The Delaware bankruptcy judge presiding over Millennium Labs' Chapter 11 case on Thursday grilled the debtor and a creditor who appealed the 2015 confirmation order over what constitutional authority allows liability releases granted without creditor consent, delving into an issue that could have far-reaching implications for bankruptcy courts’ power.
The inquiries from U.S. Bankruptcy Judge Laurie Selber Silverstein came during oral arguments in Wilmington that stemmed from the Delaware district court’s remand of her confirmation order with instructions to include findings on what authority in the U.S. Constitution allows a bankruptcy judge to grant what are called nonconsensual third-party releases, an uncommon form of liability release granted over the objection of creditors who would lose a claim against a third party in another venue.
In the Millennium Labs case, a group of creditors led by Voya Investment Management were essentially prevented by the confirmation order from suing the debtor’s departing owners in the district court on allegations of disclosure failures and conflicts related to an earlier $1.8 billion dividend recapitalization. The Voya group appealed and U.S. District Court Judge Leonard P. Stark sent the confirmation order back, seeking clarity over whether the U.S. Supreme Court precedent in the Stern v. Marshall case — which limited claims that could be resolved in bankruptcy proceedings — allows the bankruptcy court to grant such releases.
The Voya group had argued that Judge Silverstein overstepped her authority by squelching claims that were not before her on the merits. But on Thursday, the judge wondered if Voya’s logic would extend to all sorts of decisions bankruptcy courts across the country make every day, such as consideration of automatic stay issues and what happens to net-operating-loss tax assets or successor liability to a buyer in a sale.
“I have a list of things I normally do, I think you’re saying I can’t,” Judge Silverstein said. “Have we been doing this wrong for years?”
Many of the arguments came down to fine distinctions over actions normally considered procedural issues, but whose interpretations have significant consequences in the context of the instant dispute.
Voya attorney Thomas E. Redburn Jr. of Lowenstein Sandler LLP argued that Judge Silverstein’s confirmation order ran counter to Stern v. Marshall by “extinguishing” claims that weren’t against the debtor, filed in a different court, and had only a limited connection to the bankruptcy case.
By granting the release and extinguishing the claim, Judge Silverstein was essentially deciding a matter that wasn’t before her and depriving Voya of its right to pursue its claims in the district court, Redburn argued. Redburn also contended that releasing the claim also violated the creditor’s Seventh Amendment right to have its issue considered by a jury, something a bankruptcy court can’t do alone, and that while the bankruptcy court may have statutory authority for nonconsensual third-party releases, it doesn’t have constitutional authority.
Judge Silverstein suggested that another interpretation could be that she’s not snuffing out the claim but giving the targets an affirmative defense, which would not appear to run counter to the Constitution, but Redburn countered the legal impact of the decision would be to release a claim forever, and that’s where the inquiry should focus.
Arguing for the Millennium bankruptcy estate and related parties, John C. O’Quinn of Kirkland & Ellis LLP contended that the releases are not necessarily an adjudication at all but more of a settlement, just one where one side is not consenting.
Judge Silverstein wondered whether that in itself is an adjudication, but O’Quinn argued that the court is not making any determination of who is right or wrong in its decision.
The judge also wondered if the Section 363 sales that permeate most modern Chapter 11s, which allow assets to go to a buyer free and clear of any encumbrances, would also be outside of the bankruptcy court's purview using Voya’s logic. Redburn said those wouldn’t be affected because the actual claims survive and remain with the bankruptcy estate.
How the case eventually shakes out has the potential to have significant impact on just what a bankruptcy court can do, particularly in the realm of nonconsensual third-party releases.
While those sorts of releases are not often used and it is difficult to get approval from a bankruptcy judge, their loss would remove a powerful weapon from restructuring professionals’ arsenals in cases where getting to a Chapter 11 plan confirmation is facing extraordinary pressure, experts have said.
The releases are typically granted in cases where the court deems them absolutely necessary to confirm a plan, and then generally only to parties deemed to have made a “substantial contribution” to a case.
In the Millennium Labs case, the Chapter 11 plan cleared the way for a $250 million settlement with federal regulators on False Claims Act claims that had to be paid within weeks in order for the debtor to avoid having its Medicare billing privileges revoked and effectively collapsing, but could only get creditor approval with the releases intact.
Voya, owed about $100 million in the $1.2 billion case, was a holdout, but was overruled.
On Thursday, Judge Silverstein wondered whether the concept of being necessary to a restructuring could extend to the point of abuse, with requests to release mortgages, personal tax liability or even recently filed tort claims rolling in.
O’Quinn argued that the authority to determine reasonableness of requests and abuse would remain with the bankruptcy court, tempering that danger.
Judge Silverstein is expected to write an opinion on the remand that would send the case back to the district court. From there, experts say the issue has the potential to be appealed to the Third Circuit or even higher.
The Millennium Labs estate parties are represented by Anthony W. Clark, Jason M. Liberi, Raquelle L. Kaye, and Felicia Gerber Perlman of Skadden Arps Slate Meagher & Flom LLP, Domenic E. Pacitti of Klehr Harrison Harvey Branzburg LLP, Paul M. Basta, Joshua A. Sussberg and John C. O’Quinn of Kirkland & Ellis LLP, Derek C. Abbott and Matthew R. Koch of Morris Nichols Arsht & Tunnell LLP, and Michael H. Goldstein, William P. Weintraub and Gregory W. Fox of Goodwin Procter LLP.
The Voya parties are represented by Christopher M. Samis and L. Katherine Good of Whiteford Taylor & Preston LLC, and Sheila Sadighi and Thomas E. Redburn Jr. of Lowenstein Sandler LLP.
The cases are In re: Millennium Lab Holdings II, LLC, et al, case number 1:16-cv-00110, in the U.S. District Court for the District of Delaware, and case number 1:15-bk-12284, in the U.S. Bankruptcy Court for the District of Delaware.
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