Should wealthy companies that are in no way insolvent be allowed to file bankruptcy just to shed liability for harming their customers? Most people would say of course not. However, a legal maneuver that appears to work that way exists. It’s sometimes called the “Texas two-step” of bankruptcy, and Johnson & Johnson is taking advantage of it to prevent any further lawsuits from people injured by its talc products.
J&J is facing tens of thousands of lawsuits claiming that its baby powder and other talc products are tainted by asbestos and have caused people to get cancers like mesothelioma and ovarian cancer. The stakes are high; although J&J has won some trials, it has lost others that have proven costly. For example, one 2018 verdict awarded an ovarian cancer victim more than $2 billion, and that award was upheld on appeal.
What is the ‘Texas two-step’ of bankruptcy?
The “Texas two-step” of bankruptcy works like this. First, a company with a large amount of potential liability for a dangerous product forms a new Texas subsidiary and transfers ownership of and liability for the problematic product to the new subsidiary. However, the “parent” company doesn’t fund the new subsidiary to meet that liability. Therefore, the new subsidiary is insolvent. Step two is for the new subsidiary to declare bankruptcy, which halts all lawsuits against it.
In October 2021, according to NPR, Johnson & Johnson formed a subsidiary in Texas called LTL. It quickly shoveled ownership of the J&J’s baby powder and other talc-based products into LTL while keeping all of its valuable assets to itself. When LTL filed for bankruptcy, J&J offered to transfer some assets to LTL to address LTL’s new liabilities to people who got cancer from using J&J’s products. As you might imagine, the amount J&J offered was far short of the amount many predict J&J would otherwise had to have paid.
Is the ‘Texas two-step” of bankruptcy even legal?
Unfortunately, this is open to debate. Some scholars call companies that engage in the maneuver “bankruptcy grifters” because they lose nothing by filing for bankruptcy but stand to gain immensely.
Others see no problem with the “Texas two-step.”
Far from criticizing Johnson & Johnson for its maneuver, the bankruptcy judge presiding over LTL’s bankruptcy praised J&J for compensating its cancer victims expeditiously. Indeed, some advocates say that having victims seek compensation through the bankruptcy courts is simpler, more efficient and offers closure for victims more quickly.
In principle, this is because there wouldn’t be individual trials between each alleged victim and Johnson & Johnson. Also, the Texas two-step would allow J&J to cap the total amount it could be held liable for by shielding the wealthy company’s assets from future litigation.
However, the bankruptcy watchdog division of the U.S. Department of Justice has described the maneuver as unconstitutional because it denies victims the right to seek redress through the courts. Instead, if forces them to settle – usually for far less than their full damages.
The courts are considering several cases where wealthy companies or families engaged in this maneuver to shut down liability cases. And Congress is considering bipartisan legislation that would curtail this sort of trick.
Because of the cost of processing the maneuver, the “Texas two-step” of bankruptcy isn’t generally available for companies already insolvent.
For J&J victims, the “Texas two-step” feels unfair and baffling. Worse, many cancer-stricken people may die before their claims are resolved, even through any process ultimately approved by the bankruptcy court.
People who are harmed by dangerous products deserve to have their cases heard in court. A trial gives them their “day in court”. A courtroom win provides vindication and requires the full amount of damages to be paid. Bankruptcy only allows victims to compete for a slice of the pie – a pie whose size is determined by the alleged wrongdoer.