Why Private Equity Funds Face Employment Risks

Dianne LaRocca, Associate - DLA Piper (US)

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Suddenly, the advance sheets show a wave of litigation targeting private equity funds. See, e.g., Guippone v. BH S&B Holdings LLC, 737 F3d. 221 (2d Cir. 2013) (private equity funds potentially liable for WARN Act liability); Oaktree Capital Management, L.P. v. National Labor Relations Board, 452 Fed. Appx. 433 (5th Cir. 2011) (same for unfair labor practices under National Labor Relations Act); Board of Trustees, Sheet Metal Workers’ National Pension Fund v. Palladium Equity Partners, LLC, 722 F. Supp. 2d 854 (E.D. Mich. 2010) (same for multiemployer pension plan liability of a portfolio company).

Let’s take a deep breath and sort this out.

Private equity funds usually consist of: (1) partners (aka investors) who belong to a limited partnership and (2) general partner(s) who belong to a limited liability corporation. The partners invest money into the fund with the general partner(s) responsible for managing the fund, including determining in which targets to invest. Once a target is selected, the fund acquires a controlling interest in that portfolio company with the general partners (or their officers, directors, employees, affiliates, or representatives) sitting on the acquired company’s board of directors, directing the company’s business, and affecting policy at the company level. It is that intervention that potentially exposes the private equity fund to being held liable as a co-employer.

But, there are certain exposures that matter more than others.

While the target remains a portfolio company and remains solvent, the potential for being named as an extra defendant is no more than an annoyance and a cost of doing business. Whether it is a claim for unpaid overtime under the Fair Labor Standards Act, a claim for discrimination under Title VII, or alleged unfair labor practices as in Oaktree Capital Management, the cost of defending, settling, or paying judgments routinely will be handed by the portfolio company. The claim’s existence may be a wake-up call on the need to orchestrate the appropriate indemnity provisions in advance, but not a cause for insomnia among the fund’s investors.

Conversely, the claims that matter – and hurt the most– are those that arise either because the portfolio company is failing or after the portfolio company has been flipped. For example, Palladium Equity Partners is illustrative of an expensive issue – withdrawal liability – which arises where an employer participates in but then completely or partially withdraws from (by dissolving or selling the business) an underfunded multiemployer defined benefit pension plan. In Palladium Equity Partners, the amount of withdrawal liability at stake was over $9 million. In BH S&B Holdings, where the triggering issue was the implementation of a reduction in force at a failing entity without 60 days’ notice as required by the WARN Act, the search for upstream pockets to supplement the near- empty pockets of the failing entity was inevitable.

The takeaway? First, going in, set the ground rules clearly in the portfolio company’s by-laws and other corporate governance agreements on indemnification and limit direct (and indirect) investments in any portfolio company that participates in multi-employer pension plans to less than 80 percent to avoid withdrawal liability. Second, structure the involvement to respect corporate formalities; it is the micromanagement of the portfolio company that opens the door to exposing the private equity fund to the portfolio company’s employment liabilities and litigations. Finally, plan the exit from a portfolio carefully:

  • if it is closing, make sure that there has been WARN compliance;

  • if there are pending or asserted claims, consider the likelihood of being named as a defendant; and

  • incorporate proper protection (whether financial or legal: e.g., indemnities) into any sale agreement.

Dianne Rose LaRocca, Associate, dianne.larocca@dlapiper.com

Dianne LaRocca regularly represents and counsels clients on day-to-day labor and employment matters in several industries.

Her practice is balanced between employment and traditional labor law issues. She also works with DLA Piper's Hospitality and Leisure practice.

Dianne represents employers in defending administrative and federal and state court complaints involving equal employment opportunity discrimination, harassment, and wage and hour issues. She regularly advises and trains clients with respect to issues associated with hiring and firing, layoffs, policies and procedures, disability accommodations, family and medical leaves, wage and hour issues, affirmative action programs, employment agreements and separation agreements.

With respect to traditional labor matters, Dianne regularly represents clients at representation proceedings and defends them in unfair labor practice proceedings and appeals before the NLRB. She negotiates collective bargaining agreements and handles grievances and arbitrations. Dianne also advises clients in connection with union avoidance strategies, union organizing campaigns, strikes, and other work stoppages and corporate transactions.

Full Bio

DLA Piper (US)

DLA Piper is a global law firm with 4,200 lawyers in the Americas, Asia Pacific, Europe and the Middle East, positioning us to help companies with their legal needs around the world.

We strive to be the leading global business law firm by delivering quality and value to our clients.

We achieve this through practical and innovative legal solutions that help our clients succeed. We deliver consistent services across our platform of practices and sectors in all matters we undertake.

Our clients range from multinational, Global 1000, and Fortune 500 enterprises to emerging companies developing industry-leading technologies. They include more than half of the Fortune 250 and nearly half of the FTSE 350 or their subsidiaries. We also advise governments and public sector bodies.

Material in this work is for general educational purposes only, and should not be construed as legal advice or legal opinion on any specific facts or circumstances, and reflects personal views of the authors and not necessarily those of their firm or any of its clients. For legal advice, please consult your personal lawyer or other appropriate professional. Reproduced with permission from DLA Piper (US). This work reflects the law at the time of writing in 2014.