Johnson & Johnson’s controversial use of Chapter 11 to handle widespread asbestos litigation is under review by the Third Circuit, which will assess whether a financially sound company can use bankruptcy to resolve tort cases massive.
The dispute stems from J&J’s decision last year to transfer billions of dollars in mass tort liabilities to a newly created entity, LTL Management LLC. The healthcare giant then immediately filed LTL into bankruptcy to consolidate all of its asbestos-related litigation in one place.
The United States Court of Appeals for the Third Circuit hears oral arguments on Monday on whether a solvent company can create an entity to handle mass tort claims. The court will also consider the extent of the bankruptcy courts’ powers to prevent non-bankrupt businesses, including Johnson & Johnson, from being sued for those injuries.
The Third Circuit’s decision will likely be watched closely as more companies seek similar remedies for mass tort liability in a spinoff with few assets.
Victims who allegedly suffered asbestos-related injuries while using J&J’s baby powder have appealed to the Third Circuit a ruling by the U.S. Bankruptcy Court for the District of New Jersey in February that declined to dismiss bankruptcy from LTL. The court also barred further litigation against J&J and other co-defendants.
Siding with LTL and J&J, the bankruptcy court said that handling complex mass tort litigation is good cause for bankruptcy, even if a debtor’s assets exceed its liabilities.
But tort plaintiffs will argue that J&J, with a market capitalization of around $450 billion, is a huge financial success, and that its LTL bankruptcy filing was made in bad faith. The US trustee, the Justice Department’s bankruptcy watchdog, agreed with the plaintiffs.
Plaintiffs also argue that the bankruptcy court’s decision violates their constitutional rights to due process and a jury trial.
The bankruptcy code exists to give the “honest but unfortunate debtor a fresh start,” said Monique Hayes, a partner at DGIM Law and an adjunct professor at the University of Miami School of Law.
“When there is a disaster, you need fair and just redress, but you also have the idea that people and businesses should be able to start fresh,” she said.
At the heart of the case is J&J’s use of a Texas state law that allows companies to split into two, with one of these new entities exclusively housing tort liability. The maneuver is commonly referred to as “Texas Two-Step”.
Faced with tens of thousands of claims alleging that J&J’s product caused mesothelioma or ovarian cancer, the J&J subsidiary that sold the baby powder split into two new entities. One of these entities, LTL, assumed the liabilities, but none of the operations or assets.
J&J funded LTL with $2 billion to pay tort plaintiffs. Shortly after its creation, LTL filed Chapter 11.
“J&J is using this bankruptcy as a tactic to force a deal — an attempt to remove jury trial,” said attorney Jonathan Ruckdeschel of Ruckdeschel Law Firm, LLC, which represents a mesothelioma claimant.
It’s not in itself bad faith to use the Texas Two-Step, said Bruce Markell, a bankruptcy professor at Northwestern Pritzker School of Law and a former bankruptcy judge.
But the combination of several factors — including J&J’s quest for legal protections, the LTL fallout and the attempt to avoid jury awards — that make it problematic for many critics of J&J’s moves, Markell said.
If the Third Circuit doesn’t reverse, “public confidence in a fair bankruptcy system will be further eroded as the wealthy write their own rules,” Markell said.
” Fast pace “
LTL argues that bankruptcy is a more efficient way to manage mass tort debt, even for plaintiffs, because it would likely result in faster payments. Many victims are struggling with serious and terminal illnesses.
“There’s no way the tort system can track” all victims’ claims, LTL said in a court filing. The bankruptcy court would proceed “at a much faster pace”, he said.
Damages can also vary widely from state court to state. “The talc litigation has already proven to be unfair,” LTL said in court filings.
The New Jersey bankruptcy court said in its ruling that tort plaintiffs would face “an uneven and slow race to the courthouse” if their claims were not dealt with by LTL’s bankruptcy.
LTL also argued that a bankruptcy court is the cheapest and fastest forum for handling mass tort litigation.
The bankruptcy court agreed, estimating that without Chapter 11, the company would spend between $100 million and $200 million a year litigating the claims. Such litigation could take decades, the New Jersey bankruptcy court said.
LTL’s attorney did not respond to a request for comment.