An important early stage of the acquisition of industrial facilities in the United States is the careful assessment and resolution of environmental concerns. Thompson & Knight counsels clients in all sectors of regulated industry, including refineries, petrochemical plants, cement plants, pulp and paper plants, steel mills, and manufacturing and production facilities for pharmaceuticals and semiconductors. Based upon the foundation of nearly 40 years of innovative work in environmental law and industry acquisitions, our attorneys offer the following answers to key questions raised by clients acquiring industrial facilities.
- Do ongoing operations require governmental permits or other approvals? And, if so, do they face any special licensing procedure?
- Do the permits and operational approvals in effect at the time of the acquisition automatically transfer to the new owner/operator?
- Does U.S. law require the government's participation in the negotiation of the acquisition?
- Is the purchaser protected from third party occupational health claims?
- What happens if criminal liability arises out of damages to third parties' property?
- What other liabilities may arise in the purchase of an ongoing industrial operation, and how can the buyer be protected against them?
- Can the purchaser be subject to fines and penalties due to the seller's non- compliance? If so, how can the purchaser be protected?
- Can the purchaser be forced to halt operations if the seller was in non-compliance?
- What is the best way to identify environmental liabilities and risks?
- What form should an environmental site assessment take?
- How can environmental risk be minimized after the acquisition?
- How can environmental risks and liabilities be assessed in companies where the seller does not agree to environmental inspections and samples?
- What is the seller's liability in any post-sale sample inspection performed by the purchaser or by a regulatory body? How can the purchaser's interests be protected in such an inspection?
- What forms of environmental insurance are available to protect the buyer and/or seller?
- Is it important that attorneys or environmental consultants assist during the negotiation of the purchase?
- What contractual provisions may be used to share environmental risks and obligation?
- How have companies determined what remediation costs are adequate and necessary?
- We hope you find this material useful. And, please contact us if there are additional questions that you would like to discuss.
DEALING WITH ENVIRONMENTAL ISSUES IN AN ACQUISITION:
Answers to Buyers' Frequently Asked Questions
In the acquisition of operating facilities located in the United States, it is extremely important to become acquainted with the standard operating documents that are integral to the acquisition, ownership and operation of the facility. Particular attention should be paid to the "downstream" considerations, such as the purchase of assets, swaps and joint ventures negotiated in other countries, and the like.
Question : Do ongoing operations require governmental permits or other approvals? And, if so, do they face any special licensing procedure?
1. Permits and Approvals : Ongoing industrial operations require a number of environmental permits authorizing activities and impacts. These permits typically regulate air quality, waste water discharge, and solid waste disposal. Additionally, other regulatory requirements impose design, operation, record-keeping and reporting requirements upon industrial operations. The following are examples of the types of permits and regulations applicable to most industrial facilities:
- State Air Quality Permits and Federal Operating Permits : Air quality permits specify the allowable emissions from air emission sources at the facility. They regulate both criteria pollutants (particulate matter, sulfur dioxide, nitrogen dioxide, lead, and volatile organic compounds) and specific hazardous air pollutants. For example, depending upon when a facility was built or last modified, it may be subject to a number of federal air quality standards, including national emission standards for hazardous air pollutants (NESHAP) and new source performance standards (NSPS), designed to specify the manner of construction and operation of units constructed or modified following enactment of the standard. Applicable federal standards are incorporated into a facility's Federal Operation Permit, which is also known as a "Title V Permit."
- In addition to permit requirements, some state air quality standards may be applicable by virtue of a regulation, and not specifically referred to in the facility's permit.
- Water Discharge Permitting : Discharges of waste water and storm water (i.e., snow melt and rain water runoff) from operating facilities are also regulated by permit. The permits include discharge limitations (limits on pH and concentrations of various pollutants), which are technology-based treatment standards developed for the industry or the pollutant and water quality standards developed to protect the water quality of the receiving water. Permits require monitoring of the quality of the effluent and periodic reporting to the regulatory authority. As in air quality, the baseline or threshold technical standards have been prescribed by the federal government. While states may be more stringent in the limits imposed, they cannot be less rigorous than the federal standards. The federal Clean Water Act establishes the National Pollution Discharge Elimination System (NPDES) permit. However, most states have now been delegated the authority to issue this permit independently.
