On February 24, the United States Court of Appeals for the Third Circuit addressed, for the second time, an appeal arising out of the Delaware Chapter 11 bankruptcy of SCH Corp., American Corrective Counseling Services, Inc., and ACCS Corp (collectively referred to here as “the Debtors”).  (The U.S. Bankruptcy Court for the District of Delaware case is captioned In re: SCH Corp., Case. No 1:09-bk-10198.)  This time, however, the Third Circuit has vacated the Delaware district and bankruptcy court’s decisions, which stems from a “deal” made related to consumer class-action lawsuits.

As background, the Debtors were in the debt collection business before filing for bankruptcy in 2009.  Prior to the bankruptcy case filings, class actions against the Debtors were filed in California, Florida, Indiana, and Pennsylvania; claimants in those actions are referred to as “CFI Claimants”.  The class action complaints alleged, among other things, that the Debtors violated the Fair Debt Collection Practices Act.

Subsequently, SCH sold its businesses in bankruptcy to National Corrective Group Inc. (“NCG”), a subsidiary of Levine Leichtman Capital Partners.  According to the Third Circuit’s unpublished opinion, in November 2009, the Delaware bankruptcy court confirmed a Chapter 11 liquidation plan funded by NCG.  Under the terms of the liquidation plan, unsecured creditors, which included the CFI Claimants, were to receive $200,000 a year for five years; however, NCG would be able to offset certain costs incurred in defending future consumer-type lawsuits against those distributions.  Thereafter, and as a result of many disputes, including how to apply litigation expenses, the liquidation plan’s disbursing agent reached the “deal” with NCG to fix certain payment obligations through 2014.  The bankruptcy court gave the “deal” its blessing and approved it on a settlement motion.

The Third Circuit’s three-judge panel, comprised of Judges Thomas I. Vanaskie, Morton I. Greenberg, and Robert E. Cowen, held that the bankruptcy court erred by treating the “deal” with CFI Claimants, which altered the distribution structure under the liquidation plan, as a “settlement” rather than a “modification.”  Specifically, the Third Circuit determined, “[a] plan modification that allegedly provides greater economic benefits for the estate and its creditors remains a plan modification governed by Section 1127 — not a settlement to be reviewed under Rule 9109.”

Thus, and as a result of that finding, the bankruptcy court will need to revisit the “deal” under Section 1127 of the Bankruptcy Code, not Bankruptcy Rule 9019.