Corporate Calvinball

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Nearly 40,000 lawsuits have been filed against Johnson & Johnson (J&J), alleging that the company's baby powder causes cancer. The lawsuits claim that customers became sick with mesothelioma or ovarian cancer after being exposed to asbestos contained in talcum powder. 

Whether these claims have any merit is disputed. J&J insists that baby powder made from talc is safe. On a website dedicated to the topic, factsabouttalc.com, J&J says that "clinical evidence and nearly 40 years of studies by independent medical experts around the world continue to support the safety of talc." The company stopped selling baby powder made from talc in 2020 in the United States and Canada, citing "changes in consumer habits" and "misinformation around the safety of the product." 

Internal documents provided by J&J during litigation present a more complex picture. Lab analysis commissioned by plaintiffs "found asbestos in Shower to Shower talc from the 1990s" and "asbestos in more than half of multiple samples of Baby Powder from past decades." In one case asbestos was detected in "a 1978 bottle held in J&J’s corporate museum." J&J disputes these lab results, claiming the samples were contaminated or the tests picked up "non-asbestos forms of the same minerals."

J&J, however, was not always successful in making these arguments in court. In July 2018, a Missouri jury awarded $4.7 billion in damages to 22 women who said they contracted ovarian cancer from J&J baby powder. The judge, Rex Burlison, refused J&J's request to overturn the verdict, saying the company engaged in "particularly reprehensible conduct." According to Burlison, J&J "knew of the presence of asbestos in products that they knowingly targeted for sale to mothers and babies, knew of the damage their products caused, and misrepresented the safety of these products for decades."

An appeals court later reduced the verdict to about $2 billion. J&J, however, continued to fight the verdict, appealing all the way to the Supreme Court. In June 2021, however, the Supreme Court refused to hear the case, letting the $2 billion award stand. 

That's when J&J launched a brazen scheme to change the rules of the game. In July 2021, the company launched "Project Pluto," an effort to avoid most liability from baby powder claims through bankruptcy. J&J, one of the world's most valuable companies with a market cap of nearly $500 billion, would not declare bankruptcy. Rather, J&J would spin off a new subsidiary, LTL Management. The subsidiary would immediately be saddled with all of the baby powder litigation and declare bankruptcy. 

The entire purpose of the new company is to protect J&J's assets. In addition to all of its liability from baby powder, J&J provided LTL Management with $2 billion in assets, less than the jury award from just one case. 

How is this even possible? J&J is attempting to exploit a 1989 Texas law, deploying a legal maneuver known as the "Texas two-step." J&J temporarily became a Texas company and then executed a "divisive" merger. The move split J&J into two new companies: one with almost all of the assets and no baby powder liability and another with all of the baby powder liability and few assets. The latter almost immediately filed for Chapter 11 bankruptcy. 

By filing for bankruptcy, all civil litigation against LTL Management is immediately halted. The claimants no longer have the ability to have their claims heard in court. Instead, if the scheme is successful, all claimants have to split up a limited pool of assets defined by J&J.

At stake is not just the legal rights of people with cancer who have sued J&J, but also the very notion of corporate accountability. If corporations can jettison any problems to new subsidiaries with few assets, they can get away with anything. 

The legality of the Texas two-step

Whether the Texas two-step is legal is still up in the air. The technique was pioneered by Koch Industries, which used it to offload asbestos liability in 2017. Since then Koch Industries' law firm, Jones Day, has used the strategy for a handful of other clients, racking up tens of millions in legal fees. But courts still have not ruled definitively on whether the strategy is permissible. 

Plaintiffs suing J&J have challenged LTL Management's bankruptcy filing. In February 2022, a federal bankruptcy judge, Michael Kaplan, ruled that LTL Management's bankruptcy could proceed. Kaplan found "no impropriety in the divisional merger used here to create a special-purpose vehicle to address the talc claims and, thus, perceives no 'absurd or unjust result' produced." Further, Kaplan found that the plaintiffs have not proven "bad faith" because the spin-off of LTL Management was done pursuant to "a long-standing Texas statute."

Critics, however, argue that J&J's actions are a perversion of bankruptcy law. The purpose of bankruptcy is to maximize the return for creditors and, potentially, preserve the business as an ongoing concern. Here, LTL Management "has no reorganizational purpose because it has no business to reorganize." Further, the bankruptcy was not "was not initiated to maximize LTL [Managerment]’s assets for the benefit of the talc claims transferred into it; the assets are insufficient to pay those claims." Rather, the only purpose of LTL Management and its bankruptcy is to "protect J&J… without J&J acknowledging responsibility or liability for talc claims."

Jonathan Ruckdeschel, an attorney who represents asbestos victims, said that corporations are using the Texas two-step "as leverage to force Americans suffering and dying from asbestos disease into either accepting significantly lower settlements or waiting for years until the bogus ‘bankruptcy’ case is finally resolved."

Kaplan's decision was appealed and, on May 11, the Third Circuit Court of Appeals agreed to hear the case. 

$2,465 an hour

LTL Management has requested that Neal Katyal, a partner Hogan Lovells that previously represented J&J in baby powder cases, represent the company in the bankruptcy appeal. Katyal's proposed rate for the "bankrupt" company is $2,465 an hour. 

The enormous hourly fee prompted a rare objection from the Department of Justice’s bankruptcy watchdog. The DoJ watchdog noted that LTL Management has already retained seven law firms to represent it in the proceedings. The highest rate charged by those firms is $1350 — "more than $1,100 less an hour than the highest proposed fee for Hogan Lovells." 

The existing firms, according to the DoJ watchdog, are more than capable of handling the appeal. Jones Day, for example, boasts of a "deep bench of experienced appellate lawyers with a strong Supreme Court pedigree." 

The fact that LTL Management wants to add an attorney making nearly $2500 an hour to a phalanx of attorneys already making in excess of $1,000 per hour reveals the absurdity of LTL Management's bankruptcy. The reality is that LTL is neither bankrupt nor a real company. It exists to protect J&J from liability and J&J has plenty of money. 

The legislative solution?

The courts have yet to reign in the Texas two-step, but Congress may take action. Some members of Congress are planning to introduce legislation to outlaw the scheme. "When you have massively profitable companies using this bankruptcy maneuver to avoid accountability to dying cancer victims, it’s clear that corrective action is needed," Senator Dick Durbin (D-IL), the chairman of the Senate Judiciary Committee, told the Financial Times. 

Senator Sheldon Whitehouse (D-RI) held a subcommittee hearing on the topic in February. "It does not make sense for a $450 billion corporation with 38,000 people with potentially lethal injuries to be able to carve off $2 billion . . . and walk away from the responsibility for what it did," Whitehouse said. 

Both Durbin and Whitehouse said they hope to pursue a bipartisan approach to the legislation. Thus far, no bill has been introduced.