naturally TXU contended.

Legal Issues

The agreement between the two parties stated that on an early termination, ‘market quotation’ was the measure of the payment, with the method of payment being the ‘second method’. This method stipulated upon an early termination date no party would walk away from their payment obligations, irrespective of their relative swap positions. Moreover, as a result of these conditions, under Section 6 (a) ISDA MA 1992, TXU – the non-defaulting party – had the contractual right to designate said date. Consequently, an issue formed in the present case whereby since at the time of administration TXU were out-the-money, they were able to utilise the “flawed asset” provision or Section 2 (a)(iii) of ISDA MA 1992. This provision facilitated the suspension of payments, which was clearly aligned with their economic interests, being out-the-money.

Upon administration, Enron had 78 open swap contracts with TXU, some of which featured a payment date of 31 December 2005. An additional layer of complexity arose as Enron believed the suspension of payments could not last indefinitely. Once the transactions expired on 31 December 2005, Enron believed they then obtained the right to designate the termination date in accordance with the mutually agreed conditions.


The Supreme Court of New South Wales held that while the agreements in place invited TXU to set an early termination date, they did not require it to do so, as determined by Section 2 (a)(iii). Thus, TXU were able to suspend payments until Enron’s event of default could be remedied – i.e. it did not have to designate an early termination date to pay Enron the owed value of their interest rate swaps. Since Enron’s Australian limb could not remedy their default due to the nature of their event – liquidation – TXU were able to walk away from the agreement without sustaining any economic detriment to the tune of $3.3 million. Such a decision was undeniably a welcome conclusion on their behalf, but yet inflicted greater woe on Enron and its liquidators.

The court notably supported Enron’s belief they would be permitted to designate an early termination date following the last transaction on 31 December 2005 under Schedule 1(h) ISDA MA 1992. Nonetheless, their claim was unsuccessful as the court asserted their commercial objective was to realise these “assets” promptly and thus the near 4 year wait was unsurprisingly deemed “not contractually right” [23]. Providing further context, the court of New South Wales determined, in this case, the term “asset” must be used with caution as the only way Enron could provide these “assets” with value was under their own terms [24], hence the claim was swiftly dismissed.

Application and Significance

The judgement essentially demonstrates an unwillingness to interfere in the mechanics of the ISDA Master Agreement, thereby giving considerable weighting to the provisions set out in Section 6 (a) and (more significantly) Section 2 (a)(iii) of the ISDA Master Agreement 1992.

Ultimately, the decision meant that, not only were Enron unable to receive the value of their swaps as a result of their insolvency, they were also unable to receive the $3.3 million they believed they were contractually owed. TXU were set to settle these payments on an early termination date, but their approach of simply never designating such a date had been vindicated by the court. 

This set a precedent for future cases regarding Section 2 (a)(iii), bringing a fair deal of attention to an influential – albeit extremely brief – provision. The implications appear to further favour the non-defaulting party, which, despite an agreement to not walk away from payments upon an event of default, cannot only exercise a lawful right to withhold the designation of an early termination date, but enforce this right against the liquidating party.

The significance of Section 2 (a)(iii) would rise following developments in the US through Metavante and in the UK through Marine Trade, before being revisited in Lomas and Lehman v Firth Rixson.

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