Second Circuit Warns Equity Investors On WARN Act Exposure

On December 10, 2013, the United States Court of Appeals for the Second Circuit issued an opinion in Guippone v. BH S&B Holdings LLC1 that should serve as a warning to equity investors whose subsidiaries do not close a plant or lay off workers in compliance with the Worker Adjustment Retraining and Notification Act (“WARN Act”).2 In certain circumstances a parent company and its subsidiary may be considered a single employer under the WARN Act. Thus, a private equity sponsor or holding company could become ensnared in its operating subsidiary’s financial distress.


The WARN Act requires employers with 100 or more employees to provide employees with 60 calendar days’ notice in advance of plant closings and mass layoffs, and imposes liability on employers who fail to do so unless one of several exceptions is applicable. Such exceptions include unforeseeable business circumstances, faltering company, natural disasters or liquidation of the company by a fiduciary such as a bankruptcy trustee. The purpose of the WARN Act is to “provide[] workers and their families some transition time to adjust to the prospective loss of employment, to seek and obtain alternative jobs and, if necessary, to enter skill training or retraining that will allow these workers to successfully compete in the job market,” and allow the state to provide prompt assistance to displaced workers.3

In July 2008, Steve & Barry’s, a chain of retail apparel stores, filed Chapter 11 in the United States Bankruptcy Court for the Southern District of New York. Bay Harbour, York Capital and related private equity sponsors (the “PE Sponsors”) created a series of interrelated entities to purchase and manage Steve & Barry’s. In August 2008, the Bankruptcy Court approved the sale of the assets to one of these entities, BH S&B Holdings LLC (“Holdings”). The PE Sponsors did not have a direct interest in Holdings, but instead owned a related entity, BHY S&B HoldCo, LLC (“HoldCo”), which owned 100% of the equity in Holdings.

In September 2008, a month after the sale closed, Lehman Brothers filed Chapter 11 and the worldwide financial crisis ensued. In mid-October 2008, the senior lender began exercising its rights under its loan agreement and the financial condition of Holdings deteriorated rapidly. On November 10, 2008, the HoldCo board passed a resolution stating that, due to unforeseeable business circumstances, Holdings was authorized to effectuate staff reductions. Holdings began sending WARN Act notices and termination notices to employees on November 17, 2008. On November 19, 2008, Holdings filed for protection from its creditors pursuant to Chapter 11 of the Bankruptcy Code to effect an orderly liquidation.

Guippone was an employee of Steve & Barry’s who, after his termination, filed a class action complaint seeking damages on behalf of himself and other similarly situated former employees against, inter alia, the PE Sponsors and HoldCo, both of whom moved to dismiss. The district court dismissed the complaint against the PE Sponsors, finding that the complaint failed to plead adequate facts to support plaintiff’s claim that the PE Sponsors were “employers” within the meaning of the WARN Act. However, the district court denied HoldCo’s motion, finding plaintiffs had pled sufficient facts to allege that HoldCo had disregarded the corporate form of Holdings and had exercised de facto control over the company sufficient to make HoldCo liable under the WARN Act.

Following discovery, plaintiff and HoldCo filed crossmotions for summary judgment.4 The district court determined that plaintiff had failed to raise a triable question of fact that would allow a jury to find that HoldCo could be held liable pursuant to the WARN Act as a single employer with Holdings.

The Second Circuit’s Holding and Analysis

The Second Circuit reversed, finding that there was sufficient evidence from which a jury could conclude that HoldCo had directed the layoffs with no regard to the separate corporate form of Holdings. The Second Circuit applied the five non-exclusive factors set forth in the Department of Labor regulations to determine if related entities are single employers. These regulations provide that “subsidiaries which are wholly or partially owned by a parent company are treated as separate employers or as part of the parent or contracting company depending upon the degree of independence from the parent. Some of the factors to be considered in making this determination are (i) common ownership, (ii) common directors and/or officers, (iii) de facto exercise of control, (iv) unity of personnel policies emanating from a common source, and (v) the dependency of operations.”5

The Second Circuit determined that the evidence in the record raised a question of fact as to whether HoldCo had exercised de facto control over Holdings, as opposed to a parent company’s exercise of control pursuant to the ordinary incidents of stock ownership. Critically, Holdings lacked its own board, and the HoldCo board operated as the Holdings board. In fact, it was the HoldCo board that had passed the resolution authorizing Holdings to effectuate staff reductions and file for bankruptcy protection to implement a liquidating plan. HoldCo’s board of directors chose management and negotiated financing for Holdings. Management and advisors did not appear to know the distinction between HoldCo and Holdings. Based on the foregoing, the Second Circuit found that there was sufficient evidence in the record to allow a jury to conclude that Holdings was not free to implement its own decisions, and that the layoffs were, in fact, directed by HoldCo.

The court rejected two arguments that merit discussion. HoldCo argued that it fell within the unforeseeable business exception, faltering company or fiduciary liquidation exceptions to the WARN Act, but, because the district court had not considered these alternate arguments, the Second Circuit expressed no opinion thereon and remanded to the district court. Defendants also urged the court to apply the test for determining whether a creditor was an “employer” within the meaning of the WARN Act, i.e., “whether, at the time of the plant closing, the creditor was in fact responsible for operating the business as a going concern rather than acting only to protect [its] security interest and preserve the business asset for liquidation or sale.”6 The Second Circuit rejected this test because, by its plain language, it is only applicable to lenders.


While the PE Sponsors escaped the litigation early in the case through a motion to dismiss, they could have been exposed to liability if they had been the direct owners of the business and had, like HoldCo, failed to observe corporate formalities to the extent of exercising de facto control over Holdings. Thus, in order to avoid possibly becoming ensnared in an operating subsidiary’s financial distress, private equity sponsors should (a) be scrupulous in observing corporate formalities, (b) avoid exercising de facto control over portfolio companies, (c) only exercise control pursuant to the ordinary incidents of stock ownership, (d) take steps to ensure that portfolio companies are in a position to and actually do manage their own affairs, e.g., separate officers and directors, adequate capitalization, and (e) ensure that all officers, directors, managers, consultants and advisors understand their roles vis-à-vis the specific entities, and that clear lines of communication and control are implemented and observed.

For More Information

For more information on how these issues may affect your rights, contact Nicholas F. Kajon at 212.537.0403.

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 Guippone v. BH S&B Holdings LLC, Docket No. 12 183 cv (2nd Cir. December 10, 2013).
2 See 29 U.S.C. § 2101 et seq.
3 Slip Op. at 10 (quoting 20 C.F.R. § 639.1(a)).
4 Under FRCP 56, summary judgment is appropriate where there exists no genuine issue of material fact and, based on the undisputed facts, the moving party is entitled to judgment as a matter of law.
5 20 C.F.R. § 639.3(a)(3).
6 Coppola v. Bear Stearns & Co., 499 F.3d 144, 150 (2nd Cir. 2007). “Only when a lender becomes so entangled with its borrower that it has assumed responsibility for the overall management of the borrower’s business will the degree of control necessary to support employer responsibility under WARN be achieved.” Id.