- Solid and Hazardous Waste Permitting : Industrial facilities that treat, store, or dispose of hazardous waste on-site are required to obtain a permit pursuant to the Subtitle C of the federal Solid Waste Disposal Act, also known as the Resource Conservation and Recovery Act (RCRA). In addition to current on-site waste management, many operating facilities have historical hazardous waste disposal sites. Depending on their date of closure, historical disposal sites may be permitted, authorized under "interim status" or otherwise regulated to ensure there are no releases to the environment. At facilities where releases have occurred, corrective action to control or eliminate the release is required by administrative order or permit. As with air and water programs, the federal government has delegated its hazardous waste management and permitting programs to the states. Management of non-hazardous industrial wastes is under the sole jurisdiction of the various states.
2. Licensing Procedures: Permitting or licensing procedures apply to the issuance of new permits and to any changes or modifications of permits. These procedures are commonly triggered by facility modifications that increase emissions, change the nature of emissions to the air or discharges to water, or change on-site waste management practices. Although some air permit modifications can be accomplished within a 90-day time frame, others can be lengthy (up to one year or more) and involve technical review by the staff of the agency and public participation through publishing notices in local newspapers and holding public meetings and administrative hearings.
Question : Do the permits and operational approvals in effect at the time of the acquisition automatically transfer to the new owner/operator?
Typically, permits can be transferred to or reissued to the new owner or operator of a facility. This process begins with the seller identifying all permits and licenses held by the facility during the pre-acquisition due diligence process. This task is contractually imposed upon the seller as a scheduling obligation in the asset purchase agreement. For example, the asset purchase agreement typically requires the seller to identify all "environmental permits" and represent and warrant that the seller has obtained all permits required for the operation of the facility in compliance with "environmental laws." The asset purchase agreement should broadly define "environmental laws" and "environmental permits."
Another aspect of the due diligence process is to determine whether the identified permits are sufficient for the intended operation of the facility, and to develop a timetable to ensure that all permits are timely transferred to the purchaser. Some regulatory programs require the transfer of permits and licenses to the new owner at closing, thus requiring notice or application prior to closing. The timely transfer of such permits and licenses should be a condition of closing. Other regulatory programs allow for notice of the change in ownership after the closing date and, therefore, need not be a condition of closing.
Question : Does U.S. law require the government's participation in the negotiation of the acquisition?
Typically, agencies are not involved in negotiations and sellers often prohibit purchasers from contacting agencies other than to obtain publicly available information. However, there are at least three situations where agency involvement is sought prior to closing. First, because a new owner will become liable for existing conditions on the property at closing, purchasers often attempt to avoid, limit, or at least define the extent of the liability through the involvement of governmental agencies. Many states have developed voluntary cleanup programs to facilitate the transfer of contaminated properties. Such programs necessarily require agency involvement.
Second, if a Phase II (subsurface) investigation is performed as part of the due diligence; many states require certain persons to report concentrations in soil and groundwater that exceed established concentration-based limits. Such reporting typically triggers corrective action.
Third, if the facility is attractive to the purchaser only if certain modifications will be made, the purchaser may desire to obtain assurances from the state regarding the effect of such changes on the facility's permits and the likely timing of any necessary review and approval process.
Note:If, during the due diligence process, questions arise about the facility's permitting or compliance status, the purchaser may desire to involve the agency to determine the time frame for permitting and the position of the agency on enforcement against the new owner before succeeding to the liability. However, from a practical standpoint, sellers rarely allow purchasers this level of agency contact prior to closing due to concerns regarding their own liability coupled with the fact that closing is not a certainty until accomplished. Therefore, the purchaser should be prepared to contact appropriate agencies immediately after closing to address issues of non-compliance.
Question : Is the purchaser protected from third party occupational health claims?
Where the liability arises from exposures that have occurred before the acquisition, this risk is commonly dealt with through the seller expressly retaining such liability and indemnifying purchaser for retained liabilities in the asset purchase agreement. Because such indemnities are typically limited to exposures that occurred before closing, there is often a problem of proof regarding whether a condition was caused by a past exposure or a more recent (post-closing) exposure. The due diligence process should include review of all pending claims and monitoring records that establish past levels or exposures, and all records of upset events, spills and other releases of hazardous substances that could have caused workplace or off-site exposures. The asset purchase agreement should obligate the seller to identify and schedule all "environmental claims" and "environmental releases."
