Buyer Beware: Successor Liability Extended to Fair Labor Standards Act Claims

A recent opinion from the U.S. Court of Appeals for the Seventh Circuit, Teed v. Thomas & Betts Power Solutions, L.L.C., 713 F.3d 763 (7th Cir. 2013), should be required reading for any company that is purchasing the assets of another. In Teed, the court applied the doctrine of successor liability and held that an asset purchaser was liable for federal labor claims asserted against the seller. This decision is significant for two fundamental reasons. First, the Seventh Circuit upheld the imposition of successor liability against the purchaser even though the terms of the sale provided that the assets would be transferred “free and clear of all liabilities,” including the subject Fair Labor Standards Act (“FLSA”) claims pending against the seller. Second, this holding, issued by an influential federal appellate court, further expands the application of successor liability to FLSA claims.

It is also important to note that the successor liability doctrine, which was first adopted in the labor context by the U.S. Supreme Court in Golden State Bottling Co., Inc. v. NLRB,¹ has been applied to a wide range of federal laborrelated laws including the Labor Management Relations Act (“LMRA”), National Labor Relations Act (“NLRA”) and the Employee Retirement Income Security Act (“ERISA”).

Facts of Teed

In Teed, employees of JT Packard & Associates (“Packard”) asserted FLSA claims against Packard and its parent company, S.R. Bray Corp (“Bray”). Several months after the suit was filed, Bray defaulted under a secured loan which was guaranteed by Packard. As a result of the default, the assets of Packard and Bray were placed into a receivership formed under Wisconsin law. The assets were later auctioned and sold to Thomas & Betts. Notably, the sale was made under the condition that the assets would be transferred free and clear of all liabilities that were not expressly assumed, including any liabilities relating to the employees’ FLSA claims. Also of significance, following the transfer, Thomas & Betts continued to operate the company with the same employees and under the same name.

After the sale, the district court allowed the FLSA plaintiffs to substitute Thomas & Betts, the asset purchaser, for the original defendants, Packard and Bray, under the doctrine of successor liability. The district court concluded that successor liability could be imposed against Thomas & Betts for whatever damages may be owed to the FLSA plaintiffs as a result of Packard’s labor violations.

Seventh Circuit’s Analysis

On appeal, the Seventh Circuit commenced its analysis with an examination of whether state or federal successor liability law applied. Most state law, the court observed, limits successor liability to instances where the buyer expressly or implicitly assumes the seller’s liabilities. If state law applied, the successor liability claims would fail as a matter of law because the FLSA liability was expressly excluded from the sale. The court also highlighted that where liability is based on a violation of a federal labor or employment statute, the more plaintiff-friendly federal common law standard applies.

The court ultimately concluded that the federal standard² applied to the plaintiffs’ claims and held that successor liability is appropriate in suits to enforce a federal labor or employment law unless there were good reasons to withhold such liability. In other words, the court concluded that successor liability was the default rule for buyers of assets subject to FLSA claims unless the buyer could present a “good reason” to the contrary. As such, the burden of proof was put on the buyer to establish that successor liability did not apply. Under the federal standard, the court found that the imposition of successor liability against the asset purchaser was appropriate because Thomas and Betts could not advance a “good reason” to reject successor liability.³

It is clear from the opinion that the Teed court’s decision was, in part, designed to vindicate the federal interests of fostering labor peace and protecting workers’ rights. The imposition of successor liability, the court reasoned, was necessary to achieve the statutory goals embodied in the FLSA. The court stated further that absent the imposition of successor liability, a violator of the FLSA could escape liability by selling its assets and carving out any FLSA liabilities from the asset sale.

It has been said that the Seventh Circuit often employs an economic analysis of legal issues before it and the Teed case is no exception. The Teed court suggested that a market correction would remedy any inequities occasioned by the imposition of FLSA liability upon a third party purchaser. In short, the court reasoned that a purchaser, acting with notice of the FLSA claims, would insist on an appropriate reduction in the acquisition price to offset any future liability.⁴ Thus, any economic penalties associated with the labor violations would remain with the violator/seller.

Inevitable Conflict With Bankruptcy Law

As stated above, the imposition of successor liability is not limited to FLSA claims. Indeed, successor liability has been imposed against purchasers for a wide range of federal labor and employment claims including employee discrimination claims under Title VII,⁵ as well as claims under the NLRA⁶ and ERISA.⁷

Again, the imposition of successor liability for these federal laws reflects a strong federal interest in preserving labor peace and protecting workers’ rights and interests. Other federal laws, embodied in the U.S. Bankruptcy Code, were enacted to facilitate corporate reorganizations through the transfer of assets free and clear of the seller’s liabilities. Free and clear assets sales are frequently employed in bankruptcy proceedings to facilitate a debtor’s reorganization or orderly liquidation. It will be interesting to see how courts reconcile these competing federal interests.⁸

Conclusion

The Teed decision offers several important lessons. First, when conducting due diligence in the context of a potential acquisition, acquiring companies would be well advised to develop a complete understanding of any labor or employment claims that are pending against the seller. A thorough investigation is necessary to prevent any unanticipated liabilities that may arise after the sale is consummated. Second, parties cannot depend upon contractual language to immunize a purchaser from potential successor liability claims. Rather, the purchaser may wish to consider other alternatives such as a reduction in purchase price commensurate with the amount of potential exposure or insist that the seller resolve such claims before the asset sale.⁹

For More Information

For more information on how these issues may affect your rights, contact John C. Kilgannon at 215.751.1943.

This News Alert has been prepared for informational purposes only and should not be construed as, and does not constitute, legal advice on any specific matter. For more information, please see the disclaimer.

¹ Golden State Bottling Co. v. NLRB, 414 U.S. 168, 94 S.Ct. 414 (1973).
² The federal standard for successor liability considers a number of factors including: (i) whether the successor had notice of the pending lawsuit; (ii) whether the predecessor would have been able to provide the relief sought in the pending lawsuit; (iii) whether the predecessor could have provided relief after the sale; (iv) whether the successor can provide relief sought in the suit; (v) whether there is continuity of the operations and work force of the predecessor and successor.
³ The Seventh Circuit rejected Thomas & Betts’ argument that imposing liability on the successor would give the plaintiffs a windfall, noting that the purchaser would receive a windfall if it was immunized from liability. The purchaser’s assertion that imposing successor liability would compel companies to sell their assets in piecemeal fashion was likewise rejected. The court found that since most firms’ assets are worth more as a going concern, the threat of piecemeal liquidation was theoretical.
⁴ Because notice is a critical element of successor liability, the court’s analysis is predicated on the foundation that any buyer facing successor liability would have notice of the underlying claims.
⁵ Rego v. Arl Water Treatment Co. of Pa., 181 F.3d 396 (3d Cir. 1999).
⁶ Golden State Bottling v. NLRB, supra.
⁷ Upholsterers Intern. Union Pension Fund v. Artistic Furniture of Pontiac, 920 F.2d. 1323, 1325 (7th Cir. 1990); Einhorn v. M.L. Ruberton Const. Co., 632 F.3d 89 (3d. Cir. 2011).
⁸ In In re Transworld Airlines, Inc., 322 F.3d 283, 292-93 (3d Cir. 2003), the Third Circuit held that assets could be sold free and clear of federal Title VII claims pursuant to section 363(f) of the Bankruptcy Code.
⁹ Indemnification provisions may also be an option depending on the seller’s solvency and continued viability.