In 2008, 3M (MMM -0.87%) acquired a small company called Aearo Technology for $1.2 billion. The company made two-sided earplugs that it sold to the U.S. military. One side allowed military personnel to hear people talking, and the other blocked out all noise completely. A courtroom battle with a competitor could lead to a big problem stemming from the small acquisition.
Ironically, 3M started the dispute in 2012 with a patent-infringement case against a competitor, Moldex. 3M withdrew the case, but Moldex filed a separate lawsuit against 3M in 2014, alleging that the company used the patent-infringement case to put Moldex out of the earplug market. During the proceedings, Moldex presented evidence that 3M was aware of possible defects in its earplugs but continued to sell them to the military through 2015, which was about the same time the evidence was presented in court.
In 2018, 3M settled with Moldex and the U.S. Justice Department, which set in motion the next chapter in the courtroom saga. After hearing that 3M knew about the defects and settled, hundreds of thousands of military veterans who had used the earplugs began filing suit against 3M for hearing impairments suffered from using the earplugs.
In tandem with 3M's second-quarter earnings report, the company said that it established a trust to pay potential claims against Aearo Technologies. The trust was funded with $1 billion for potential settlements and another $240 million for legal fees. The earnings report included a pre-tax charge of $1.2 billion. But, perhaps more profound, the company also announced that the Aearo subsidiary had filed for Chapter 11 bankruptcy protection.
The bankruptcy filing would absolve 3M of any liability from the earplugs. Though the trust money may offer the veterans some comfort that legitimate claims will be paid, there are over 230,000 cases on the docket. So, the trust dollars could potentially fall short of settlements due to the sheer number of veterans filing claims.
Lawyers representing the veterans are now trying to block 3M from moving the proceedings to bankruptcy court. The lawyers maintain that the court should not allow 3M to wipe away the litigation record of claimants just because it doesn't like the results. They also note that Aearo has been an indistinguishable subsidiary of 3M for 15 years, and the company never tried to separate Aearo's liability from 3M's during previous earplug trials. Therefore, it should also be liable for future claims. 3M, on the other hand, holds that applicable law supports its position to move the trials to bankruptcy court.
3M's motivation for moving the case to bankruptcy court may be because previous cases that included awards indicated a potentially massive liability for the company. Awards issued to winning claimants include sums of $77.5 million to one veteran and $2.1 million each to three other veterans. With a long line of veterans seeking awards, the total settlement may be a haymaker for 3M.
Though 3M is seeking protection through the subsidiary's bankruptcy, it also said that its financial commitment to the settlement is uncapped, and it is prepared to increase funding. At the end of the second quarter, 3M held nearly $3 billion in cash and marketable securities on its balance sheet.
3M stock is down 15% this year, which is worse than the 10% the S&P 500 index has shed. So, some investors may concede that damage from the case is already reflected in the stock price. But it may take years for the courtroom drama to play out. Investors thinking about buying the dip on this blue-chip Dow Jones stock may want to wait for more concrete info regarding the full extent of the trial before adding 3M to their portfolios.