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3M's Aearo Technologies' Bankruptcy: the Hoosier Hop

posted by Adam Levitin

3M's earphone subsidiary, Aearo Technologies, filed for bankruptcy today in the Southern District of Indiana. This is looking like a really interesting case: it looks like a new generation of the Texas Two-Step strategy. Let's call it the Hoosier Hop. Here's the story.

3M is looking to spin off its health care business and sell off a lot of its medical supplies business. But in order to do that, it needs to clean up its balance sheet. 3M has perhaps $33B in liabilities related to (1) Aearo's combat earphones and (2) PFAS.  This case is an attempt to deal with the former. What 3M will do about PFAS remains an unresolved question.

Aearo manufactures various a type of hearing protection gear used by the military. But it seems that it doesn't actually protect hearing as well as it should, as some 230,000 current and former servicemembers have sued for hearing loss.  Those suits are mainly in a federal MDL based in Florida (apparently the largest MDL in history) and a Minnesota state court action.

Aearo has long been a separate subsidiary from 3M; there was no Texas divisional merger monkey business before the filing. Moreover, Aearo filed for bankruptcy in the Southern District of Indiana, where it is headquartered, rather than in Delaware where all the entities are incorporated. No forum shopping! K&E must have seen the light?  Oh wait, why bother forum shopping? The 7th Circuit has some of the laxest law in the country on third-party releases and been scared that they might run into a bad decision in the LTL appeal.

Aearo promptly filed an adversary proceeding against all of the tort plaintiffs seeking to enjoin them from suing 3M.  Now like J&J, 3M appears solvent and capable of paying all of the hearing claims in full. So instead, it is hoping to use bankruptcy to be the forum for forcing a deal on plaintiffs.  No surprise there, but the argument K&E puts forward is quite something. It is a lengthy and unabashed criticism of the dysfunctionality of the MDL system. And for authority that bankruptcy offers the solution, the adversary proceeding complaints quotes the bankruptcy court in LTL: 

Addressing mass torts through a legislative scheme enacted by Congress within the bankruptcy system ... provides a judicially accepted means of aggregating and resolving mass tort claims.

In re LTL Mgmt., LLC, 637 B.R. 396, 411 (Bankr. D.N.J. 2022). Aearo and 3M also planned much better than J&J did--they set up a situation where Aearo's DIP financing is from 3M, but that financing is contingent upon Aearo indemnifying 3M, and that indemnification is the key hook (bolstered by shared insurance coverage) for Aearo's argument why a suit against 3M is really a suit against Aearo.  The financing appears to have been agreed to the day before the bankruptcy filing, so it's not technically a DIP financing agreement--no court approval seems necessary (at least from my quick glance). But it's really quite ridiculous--it's the Naboth's Vineyard problem--where Aearo's argument for protecting 3M is primarily based on an action it chose to as part of a financing deal it "negotiated," rather than seeking arm's length DIP financing, which would not have such a ridiculous indemnification. Frankly, the funding looks a lot like a fraudulent transfer--the indemnification obligation the debtor incurred exceeds any value it received from 3M at a time when it was insolvent.  And it's also arguably asking the court to approve an actual fraudulent transfer--bankruptcy is the fraudulent transfer mechanism.  Now the debtor does get "first crack" and the fraudulent transfer actions, but it exactly that sort of thing that could be the basis for a trustee motion.

We'll see how this plays out. LTL ran into trouble in part because some of the tort plaintiffs were prepared to meet it head on on day one of the case, before an Official Committee was formed.  Not sure if that will happen here. 

The big point here is that thanks to LTL, the flood gates are open.  The Hoosier Hop dispenses with the tawdry divisional merger nonsense and instead makes an unapologetic case that bankruptcy is the appropriate solution to the dysfunctional mass tort system. If a court buys that story, then all of the moves--the injunction and the funding agreement and the ultimate non-debtor release--are sort of necessary pieces that have to be accepted. Will this work? I don't know. There's certainly a lot of legal risk involved for Aearo and 3M, but it's hard to see what they lose by trying beyond a bunch of attorneys' fees. Even if the case gets tossed on good faith filing grounds or the like, they've still probably derailed and delayed the MDL by at least six months, and who knows how much longer, given the way court scheduling works.


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