The Third Circuit Court of Appeals recently held for the first time that a predecessor’s wage-and-hour violations under the Fair Labor Standards Act (FLSA) can result in liability for a successor employer. The Third Circuit’s endorsement of successor liability provides plaintiffs with an additional avenue of recovery for alleged wage-and-hour violations. The ruling reinstated a New Jersey putative class action suit against a mortgage underwriter for its alleged failure to pay overtime compensation in violation of the FLSA and New Jersey State Wage and Hour Law. Both the FLSA and the New Jersey Wage and Hour Law require employers to compensate non-exempt employees for overtime worked in excess of 40 hours in any given week.
The plaintiff, Patricia Thompson, sued Security Atlantic Mortgage Company (Security), her original employer, and Real Estate Mortgage Network (REMN), the successor company to Security, alleging that throughout her employment with both entities, underwriters were treated as salaried workers exempt from overtime pay and worked more than 40 hours per week without compensation. The trial court had dismissed the case for failure to state a claim upon which relief could be granted; Thompson immediately appealed the dismissal rather than amending her complaint. Thompson argued that not only was REMN responsible for its own violations of the aforementioned statutes, but it was also liable for Security’s violations based on a theory of successor liability. The Third Circuit Court reviewed whether the test for determining successor liability under the FLSA was the federal common law standard, as Thompson argued, or the higher standard used for claims under the New Jersey Wage and Hour Law that was suggested by the defendants.
The Third Circuit opinion discussed the differences between the two tests for successor liability and reasoned that the federal common law test “... presents a lower bar to relief than most state jurisprudence” and “was designed to impose liability upon successors beyond the confines of the common-law rule when necessary to protect important employment related policies . ...” Pursuant to New Jersey law, a successor company would not normally assume any debts or obligations of its predecessor unless the following exists: (1) the successor expressly agrees to assume the predecessor’s debts and liabilities; (2) the sale transaction reflects a merger of the successor and predecessor; (3) the company who acquires the predecessor is simply a “continuation” of the predecessor company; or (4) the transaction was entered into to allow the predecessor to fraudulently avoid responsibility for its liabilities and debts. Rejecting this test and holding that the federal common-law approach should be applied, the Third Circuit said the following three factors should be reviewed to determine if successor liability is appropriate: “(1) continuity in operations and workforce of the successor and predecessor employers; (2) notice to the successor-employer of its predecessor’s legal obligations; and (3) ability of the predecessor to provide adequate relief directly.”
The Third Circuit relied on decisions rendered by the Seventh and Ninth Circuits, which applied the federal common-law standard in extending successor liability to FLSA claims, indicating that such a result would be “the logical extension of existing case law.” The Third Circuit reasoned that its application of the federal common-law standard to the FLSA is consistent with its use in evaluating claims under other labor and employment statutes, like the NLRA, Title VII, and ERISA, which aim to ensure labor peace and protect workers’ rights. Because employees have no control over a sale by their employer for the purpose of avoiding existing liabilities to them, “... the imposition of successor liability will often be necessary to achieve [the] statutory goals …” of these statutes and the FLSA. Furthermore, the court explained that adopting the easier standard makes it more difficult for a violator to escape liability by simply selling its assets to a buyer, who chooses not to assume associated liabilities, and then dissolving.
Plaintiff Thompson met her burden as to the first factor by alleging “all facets of the business at issue, including operations, staffing, office space, e-mail addresses, employment conditions, and work in progress, remained the same” after REMN took control, reflecting a clear “continuity in operations and workforce.” As to the pre-transfer notice of the predecessor’s legal obligations, the court found that Thompson satisfied this factor by alleging that Security was controlled by similar management, including the two individual defendants in the lawsuit who worked at each of the employers, who dictated payroll and scheduling, and who therefore possessed knowledge of the predecessor’s “systematic” violations of the FLSA. Lastly, as to the third factor, Security represented in its filings with the court that it was now “defunct” and, therefore, unlikely to be able to satisfy any future damages that may be awarded to Thompson in the case. The court deemed Thompson’s allegations satisfactory to assert a viable claim under the FLSA and stated that REMN gave “no compelling reason why the federal common-law standard should not be applied.” The court also reinstated the plaintiff’s claims under the New Jersey Wage and Hour Law, holding that her allegations were sufficient to maintain a claim under the more stringent state law standard as well.
Under normal circumstances, as part of the due diligence process, an acquiring company will assess any potential state or federal wage-and-hour violations that a predecessor may have committed in order to properly determine the existence or extent of successor liability. As a result of this new approach adopted by the Third Circuit, companies acquiring new businesses, even under an asset purchase, should be aware that FLSA and state wage-and-hour violations by the predecessor may present a viable claim against them for the predecessor’s employees, even after the deal is done.