16
Doing the Splits
Finally, in the Pacific Lumber Company case, the Fifth Circuit, in reviewing the legality of the plan exculpation and release clauses, held:
We see little equitable about protecting the released non-debtors from negligence suits arising out of the reorganization. In a variety of contexts, this court has held that Section 524(e) only releases the debtor, not co-liable third parties. These cases seem broadly to foreclose non-consensual non-debtor releases and permanent injunctions.
Bank of N.Y. Tr. Co., NA v. Official Unsecured Creditors' Comm. (In re Pac. Lumber Co.), 584 F.3d 229, 252 (5th Cir. 2009) (citations omitted.). The Fifth Circuit relied on the addition of Section 524(g) as suggesting that “non-debtor releases are most appropriate as a method to channel mass claims towards a specific pool of assets.” Id. In denying the third party releases, the court noted that the third parties being released are not guarantors, sureties or insurers, but that “the essential function of the exculpation clause here is to absolve the released parties from any negligent conduct that occurred during the course of the bankruptcy,” which, as such parties were non-debtor third parties, were not intended to be included in the fresh start provided debtors in Section 524. Id. at 252.
While not addressing the issue of third party releases in plans of reorganization, the D.C. Circuit in In re AOV Indus., did appear to recognize the impropriety of requiring non-consensual third party releases in determining that a supplier received unequal treatment under Section 1123(a)(4) when it was required to release claims against guarantors to receive the same distribution as other similarly classified creditors.
Avoiding having to decide which side to take in this circuit split, the Third Circuit in In re Continental Airlines, a case involving numerous shareholder lawsuits against former officers and directors, concluded that:
[T]he provision in the Continental Debtors’ plan releasing and permanently enjoining Plaintiffs’ lawsuits against the non-debtor D&O defendants does not pass muster under even the most flexible tests for the validity of non-debtor releases. The hallmarks of permissible non-consensual releases—fairness, necessity to the reorganization and specific factual findings to support these conclusions—are all absent here. . . . Under these circumstances, the release and permanent injunction amount to nothing more than a lockstep discharge of non-debtor liability and fall squarely into the section 524(e) prohibition.
Gillman v. Cont'l Airlines (In re Cont'l Airlines), 203 F.3d 203, 214, 217 (3d Cir. 2000)
With the First and the Eighth Circuits still to weigh in, there appears to be sharp disagreement on the issues of statutory interpretation between the majority and minority views of the circuits while the circuits allowing third party releases limit them to cases with “truly unusual circumstances” where “the inquiry is fact intensive to the extreme,” creating a somewhat murky standard. Maybe it is finally time for the Supreme Court to end a thirty-year circuit split.
Annette represents banks, financial institutions, and numerous other parties nationwide in resolving concerns related to Chapter 11 bankruptcy cases and out-of-court
workouts. She is a member of her firm's Management Committee and the Partner-in-Charge of the Transactions Practice Groups at Dorsey.