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In an anticipated decision, on May 30, 2023, the Second Circuit Court of Appeals issued its decision approving a Chapter 11 plan’s inclusion of a nonconsensual release of direct claims against non-debtor third parties. Purdue Pharma LP v. City of Grand Prairie (In re Purdue Pharma LP), No. 22-110 (2d Cir. May 30, 2023).

The facts of the Purdue Pharma bankruptcy case are well known. Purdue filed for bankruptcy to resolve tens of thousands of claims arising from its development, manufacturing, marketing, and sale of OxyContin. Despite also having direct claims for promoting opioids asserted against them, the Sacklers, Purdue’s controlling family, did not file for bankruptcy. The U.S. Bankruptcy Court for the Southern District of New York ultimately approved a Chapter 11 plan that included a non-consensual release of claims against certain non-debtors, including the Sacklers, provided that Purdue’s conduct was the cause of the claim or a relevant factor in the claim. Several parties, including the U.S. Trustee and several states appealed to the U.S. District Court for the Southern District of New York, and the District Court reversed the Bankruptcy Court, finding no statutory authority in the Bankruptcy Code for the third-party releases. 

Several parties, including Purdue, the Sacklers, and the official creditors’ committee appealed the District Court’s decision. Nine states ended up dropping their opposition to the appeal after the Sacklers agreed to contribute an additional $1.175 to $1.675 billion to the plan, raising their total contribution to the Chapter 11 plan to approximately $6 billion. As a result, the only remaining appellees to the Second Circuit were the US. Trustee, some Canadian municipalities, indigenous nations, and pro se claimants. 

Reversing the District Court, the Second Circuit concluded that the Bankruptcy Code permits the inclusion of nonconsensual releases of direct claims against third parties. In so ruling, the Second Circuit found authority in §§ 105(a) and 1123(b)(6) of the Bankruptcy Code. Section 105(a) allows a bankruptcy court to issue any order necessary to carry out the provisions of the Code, and section 1123(b)(6) states that a Chapter 11 plan may include any provision not inconsistent with the rest of the Bankruptcy Code. Read together, the Second Circuit held that nothing in the Bankruptcy Code expressly prohibits non-consensual third-party releases, and therefore, bankruptcy courts have broad equitable powers to grant third party releases if they are necessary to facilitate a debtor’s Chapter 11 plan.

The Second Circuit clarified that the determination as to whether to grant a third-party release is a very fact intensive inquiry. As such, the Court outlined seven different factors for courts to consider, including the identity of interests between the debtor and released parties, whether the claims against the debtor and non-debtor are factually intertwined, the scope of the third-party release, how necessary the release is to the plan of reorganization, whether the released parties contributed assets to the plan, the number of creditors who approved the plan and whether the plan provides for the fair payment of enjoined claims. Consideration of each factor is required. In approving the release in the Purdue case, the Second Circuit gave great weight to the amount of money the Sacklers contributed to the plan, approximately $6 billion, the fact that the plan had over 95% approval from creditors and the large overlap of interests and legal claims between the Sacklers and Purdue. 

With this decision, the Second Circuit now joins the Third, Fourth, Sixth, Seventh and Eleventh Circuits as jurisdictions that allow bankruptcy courts to approve nonconsensual third-party releases under certain circumstances. These other circuits all use a set of factors similar to the Second Circuit to evaluate the releases. The circuits also all caution bankruptcy courts to approve releases in only limited circumstances. In contrast, the Fifth, Ninth and Tenth circuits do not allow courts to impose nonconsensual third-party releases under any circumstances. The First and Eighth Circuits are silent on this issue, but lower courts have suggested that nonconsensual releases are permissible. 

Given the circuit split, this issue is far from resolved. Highlighting this point is Judge Wesley’s concurrence in the Second Circuit’s decision. Judge Wesley ultimately agreed with the Second Circuit’s holding because prior precedent in the Second Circuit had approved of third-party releases and that case has not been overruled. That being said, Judge Wesley addressed his concerns in giving bankruptcy courts extraordinary authority to impose nonconsensual releases when the Bankruptcy Code is silent on the matter. He urged the Supreme Court to resolve the issue in order to create a uniform view of the problem. 

The Second Circuit decision is a win for debtors who desire to include third party releases in their Chapter 11 plans and provides mechanisms for debtors to globally resolve mass tort claims asserted against them, along with insiders, affiliates and indemnified parties. Going forward, nonconsensual third-party releases can be approved in the Second Circuit in certain limited circumstances. However, the concurrence, which at times reads like a dissent, continues to cast some doubt on the future of these releases. The circuit split and controversial nature of this issue may lead the Supreme Court to heed the advice of Judge Wesley and choose to hear this case if it is appealed.