The Texas Two-Step: Testing Bankruptcy Law and Jury Rights with Adam Silverstein

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Hello and welcome to the Emerging Litigation Podcast.
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I'm your host, Tom Hagy.
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Today we're going to talk about a pretty creative strategy that large defendants have used to shield themselves from liability or reduce their liability in mass torts.
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Any mass tort lawyer knows about this.
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It's a strategy where the large company, very profitable, very solvent, those things kind of go hand in hand.
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They may face billions in liability for a certain product in the past, maybe something they created, maybe something they developed, or something that, who knows, maybe liabilities that they acquired.
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But what large companies have done is using the bankruptcy code, uh, they have developed a strategy to shield themselves where they take all those liabilities, they fence them off, put them in a separate entity, a division, a spin-off company, whatever the actual mechanism is.
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I'm not a corporate lawyer.
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No one wants that.
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And then they put that division into chapter 11.
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And meanwhile, the large company continues to be solvent and profitable to the glee of its shareholders and CEOs, et cetera.
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So that's controversial.
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You know, is that an abuse of the bankruptcy code?
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Is that what it was intended for?
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That large companies that are solvent can continue uh their operations and not face the consequences of liabilities.
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It's also harmful to claimants who also have rights, just like the large companies have rights to protection.
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Plaintiffs and claimants also have rights to compensation if the causation and the damages are proven.
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So with me to discuss this is Adam Silverstein.
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He's a partner at Otterberg, and he's a longtime plaintiff attorney, great guy to talk to.
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I enjoyed talking with him very much.
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A lot of what we talked about didn't make the podcast, but you know, we talked about architecture, we talked about boxing, we talked about history.
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But that would be a separate podcast, and probably no one would listen.
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Adam is going to talk about how this strategy developed on the defense side, what plaintiffs did about it, how it's been rejected recently, and why it continues in certain other jurisdictions.
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So it's a fascinating topic.
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It has to do with billions of dollars, it has to do with severe injuries to claimants and, you know, their right to justice, et cetera.
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So with that, here is my interview with Adam Silverstein of Otterburg.
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Hope you enjoy it.
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So uh I did a little bit of an introduction to set this up, but what we're talking about is this it's been going on for several years now, but repeated attempts by big companies, and you correct me please if I'm couching this the wrong way, but they're fencing off uh their mass tort liabilities, which are millions or hundreds of millions of dollars sometimes.
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Uh they fenced them off, place them into uh newly created subsidiaries.
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I'm sure it's more complicated than that.
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But then those subsidiaries, they put them into Chapter 11, giving them all the protections that Chapter 11 gives a company, but the parent company remains solvent, sometimes enormously solvent.
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These are some of the biggest companies in the world.
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So we could talk about those.
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I mean, of course, we're talking about Johnson ⁇ Johnson and and 3M here, uh, but you can certainly expand that.
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But this sort of failed in those cases, from what I understand, and but it continues in others.
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So what can you tell me about those cases and then what else, what is happening now with with other cases?
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Aaron Powell One correction, Tom, to uh what you laid out, which is correct.
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It's it's billions of dollars, not millions or hundreds of millions.
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That's what we're talking about in some of the cases that that have been filed.
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I I I would say that the attempts that have been made thus far to, as you say, ring fence off uh liabilities for uh mass tort exposure by these big companies has been this effort to deal with what is a problem for these companies, which is lawsuits in the tens or hundreds of thousands of numbers.
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And that's because of the ubiquity of the products that uh you know that we're talking about.
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So Johnson's baby powder, everybody grew up with it.
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Yeah, everybody used it on if you're an ad if you're a parent, you've used that on your child.
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There are serious accusations that have resulted in numerous jury verdicts that this product that's we've all used on our children has asbestos in it and has caused either mesothelioma for people who have inhaled it over long periods of time, right.
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Or ovarian cancer for those who have applied it in their feminine areas.
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And these companies are facing massive amounts of lawsuits over these defective products.
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And what they have come up with as a way of trying to get all of the individuals in one place to try to resolve this globally and also to try to resolve it on terms that they favor is get it out of the court system, take the rights of the claimants away in terms of pursuing their Seventh Amendment jury rights, and put it into a bankruptcy court where there's no juries, it's a much more controlled environment, they can stop the expense of the ongoing litigation and uh try to either get to a resolution within a bankruptcy court or have a bankruptcy court approve a bankruptcy plan that instead of giving individuals the right to choose how they want to settle the case, it the the bankruptcy plan would tell them what they would be getting.
