Resolving Mass Torts with Bankruptcy Funds

The prevailing model for this bankruptcy solution to mass torts was created in the 1980s in the context of the Johns-Manville and UNR Industries bankruptcies. The model provides that the mass-tort defendant creates a trust to administer current and future tort claims. The trust is funded by a pool of assets usually consisting of some combination of cash, insurance, and securities. The defendant company in turn receives a discharge from the mass-tort claims and a fresh start in its business. The tort claimants receive a more efficient, prompt resolution of their claims. The benefits of the reorganization spread throughout the economy as the defendants return to their productive roles of creating jobs and growing their businesses, and the claimants receive equitable compensation.

The composition and amount of assets contributed to the trust are negotiated between the defendant-company and representatives of mass-tort victims, both known and unknown. The negotiations occur either before or after the filing of the bankruptcy petition.

The resulting bankruptcy mechanism has been successful in large part because the insurance assets available to the defendant companies have been put to good use. Insurance can provide the necessary foundation for a resolution between the debtor and its creditors, and allows the parties to create an effective, value-maximizing plan of reorganization, whether or not the insurance of the defendant company is liquidated. Insurance and the proper resolution of insurance-related issues have been critically important to these bankruptcy solutions for two primary reasons. First, it is generally a sizeable asset, often the most substantial asset of the defendant company. And second, in the context of the trust model, the insurance asset will maintain its value to the creditors, or even increase in value, as a result of the creditors' control of the asset. At the same time, the asset decreases in value to the defendant company. Therefore, a symbiotic, mutually beneficial resolution becomes possible.

Insurers have in some cases supported the bankruptcy trust model and, in the asbestos context, have benefited from the non-debtor injunctions that may be provided to contributors under the Bankruptcy Code. In cases where all, or substantially all, of the defendant company's insurers have agreed to support the trust model, the process of confirming a plan has become a quick and orderly one. For example, in the asbestos-related bankruptcy of Shook & Fletcher Insulation Co., less than 6 months elapsed between the petition and confirmation, even though some insurers objected to the proposed plan until just prior to confirmation.

Where, however, the insurers of the debtor disagree with the defendant's proposed course, the rights and responsibilities of insurers and defendants can become a major focus of litigation. Because of the importance of the insurance asset in achieving consensual creditor/debtor resolutions, the ultimate outcome of those disputes will determine whether bankruptcy will continue to be a highly effective vehicle to allow defendant companies to overcome mass-tort liability and return to productivity.

The Magnitude of Insurance

Given the nature of the insurance policies and the claims involved, mass-tort defendants commonly are able to draw on insurance coverage issued by multiple insurers over many years or even decades. Claims that give rise to mass-tort bankruptcies are frequently latent-injury or long-tail claims, including claims for injuries resulting from pharmaceuticals, medical devices such as breast implants or IUDs, or asbestos. In each case, the plaintiff allegedly is exposed to the substance or product in question and allegedly is injured by that substance or product, but the injury does not manifest itself or become apparent for some time, often years or decades after the plaintiff's initial exposure.

With long-tail personal injury claims, courts have generally found that bodily injury – the insurance-triggering event – occurs in indeterminate amounts over extended periods beginning when the claimant is first exposed to the relevant substance or product. Courts also have found that the resulting injury can continue either until the exposure stops or until the injury is discovered. All insurance policies covering such periods of injury are responsible for paying all or part of that bodily injury, subject to any limitations contained in the policies. As a result, a large coverage portfolio beginning as early as the 1940s and continuing to the present may be available to respond to a defendant's mass-tort claims.

The total aggregate assets potentially available for an individual defendant company or family of companies often ranges from hundreds of millions to billions of dollars. Insurance industry reserves for long-tail claims provide a conservative measure of the coverage that may be available to mass-tort defendants collectively. At the end of 2002, for example, insurance rating service A.M. Best reported that domestic insurers had net reserves of $19 billion for asbestos-related claims. A.M. Best further reported that, in its view, the total coverage that policyholders' claims may tap is likely $20 billion in excess of these reserves. Most observers believe that even this amount vastly understates the funds potentially available to individual policyholders for asbestos-related claims. This view is supported by the fact that, since the A.M. Best report, a number of major insurers have substantially increased their asbestos reserves.

