Does Chapter 11 of the Bankruptcy Code Authorize Nonconsensual Nondebtor Releases?
Does Chapter 11 of the Bankruptcy Code Authorize Nonconsensual Nondebtor Releases?
Facing thousands of claims related to opioid painkillers, Purdue Pharma L.P. filed for bankruptcy in 2019. The bankruptcy proceedings resulted in a plan of reorganization that—in addition to resolving opioid claims against Purdue—released related claims that Purdue’s creditors held against members of the family who owned and controlled Purdue (the Sacklers). In exchange, the Sacklers agreed to contribute billions of dollars to Purdue’s bankruptcy estate. The plan was approved by over 95 percent of the voting claimants, but the United States Trustee objected and appealed arguing that such “nondebtor releases” require unanimous consent of the released parties. In Harrington v. Purdue Pharma, L.P. The Court is now asked to determine whether the Bankruptcy Code authorizes a court to approve releases, as part of a plan of reorganization under Chapter 11, that extinguish claims held against nondebtor third parties without the claimants’ consent.
Harrington v. Purdue Pharma, L.P.
Docket No. 23-124
Argument Date: December 4, 2023 From: The Second Circuit
Anthony J. Casey
University of Chicago Law School, Chicago, IL
Does the Bankruptcy Code authorize a court to approve releases, as part of a plan of reorganization under Chapter 11, that extinguish claims held against nondebtor third parties without the claimants’ consent?
Starting in the mid-1990s, Purdue Pharma, which was owned and controlled by members of the Sackler family, manufactured and marketed the opioid drug OxyContin. The role of OxyContin in the nationwide opioid epidemic and Purdue’s aggressive marketing tactics came to light in the 2000s. As a result, the company and the Sacklers faced a wave of litigation and damage claims that ran into the trillions of dollars. This wave continued to grow until 2019 when the Sackler family relinquished control of Purdue. In September of that year, the company filed for Chapter 11 reorganization.
The bankruptcy proceedings ultimately produced a plan of reorganization that, among other things, sets up trusts that will be available for victim compensation. These trusts are to be funded by assets of the Purdue bankruptcy estate. And key to this case, those assets include large monetary contributions that the Sacklers have promised as part of a settlement negotiated with Purdue’s bankruptcy estate. (The original contribution promised by the Sacklers in this deal was $4.325 billion. But as the case has wound its way through the appellate process, that number has been negotiated up to an aggregate $5.5 billion to $6.0 billion.) The core feature of the settlement is that the Sacklers will make their contribution in exchange for releases of all claims that the debtor has against them, as well as releases of all opioid-related claims that the creditors of Purdue might have against the Sacklers. (The latter group of releases are of a type commonly referred to as “nondebtor” or “third- party” releases because neither of the involved parties is the bankruptcy debtor. The releasing parties are the creditors "of the debtor and the released parties are third parties, here the Sacklers.)
Once the plan had been negotiated and proposed, it was put to a vote and approved by over 95 percent of the voting opioid claimants. Still, some claimants objected, arguing that members of the Sackler family should not get releases because they had not personally filed for bankruptcy. After considering these objections at the confirmation hearing, the bankruptcy court confirmed the plan.
At this point, a group of dissenters appealed to the district court, which reversed the confirmation. The district court held that the Bankruptcy Code does not authorize approval of a plan that includes nonconsensual nondebtor releases. In effect, it ruled that nondebtor releases could only be effectuated by unanimous consent of the class of releasing creditors.
That ruling was, in turn, appealed to the United States Court of Appeals for the Second Circuit. The Second Circuit disagreed with the district court. In its view, the Bankruptcy Code authorizes releases through the broad language of 11 U.S. Code § 1123(b)(6), which provides that a plan may include any “appropriate provision not inconsistent with the applicable provisions of this title.” The court noted that its own precedent permitted such releases. It also noted that the Supreme Court had taken a similar view of the broad language of Section 1123(b)(6) in United States v. Energy Resources Co., Inc., 495 U.S. 545 (1990). The Second Circuit reasoned, “[A]s the Court’s language in Energy Resources indicates, § 1123(b)(6) is limited only by what the Code expressly forbids, not what the Code explicitly allows.”
The Second Circuit then announced a balancing test that considers the following seven factors that favor the approval of nondebtor releases as appropriate:
While the appeal to the Second Circuit was pending, settlement negotiations continued; by the time the Second Circuit had issued its ruling, many of the dissenting claimants and appellants had been brought on board to support the plan. Thus, the only petitioner to the Supreme Court is not a claimant, but rather the United States Trustee functioning in its role as “watchdog” over the bankruptcy process. It has been joined in its arguments by two respondents in support of the petitioner, one a single claimant and the other representing a group of Canadian municipalities.
As a final note, the case comes before the Court under somewhat unusual procedural circumstances. Rather than filing a petition for a writ of certiorari, the Trustee applied for a stay of the mandate but invited the Court to construe that application as a petition for a writ of certiorari. The Court accepted that invitation and granted the petition.
Each side leads with arguments grounded in the text of the Bankruptcy Code. The United States Trustee argues that there is no specific provision in the Code authorizing a court to release the claims that a nondebtor claimant has against a nondebtor third party. The Trustee further argues that a release is equivalent to a discharge, which Section 524(e) of the Code defines as only affecting the liability of the debtor. In the Trustee’s view, it therefore takes an extraordinary interpretation to infer the authority for a nondebtor discharge from a “catchall” provision like Section 1123(b)(6). Purdue and the other respondents counter that the text of Section 1123(b)(6) is plain. It provides that a plan may include any “appropriate provision not inconsistent with the applicable provisions of this title.” They argue that this language is clear and wholly consistent with the structure of the Code, which generally provides a plan proponent broad discretion in crafting the provisions necessary to the success of a reorganization.
