3M’s bankruptcy tactic backfires as Combat Earplug suits go to trial

(Bloomberg) — 3M Co.’s plan to use controversial bankruptcy rules to protect itself from some 230,000 lawsuits over military earplugs seemed like a relatively simple solution to a simmering problem that could cost it billions of dollars.

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Like most things that sound too good to be true, they were. Now may be the time for Plan B: a comprehensive, and still expensive, settlement process for US soldiers who claim hearing loss.

An Indiana bankruptcy judge on Friday rejected 3M’s bid to temporarily halt an avalanche of lawsuits accusing the manufacturing giant and a bankrupt subsidiary of selling defective combat earplugs.

3M said it would appeal, but that was little relief to investors, which sent its shares the biggest decliner on the S&P 500 by Friday’s close. It was the company’s biggest fight in three years.

The decision dealt a blow to 3M and the most decisive action by CEO Mike Roman to deal with the growing legal burden. The losses in 10 trials have already resulted in $300 million in damages awarded by juries and millions of dollars more in legal fees, with more trials expected to proceed after Friday’s decision.

“This puts them back where they started before they filed for bankruptcy,” said Alexandra Lahav, a Cornell University law professor who teaches product liability law. “It’s pretty clear that they need to negotiate some sort of global resolution of these cases.”

3M hoped that by putting the Aearo Technologies LLC unit into Chapter 11 bankruptcy, it could also win the court’s blessing to extend the same advantages of litigation protections that are lacking to the parent company.

“Improper” payments

As part of the plan, veterans found eligible for compensation would be paid out of a $1 billion trust, an amount that RBC Capital Markets analyst Deane Dray said is insufficient. He estimates the settlements could cost $10 billion or more.

“This is not a completely surprising development,” he said. “The expectation was that 3M’s bankruptcy strategy would be vigorously challenged.”

3M announced the surprise move to put its Aearo subsidiary into bankruptcy late last month as it reported second-quarter earnings and plans to exit the massive healthcare products division. The unit accounts for about a quarter of 3M’s revenue and is a top source of growth, and a news story or two has indicated Roman’s willingness to shake up the ailing, insular conglomerate.

But Friday’s bankruptcy ruling threatens to keep 3M under a cloud of uncertainty, at least until the appeals process is complete.

The ruling makes it more likely that 3M’s legal costs, already a mid-single-digit percentage of its annual earnings per share, could rise further, Citigroup analyst Andrew Kaplowitz said in a note.

Cases in Court

While 3M continues its appeal, veterans’ attorneys will continue to prepare for trials across the country. This process is overseen by a federal judge in Florida.

The first of these trials is scheduled to begin on October 24. The plaintiff, a four-year active-duty U.S. Army veteran who suffers from hearing loss and tinnitus from wearing the combat earmuffs, according to a spokesman.

“3M needs to do the right thing for these veterans who were hurt,” said Mikal Watts, an attorney who sued 3M over the earplugs. “3M is going to voluntarily deliver fair compensation to these veterans or watch the jury after it forces them to do so.”

Cornell’s Lahav said 3M officials could try to create a comprehensive resolution system — like the one Merck & Co created in 2007 to settle cases over the withdrawn painkiller Vioxx. Under this settlement, customers submitted evidence of their injuries and were compensated based on how seriously they were harmed. Otherwise, 3M could join the ranks of companies that have recently chosen to settle inventories of product liability lawyers’ cases, such as Bayer in the Roundup lawsuit, he said.

“I think this is manageable for 3M, but someone has to step up and strategize going forward,” Lahav said. “Some mediator has to come in and see what kind of agreement is workable.”

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