On September 24, 2013, a federal judge in Indiana rejected a private equity firm’s motion to dismiss a lawsuit brought against it by a former employee of one of the firm’s portfolio companies alleging that the firm violated the Worker Adjustment and Retraining Notification Act (WARN Act) when the portfolio company, a plastic components manufacturing company, closed and laid off numerous employees without providing WARN Act notice. In two separate orders, the judge certified a class of the former affected employees and rejected the firm’s argument that it should not be considered an “employer” for purposes of WARN Act compliance and liability. This case follows a recent trend whereby employees who lose their jobs with a portfolio company seek to hold the related deep-pocket private equity firm responsible for WARN Act liability.
The WARN Act requires covered employers to provide written notice to affected employees at least 60 calendar days in advance of covered plant closings and covered mass layoffs.1 An employer who violates the WARN Act is liable for the wages and benefits that each affected employee would have received had the employee received the full 60-day advance notice of termination.
There are several statutory exceptions that allow an employer to provide less than the required 60 days notice. These exceptions include the “faltering company” exception, “unforeseen business circumstances” exception, “liquidating fiduciary” exception and “good faith” exception. In many cases private equity firms are sued by former employees of one of their portfolio companies because the portfolio company is going out of or has gone out of business and has claimed one of the aforementioned statutory exceptions. In these cases, the former employees assert their WARN Act claims against other entities, such as corporate affiliates and the ownership group of the portfolio company, alleging that that the private equity firm is, along with the portfolio company, its former employer in accordance with the “single employer” doctrine.
The Department of Labor Regulations enumerate five factors to be considered when evaluating the “single employer” doctrine with respect to WARN Act liability. These factors are (1) common ownership, (2) common directors and/or officers, (3) de facto exercise of control, (4) unity of personnel policies emanating from a common source, and (5) dependency of operations. Last week’s federal decision in Indiana mirrors decisions in several states (including Delaware) where courts have determined that a private equity firm may be considered a de facto employer, for purposes of WARN Act compliance, under the “single employer” theory. Private equity firms should be aware of this risk, in particular given the tendency of private equity firms to become more involved in the day-to-day operations of a portfolio company when its financial performance is declining or it is at risk of bankruptcy or liquidation.
Below is a list of practical actions that a private equity firm can take that may reduce potential WARN Act liability with respect to employee layoffs conducted by the firm’s portfolio companies. These actions are intended to help insulate the ownership group from WARN Act liability by providing a stronger argument that the firm is indeed respecting corporate formalities and separateness of entities when the portfolio company is making major plant closure and layoff decisions.
- Avoid placing private equity firm employees and/ or representatives on the portfolio company’s management teams;
- Allow the portfolio company to develop and maintain its own labor and personnel policies and practices, as well as human resources oversight and processes (the two entities should not have a common supervisor to whom employees report);
- Have the portfolio company maintain separate bank accounts, tax numbers, tax returns, and outside and inside firms/personnel for auditing, accounting and benefits administration purposes;
- Have the portfolio company negotiate its own labor contracts and employment contracts, including compensation and bonus structures;
- Provide board oversight, but leave the day-to-day operations of the portfolio company to the company’s management teams;
- Have the portfolio company retain its own professional advisors to advise its management team and board generally, but specifically regarding restructuring and sale alternatives and major plant closure decisions. The professional advisors should execute contracts directly with the portfolio company and create obligations only to the portfolio company; and
- Although board oversight and input is acceptable, be sure to work through the management team regarding major decisions, including potential plant closures and layoffs.