The respondents note that this discretion is “carefully circumscribed in several ways.” In making sure that releases are “appropriate” and “necessary,” the Second Circuit introduced its exacting seven-factor test. That test requires releases to be essential to the plan, to be supported by a majority of claimants, to be provided in exchange for fair payment, and to have a close relationship to claims against the debtor. Moreover, the Code contains a long list of requirements that must be met before a plan is confirmed, notably in Section 1129. These requirements apply to any releases included in a plan. Thus, releases must be proposed in good faith, must not unfairly discriminate, must be fair and equitable, and must be in the best interest of the creditors.
As for Section 524(e), Purdue argues that the language defining “discharge” is irrelevant to the question of third- party releases. “[Section 524(e)] simply clarifies that a discharge affects only the debtor’s personal liability for a debt, and not a coobligor’s liability.” This is merely a definition of what a discharge does and says nothing about whether provisions additional to the discharge may be included in a plan.
On the other side, the Trustee also argues that certain code provisions imply a prohibition on releases like those in Purdue. Specifically, the Trustee points to Section 524(g), which specifically provides for such releases in asbestos cases under certain conditions. Making an exclusio unius argument, the Trustee says that “Congress’s narrow allowance for asbestos trusts in Section 524(g) illustrates the impermissible breadth of the Sackler release.” Purdue responds that Congress explicitly forbade courts from making that exact inference when it enacted Section 524(g): When Congress enacted § 524(g), it included a “Rule of Construction” stating that “[n]othing” in § 524(g) “shall be construed to modify, impair, or supersede any other authority the court has to issue injunctions in connection with an order confirming a plan of reorganization.” Pub. L. No. 103-394, § 111(b), 108 Stat. 4106, 4117 (1994). This is part of the statute and must be respected as such. Moving from text to precedent, the parties argue about the meaning of the Court’s holding in Energy Resources. Purdue argues that “this Court construed § 1123(b)(6) as a catchall authorizing bankruptcy courts to craft plan provisions that, while not specifically identified in the Code, are ‘necessary to the success’ of the plan.” The Trustee, on the other hand, emphasizes that Energy Resources talks of plan provisions “that modify creditor– debtor relationships.” From this, the Trustee finds an implied limitation on provisions allowed by 1123(b)(6).
The parties then move to historical practices. As expected, both sides find support for their case. The Trustee and amici supporting the Trustee claim a lack of historical precedent for third-party releases, while those supporting Purdue point to historical examples of similar injunctions and releases. As an example of the divergent positions, one law professor’s amicus brief in support of the Trustee argues as follows:
Prior to the 1986 Chapter 11 plan confirmation order in the Johns-Manville bankruptcy, the idea of such a release was entirely unknown in American bankruptcy. The concept would have been incomprehensible to the Framers.
A group of professors supporting Purdue, counters that, “This is a puzzling claim that misses the mark by at least 367 years.” They point out that English cases as far back as 1619 included injunctive relief akin to the modern third- party release and that American cases with similar relief can be found in the decades before the enactment of the Bankruptcy Code in 1978.
As one would expect, the parties also include policy arguments about whether a third-party release is a tool to further efficient resolution of complex cases or a method for tortfeasors to deprive victims of their day in court. These arguments turn on a comparison between a world that allows releases and a counterfactual world that does not. The Trustee suggests that permitting nondebtor releases will shift bargaining power and the “the amounts paid by nondebtor tortfeasors in future bankruptcies will likely be lower.” Purdue quotes the bankruptcy court to argue that without releases the plan would unravel and “unsecured creditors would probably recover nothing.”
This case is likely the most important corporate bankruptcy case to come to the Court in the last 30 years. It goes to the core functioning of Chapter 11. On the most direct level it will determine whether Chapter 11 is a viable process for settling mass torts. If the Court declares a blanket prohibition on nonconsensual nondebtor releases, it could overturn settlements in pending cases like the one involving the Boy Scouts of America and prevent global settlement in future cases. A case like Purdue’s could be expected to end with claimants left on their own to pursue difficult piecemeal litigation against dispersed hard-to- reach wrongdoing shareholders. But the effects of this case will reach beyond mass torts. Nondebtor releases are a feature of most large corporate bankruptcies. Recent crypto-asset bankruptcies, including those of BlockFi and Celsius, have involved nondebtor releases as part of their efforts to resolve complex webs of claims that cut across multiple debtors’ estates. Similarly, nondebtor releases are often invoked in favor of a private-equity sponsor as part of a settlement where that sponsor contributes to the estate to settle potential claims that might be brought by the estate or its creditors. In some of these cases, the debtors have used “opt-out” provisions to argue that the releases are consensual. But the United States Trustee has objected that such consent is illusory. It is easy, then, to predict that if nonconsensual releases are prohibited, the next battle will be over the standard for consent. And this will be a battle fought in nearly every large Chapter 11 case.
If, on the other hand, the Court holds that the Code does allow for nondebtor releases, the status quo will be maintained. Purdue’s settlement will be implemented. And the battleground for cases such as Boy Scouts of America and future cases will be the standard for determining whether the releases are necessary and whether they cover an appropriate scope of claims. The contours of that battleground will be determined by how much guidance the Court provides in this case.
ATTORNEYS FOR THE PARTIES
In Support of Petitioner William K. Harrington, United States Trustee, Region 2
In Support of Respondents
In Support of Debtor Respondents
Ad Hoc Group of Local Councils of the Boy Scouts of America (Noel John Francisco, 202.879.3939)
U.S. Conference of Catholic Bishops (Traci L. Lovitt, 212.326.7830)
In Support of Affirmance
In Support of Neither Party