The sums at issue in individual asbestos bankruptcy cases bear out these estimates. For example, in the bankruptcy of Shook & Fletcher Insulation, the debtor, a small company with limited assets, contributed nearly $300 million in liquidated insurance proceeds to the plan trust, in addition to the as yet unliquidated proceeds of still-disputed policies. Combustion Engineering had $198 million in remaining aggregate limits available for contribution to its plan trust at the time of its bankruptcy filing. The Babcock & Wilcox Co. had nearly $1.5 billion in insurance coverage potentially available. Assets of this magnitude will nearly always play a significant role in creditor/debtor negotiations.

While it is self-evident that the insurance of a defendant facing mass tort liability can be critical to the company's survival pre-bankruptcy, insurance is no less important to the defendant as a debtor seeking a successful reorganization. Insurance can bridge gaps and provide the “glue” to hold a Chapter 11 reorganization together in a variety of circumstances.

First, the ability of the debtor to satisfy tort claimants through its insurance allows the debtor to marshal other assets to pay unsecured commercial creditors and to improve the economic vitality of the reorganized company. Second, the insurance is less important to the debtor post-confirmation, because that debtor will be discharged from the most significant tort liability through the bankruptcy. At the same time, mass-tort plaintiffs will often value quite highly the ability to liquidate their claims and pursue the insurance to fund a post-confirmation trust. This confluence of interests creates a natural synergy in the negotiation process.

Looking Ahead

Disputed coverage need not be resolved before confirmation in order to provide value to mass-tort claimants. The debtor can assign the rights to pursue non-liquidated coverage directly to the trust. This outcome maximizes value by allowing the trust to pursue the coverage, and the claimants to accept the incumbent risks and rewards of that pursuit. Because the trust is dedicated to asset management and distribution, it can efficiently serve that purpose with respect to the insurance asset. The debtor then returns to its primary purpose, doing business, rather than focusing its energies and assets on insurance coverage litigation.

Assigned rights to insurance proceeds also have particular benefits to the process of a “pre-packaged bankruptcy.” In a pre-packaged bankruptcy, the debtor negotiates with creditors and obtains their support for a proposed plan prior to filing a petition for bankruptcy. Pre-packaging streamlines the bankruptcy process and allows the debtor to return quickly to its primary business, minimizing the disruption of the bankruptcy. Assignment of insurance proceeds can provide settling tort claimants with the consideration to induce them to liquidate claims in a fair, relatively fast, and reasonable manner prior to the bankruptcy filing.

Liquidated insurance also can be an important piece of a consensual plan of reorganization. Debtors in Chapter 11 as a result of mass-tort claims often have tens or even hundreds of thousands of claims pending against them at the time of filing. As a result, trusts created by these debtors face an immediate need for cash to pay these claims. Administrative costs of establishing the trust and its claims-handling facility will also immediately tap the resources of the trust. Liquidated insurance proceeds can assure claimant-creditors that there will be immediate funds available to the trust for initial expenses and payment of claims. Further, these liquidated funds can be put to immediate use pursuing the proceeds of other contested coverage or funding the costs of the bankruptcy itself.

Disputes with insurers regarding their obligation to pay these mass-tort claims do not disappear in the context of an insured's bankruptcy reorganization. But the Bankruptcy Code provides a powerful incentive for insurers to contribute to a plan trust, in exchange for broad injunctive relief. The allocation of the rights and responsibilities under insurance policies in conjunction with the trust model remains hotly contested, both in connection with confirmation of proposed bankruptcy plans and after the trust is created. Handled properly, however, the insurance asset can help parties to arrive at an efficient and mutually beneficial resolution.

The ongoing effort to resolve globally the problem of overwhelming mass-tort liability continues this year through legislation. A Senate bill to create a trust administered by the Department of Labor, funded by industry and insurance contributions, was voted down in April. Whether this proposed resolution ultimately fares better than those preceding it remains to be seen.

