## Facts

- Armstrong World Industries, Inc. filed Chapter 11 due to asbestos liabilities; official committees for unsecured creditors and asbestos claimants were appointed, and a futures representative was designated.
- The debtor proposed a reorganization plan that funded a § 524(g) asbestos trust with roughly $1.8 billion for asbestos personal-injury claimants.
- The plan classified, among others: Class 6 (general unsecured creditors), Class 7 (asbestos personal-injury claimants), and Class 12 (equity interests held by the parent).
- The plan provided stock warrants valued about $35–40 million ultimately to Class 12 (equity), while Class 6 was impaired, rejected the plan, and was not paid in full.
- The plan used a conditional “waiver” mechanism: if Class 6 rejected, warrants would be issued to Class 7, Class 7 would automatically waive them, and the warrants would pass to Class 12.
- The unsecured creditors’ committee objected that transferring warrants to equity over its objection violated the absolute priority rule.
- The bankruptcy court recommended confirmation, but the district court denied confirmation on absolute-priority grounds; the debtor and asbestos constituencies appealed.

## Issues

1. Whether a Chapter 11 cramdown plan violates the absolute priority rule when it provides valuable warrants to equity while a dissenting impaired class of unsecured creditors is not paid in full.
2. Whether a “gift” or “waiver” structure can avoid the absolute priority rule by routing value through a consenting senior class to a junior class.
3. Whether the unsecured creditors’ committee was judicially estopped from objecting based on its conduct or positions during plan negotiations.

## Decision

- The Third Circuit affirmed the order denying confirmation of the plan.
- The court held the plan violated 11 U.S.C. § 1129(b)(2)(B)(ii) because equity would receive property while dissenting unsecured creditors were not paid in full.
- The court rejected any equitable or “gift/waiver” exception that would permit junior interests to receive value over the objection of an impaired senior class.
- The court declined to apply judicial estoppel against the unsecured creditors’ committee.

## Legal Principles

- Under § 1129(b)(2)(B)(ii), a plan is not “fair and equitable” to a dissenting class of unsecured creditors if a junior class receives or retains property “on account of” its junior interest before the dissenting class is paid in full.
- The “on account of” inquiry turns on economic substance; formal plan drafting cannot conceal a distribution whose practical effect is to transfer value to equity due to its junior status.
- Bankruptcy courts’ equitable powers cannot override the Bankruptcy Code’s priority scheme; courts may not create nonstatutory exceptions to the absolute priority rule.
- “Gift” concepts from cases involving non-plan distributions or non-estate property do not justify plan distributions of estate value to juniors over the objection of an impaired senior class.
- Judicial estoppel requires a clear, bad-faith inconsistency that misleads the court; shifting positions during complex plan negotiations, without such a showing, does not bar an objection.

## Conclusion

The Third Circuit required strict compliance with the absolute priority rule in Chapter 11 cramdown plans, holding that warrants routed through a waiver mechanism still constituted property given to equity on account of its junior interest and could not be approved over the objection of unpaid unsecured creditors.


In re Armstrong World Indus., Inc., 432 F.3d 507 (3d Cir. 2005)