If You're Gonna File in Texas, You Gotta Have Your Votes in Hand

J&J’s at it again with a third talc bankruptcy filing, this time in SDTX.  To paraphrase Marx, the first time was tragedy, the second time farce, and now the third time is fubar. 

Why fubar? tl;dr is that J&J's betting the case on the purported authority of a small Mississippi plaintiffs' firm to unilaterally change the votes of its joint clients from "no" to "yes". 😮🤯

The debtor in the first two J&J bankruptcy filings was an entity called LTL Management LLC, which was created through a Texas divisive merger, in which a J&J subsidiary split into two entities, a GoodCo and a BadCo (with the talc liabilities), with the BadCo (LTL) then filing for bankruptcy. This time the debtor is a newly created entity with the unfortunate name of Red River Talc LLC.

The first two bankruptcy filings, LTL 1.0 and LTL 2.0, were both dismissed as bad faith filings, an issue that is still going to exist in this third case, and J&J has chosen to file in SDTX in an attempt to avoid the Third Circuit’s caselaw.  But why not just refile good ol’ LTL, the debtor from the first two goes? Well, it’s all about getting the vote, but not for the reasons you might expect.

In a normal bankruptcy case, the debtor’s goal is to get a plan confirmed, and that means getting enough claimants to vote for it. J&J’s strategy is a bit different. There really isn't a universe post-Purdue Pharma in which J&J can get a plan confirmed and upheld on appeal that contains the releases that it needs. Purdue Pharma cuts off non-debtor releases other than in the 524(g) context. Now J&J is claiming that it can do everything with 524(g), but 524(g) just doesn't reach as far as 105(a) releases did. 524(g) will not get J&J a release for its own direct talc liability (J&J manufactured and sold the talc directly for years and it has subsequently been sold under the J&J name and logo), nor will it get a release for the various talc retailers that J&J has indemnified. Now you might think that J&J will just do an opt-out plan, which Judge Lopez has twice blessed so far, post-Purdue Pharma. But an opt-out plan only works if there are minimal opt-outs. That won't be the case here. J&J will be facing tens of thousands of opt-outs, and those will be the strongest cases against it, so the relief won't be meaningful.

Once you realize that there really isn't a universe in which J&J can get a plan with a plan can be confirmed and upheld on appeal, you have to ask what J&J is up to here. J&J’s strategy is “delay to underpay.” The purpose of the Red River bankruptcy is to impose delay, which shifts negotiating leverage into J&J’s hands so that it can strike a more favorable deal with its talc victims.  In order for J&J to get delay, however, it has to be able to present the court with what looks like a plausible bankruptcy strategy, meaning that it has a chance of getting a plan confirmed. Indeed, while J&J's goal isn't to get a plan confirmed, it would be plenty happy to do so because that would just result in an appeals process that will impose more delay. J&J's goal isn't plan confirmation. It's delay. That’s the key to understanding what J&J is up to here.

Recognition of the delay strategy underscores that the relevant comparison for evaluating the merits of the Red River plan is not the comparison between what talc victims might get under a plan vs. what they would get by taking their cases to trial. Neither is actually a real possibility, which is why it drives me bonkers when J&J claims that the plan offers more than victims would get at trial. It's an irrelevant comparison: there’s no confirmable plan here and almost no one is likely to go to trial beyond a handful of bellwether cases because that’s just not how mass tort litigation works.  Instead, the relevant comparison is between (A) the global settlement the talc victims might get if J&J cannot delay through bankruptcy and (B) the global settlement talc victims might get if J&J is allowed to delay through bankruptcy.  There’s a deal somewhere at the end of the tunnel here, and the bankruptcy is just a stratagem for J&J to drive down the settlement price.

Going back to why there is a new debtor entity, the starting point is that LTL 1.0 had four main groups of claimants:  ovarian cancer claimants, mesothelioma claimants, governmental claimants, and Canadian claimants. In LTL 2.0, additional group of previously unknown talc claimants suddenly came out of the woodwork, namely claimants with non-ovarian “gynecological” cancer claims. These were “non-compensable” claims that have never been scientifically connected to talc; J&J has never paid a verdict or even settlement on them. But by dangling the promise of a small quickpay to the holders of gynecological claims (and a contingency payment to their counsel), J&J realized that it could get a lot of votes in favor of a plan.

