Walter Godchaux, Jr. v. Conveying Techniques, Inc.
Docket: 87-3398
Court: Court of Appeals for the Fifth Circuit; June 6, 1988; Federal Appellate Court
Walter Godchaux, Jr. sold his manufacturing business, Nadustco, to Conveying Techniques, Inc. (CTI) on December 30, 1982. A year later, CTI withdrew Nadustco from its union-negotiated, multiemployer pension plan, incurring a withdrawal liability of $225,753 as notified in a May 15, 1984 letter from the pension plan. This liability arises under 29 U.S.C. Sec. 1381 for employers withdrawing from such pension plans. Following the payment of this liability, CTI ceased payments on a promissory note owed to Godchaux as part of the acquisition agreement.
On January 25, 1985, Godchaux filed a diversity suit claiming $141,913.04 for breach of contract, arguing that CTI failed to inform him about the unfunded pension liability of Nadustco. CTI countered that Godchaux breached warranties in their sales contract by not disclosing this liability, leading to a counterclaim for $171,086.88, reflecting the withdrawal liability minus the outstanding payments to Godchaux.
The district court ruled in favor of Godchaux, determining he did not breach any warranties, which resulted in a judgment for his breach-of-contract claim and the denial of CTI's counterclaim. CTI appealed the decision, but the appellate court affirmed the district court's ruling. The sale negotiations between Godchaux and CTI involved financial statements that did not disclose Nadustco's pension plan or potential withdrawal liabilities, which influenced the sale agreement.
Under a sales agreement signed on December 2, 1982, Godchaux and other shareholders sold Nadustco to CTI for $600,000, with $300,000 paid in cash and $300,000 in a promissory note at 12% interest. The agreement included express warranties, one of which required Nadustco's financial statements to disclose the condition of its union pension plan, governed by a collective bargaining agreement with Local 11 of the Sheet Metal Workers International Association. After acquiring Nadustco, CTI determined that the pension plan was a burden and ceased Nadustco's operations on December 31, 1983, relocating them to Texas, which allowed CTI to exit the pension plan.
However, this dissolution triggered potential liabilities under 29 U.S.C. § 1381, which holds employers liable for a share of the unfunded vested liabilities of a multiemployer pension plan upon withdrawal. CTI claimed that Nadustco had an unfunded liability of $225,753, which they assert Godchaux is responsible for due to a breach of warranty regarding undisclosed liabilities. CTI contends that the withdrawal liability existed from the time the pension plan incurred an unfunded vested liability, arguing that Godchaux's indemnification obligation for undisclosed liabilities applies here. Consequently, CTI ceased payments on the promissory note, prompting Godchaux to sue for breach of contract.
Godchaux contends that he did not breach any warranties and asserts that withdrawal liability arises only upon actual withdrawal from the pension plan. He also claims that Nadustco's financial statements were prepared in accordance with generally accepted accounting principles, as warranted. The determination of whether Godchaux breached the warranty hinges on the timing of when withdrawal liability first arose concerning Nadustco. If it existed before the sale, Godchaux would be liable; if it arose only upon actual withdrawal, then CTI would be responsible for triggering it. The resolution lies in interpreting the relevant statutory provisions.
Section 1381(a) establishes that an employer becomes liable for withdrawal liability only after it withdraws from a multiemployer pension plan, either completely or partially. This interpretation suggests a sequence: an employer joins the plan, then withdraws, and only then does withdrawal liability arise. CTI contends that ERISA’s minimum funding requirements inherently create withdrawal liability, arguing that the withdrawal liability provisions merely determine the timing and recipients of payments rather than defining withdrawal liability itself. However, this view is rejected, as the existence of withdrawal liability is contingent upon actual withdrawal from the plan and is not universally applied to all employers with unfunded vested liabilities.
The timing of withdrawal significantly impacts both the amount and existence of withdrawal liability. For instance, Nadustco's withdrawal on December 31, 1983, meant its liability was calculated based on unfunded vested liabilities from earlier plan years. Had the withdrawal occurred one day later, the calculation would have included an additional year, potentially altering the liability. Furthermore, the unfunded vested liability is subject to fluctuations based on various factors including investment management, actuarial accuracy, and benefit levels.