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And so that's what we're really talking about at a high level.
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Right, right.
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So now those cases, uh as you said, billions.
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Thanks for correcting me.
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Uh yeah, they're just just massive.
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Um yeah, talc was everywhere.
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We used it, we our poor kids.
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They were in clouds of talcum powder.
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Um can't I can remember that vividly.
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But the uh uh you know, of course, asbestos, you know, I we say sometimes with products, like if it's too good to be true, it probably is.
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Asbestos is one, Teflon is another.
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Well, something's like, oh, nothing will stick.
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Okay, well that's cool.
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No, you know.
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But now it's like other things.
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But then uh so so the but these cases, these cases didn't what what was the result in these?
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What did the courts rule in in the Johnson ⁇ Johnson and 3M case?
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Right.
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There's there were three attempts by Johnson and Johnson to ring fence the liabilities for the Talcam powder.
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Yeah, and the first two attempts in a company that they designed, it was reincorporated in Texas.
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Right.
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The company divided in half with um all of the liabilities going into one company that then was filed into bankruptcy, and then all of the productive assets going into the other company that stayed outside of bankruptcy, and all of the lawsuits went with the company that was in bankruptcy.
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That company was called LTL.
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There were two efforts to try to put LTL into bankruptcy, both failed.
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In the first effort, Johnson Johnson just did this by brute force, essentially.
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There was no claimant support.
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The entire plaintiff's bar was opposed to this effort.
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And what the court found at the appellate level, because initially this passed muster in the bankruptcy court, at the appellate level, the court found that the company LTL that filed for bankruptcy had too much financial support from Johnson Johnson in order to resolve this.
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And it needed to, because if you just put a shell into bankruptcy and strip all of its assets, that's what we call smudge on conveyance.
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So there needed to be financial support.
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The court found that as a result, there was no financial distress by LTL.
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There was no need to be in bankruptcy.
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It had more than sufficient funds to resolve its liabilities outside of bankruptcy.
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And so the Third Circuit dismissed the case.
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In the second attempt, Johnson Johnson did curry some support from a number of plaintiffs' firms that represented clients that also supported an increased amount to resolve.
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Right.
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So Johnson ⁇ Johnson put my recollection is $8 billion, a significant amount of money on the table in the second bankruptcy.
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The first bankruptcy, they'd put $2 billion on the table.
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That was dismissed.
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The second bankruptcy was $8 billion.
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About half of the plaintiff's bar supported it.
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And the court, this time, the bankruptcy court, following the precedent set by the Third Circuit, found once again that given the financial support that the debtor had, there was no need for bankruptcy.
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All of these cases could be resolved outside of bankruptcy.
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And so what in those first two efforts, the court basically ruled that there was no need for invoking, you know, the awesome powers of bankruptcy, which are really for companies that are in financial distress and are in need of these incredible solutions that the bankruptcy court offers to companies that are in need.
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They can be abused when there's there's no such need, and that was the case.
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In the third attempt, Johnson Johnson did another divisive merger, another two-step uh in Texas.
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So they took LCL and essentially divided that again with some other corporate maneuverings involved.
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And they created a company called Red River Talc, and they put that into bankruptcy.
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And this time there was $10 billion that was put on the table.
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So again, the amount of money that was was was increased.
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But but this time, what the court found was the process by which the Johnson Johnson curried the support of all of the plaintiffs bar and clients to support this bankruptcy plan was through uh improper means that basically Johnson Johnson hadn't complied with the bankruptcy code.
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And so this was less about financial distress, this third ruling, and more about the process that uh Johnson Johnson undertook.
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And so between the three cases, the efforts have been rejected and Johnson Johnson and the individuals are back to the court system.
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So what what was what was the reasoning again?
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Now the third one they did they didn't follow the code.
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What kind of things were they doing that didn't meet the code?
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So this one was called a uh a pre-packaged bankruptcy.
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In bankruptcy, a company files ordinarily for bankruptcy when there's some usually event or ongoing financial circumstances that make the company's continuing business without protections from the bankruptcy court not feasible.
