Involuntary releases of shareholders in question after NY court vacates confirmation order in Purdue Pharma bankruptcy case

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UPDATE: This article was updated January 6, 2022, to reflect that the matter was appealed since the time of the article's original posting.

On December 16, 2021, Judge Colleen McMahon of the Southern District of New York issued an order vacating the order confirming the plan in Purdue Pharma’s bankruptcy case1. This order not only unwinds a major piece of one of most pivotal bankruptcies in the United States this year, but also addresses a critical current issue in bankruptcy law. 

Judge McMahon specifically held that the non-consensual third-party releases in the bankruptcy plan for the Sackler family – the family long involved in management of Purdue Pharma, the company known for OxyContin – were not proper, and that members of the Sackler family would not be protected by the bankruptcy plan from facing personal liability in lawsuits that are currently pending or have yet to be filed. 

Many of these claims relate to opioid addiction and subsequent deaths; numerous parties have attributed Purdue Pharma’s production and marketing of OxyContin as playing a major role in the ongoing opioid epidemic. Both Purdue Pharma and the Sackler family have already asked the Court to certify an appeal to the Second Circuit, but the case – while it could be an anomaly – could have major implications for the future of non-consensual third-party releases in bankruptcy cases across the country in the years to come.

Fall 2019: Purdue Pharma files for Chapter 11 bankruptcy protection

Purdue Pharma filed for Chapter 11 bankruptcy protection in the fall of 2019. Among other reasons, one of the stated purposes for the bankruptcy was to address the substantial litigation the company was facing around opioid addiction claims and resulting injuries or deaths. Members of the Sackler family, who had long been involved at the board level and in management of the privately held company, were also facing personal liability in a number of these cases (brought by both private litigants and numerous state attorney generals). The Bankruptcy Code’s automatic stay put a temporary halt on these litigation claims, and creditors and litigants began to negotiate with the company regarding a potential Chapter 11 plan. The bankruptcy judge also granted an injunction enjoining litigation against members of the Sackler family during the bankruptcy case (even though none of the Sackler family members filed for bankruptcy protection). From the start, as Judge McMahon noted, the bankruptcy filing was “a critical part of the strategy to secure for the Sacklers a release from any liability for past and even future opioid-related litigation without having to pursue personal bankruptcy.”

August 2021: Purdue Pharma files Chapter 11 plan filed (includes $4.325 billion contribution to resolve claims in exchange for a non-consensual broad release of third-party civil claims against over 1,000 individuals and entities related to the Sackler family)

After mediation and substantial negotiations with creditors and litigants during the bankruptcy case, Purdue Pharma eventually filed its Chapter 11 plan, and the bankruptcy court held a confirmation hearing in August 2021. As detailed in the plan, along with other provisions, the Sackler family agreed to make total payments of $4.325 billion in the aggregate to a fund that would be used to resolve criminal settlements (with the federal government) and public and private civil claims. In exchange for this contribution, the plan included a broad release of third-party civil claims against over 1,000 individuals and entities (including certain trusts holding assets) related to the Sackler family. Among other provisions, the plan releases and discharges certain claims that states and personal injury claimants have already asserted in the past or might assert in the future against the Sackler family, and prohibits further claims against these parties if the claims are related to Purdue Pharma, the bankruptcy estates, or the Chapter 11 cases, and the “conduct, omission or liability of any Debtor or any Estate is the legal cause or is otherwise a legally relevant factor.” 

September 2021: Bankruptcy court approves Purdue Pharma’s Chapter 11 plan  

The releases were non-consensual; this means that they bind those parties that voted (and consented to the releases) as well as those parties that objected. In September 2021, the bankruptcy court approved the plan (not without some reservation) after finding that: the settlements were necessary for the approval of the plan, the settlements were fair and reasonable, and the Purdue Pharma case and the Chapter 11 plan would unravel without the inclusion of the third-party releases of claims against the Sackler family (in exchange for their substantial payment to the claims fund), among other factors. Although the court acknowledged the Second Circuit had previously indicated that non-consensual third-party releases could be approved only in “appropriate, narrow circumstances,” it found that this was a “rare” and “unique” case where the specific facts of the matter supported the authorization of the non-consensual third party releases, specifically given the Sackler family’s substantial financial contribution to the plan, the necessity of the settlement payment for the plan to work, the complexities of the case, and the cost and likelihood of success of third party claims against the Sacklers, among other reasons2

