Georgia-Pacific Ruling Complicates Tort Bankruptcy Debate

The Fourth Circuit’s decision allowing Georgia-Pacific to avoid being sued for certain asbestos-related claims adds more fuel to an ongoing debate over some financially healthy corporations’ controversial legal strategy to use bankruptcy to resolve mass tort liabilities.

The appeals court determined last week that a North Carolina bankruptcy court had the jurisdiction to shield pulp maker Georgia-Pacific LLC from litigation while its affiliate, Bestwall LLC, is in bankruptcy. Georgia-Pacific created Bestwall in 2017 to funnel and resolve claims alleging its asbestos-containing products caused cancer.

The US Court of Appeals for the Fourth Circuit’s June 20 ruling joins a growing body of opinions about the legality of tactics that funnel mass tort claims to a subsidiary or affiliate and have it file bankruptcy to limit damages. It is a narrow ruling mostly focused on jurisdiction, but it is nonetheless a much-needed win for companies eyeing the Texas Two-Step strategy, following a pair of related losses in other courts.

In January, the Third Circuit dismissed a Johnson & Johnson unit’s Chapter 11 case, saying the unit was not in financial distress. Earlier this month, an Indiana bankruptcy court made a similar ruling in determining that a 3M Co. unit’s Chapter 11 case should be dismissed, raising similar issues as those present in Bestwall, although the 3M case is not technically a two-step.

Still, Texas Two-Step proponents should be careful in considering the Fourth Circuit’s ruling to be a major shift in their favor, attorneys said.

The courts that have reviewed J&J, 3M and Georgia-Pacific cases have focused on different elements of the companies’ strategies. The cases don’t neatly lend to apples-to-apples comparison, they said.

“Broadly speaking, these are opinions that are in some tension with each other,” said Ashley Keller, a lawyer at Keller Postman LLC. Keller represents claimants suing 3M unit Aearo Technologies LLC over its combat earplugs.

Jurisdiction-Focused

The Fourth Circuit acknowledged that Georgia-Pacific and J&J were attempting similar restructuring strategies in pursuing a Texas Two-Step. But the appellate court said the main issue in Bestwall mostly involves jurisdictional questions.

Mesothelioma claimants in the Bestwall case argued that the bankruptcy court didn’t have the jurisdiction to extend a litigation shield—in this case, in the form of a preliminary injunction—to Georgia-Pacific because it was not in bankruptcy.

The Fourth Circuit disagreed. “The possible effect on the Bestwall bankruptcy estate of litigating thousands of identical claims in state court is sufficient to confer ‘related to’ jurisdiction,” the court said.

The Fourth Circuit opinion includes more than a page differentiating its decision from the Third Circuit’s.

But the Bestwall decision is still central to the two-step strategy, Andy Birchfield a claimant attorney at Beasley Allen, said.

“The preliminary injunction is at the heart of the Texas Two-Step,” he said.

The narrowness of the Fourth Circuit’s ruling wouldn’t discourage other companies that want to pursue Texas Two-Step to draw litigation strategy guidance from the ruling, some attorneys said.

“The Fourth Circuit’s jurisprudence, I think, is more favorable to the companies that want to do that,” said Carl Tobias, a law professor at the University of Richmond.

Critical Dissent

But Judge Robert King’s strongly worded dissent is “more tuned to the national developments of late,” Tobias said.

The Johnson & Johnson ruling shows the Texas Two-Step and similar strategies aren’t “guaranteed to result in smooth sailing,” King wrote.

The judge also pointed to an amicus brief that argued that 3M affiliate Aearo’s bankruptcy—filed to deal with claims from veterans who say its combat earplugs caused hearing loss—manipulates the bankruptcy code.

“Yet in recent years, major and fully solvent business corporations have managed to skirt that debtor-centric objective and obtain shelter from sweeping tort litigation without having to file for bankruptcy themselves,” King wrote. “It is precisely that sort of manipulation of the Bankruptcy Code — and by extension the Article I bankruptcy courts — that lies at the heart of this important appeal.”

King’s dissent may ultimately prove to be the prevailing theory, Tobias said.

“I think Judge King may have the better of it,” he said.

For now though, the ruling makes the Fourth Circuit a more desirable venue for two-stepping companies, he said.

The decision comes as debate over the Texas Two-Step flourishes, with some saying it offers a more efficient option than the traditional judicial tort system for companies that are financially sound but slammed with mass tort liabilities. Opponents say it improperly takes advantage of legal tools that were meant for what the bankruptcy code calls the “honest but unfortunate debtor.”

“There are just some longstanding principles of bankruptcy law that are turned on their head by the manipulation of the process,” said Barbara Houser, former Chief Judge of the US Bankruptcy Court in the Northern District of Texas who currently serves as a mediator in high-profile bankruptcies.

A Circuit Split?

The Aearo case has already been cleared for direct appeal the Seventh Circuit. If the Seventh Circuit takes up the case and were to rule in favor of Aearo, it could create a circuit split with the Third Circuit.

That could place the issue on the Supreme Court’s radar, Keller said.

In the long-run, the increasing attention being paid to the Texas Two-Step is not good news for its proponents, Lewis & Clark bankruptcy law professor Samir Parikh said.

“It was a clever idea and it worked as long as it was under the radar,” Parikh said. “Now that it’s not under the radar you can see its falling apart.”

The case is In Re: Bestwall, 4th Cir., No. 22-1127, 6/20/23.