How a business that looked so good turned so bad for 3M

In 2008, 3M announced the acquisition of Aearo Technologies with the ballyhoo befitting a $1.2 billion deal.

Today, Aearo is a millstone that could drag on 3M's finances for years to come.

Aearo's line of military earplugs is at the heart of one of the largest mass torts in U.S. history, potentially saddling 3M with tens of billions of dollars in liabilities.

This week, 3M put Aearo into bankruptcy, a gambit to limit its exposure to unfriendly juries and stanch its burgeoning legal costs. 3M disclosed in a bankruptcy court filing it has spent $347 million on earplug-related lawyering, with another $99 million expected this year.

In the first half of this year, 3M burned about nearly $5 million in attorney fees each week.

Aearo's Chapter 11 bankruptcy filing is controversial. 3M is essentially trying to shift judgment on roughly 230,000 earplug lawsuits from federal court juries to a U.S. bankruptcy court judge in Indiana.

The U.S. District Court judge presiding over the 230,000 cases lit into 3M on Wednesday, including for "depriving over 200,000 plaintiffs of their right to have their case resolved by a United States District Court."

Military veterans and active service members allege that 3M's Combat Arms CAEv2 plugs were defective, damaging their hearing. 3M maintains the earplugs were safe.

Juries have so far sided with the company six times. But they've awarded nearly $300 million to plaintiffs in 10 other bellwether trials.

When 3M scooped up Aearo in 2008, it became the dominant seller of earplugs to the U.S. military. Aearo was strong not only in hearing protection, but in the eye safety and fall protection markets — all complementary to 3M's work safety businesses.

At the time of the deal — made under then-3M CEO George Buckley — Indianapolis-based Aearo had 1,700 workers and $508 million in revenue. Today, Aearo has $126 million in revenue — including $18 million in sales to its parent company — and 330 employees. The part of Aearo that made earplugs was transferred directly to 3M in 2010.

Aearo's earplugs appeared to be quite profitable. In a U.S. District Court deposition, one 3M marketing document acknowledged that a set of earplugs cost 85 cents to make and were sold to the military for $7.63.

Aearo has about $500 million in insurance to cover earplug claims, and it can also tap a $1.05 billion commercial liability policy held by 3M, court documents say.

Still, that's well short of analysts' estimates of 3M's liability for the earplug cases, which run from $10 billion to $30 billion.

3M said this week it would create a $1 billion fund to pay earplug claims through bankruptcy court, though the company acknowledged it may end up spending more. Plaintiffs' attorneys blasted the fund as inadequate.

Chapter 11 bankruptcy automatically freezes litigation against a debtor, which in this case is Aearo Technologies. However, 3M itself is the main defendant in the earplug cases, and it's ultimately on the hook to pay plaintiffs.

3M argued in bankruptcy court this week that the earplug litigation freeze — known as an "automatic stay" — should apply to it, too.

Rodgers said during a court hearing Wednesday in Pensacola that she didn't think Aearo's bankruptcy also freezes earplug litigation against 3M. And she was irked that 3M abruptly canceled depositions in the earplug cases when Aearo filed bankruptcy.

"There was not such much as a phone call to this court to request last-minute authority to do that," the judge told 3M's attorney.

Rodgers also took issue with Aearo's declaration in bankruptcy court that the "multidistrict litigation," also known as MDL, for the earplug cases was "broken beyond repair."

MDLs are used in the federal court system for complex product liability matters with many separate claims. They commonly feature bellwether trials that are supposed to set a tone for settling all claims. The earplug cases constitute the largest-ever MDL.

The MDL system was created by Congress, not the courts, Rodgers said.