Environmental Mission Stopper
When we are doing our Family Business Assessment, part of the process is to consider issues related to the Risk Management platform of a family business. One of the critical risk factors for a family business at succession time is dealing with environmental issues – they can become an Environmental Mission Stopper to the exit strategy of a family business owner.
To put this problem in perspective, one of the strategic strengths of a family business is their ability to have a long-term view of their business – often times that view is generational.
“However, there is a downside to generational family businesses,” notes family business strategy master Don Schwerzler. “For many family businesses, they discover an “environmental time bomb” that is part of the legacy of the family’s business. and that becomes an environmental mission stopper to the succession process.”
For example, when Grandpa started the meat processing business, it was a routine practice to dispose of waste into the stream that crossed the property in back of the plant. Over time that disposal method became illegal and the company stopped the practice.
However, while the disposal practice may have stopped, the property can still be an environmental nightmare for the family. Often these environmental problems are first recognized at succession time – when the business owner is planning for retirement.
There are only a few major exit strategy options for the business owner – passing the business to the next generation of family, selling or merging the business to an outside organization or the liquidation the business.
Regardless of the owner’s exit strategy – once identified, those “environmental time bombs” will have to be addressed. Just as the business owner is ready to retire, up pops an “Environmental Mission Stopper (EMS)” which results in the owners exit strategy being put on an indefinite hold while the family deals with federal, state and local regulatory agencies.
To provide some insights into those environmental issues that can impact the succession plan, Family Business Experts editors interviewed one of the leading environmental experts who help family businesses deal with environmental problems. Our Family Business Environmental Expert’s credentials include a Masters of Science Hazardous Waste Management, Certified Hazardous Waste Manager, Senior Environmental Scientist, Expert Witness, Author, Speaker, Adjunct Professor
FBE - Question #1: In your experience are there any specific “Environmental Mission Stoppers” (EMS’s) that you have seen stop a business transaction?
JB - Answer: That is a difficult question to answer since everyone’s risk tolerance relative to a deal is different. Further, an environmental mission stopper can come in a variety of shapes and sizes. To further complicate the scenario, it often depends upon whether there is financing involved. Lenders add another level of scrutiny and often a different risk tolerance than a buyer. In general, I can say that I have not seen too many deals that totally went south, but I have seen many deals that have been held up, often significantly, due to an unforeseen environmental issue.
FBE - Question#2: So, considering that answer, let’s whittle it down a little. You said that an environmental mission stopper can come in a variety of shapes and sizes. Can you expand on that?
JB - Answer: Sure. An environmental mission stopper can be related to the real property or they may be related to operations. Real property EMSs are usually related to contaminated soil or groundwater. The contamination can be related to the ongoing business operations or they may be from something that happened before the current business was operating. These “legacy” or “sins of the past” are issues that are usually brought forth during the environmental due diligence process such as the Phase I Environmental Site Assessment (ESA). Operational EMSs are usually related to the current operations and whether they are being conducted in compliance with environmental regulations, of which there are many. These are often brought to light through a compliance assessment, or worse, a visit from the USEPA or a state regulator.
FBE - Question #3: Let’s tackle the due diligence first. Can you explain or give an example of how the due diligence can uncover environmental mission stopper to the succession planning process.
JB - Answer: As I mentioned, the environmental due diligence starts with a Phase I ESA. The Phase I is sort of detective work. It is comprised of three main steps including an information investigation, interviews, and a site inspection and is designed to find out if there are “environmentally bad things” called Recognized Environmental Conditions (RECs) associated with the property. In other words, are there “things” in the history of the property use that could have resulted in left over chemical contamination in soil or groundwater? This process is set up to provide a new purchaser of property a liability exemption to cleaning up contamination that they did not cause. Remember, this may have occurred before the current business took over.
Another way of looking at this is I am a “property doctor” and I am giving the property a physical from head to toe. At the end of the physical, the property may get a clean bill of health, a diagnosis of a common cold, or there might be something really wrong and we need to do a few more tests. Just what those tests are and how many are dependent upon the situation. You are basically asking how bad is it? And is it bad enough to kill the deal?
FBE - Question #4: So, if you uncover an REC, does that “kill” the deal?
JB - Answer: It is not uncommon to identify RECs during a Phase I ESA. Yet, property transactions continue to occur every day. So, my answer is a definitive, qualified…”it depends”. As I mentioned, I have not seen many deals go south solely because of the environmental and I have been doing transactional due diligence since the late 1980s. The key is putting the RECs into proper perspective. That usually means conducting soil and groundwater sampling and depending upon the results, the parties doing the deal can usually work something out financially and contractually to make the deal work. Things like escrowed monies, indemnifications, insurance, adjusted sale price, etc.