LTL 2.0 was dismissed, however, before J&J could ever solicit votes (it only had an RSA), and J&J realized that even with its new gynecological cancer allies that it was going to be hard to get the votes necessary to present a plausibly confirmable plan with LTL 2.0 constellation of claimants. Accordingly, J&J decided to change the configuration of claimants by repeating the move it had used to start the first bankruptcy, the Texas Two-Step. J&J decided to further partition its liabilities so that it would isolate just the ovarian cancer claims in a debtor entity with the “gynecological” cancer claims, which could then swamp the ovarian cancer claimants in a vote.

So J&J undertook a Texas-Two Step on top of a Texas Two-Step. (Does that make this a Texas Square Dance?)  J&J’s first talc bankruptcy, LTL 1.0, involved a debtor entity that was created through a Texas divisive merger, in which a J&J subsidiary split into two entities, a GoodCo and a BadCo (with the talc liabilities) and then BadCo filed for bankruptcy.  Well, two bad faith filing dismissals later, J&J has now had the BadCo undertake a divisive merger itself, splitting into a BadderCo (Pecos River) and a WorseCo (Red River).  The WorseCo was allocated all of the domestic ovarian cancer and “gynecological” cancer talc claims, while the BadderCo was allocated the mesothelioma and governmental and Canadian claims. And it’s WorseCo that’s now in bankruptcy.  So what we’re seeing is a liability partitioning of steroids, so that the bankruptcy is targeting just one subgroup of tort victims.  (Notice how by doing this J&J has basically skirted the Bankruptcy Code’s classification rules….)

This brings us to the fubar situation. J&J's whole pitch in the third bankruptcy is that the court should let everything move forward because it has a prepackaged plan supported by 83% of claimants who voted. But was it actually?

I've previously blogged about the phenomenon of stuffing the ballot box with "junk" claims, and that's an issue in Red River, as most of the votes seem to be from claimants with non-compensable "gynecological" cancer claims that are being counted equally with compensable ovarian cancer claims, but most immediately there's a twist that no one would have expected, namely whether an alleged late vote switch was authorized.

Any which way J&J did a 3rd bankruptcy, it was going to have to face a foreseeable set of challenges from talc victims:  including a venue motion and a motion to dismiss.  But J&J’s strategy in this case depends on an issue no one saw coming. As of the close of voting on the prepackaged plan, J&J did not have the votes it needed.  So it went and played handel-vandel with a plaintiff's firm to get it to switch its clients' votes. Those changed votes were the margin that got J&J past the goal line.

Without the vote change, J&J would have but 71% of the vote, well short of the 75% needed to get a plan confirmed with a supplemental 524(g) injunction (you have to sleuth this out a bit from the claims agent's declaration's exhibit, which is excerpted here). With the vote change, J&J's at 83%.  

The complication, however, is the late-switched votes were the votes of joint clients, and the other firm had already voted the claims as "nays." So was the vote change actually authorized?  The one thing I think everyone agrees on is that if you going to file in Texas, you gotta have your votes in hand.

You can see how critical the voting authorization issue is just by listening to Greg Gordon's opening statement at the first day hearing for Red River to the bankruptcy court. His focus was not on Red River or its plan, but an invective against the law firm that had voted the claims as "nays." You'd have thought from Gordon's oration that the case was a suit against the law firm, rather than a bankruptcy first day hearing. 

Stepping back, one realizes just how reckless J&J's strategy is. J&J already faced a lot of obstacles in this case, but now J&J is gambling its entire bankruptcy strategy the issue of whether The Smith Law Firm PLLC of Mississippi had the authority to change to the votes of nearly 12,000 talc victims from being “nay” to “yay” after the voting deadline had passed. For J&J to prevail here and even have a shot of keeping its case going, it's going to have to show that: (1) The Smith Firm had authority to vote the clients’ claims at all, (2) that the clients in fact authorized the change of vote to nay, and (3) that the changed votes being late didn’t matter. This is so incredible, let me say it again:  J&J’s betting its bankruptcy case on the voting authority of a small plaintiff’s firm. That’s nuts.

I’m going to refrain for now on any discussion about the motivations for The Smith Firm’s change of position or the merits of the its authority or the issue of timeliness or any ethical issues involved, although some of the pleadings are already mentioning 18 USC 152(6), which is not a citation dropped lightly. Instead, I just want to marvel at a Fortune 50 company letting its entire legal strategy hinge on this issue. The recklessness is jaw-dropping.

Does J&J's board of directors understand what their legal strategy is resting on here? But then how many companies would have the chutzpah to file for bankruptcy a third time after getting thrown out twice on bad faith filing grounds? (And what would happen to a consumer debtor that was doing serial bad faith filings....)

* I am a consultant for counsel for certain parties with talc claims against J&J. These opinions are solely my own.