Control Over Portfolio Companies Exposes Private Equity Firms to WARN Act Liability

PSZJ Bulletin No. 15
February 2014


A recently published decision by the Court of Appeals for the Second Circuit warns that private equity investors may face liability if they control the affairs of portfolio companies.  See Guippone v. BH S&B Holdings LLC, 737 F.3d 221 (2d Cir. 2013).


In July 2008, the retail apparel chain Steve & Barry’s filed for chapter 11 bankruptcy protection. Two private equity investors, Bay Harbour Management LLC and its related entities (together, “Bay Harbour”) and York Capital Management L.P. and its related entities (together, “York Capital”), created a series of companies to purchase the retailer out of bankruptcy.

In August 2008, one of these entities, BH S&B Holdings LLC (“Holdings”), bought Steve & Barry’s in a section 363 sale approved by the bankruptcy court.  Bay Harbour and York Capital did not have a direct interest in Holdings, but they owned a related holding company, BHY S&B HoldCo, LLC (“HoldCo”), which was Holdings’s sole manager and member. Holdings had no board of directors of its own, and a majority of HoldCo’s board members were representatives of Bay Harbour or York Capital.

The financial crisis ensued in September 2008, and Holdings’s financial condition rapidly deteriorated. In November 2008, the HoldCo board passed a resolution authorizing Holdings to implement staff reductions due to unforeseeable business circumstances.  Holdings began sending WARN notices and termination notices to employees on November 17, 2008, and it filed for bankruptcy two days later to facilitate an orderly liquidation.

One of the terminated employees, Michael Guippone, filed a class action lawsuit not only against Holdings, but also against HoldCo, Bay Harbour and York Capital, arguing that the entities were liable under a “single employer” theory of liability for Holdings’s failure to lay off workers in compliance with the federal Worker Adjustment and Retraining Notification Act (the “WARN Act”). The WARN Act imposes liability on certain employers who order plant closings or mass layoffs and do not provide employees 60 days’ advance notice of their termination.

The district court dismissed the complaint against Bay Harbour and York Capital, ruling that Guippone failed to plead adequate facts to support his claim that the private equity sponsors were employers within the meaning of the WARN Act.

Following discovery and cross-motions for summary judgment filed by HoldCo and Guippone, the district court also dismissed the lawsuit against HoldCo because the employee failed to raise a triable question of fact that would allow a jury to find HoldCo liable under the WARN Act as a single employer with Holdings.


On appeal, the Second Circuit affirmed the district court’s dismissal of Guippone’s complaint against Bay Harbour and York Capital, but it held that the district court erred in dismissing the lawsuit with respect to HoldCo.

The court settled an open question in the Second Circuit regarding the standard for determining whether a lender or equity owner constitutes a “single employer” for purposes of the WARN Act. Like the Court of Appeals for the Third Circuit, the Second Circuit adopted the five-factor balancing test originally set forth by the Department of Labor.  The five nonexclusive factors to determine if related entities are single employers under the statute 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.

With respect to Bay Harbour and York Capital, the Second Circuit ruled that no facts had been alleged showing that either investment firm played a significant enough role in the decision to terminate Holdings’s employees. Although the investors’ representatives met with employees, consulted with Holdings’s management on various issues, and participated in the decision to hire certain members of management in their capacities as members of the HoldCo board, this activity alone was insufficient to show that the investors directed the layoffs and to subject them to liability under the WARN Act.

In contrast, the Second Circuit found that the record contained enough evidence to raise a question of fact as to whether HoldCo had exercised de facto control over Holdings, as opposed to a parent company’s control pursuant to the ordinary incidents of stock ownership. The Second Circuit emphasized that Holdings lacked its own board and that HoldCo’s board chose Holdings’s management and negotiated Holdings’s financing.  As a result, the court found that the plaintiff had raised a triable issue as to whether Holdings was free to implement its own decisions, or if the layoffs were, in fact, directed by HoldCo.


The Guippone decision is another reminder to investors to follow best practices related to corporate separateness and corporate governance of portfolio companies. If investors ignore corporate formalities and exercise de facto control over operating companies, courts likely will look past the company’s separate corporate form and hold deep-pocket investors liable for its employment-related decisions.

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