In light of increased tort litigation arising from alleged plant exposure, some facilities have adopted aggressive strategies for measuring and recording their impact on neighborhoods using perimeter monitoring and neighborhood ambient monitoring programs. State agencies may also have monitoring programs in place to measure the concentration of air contaminants in the vicinity of refineries. Thus, the due diligence process should also include a review of any existing monitoring data.
Question : What happens if criminal liability arises out of damages to third parties' property?
In the United States, damages to a third party's property are typically addressed through a civil action for money damages. Such actions are commonly based on common law tort theories of trespass, nuisance, negligence, and ultra hazardous activity. However, if the event or condition that caused the damage resulted from the violation of an environmental law or permit, the state or federal government could pursue a separate judicial or administrative enforcement action. Although most enforcement actions are characterized as civil enforcement and seek civil penalties and injunctive relief, most environmental laws also authorize criminal enforcement, including fines and imprisonment. Criminal enforcement is generally reserved for use in egregious instances in which the violator knowingly violated the law, mislead authorities, misrepresented or falsified facts in reports, demonstrated a conscious indifference to the law, or where there was a significant environmental or public health impact from the action. C riminal enforcement is definitely on the increase in the United States.
Most state environmental agencies and the United States Environmental Protection Agency (EPA) have policies that encourage companies discovering violations to disclose them voluntarily and commit to remedy the violation. Self-policing and self-reporting can limit the exposure to civil penalties and minimize the likelihood of criminal enforcement.
Question : What other liabilities may arise in the purchase of an ongoing industrial operation, and how can the buyer be protected against them?
The list of commonly encountered liabilities is diverse, and the strategies for limiting buyer liability differ. The following is a list of the key risks and the ways to protect against them:
- Liability for existing conditions on the property to be acquired:
- Liability for existing conditions on adjacent off-site property:
- Liability if adequate environmental risk management practices are not in place:
- Liability for compliance with permits and standards:
- Liability to third parties for personal injury or property damage from contamination:
A two-phase environmental site assessment (ESA) should be made to determine likelihood, nature and extent of contamination. Estimated remediation costs typically define the extent of liability. The buyer should require the disclosure of any known "environmental releases" or "environmental conditions" reported to the agency, as these could create the obligation for a cleanup.
The ESA should identify the likelihood of such a liability, but it does not have to determine the liability's nature or extent (such as water discharges, air emissions, or subsurface migration of contaminants). Cost estimates for remediation, damage repair, and process improvements may be included. As with on-site conditions, off-site conditions should be covered by the required disclosures and the scope of the due diligence.
The best protection is to examine the property for potential problems (for example, inadequate storage vessels or preparedness procedures for environmental accidents) as part of the due diligence.
To avoid liability from failure to satisfy legal standards, buyers often require contractual disclosures and representations that the facility has all necessary "environmental permits," and is in compliance with all "environmental laws" and "environmental permits." Due diligence and, ultimately, indemnification are also important safeguards.
There have been numerous lawsuits based on contamination injury or damage claims to people or property adjacent to industrial operations. These usually involve allegations of noxious odors, toxic air emissions, contaminated storm water, or subsurface contamination of groundwater. It is important to require disclosure of any known pending or threatened claim, and any condition that could give rise to such a claim. Due diligence should include assessment of potential off-site problems.
- Liability from product made:
- Liability from off-site disposal ("Superfund" liability ):
Product liability potential depends on the product and the market. The buyer can require indemnification for products entering the market prior to closing the acquisition transaction, but cannot expect the seller to continue to assume product liability thereafter.
State and federal laws hold the generators of industrial waste responsible for properly disposing of that waste. Depending on the nature of the acquisition, liability for past disposal practices may be an issue. The seller should be required to disclose any claim or threatened claim from past disposal practices, and due diligence should investigate those practices. Ultimately, this liability is best managed by leaving this liability with the seller. The buyer may consider changing waste disposal companies so that there is clear identification of post-closing waste disposal practices.
Question : Can the purchaser be subject to fines and penalties due to the seller's non- compliance? If so, how can the purchaser be protected?
