Unfunded Pension Liabilities: Caveat Emptor, Caveat Esquire
Ask any lawyer and they will tell you that, outside of a stock sale, a purchasing company has substantial control over the liabilities it acquires from the target company. Two recent federal court decisions, however, demonstrate the limitations of this general rule when unfunded pension liabilities are at issue. These decisions (one of which involves a malpractice claim against the attorneys who advised the purchaser on a transaction) demonstrate the unanticipated legal risks unfunded pension liabilities create and the extent to which courts are willing to stretch the law to find deep pockets.
For the most part, private sector unfunded pension liabilities arise in multiemployer collectively bargained plans. The circumstances giving rise to unfunded pension liabilities are simple: plan sponsors promise greater benefits than required contribution rates will support. When confronted with this long-standing problem, Congress sought to preserve the integrity of pension plan benefits by enacting the Multi-Employer Pension Plan Amendment Act of 1980 (MPPAA) and later amending the MPPAA via the Pension Protection Act of 2006 (PPA). The MPPAA decreed that any employer who withdrew from an underfunded pension plan was obligated to pay its prorated share of the underfunded liability. Together, the MPPAA and the PPA contain a number of rules that define a withdrawal, how to calculate amounts owed, and who is obligated to pay.
Two recent decisions demonstrate how far-reaching withdrawal liability is and the perils it can create for attorneys advising on transactions. In the first case, Cohen v. Jaffe Raitt Heuer & Weiss PC, No. 16-cv-11484 (E.D. Mich. June 30, 2017), the purchasing company fell victim to the MPPAA’s corporate veil-piercing mechanism. Under this regime, separate corporate entities are treated as a single corporation if they are part of a "controlled group" and are held jointly and severally liable for the withdrawal liability of any entity in the controlled group. The facts in Cohen are fairly straightforward. A pair of private investors identified a potential business opportunity. Their own due diligence uncovered that the target company participated in a multiemployer pension plan with unfunded benefits. Concerned that the assets of their existing businesses might be at risk, the investors sought the advice of counsel. Their attorneys advised that controlled group liability would not attach because there was no common ownership between the target company and the investors’ other companies. Relying on this advice, the investors proceeded with the purchase.
Predictably, the newly acquired business failed. The pension plan demanded payment of the withdrawal liability and collected the liability from the investors’ other companies as members of the controlled group. The investors then sued their attorneys for malpractice and sought to recoup the withdrawal liability (approximately $3 million dollars), claiming the law firm failed to properly advise them about controlled group liability. On June 30, 2017, the Eastern District of Michigan denied the defendant law firm's motion for summary judgment. The court determined there was a fact question as to whether the law firm breached its duty of care when its partners admittedly did not explain the common ownership rules to the investors. If the matter proceeds to trial, the outcome should be of great interest to attorneys who advise on mergers and acquisitions and should be monitored.
The second case, New York State Teamsters Conference Pension and Retirement Fund v. C&S Wholesale Grocers, No. 5:16-cv-84 (N.D.N.Y. May 1, 2017), arose out of a corporate reorganization in bankruptcy and demonstrates that judges are willing to stretch veilpiercing concepts to support underfunded plans by imposing withdrawal liability on business partners. Experienced labor attorneys are familiar with the concept of "successor" liability as adopted by the U.S. Supreme Court in NLRB v. Burns International Security Services Inc., 406 U.S. 272 (1972). At issue in Burns was whether the purchasing employer was obligated to recognize and bargain with a recently selected union representing the seller's employees. The court ruled successor status arose when there is: (1) continuity of the employing enterprises, (2) the bargaining unit remains appropriate, and (3) a majority of the buyer's employees were previously employed by the seller.
The C&S Grocers decision represents a significant expansion of the successor liability doctrine with serious financial consequences. The facts are not atypical. Penn Traffic, a food retail and wholesale company, operated two warehouses staffed by employees represented by a Teamsters Local. Penn Traffic participated in the New York State Teamsters Conference Pension Plan, an underfunded multiemployer pension plan. In 2008, C&S began negotiations to purchase Penn Traffic's wholesale distribution business. The parties eventually signed a limited asset purchase agreement in which C&S purchased Penn Traffic's "wholesale distribution contracts, customers, equipment, files, records, goodwill, intellectual properly, account receivables" and hired its unrepresented employees. Penn Traffic's retail business, facilities, leases, cash and employee benefit plans were excluded from the purchase agreement. C&S, moreover, did not hire Penn Traffic's unionized workforce. Rather, C&S and Penn Traffic entered into an independent contractor relationship under which Penn Traffic staffed its warehouse with Teamsters-represented employees who handled C&S-owned merchandise and oversaw distribution to C&S customers.
In 2010, Penn Traffic filed for bankruptcy, closed its warehouse and terminated all of its unionized employees, thereby triggering withdrawal liability. The withdrawal liability was in excess of $63 million. In the bankruptcy proceedings, Penn Traffic agreed to pay approximately $5 million toward its withdrawal liability. The remaining $58 million was released. The New York State Teamsters then sued C&S to collect, claiming C&S was a successor and as such was liable for the balance of the withdrawal liability.
In a ground-breaking decision, the Northern District of New York determined that the labor law successor doctrine could apply and denied C&S Grocers’ motion to dismiss. Specifically, the district court held that the Teamsters had pled adequate facts to show that C&S Grocers could be a successor even though it had not hired any of Penn Traffic's unionized employees. The district court also relied on decisions from the Seventh and Ninth Circuits for the proposition that a successor employer could be liable for pension plan withdrawal liability even though that liability did not arise until after the transaction had closed. Typically, under Golden State Bottling Co. v. NLRB, 414 U.S. 168 (1973), successor liability attaches only to extant liabilities, not to future ones.
Several lessons emerge from these two decisions. First, withdrawal liability is a substantial risk to businesses regardless of the nature of their relationship to one other. It is thus imperative that potential purchasers and investors (and their attorneys) acknowledge that unfunded pension plans are sympathetic litigants and that courts will stretch veil-piercing and successor liability theories to their limits in order to find deep pockets to fund pension benefits.
Second, in the context of transactions (and particularly in those involving the acquisition of companies with unionized workforces), attorneys should conduct substantial due diligence not only into the seller and its pension liabilities, but also into the buyer and its affiliated companies in order to thoroughly advise on the possibility of controlled group liability. Attorneys not well versed in the MPPAA or PPA are well-served to review their checklists, to review the corporate make-up of their clients and to stay current on recent decisions given the creativity of federal judges in the withdrawal liability space. Purchasers must be able to recognize (with the assistance of sound advice from counsel) that some businesses are either worthless or present too grave a financial risk as a result of their unfunded pension plans. Caveat emptor — and caveat esquire — was never more applicable than today.
This article was first published by Law360.