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Millennium Lab Holdings II, LLC—Judge Silverstein Holds that the Bankruptcy Court has Constitutional Authority to Approve Nonconsensual Third Party Releases

By Gregory J. Flasser

 

On October 3, 2017, Judge Laurie S. Silverstein of the United States Bankruptcy Court for the District of Delaware (the “Bankruptcy Court”) issued an opinion in In re Millennium Lab Holdings II, LLC, et al., No. 15-12284-LSS, 2017 WL 4417562 (Bankr. D. Del. Oct. 3, 2017) holding that the Bankruptcy Court has constitutional adjudicatory authority to approve nonconsensual third-party releases of, a creditor’s direct non-bankruptcy common law fraud and RICO claims against TA Associates Management, L.P., T.A. Millennium, Inc., Millennium Lab Holdings, Inc., James Slattery, and Howard J. Appel (collectively, the “Non-Debtor Equity Holders”).  The matter was remanded from the United States District Court for the District of Delaware (the “District Court”) following an appeal of the Bankruptcy Court’s order confirming a plan of reorganization for then-debtors Millennium Lab Holdings II, LLC and certain of its affiliates (collectively, the “Debtors”).

I.  Case Background and Plan Confirmation

On November 10, 2015, the Debtors filed voluntary chapter 11 bankruptcy petitions with a prepackaged plan of reorganization (the “Plan”) and disclosure statement.  The Plan was the result of multiple settlements, including a term sheet with the United States and certain individual states, and a restructuring support agreement with both an ad hoc group of bondholders and the Non-Debtor Equity Holders.  The Plan provided for a global resolution of claims related to the Debtors’ April 2014 $1.825 billion senior secured credit facility, the proceeds of which funded a $1.3 million dividend to the Debtors’ equity holders, provided for working capital, and paid off certain debt.  As part of the lender group, Voya, also known as the Opt-Out Lenders, funded $106.3 million of the loan.  Pursuant to the Plan, Voya and the other lenders would receive allowed claims under section 502 of the Bankruptcy Code, and pro rata shares of: (i) a new $600 million term loan; (ii) 100% of the beneficial ownership interests of the reorganized Debtors; and (iii) any recoveries from a trust created under the Plan to pursue the Debtors’ retained causes of actions.

Prior to the confirmation hearing, Voya filed objections to the confirmation of the Plan.  Voya did not object to the overall compromise of the Plan, but rather to the inclusion of releases of claims that creditors, including Voya, might assert against the Non-Debtor Equity Holders.  Specifically, Voya argued: (i) the Bankruptcy Court did not have subject matter jurisdiction to grant nonconsensual third-party releases; (ii) the third party releases were impermissible; (iii) the Plan must permit parties to opt-out of the releases; and (iv) the releases did not meet the standard set forth in Gillman v. Continental Airlines (In re Continental Airlines), 203 F.3d 203 (3d Cir. 2000).  In an effort to solidify its claims, Voya filed a complaint in the District Court against the Non-Debtor Equity Holders asserting RICO and common law fraud claims.

On December 14, 2015, Judge Silverstein entered an order confirming the Plan, and Voya filed its Notice of Appeal together with an emergency motion requesting certification of a direct appeal to the Third Circuit and a motion for stay pending appeal.

II.  Appeal to the District Court

On March 20, 2017, the District Court remanded the case for further proceedings.  In its Memorandum Opinion, the District Court explained:

It is unclear to what extent the Bankruptcy Court had the opportunity to consider what is now the main issue on appeal—the Bankruptcy Court’s authority post- Stern to enter a final order discharging [Voya’s] non-bankruptcy claims against non-debtors without [Voya’s] consent—given the lack of time and attention the parties ascribed to this issue in their briefing and arguments below.

Opt-Out Lenders v. Millennium Lab Holdings II, LLC (In re Millennium Lab Holdings II, LLC), No. 16-110-LPS, 2017 WL 1032992, at *14 (D. Del. Mar. 20, 2017).  As a result, the District Court remanded the case to the Bankruptcy Court to (i) consider whether, or clarify the ruling that the Bankruptcy Court had constitutional adjudicatory authority to approve the nonconsensual release of Voya’s direct non-bankruptcy common law fraud and RICO claims against the Non-Debtor Equity Holders, and if not, (ii) submit proposed findings of fact and conclusions of law, or, alternatively, to strike the nonconsensual release of Voya’s claims from the confirmation order.

III.  Holding on Remand

a. The Bankruptcy Court has Statutory and Constitutional Authority to Enter a Final Judgment on Confirmation of Plan

Voya argued on remand, that in analyzing its constitutional adjudicatory authority to enter a final order confirming a plan containing nonconsensual third-party releases, the Bankruptcy Court should either ignore or consider irrelevant that it is presiding over confirmation of a plan, consider the operative proceeding before the Bankruptcy Court for Stern purposes to be the RICO lawsuit, apply Stern to the RICO lawsuit, and hold that Stern prevents the Bankruptcy Court from entering a final order on confirmation because the RICO lawsuit does not stem from the bankruptcy itself.

In her analysis, Judge Silverstein held that the Bankruptcy Court has statutory authority to enter a final judgment on confirmation of a plan because “Confirmation of plans” is an enumerated core proceeding under 28 U.S.C. § 157(b).  From there the question turns to the Bankruptcy Court’s constitutional adjudicatory authority to enter a final judgment on plan confirmation.

