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Volume 248—NO. 26
Tuesday, August 7, 2012
Outside Counsel
Expert Analysis
Bona Fide Prospective Purchaser
Defense: Why Has It Failed to Deliver?
T
he goal of the Bona Fide Prospective
Purchaser Defense,1 enacted in January
2002, was to lessen the harshness of the
Comprehensive Environmental Response,
Compensation, and Liability Act’s (CERCLA)2
strict liability scheme by allowing purchasers of
contaminated property to avoid liability provided
certain pre-acquisition diligence standards and postacquisition obligations were met. Ten years later,
the defense has not delivered on its promise. As
discussed below, many limitations and uncertainties
limit the effectiveness of the defense.
Introduction
Passed in 1980, CERCLA was Congress’ response
to the public health and environmental threats posed
by the legacy of over a century of haphazard—and
largely unregulated—disposal of hazardous materials
at industrial sites and waste disposal facilities.
CERCLA addressed this legacy by introducing a
radically new liability scheme with respect to the
cleanup of contaminated sites. Under CERCLA, with
limited exceptions, cleanup liability was imposed on
a variety of parties, including current owners and
operators, without regard to fault or the legality of
the conduct that gave rise to the conditions.
CERCLA presented prospective purchasers of
contaminated property with the risk of cleanup
liabilities arising from pre-existing conditions. To
mitigate this risk, purchasers could often conduct
extensive pre-acquisition environmental diligence
designed to identify potential contamination
conditions. Potential buyers faced with diligence
findings revealing actual or potential contamination
could then decide to (1) not proceed with the
transaction, or (2) proceed with the transaction and
either assume the environmental risks or mitigate
these risks through contractual protection from the
seller or, if available, insurance.
This situation was far from perfect. First,
environmental conditions are often hidden beyond
the reach of the standard environmental diligence
tool, the Phase I site assessment.3 Second, sellers
Richard M. Schwartz is a partner at Fried, Frank,
Harris, Shriver & Jacobson, where he is head of the
environmental practice group. David Zilberberg is a
senior associate at the firm in its environmental practice
group. Mary Beth Phipps, an associate at the firm, and
MarLa Duncan , a summer associate, assisted in the
preparation of this article.
By
Richard M.
Schwartz
And
David
Zilberberg
are not necessarily willing to provide indemnities
for pre-closing environmental liabilities, and, even
if they are, they may ultimately fail to honor
such obligations. These factors also contributed
to the existence of “brownfields,” or heavily
contaminated former industrial properties that
were financially impractical to redevelop due to
the risk of CERCLA liability.
The defense was enacted in 2002 and provided
that a purchaser would be protected against CERCLA
liability for pre-closing releases of hazardous
The defense is fraught with several
significant limitations that render it
either unavailable in certain contexts
or render its utility in a particular
transaction uncertain at best.
substances, whether discovered during preacquisition environmental diligence or post-closing,
if a purchaser satisfied three basic requirements:
1. All Appropriate Inquiries. The purchaser
must conduct an appropriate level environmental
diligence prior to the acquisition, referred to as
“all appropriate inquiries” (AAI). Pursuant to
Environmental Protection Agency regulation,
the standards set forth in the ASTM E1527-05
Phase I Environmental Site Assessment Process
generally satisfy the statutory requirements for
conducting AAI.4
2. Continuing Obligations. The purchaser must
comply with a number of post-closing obligations,
including (1) making legally required notices with
respect to the discovery or release of any hazardous
substances; (2) taking reasonable steps to stop any
continuing release, prevent any threatened future
release and prevent or limit human, environmental,
or natural resource exposure to any prior release;
(3) cooperating with and assisting other parties
conducting response actions; (4) complying with
any institutional controls implemented in connection
with any response actions; and (5) complying with
subpoenas or information requests issued pursuant
to CERCLA.5
3. Purchaser Is Not Otherwise a Liable Party (or
Affiliated With One). The defense is not available if
the purchaser is “potentially liable” under CERCLA
or affiliated with another party who is. However,
the contractual relationship between the purchaser
and the seller created by the property transaction
documents is not considered an impermissible
“affiliation” under the defense.6
Key Shortcomings
Unfortunately, the defense is fraught with several
significant limitations that render it either unavailable
in certain contexts or render its utility in a particular
transaction uncertain at best.7
The Defense Does Not Apply to Stock
Acquisitions/Mergers. The defense is not available in
stock acquisitions or mergers because the purchaser
is not “acquir[ing] ownership of a facility.”8 This is
why the defense is unavailable for many corporate
transactions, which are often structured as stock
purchases rather than asset purchases.
The Defense Does Not Apply to Most Kinds
of Lease Transactions. The defense has limited
applicability with respect to leased facilities because
a party that becomes a lessee (either by entering a
lease or “acquiring” the lease through an assignment)
does not “acquire ownership of a facility” (emphasis
added), an element of the definition.9 As a 2009 EPA
guidance noted,10 lessees are not considered owners
under CERCLA unless the lease has sufficient “indicia
of ownership.”11 If the lease does not meet this
standard, a party acquiring or entering the lease
cannot claim the defense.
