Mallinckrodt Pharmaceuticals Bankruptcy and Channeling Injunction Pu...

02/26/20

The outline of Mallinckrodt Pharmaceutical’s chapter 11 proposal (no filing yet) puzzles me.  Mallinckrodt is looking to put its US speciality generic subs in the chapter to slough off opioid liability, while keeping the parent and other subs out of bankruptcy.  The proposal would have Mallinckrodt fund a trust with $1.6 billion (face value) of cash payments and warrants for the purchase of 19.99% of Mallinckrodt parent’s common stock at a strike price that’s currently in the money.  The bankruptcy court would be asked to enter a channeling injunction along with third-party releases that would direct all opioid creditors to look solely to the trust for recovery, freeing Mallinckrodt parent and its speciality generic subs from the uncertainty opioid liability overhang.  

Here’s what puzzles me. The channeling injunction and third party releases being sought would be entered under section 105(a).  The only express channeling injunction and third party release procedure in the Bankruptcy Code, section 524(g), is solely for asbestos cases. While we’ve seen channeling injunctions and third party releases entered in a range of contexts beside asbestos under section 105, it seems problematic to me for a court to authorize either under section 105(a) on a less strict basis than is required under section 524(g). If a court could just go with judicially-crafted section 105(a) requirements in lieu of section 524(g), it would render section 524(g) requirements meaningless in the asbestos context.  
 
Specifically, what I have in mind is that section 524(g) requires that in order for a court to enter a channeling injunction, the trust be funded with a majority of the voting securities of either the debtor or its parent or co-debtor subsidiaries. This funding requirement is only about the channeling injunction. It is separate and distinct from third-party release requirements, although there is some overlap in that the contribution to the trust can come from the parent of the debtor, which might be eligible for a third-party release. 
 
Section 524(g) also permits third-party releases, meaning that the claims against the third-party are also channeled to the trust.  Such a third party release may be based, among other things, on “the third party’s ownership of a financial interest in the debtor,”  or “the third party’s involvement in the management of the debtor.”  Such a third-party release requires the court to find that it is “fair and equitable” in light of the third party’s contribution to the trust.  
 
Mallinckrodt parent’s contribution might well meet the requirements for a third-party release. But it doesn’t seem to satisfy the basic (and higher) 524(g) requirement for a channeling injunction in that it is neither surrendering a majority of its voting securities nor the majority of the voting securities of Mallinckrodt’s US specialty generic subs.
 
I haven't been able to find case law addressing whether a section 105(a) channeling injunction has the same procedural requirements as section 524(g); instead the 524(g) caselaw is focused on third-party releases. That said, I don’t think Dow and Corning had to give up a majority of their voting securities or a majority of the voting securities of Dow Corning as part of its channeling injunction. If not, however, how did they pull that off? Is it just that courts are willing to enter section 105(a) injunctions on a lesser basis than section 524(g)? If so, that seems to me to be on rather shaky legal grounds if an appeal ever got up to a circuit.
 
Please note that I am not suggesting that channeling injunctions are restricted to the asbestos context (that's another discussion), but simply that channeling injunctions outside the asbestos context need to meet the procedural requirements of 524(g) at a minimum. If it were otherwise, what prevents an asbestos case from seeking to use 105(a), rather than the more onerous section 524(g)?  
 
Perhaps there's an argument that Congress wanted more stringent requirements for asbestos cases, but I suspect that the legislative history does not support such an interpretation, given that when 524(g) was enacted there were no non-asbestos channeling injunctions of which I am aware. 

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