As an initial matter, there was some confusion about the relationship between the question presented, which covers a settlement that violated the absolute priority rule (a question on which there was a conflict in the circuits), and the emphasis on this case being a "structured dismissal" such that the distribution occurred only at the end (implying that there is no conflict in the circuits about the terms of a structured dismissal, and a dispute over that question might not have been granted cert).
Without resolving that, the argument moved on with a question by Justice Breyer - what forbids a distribution outside of a plan not adhering to absolute priority. Counsel responded that the structure of the Code contemplates either a plan confirmation in which absolute priority is relevant (actually in the case of priority unsecured claims, it isn't it's 1129(a)(9).or a liquidation in which the priorities are also followed.
Justice Ginsburg points out, there is a third path, a dismissal in which everyone goes back to their pre-existing position. Counsel said, that's right, in which case the bankruptcy estate ceases to exist and, in principle, makes no distribution of estate assets at all.
Justice Kennedy chimes in that section 349, governing dismissal, contains a clause that says "unless the court, for case, orders otherwise," which literally appears to allow the court to order something out of the ordinary in a dismissal order. Counsel responds that the authorities which have analyzed that phrase show it was meant only to protect the interests of persons who changed their position irrevocably in reliance on the existence of the bankruptcy., not carte blanche for the bankruptcy court. Justice Kennedy makes some inconclusive remarks alluding to the tension between the broad "for cause" phrase and the "careful scheme" of priorities elsewhere in the Code. The Chief Justice asks where the legislative history is found and counsel points him to the House Report.
Justice Kagan asks counsel to state the holding she would like the Court to reach. Counsel says, the case does not turn on the fact of a "structured dismissal"; the disregard of absolute priority is unlawful at any stage of the case.
Justice Alito pounces: it can never be lawful? Counsel responds, only in section 510 has Congress authorized bankruptcy courts to change priorities. Counsel then goes on, you don't ned to reach the issue of whether "critical vendor" payments are lawful. Those payments were authorized by this Court over a century ago, under the Doctrine of Necessity. The doctrine justifies them because they preserve reorganization prospects. But here, given that it was a structured dismissal, there was no prospect of reorganization,.
The Solicitor General, supporting the petitioners, was up next. the rule you should adopt is that "a bankruptcy court can never resolve a bankruptcy by ordering the distribution of estate assets in a manner that violates the Code's absolute priority system without the consent of the impaired priority claim holder."
Chief Justice Roberts: you don't allow for the "extraordinary circumstances" exception that the Third Circuit endorsed? SG: no, that's too big a loophole, given how many cases are administratively insolvent, and encourages self-serving posturing to make the desired record. Justice Breyer clarifies that the SG is not proposing to ban critical vendor payments.
Justice Alito asks her to address the "for cause" language in section 349(b), and basically she reiterates her "not permitted" position. which is not,what I think Justice Alito was asking for. I think he wanted an analysis of the scope of that clause.
Justice Kagan and counsel clarify whether the desired holding would overrule Iridium in the 2d Circuit, and counsel says, depends on whether you limit your holding to situations in which the case is resolved and dismissed or not.
Justice Kennedy asks what happens in practice in structured dismissals and the SG, who I assume does not know, responds that deals are often reached but it is unlawful to shove an unconfirmable plan through the structured dismissal doorway.
Justice Sotomayor returns to the initial question about the apparent distinction between the broad "all contexts" question presented for certiorari and the emphasis on the "structured dismissal" context.
She affirms that there is a difference between holding that no settlement proceeds can be distributed outside the absolute priority rules, and saying no dismissal can be entered that circumvents that rule.
After counsel responds, Justice Ginsburg responds, are you saying a settlement can never be carried out if it calls for a distribution? the SG responds: a settlement should be limited to just liquidating a claim, unless the proper consents are obtained to a distribution.
Justice Alito asks the SG to explain how 1129(a)(9) and 507 factor in to the analysis. Counsel points out that 1129(a)(9) permits a claim holder to agree to some treatment other than cash. But 507 does not contemplate any deviation.
After the SG summed up, counsel for the debtor -respondent took over. The initial question came from Justice Sotomayor, who observes that the structured dismissal took away a legal right away from the priority unsecured claim holders, the right to sue third parties. Counsel for some reason fails to address her question but continues with his argument. When he gets to the point where he says "this is a rare case", she stops him and disagrees: "every structured settlement of this kind is trying to exclude one set of creditors". Again, counsel fails to respond directly, but begins talking about the fact that the petitioners had received $6 million via the first day order -- "far more" than the $1.7 million that bypassed them under the structured dismissal -- on their pre-petition priority claims for wages and benefits. Justice Breyer dismisses that as irrelevant. He too focuses on the claims against third parties. If the transcript is correct, counsel concedes the structured dismissal did in fact kill off those claims.
