Sunday, July 07, 2024

Supreme Court Nixes Non-Consensual Third-Party Releases

In an opinion that resolves decades of circuit court splits, the Supreme Court ruled against allowing nonconsensual third-party releases. Harrington v. Purdue Pharma, LP, No. 23-124 (6/27/24) which can be found here.  While the opinion is emphatic in its rejection of extra-textual plan provisions, the 5-4 ruling and numerous caveats mean this won't be the last time creative lawyers will be testing the limits of the Code.

What Happened

How a narrative is framed can say a lot about how a case will end up. In the lower courts, the narrative was that the chastened Sackler family agreed to contribute billions to combat the effects of the opioid epidemic and surrender their company and that nearly everyone agreed. 

However, Justice Gorsuch told a much different story in his opinion. According to Justice Gorsuch, the Sacklers marketed a drug that killed 247,000 people and that when one of their subsidiaries accepted criminal liability for the scheme, they devised a "milking" scheme to transfer the assets of the company to the family who then transferred them to offshore trusts. Over a period of eight years, the Sacklers took $11 billion in distributions, draining the company's assets by 75%.  

After the company was faced with thousands of suits, it proposed a plan in which the Sacklers would pay back $4.325 billion over a period of years. When you figure in time value of money, the Sacklers were proposing to repay about one-third of what they received after agreeing that the company had engaged in criminal behavior. The plan provided that the Sacklers would receive a release from the company for draining its assets and would also ban claims by anyone who could otherwise sue the company. The release was striking in its breadth. It would include claims for fraud and willful misconduct (which would be non-dischargeable in a personal bankruptcy) and would extend to hundreds, if not thousands, of Sackler family members and entities.  

Most creditors who voted supported the plan. However, only about 20% of the eligible creditors actually voted. The  U.S. Trustee, who the court described as "charged with promoting the integrity of the bankruptcy system for all stakeholders," objected along with various states, municipalities, tribes and individuals. 

The Bankruptcy Court approved the plan. However, the District Court reversed in a firmly worded opinion. The Sacklers then agreed to contribute an additional $1.175 to $1.675 billion to the plan if the eight objecting states and the District of Columbia would withdraw their objections. As noted by Justice Gorsuch, "(t)he Sacklers' proposed contribution still fell well short of the $11 billion they received from the company between 2008 and 2016." Nevertheless, the objecting states and D.C. agreed to the new proposal.  A divided panel of the Second Circuit affirmed. When the U.S. Trustee asked for a stay pending appeal, the Supreme Court decided to treat the motion as a petition for cert, which they granted. 

An Unusual Alignment of Justices 

In a surprisingly close opinion, the Supreme Court reversed the Second Circuit. The lineup of justices voting for each side was a sharp contrast to the ideological splits of some of the court's more controversial decisions. Justice Gorsuch wrote the majority opinion, joined by Thomas, Alito, Barrett and Jackson. Justice Kavanaugh authored the dissent and was joined by the Chief Justice and Sotomayor and Kagan. Justice Jackson's vote to join the majority ensured that nonconsensual third-party releases would not be allowed. This may be the only case where she and Justice Thomas were on the same side of a 5-4 decision.  It is also worth noting that Justice Kavanaugh's 54-page dissent was longer than the majority opinion, indicating that this was not a casual disagreement.

A Statement of Policy

On page 1 of the opinion, Justice Kavanaugh offers a vision of the purpose of bankruptcy which illuminates the result he later reaches.

The bankruptcy code contains hundreds of interlocking rules about “‘the relations between’” a “‘debtor and [its] creditors.. But beneath that complexity lies a simple bargain: A debtor can win a discharge of its debts if it proceeds with honesty and places virtually all its assets on the table for its creditors. 

Opinion, p. 1. This statement is almost as iconic as proclaiming that bankruptcy is intended to provide relief to the honest but unfortunate debtor. Expect to see this statement quoted in many bankruptcy opinions to come.

It's the Text

While many pages have been written on third-party releases, Justice Gorsuch narrowed the case down to one subsection and one canon of interpretation. The subsection was section 1123(b)(6) which states that a plan may "include any other appropriate provision not inconsistent with the applicable provisions of this title." He summarized the argument for allowing third-party releases saying:

As the plan proponents see it, paragraph (6) allows a debtor to include in its plan, and a court to order, any term not “expressly forbid[den]” by the bankruptcy code as long as a bankruptcy judge deems it “appropriate” and consistent with the broad “purpose[s]” of bankruptcy.  And because the code does not expressly forbid a nonconsensual nondebtor discharge, the reasoning goes, the bankruptcy court was free to authorize one here after finding it an “appropriate” provision.