However, “proper perspective” is not always what it may seem. We got involved in a lawsuit as an expert witness representing a client that bought what they thought was a “small” contamination issue but turned out to be a much larger issue. Their original consultant “missed” a significant area of contaminated groundwater during due diligence (Phase I, II and more) and it prevented the client from developing the property. It was a development worth millions of dollars. That may have been one of those instances where had the “proper perspective” been known, the deal would have gone south before it became a litigation issue. The litigation costs were in the millions.
FBE - Question #5: Wow. So it is truly a buyer beware!
JB - Answer: I can’t stress enough that you need to find a consultant who you can trust. The due diligence process is much more than a checklist. It is about gathering appropriate information such that the transaction can be viewed with widely, opened eyes and with open eyes creating a strategy that fits the economics and risk tolerance of the deal. I believe that way too many people simply hire a consultant (any consultant) and view the environmental due diligence as simply a hurdle to get through and then set it aside. Many EMSs have life after the deal and you need to understand what that means.
FBE - Question #6: What do you mean by “life after the deal”
JB - Answer: If you purchase a property that has residual contamination, you can get exemptions under CERCLA from the responsibility to clean up known contamination. This is known as All Appropriate Inquiry (AAI) and a bona-fide prospective purchaser (BFPP). However, you also have what are referred to as “continuing obligations” under CERCLA. Continuing obligations require you to “manage” that residual contamination and to prevent exposure to and exacerbation of that contamination. The burden of that obligation is dependent upon the type, levels, extent of the contamination and your use of the property. These can be administrative and/or engineering in nature. This gets back to what I was saying about “proper perspective”, because if you fail at your continuing obligations you can lose your liability exemption.
FBE - Question #7: You mentioned compliance with environmental regulations. How does this create an environmental mission stopper - impacting deals or transferring the family business?
JB - Answer: If the business handles chemicals it is likely regulated under some environmental law; and there are many. It is an alphabet soup that includes CERCLA, SARA, CWA, CAA, RCRA, and TSCA to name just some of the main regulations. There are environmental regulations for chemical handling, air emissions, wastewater discharges, solid and hazardous wastes, and the list goes on and on. Each of these can have their own requirements for reporting obligations, permits, documenting and monitoring, plans for handling a release, etc. It is difficult for large corporations to keep up with the regulations and the changes that occur; let alone, a small or medium sized family business. Accordingly, it is not uncommon to see family businesses that are not in compliance with environmental regulations, and often this is just because they did not know.
Typically, when this comes into play is at succession time. For instance, when the business is “handed down” in the family, the new generation of owners can think everything is fine and get hit with an environmental mission stopper - a notice of violation from a state or federal regulator. This may not sound too bad, but the fines associated with some of these regulations can be as high as $32,500 dollars per day per occurrence. That can add up quickly!
I had a multinational corporate client that had an environmental department that got hit with a $625,000 fine over an interpretation of a waste regulation. The corporation had been handling their waste using this same process for many, many years. They never had any release to the environment and handled all their waste in a prudent manner but the regulator interpreted the waste handling procedures differently than the corporation and wrote a notice of violation. The corporation was able to get the fine reduced but spent significant money in the process. They also had to modify their process. I think you can see how this could be devastating to a smaller business. Fines such as these or the money spent to fight the allegations could shut down a small-medium sized family-owned business.
FBE - Question #8: Why do you think family businesses are especially at risk for an environmental mission stopper?
JB - Answer: “Because that is the way we have always done it.” I often get this response to questions regarding chemical and waste handling at small firms. As you can see from earlier in this discussion, some of the practices that grandpa or dad did when he was starting the company were normal and acceptable, but now would be considered illegal. The environmental mission stopper issues and potential associated financial implications associated with those practices carry forward through the succession process.
FBE - Question #9: So how does a family business owner avoid these pitfalls as he/she is planning for retirement and expects to sell the business or hand it down to the next generation?
JB - Answer: You used the word in your question…PLAN. Too often, I get calls very “late in the game” to provide an environmental assessment of a property/business. If my work uncovers any of the environmental mission stopper issues that we have discussed, the deal slows to a snail’s pace while the issues are “put in perspective.” That “perspective” can take time and money to generate a “proper perspective.” Accordingly, if I can make any recommendation, it is to start the process of strategizing for the transfer of the business early, rather than later - and to include a trusted environmental expert as part of your team of business and legal advisors. Putting off the planning has the potential to interfere with retirement plans, hold up succession of the business to the next generation, and slow down or stop the sale of the business.
If you are a family business owner and have a question about a potential environmental mission stopper issue with your family business, use the ASK THE EXPERT form to arrange for a confidential conversation with our Family Business Environmental Expert.