Due Care and Indemnification Agreements and the CERCLA BFPP Defense
The last year has seen its share of unique decisions relating to CERCLA liability. Recently I blogged about one case with ramifications for brownfield developers: Saline River Properties LLC v. Johnson Controls (USDC, ED Mich 2:10-cv-1057-SFC-MKM). Another case similar to Saline River Properties that came out in late 2010 is Ashley II of Charleston, LLC v. PCS Nitrogen, Inc. (USDC, Dist. S.C., 2:05-cv-2782-mbs).
Ashley II originated in South Carolina and was heralded as one of the first cases to examine CERCLA’s Bona Fide Perspective Purchaser (“BFPP”) defense (which provides a liability defense to purchasers). You would think that this would be a good thing. In this case, it wasn’t.
Background
The background of Ashley II is a lot like the Saline case; a developer being held liable for contamination on a brownfield redevelopment. The property that Ashley intended to redevelop into a sustainable/mixed use redevelopment was contaminated with arsenic, lead and other substances as a result of historical fertilizer plant operations.
As part of its acquisition, Ashley indemnified the sellers of both parcels. Ashley also had Phase I Environmental Site Assessments performed for each of the parcels prior to purchase, and hired an environmental engineer to oversee the environmental aspects of the development. The site was gated and patrolled and during the development, Ashley’s environmental engineer would inspect the property. On one of these occasions, the engineer noted areas of staining, neglected trash piles and, on the smaller parcel, some cement pads, sumps, trenches and pipes. Because Ashley left these structures in place during development, they collected water that caused a release of contaminants into the soil.
During the development, Ashley brought a CERCLA §107 cost recovery action against the prior owners, PCS, and the PCS filed a claim for contribution from Ashley and others under CERCLA §113. Because Ashley performed a Phase I before acquiring the property, Ashley tried to rely on the BFPP defense of CERCLA §107(r), however, the trial court didn’t buy it.
Elements of BFPP Defense
In ruling against Ashley, the district court noted that Ashley had to prove the following eight elements by preponderance of the evidence to rely on the BFPP defense:
- The hazardous substances in question were disposed at the facility prior to the buyer’s purchase;
- The buyer conducted All Appropriate Inquiry into the prior history of the site;
- The buyer provided all legally required notices regarding the contamination;
- The buyer exercised due care with respect to hazardous substances found at the facility;
- The buyer cooperated with persons authorized to respond to the contamination;
- The buyer complied with land use restrictions;
- The buyer complied with any requests for information; and
- The buyer did not have any affiliation with a liable party.
The court examined each one of these elements as they applied to Ashley and determined that it failed on the first, fourth and eight elements. With regard to the first, the court noted that it was likely that hazardous substances were disposed on the property when Ashley removed the water containing sumps and piping. Also, the court noted that Ashley failed to exercise due care because it did not clean out the sumps and left them exposed to the elements. Further, the court pointed to the debris pile as further evidence that Ashley did not use appropriate care.
Affiliation and Loss of BFPP Status
However, it was the court’s analysis of the “affiliation” element that was strange on a number of levels. In its opinion, the court explained that Ashley had to prove that it was not:
- A potentially responsible party;
- Affiliated with persons that are potentially liable for response costs at the site through: (a) any direct or indirect familial relationship; or (b) any contractual, corporate, or financial relationship; and
- The result of a business reorganization.
The court held that Ashley failed to meet the first and second elements. When you look at the actual language of the CERCLA affiliation requirement, though, it’s pretty clear that the court’s recitation of the CERCLA affiliation elements is incorrect. CERCLA §101(40)(H) actually requires the following showing:
The person is not –
(i) potentially liable, or affiliated with any other person that is potentially liable, for response costs at a facility through –
(I) any direct or indirect familial relationship; or
(II) any contractual, corporate, or financial relationship . . . . ; or
(ii) the result of reorganization of a business entity that was potentially liable.
Grammar and sentence structure are key here. If you look closely, subsection (i) actually requires a buyer to show the following: that it is not potentially liable for response costs at a facility:
- Through any direct or indirect familial relationship; or
- Through any contractual, corporate, or financial relationship.
A buyer must also show that it is not affiliated with any other person that is potentially liable for response costs at a facility:
- Through any direct or indirect familial relationship; or
- Through any contractual, corporate, or financial relationship.
Lastly, the buyer must show that it is not the result of a reorganization of a business entity that was potentially liable.
As you can see, there is a strong argument that the court misinterpreted §101(40)(H)(i) as imposing an additional requirement on buyers: to prove that they are not potentially responsible parties (PRPs). However, that is not the requirement. By reading this additional element into the statute, the court gutted the BFFP defense to PRP liability. All purchasers of contaminated property by definition fall within the large category of “PRPs.” Because of this broad definition, buyers who had no relation to the contamination were at risk for being held liable to clean it up. To correct this (and to encourage redevelopment of impaired sites) Congress created CERCLA’s BFPP defense to limit a buyer’s liability Following the court’s logic, however, all buyers of contaminated property would never qualify for the BFPP defense because it would always fail the court’s first element.
The second part of the court’s analysis that developers need to be aware of is how the court applied the “affiliation” requirement to Ashley’s conduct. Although the court found that Ashley did not have any familial relationship with any responsible party, the court ruled that Ashley was affiliated with one of the PRPs (the seller) because: (1) Ashley had indemnified and released the seller in the purchase agreement and (2) Ashley tried to discourage the EPA from taking enforcement action against the seller. The court noted: “In indemnifying [the seller], Ashley took the risk that [the seller] might be liable for response costs. Ashley’s efforts to discourage the EPA from recovering response costs covered by the indemnification reveals just the sort of affiliation Congress intended to discourage.” As a result, Ashley was not able to rely on the BFPP defense and was found liable for a portion of the site’s cleanup costs.
However, the ruling is unclear; was it just the indemnification and release, or was it Ashley’s attempts to affirmatively persuade the EPA not to take action against the seller that caused the court to characterize the relationship as an affiliation?
The Chill
Regardless, this holding is unsettling because of its potential chilling effect on buyers and sellers of contaminated property. Contractual indemnifications are quite common and can be a useful risk-shifting mechanism in the sale of contaminated property. If this ruling is upheld on the appellate level, it could impede the use of such arrangements where the buyer wants to take advantage of the BFPP defense.
Because Ashley has appealed this case to the Fourth Circuit Court of Appeals, the trial court’s analysis of the BFPP defense may just become a small footnote in the law governing the CERCLA BFPP defense. However, given its potential ramifications if it is upheld, this case should be watched closely. We will continue to monitor and provide an update in the future.
