The Declining Influence of Big Law in Bankruptcy: A Structural Shift in Distressed Debt Markets

The U.S. Supreme Court's 2024 rulings in Harrington v. Purdue Pharma L.P. and Truck Insurance Exchange v. Kaiser Gypsum Co. have catalyzed a seismic shift in the distressed debt markets. These decisions, which curtailed non-consensual third-party releases and affirmed insurers' standing as “parties in interest,” mark a structural break from the era of legal gatekeeping dominance. For investors in specialty finance and restructuring-focused hedge funds, this disintermediation of traditional legal intermediaries—law firms, insurers, and creditors' committees—presents both risks and opportunities.

The Legal Reconfiguration of Bankruptcy

The Purdue Pharma ruling (5–4) invalidated the Sackler family's attempt to shield themselves from opioid liability via a Chapter 11 plan. By rejecting non-consensual third-party releases, the Court reinforced that bankruptcy discharges are reserved for debtors who “place their assets on the table.” This has immediate implications for risk pricing: creditors and investors must now factor in the likelihood that non-debtors (e.g., directors, shareholders, or insurers) remain exposed to liability. For example, in mass-tort bankruptcies, the residual risk for stakeholders has increased, driving up the cost of capital for debtors seeking reorganization.

Meanwhile, Kaiser Gypsum (8–0) granted insurers standing to challenge reorganization plans, overturning the “insurance neutrality” doctrine. This has democratized participation in Chapter 11 proceedings, ensuring insurers can voice concerns about fraudulent claims or inadequate disclosures. While this enhances procedural fairness, it also introduces friction: insurers may now delay confirmations by demanding stronger anti-fraud measures or higher premiums.

Market Impacts: Risk, Velocity, and Capital Flows

1. Risk Pricing Revisited
2. Higher Cost of Capital: Insurers and creditors now demand higher returns to compensate for increased exposure. For instance, in asbestos-related bankruptcies, insurers' participation has led to more rigorous underwriting of claims, pushing up the cost of reinsurance.

3. New Valuation Metrics: Distressed assets are now priced with a premium for legal clarity. Investors must assess not just a debtor's solvency but also the legal exposure of third parties.

4. Deal Velocity Slows, but Precision Increases

5. Contested Confirmations: With insurers and creditors asserting their rights, Chapter 11 confirmations are taking longer. The average time to finalize a plan in 2024 rose by 22% compared to 2022, per data from the American Bankruptcy Institute.

6. Strategic Workarounds: Debtors are pivoting to consensual releases or opt-in mechanisms, which require more granular negotiations but reduce legal uncertainty.

7. Alternative Capital Flows

8. Specialty Finance Opportunities: Insurers and reinsurers are now key players in restructuring. Funds like Blackstone's BRESSA, which focuses on real estate-related debt, are adapting by allocating capital to insurers' reinsurance vehicles.
9. Hedge Fund Strategies: Long/short positions in distressed assets are gaining traction. For example, funds targeting opioid-related bankruptcies are shorting insurers with weak underwriting practices while going long on debtors with robust anti-fraud frameworks.

Investor Playbook: Navigating the New Normal

1. Target Insurer-Driven Opportunities
2. Reinsurance Arbitrage: Insurers now require stronger collateral or reinsurance to cover Chapter 11 liabilities. Funds with access to alternative capital—such as private credit or catastrophe bonds—can offer these at a discount.

3. Litigation Finance: With non-consensual releases off the table, investors can fund lawsuits against non-debtors (e.g., directors or shareholders) who remain liable.

4. Leverage Legal Clarity for Alpha

5. Consensual Release Structuring: Hedge funds can act as intermediaries in crafting opt-in mechanisms, earning fees for facilitating settlements.

6. Shorting Legal Uncertainty: In cases where courts delay rulings (e.g., Puerto Rico's Title III proceedings), short positions in debtors' bonds can capitalize on prolonged uncertainty.

7. Sector-Specific Focus

8. Opioid and Asbestos Cases: These sectors are now dominated by insurers and creditors with deep pockets. Funds with expertise in these areas—such as Caspian or BRESSA—can exploit their knowledge of claim valuation.
9. Environmental Liabilities: The Kaiser ruling's emphasis on contractual clarity makes environmental bankruptcies (e.g., PFAS contamination) attractive for investors who can model insurer participation.

Conclusion: A New Era of Legal Precision

The disintermediation of Big Law in bankruptcy is not a collapse of legal authority but a recalibration toward statutory clarity and stakeholder participation. For investors, this means abandoning the old playbook of relying on legal loopholes and instead embracing a data-driven, contractual approach. The winners will be those who master the new rules—those who can price risk with precision, navigate the slower but fairer confirmation process, and capitalize on the rise of insurers as key players.

In this transformed landscape, the distressed debt market is not shrinking—it is evolving. And for those with the tools to decode its new logic, the opportunities are vast.