In an asset purchase, liability arises from the status as owner or operator. The seller is liable for the conditions or events occurring before the closing. If these conditions continue after closing and constitute environmental problems (such as non-compliance with air quality standards, or leakage of contaminants into groundwater), they then create liability for the purchaser as new owner or operator.
The best protection from such liability is obtained contractually by having the seller expressly retain liability for pre-closing conditions and indemnifying the purchaser for retained liabilities. If the condition is quickly identified and remedied, the purchaser may be able to shift most of the cost to the seller. Because the liability shifts to the buyer at closing, due diligence on the liability issues is imperative to manage the risks.
While contractual representations and warranties are not as helpful as clearly assumed and retained liabilities by purchaser and seller, respectively, it is important to disclose known conditions even though they are typically excepted from the representations and warranties in an asset purchase.
In a de facto merger, the buyer acquires all or substantially all of the assets of the seller and effectively continues the same business. In such instances, governmental agencies have imposed liability on the buyer for events that happened before the merger.
Special Note:The buyer should avoid any contractual provision that limits its ability to inform regulatory authorities of conditions that violate the law. The federal EPA and many states have laws and/or policies that encourage self-disclosure of compliance problems with environmental laws, decreasing or eliminating the non-compliance penalty if the purchaser voluntarily comes forward at the outset of its operations. Self-disclosure of known violations minimizes the risk of criminal liability.
Several companies now write insurance to cover the risk of environmental liability arising from an acquisition. Depending on the nature of the issue and the level of uncertainty remaining after due diligence activities, such insurance may be an effective risk management tool.
Question : Can the purchaser be forced to halt operations if the seller was in non-compliance?
Typically, no. The exceptions would be conditions that pose an immediate danger to human health and the environment, or conditions that represent repeated and flagrant violation of the law.
Question : What is the best way to identify environmental liabilities and risks?
The most effective way is a thorough pre-acquisition due diligence process that addresses conditions on the property, compliance with applicable laws and permits, and potential off-site liability to third parties. Although the terms "Phase I" and "Phase II" environmental site assessments ("ESAs") are commonly used, they refer solely to the investigation of conditions on the property for sale and the potential of those conditions to create liability for remediation costs. In contrast, a full compliance audit is a critical component of the due diligence process, especially when acquiring an ongoing industrial operation. It is advisable to engage an environmental consulting firm to work in conjunction with environmental counsel. This team can review the site conditions and facility operations, and regulations applicable to the operation to perform the Phase I and Phase II ESAs and assist with compliance audits.
Question : What form should an environmental site assessment take?
The American Society for Testing and Materials (ASTM) has developed guidelines for Phase I and II ESAs and environmental compliance audits. These guidelines are most directly focused on developing industry-wide standards on "inquiry into previous ownership and use of a property," to determine Superfund liability. These guidelines are more likely to be useful in a commercial property transaction than in an industrial one, but they do help define the scope and extent of ESAs. 1
ASTM guidelines provide an outline for environmental compliance audits, including a review of applicable environmental statutes and regulations for facility operations. However, it is invaluable to have attorney involvement in the evaluation of applicable laws to site-specific facts. Thompson & Knight attorneys have developed industry-specific questionnaires and document review lists for use in acquisitions.
Question : How can environmental risk be minimized after the acquisition?
Certain practical steps should be followed for risk minimization, not only after a closing but as an ongoing matter of course:
- Periodic environmental audits.
- Management of change
- Environmental management systems.
- Compliance with self-policing laws.
Regular audits should identify risks and noncompliance issues before they become liabilities. The due diligence work done for the acquisition can serve as the audit baseline. Subsequent audits would focus on regulatory and legal compliance and identifying conditions that could create civil liability.
Air quality monitoring programs can demonstrate compliance with health-based standards and document emission levels in the event of an unplanned release. However, because such monitoring records document both good and bad performance, their utility must be carefully weighed prior to initiation.
. A regulated facility should have a system for documenting all process and procedural changes to ensure that they do not conflict with environmental requirements. It is important to train key employees in all operations to understand and use the change management system.
Such systems enhance change in management processes by applying international environmental management standards such as ISO 14001 to policies and procedures, record-keeping, decision making, auditing, training, and other key management functions.
