Third Circuit: Releases Contained In Confirmed Chapter 11 Plans Are Res Judicata

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In ruling a motion to dismiss, the Third Circuit Court of Appeals considered whether the purchaser of the Debtors’ shares post-confirmation was bound by releases contained in the plan of reorganization (the “Plan”).  A copy of the opinion is available here.

The Plan included “broad releases of liability,” that protected the Debtor and its officers from claims related to or arising out of the bankruptcy, with exceptions for gross negligence and willful misconduct.  Id. at 4.  After creditors had been paid in full, a notice was provided that there would be a distribution of dividends to shareholders.

After these announcements, appellants purchased millions of shares in the Debtor, Arctic Glacier, assuming that they would be subject to FINRA rules and would receive the dividends.  However, the dividends were paid only to the original owners of the shares.  Appellants then sued Arctic Glacier and four of its officers.  The Delaware Bankruptcy Court dismissed the Complaint as barred by the Plan releases and by the res judicata effect of the Plan.  This decision was affirmed by the District Court.

Before the Third Circuit Court of Appeals, the appellants argued that plan releases “can never insulate a debtor from liability for post-confirmation acts.”  Id at 8.  The Third Circuit explained that a bankruptcy court order confirming a plan is a “final judgment,” and “like any other judgment, is res judicata. . . It bars all challenges to the plan that could have been raised.”  Id.  Thus, the Third Circuit found that the “entire Plan is res judicata, including its releases.”  Id. at 9.

Regarding whether the releases could preclude liability for acts that took place after confirmation of the plan, the Court explained that appellants’ argument was essentially based on a single sentence contained in a U.S. Supreme Court decision.  Given this, the Third Circuit reasoned that a plan can only be implemented after confirmation and if releases could not bar post-confirmation conduct, that would “nullify the res judicata effect of confirmed plans.”  Id. at 10.  Thus, the Court affirmed the lower court decisions dismissing the Complaint and found that the releases barred the appellants’ claims because the releases precluded claims arising out of the bankruptcy, including those based on to distributions under the Plan.

This decision out of the Third Circuit Court of Appeals serves as a reminder of the nature of confirmation orders — and the releases contained therein — as final judgments that carry res judicata implications.

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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