Further, the court noted that it approved the non-consensual third party release in part because the terms of the release itself was substantially limited; they were “premised as a legal matter on a meaningful overlap with the debtor’s conduct,” and the release of such third party claims under the plan was appropriate if “enough other considerations support the settlement.”3  Although a number of states and other creditor groups consented to the plan and the releases included therein, the United States Trustee, eight states attorney general, certain individuals, and certain other groups objected to the plan, and they appealed the order approving the plan this fall. 

Fall 2021: United States Trustee, 8 states attorney general, and others appeal bankruptcy court order approving the Purdue Pharma plan

On appeal, Judge McMahon found that while the bankruptcy court certainly had subject matter jurisdiction to approve the release of the claims against the Sackler family, the court did not have statutory authority to approve these non-consensual third-party releases. As Judge McMahon notes, the issue is certainly not one that is settled in bankruptcy law, and the issue goes far beyond just the Purdue Pharma case.

Non-consensual third-party releases increasing frequency in bankruptcy cases

The question is “whether the Bankruptcy Court – or any court – is statutorily authorized to grant such releases.” While the issue has “split the federal Circuits for decades” and the Second Circuit has no settled case law on the issue, non-consensual third-party releases – and litigation surrounding these releases – have become quite commonplace in bankruptcy cases throughout the country in recent years. 

As a result, as Judge McMahon notes, a debtor’s ability to obtain such a release “is entirely a function of where the debtor files for bankruptcy.” To avoid potential litigation surrounding releases, some bankruptcy cases have recently shifted to only including third party releases where creditors can provide a consensual release or “opt in” to giving the release. The Purdue Pharma bankruptcy plan did not provide for this type of consensual release.

The circuit courts have reached conflicting results on non-consensual third party releases:

  • The Fifth, Ninth, and Tenth circuits entirely reject the authorization of non-debtor releases outside of asbestos cases (pursuant to section 524(e) of the Bankruptcy Code).
  • The Third Circuit has not held that a bankruptcy court has statutory authority to provide for such releases. 
  • The Fourth and Eleventh Circuits have held that section 105(a) of the Bankruptcy Code authorizes such relief.
  • The Sixth and Seventh Circuits have authorized non-consensual third party releases pursuant to both section 105(a) and 1123(b)(6) of the Bankruptcy Code. 
  • The First, Second, Eighth, and D.C. Circuits have no settled findings on the issue. 

Although the Purdue Pharma bankruptcy court approved the non-consensual third party releases included in the plan pursuant to sections 105(a), 1123(a)(5), 1123(b)(6), and 1129 of the Bankruptcy Code, Judge McMahon found that each of these sections only allows the court “the power to enter orders that carry out other, substantive provisions of the Bankruptcy Code,” and they do not create “any substantive right” that authorizes the inclusion of non-consensual third-party releases. 

In reviewing previous Second Circuit precedent regarding the release of third-party claims, Judge McMahon noted that while certain courts in the Second Circuit had dealt with the release of third party claims in other cases, none of these cases actually addressed any section of the Bankruptcy Code that authorized these releases (other than pursuant to section 524(g) in the asbestos context): the argument was not raised by the parties in such cases, the release addressed only derivative, and not direct, claims, or the court approved such a release if such an injunction “play[ed] an important part in the debtor’s reorganization plan.”4  

In another bankruptcy case, for example, the Second Circuit previously held that non-debtor releases should not be approved unless it is a “unique” case where the court considered certain factors, including, but not limited to whether the release is important to the plan, whether the enjoined claims would be channeled to a settlement fund, and whether the estate receives substantial consideration, among other factors.5 

Reasoning behind decision to not approve non-consensual third-party claims release

While the Purdue Pharma plan certainly had many of these factors, Judge McMahon noted that the issue was “unsettled” and focused on finding an explicit statutory authorization for the non-consensual release of third party claims; she held that without some express authority (other than section 105(a) of the Bankruptcy Code), she could not approve the non-consensual third-party claims release in the Purdue Pharma plan. Among other reasons, the court noted that Congress’ explicit limitation of the statutory authorization of involuntary non-party releases to asbestos cases (pursuant to section 524(g) of the Bankruptcy Code) – and the lack of the expansion of that provision in the many years since this section took effect – perhaps meant that non-consensual third party releases were not meant to be statutorily authorized under the Bankruptcy Code. 

