In a significant decision for both private equity funds and multiemployer pension plans, the U.S. District Court for the District of Massachusetts held last week in Sun Capital Partners III, L.P. v. New England Teamsters & Trucking Industry Pension Fund that a related group of private equity funds are responsible for pension withdrawal liability assessed against a bankrupt portfolio company owned by the funds.
Sun Capital Advisors, Inc. (Sun Capital) is a private equity firm. Two Sun Capital private equity funds organized as limited partnerships invested in Scott Brass, Inc. (Scott Brass) in 2006. The deal was structured such that one of the private equity funds made a 30% investment and the other made a 70% investment. The purchase price for the investment reflected a 25% discount as a result of potential withdrawal liability that Scott Brass might eventually owe to the New England Teamsters & Trucking Industry Pension Fund (the Teamsters Fund). In October 2008, Scott Brass stopped contributing to the Teamsters Fund. One month later, an involuntary Chapter 11 bankruptcy proceeding was initiated against Scott Brass. In December 2008, the Teamsters Fund assessed withdrawal liability against Scott Brass and sent demands for payment to Scott Brass as well as the Sun Capital funds that invested in Scott Brass. The Sun Capital funds initiated a declaratory action because they objected to being charged with withdrawal liability of a portfolio company.
By way of background, ERISA, through the Multiemployer Pension Plan Amendments Act of 1980, states that “all employees of trades or businesses (whether or not incorporated) which are under common control shall be treated as employed by a single employer and all such trades and businesses as a single employer.” ERISA further provides that all members of a group that are collectively treated as a single employer are jointly and severally liable for withdrawal liability of any member of that group. Thus, if the Sun Capital funds were (1) trades or businesses and (2) shared common control with Scott Brass, then they could be treated as a single employer with Scott Brass under ERISA and could be held liable for the withdrawal liability triggered by Scott Brass.
This latest district court decision in the case comes after an opinion from 2013 by the U.S. Court of Appeals for the First Circuit. In its opinion, the appeals court set out the standard for determining whether an organization is a trade or business. Under that standard, passive investors are not considered a trade or business, but investors that engage in “investment plus” activities are. Using the “investment plus” standard, the court of appeals determined that one of the Sun Capital funds was a trade or business, but remanded to the district court to evaluate whether the other fund met the standard. On remand, the district court found that the other fund was also a trade or business.
The lower court then turned its attention to whether the funds shared common control with Scott Brass. For purposes of withdrawal liability, common control is defined as sharing at least 80% common ownership. As noted above, neither of the Sun Capital funds owned at least 80% of Scott Brass. Thus, unless aggregated together, the funds could not be liable for the withdrawal liability assessed by the Teamsters Fund. The court found that the Sun Capital funds’ interests should be aggregated for purposes of determining common control. In so finding, the court indicated that the Sun Capital funds have a de facto partnership or joint venture. The court relied on the fact that the funds are not truly unrelated—they were not passive investors that happened to invest in the same company. Additionally, Sun Capital had intentionally structured ownership to avoid any one private equity fund hitting the 80% threshold, which the court noted showed an “identity of interest and unity of decision making.”
Lastly, the court determined that the resulting de facto partnership of the funds also met the “trade or business” test itself because the partnership’s purpose was to make a profit and the partnership actively managed portfolio companies, including placing employees of Sun Capital in director positions at companies the funds invested in.
This case is a positive development for multiemployer pension plans seeking to collect withdrawal liability and/or delinquent contributions from contributing employers and their ultimate owners. The decision is the latest in an ongoing trend towards allowing multiemployer plans to collect unpaid withdrawal or contribution liability from entities that have an increasingly tenuous connection to the employer that was directly obligated to contribute to the pension plan.
Perhaps more importantly, this case will have a significant impact on the private equity and venture capital communities, whose funds might now be held jointly and severally liable for withdrawal liability of portfolio companies. It is possible that withdrawal liability could extend to other portfolio companies of private equity funds as well, even where the portfolio companies have no direct relationship to each other. The reasoning followed in this case could also be applied to funding liability for single-employer pension plans. Any organizations intending to structure around controlled group liabilities should consult with legal counsel regarding the application of this decision.