CTI fails to provide alternative means through which Nadustco or Godchaux would be liable for any unfunded vested liabilities, leading to the conclusion that Nadustco would not have incurred such liabilities had it not voluntarily withdrawn from the plan.
CTI asserts that withdrawal liability equates to the unfunded vested liability of the pension plan, referencing the case Trustees of Amalgamated Insurance Fund v. McFarlin's, Inc. In this case, the Second Circuit addressed how withdrawal liability is treated in bankruptcy. McFarlin's filed for bankruptcy but withdrew from its multiemployer pension plan months later, leading the pension trustees to seek classification of the withdrawal liability as an "administrative expense," which holds priority over other debts per 11 U.S.C. Sec. 503(b)(1)(A). The court ruled that for a debt to qualify as an administrative expense, it must arise from transactions occurring after the bankruptcy filing. It determined that McFarlin's withdrawal liability was linked to employee work performed prior to bankruptcy, thus not qualifying as an administrative expense since it was not for the benefit of the debtor post-bankruptcy.
The ruling emphasized that withdrawal liability's purpose is to uphold the pension plan's solvency for pre-bankruptcy work, distinguishing it from administrative expenses. Further, the Seventh Circuit case Peick v. Pension Benefit Guaranty Corp. explored the constitutionality of withdrawal liability under the Multiemployer Pension Plan Amendments Act (MPPAA). It concluded that withdrawal liability is incurred when an employer withdraws from the pension plan, affirming that this timing is rational and does not violate the due process clause. Peick suggested that withdrawal liability is established at the point of withdrawal, although it did not provide a definitive interpretation of the MPPAA provisions.
The court finds the reasoning in Peick persuasive, rejecting CTI's claim that section 1381 equates withdrawal liability with unfunded vested liability. The court concludes that withdrawal liability does not equate to an already determined unfunded vested liability, considering CTI's argument conceptually flawed and unsupported by case law. It highlights that Nadustco's withdrawal liability arose solely from CTI's decision to exit an unfavorable union contract, not from any actions or knowledge of Godchaux, thus Godchaux did not fail to inform CTI of any liability prior to Nadustco's withdrawal.
Regarding CTI's assertion that Godchaux breached a warranty related to financial statements not being prepared according to generally accepted accounting principles (GAAP), the court identifies three sub-issues for determination: the rules for interpreting the contract, the meaning of "generally accepted accounting principles consistently applied," and whether Godchaux breached this warranty as interpreted. In diversity cases, the substantive law of the state where the district court sits applies, including its choice-of-law rules. Here, Louisiana law governs since the contract was executed in that state, which looks beyond the contract's language only if ambiguity exists. If the terms are clear, no further interpretation is necessary, but if ambiguous, the parties' intent must be inferred from surrounding circumstances.
Interpretation of a contract is a legal issue reviewed de novo if its provisions are clear and unambiguous. If the warranty terms are ambiguous, the district court's factual findings regarding the parties' intent will be upheld unless clearly erroneous. The warranty in Paragraph 6(f) required Godchaux to ensure that Nadustco's financial statements were prepared in accordance with generally accepted accounting principles (GAAP) from January 1, 1975, to December 31, 1981. GAAP is a term of art with specific legal implications, consisting of general principles, published standards from the AICPA, customary practices, and relevant literature in accounting. However, GAAP allows for flexibility, as established in Thor Power Tool Co. v. Commissioner, permitting accountants to choose from various acceptable treatments of transactions. The district court must defer to the judgment of the accountant who prepared Nadustco's statements, determining only if the chosen procedures were among generally accepted accounting practices and if they were consistent with those used in prior statements. The contract does not impose strict limitations on the accountant's discretion beyond the flexible accounting norms, and the phrase "consistently applied" must be interpreted in light of Nadustco's past practices. Consequently, the contract's language does not definitively establish whether Godchaux breached the warranty, necessitating a review of extrinsic evidence to ascertain the parties' intent.