Further, the release included in the plan does not include exceptions for fraud or willful and malicious conduct; even Purdue Pharma cannot be discharged from these liabilities in bankruptcy. Although the bankruptcy court cited such authority, Judge McMahon also noted that there is also no “residual authority” that authorizes a bankruptcy court to otherwise provide for such releases in the process of confirming a plan that includes a global settlement of claims (outside of any explicit statutory authority). 

Finally, Judge McMahon held that the bankruptcy court also lacked constitutional authority to confirm the plan including the non-consensual third party releases. In brief, the bankruptcy court only has authority to enter a final judgment on matters that “stem [] from the bankruptcy itself or would necessarily be resolved in the claims allowance process. Stern v. Marshall, 564 U.S. 462, 499 (2011). A nonconsensual third party release, however, “is essentially a final judgment against the claimant, in favor of the non-debtor, entered ‘without any hearing on the merits;’” 

Judge McMahon notes that the fact that these claims are being released in the context of a global settlement in a plan changes nothing. Because the non-consensual release of third party claims has been held to have a res judicata effect on further actions, the district court held that the bankruptcy court also did not have constitutional authority to approve the release in the Purdue Pharma plan. This further interpretation of Stern v. Marshall – a critical case concerning bankruptcy jurisdiction – could also have a wide-reaching impact on third-party releases going forward. 

The Purdue Pharma decisions impact on restructuring plans that include non-consensual third party release's

While Purdue Pharma and the Sackler family have already requested certification of an appeal of the matter to the Second Circuit (and possibly to the Supreme Court), the Purdue Pharma releases and this related decision will likely have an impact on many parties’ efforts to include non-consensual third party releases in their restructuring plans. Judge McMahon noted that the entire Purdue Pharma bankruptcy case had likely “proceeded on the assumption” that such releases would be authorized, “despite the language of the Bankruptcy Code and the lack of any clear ruling to that effect.” In many cases, the ability to obtain a release and a “fresh start” – after negotiating with creditors and restructuring debts – is a major reason why many parties file for bankruptcy. If there is no way for the release to be consensual, however, the extent to which parties other than the debtor (including the debtor’s shareholders) may be included in that release, however, is still an open question, particularly in the Second Circuit. 

With the order confirming the Purdue Pharma plan vacated, the finality Purdue Pharma and many other parties hoped for with confirmation may be elusive for many more years. As Judge McMahon’s decision makes clear, however, the “time to resolve this question [regarding non-consensual third party releases] for once and for all is now – for this bankruptcy, and for the sake of future bankruptcies.” 

We will continue to follow any appeals of the case and consider the potential impact this case may have on the future of third-party releases in reorganizations across the country.

(1) See In re Purdue Pharma, L.P., Case No. 21-07532-CM (ECF No. 280) (S.D.N.Y. Dec. 16, 2021)
(2) In re Purdue Pharma L.P., No. 19-23649, 2021 WL 4240974, at *40 (Bankr. S.D.N.Y. Sept. 17, 2021), citing Deutsche Bank A.G. v. Metromedia Fiber Network, Inc. (In re Metromedia Fiber Network, Inc., 416 F.3d 136, 141 (2d Cir. 2005).
(3) In re Purdue Pharma L.P., 2021 WL 4240974 at *43-47, citing In re Quigley Co., Inc. 676 F.3d 45, 59-60 (2d Cir. 2012).
(4) See, e.g., In re Drexel Burnham Lambert Grp., Inc., 960 F.2d 285, 293 (2d Cir. 1992); In re Tronox, Inc., 855 F.3d 84 (2d Cir. 2017) (approving the release of only derivate claims); In re Madoff Inv., Securities LLC, 740 F.3d 81 (2d Cir. 2014) (approving the estate’s settlement of claims against a co-conspirator in exchange for a significant contribution to the bankruptcy estate).
(5) 416 F.3d 136 (2d Cir. 2005).

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