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And then through the bankruptcy process, eventually a bankruptcy plan is proposed.
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Creditors in the bankruptcy have the opportunity to vote on the plan.
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If there are sufficient numerosity and sufficient number of value of claims supporting it, then uh the plan is confirmed and the company can exit bankruptcy in accordance with the plan, and people get what they're entitled to under the plan.
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There are instances in which a company can agree in advance with creditors about a bankruptcy plan and do all of the voting in advance.
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And so they the company can put out a plan, solicit votes, get creditors to vote, and then file for bankruptcy.
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That's what happened in this third case.
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There was a significant number of uh plaintiff's firms and their clients that supported the bankruptcy.
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Johnson Johnson, outside of the supervision of the bankruptcy court, undertook through their subsidiary Red River this process where they solicited votes on a plan.
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They claimed to have received the requisite number of uh votes that were needed.
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In this case, they needed to satisfy the law over 75% of the value of the claims needed to be in favor of the plan.
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And they claimed that they had that.
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And when the court scrutinized that after a multi-week trial, the court found that the process by which uh Johnson Johnson undertook uh to get the votes uh had not been followed.
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Also, the other aspect of this that the court found was that what Johnson Johnson was doing was trying to get a release of all of the liability against Johnson Johnson through the bankruptcy of Red River, and uh not without giving individuals the opportunity to vote on the plan and opt out of uh just charging Johnson and Johnson.
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And under Purdue, uh and I don't want to get too technical, but under a another Supreme Court case, bankruptcy debtors are not in a bankruptcy plan able anymore to release the claims of individuals that are creditors in the bankruptcy estate against companies that are not in the bankruptcy.
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And so this case, they were seeking to have creditors in the Red River case discharge all of their claims against Johnson and Johnson with the ability to opt out from that aspect of the plan, and the court found that that also was not permitted.
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Okay.
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I gotcha.
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Yeah.
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So we may come we may come back to that.
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But the um but then the but there are other cases that are going on with this, uh with this strategy.
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Why are they why do you think they're continuing?
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The cases that are ongoing are all in one place in North Carolina.
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So the cases that we we were talking about, uh Johnson and Johnson, there was also a case with uh 3M.
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Those were uh cases that were filed either in the third circuit covering New Jersey and Delaware and Pennsylvania.
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Pennsylvania, yes.
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Can't forget that.
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The Fifth Circuit in Texas, and then in the Seventh Circuit, where uh where the the 3M case was filed in Indiana.
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The cases that are still pending that are two-step cases where this ring fencing strategy has been used are all pending in North Carolina in what's called the Fourth Circuit.
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And the law on the Fourth Circuit is a little bit different with regard to the issue I mentioned earlier about financial distress and what's needed by a company to stay in bankruptcy.
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Does it need to show financial distress?
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What does it need to be to file a bankruptcy in good faith?
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The law on the Fourth Circuit is different, and it's because of the difference in law that three two-step cases are still currently pending years after they were filed, and they remain pending uh without any closure, you know, anytime soon, it looks like.
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And so these individuals that had lawsuits against companies like Georgia Pacific, a company called Certainty, a company called Train Technologies, they all created bankruptcy-specific companies that are in bankruptcy.
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And in one case, it's been almost 10 years since this bankruptcy was filed, where all of the lawsuits have been paused.
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The other two cases have been almost seven years.
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And so these bankruptcies continue to just drag on uh without any, you know, without any end in sight.
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Yeah.
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Yeah, and I can't help but call out the fact that asbestos is uh it continues to be a common thread for some of these, that after all these years, that's still going.
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All three of the cases that are in North Carolina, one's called Besswall, one's called Aldrich Pump, one's called DBMP.
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Those are the bankruptcy-specific names that uh the companies came up with.
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Those all involve products that are alleged to have had asbestos in it.
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Yeah.
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Yeah, that's one of those two too good to be true, I guess, substances or uh materials.
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Oh, it's fire retardant and everything.
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I don't know.
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If it was cheap, maybe it wasn't that expensive.
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I don't know.
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But my gosh, that stuff was certainly everywhere.
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Um the but it's interesting, too, that you you know you had a split among among plaintiffs on these things.
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What do you what do you think drove that?
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I'm gonna give you a sort of an optimist view of the world and a cynical view of the world.
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Okay.
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That's the right play.
