The Future of Opt-Out Mechanisms for Third-Party Releases in Chapter 11 Bankruptcy Proceedings

Alexa Masseur

 

On June 27, 2024, the Supreme Court handed down an opinion for the case Harrington v. Purdue Pharma LP (“Harrington”), addressing whether a non-consensual third-party release as part of a Chapter 11 restructuring plan violated the U.S. Bankruptcy Code (“the Code”).[1] Purdue Pharma LP (“Purdue”) was purchased by the Sackler family in 1952, and for nearly seven decades, brought in billions of dollars from the manufacturing and sale of OxyContin, “a drug with addictive potential that was improperly marketed as a non-addictive pain reliever.”[2] By September 2019, when Purdue and its affiliates filed for bankruptcy in the Southern District of New York (S.D.N.Y.), the company faced – for, among other things, negligence, fraud, and unfair trade practices – 2,900 lawsuits, the Sackler family itself faced 400, and creditors proceeded to file more than 618,000 claims totaling more than $2 trillion.[3] In Harrington, the Supreme Court was ruling on the viability of the restructuring plan that was negotiated between the Sackler family, the corporate entity Purdue, and its creditors, 20 percent of whom were individuals bringing personal injury tort claims.[4] Central to the case was whether the Sacklers, in exchange for contributing between $5.5 and $6 billion from their personal bank accounts to the Purdue repayment plan, could be released from future personal liability claims for the harm they perpetrated.[5] Ultimately, the Court struck down the plan, holding that bankruptcy courts may not authorize a release nor injunction that extinguishes claims against non-debtor third parties in a Chapter 11 reorganization plan, without the claimants’ consent.[6] This decision resolved a longstanding circuit split regarding nonconsensual third-party releases.

Perhaps as a testament to its highly controversial nature or to foreshadow its disruptive effect on subsequent bankruptcy rulings, the opinion featured a surprising ideological alignment. The majority was authored by Justice Gorsuch, joined by Justices Thomas, Alito, Barrett, and Jackson, and the dissent by Justice Kavanaugh, joined by Justices Roberts, Sotomayor, and Kagan.[7] Before Harrington, judges were allowed significant discretion in approving plans with third-party releases, so much so that they could approve a third-party release over the objections of creditors.[8] Now, no longer able to award non-consensual third-party releases, judges must define “consensual” to implement what the Supreme Court would consider a permissible release.

Mass tort cases involving many plaintiffs suffering from similar injuries caused by a common defendant frequently end up in bankruptcy court due to the financial distress of the liable companies. As a result, bankruptcy court becomes a venue for managing these claims, allowing the company to reorganize its finances or liquidate its assets while attempting to resolve the litigation. Third-party releases – consensual and (previously non-consensual) – play a significant role in mass tort resolution within bankruptcy proceedings, particularly in Chapter 11 cases. In fact, such releases have been deemed one of the “key strategies tortfeasors use to manage the tremendous volume of costly claims that currently exist and can arise in the future by virtue of tortuous conduct.”[9]

Given both the frequency with which mass torts end up in bankruptcy court and the centrality of third-party releases to their resolution, it is no surprise that the definition of “consent” would have a big impact on these types of cases.  At its most basic, a “consensual” third-party release means that the creditors or other parties who are being asked to release their claims against the third party must agree to it voluntarily.[10] Consent is a crucial element to plan approval, but the absence of a formal statutory requirement or definition creates a tension wherein courts have difficulty applying a consistent consent standard across – and even sometimes within – circuits.

There are two primary legal theories behind permissible consent (i.e. consent which satisfies due process standards) in third party releases. The first is that consensual releases are permissible as a matter of contract law, where a plan containing the release is a contract that binds those who vote in favor.[11] A court applying strict contract theory would generally hold that “a finding of consent require[s] an affirmative indication that the creditor consented to the release,” for example, checking a box on a ballot indicating an intent to “opt-in.”[12] Somewhat in conflict with contract theory, consent can also be viewed via what we’ll call the adversarial system model, termed that because it assumes that parties are responsible for raising their own objections, without judicial intervention.[13] Here, “so long as the creditor was clearly and conspicuously informed that the failure to ‘opt out’ would operate a release of third-party claims, such a release would be effective against any creditor that did not check a box to ‘opt out’ of the third-party release.”[14] In satisfying due process, the adversarial model gives more weight to meeting the standard for sufficient Notice, reasoning that a creditor is inattentive at their own risk.