Extrinsic evidence clarifies key aspects of the agreement concerning the sale of Nadustco. The contract's purpose indicated that accurate financial statements were needed to assess Nadustco's value. With limited time before closing, the parties directed accountant Joel Rappaport to review, but not fully audit, Nadustco's mid-1982 financial statement. Following Rappaport's release of these statements, the parties renegotiated and amended the sale price to match the original agreement, which included a warranty stipulating that the December 31, 1982, financial statement would comply with generally accepted accounting principles (GAAP). This warranty permitted adjustments to CTI's promissory note based on the December 31 financial data.
The evidence indicates that Godchaux warranted the accuracy of Nadustco's financial statements in reflecting its value. The district court's finding in this regard was not clearly erroneous. Under GAAP, financial statements are not required to disclose immaterial information; only material information must be included, meaning information that could influence a reasonable businessperson's evaluation of value. A representation is considered material if it is substantial enough to affect a party's decision-making. In fraud cases, materiality pertains to whether a party would have acted differently if aware of the truth.
The financial statements were specifically designed to determine Nadustco's value and thus did not need to include irrelevant details. Additionally, historical financial statements from 1975 onwards, prepared by different accounting firms, consistently omitted information about Nadustco's union pension plan. This pattern supports the district court's conclusion that the parties did not expect Rappaport to disclose the pension plan details in the recent financial statements.
The district court accurately interpreted Godchaux's warranty regarding the preparation of Nadustco's financial statements in accordance with "generally accepted accounting principles" (GAAP). However, the term "GAAP" lacks a definitive definition, though the contract allowed Rappaport the discretion to apply any consistent GAAP since 1975. The court sought to ascertain the factual intentions of the parties, finding no clear errors in its conclusions. It determined that the parties intended for the independent auditor to prepare financial statements reflecting solely Nadustco's value, with "GAAP" requiring Rappaport to disclose only material information relevant to that value. The court established that the accounting practices since 1975 included not disclosing information about Nadustco's union pension plan.
The court evaluated whether its application of Paragraph 6(f) of the contract to the case was erroneous. It concluded that Rappaport's decision not to include union pension plan details was based on professional judgment and deemed immaterial to Nadustco's value. The district court found sufficient evidence to support these conclusions and affirmed that Godchaux did not breach the warranty. Rappaport's certification that he prepared the reports according to GAAP, along with additional supporting evidence, reinforced the court's findings. This included a checklist used during preparation and the implication of the union pension plan's existence through discussions of a separate non-union pension plan in the financial statements.
Evidence indicated that the unfunded vested liability of the union pension plan did not significantly impact the valuation of Nadustco. Experts from both Nadustco and CTI confirmed that this liability did not affect Nadustco's "bottom line" value. CTI was aware of key details regarding the multiemployer pension plan, including its existence, coverage, and contributions made in 1981 and 1982, as this information was provided through the union contract delivered by Godchaux at the time of sale. Notably, CTI operated Nadustco for a year without raising concerns about the pension plan's unfunded liability, suggesting that it did not alter Nadustco's perceived value during negotiations.
The district court assessed Nadustco's accounting practices and found that the unfunded vested liability was not considered material, supported by the absence of such information in financial statements since 1975 by various accounting firms. The court concluded that Godchaux did not breach his warranty regarding Nadustco's financial statements.
CTI also sought to amend its complaint to assert a claim of securities fraud against Godchaux, which the court denied. To establish securities fraud, CTI needed to demonstrate a misstatement or omission of material fact, made with intent, upon which it justifiably relied, leading to its injury. However, since the district court had previously ruled that Nadustco's financial statements did not omit material facts affecting its value, the court affirmed the denial of CTI's claims for securities fraud against Godchaux. The overall judgment was upheld.
The two warranties in paragraph 6 of the contract assert that the financial statements of Nadustco are accurate, complete, and prepared in accordance with generally accepted accounting principles for the period from January 1, 1975, to December 31, 1981. Additionally, it is warranted that Nadustco had no undisclosed liabilities, except as noted in its financial statements. The collective bargaining agreement requires Nadustco to pay $1.30 per hour worked by union employees, with no obligation to cover any part of the pension plan's unfunded liabilities. Under 29 U.S.C. § 1381, an employer withdrawing from a multiemployer plan is liable for withdrawal liability. Godchaux agreed to indemnify CTI for breaches of these warranties, including liabilities not disclosed in Nadustco's financial statements. CTI does not claim evidence of any undisclosed liabilities beyond withdrawal liability and admits that Nadustco's obligations are limited to the hourly payment for union employee work. ERISA mandates minimum funding requirements, and the unfunded vested benefits considered are for each plan year before the employer’s withdrawal. CTI's figures indicate that the unfunded vested liability of the pension plan significantly decreased in 1982. The legal definition of "withdrawal liability" is unaffected by market performance.
