District Court Confirms Bankruptcy Jurisdiction to Grant Third-Party Releases: In re Millennium Labs Holdings, II LLC

                 Third-party releases can be an integral part of a chapter 11 bankruptcy case. These releases can have the effect of a nonconsensual resolution of state law claims, and a question exists as to how they are implicated in a Stern v. Marshall analysis. In the fourth opinion issued by the district court in the Millenium Labs Holdings II LLC bankruptcy,[1] Judge Leonard P. Stark for the District of Delaware affirmed the jurisdiction for and the grant of nonconsensual third-party releases for equityholders as part of a confirmed bankruptcy plan by the bankruptcy court.[2]

                  Voya Investment Management Co. and Voya Alternative Asset Management LLC (collectively, “Voya”) filed an action in the Delaware District Court alleging RICO and fraud claims against certain nondebtor defendants, primarily equityholders of the debtors. Under the debtors’ plan, the equityholders (“released parties”) contributed $325 million of new value in exchange for releases of the claims alleged by Voya. The Delaware Bankruptcy Court applied the five factors articulated under Master Mortgage[3] and the hallmarks of In re Continental Airlines[4] in confirming the plan and determining the releases were fair and necessary to the reorganization.

                  Voya appealed, with the key argument being whether after Stern v. Marshall [5] the bankruptcy court had constitutional authority to grant nonconsensual third-party releases. The district court originally remanded this issue to the bankruptcy court to consider or clarify the constitutional authority to issue the third-party releases. The bankruptcy court on remand stated, “Stern is limited to claims based on state law that are commenced in the context of the traditional civil litigation[6] or generically ‘Debtor/Trustee v. Defendant.’” The bankruptcy court found similarly to Charles Street[7] and MPM Silicones[8] that when the issue before the bankruptcy court is plan confirmation, plan confirmation is a core proceeding and therefore there is constitutional authority to resolve the issue and enter a final order.

                  The district court agreed that constitutional authority existed to confirm a plan with third-party releases of state law actions. The plan-confirmation process conclusively resolved Voya’s state law claim against the nondebtor equityholders. However, the district court’s finding that the bankruptcy court properly exercised jurisdiction based its analysis on the jurisdiction for the proceeding at issue, not on the incidental or tangential effects of the proceedings. In confirming a plan, a bankruptcy court may apply bankruptcy-specific law and adjudicate a core proceeding, even if that decision resolves a state law claim for which the bankruptcy court would not have jurisdiction to issue a final judgment.

                  The district court noted that “Voya’s real disagreement is with the Third Circuit’s precedent in Continental II — which, like many circuits, concluded that third-party releases may be approved if certain standards are met.” Stern v. Marshall does not affect this precedent.[9] Stern’s limitation on a bankruptcy court ‘s authority to enter a final judgment on state law claims is not implicated in third party releases because “a confirmation order containing a release is a final judgment on the released claims.”

                  The district court also concluded that the appeal was equitably moot. The plan was substantially consummated, including the $325 million contribution from the released parties. The district court also found that it could not equitably reverse the confirmation order because the releases and the funding were the centerpieces of the plan and an integral nexus with feasibility. The revocation of the global settlement would require the redistribution of significant assets, destabilize the financial basis for the plan, and harm parties not participating in the appeal. Voya also sought from the district court removal of the release provision allowing Voya to retain its portion of the settlement consideration while pursuing its claim. The district court found that this would not be an equitable outcome.

                  In the alternative to the finding of equitable mootness, the district court quickly dealt with other issues contained in the appeal, such as challenges to subject-matter jurisdiction and statutory authority to approve the releases under the Master Mortgage factors, including upholding the bankruptcy court’s findings of (1) identity of interests, (2) substantial contribution and (3) payment of substantially all claims.

                 The district court affirmed the bankruptcy court’s ruling on constitutional authority to approve the releases, granting the debtors’ Motion to Dismiss the remaining issues on appeal as equitably moot and in the alternative affirmed the bankruptcy court’s findings