It’s often hard to tell whether the conflict between environmental cleanup laws and bankruptcy statutes is a bug or a feature. The two seem irreconcilable when the intent of environmental laws to protect public health and safety by imposing cleanup costs on the polluter runs headlong into the Bankruptcy Code’s design to give a debtor a fresh start. Frequently, the latter prevails. The latest demonstration of this friction, and its outcome, came with the October 16 Delaware bankruptcy court’s approval of Exide Holdings, Inc.’s Chapter 11 reorganization plan, which includes abandoning a heavily-contaminated former battery recycling plant in Vernon, California, and leaving the state of California and its taxpayers to pay for the cleanup.
In more than 90 years of operations, the Vernon battery recycling plant, located less than five miles southeast of downtown Los Angeles, emitted dust laden with lead, arsenic and other pollutants that contaminated not just the facility but several nearby communities. The plant operated under “interim” permits for more than 30 years. Exide acquired the facility in 2000, and continued to operate under the interim permits while also conducting corrective actions under a consent order with the California Department of Toxic Substances (DTSC). Exide spent between $70 million and $80 million on cleanup. In addition, thousands of homes in the vicinity of the plant require remediation of lead deposited by the plant’s emissions.
Exide filed Chapter 11 bankruptcy in May 2020 and stopped active closure activities with the imposition of COVID-19 stay-at-home orders. Although Exide tried to find buyers for the Vernon facility, as well as 20 other plants in the U.S., the best offers it could obtain were for less than $30 million for the Vernon site, and all the offers were contingent on either the debtors remaining responsible for environmental liabilities or getting released from such liabilities by DTSC.
Bankruptcy Code Section 554(a) provides, after notice and hearing, for a trustee to abandon any property of the estate that is burdensome or that is of inconsequential value and benefit to the estate. This right also applies to debtors-in-possession by operation of Section 1107(a). Generally, a court need only find the trustee or debtor made: (1) a business judgment on abandonment, (2) in good faith, (3) upon some reasonable basis, and (4) within the trustee’s or debtor’s scope of authority.
A debtor’s estate, however, that includes property with environmental contamination can be subject to greater scrutiny under the 1986 U.S. Supreme Court decision, Midlantic National Bank v. New Jersey Dep’t of Envir. Protection. In that case, a trustee sought to abandon a waste oil processing facility that had more than 70,000 gallons of PCB-contaminated oil stored in deteriorating and leaking containers. The Court ruled 5-4 that abandonment is not authorized unless the bankruptcy court formulates conditions that will adequately protect public health and safety. The Court said that property in a bankruptcy estate cannot be abandoned if a state statute or regulation is reasonably designed to protect the public health or safety from identified hazards.
Subsequent rulings by various courts have read Midlantic narrowly to bar abandonment only where there is both an imminent and identifiable harm and where the debtor’s attempt to abandon contravenes state or local laws or regulations to protect the public. The Third Circuit, where the Exide bankruptcy court sits, focuses on whether the abandonment itself will in any way aggravate an imminent threat of harm to public health or safety, and not on the state of the property itself or who will pay for remediation.
Exide argued in the bankruptcy court that it met all of the conditions for abandonment because the expenses and environmental regulatory burdens associated with the property exceed the sale value of the property and continuing to decommission the site and remediate it was “simply too burdensome and offer[s] no benefit to justify inclusion” of the property in the debtors’ estate. Exide said there is no imminent threat of harm to public health or safety and that abandonment would not aggravate the situation. In its filing with the court, Exide said not only is the entire site paved but, “Daily ambient air samples show that lead and arsenic levels have remained below state-sanctioned levels, on-site structures are in good working order and have effectively contained on-site dust, the wastewater treatment system is in operation, and the surface impoundment pond is currently empty and clean.”
The state of California, faced with having to take over closure and cleanup if Exide abandoned the property, contended the company’s efforts to that point had only been temporary fixes and abandonment would impose all of the risks and costs of closing the plant onto the shoulders of California taxpayers. The state argued that large amounts of dust remain inside the building, with lead concentrations 100 to 1,000 times higher than screening levels and that arsenic and other dangerous materials also remain at significant levels. A waste water treatment system on the site requires ongoing operations and maintenance to prevent and mitigate the risk of contamination reaching groundwater and surface waters. Finally, the state said a temporary enclosure of the building requires daily inspections and repairs to large tears caused by heat and winds.
