ANALYSIS: How Purdue Pharma Could Reshape Ch. 11 Practice

The US Supreme Court will hear arguments in December in the Purdue Pharma case over whether the Bankruptcy Code allows a Chapter 11 plan to provide nonconsensual releases to nondebtor third parties.

The case has the attention of both the general public and bankruptcy practitioners. It involves a multibillion dollar settlement with a wealthy family for their alleged involvement in the opioid epidemic, and also promises to be one of the most consequential Supreme Court opinions on bankruptcy in over a decade, bringing changes to Chapter 11 bankruptcy practice.

Purdue Pharma: A Brief History

Purdue Pharma LP and its affiliates filed Chapter 11 bankruptcy in the Bankruptcy Court for the Southern District of New York on Sept. 15, 2019, seeking refuge from thousands of lawsuits concerning its role in the opioid epidemic. Many of these lawsuits named members of the Sackler family, who had been directors, officers, and shareholders of the company. However, none of the Sacklers filed a bankruptcy case.

After months of intense negotiation, the debtors and creditors’ committee proposed a Chapter 11 plan including a settlement through which the Sacklers would pay approximately $4.3 billion in exchange for broad nondebtor releases. The bankruptcy judge confirmed the plan, overruling objections.

On appeal, the district court judge vacated the confirmation order, finding no statutory authority for the plan’s releases. The debtor and plan proponents appealed that decision to the Second Circuit. While the appeal was pending, the Sacklers agreed to increase their contribution to $6 billion, and several objecting parties withdrew their opposition.

The Second Circuit reversed the district court, holding that the Bankruptcy Code provides this authority in two provisions:

• 11 U.S.C. § 105, which gives bankruptcy courts power to issue any necessary or appropriate order to carry out the Bankruptcy Code; and
• 11 U.S.C. § 1123(b)(6), a catchall provision that authorizes Chapter 11 plans to include any provision as long as it doesn’t conflict with other Bankruptcy Code provisions.

The broad authority in §1123(b)(6) is limited only “by what the Code expressly forbids, not what the Code explicitly allows,” the appeals court said. It also noted a prior Supreme Court case interpreting 11 U.S.C. §1123(b)(6) that affirmed the ability to modify debtor-creditor relationships.

The US Trustee appealed the Second Circuit’s decision to the Supreme Court. The parties have submitted their initial briefs and will appear for oral argument on Dec. 4.

Prediction for Court Decision

Overall, it’s likely that the court will agree with the US Trustee and find that there’s no statutory authority for the releases.

The court, especially its more conservative members, will hesitate to grant bankruptcy courts the power to alter the rights of creditors with respect to nondebtors. It will be difficult for some members of the court to find that a catchall provision grants such sweeping power. The court will be able to distinguish its prior holding by noting that this case seeks to modify relationships between creditors and nondebtor third parties.

The court may also conclude that providing this authority is a job better left to Congress, as it has done with respect to asbestos cases.

A factor weighing in the debtors’ favor is that the appeal is primarily being prosecuted by the US Trustee, who isn’t a creditor, but simply the voice of the Justice Department. The plan itself received acceptances of 95% of votes cast. A reversal will also prevent the resolution of the settlement and its attendant benefits like opioid abatement. The parties will have to go back to the drawing board, resulting in more attorney fees and uncertainty as to whether the Sackler money will still be in play.

If the Court Disallows the Releases

Should the Supreme Court hold that there is no statutory authority for the releases, this will be a reversal of what has been allowed in a majority of circuits, and will likely provoke some anguish among Chapter 11 professionals. Debtors’ counsel may need to look to Chapter 11 plans confirmed in the Fifth, Ninth (arguably), and Tenth Circuits, where these types of releases haven’t been allowed.

Chapter 11 plans in these jurisdictions include releases, but they must be consensual. These consents are typically built into the voting process on the plan. Plan proponents will need to be prepared to deal with objections concerning how these types of consents are obtained. Additionally, third parties may demand language making their funding contingent on receiving a certain percentage of releases.

Debtors forming Chapter 11 plans who are concerned with the effect of litigation on plan proponents may want to study the use of exculpation and gatekeeper provisions, which don’t offer releases, but which may help channel lawsuits through bankruptcy court.

Even now, plan proponents may be Purdue-proofing their plans, providing for contingencies in case the releases are found to be illegal. At the same time, the US Trustee is objecting to and seeking to enjoin such plans from going into effect until a decision is rendered.

Some scholars have even speculated that if the Supreme Court finds that nonconsensual nondebtor releases are unauthorized, companies might relocate to a foreign jurisdiction with a restructuring law that allows for such releases and then have that proceeding recognized in the US through a Chapter 15 proceeding.

Parties will undoubtedly continue developing creative ways to limit liability for nonbankrupt parties in mass tort cases.

If the Court Upholds the Plan

While proponents of mass tort maneuvers in Chapter 11 have had a number of judicial setbacks in 2023, a Supreme Court decision upholding the Purdue Pharma plan would be a major victory for them. However, because Purdue Pharma has been such a high-profile case, such a ruling may generate backlash and reenergize congressional efforts to reform the Bankruptcy Code to prevent such maneuvers.

Whichever way the court rules, it’s not likely to be the end of the story with respect to third-party releases. The court will likely only deal with the question of statutory interpretation and not the constitutional issues that litigants may still use to attack these releases or other creative uses of the Bankruptcy Code.

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