In the meantime, however, the Rand Institute for Civil Justice reports that by the end of 2002, at least 56 companies had turned to bankruptcy to find the resolution and finality they needed to get back to their business. Others will undoubtedly follow before any global solution is ultimately reached.

Building Trusts

The prevailing model for this bankruptcy solution to mass torts was created in the 1980s in the context of the Johns-Manville and UNR Industries bankruptcies. The model provides that the mass-tort defendant creates a trust to administer current and future tort claims. The trust is funded by a pool of assets usually consisting of some combination of cash, insurance, and securities. The defendant company in turn receives a discharge from the mass-tort claims and a fresh start in its business. The tort claimants receive a more efficient, prompt resolution of their claims. The benefits of the reorganization spread throughout the economy as the defendants return to their productive roles of creating jobs and growing their businesses, and the claimants receive equitable compensation.

The composition and amount of assets contributed to the trust are negotiated between the defendant-company and representatives of mass-tort victims, both known and unknown. The negotiations occur either before or after the filing of the bankruptcy petition.

The resulting bankruptcy mechanism has been successful in large part because the insurance assets available to the defendant companies have been put to good use. Insurance can provide the necessary foundation for a resolution between the debtor and its creditors, and allows the parties to create an effective, value-maximizing plan of reorganization, whether or not the insurance of the defendant company is liquidated. Insurance and the proper resolution of insurance-related issues have been critically important to these bankruptcy solutions for two primary reasons. First, it is generally a sizeable asset, often the most substantial asset of the defendant company. And second, in the context of the trust model, the insurance asset will maintain its value to the creditors, or even increase in value, as a result of the creditors' control of the asset. At the same time, the asset decreases in value to the defendant company. Therefore, a symbiotic, mutually beneficial resolution becomes possible.

Insurers have in some cases supported the bankruptcy trust model and, in the asbestos context, have benefited from the non-debtor injunctions that may be provided to contributors under the Bankruptcy Code. In cases where all, or substantially all, of the defendant company's insurers have agreed to support the trust model, the process of confirming a plan has become a quick and orderly one. For example, in the asbestos-related bankruptcy of Shook & Fletcher Insulation Co., less than 6 months elapsed between the petition and confirmation, even though some insurers objected to the proposed plan until just prior to confirmation.

Where, however, the insurers of the debtor disagree with the defendant's proposed course, the rights and responsibilities of insurers and defendants can become a major focus of litigation. Because of the importance of the insurance asset in achieving consensual creditor/debtor resolutions, the ultimate outcome of those disputes will determine whether bankruptcy will continue to be a highly effective vehicle to allow defendant companies to overcome mass-tort liability and return to productivity.

The Magnitude of Insurance

Given the nature of the insurance policies and the claims involved, mass-tort defendants commonly are able to draw on insurance coverage issued by multiple insurers over many years or even decades. Claims that give rise to mass-tort bankruptcies are frequently latent-injury or long-tail claims, including claims for injuries resulting from pharmaceuticals, medical devices such as breast implants or IUDs, or asbestos. In each case, the plaintiff allegedly is exposed to the substance or product in question and allegedly is injured by that substance or product, but the injury does not manifest itself or become apparent for some time, often years or decades after the plaintiff's initial exposure.

With long-tail personal injury claims, courts have generally found that bodily injury – the insurance-triggering event – occurs in indeterminate amounts over extended periods beginning when the claimant is first exposed to the relevant substance or product. Courts also have found that the resulting injury can continue either until the exposure stops or until the injury is discovered. All insurance policies covering such periods of injury are responsible for paying all or part of that bodily injury, subject to any limitations contained in the policies. As a result, a large coverage portfolio beginning as early as the 1940s and continuing to the present may be available to respond to a defendant's mass-tort claims.

