Simon PLC Attorneys & Counselors – August 2024 Memorandum
PURDUE RULING- A POTENTIAL LIMITATION ON THE POWERS OF THE BANKRUPTCY COURT
Troy, MI. In a long-awaited decision, the United States Supreme Court on June 27, 2024 finally resolved an often contentious issue in bankruptcy — a court’s authority to approve, as a part of a chapter 11 debtor’s plan of reorganization, the nonconsensual third-party release of claims. Nonconsensual third-party releases have long been highly debated in bankruptcy cases. Third-party releases, often included in chapter 11 plans, essentially serve to discharge certain non-debtor third parties (usually officers, shareholders, or related entities of the chapter 11 debtor) from liabilities to creditors without the creditors’ consent. Courts have historically been divided on the permissibility and scope of such third-party releases. Those that support the courts upholding such third-party releases argue that that they are necessary in the restructuring process in that it facilitates settlements and potential contributions by third parties who may otherwise be subject to prolonged litigation outside of bankruptcy. While opponents of such third-party releases argue that such releases not only deprive parties from pursuing their claims outside of bankruptcy as well as infringing on the rights of creditors but also such releases are overbroad and undermine without authority the principles of fairness and justice that form the very foundation of bankruptcy law. Not surprising, due to these conflicting viewpoints, an array of varying outcomes from the courts have resulted.
In Harrington v. Purdue Pharma L.P. , 603 US ____ (2024), the Supreme Court has now resolved this conflict. By a 5-4 vote, the Supreme Court held that the Bankruptcy Code does not authorize courts to release claims against non-debtors held by third parties without those third parties’ consent. Purdue Pharma L.P. (“Purdue”) filed for chapter 11 relief in 2019 after being faced with a wave of lawsuits for its role in what has been described as abetting the nationwide opioid epidemic. Purdue’s bankruptcy proceedings focused in significant part on the settlement of claims held by the Purdue estate against Purdue’s longtime owners, the Sackler family, who chose not to seek bankruptcy relief in their individual capacity. Those claims arose from, among other things, the Sackler family’s withdrawal of some $11 billion from Purdue in the years preceding its collapse. To settle those claims, the Sacklers proposed to return to Purdue’s bankruptcy estate approximately $5.5 – $6 billion, which would be used to compensate opioid victims and their families, as well as to fund various opioid abatement initiatives. In exchange for that sum, the Sacklers sought an injunction and release not only of any claims held by Purdue’s bankruptcy estate against the Sacklers, but also of any opioid-related claims against the Sacklers that had been or in the future could be asserted by third parties, regardless of whether those parties consented to the release of their claims. Purdue agreed to those terms and accordingly included in its plan of reorganization a broad release of all opioid-related claims against the Sacklers. The US Trustee, thousands of victims, eight States, the District of Columbia, the city of Seattle, various Canadian municipalities, and Tribes, objected to the confirmation of the plan that included the third-party releases.
The bankruptcy court rejected the objectors’ arguments and entered an order confirming the plan, including its provisions related to the Sackler discharge. 633 B.R. at 95-115. Soon, however, the district court vacated that decision holding that nothing in the law authorized the bankruptcy court to extinguish claims against the nondebtor Sacklers without the consent of the opioid victims who brought them. 635 B.R. at 115. Consequently, plan proponents, including Purdue and the Sackler family, appealed to the Second Circuit. In a divided panel, the Second Circuit reversed the district court’s decision and revived the bankruptcy court’s ruling. Writing separately, Judge Wesley acknowledged that while the bankruptcy court enjoys broad authority to modify debtor-creditor relations, nothing in the bankruptcy code grants a bankruptcy court the “extraordinary power to release and enjoin claims against a third party without the consent of the affected claimants.” 69 F. 4th at 89. After the Second Circuit’s ruling, the US Trustee filed with the Supreme Court an application to stay the Second Circuit’s decision, which the Supreme Court granted as well as a writ of certiorari, so as to resolve the circuit split that existed regarding the issue of nonconsensual third-party releases.
In the majority opinion, Supreme Court Justice Gorsuch examined the catchall phrase found in section 1123(b)(6) of the Bankruptcy Code, which the Second Circuit primarily relied on in reinstating the bankruptcy court’s order as well as the proponents of the Purdue plan. Section 1123(b)(6) directs that a plan may “include any other appropriate provisions not inconsistent with the applicable provisions of this title”. The plan proponents viewed paragraph 6 as permitting a debtor to include in its plan and a court to order “any term” not “expressly forbidden” by the bankruptcy code as long as a bankruptcy judge deems it “appropriate” and “consistent” with the broad purposes of bankruptcy. And because the code does not expressly forbid a non-consensual nondebtor discharge, as the reasoning goes, the bankruptcy court was free to authorize as it did in the Purdue case after finding it an “appropriate” provision. Judge Gorsuch found such reasoning flawed as courts do not necessarily afford such catchall phrases the broadest possible construction it can bear. Citing Epic Systems Corp. v. Lewis, 584 US 497, 512 (2018). Instead, Justice Gorsuch reinforced that the catchall must be interpreted in light of its surrounding context. Section 1123(b) concerns the debtor, its rights and responsibilities and relationship with its creditors. Moreover, Justice Gorsuch pointed out that had Congress wanted the provision to have the interpretation that the proponents of the plan believe it had, Congress could have written the paragraph to state that “everything not expressly prohibited is permitted.” But Congress did not. Rather, Congress used the term “appropriate” which term draws its meaning from surrounding provisions. Citing Sossamon v Texas, 563 US 277, 286 (2011). As Section 1123(b) deals solely with the debtor and its relationship with its creditors, the catchall provision cannot apply to third parties. Therefore, nonconsensual third party releases are not authorized under the bankruptcy code nor do courts have the authority to approve such releases.
The Supreme Court in its ruling attempted to narrow it to nonconsensual third-party releases. However, time can only tell whether the Supreme Court’s ruling may have far reaching implications beyond such releases. Perhaps, affording a greater latitude for creditors to object to plans less favorable to them.
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