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All right.
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The optimist view of the world is that these cases, even when they're not in a bankruptcy, do go on for a long time.
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What happens in what's called multi-justic litigation is individual lawsuits that people file get consolidated or aggregated in one court.
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And then basically all of these cases are sort of put on pause for efficiency's sake for everybody's benefit.
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Common issues are in discovery, like causation and the science, those all get litigated.
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And so you have the efficiency of dealing with all of that, but while you know, these common iss issues are being litigated, everybody is sort of waiting.
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And these cases do go on for a very long time before individuals can get their opportunity to be heard in court.
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And so the optimist view is well, our clients have been suffering.
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They've been, you know, exposed to asbestos, or in the case of 3M, it was hearing loss from allegedly defective combat uh earplugs that were given to service members in the military.
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These cases have been going on for a long time.
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Our clients, you know, have medical bills that have been piling up.
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They need money, they should be compensated.
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And so here's this opportunity the company is offering that if we support the bankruptcy, there's these billions of dollars that are being offered that will be spread out amongst everybody.
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And the optimist view is that that's what motivated uh the plaintiff's attorneys that supported the plan and had their clients support it.
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So I tend to believe that there's good faith across the board that all these the the services that the plaintiffs bar provides are incredible services, especially given all the gridlock in Congress in terms of regulation.
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It's the plaintiffs bar that is responsible for so many improvements in product safety.
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Right.
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So uh, you know, I I do have enormous respect for, you know, what for the plaintiffs bar.
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And I and I believe that everybody was acting in what they thought was the best interest of their own clients.
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Yeah, and from an economic standpoint, plaintiff firms, I don't know, most people know this who would listen to this podcast, but a lot of people don't realize they're paying the bills.
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They don't get paid.
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And these cases do go on forever, especially when you're fighting against large companies with have these unique strategies.
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Let's just call them unique, where you can the so-called two-step and the fencing off and everything.
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That just it just seems like, I don't know, some firms it would just seem like I would just wear them down.
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You're right.
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I think that's a huge part of it.
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Because the resources are so imbalanced companies have to continue to litigate or to you know spend uh enormous resources in bankruptcy pursuing their bankruptcy strategies.
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And you're right that uh that the plaintiff plaintiffs bar can get worn down.
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So what would you say?
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Are you would you say how would you look at this Texas two-step strategy?
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Do you think it's starting to crack and crumble?
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Do you think what do you think?
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Is it uh is still gonna be a viable approach for companies?
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Yeah, I uh I think the jury is still out, yeah.
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Intended.
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I I think on the one hand, um the dismissals of the bankruptcy cases that we helped achieve has had an impact uh in the corporate boardroom.
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And I look at uh Monsanto and Bayer as an example.
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The Monsanto and Bayer entered into uh an agreement last year to resolve their their Roundup liable weed killer liability outside of bankruptcy.
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And more recently, there's been a Supreme Court ruling that found that failure to warrants were preempted by federal EPA regulation.
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And uh Monsanto and Bayer have been benefited from that Supreme Court ruling.
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But even before the Supreme Court ruled, there had been rumors for a long time that they would be the next Texas two-step, and they they didn't pursue it.
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And ultimately they agreed on an out-of-court, out of out-of-bankcy strategy to resolve their their cases globally.
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And I think that the dismissals, you know, impacted that that thinking.
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On the other hand, you have these cases that continue to languish in in North Carolina.
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There have been a couple of efforts to try to get Supreme Court review because at a high level, it seems like, well, there is this disparity now between circuits.
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You have these cases that are continuing the Fourth Circuit.
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They've been dismissed in the third and seventh and fifth circuits.
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So that seems like a split.
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The Supreme Court should should review it.
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But the it really hasn't been the right format to get a pellet review.
00:21:45.599 --> 00:21:51.599
So I I would say that the Fourth Circuit, this still seems to be a vi viable strategy.
00:21:51.599 --> 00:21:59.599
And I I wouldn't rule out that companies would continue to try to pursue this strategy of using the two step and filing.
00:21:59.599 --> 00:22:01.119
In the Fourth Circuit.
00:22:01.119 --> 00:22:08.400
And so where we go from here in terms of this ring fencing strategy is unclear right now.
