Successor liability claims are a critical consideration for businesses engaging in asset purchase transactions. Whether you are acquiring a small company or absorbing the assets of a larger corporation, understanding possible risks related to successor liability is vital. This knowledge can protect your business from unexpected legal and financial exposure that might arise long after the deal is done.
Understanding Successor Liability Claims
Successor liability claims refer to legal actions where a business that purchases the assets of another entity becomes responsible for the seller’s existing obligations. Despite the buyer’s intention to acquire only assets—not liabilities—certain circumstances can lead to unexpected responsibility for debts, contracts, or even litigation facing the seller. The foundation of successor liability in American law seeks to ensure fairness and prevent companies from evading responsibility by merely transferring assets.
Common Grounds for Successor Liability Claims
Six primary scenarios can give rise to successor liability for the purchasing company:
– Express or implied assumption of liabilities
– De facto merger
– Continuity of enterprise
– Fraudulent transaction intended to avoid liabilities
– Product line exception (especially relevant in product liability cases)
– Contractual obligations or agreements in the purchase document
The asset purchase agreement language alone might not shield a buyer from these risks, especially if courts determine that the transaction fits one of the above scenarios.
Asset Purchase Risks: Beyond the Surface
When businesses pursue an asset purchase instead of a stock purchase, it is often to avoid inheriting unwanted liabilities. However, successor liability risks can still attach to the new owner, bringing unwanted consequences.
Examples of Risks
– Unpaid Taxes: Tax obligations tied to the assets may follow to the buyer, including payroll or property taxes.
– Product Liability: Companies may inherit liabilities from defective products sold by the predecessor, especially in cases where the product line itself is acquired.
– Employee Claims: Wage disputes, wrongful termination, or discrimination lawsuits may extend to the successor.
– Environmental Liabilities: Cleanup costs or regulatory penalties associated with environmental law violations can pose immense financial burdens.
– Contract Obligations: Certain agreements—including supplier and vendor contracts—may transfer if deemed critical to the operation of transferred assets.
Minimizing Exposure to Successor Liability Claims
To safeguard your business from the risks of successor liability claims, strategic planning and rigorous due diligence are essential. The following best practices can significantly limit exposure:
Comprehensive Due Diligence
Due diligence extends beyond financial review. It should include:
– Investigation into all potential claims pending or threatened against the seller
– Analysis of the seller’s environmental record
– Review of employee files and HR matters
– Examination of product history and safety records
– Verification of tax compliance at local, state, and federal levels
Precise Asset Purchase Agreement Drafting
Ensure clarity and specificity in the purchase agreement:
– Detailed listing of liabilities excluded from the purchase
– Strong indemnification provisions favoring the buyer in case hidden liabilities surface
– Clear allocation of responsibility for post-closing claims
– Escrow or holdback arrangements to cover possible post-sale liabilities
Obtaining Insurance Coverage
Successor liability insurance or representations and warranties insurance can provide an additional layer of protection. These policies may cover unknown risks, shielding the new owner from claims emerging after the transaction.
Consult Experienced Legal and Financial Advisors
Legal counsel specializing in mergers and acquisitions can help structure the deal to minimize risk. Likewise, tax and accounting experts can identify hidden financial exposures.
Successor Liability Claims and Court Trends
Recent trends in court decisions indicate an increasing willingness to hold asset purchasers liable in cases of substantial continuity of business operations. When the new entity maintains the same location, workforce, trade name, or product line, courts may impose liability for pre existing claims against the seller.
Case Example: Product Liability
A manufacturer that acquires another company’s production line may become liable for injuries from pre sale products (see Ray v. Alad Corp., 19 Cal.3d 22). Such decisions reinforce the importance of understanding the product line exception doctrine.
Case Example: Employment Law
Courts have found that buyers who retain most of the predecessor’s employees and management can face liability for employment-related claims, even if undisclosed during due diligence.
Regulatory and Environmental Risk Factors
Government agencies, such as the Environmental Protection Agency (EPA), may pursue claims against asset purchasers for violations tied to the acquired property or equipment. Environmental successor liability can arise even if the purchase agreement clearly excludes such risks, particularly if the purchasing company continues similar operations. For example, CERCLA (Comprehensive Environmental Response, Compensation, and Liability Act) allows for the imposition of cleanup costs on successors in certain asset transfers (see EPA Guidance on CERCLA).
Practical Steps for Buyers to Mitigate Successor Liability
– Prioritize detailed discovery of all potential legal, regulatory, and contractual exposures
– Insist on seller’s representations, warranties, and full disclosure statements
– Arrange for third party audits, including environmental and HR compliance reviews
– Negotiate price adjustments or escrow funds to address unresolved risks
– Obtain specific insurance coverage for identified successorship liabilities
– Evaluate whether the deal structure or asset allocation can further isolate unwanted liability
What Sellers Should Know about Successor Liability Claims
Sellers also benefit from awareness of successor liability claims. Clear disclosure and cooperation during the transaction process can facilitate a smoother sale, help avoid later litigation, and ensure all parties share a common understanding of risks and responsibilities.
Conclusion: Take Control of Your Asset Purchase Due Diligence
Successor liability claims pose a real risk for buyers in asset purchase transactions. Careful diligence, informed negotiations, and professional guidance can provide a defense against unwelcome surprises. Both buyers and sellers should recognize that the legal and financial consequences of ignoring these issues can be severe.
If you are planning an asset purchase or have questions regarding exposure to successor liability, take decisive action:
– Reach out about your ALS and Real Water case.
– Explore more related content.
– Call 702-385-6000 for immediate assistance.
References
– Successor Liability and the Asset Purchase Agreement
– Understanding Successor Liability in Asset Purchases
– Ray v. Alad Corp., 19 Cal.3d 22 (1977)
– EPA Guidance on CERCLA Successor Liability