SCOTUS Weighs in on Bankruptcy Law, I

The Supreme Court of the United States (SCOTUS) issued what may prove a very important opinion on the law of corporate bankruptcy on Thursday, June 18, Traveler's Indemnity v. Bailey.

In 1982, Johns-Manville Corp., a manufacturer of asbestos-containing poduct, under the pressure of its civil liabilities, filed for protection from its creditors.

Four years later, the bankruptcy court for the Southern District, New York, approved its reorganization plan. A crucial part of the plan was the creationof the Manville Personal Injury Settlement Trust.

The petitioner in the action before SCOTUS is Travelers Indemnity, because under that 1986 plan, Travelers was required to contribute to this asbestos tort claim kitty, in return for a release from any policy claims under the Manville insurance policies. The Trust has since paid out more than $3.2 billion to over 600,000 claimants.

The fly in the ointment, though, was that years later Travelers became the target of direct actions brought in state courts. There are two sorts of action relevant to this decision. Some have been brought under state consumer-protection statutes alleging that Travelers conspired with other insurers and with its manufacturer clients to hide the dangers of asbestos and raise a fraudulenbt state-of-the-art defense at the expense of plaintiffs. Other actions are based on common law principles, and allege that Travelers had a duty to warn the public about the dangers of asbestos, a duty it breached. Note that both sorts of case assert that Travelers violated duties independent of its contracts with Mansville.

In 2002, the bankruptcy court, in Travelers' motion, issued a temporary restraining order against the pursuit of such lawsuits, and encouraged mediation (while it repeatedly extended that TRO).

The parties reached a settlement. Travelers made payments, contingent upon a court order clarifying that under the 1986 Orders it did not have to -- that such direct actions are barred because Travelers involvement in the asbestos industry was exclusively derived from its relationship with Manville.

The bankruptcy court obliged. In August 2004 it issued a clarifying order regarding the 1986 reorganization plan, blocking "the commencement or prosecution of all actions and proceedings against Travelers that directly or indirectly are based upon, arise out of or relate to Travelers' insurance relationship with Manville or alleged knowledge concerning asbestos," since, the court said, everything Travelers knows about asbestos, it learned from Manville and that relationship.

The respondents in the case before SCOTUS, including the first-named, Pearlie Bailey (for the Estate of James Bailey) are asbestos claimants who then asked the US District Court in Manhattan to find that the bankruptcy court did not have jurisdiction over claims not affecting the estate of the bankrupt. The district court refused, and they appealed to the second circuit.

Bailey at al prevailed in the Second Circuit in an opinion by Judge Wesley that said: "While there is no doubt that the bankruptcy court had jurisdiction to clarify its prior orders, that clarification cannot be used as a predicate to enjoin claims over which it had no jurisdiction. Thus, the bedrock jurisprudential issue in this case requires a determination as to whether the bankruptcy court had jurisdiction over the disputed statutory and common law claims." Accordingly, it vacated the ruling of the district court and remanded for a determiantion of which state plaintiffs' claims implicate the debtor in the underlying bankruptcy action and which do not.

Travelers appealed, and won. Souter wrote for the court in a 7 to 2 vote. SCOTUS has not addressed the issue of the limits of the bankruptcy court's jurisdiction squarely. Instead, it rather ducked that issue, saying that plaintiffs should have challenged the Mansville ruling in 1986 in a direct manner, rather than in a collateral action almost a quarter-century later. "To the extent respondents argue that the 1986 Orders should not be enforced according to their terms because of a jurisprudential flaw in 1986, this argument is an impermissible collateral attack."

There is all the usual language here about the practical necessities served by the principle of res judicata.

I realize that I've gone on a bit longer than I expected to in summarizing the facts, procedural posture, etc. I'll say something about why and how this decision may prove important in tomorrow's post.