Many states have adopted laws designed to encourage the discovery and correction of environmental compliance problems. In addition, the federal EPA has stated that companies voluntarily disclosing problems discovered in an audit will receive lower civil penalties and have minimized risk of criminal sanctions. Laws and policies on self-policing typically provide that violations detected through an environmental audit, reported to the regulatory agencies, and corrected will not be subject to enforcement, provided that there is no significant risk to human health or the environment. The laws also typically provide protection from disclosure of the audit reports to third parties, to prevent self-evaluations from being used against the company.
Question : How can environmental risks and liabilities be assessed in companies where the seller does not agree to environmental inspections and samples?
Buyers can pursue information regarding potential environmental problems from a variety of sources other than directly from the seller. These include:
- Review a facility's environmental history as documented in public records on file with federal and state agencies, including interviews with agency personnel.
- Interview the company's environmental management in connection with a careful review of internal records.
- Inspect the facility in the course of a Phase 1 (non-invasive inspection) ESA for signs of contamination, such as surface systems (like sumps and sewer systems) that could potentially release subsurface contaminants.
- Consult inspection professionals who are familiar with the type of facility being sold and who are trained to identify certain problems (such as potential groundwater contamination) based on knowledge of the facility's age and operational characteristics.
- Evaluate regional geology and hydrogeology to determine potential risks, like the presence of an underground aquifer that is a major source of drinking water for a neighboring community.
- Develop, on the basis of this review, a system of protection through deal points such as indemnification, retained liabilities, price, insurance, and availability of state-assisted voluntary cleanup programs.
Of particular note in such evaluations are "anti-mining provisions." Such provisions prohibit the purchaser from voluntarily performing any investigation of subsurface contamination post-closure, and void the indemnity for any clean up costs that flow from such an investigation. Investigations required by law, such as in response to a recent release or other agency directive, are not subject to the anti-mining provision. Such provisions are objectionable to purchasers due to the increased uncertainty of the scope and magnitude of potential contamination. However, many insurers are willing to write pollution policies even where no Phase II ESA investigation was performed and contamination is likely due to decades of heavy industrial activity. Thus, if the seller refuses to allow a Phase II investigation and insists on an anti-mining provision in the asset purchase agreement, that alone should not necessarily kill the deal. Thompson & Knight attorneys are experienced in anti-mining provisions from both the seller's and buyer's perspective and can advise on the best way to utilize them.
Question : What is the seller's liability in any post-sale sample inspection performed by the purchaser or by a regulatory body? How can the purchaser's interests be protected in such an inspection?
The current owner of property is liable for conditions on the property as a matter or law. Therefore, the purchaser would be liable to the government for contamination on the property even if the conditions were caused by the activities of the prior owner (seller). In contrast, unless the transaction is a de facto merger, the new owner's liability for non-compliance with environmental permits or regulatory requirements will run from the date of closing.
Contractual provisions do not affect the purchaser's liability to the government for conditions or noncompliance. Contractual indemnities are enforceable and can require that the seller pay the costs of remediation and the civil penalties assessed. However, unless the purchaser has documented due diligence information about conditions before the sale, developing the proof to enforce such indemnities can be difficult.
The purchaser is not the only party legally liable for on-site conditions. The seller and every other prior owner and operator will also remain liable for any release of contaminants during the time they owned or operated the property. In addition to contractual provisions, state and federal law create a right of contribution allowing recovery of costs against these other liable parties.
In the case of remediation costs, absent a contractual provision to the contrary, the purchaser typically has a right of recovery against the seller and other prior owners and operators for that portion of the cleanup costs associated with releases that occurred when they owned or operated the property or facility. The purchaser would have the burden of showing that the seller and each other party is liable. Finally, the purchaser would be required to prove the equitable share that the seller and each other party should be made to pay. This type of action presents difficult proof problems and requires that the purchaser first incur the costs of cleanup and then seek to recover the expenditure. Contractual devices such as seller's retained liabilities and indemnity are far superior to these "rights of contribution."