Opinion, at 9-10.  He had little trouble dispatching this argument. He stated:

This understanding of the statute faces an immediate obstacle. Paragraph (6) is a catchall phrase tacked on at the end of a long and detailed list of specific directions. When faced with a catchall phrase like that, courts do not necessarily afford it the broadest possible construction it can bear.  Instead, we generally appreciate that the catchall must be interpreted in light of its surrounding context and read to “embrace only objects similar in nature” to the specific examples preceding it.  So, for example, when a statute sets out a list discussing “cars, trucks, motorcycles, or any other vehicles,” we appreciate that the catchall phrase may reach similar landbound vehicles (perhaps including buses and camper vans), but it does not reach dissimilar “vehicles” (such as airplanes and submarines). This ancient interpretive principle, sometimes called the ejusdem generis canon, seeks to afford a statute the scope a reasonable reader would attribute to it. Viewed with that much in mind, we do not think paragraph (6) affords a bankruptcy court the authority the plan proponents suppose. In some circumstances, it may be difficult to discern what a statute’s specific listed items share in common. But here an obvious link exists: When Congress authorized “appropriate” plan provisions in paragraph (6), it did so only after enumerating five specific sorts of provisions, all of which concern the debtor—its rights and responsibilities, and its relationship with its creditors. Doubtless, paragraph (6) operates to confer additional authorities on a bankruptcy court. But the catchall cannot be fairly read to endow a bankruptcy court with the “radically different” power to discharge the debts of a nondebtor without the consent of affected nondebtor claimants.

Opinion, pp. 10-11 (cleaned up).  To simply, the answer to the question can be found by reference to the Sesame Street song "One of These Things (Is Not Like the Other)."   Because 11 U.S.C. Sec. 1123(b)(1)-(5) all refer to the debtor while the proposed interpretation of section 112(b)(6) does not, third-party releases are the one thing that is not like the others. 

I could go on, especially as Justice Kavanaugh offers his rebuttal to the dissent, but that is really the heart of the opinion. 

What Was Not Decided

A feature of recent Supreme Court opinions with bold holdings is a list of caveats saying what is not being decided. While the Court might later decide these propositions, it is not doing so today since they weren't really part of the question the Court was asked. It shouldn't seem necessary to do so, but it does help to silence commentators who might be tempted to claim that the sky is falling.

The Court did not call into question consensual third-party releases. Neither did it decide "what qualifies as a consensual release or pass upon a plan that provides for the full satisfaction of claims against a third-party nondebtor." Opinion, p.19. This brings to mind the evolution of Stern v Marshall.  First, the Court held that bankruptcy courts could not decide a claim that was not at the heart of the restructuring of the debtor-creditor relationship. Stern v. Marshall, 564 U.S. 462 (2011). Then it held that bankruptcy courts could decide these claims with consent of the parties. Executive Benefits Ins. Agency v. Arkison, 575 U.S. 665 (2014). Then it held that consent could be imposed by waiver. Wellness Int'l Network, Ltd. v. Sharif (2015). Just as Stern turned out not to significantly disrupt the functioning of the bankruptcy courts, so the Court in this case leaves a lot of room for deciding just how consensual a consensual release should be. 

The majority also said that it would not decide the impact of third-party releases in a plan that has  been implemented. This refers to equitable mootness, a doctrine the Supreme Court has steadfastly refused to take up. While it was not necessary to say that the Court wasn't taking up equitable mootness in a case that was not equitably moot, Justice Gorsuch indicates that he knows the issue is out there. 

The Dissent

Since the majority was able to dispose of the issue in 20 spare pages, the dissent should be as circumscribed as well, right? Not right. Justice Gorsuch's fellow Trump appointee, Justice Kavanaugh, wrote a  54-page rebuttal. A dissent can be a  lot of things. Justice Sotomayor's dissent in the Trump immunity case, Trump v. United States, 2024 U.S. LEXIS 2886 (2024), was a primal scream aimed more at the general population than the Court. On the other hand, some of the dissents of Justices Thomas and Alito became placeholders for future majority opinions. However, I do think it is significant that four Justices, including the Chief, sought to articulate an alternate ground for how the bankruptcy statute should be interpreted. 

Here are a few highlights from the dissent that may show up in future Supreme Court opinions. When citing this language, be sure to note that a dissent, while eloquent and persuasive, is still the opinion that did not prevail.

 The dissent's opening paragraphs lament the harm to the opioid victims that could have benefitted from this plan. 

Today’s decision is wrong on the law and devastating for more than 100,000 opioid victims and their families. The Court’s decision rewrites the text of the U. S. Bankruptcy Code and restricts the long-established authority of bankruptcy courts to fashion fair and equitable relief for mass-tort victims. As a result, opioid victims are now deprived of the substantial monetary recovery that they long fought for and finally secured after years of litigation. 

Bankruptcy seeks to solve a collective-action problem and prevent a race to the courthouse by individual creditors who, if successful, could obtain all of a company’s assets, leaving nothing for all the other creditors. The bankruptcy system works to preserve a bankrupt company’s limited assets and to then fairly and equitably distribute those assets among the creditors—and in mass-tort bankruptcies, among the victims. To do so, the Bankruptcy Code vests bankruptcy courts with broad discretion to approve “appropriate” plan provisions. 11 U. S. C. §1123(b)(6). 