00:22:08.400 --> 00:22:30.160
I do think that it's caused companies to pause and um and explore if they can achieve the same benefits of a bankruptcy resolution in some other way that doesn't result in you know years of litigation and potential failure as what happened in the case of Johnson Johnson and and 3M.
00:22:30.160 --> 00:22:36.799
I also think, Tom, that and this is one of the beauties of being a lawyer is is creativity.
00:22:36.799 --> 00:22:39.359
People don't think of lawyers as being creative.
00:22:39.359 --> 00:22:44.480
And um, you know, creativity can have all kinds of expressions.
00:22:44.480 --> 00:22:48.319
One can look at the Texas two-step and say it's an abomination.
00:22:48.319 --> 00:22:52.160
Somebody else could say that's a really creative use of lawyering.
00:22:52.160 --> 00:23:10.720
And what whether the Texas two-step continues from this point on or not, regardless, bankruptcy lawyers representing these companies that are facing billions of dollars of potential exposure will go back to the drawing board board.
00:23:10.720 --> 00:23:24.480
They will they will continue to explore other possibilities of accessing bankruptcy and achieving, you know, complete resolution of all of their liabilities on terms that are acceptable to them.
00:23:24.799 --> 00:23:25.039
Yeah.
00:23:25.039 --> 00:23:25.359
Okay.
00:23:25.359 --> 00:23:33.680
Well that that covers most of what I wanted to go over, but I just wanted to give you an opportunity to say to litigators in general, what might they take away?
00:23:33.680 --> 00:23:41.359
This was a hard one rejection of this of this using bankruptcy this way, but and as you say the jury's still out for for other cases.
00:23:41.359 --> 00:23:52.480
What would you what would you say litigators should take away from from this experience, from going out going a head to head with these Fortune 500 companies and securing the kind of rulings you did?
00:23:53.039 --> 00:23:58.559
Again, I'm gonna give you an optimist view and uh and a and a and a and a word of caution.
00:23:58.559 --> 00:23:59.279
Okay.
00:23:59.279 --> 00:24:03.119
The the we are obviously very proud of the work that we did.
00:24:03.119 --> 00:24:21.119
And what we did was just fulfilling what what all the plaintiff spar does for their clients on a day in and day out basis, taking on corporate America with regard to practices and and products that that harm American people.
00:24:21.119 --> 00:24:54.880
And so notwithstanding you know how powerful and how financially wealthy these companies are, um, it it's essential that that we lawyers protect the the individuals who have been harmed and ensure that they have their day in court for uh uh juries to decide whatever the evidence shows, but that that's their their civil right as an American under the Seventh Amendment to to have their cases decided in front of a jury.
00:24:54.880 --> 00:24:59.599
And so I think it's essential that lawyers take on that fight.
00:24:59.599 --> 00:25:13.920
And uh it's encouraging that with uh notwithstanding all of the resources that we confronted and that the plaintiff's bar confronts on a daily basis, that that that these individuals' rights were protected.
00:25:13.920 --> 00:25:20.880
And and I think that is something that all lawyers should be encouraged by, and all and all individuals should be encouraged.
00:25:20.880 --> 00:25:30.880
As a note of caution, as I said, um the this create creative lawyering will will always exist.
00:25:30.880 --> 00:25:34.880
And so I I would say don't let your guard down.
00:25:34.880 --> 00:25:56.480
Be ready for the next iteration of the same effort to use the bankruptcy courts to try to uh confine what the corporate America uh has to account for in terms of you know its allegedly defective products and and and bad business practices.
00:25:56.480 --> 00:26:06.079
So take take comfort and encouragement from what's been achieved, but uh but be ready for the next uh for the next attempt.
00:26:06.319 --> 00:26:06.480
Yeah.
00:26:06.480 --> 00:26:07.039
All right.
00:26:07.039 --> 00:26:08.400
That's a good place to close.
00:26:08.400 --> 00:26:09.839
Well, you know, I appreciate you.
00:26:09.839 --> 00:26:12.559
Yeah, you know, Adam, thank you very much for talking to me about this today.
00:26:12.559 --> 00:26:20.400
It's a it's an important topic, and my gosh, the uh tenacity it must take to go aft go and handle these cases against these big companies.
00:26:20.720 --> 00:26:23.119
Tom, thank you very much for your interest in it.
00:26:30.400 --> 00:26:38.400
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