CERCLA’s liability scheme in some ways
favors lessees over owners. Whereas a lessee’s
liability under CERCLA depends on whether it is
considered an “operator” of the facility, an owner
is liable whether or not it is an operator. It is for this
reason that prospective purchasers sometimes elect
to lease rather than own property with potential
contamination; lessees seek to avoid owner status
by arguing that their lease agreements do not
contain “indicia of ownership” to create CERCLA
owner liability. Yet, the defense seems to encourage
lessees to make the exact opposite argument.
Tuesday, August 7, 2012
Environmental Provisions in Transaction
Documents May Limit the Availability of the
Defense. A recent district court case, Ashley II of
Charleston v. PCS Nitrogen12 (currently on appeal),
suggests that environmental provisions in a purchase
agreement may preclude the application of the
defense. In Ashley II, the owner of a contaminated
property, Ashley II of Charleston, LLC, asserted the
defense in response to contribution claims by other
third parties.13 The court concluded that Ashley
could not assert the defense because, among other
reasons, Ashley agreed to release and indemnify the
sellers with respect to environmental liability in the
acquisition agreement.14
Although the reasoning of the court is less
than clear, the court appeared to hold that by
contractually assuming the sellers’ CERCLA liability,
Ashley became a “potentially liable” party under
§101(40)(h) of CERCLA, which precluded Ashley
from asserting the defense.15 The court also cited
Ashley’s efforts to persuade EPA not to seek cleanup
costs from the sellers, stating (without any citation to
legislative history) that this conduct “reveals just the
sort of affiliation Congress intended to discourage.”16
The court did not explain why Ashley’s efforts
to limit its potential indemnification liability by
communicating with EPA reveal an impermissible
affiliation with the sellers.
The court’s holding appears to be contrary to the
explicit language of the defense. The provision relied
upon by the court—§101(40)(h)—provides that a
relationship “that is created by the instruments by
which title to the facility is conveyed or financed”
is not considered an impermissible relationship for
the purposes of the defense.17 This indicates that
environmental provisions in a purchase agreement,
such as Ashley’s, should not prevent application
of the defense.
Following Ashley II, in September 2011, EPA
issued a guidance that failed to clarify that Ashley II
misapplied the affiliation test.18 Although EPA stated
that it “generally does not intend” to treat indemnities
contained in sale agreements as an impermissible
affiliation barring application of the defense, EPA
noted that it “will analyze the circumstances
surrounding the transfer of title and the specifics
of the contractual or financial relationships….”19
EPA also acknowledged the Ashley II court’s holding
without rejecting or criticizing it and noted the
court’s reliance on “purchaser’s subsequent efforts
to dissuade EPA from taking an enforcement action
against the seller” as an additional basis for finding
an impermissible affiliation.20 The guidance does not
explain why this conduct should serve as a basis of
a prohibited affiliation under the defense.
Purchasers May Have Liability for Post-Closing
Migration or Leaking of Pre-Existing Contamination.
A basic limitation on the scope of the defense is that
it does not apply to disposal of hazardous substances
that occur post-closing. But what constitutes a
“disposal”? The term “disposal” has been the
subject of decades of CERCLA case law, particularly
in determining the liability of former owners and
operators. Whereas some courts have held that
disposal of hazardous substances requires some
sort of active conduct,21 other courts have held that
mere passive migration of contamination through soil
or groundwater constitutes disposal.22 Yet another
view distinguishes between passive migration of
contamination through soil or groundwater (not
disposal), and passive leaking of a substance from
a tank or other container (disposal).23
Ashley II is the only reported decision thus far
to interpret the meaning of the term “disposal” in
the context of the defense. Following U.S. Court
of Appeals for the Fourth Circuit precedent, the
court applied the “passive migration” rule to the
defense, and concluded that Ashley could not assert
the defense because the migration of pre-closing
contamination is considered new, post-acquisition
disposal.24 This interpretation denies prospective
purchasers the very benefit the defense is designed
to offer because often the only practical way for a
purchaser to assure that pre-closing contamination
is not passively migrating is to remediate it. Even
under more pro-purchaser interpretations of
disposal, purchasers may need to conduct some
amount of post-closing investigation or remediation,
for example, to confirm whether any former tanks
or containers are (or are not) leaking.
Continuing Obligations Under the Defense Could
Impose Substantial Obligations on Purchasers. The
defense requires purchasers to take “reasonable
steps” to prevent the release of hazardous
substances post-closing. A 2003 EPA guidance
notes that “reasonable steps” will vary by site and
will depend on the knowledge of the purchaser
and what it learned during the AAI.25 However, if
interpreted broadly, this obligation can be read to
impose investigation or remediation obligations on
the purchaser with respect to pre-existing conditions
identified by the purchaser in its AAI or after the
acquisition. The court in Ashley II adopted such an
interpretation, holding that the defense required
Ashley to address the recommendations in its preacquisition Phase I site assessment. Although Ashley
addressed certain Phase I recommendations, the
court concluded that Ashley’s actions fell short of
the statutory standard and led to exacerbation of
pre-existing conditions.26
In contrast, at least one court has interpreted
the “reasonable steps” requirement more narrowly.
