Once in a very great while, the system works. We’ve embedded a ruling by Judge Colleen McMahon of the Southern District of New York in favor of a group of plaintiffs, including the states of Connecticut and seven other states, opposing the Purdue Pharma settlement because it shielded the Sackler family, which had already stripped Purdue Pharma of most of its assets before putting it in bankruptcy. I strongly urge you to read the decision. The first few pages are clearly and forcefully written and set forth the logic of Judge McMahon’s decision.
A short background on the settlement and why it was open to challenge from Associated Press:
Purdue sought bankruptcy protection in 2019 as it faced thousands of lawsuits…
Through the bankruptcy court, it worked out a deal with its creditors. Members of the Sackler family would give up ownership of the company, which would transform into a different kind of entity that would still sell opioids — but with profits being used to fight the crisis. It would also develop new anti-addiction and anti-overdose drugs and provide them at little or no cost.
Sackler family members also would contribute $4.5 billion in cash and charitable assets as part of an overall deal that could be worth $10 billion, including the value of the new drugs, if they’re brought to market…
In return, members of the wealthy family would get protection from lawsuits over their role in the opioid crisis — both the 860 already filed and any others in the future.
Most state and local governments, Native American tribes, individual opioid victims and others who voted said the plan worked out in the bankruptcy court should be accepted.
But the U.S. Bankruptcy Trustee’s office, eight state attorneys general and some other entities have been fighting the deal. They argue that it does not properly hold members of the Sackler family accountable and that it usurps states’ ability to try to do so.
A bankruptcy court judge approved the plan over the objections in September. But the opponents appealed to McMahon’s court.
The main issue on the appeal was the lawfulness of the measures that would extend legal protections to family members.
Such “third-party releases” are not used in most bankruptcy cases, but they are common in cases such as Purdue’s, in which the companies involved are burdened with lawsuits and have relatively little value — but their wealthy owners could contribute.
We are quoting liberally from a post at Credit Slips by Georgetown law professor, bankruptcy expert, and sometimes comrade in arms Adam Levitin on why the settlement stank. I strongly urge you to read it in full; even the lengthy excepts represent only some bits of Levitin’s argument.
The short version, as Levitin called out in earlier posts, is that Purdue shamelessly judge-shopped; there was no bona fide basis for the case being heard in White Plains. I am hoisting nearly in total Levitin’s explanation of the “poison pill” in the Purdue settlement, something the press has skipped over and not unpacked in Judge McMahon’s overview of her decision. From Levitin:
Jonathan Lipson and Gerald Posner have an important op-edabout the Purdue bankruptcy in the NYT and how the DOJ settlement with Purdue is likely to benefit the Sacklers. What’s going on in Purdue is troubling, but not just for its own facts. Purdue illustrates a fundamental breakdown of the checks and balances in the corporate bankruptcy system.
The basic problem is that debtors can pick their judges in a system that precludes any meaningful appellate review. That lets debtors like Purdue push through incredibly inappropriate provisions if they can get a single non-Article III judge of their choice to sign off. This happening in as high-profile and important a case as Purdue should be an alarm bell that things have gone off the rails in large chapter 11 practice. Where Purdue goes, chapter 11 practice in other cases will surely follow.
Purdue is perhaps the most extreme illustration of the confluence of three trends in bankruptcy each of which is problematic on its own, but which in combination are corrosive to the fundamental legitimacy of the bankruptcy court system.
- First, there is a problem of debtors attempting to push ever more aggressive and coercive restructuring plans.
- Second, there is the lack of effective appellate review of many critical bankruptcy issues.
- And third, there is the problem of forum shopping, particularly its newest incarnation, which is about shopping for individual judges, not just judicial districts.
Put together this means that debtor are picking their judge, knowing that certain judges will be more permissive of their aggressive restructuring maneuvers and that there will never be any meaningful appellate review of the judges, who are free to disregard even clear Supreme Court decisions. A single judge of the debtor’s choosing is effectively the only check on what the debtor can do in chapter 11. That is a broken legal system.
Problem 1: Coercive Restructurings
The idea of debtors attempting coercive restructuring plans is nothing new, and standing on its own is not a problem….As long as there is a meaningful judicial check on debtor (and creditor) overreach, the fact that some parties play hardball isn’t itself a systemic problem.
Purdue’s Sub Rosa Plan and Poison Pill
Purdue, however, takes the coercive restructuring approach to a previous unseen level, namely by including a “poison pill” in a settlement that effectively precludes any restructuring other than the one envisioned by Purdue. The operation of the poison pill are complicated, and I am simplifying things a bit, but here’s the basic idea. Purdue entered into a settlement with the Department of Justice for its civil liability (False Claims Act stuff, etc.):
- The settlement fixed the amount of the DOJ’s previously disputed claim. That’s fine and normal.