The total aggregate assets potentially available for an individual defendant company or family of companies often ranges from hundreds of millions to billions of dollars. Insurance industry reserves for long-tail claims provide a conservative measure of the coverage that may be available to mass-tort defendants collectively. At the end of 2002, for example, insurance rating service A.M. Best reported that domestic insurers had net reserves of $19 billion for asbestos-related claims. A.M. Best further reported that, in its view, the total coverage that policyholders' claims may tap is likely $20 billion in excess of these reserves. Most observers believe that even this amount vastly understates the funds potentially available to individual policyholders for asbestos-related claims. This view is supported by the fact that, since the A.M. Best report, a number of major insurers have substantially increased their asbestos reserves.

The sums at issue in individual asbestos bankruptcy cases bear out these estimates. For example, in the bankruptcy of Shook & Fletcher Insulation, the debtor, a small company with limited assets, contributed nearly $300 million in liquidated insurance proceeds to the plan trust, in addition to the as yet unliquidated proceeds of still-disputed policies. Combustion Engineering had $198 million in remaining aggregate limits available for contribution to its plan trust at the time of its bankruptcy filing. The Babcock & Wilcox Co. had nearly $1.5 billion in insurance coverage potentially available. Assets of this magnitude will nearly always play a significant role in creditor/debtor negotiations.

While it is self-evident that the insurance of a defendant facing mass tort liability can be critical to the company's survival pre-bankruptcy, insurance is no less important to the defendant as a debtor seeking a successful reorganization. Insurance can bridge gaps and provide the “glue” to hold a Chapter 11 reorganization together in a variety of circumstances.

First, the ability of the debtor to satisfy tort claimants through its insurance allows the debtor to marshal other assets to pay unsecured commercial creditors and to improve the economic vitality of the reorganized company. Second, the insurance is less important to the debtor post-confirmation, because that debtor will be discharged from the most significant tort liability through the bankruptcy. At the same time, mass-tort plaintiffs will often value quite highly the ability to liquidate their claims and pursue the insurance to fund a post-confirmation trust. This confluence of interests creates a natural synergy in the negotiation process.

Looking Ahead

Disputed coverage need not be resolved before confirmation in order to provide value to mass-tort claimants. The debtor can assign the rights to pursue non-liquidated coverage directly to the trust. This outcome maximizes value by allowing the trust to pursue the coverage, and the claimants to accept the incumbent risks and rewards of that pursuit. Because the trust is dedicated to asset management and distribution, it can efficiently serve that purpose with respect to the insurance asset. The debtor then returns to its primary purpose, doing business, rather than focusing its energies and assets on insurance coverage litigation.

Assigned rights to insurance proceeds also have particular benefits to the process of a “pre-packaged bankruptcy.” In a pre-packaged bankruptcy, the debtor negotiates with creditors and obtains their support for a proposed plan prior to filing a petition for bankruptcy. Pre-packaging streamlines the bankruptcy process and allows the debtor to return quickly to its primary business, minimizing the disruption of the bankruptcy. Assignment of insurance proceeds can provide settling tort claimants with the consideration to induce them to liquidate claims in a fair, relatively fast, and reasonable manner prior to the bankruptcy filing.

Liquidated insurance also can be an important piece of a consensual plan of reorganization. Debtors in Chapter 11 as a result of mass-tort claims often have tens or even hundreds of thousands of claims pending against them at the time of filing. As a result, trusts created by these debtors face an immediate need for cash to pay these claims. Administrative costs of establishing the trust and its claims-handling facility will also immediately tap the resources of the trust. Liquidated insurance proceeds can assure claimant-creditors that there will be immediate funds available to the trust for initial expenses and payment of claims. Further, these liquidated funds can be put to immediate use pursuing the proceeds of other contested coverage or funding the costs of the bankruptcy itself.

Disputes with insurers regarding their obligation to pay these mass-tort claims do not disappear in the context of an insured's bankruptcy reorganization. But the Bankruptcy Code provides a powerful incentive for insurers to contribute to a plan trust, in exchange for broad injunctive relief. The allocation of the rights and responsibilities under insurance policies in conjunction with the trust model remains hotly contested, both in connection with confirmation of proposed bankruptcy plans and after the trust is created. Handled properly, however, the insurance asset can help parties to arrive at an efficient and mutually beneficial resolution.