U.S. lawmakers have revived efforts to limit corporations from deploying the controversial — and often ineffective — bankruptcy strategy known as the “Texas Two-Step,” which utilizes a unique provision in the Texas Business Organizations Code as a way to exit mass tort litigation.

The two separate measures would put extra restrictions on several practices that have come under public scrutiny:

• Last summer, the House of Representatives reintroduced the Protecting Employees and Retirees in Business Bankruptcies Act of 2024. First introduced in 2020, the legislation would provide protections for employees and retirees when their employer (current or former) files for Chapter 11 bankruptcy.
  
  
• Just last week, the Senate reintroduced the Non-Debtor Release Prohibition Act of 2024, which was first introduced in 2021. The bill would codify the U.S. Supreme Court's decision last June to reject non-consensual third- party releases in Purdue Pharma's Chapter 11 case.

First, let’s how revisit the “Texas Two-Step” works. A mass tort defendant corporation “merges” and divides an existing entity into two: one that will house the healthy, viable business and related assets, and one that will retain the legacy liabilities and insurance assets. Then, Chapter 11 bankruptcy proceedings are initiated for the legacy liability tainted entity holding. Once the entity is in bankruptcy, it can — in theory — no longer be named on complaints in the tort system.

Proponents argue that the practice is an efficient and fair way to manage legacy liabilities such as asbestos-related liabilities and keep the core business of the corporation — and the current jobs and/or products that corporation provides — functioning as a going concern.

However, bankruptcy is increasingly unattractive for profitable companies for many reasons. As I shared in November 2023, James Conlan, CEO of Legacy Liability Solutions, described an alternative to bankruptcy reorganization for solvent companies seeking a permanent solution to their tort system liabilities. As he wrote for Bloomberg Law: “The Texas Two-Step has polluted the dialogue about the legitimate interest of a public company in obtaining ‘finality’ with respect to both current and future claims, and plaintiffs’ legitimate interest to have their claims determined or settled in the tort system and paid in full.”

The approach Conlan advocates — structural optimization and disaffiliation — makes bankruptcy completely unnecessary for solvent companies seeking a permanent solution to their tort system liabilities. It’s the same strategy I described earlier this year in two blog posts: “There Is an Alternative to Bankruptcy” and "Three Paths for Defendant Companies." The practice has become increasingly common and accepted. KCIC has had several clients that have successfully disaffiliated their legacy liabilities.

Bankruptcy, already such an unattractive restructuring method for profitable manufacturing companies, has become even higher risk with the changing landscape for the Texas Two-Step. Structural optimization and disaffiliation of the liable entities is better for all parties.