 In this mass-tort bankruptcy case, the Bankruptcy Court exercised that discretion appropriately—indeed, admirably. It approved a bankruptcy reorganization plan for Purdue Pharma that built up the estate to approximately $7 billion by securing a $5.5 to $6 billion settlement payment from the Sacklers, who were officers and directors of Purdue. The plan then guaranteed substantial and equitable compensation to Purdue’s many victims and creditors, including more than 100,000 individual opioid victims. The plan also provided significant funding for thousands of state and local governments to prevent and treat opioid addiction. 

The plan was a shining example of the bankruptcy system at work. Not surprisingly, therefore, virtually all of the opioid victims and creditors in this case fervently support approval of Purdue’s bankruptcy reorganization plan. And all 50 state Attorneys General have signed on to the plan—a rare consensus. The only relevant exceptions to the nearly universal desire for plan approval are a small group of Canadian creditors and one lone individual. 

But the Court now throws out the plan—and in doing so, categorically prohibits non-debtor releases, which have long been a critical tool for bankruptcy courts to manage mass-tort bankruptcies like this one. The Court’s decision finds no mooring in the Bankruptcy Code. Under the Code, all agree that a bankruptcy plan can nonconsensually release victims’ and creditors’ claims against a bankrupt company—here, against Purdue. Yet the Court today says that a plan can never release victims’ and creditors’ claims against non-debtor officers and directors of the company— here, against the Sacklers.

That is true, the Court says, even when (as here) those non-debtor releases are necessary to facilitate a fair settlement with the officers and directors and produce a significantly larger bankruptcy estate that can be fairly and equitably distributed among the victims and creditors. And that is true, the Court also says, even when (as here) those officers and directors are indemnified by the company. When officers and directors are indemnified by the company, a victim’s or creditor’s claim against the non- debtors “is, in essence, a suit against the debtor” that could “deplete the assets of the estate” for the benefit of only a few, just like a claim against the company itself.

 Dissent, pp. 1-3.  This is a big chunk of text. However, I felt that it was important to capture the spirit of the dissent. Reading it, I have to say WOW. What a full-throated defense of bankruptcy as a solution to a "collective action problem" from two members of the Court's Republican majority. The dissent is claiming that the majority is being mean in overruling this "shining example of the bankruptcy system at work." As a bankruptcy practitioner, it warms my heart to know that four members of the Supreme Court think so highly about what we do.

So where did the dissent see the law differently? First, it viewed the word "appropriate" broadly in light of "the history of bankruptcy practice approving non-debtor releases in mass-tort bankruptcies." This seems to be a weird marriage of open-ended statutory interpretation favored by the left with the history and tradition opinions of the right. 

However, I can't get away from the view that the dissent is arguing that the ends justify the means. The dissent comes right out and says that because this was a really good deal, that the Court should find a way to make the legislative language work. That is shown by this excerpt:

Throughout this opinion, keep in mind the goal of bankruptcy. The bankruptcy system is designed to preserve the debtor’s estate so as to ensure fair and equitable recovery for creditors. Bankruptcy courts achieve that overarching objective by, among other things, releasing claims that otherwise could deplete the estate for the benefit of only a few and leave all the other creditors with nothing. And as courts have recognized for decades, especially in mass-tort cases, non-debtor releases are not merely “appropriate,” but can be absolutely critical to achieving the goal of bankruptcy—fair and equitable recovery for victims and creditors.

Dissent, p. 5. I know I am being overly dramatic here, but it is almost as if the dissent is saying "from each billionaire according to his ability to pay, to each creditor according to the common settlement fund." While my paraphrase of Marx may be a little cheeky, there are plenty of times when the Bankruptcy Code applies a common welfare model. An individual debtor's discharge does not depend on the consent of the creditors. It is granted unless a party in interest prevails in an action under section 523 or 727, If a plan is approved by the requisite majority (2/3 in dollar amount and more than one-half in number) it is binding on all of the creditors in the class if the plan is otherwise confirmable. Given the societal impact of mass torts, whether it is opioids, sexual abuse or asbestos, maybe a collective solution is desirable. That is certainly the view of the four dissenters. 

What Should the Answer Be?

In writing about this issue for several years, I have come to the conclusion that the ability to resolve large societal problems requires the ability to marshal third party assets in return for third-party protections, but that the Code does not currently provide the authorization to do so. On the other hand, the current ad hoc system of providing relief to third parties whenever it is necessary to make a plan work is too broad to be justified. I can think of a few instances which a functional legislature (meaning not the one we have right now) might endorse. The easiest case is for channeling injunctions for insurance proceeds. Arguably this is already authorized under current law. When an insurance company contributes the full policy limits to a plan, it should be free from other claims. I also think bar orders should be enforceable. When a third party settles estate claims, it should be released from third party claims based on the same facts. The same should be true where a third-party entitled to indemnity from the debtor makes a significant contribution to a settlement fund. That was at least a part of the issue in Purdue Pharma. Some circuits, but not the Fifth Circuit, allow for bar orders. Finally, I think that there should be some situations where the vote of a class to accept a plan, perhaps by a supermajority, should bind all the members of the class, even if it grants relief to third parties.

Barring a legislative solution, creative lawyers will look for ways to make releases consensual. To paraphrase Dr. Ian Malcom in Jurassic Park, lawyers will find a way. 


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