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U.S. Supreme Court Reaffirms Channeling Injunctions as Bar to Environmental Claims After Bankruptcy

June 18, 2009

Only twice has the U.S. Supreme Court spoken directly to environmental issues in bankruptcy – until now. Today the Supreme Court ruled that certain claims can in fact be barred by a bankruptcy court's channeling injunction. The case is particularly important in light of the major corporate bankruptcies now under way in the industrial sector, where environmental costs can drive the success or failure of a restructuring. 

In Travelers v. Bailey, the Supreme Court addressed a bankruptcy court's channeling orders creating a trust for paying future asbestos claims arising from the operations of Johns-Manville. These famous orders, which were issued in 1986, directed claimants to the trust and barred them from pursuing any other related entity, including the restructured company and the debtor's insurers. Since 1986, channeling injunctions and trusts of this kind have become an established tool for facilitating corporate restructurings, and they are now recognized in the Bankruptcy Code, 11 U.S.C. § 524(g). The case just decided by the Supreme Court involved post-bankruptcy claims made directly against Travelers, one of Johns-Manville's insurers and a source of funding for the trust. The claimants sought relief for the alleged misconduct of Travelers (not the misconduct of Johns-Manville), on the theory that Travelers failed to warn the public of the dangers of asbestos.

The Supreme Court (7-2) held that the channeling injunctions barred these direct claims against the debtor's insurer, instead of the trust. The Court looked closely at the wording of the injunctions as it assessed whether the type of claims being asserted were barred. Below, the Second Circuit had ruled that the bankruptcy court lacked jurisdiction to bar claims against third-party non-debtors (such as Travelers). In reversing, the Supreme Court placed great emphasis on both the expansive wording of the injunction and the inappropriateness of challenging – twenty-three years after the fact – the jurisdiction of the bankruptcy court to issue the channeling orders. For the Supreme Court, the "plain terms" of the orders had to be given legal effect, and the doctrine of res judicata precluded collateral attack on the bankruptcy court's authority. The Court thus did not address whether a bankruptcy court can properly enjoin claims against non-debtor insurers that are not derivative of the debtor's wrongdoing.

The Supreme Court's ruling provides some reassurance to restructuring debtors and distressed-asset investors, who have come to view channeling injunctions as an effective means for addressing certain large-scale environmental liabilities.