Restructuring

In a highly anticipated decision issued last Thursday (on December 19, 2019), the United States Court of Appeals for the Third Circuit held in In re Millennium Lab Holdings II, LLC that a bankruptcy court may constitutionally confirm a chapter 11 plan of reorganization that contains nonconsensual third-party releases. The court considered whether, pursuant to the United States Supreme Court’s decision in Stern v. Marshall, 564 U.S. 462 (2011), Article III of the United States Constitution prohibits a bankruptcy court from granting such releases. The Third Circuit held that Article III did not bar the bankruptcy court from granting the nonconsensual third-party releases at issue because they were “integral to the restructuring of the debtor-creditor relationship.” The following are the key takeaways from the decision.

• The Third Circuit affirmed its prior jurisprudence governing the approval of nonconsensual third-party releases – that such releases must be fair and “necessary to the reorganization.” See In re Global Indus. Techs., Inc., 654 F.3d 201 (3d Cir. 2011) (en banc); In re Continental Airlines, Inc., 203 F.3d 203 (3d Cir. 2000).
• Thus, although the Third Circuit noted that its holding on the constitutional (Stern) issue was based on “the specific, exceptional facts of this case” – namely, that the releases at issue were “integral to the restructuring” – the court’s reasoning with respect to Stern may apply to nonconsensual third-party releases more broadly, given that the underlying standard for granting nonconsensual third-party releases already requires a showing that a release is “necessary to the reorganization.”
• The holding does not address consensual third-party releases, and the Third Circuit left open the question of whether a bankruptcy court may “always constitutionally confirm a plan.”
• On the larger Stern issue, this decision embraces a broader view of the constitutional authority of bankruptcy courts than advocated by the appellant – that an issue need not “stem from the bankruptcy itself” or necessarily “be resolved in the claims-allowance process” for the bankruptcy court to have constitutional authority to enter a final judgment. Rather, it is sufficient that the issue be “integral to the restructuring.”
• The Third Circuit held that the remaining issues on appeal were equitably moot because striking the releases at issue would “fatally scramble the plan” and “harm a wide range of third parties” that relied on the reorganization (although it stated the test in the disjunctive “and/or”– suggesting that it would have found the appeal to be equitably moot even if only one of those findings had been made). The court’s interpretation of the “equitable mootness” doctrine in this case raises the question of whether a nonconsensual third-party release approved by a bankruptcy court as “necessary to the reorganization” could ever be challenged on appeal.

Weil is continuing to consider the potential impact of the Third Circuit’s decision on restructuring strategies for our clients, and we will follow up with a more in-depth analysis and additional insights.