3M’s Potential Earplug Payout Is Still Just the Beginning

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Jul 06, 2023

3M’s Potential Earplug Payout Is Still Just the Beginning

3M Co.’s much aggrieved shareholders have finally received some good news, but there are still too many legal headaches for comfort. The industrial conglomerate has tentatively agreed to a more than

3M Co.’s much aggrieved shareholders have finally received some good news, but there are still too many legal headaches for comfort.

The industrial conglomerate has tentatively agreed to a more than $5.5 billion settlement to resolve claims that it knowingly sold defective earplugs that left US military service members with hearing loss and tinnitus, Bloomberg News reported on Sunday, citing people familiar with the deal. There are around 300,000 claims pending, and plaintiffs had increasingly been winning bellwether trials with an average award of more than $20 million. 3M has said the earplugs were safe and effective and was appealing the verdicts. But the payouts to date implied a total liability far greater than the company’s market value — which has already collapsed by more than $50 billion under Chief Executive Officer Mike Roman, largely because of concerns about financial obligations in the earplugs litigation and separate legal proceedings involving its legacy manufacturing of so-called forever chemicals.

A settlement was the only real solution — especially after 3M’s attempt to resolve the claims through the bankruptcy system floundered. 3M had announced last year that it would put the Aearo Technologies subsidiary that made the earplugs into bankruptcy and set up a $1 billion trust to fund payouts to veterans. A judge threw out the case earlier in June, finding that Aearo’s filing didn’t serve a valid reorganization purpose in part because the unit was supported by a “financially healthy, Fortune 500 multinational conglomerate.” Aearo was appealing, but the legal road looked complicated after courts twice rejected a similar ploy by Johnson & Johnson to resolve suits over claims its talc products caused cancer.

Read more: 3M Headaches Won’t Vanish With New Maneuvers

Analysts had estimated the company would need to pay closer to $10 billion to resolve the earplugs litigation. A $5.5 billion payout is a significant amount, even for a company as large as 3M. It’s five times as much as the $1 billion trust that 3M had proposed to establish as part of the Aearo bankruptcy, but the company was just about the only one that seemed to think that amount was sufficient. It’s a price well worth paying if 3M can indeed finally put the earplugs woes behind it. Interestingly, Bloomberg News reported that the settlement would be paid out over five years. The kind of hearing loss that veterans have claimed is not an ailment that develops over time, and the number of claimants is mostly known at this point, which suggested 3M would need to make an upfront payment, RBC analyst Deane Dray wrote in a note. Spacing the settlement out over a number of years will be easier for 3M to manage from a cash flow perspective.

It still seems likely that 3M will need to cut its dividend. A previously announced deal to pay as much as $12.5 billion over 13 years to resolve claims that per- and polyfluoroalkyl substances (PFAS) polluted drinking water supplies was already set to soak up much of 3M’s free cash flow. The company’s quarterly dividend is $1.50 a share, and $3.4 billion went to shareholders last year. 3M is on track to spin off its health-care unit by the end of the year, and if that business takes on a proportionate share of the payout, the remaining divisions won’t have enough cash left over after the expected front-loaded water settlement payouts to maintain the dividend, Wolfe Research analyst Nigel Coe has estimated. 3M is a so-called dividend aristocrat; it has paid dividends without interruption for more than a century and has raised the shareholder payout annually for more than 60 consecutive years. But a dividend cut would also be a price worth paying if it comes in the context of settling 3M’s biggest legal issues.

There’s still much unknown about the 3M settlement. Even once a deal is finalized, it will still need to clear a number of legal hurdles, including sufficient buy-in from the plaintiffs. It’s not immediately clear why a majority of plaintiffs would both accept $5.5 billion and allow 3M to pay out the funds under a more generous timeline when Wall Street has broadly coalesced around a $10 billion number — or worse. 3M’s endeavors in bankruptcy court can’t have endeared it to the other side, and one might ask, if there was a path toward a settlement at roughly half the price analysts were estimating, why did the company even bother with such a contentious maneuver in the first place? 3M’s market value has shrunk by about $20 billion since it announced the Aearo bankruptcy last July — even after factoring in Monday’s gain on news of a possible settlement.

More important, an earplug settlement most likely will not be the last multibillion-dollar deal the company will need to sign. The pending PFAS settlement reached earlier this year is specific to drinking water claims by public US water systems. Other remaining outstanding items could include claims from state attorneys general, the federal Environmental Protection Agency and US military, foreign governments such as Belgium and the Netherlands, personal injury and property lawsuits from the broader population, the cost of cleaning up areas near 3M’s legacy PFAS manufacturing sites and legal action from commercial and industrial customers that the company supplied with PFAS. Wastewater utilities may also require a separate payout. Joe Rice, a lawyer known for his role in crafting the $246 billion settlement with tobacco companies more than 20 years ago, has been asked to join a group of lawyers seeking to resolve PFAS-related personal injury and property damage claims. All told, Barclays Plc analyst Julian Mitchell estimates there are an additional $16 billion of potential PFAS liabilities for 3M that are yet to be resolved — and that excludes any settlements with foreign governments.

Still, any progress on 3M’s mountain of legal woes should still cheer investors. The quick succession of settlements on drinking water claims and potentially earplugs suggests the company has reached the limits of its tolerance for the toll the legal woes were taking on its stock price and is acting with a greater sense of urgency. Roman vowed in January to take “a deeper look at everything we do,” and he appears to be following through. Even the corporate jets are getting grounded. One read of the more aggressive approach is that Roman is preparing to hand over the CEO reins and wants the company to be in a more stable place before he does so. Roman is at least 63 years old. 3M waived its mandatory retirement age of 65 for his predecessor, Inge Thulin, but hasn’t said whether the limit will apply to Roman. 3M announced last week that Chief Financial Officer Monish Patolawala would take on the additional title of president, a promotion that sets him up as the most obvious candidate to succeed Roman. Here’s hoping that some day soon 3M can once again be an industrial company and not a walking legal liability.

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3M’s Potential Earplug Payout Is Still Just the Beginning