Following a two-day hearing, the bankruptcy court approved Exide’s reorganization plan, including abandonment of the Vernon site. The court concluded that there is no imminent threat posed because it viewed the adverse health effects of lead as accumulating over time and not immediate, and the lead and other hazardous substances are not volatile or explosive (in the court’s words, “The entire property is not sort of a seething, glowing, toxic lead situation”). The court also said that more than $2 million is immediately available for the state to use and it has access to another $26 million from financial assurances for remediation.
In a subsequent letter, the judge clarified and supplemented his October 16 bench ruling, which he said was “incomplete” due to the exigent nature of the issues before the court and “after two very full days of testimony and argument I was very tired, and my ruling was too glib.” The judge said he was aware of Exide’s legal and moral responsibility to remediate the environmental damage it caused, the health and safety of the community that has been harmed by Exide’s pollution, and that there is a very real risk of harm in the future. The judge, however, said, “Exide should pay its debts, but it cannot. There simply is no available money to do so. Under the governing law, any money available is subject to senior, secured liens that are superior to Exide’s environmental obligations. I lack the power to override that law.” Recognizing that the cost of remediating the site will fall on the state and its taxpayers and “that is neither fair nor avoidable,” the judge said, “Governments exist to serve and protect their citizens. Governments are not free — they rely on taxes. While every effort should be made to have polluters pay to clean up their pollution, if that is not possible it must fall to the government to do so.” The judge’s letter also said there is no question the Vernon site is dangerous and exposure to lead is highly dangerous, but abandonment of the site is not an imminent danger because it is constantly monitored and dangerous polluted areas are contained. He also pointed out that denial of Exide’s plan could jeopardize settlements by the debtors for sites in nine other states.
The Exide case is a cautionary tale for the limits of environmental law in bankruptcy. To a certain extent, the state allowing the facility to operate on an “interim” permit basis for more than 30 years was not helpful to the state’s argument of imminent harm, although it’s not clear whether more proactive agency involvement would have produced a better result or, instead, hastened the inevitable insolvency.
One potential outcome from the Exide case is that it may prompt state environmental agencies everywhere to take a closer look at their regulatory authority to require updated performance bonds, letters of credit or insurance that could be tapped in the event of a bankruptcy. The $26 million in financial assurances available for the Vernon site are not minor but, with the ultimate cleanup cost likely to be substantially more than that, the question is whether the financial assurances should have been renewed and strengthened. To be sure, the same lesson could have been drawn from the 2009 Asarco bankruptcy, which left federal and state agencies to divide up a $1.79 billion fund to clean up more than 80 sites in 19 states. Nevertheless, the Exide abandonment brings that issue into sharper focus at a time when state and local governments are strapped for funds due to the pandemic-related economic downturn.
In a Los Angeles Times editorial after the ruling excoriating the decision, the paper recommended legislation to give super priority status to the state’s environmental liens for cleanup of hazardous waste. Nearly 20 states have some form of superpriority liens, including Washington and Massachusetts, but California does not. Superpriority liens, however, may not be a silver bullet; they come with their own issues and very little case law to shed light on how the few existing schemes should work. In any event, the costs of the Exide cleanup are enormous. An audit by the state released days after the ruling faulted DTSC for being behind schedule on cleanup and failing to address nearby contaminated properties that pose a high risk to residents. It concluded that the agency, which has spent $250 million so far to clean up neighboring properties, will probably spend another $450 million to finish the job. Thus, it’s unlikely that any performance bond or superpriority lien would have been able to defray those costs.
The clashes between environmental law and bankruptcy date back to the birth of modern environmental statutes in the 1980s and the situation shows no sign of resolution or abatement in the near future. Indeed, with the COVID-19 pandemic putting extra pressure on businesses, we’re likely to see more situations like Exide in the coming years.
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