As mentioned earlier, many states have adopted voluntary cleanup programs designed to encourage remediation and address liability issues in the context of transactions. For example, the Texas Voluntary Cleanup Program (VCP) allows the seller and the purchaser to enter the property into the program before the closing. A remediation plan can be developed following closing. If the plan is completed to the satisfaction of the agency and a certificate of completion is issued, the purchaser avoids liability for the conditions on the property. The VCP provides a flexible program for addressing conditions on the property. However, to avoid liability of the purchaser, the application for the VCP must reveal available information regarding the nature and extent of contamination and must be filed with the agency before closing. Thus, it will not be effective to shield the purchaser without the seller's willingness to participate and disclose conditions to the agency.
Question : What forms of environmental insurance are available to protect the buyer and/or seller?
Insurance for environmental conditions is more readily available now that at any time in the recent past. Insurance is available for: existing (historic) on-site conditions, including third party claims for property damage and personal injury; existing (historic) off-site conditions, including third party claims for property damage and personal injury; and violations of environmental laws (including civil penalties but not criminal sanctions). To qualify for insurance, such liabilities must be unknown to the insureds when the policy is issued. Insurance is also available to cap the cost of any ongoing subsurface remediation project.
The availability and cost of the insurance is typically tied to the assessment and identification of conditions and potential risks. The cost of coverage is based upon the underwriters' assessment of probable "worst case" liabilities. Thus, generally, the more information that is available, the greater the certainty of costs.
Question : Is it important that attorneys or environmental consultants assist during the negotiation of the purchase?
Yes. Environmental attorneys should be involved in due diligence and should be part of the transaction team. They can provide valuable assistance in drafting the environmental provisions of the asset purchase agreement. This allows for the effective transfer of information from the due diligence process to the development of the deal. The due diligence phase of an acquisition is often directed by attorneys who engage technical consultants to assess site conditions and assist in the assessment compliance issues. This approach, typically used by Thompson & Knight attorneys, has proved effective due largely to the considerable uniformity of environmental laws among in the various states, which are all based upon a common system of federal law. Although the cleanup standards for various contaminants and voluntary compliance programs vary from state to state, environmental consultants commonly provide this specific information.
Question : What contractual provisions may be used to share environmental risks and obligation?
Typical provisions included in contracts can include:
- Property or asset "carve outs":
- Retained liability provisions:
- "Baskets" or escrowed funds:
- Disclosure and representations and warranties:
These provisions, which leave the asset with the seller, are sometimes the most prudent method of dealing with conditions on the property.
This is a powerful contractual device to describe specific conditions and make clear that the liability for those conditions is retained by the seller.
These provisions address retained liabilities or the breach of representations and warranties, such as the cost of remediation, permitting, or civil penalties resulting from noncompliance.
This device is very flexible. However, it does not eliminate the liability of the purchaser. The protection afforded by the indemnity is only as good as the financial strength of the seller at the time it is exercised and/or the amount of funds in the "basket" or escrow account.
As noted earlier, environmental insurance is typically available for most risks. The availability and cost of the insurance is usually tied to the assessment and identification of conditions and potential risks.
While these are of limited value in protecting the purchaser from liability, they do assist in identifying problem areas to be addressed in the transaction. They should be combined with the requirement to schedule any exceptions.
Sometimes risk is best addressed through adjustments in the purchase price.
Question : How have companies determined what remediation costs are adequate and necessary?
Particularly with regard to industrial operations, there are a number of considerations that can be used. These include:
- Historic information regarding contamination from such facilities.
- Investigation of site-specific natural resources, such as groundwater and soil.
- Coordination of the investigation by consultants and counsel working in a Phase 2 ESA examination.
- Additional examination phases dictated by the findings in prior phases.
Assuming that the seller has not limited the scope of the investigation, determination of the extent of contamination generally stops when there is sufficient information to allow the purchaser to make an informed business decision regarding the property.
1. The Small Business Liability Relief and Revitalization Act in 2002 amended Superfund and introduced a new phrase to describe due diligence – All Appropriate Inquiry ("AAI"). To avoid Superfund liability, a potentially responsible party must make all appropriate inquiry into present and past uses of the property and the potential presence of environmental contamination on the property. EPA is to develop rules defining the scope of AAI. AAI was the subject of a negotiated rulemaking that produced a consensus draft in November 2003. EPA anticipates that the agency's proposed rules due out in the Fall of 2004 will incorporate that draft. The ASTM standard was designated for interim use.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.