In 3000 E. Imperial, LLC v. Robertshaw Controls Co.,
the district court found that the manner in which
the purchaser addressed a number of leaking
underground storage tanks (including leaving in
place a number of USTs presumed to be empty)
constituted “appropriate care” in dealing with the
release of hazardous substances.”27
Conclusion
The bona fide prospective purchaser defense is
often irrelevant; the defense offers no protection in
stock acquisitions or mergers and many kinds of
lease transactions. But has the defense succeeded
with respect to the kinds of transactions or liabilities
it was designed to address? The answer thus far
appears to be “no.” Ambiguities in the statutory text,
the 2011 EPA Guidance, as well as Ashley II’s narrow
reading of the defense have created uncertainties
regarding the defense’s scope. Although further
development in the case law may clarify some of
these issues, many of the uncertainties identified
above are inherent in the way the self-executing
defense is designed to operate.
A purchaser seeking to qualify for the defense is
guided only by vague and general statutory directives
such as the “reasonable steps” requirement, which
provide little certainty in specific situations. Thus,
a purchaser assessing what, if any, post-closing
investigation or remediation is necessary to meet
the standard must proceed at its own peril without
any assurance that the defense will be available
or accepted.
The upshot of the failures of the defense to
provide clear and sensible guidance is that parties to
transactions will continue to conduct environmental
due diligence, negotiate transactions and allocate
environmental risk based on what makes commercial
sense rather than attempting to shoehorn the deal
into the uncertain contours of the defense. While it
will often be prudent to conduct AAI and comply with
the defense’s post-closing obligations, a purchaser
should not take these steps on the assumption that
protection against CERCLA liability will be available
should contamination issues arise.
••••••••••••••••
•••••••••••••
1. Pub. L. No. 107-118, 115 stat. 2356.
2. 42 U.S.C. §§9601-9675 (2006).
3. Note that CERCLA was amended in 1986 to provide a limited
defense to buyers with respect to unknown contamination
conditions. See 42 U.S.C. §9607(b)(3) and §9601(35)(A)(i).
4. 40 C.F.R. §312.11 (2008).
5. 42 USC §9601(40)(D)-(E).
6. 42 USC §9601(40)(H).
7. It should be noted that the defense protects against CERCLA
liability only and not state law.
8. §9601(40).
9. §9601(40).
10. Memorandum from the Environmental Protection Agency:
Enforcement Discretion Guidance Regarding the Applicability
of the Bona Fide Prospective Purchaser Definition in CERCLA
§101(40) to Tenants (Jan. 14, 2009) (“2009 EPA Guidance”) at 3-4.
11. 2009 EPA Guidance at 3-4. See, e.g., Commander Oil v. Barlo
Equip. Corp., 215 F.3d 321 (2d Cir. 2000).
12. 791 F.Supp.2d. 431 (D.S.C. 2011), appeal docketed, No. 111662 (4th Cir. 2011).
13. 791 F.Supp.2d. at 498-502.
14. 791 F.Supp.2d. at 502.
15. 791 F.Supp.2d. at 502.
16. 791 F.Supp.2d. at 502.
17. 42 U.S.C. §9601(40)(h).
18. Memorandum from the Environmental Protection Agency:
Enforcement Discretion Guidance Regarding the Affiliation
Language of CERCLA’s Bona Fide Prospective Purchaser and
Contiguous Property Owner Liability Protections (Sept. 21, 2011)
(“2011 EPA Guidance”).
19. 2011 EPA Guidance at 10.
20. 2011 EPA Guidance at 10.
21. United States v. CDMG Realty, 96 F.3d 706, 722 (3d Cir.
1996); Bob’s Beverage, Inc. v. Acme, Inc., 264 F.3d 692 (6th Cir.
2001); United States v. 150 Acres of Land, 204 F.3d 698, 706 (6th
Cir. 2000).
22. Nurad, Inc. v. William E. Hooper & Sons, 966 F.2d 837 (4th
Cir. 1992).
23. Joslyn Mfg. Co. v. Koppers Co., 40 F.3d 750 (5th Cir. 1994).
24. Ashley II, 791 F.Supp.2d. 431, 501.
25. Memorandum from the Environmental Protection Agency:
Interim Guidance Regarding Criteria Landowners Must Meet in
Order to Qualify for Bona Fide Prospective Purchaser, Contiguous
Property Owner, or Innocent Landowner Limitations on CERCLA
Liability (March 6, 2003).
26. 791 F.Supp.2d. at 501.
27. 2010 WL 307706 (C.D. Cal. 2010).
Reprinted with permission from the August 7, 2012 edition of the NEW YORK LAW
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