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US lawmakers plan bill to ban Texas two-step bankruptcy scheme

U.S. lawmakers are considering legislation to ban the controversial bankruptcy maneuver called “Texas two-step” to prevent big companies from abusing the Chapter 11 process, the chairman of the Senate Judiciary Committee has said.

Dick Durbin, who is also a Democratic Senate whip, said negotiations were underway in the committee on a bill that would remove what he described as a “free jail card” being deployed by some of the richest companies.

His comments follow the failure on Friday of lawyers representing nearly 40,000 people with cancer to stop Johnson & Johnson from rolling out the bankruptcy plan to help it settle billions of dollars in claims that its baby talc was contaminated with asbestos and had caused their illnesses.

“When you have massively profitable companies that use this bankruptcy maneuver to avoid accountability for dying cancer victims, it’s clear that corrective action is needed,” Durbin told the Financial Times.

“Our goal is to pursue bipartisan legislation in committee that curbs corporate bankruptcy abuses like Texas in two stages.”

On Friday, a U.S. bankruptcy judge denied a motion by talc plaintiffs to dismiss management’s bankruptcy at J&J subsidiary LTL in a ruling that critics say could open the floodgates for other companies to ‘they use the bankruptcy courts to handle personal injury and other tort claims.

The “Texas Two-Step” program utilizes pro-business laws in Texas that allowed J&J to split into two separate entities and funnel all of its talc responsibilities within the LTL subsidiary. LTL then filed for Chapter 11 bankruptcy protection, which stayed the talc claims.

J&J followed the examples given by Georgia Pacific of Koch Industries, the first to deploy Texas in two stages in 2017, Trane Technologies, and a US unit of Saint-Gobain based in France. They used the scheme to protect their core businesses from lawsuits related to asbestos claims.

All four companies are represented by Cleveland-based law firm Jones Day, which designed the complex bankruptcy strategy.

But J&J’s rollout of “Texas Two-Step” caused a public outcry and prompted lawmakers to consider new legislation and hold public hearings on the issue.

Durbin said J&J’s exploitation of the bankruptcy loophole was “shameful” and “indefensible” because it deprived cancer victims of their right to pursue their claims against the company in court.

“If J&J is successful, tens of thousands of ovarian cancer and mesothelioma sufferers will be forced to wait years for compensation,” he said.

J&J declined to comment.

The talc plaintiffs had hoped to persuade Bankruptcy Judge Michael Kaplan to dismiss LTL’s Chapter 11 filing on the grounds that it was filed in “bad faith” because the company had never been in financial difficulty. They warned that J&J’s use of the program would open the floodgates for other companies to roll out the “two-step Texas.”

But Kaplan denied the talc plaintiffs’ motion to dismiss bankruptcy, ruling they had failed to prove J&J acted in “bad faith”. He said resolving the talc claims through the bankruptcy process was in the public interest, noting that a $2 billion settlement trust proposed by J&J could benefit talc claimants whose time may be limited due to illness.

“If I was a tort lawyer, I would be scared after today. Because I guess companies are going to explore that and they’re going to threaten to do this two-step Texas,” said Jared Ellias, professor at Hastings College of the Law, University of California.

Ellias, a two-time Texas critic, said the decision bolstered the call for Congress to legislate to tackle the program.

However, J&J said Kaplan’s decision was a positive development and that the lawsuit established the relevance of LTL’s formation and filing for bankruptcy.

Samir Parekh, a professor of bankruptcy law at Lewis & Clark Law School in Oregon, said many commentators saying mass lawsuits shouldn’t be resolved in bankruptcy don’t understand the alternatives.

“Bankruptcy avoids the lottery effects we see when mass tort cases are resolved by jury trials; some applicants receive a windfall and others receive nothing. LTL plaintiffs should be happy to have their claims resolved in bankruptcy. Apart from a few plaintiffs’ attorneys, all parties will benefit,” he said.

Additional reporting by Sujeet Indap in New York