3M’s Aearo scores quick appeal of bankruptcy court’s ruling on earplug MDL

(Reuters) – By the end of 2023, we should have a much better idea about whether companies facing vast mass torts exposure can use the bankruptcy system to sidestep multidistrict litigation in federal court.

On Wednesday, the 7th U.S. Circuit Court of Appeals granted a petition by 3M Co subsidiary Aearo Technologies LLC to review a bankruptcy court’s decision refusing to block MDL litigation against the parent company despite Aearo’s Chapter 11 bankruptcy.

The 7th Circuit order means that Aearo will not have to first challenge the ruling by U.S. Bankruptcy Judge Jeffrey Graham of Indianapolis in federal district court, which is usually the first stop for bankruptcy appeals. Instead, Aearo can tell the 7th Circuit directly why it believes that more than 200,000 combat veterans should not be permitted to continue litigating their claims against 3M for selling allegedly defective earplugs in an MDL in Pensacola, Florida.

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The 3rd Circuit, as you probably recall, is weighing a parallel case. That court heard oral arguments last month about whether the bankruptcy of a Johnson & Johnson subsidiary can halt nearly 40,000 claims that J&J’s talc products contained carcinogenic asbestos.

The two appellate cases present essentially the same questions, albeit in opposite postures. The bankruptcy judge overseeing the Chapter 11 of the J&J subsidiary stayed litigation against the parent company, while Graham allowed MDL plaintiffs to continue litigating against 3M.

But with both circuit courts likely to rule over the next several months, we can expect answers to important statutory questions about whether parent companies mired in mass tort litigation can benefit from the bankruptcies of their subsidiaries. And if the 7th and 3rd Circuits reach different conclusions, it’s a good bet that these issues are headed for the U.S. Supreme Court.

Plaintiffs in the earplug MDL, in which combat veterans have won 10 of 16 bellwether jury trials and have garnered a total of $25 million in damages, opposed Aearo’s request to proceed directly to the 7th Circuit without stopping in the trial court. So did the Aearo tort claimants’ creditors committee, which argued that there is no urgent reason to disrupt ordinary bankruptcy procedures.

In an email statement, earplug MDL lead counsel Bryan Aylstock of Aylstock Witkin Kreis & Overholtz and Christopher Seeger of Seeger Weiss said Aearo’s appeal is without merit. “The 7th Circuit should uphold Judge Graham’s thorough decision rejecting non-debtor 3M’s attempt to shield itself through the bankruptcy system,” the statement said.

But on the preliminary question of whether to hear the case directly, the 7th Circuit clearly agreed with Aearo’s lawyers at Kirkland & Ellis, who pitched the case as a matter of grave – and broad – public interest. Kirkland said that’s not just because appellate review will speed up the resolution of the more than 200,000 cases in the earplug MDL but also because this appeal will clarify whether 3M, J&J and other corporations can use subsidiaries’ Chapter 11 filings as an escape hatch from mass tort litigation.

I should say here that 3M denies there was anything wrong with its earplugs. J&J likewise maintains that its talc products are safe. Both companies have argued that the bankruptcy process is a faster, fairer way than complex federal-court litigation to resolve plaintiffs’ claims.

Aearo’s petition for direct review by the 7th Circuit laid out the two basic routes by which a parent company can take advantage of a subsidiary’s bankruptcy to receive a reprieve from pending litigation. The first is by invoking exceptions to the general rule that the automatic stay of litigation for Chapter 11 debtors does not apply to non-debtors, including parent companies. The second, broadly speaking, is by seeking an injunction on the grounds that litigation involving a parent company is related to the subsidiary’s bankruptcy and could affect the debtor’s restructuring.

In the decision denying Aearo’s bid to halt litigation against 3M, Graham said 7th Circuit case law reflects a “constrained” view of both options. According to Graham, the 7th Circuit has never adopted reasoning from other federal circuits that the automatic litigation stay can be extended to non-debtors – including corporate parents – if a judgment against them would in effect be a judgment against the bankrupt subsidiary.

Graham also held that the 7th Circuit limits bankruptcy court authority to issue injunctions barring claims against non-debtors to cases that will have an actual impact on the debtor’s estate, not just litigation related to the bankruptcy. Graham said that litigation against 3M would not actually impede Aearo’s estate because the financing agreement that the two companies entered on the eve of Aearo’s Chapter 11 filing made 3M ultimately responsible for Aearo’s liability in the earplug litigation. (I’m summarizing a nuanced holding that combined legal and factual analysis, but that’s the gist of it.)

Aearo’s petition to the 7th Circuit previewed the central argument it will make in appellate briefing: The 7th Circuit should clarify its interpretation of the relevant bankruptcy statutes to align its precedent with that of other appellate courts that have given bankruptcy courts broad power to block claims that could affect the debtor.

Nine other circuits, according to Aearo, have already adopted a sweeping view of the authority of bankruptcy judges to enjoin related litigation. And at least three appellate courts have ruled that parent companies are covered by the automatic stay on litigation when claims against the parent would diminish the estate of the bankrupt subsidiary.

You can tell from my summary that Aearo’s legal arguments will likely be dauntingly technical. Earplug MDL plaintiffs, meanwhile, will probably tell the 7th Circuit that Graham faithfully applied longstanding and well-reasoned circuit precedent.

But there’s no doubt that the consequences of these numbing questions about the relationship between parent companies and bankrupt subsidiaries have never been higher than they are now, in the era of the so-called Texas two-step to use bankruptcy to shut down mass tort claims. The very future of mass tort litigation may depend on what the 7th and 3rd Circuits decide.

Read more:

Cancer victims urge court to end J&J bankruptcy roadblock to lawsuits

Bankruptcy as MDL escape hatch? Not so fast, judge tells 3M in ‘surprise’ decision

Is 3M earplug bankruptcy the beginning of the end of mass tort MDLs?

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