Then, counsel asserts that there is nothing in the Bankruptcy Code for bankruptcy judges to approve settlements. The bankruptcy judge only needs to get involved if there is disposition of estate assets under 363(b). But under 363(b), judges have discretion. Justice Breyer asks if they can reverse the order of priority. Counsel says, in general they can't, but as the Second Circuit held in Iridium, there are rare exceptions. This case is one of them.
Justice Kennedy pipes up: this case is not rare at all. It's just a chapter 7 case in waiting.
Discussion occurs of the first day payments among Justice Ginsburg, Chief Justice Roberts and counsel.
Justice Breyer compliments counsel for the "very good point" that in a chapter 7 the secured creditors would have taken everything and petitioners would have been no better off. But then he poses a hypothetical involving buried treasure and asks if the court has power to dispose of it in a wild deviation from the priority scheme. Counsel distinguishes between cases where the disfavored creditor would have received a distribution and those where it would not, if the scheme was followed.
Justice Kagan distinguishes between a Code that requires rigid adherence to its priorities and a Code that allows a bankruptcy judge to enact a "pareto-superior" outcome, one in which no one is worse off, but someone is better off. Then says the only question is which of these Codes did Congress enact? Counsel says, anytime you're in 1129, rigid. Anytime you're in 363(b), there is room for the "pareto-superior"outcome.
Justice Sotomayor says, then bypassing creditors will become the ordinary situation, not the extraordinary. Counsel responds, bypasses are only legitimate if the bypassed creditor is not losing anything by virtue of being bypassed, where they would have had no recovery.
Justice Kagan re-asks, where is this in the Code, and expresses skepticism that 349(b) brings it in.
Counsel re-states his 363(b) argument and says the question is whether there is 363(b) discretion or whether the absolute priority applies all the time (editorial note: it is absolute, after all).
Justice Breyer and counsel have a rather muddled exchange, at the end of which Justice Breyer says "then I'm back with Justice Kagan. I'm pretty worried about that provision. [363(b)].
Helpfully (in my view), Chief Justice Roberts steps in and says "the reasonableness of your position is directly related to how extraordinary the circumstances are. I mean, you're suggesting that the main criteria in approving under 363(b) is pretty much what the priorities are under chapter 11." Counsel agrees. The Chief Justice continues, observing that it matters how "tight" a hold the priority scheme has on 363(b) vs does it merely "inform the discretion" of the bankruptcy judge. In the latter case, these scenarios will cease to be extraordinary. He asks counsel to address that, but counsel resorts to re-stating his argument more or less ab initio. The Chief presses him, so he relies on the statement in Iridium that conformity to absolute priority is the most important criterion.
Justice Kagan returns to the question of whether all that is happening is the "confirmation" of an unconfirmable plan, by calling it something else and reviewing it under a different section of the code. Counsel responds, again somewhat obliquely, by suggesting (in my words) that Petitioners could have been more helpful about ways to make the plan confirmable, as opposed to just insisting on their rights.
Justice Sotomayor follows up by saying there is a difference between a settlement of an individual claim and a settlement that works like a plan. And says the second type would not be an "extraordinary" circumstance. Counsel responds rather broadly that 363(b) discretion varies based on the facts of the case and might vary based on whether you are at the start or end of the case.
Counsel then reviews with Justice Sotomayor that the funds in the case came in as a global settlement from an outside third party that, fearing liability on an avoidance action, insisted that the estate release that cause of action; that, in turn, gave the unsecured creditors leverage to demand some of the settlement, because otherwise they would have logically been able to pursue the avoidance action under a plan.
Counsel restates his argument at a high level of generality. Justice Breyer comes back and asks, even if we agree that a judge can authorize a debtor to "sell" a lawsuit, where do we find the authority to vary from absolute priority in distributing the proceeds? Counsel sums up by saying: 363(b) discretion is, as Iridium says, restricted, but not obliterated, by absolute priority, and at least here, where no one is harmed by the deviation from absolute priority, it is within the court's discretion to authorize such a deviation.
Counsel for petitioners was given two minutes to reply, but the justices did not interrupt her and the argument ended.
The questions are all over the lot. I could envision the Court saying cert was improvidently granted if it takes too long to reach a consensus. Justice Alito and Sotomayor both raised this question. I think that is unlikely. I think some of the Justices are trying to analyze the question presented and not limit themselves to the "structured dismissal" context. There seem to me to be at least two justices, Breyer and Kagan, who don't see the statutory authority for respondents' position, even though they both seem to think it generated a "pareto-superior" outcome in this particular case. Justice Sotomayor seems quite distrustful of the respondents' position. Justice Kennedy's lone substantive question suggest he shares her skepticism. The Chief seems open-minded but seems to me unlikely to fall on his sword if a consensus scan be forged in favor of a different result. I suspect Justice Ginsburg is in the same place. Justice Alito seems the most inclined to support the debtors' position. Justice Thomas did not speak and I have no idea how he would view this, since the legislative history behind 349(b) would not seem likely to interest him. The Code is silent on the specific question and I don't know how he, as a literalist, would tend to rule when that is the case. My bottom line is I expect the petitioners to win, although my confidence in that conclusion is low.