As we see in a more recent case, In re Smallhold, the discretionary sliding-scale approach which includes “pure opt-out” releases may no longer be tenable under Harrington. Instead, there has been a sharp turn towards satisfying due process via the contract model, where bright line rules about affirmative consent guide courts in defining consent. In Smallhold, Judge Goldblatt held that affirmative consent is required to bind a creditor to a release. The consent framework that Judge Goldblatt applies in Smallhold mirrors that of contract law, wherein the “sliding scale” approach is dismissed in favor of a strict requirement of affirmative consent to contractually bind the parties.[15] Goldblatt argues that the third-party release is no longer an ordinary plan provision, instead framing the decision as a stand-alone contract between the debtor and each of the creditors.[16]

In recent months, courts have continued to hand down decisions that demonstrate to what extent Harrington – and subsequently the Smallhold application of Harrington principles – are shaping the third-party release and consent landscape. The stakes of individual judges choosing to follow the Smallhold framework are high, especially when it comes to mass torts in bankruptcy court. A world that permits only opt-in mechanisms to satisfy the consent standard is disruptive – if not debilitating – to the resolution of these consolidated claims, as this approach prioritizes affirmative creditor engagement as dispositive in the consent analysis, overriding other factors that a bankruptcy judge would have previously had discretion to consider. The legal landscape in this area remains in flux; however, there is evidence to suggest that Judge Goldblatt’s view represents a wider consensus among bankruptcy judges that Harrington has made pure opt-out mechanisms suspect, if not straight up unlawful.[17]

 

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[1] See Harrington v. Purdue Pharma LP, 603 U. S. 204, 204 (2024).

[2] In re Purdue Pharma: Nonconsensual Third-Party Releases Are Impermissible, Westlaw (July 2, 2024), https://1.next.westlaw.com/Document/I99fed68821b711ef8921fbef1a541940/View/FullText.html?originationContext=document&transitionType=DocumentItem&ppcid=4a1a2a7788114bf7b0b383deb00e0bb4&contextData=(sc.Default). 

[3] Id.

[4] See Harrington v. Purdue Pharma LP, 603 U.S. 204 (2024); Nonconsensual Third-Party Releases, supra note 2.

[5] Harrington v. Purdue Pharma LP, 603 U. S. at 227 (Kavanaugh, J. dissenting).

[6] Nonconsensual Third-Party Releases, supra note 2.

[7] See Harrington v. Purdue Pharma LP, 603 U. S. 204 (2024).

[8] See Third-Party Releases in Bankruptcy Plans, Westlaw (2025), https://www.westlaw.com/3-570-7925?transitionType=Default&contextData=(sc.Default)&VR=3.0&RS=cblt1.0.

[9] In re Purdue Pharma: Nonconsensual Third-Party Releases Are Impermissible, Westlaw (2025), https://www.westlaw.com/3-570-7925?transitionType=Default&contextData=(sc.Default)&VR=3.0&RS=cblt1.0.

[10] Third-Party Releases in Bankruptcy Plans, supra note 8.

[11] In re Arsenal Intermediate Holdings, LLC, No. 23-10097 (CTG), 2023 WL 2655592 at 4 (Bankr. D. Del. Mar. 27, 2023) (citing In re SunEdison, 576 B.R. 453 (Bankr. S.D.N.Y. 2017) as an example of this theory in practice).

[12] In re Smallhold, Inc., 665 B.R. 704, 708 (Bankr. D. Del. 2024).

[13] See In re Arsenal Intermediate Holdings, LLC, No. 23-10097 (CTG), 2023 WL 2655592 (Bankr. D. Del. Mar. 27, 2023).

[14] In re Smallhold, Inc., 665 B.R. at 708.

[15] See In re Smallhold, Inc., 665 B.R. 704 (Bankr. D. Del. 2024).

[16] Id. at 709.

[17] See e.g. In re Basic Fun, Inc., Case No. 24-11432 (CTG) (Bankr. Del.) and In re SunPower Corp., Case No. 24-11649 (CTG) (Bankr. Del.) (in which debtors have modified the release mechanisms in their plans, shifting to a pure opt-in mechanism for third-party releases); In re Ebix, Inc., Case No. 23-80004 (SWE) (Bankr. N.D. Tex.) (holding that, under Texas contract law, inaction, such as failing to return an opt-out form, does not constitute consent, and nothing in the Bankruptcy Code authorizes non debtor releases); In re Red Lobster Mgmt. LLC, Case No. 6:24-bk-02486 (GER) (Bankr. M.D. Fla.) (finding that Purdue and relevant contract law require an opt-in for third-party releases); In re 2U, Inc., Case No. 24-11279 (MEW) (Bankr. S.D.N.Y.) (instructing debtors to substitute the opt-out mechanism with an opt-in structure and to exclude from the releases those who abstained from voting or rejected the plan).