In Stern v. Marshall, 131 S. Ct. 2594 (2011), the Supreme Court announced that the disjunctive test to determine whether a bankruptcy judge can enter a final order on a trustee’s counterclaim is whether the action at issue stems from the bankruptcy itself or would necessarily be resolved in the claims allowance process.  On that point, Judge Silverstein held that the operative proceeding before her for constitutional analysis is confirmation of a plan, and therefore, Stern is inapplicable because confirmation of a plan is not a state law claim of any type and third party releases do not exist without regard to the bankruptcy proceeding.  Moreover, Judge Silverstein noted that in confirming a plan—even one with releases—the judge is applying a federal standard and does not rule on the merits of the state law claims being released.  In fact—and as Judge Silverstein already indicated at the confirmation hearing—nonconsensual third-party releases are permissible in plans of reorganization in the Third Circuit if they meet the Continental standard of fairness and necessity to the reorganization.

Although the analysis seemingly could have ended there, Judge Silverstein went one step further to state that even if she were to apply the Stern disjunctive test to the Debtors’ Plan, she would find that the Bankruptcy Court had constitutional adjudicatory authority.  First, she stated that confirmation of a plan “stem(s) from the bankruptcy case,” and therefore, the Bankruptcy Court could enter a final order confirming the Debtors’ Plan.  Second, she reiterated her prior findings that the releases were integral to confirmation and thus integral to the restructuring of the debtor-creditor relationship, so the releases would be “necessarily resolved in the confirmation process” or “necessarily resolved in the process of restructuring the debtor-creditor relationship.”

b.  Stern Does Not Prevent a Bankruptcy Judge from Entering Final Orders in Statutorily Core Proceedings that may have a Preclusive Effect on a Third Party Lawsuit

Voya also argued that it is unconstitutional for a bankruptcy judge to enter a final order in any context if that final order might affect a lawsuit filed by a creditor against a third party.  Judge Silverstein, disagreed, finding that the Third Circuit has determined that Stern does not prevent a bankruptcy judge from entering final orders in statutorily core proceedings notwithstanding the potential collateral impact the order may have on state law claims.  For example, in In re Lazy Days’ RV Center Inc., 724 F.3d 418 (3d Cir. 2013), rather than focusing on the state law claims, the Third Circuit focused on the operative proceeding in front of the bankruptcy judge—a motion to reopen the bankruptcy case and a request for a declaration of rights under a section of the bankruptcy code.  There, the Third Circuit noted, “although this proceeding may have been provoked by state court actions and surely impacts them, the proceeding in the Bankruptcy Court was founded upon a quintessentially federal claim . . . .”  Lazy Days, 724 F.3d at 424.  Similarly, In Linear Electric Co., Inc., 852 F.3d 313 (3d Cir. 2017), the Third Circuit held that Stern did not prevent a bankruptcy judge from entering a final order “discharging” construction liens filed by a non-debtor supplier against real property owned by a non-debtor.  Applying the rationale from Linear and Lazy Days, Judge Silverstein held that the Stern line of cases is inapplicable in the context of a plan confirmation order.

c.  Voya Forfeited and Waived Any Constitutional Adjudicatory Authority Objections and the Right to a Hearing on the Merits of its RICO Claims

Judge Silverstein concluded her opinion by stating that even if she was wrong and the Bankruptcy Court did not have constitutional adjudicatory authority to enter a final confirmation order, Voya forfeited and waived the right to contest the Bankruptcy Court’s authority.  In particular, Voya did not include the statement found in Local Rule 9013-1(h) in it is initial confirmation objection, and therefore, Voya waived the right to contest the Bankruptcy Court’s authority.  Furthermore, Voya forfeited its right to contest the Bankruptcy Court’s authority by not actually making a constitutional adjudicatory authority argument in its confirmation objection, supplemental objection, or during oral argument.

Similarly, Judge Silverstein determined that Voya waived its right to a hearing on the merits of its RICO claims in the context of confirmation by consciously choosing not to avail itself of that opportunity.  Indeed, Judge Silverstein noted that Voya made clear it was not putting the merits of the RICO lawsuit at issue at the confirmation hearing and even passed on the Debtors’ suggestion that it had to do so.

Moreover, on remand, Voya argued that the merits of the RICO claims were not in front of the Bankruptcy Court, and therefore, Voya should not, and could not, put on evidence regarding its RICO claims.  Despite this argument, Voya also maintained that the grant of releases in the confirmation order was an actual adjudication of its claims in the RICO lawsuit.  Simply put, Judge Silverstein held that Voya cannot have it both ways.  If the entry of the confirmation order was an actual adjudication of Voya’s claims, then it was incumbent upon Voya to submit evidence on the merits of its RICO claims at the confirmation hearing.  Accordingly, Voya waived its right to a hearing on the merits of its RICO lawsuit in connection with confirmation of the Plan.

IV.  Appeal to the District Court

Judge Silverstein closed her opinion by stating “I trust this Opinion will aid the district court on appeal.” As Judge Silverstein anticipated, Voya appealed the opinion to the District Court on October 16, 2017.

A copy of the opinion can be found here

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