When an employer withdraws from a pension plan, it influences not only the timing and method of withdrawal liability payment but also the potential changes in the liability amount. Godchaux had no control over CTI's decision to withdraw or the resulting withdrawal liability compared to the unfunded vested liability that would have appeared in financial statements at the sale date. The court does not evaluate alternative legal mechanisms that could compel an employer to take on a share of the unfunded vested liability, as CTI has not demonstrated how such mechanisms could impact its situation.
The withdrawal liability arose solely from CTI's unilateral business decision regarding the management of purchased assets from Godchaux. Any liabilities incurred by CTI from utilizing those assets, such as tort or environmental liabilities, would not be attributable to Godchaux. Thus, CTI’s actions, aimed at maximizing the purchased business's economic potential, should not harm Godchaux due to CTI's failure. CTI's reliance on case law, particularly the decision in Trustees of Amalgamated Ins. Fund v. William B. Kessler, Inc., is noted but not seen as conflicting with the current decision.
The unfunded vested liability could potentially diminish through asset appreciation or an influx of new employee participants requiring contributions. Conversely, if asset values do not increase or if the number of employees whose benefits vest grows disproportionately, the deficiency may worsen. Other influencing factors include the conservativeness of benefit levels and calculations based on life expectancy and interest rates.
Various cases support the interpretation of Section 1381, indicating that certain transactions may be exempt from withdrawal characterization, thereby moderating a withdrawing employer's liability.
Congress established withdrawal liability to discourage employers from withdrawing from pension plans, as noted in several cases, including Transport Motor Express, Inc. v. Central States Pension Fund. A pension fund cannot assess withdrawal liability unless a withdrawal has occurred under the Multiemployer Pension Plan Amendments Act (MPPAA). The interpretation of contractual provisions, specifically Godchaux's warranty in paragraph 6(g), is agreed upon by both parties. The principles of contractual interpretation apply, with ambiguities typically resolved through the contract's language, allowing for interpretation without needing to establish facts. However, if a contract is entirely ambiguous, extrinsic evidence may be required for resolution, classifying such issues as factual questions subject to the clearly erroneous standard of review.
Additionally, terms like "generally accepted accounting principles" should be contextualized relative to the specific business type involved. Courts have upheld accounting methods that take into account the nature of the business sold, provided there is no concealment or misrepresentation during negotiations.
The amendment modified the promissory note from $300,000 to $227,000 and adjusted the purchase price of Nadustco from $600,000 to $527,000. The terms of the promissory note were subsequently realigned based on a financial statement. CTI heavily references FASB and APB standards, particularly FASB Statement No. 35, Statement No. 36, and APB Opinion No. 8, which outline principles for reporting pension plan information in financial statements. Experts agreed that these principles apply only to material undisclosed information, with FASB Statement No. 36 stating that immaterial items need not be reported. The concept of "materiality" varies across legal contexts but generally refers to the significance of omitted facts to a reasonable investor, as established in TSC Industries, Inc. v. Northway, Inc. In criminal law, materiality pertains to evidence that could alter the outcome of a trial, as described in Brady v. Maryland and United States v. Bagley. The contract required financial statements to comply with generally accepted accounting principles consistently from January 1, 1975, to December 31, 1981. CTI acknowledged awareness of the union pension plan but disputed its classification as either a defined benefit or defined contribution plan, arguing that its classification did not materially impact Nadustco's overall value. CTI claimed withdrawal liability represented approximately 40% of the purchase price, asserting its materiality; however, the determination hinges on whether this liability affected Nadustco's value at the sale date. The Federal Rules of Civil Procedure (Rule 15(a)) outline the conditions under which a party may amend pleadings, with an emphasis on the "abuse of discretion" standard for reviewing a district court's denial of such motions.