- The settlement also provided for the separate classification of the DOJ claim and the treatment of the DOJ claim (a “super priority administrative expense claim”–whatever that chimera is). To my mind that’s intruding on plan territory, but it’s not enough to get my dander up.
- The settlement also provides that Purdue will restructure itself into a “public benefit corporation” or the like, but that under no circumstance may DOJ be given the stock in this PBC entity. Again, getting more aggressive—the settlement is dictating what looks like a plan outcome and is not just dictating the treatment of DOJ, but also the treatment of other creditors (who must be separately classified and some of whom must get directly or indirect the residual interest in the PBC). In other words, the settlement functions as a sub rosa plan.
- The settlement also provides that DOJ can walk away from the settlement at any time for any reason, including the failure to restructure as a PBC. That alone isn’t a big deal.
But then there’s the kicker: the settlement provides that if DOJ walks away, its claim will not go back to its prior disputed, unliquidated status, but will instead revert to its nominal massive amount of some $18 billion—far more than the value of Purdue. What’s more, that claim won’t even really be a claim, but will be civil asset forfeiture rights. That’s super-duper priority, as civil asset forfeiture results in a forfeiture of title to assets to the US government upon the commission of the wrong-doing. (The assets subject to forfeiture aren’t really even part of the Purdue estate!) The effect of DOJ walking away from the settlement, then, would be that DOJ would get all of Purdue’s assets, which would go into the US Treasury’s general fund, rather than being available for states and local governments and opioid victims, who could use the funds for opioid abatement.
That’s the “poison pill” provision—if DOJ isn’t happy, it walks away and leaves no value for anyone else. That meant that if the settlement were approved, the only way Purdue’s other creditors could ever see a distribution would be if they played along with what DOJ and Purdue want. A sub rosa plan in a settlement is aggressive enough, but the additional “poison pill” was an incredibly coercive provision that I have never seen in a bankruptcy previously and which no court to my knowledge has ever previously blessed, much less in a case like this one. Purdue’s taking hardball to a new level.
To recap: Purdue proposed a sub rosa plan embedded in a pre-plan settlement, and that sub rosa plan is locked in through a “poison pill.” It’s impossible (I think) to square this with the Supreme Court’s recent ruling in Czyzewski v. Jevicthat there is no end-running plan protections. And all of this got decided through hurry-up motion practice, without notice to most of Purdue’s thousands of creditors.
So what’s the big deal here? Doesn’t everyone come out ahead if Purdue restructures as a PBC and money goes to opioid abatement rather than the US Treasury’s general fund? Not quite.
First, restructuring Purdue as a PBC precludes other alternative restructurings, such as a sale followed by a liquidation.
Second, many of Purdue’s creditors do not want to own—directly or indirectly—a public benefit corporation. These are opioid victims. They do not want any continued association with an opioid manufacturer, which they see as a public burden corporation.
Third—and this is the key—the poison pill gives Purdue the ability to settle its fraudulent transfer claims with the Sacklers for a relatively low value and for Purdue to confirm a plan with nondebtor releases for the Sacklers. That means that Sacklers would be able to avoid their civil liability to the states and individual opioid creditors for a relatively low cost and without having to have gone through bankruptcy themselves. The Sacklers will be able to walk away from Purdue keeping most of their allegedly ill-gotten gains without having had to open the disclosure kimono that bankruptcy requires.Not only does that mean that opioid victims might not get as much of the abatement funds as they should get because the full extent of the Sackler’s assets and ability to pay might not be known, but it also means that we will never know the full story about what went on at Purdue, and that matters because this sort of mass tort bankruptcy is as much about dignitary interests as it is about money. Without the poison pill, creditors might well have voted against a plan that included releases for the Sacklers. With the poison pill, they are unlikely to vote against the plan.
While Purdue is proposing creating a document archive to be publicly available after the bankruptcy, there are real questions about what will be included in that archive, as DOJ will have to sign off on what is released, privileged documents cannot be included, and there may be questions of document ownership—and most importantly no one will know at the time of voting on a plan. If you are concerned about dignitary interests, this is a problem.
It’s outrageous that the bankruptcy court would approve this sort of settlement provision outside of a plan (and there was no good reason that the court had to rule now; it could easily have waited and considered the settlement as part of plan confirmation). The bankruptcy court seems to think that the PBC structure contemplated is good for society. That really shouldn’t be a judicial concern here—courts are supposed to be referees, not conductors—but this sort of coercive plan provision—whether in a settlement or a plan—should be absolute off limits. This shouldn’t have been a close call.
Please read the rest of Levitin’s post; he does a fine job of making legal issues accessible and lively. And with that as a foundation, the importance of Judge McMahon standing up to settlements that go well beyond what appear to be the proper purview of bankruptcy courts can’t be overstated.00 re Purdue Pharna appeal ruling December 16 2021