(Reuters) — A U.S. appeals court upended Johnson & Johnson’s attempt to offload into bankruptcy tens of thousands of lawsuits over its talc products, ruling the healthcare conglomerate improperly placed a subsidiary into Chapter 11 proceedings even though it did not face financial distress.
The decision by the U.S. 3rd Circuit Court of Appeals in Philadelphia on Monday dismissed a Chapter 11 petition filed by a recently created J&J subsidiary in October to address more than 38,000 lawsuits from plaintiffs alleging the company’s baby powder and other talc products caused cancer.
Before the bankruptcy, J&J faced costs from $3.5 billion in verdicts and settlements, including one in which 22 women were eventually awarded a judgment of more than $2 billion, according to bankruptcy-court records.
Several major companies, including J&J and 3M Co have turned to bankruptcy court to manage their mass tort liabilities. Plaintiff attorneys have called the cases an improper manipulation of the bankruptcy system, while the companies say the Chapter 11 filings are aimed at compensating claimants fairly and equitably.
J&J’s maneuver is known as a Texas two-step for a state law used to create a subsidiary that shoulders litigation and then declares bankruptcy. The Third Circuit’s opinion allows talc litigation to resume against the company.
J&J said it would challenge the ruling and that its talc products are safe.
Its shares fell more than 3% – the biggest one-day percentage decline in two years.
The New Jersey-based company, valued at more than $400 billion, said its subsidiary’s bankruptcy was initiated in good faith and designed to equitably resolve talc claims for the benefit of all plaintiffs. J&J initially pledged $2 billion to the subsidiary to resolve talc claims and entered into an agreement to fund an eventual settlement approved by a bankruptcy judge.
A three-judge panel on the appeals court rejected J&J’s argument, finding the company’s subsidiary, LTL Management, was created solely to access the bankruptcy system and not because it faced financial distress.
“Good intentions – such as to protect the J&J brand or comprehensively resolve litigation – do not suffice alone,” the judges said in a 56-page opinion.
The decision throws into doubt J&J’s long-planned strategy for disposing of talc litigation after it lost a bid to reverse a watershed verdict that eventually awarded more than $2 billion to 22 women who blamed their cancer on baby powder and other talc products.
More than 1,500 talc lawsuits have been dismissed without J&J having to pay anything, and the majority of cases that have gone to trial have resulted in defense verdicts, mistrials or judgments for the company on appeal, according to the J&J subsidiary’s court filings.
A December 2018 Reuters investigation revealed that the company knew for decades of tests showing its talc sometimes contained traces of carcinogenic asbestos but kept that information from regulators and the public.
“As we have said from the beginning of this process, resolving this matter as quickly and efficiently as possible is in the best interests of claimants and all stakeholders,” J&J said in a statement. “We continue to stand behind the safety of Johnson’s Baby Powder, which is safe, does not contain asbestos and does not cause cancer.”
Facing unrelenting litigation, J&J enlisted law firm Jones Day, which had helped other companies execute Texas two-step bankruptcies to address asbestos lawsuits.
J&J’s effort was internally dubbed “Project Plato”, and employees working on it signed confidentiality agreements warning them to tell no one, including their spouses, about the plan.
The Texas two-step strategy has garnered criticism from Democratic lawmakers, and inspired legislation that would severely restrict the practice.
Jones Day did not immediately respond to a request for comment.
Critics contend the strategy is an improper use of the bankruptcy system by solvent corporations wishing to escape jury trials in state courts. Bankruptcy filings typically pause litigation, forcing plaintiffs into often time-consuming settlement negotiations while leaving them unable to pursue their cases in the courts where they originally sued.
“Bankruptcy courts are for honest companies in financial distress, not billionaire mega-corporations like J&J,” said Jon Ruckdeschel, a lawyer representing talc plaintiffs.
Plaintiffs and other legal experts urged U.S. Bankruptcy Judge Michael Kaplan last year to dismiss the J&J subsidiary’s bankruptcy, arguing it was filed in bad faith and risked becoming a blueprint for large corporations seeking to avoid undesirable litigation.
Kaplan, though, denied the request, finding the J&J unit did face financial distress and that a bankruptcy court was a better forum for resolving the litigation then America’s tort system.