December 19, 2019
Whether you are selling or purchasing a single manufacturing facility or a portfolio of businesses, environmental due diligence should be at the forefront of your planning process. It will help a transaction proceed smoothly to closing and ensure parties can manage legal liability, business environmental risks and compliance issues.
When selling industrial facilities, consider engaging in pre-listing environmental due diligence. Whether a full Phase I is obtained or simply a desktop environmental review, a seller can gain an understanding of issues that could cause a potential purchaser to reconsider. If an environmentally troublesome business is part of a portfolio being marketed, it may be advantageous to carve out that business from the portfolio so there is no risk of the purchase faltering based on one tricky environmental site. The downside to obtaining more information about a facility than was previously understood is that the seller then has “knowledge” of environmental issues and may not be able to avoid disclosure of otherwise unknown environmental risks through environmental representations and warranties.
In addition to considering pre-purchase due diligence, a seller should determine whether it is willing to allow invasive soil and groundwater sampling by a potential purchaser prior to marketing the facility. Often, sellers understand that a willing purchaser will feel compelled to complete additional investigation in order to obtain liability protection. Sellers should at least obtain an executed letter of intent or purchase agreement before allowing intrusive sampling. Additionally, a seller may want to review and/or limit the amount of samples, timing of obtaining them, and ability to disclose to a regulatory agency and include those restrictions in the contract.
Potential purchasers of industrial facilities must allow adequate time to complete due diligence. To obtain liability protection under the Comprehensive Environmental Response, Compensation and Liability Act (CERCLA), the buyer must be considered an “innocent purchaser” or bona fide prospective purchaser (BFPP). In order to do this, the purchaser must conduct “all appropriate inquiry,” which is generally understood to mean at least a Phase I Environmental Site Assessment pursuant to ASTM standards. It is important to utilize an experienced consultant and environmental legal counsel to ensure that the Phase I has all required elements and that the consultant has appropriately considered potential risks. For manufacturing facilities, include a compliance review with a Phase I. While this review will be an added cost, it can be beneficial in understanding whether a facility has appropriate permits and whether there could be potential risk of enforcement related to compliance with permit conditions or other regulatory requirements.
Purchasers must ensure that they have performed “all appropriate inquiry” and that they meet the other requirements of a BFPP or innocent purchaser, including having no affiliation with the seller and ensuring reasonable steps are taken to avoid a continuing release. It is helpful to obtain a “comfort letter” either from the state environmental regulatory authority or EPA, if appropriate. This letter generally provides liability protection for any contamination that exists at the facility prior to purchase, which should ensure that a purchaser is more willing to close the transaction.
Ultimately, once liability issues have been addressed, a purchaser must determine whether there are business environmental risks to consider. For example, if a facility did not have a required air permit, obtaining the permit could add unacceptable increased expense or could even affect the ability to manufacture at the desired production rate. Considerations related to permits and potential constraints, anticipated future business, potential regulatory changes that could affect the business and potential third-party liabilities (toxic torts, citizen suits) can all affect the desirability of a potential purchase and whether a purchase price is reasonable. Moreover, pre-existing contamination at a site can cause increased development costs for contaminated soil disposal and potential vapor intrusion issues that will need to be mitigated.
Transactions should be structured to allow for creative cost-sharing or allocation mechanisms to minimize potential liability and to provide exit strategies for environmental liabilities identified during due diligence. When drafting representations and warranties in a purchase contract consider: what they will cover; will they survive closing and, if so, for how long; will they restrict the buyer only or also a successor entity; will they be limited by materiality, knowledge, and time-period? These issues can relate to compliance, prior spills/releases, agency actions, claims, notices, orders, and third-party claims.
Ideally the schedules in a purchase contract should define existing conditions (not simply list prior diligence reports) and should be specific.
Finally, indemnification provisions are an important aspect of the transaction, including items such as the definition of “environmental claim:” pre/post-closing; action required by agencies or third parties; specific limitations/exclusions (no hunt provision); thresholds, deductibles, caps and baskets; and limitations periods.
In short, parties to a transaction must allow enough time during due diligence to ensure environmental liability is addressed, risks are mitigated, and contract terms clearly reflect the nature of the agreement between the parties.
Lisa Goodwin is a partner at Hirschler Law in Richmond. She counsels businesses to provide practical solutions when environmental issues arise, guiding clients through environmental regulatory and compliance issues, environmental assessments of property, due diligence investigations, brownfields redevelopment projects and potential environmental risks in property transactions. She may be reached at email@example.com.