Our first stint in a law firm was on the transactional side. Yes, it sounds crazy even to us, but we spent our first 18 months in the profession pulling all-nighters on triple-tier financings of leveraged buyouts, doing clueless due diligence in far-flung back-offices, drafting trust indentures, ‘slugging’ at the printers, and collecting acrylic cubes as gaudy monuments to all those 23 billable hour days. There was one problem: we labored in pure, unadulterated idiocy. We would negotiate incessantly over boilerplate whilst the truly important issues crept by us without our paying the slightest attention to them. Eventually, we were visited by Feedback, that process law students think they want from their future employers but maybe really shouldn’t. There is something to that ignorance-is-bliss business. But we were not completely ignorant; we suspected that we were doing a rotten job. It turns out that we were not alone in that assessment. Our supervisor gently sat us down and reported that we were becoming widely known as the Deal Doofus. Every hour we devoted to a matter required two or three hours from a senior associate to remedy. Our transactional sojourn simply was not working out for anyone. But we didn’t need to box up our personal belongings, hand in our key-card, and head for the exit just yet. There was an alternative: get thee to the Litigation Department. And so we did.
It is possible we learned nothing from our brief duncitude in the Corporate Department save a little bit of humility. Then again, we might have learned this: if you acquire a corporation via merger or stock sale, you also acquire that corporation’s tort liabilities. By contrast, if you acquire the corporation’s assets, you probably don’t acquire the tort liabilities. As a product liability litigator, we have come to know this as the issue of successor liability. That issue enjoys its own mention in this blog’s index, which you can find to the lower-right side of this post. Perhaps we do not bloviate over that topic nearly so much as preemption, but it can be important. It can be a get-out-of-jail card, a way of extricating a client from a case before the hyper-expensive merits-discovery machine gets rolling.
Shortly before the end of 2017, we wrote a post entitled “EDNY Rejects Successor Liability in Hip Implant Case.” That case involved product liability claims against a hip implant manufactured by Portland, an Australian company, that had sold its assets before the plaintiffs filed their action. One of the parties sued by the plaintiffs was Portland, but that went nowhere because it was apparently judgment proof. The plaintiffs also sued the company that acquired the assets, including the hip implant business. Applying both New York law (because it governed) and Pennsylvania law (because it was fun), the court held that there was no successor liability because the acquirer had not expressly assumed liability, there was no continuity of ownership or management, it was not a mere continuation of the business, and the acquisition was not a fraudulent effort to evade liability. The court also looked at whether the product line exception – available under Pennsylvania but not New York law – might save the case for the plaintiffs. The answer was “No” because the acquisition did not cause the former company’s insolvency, and the acquirer did not purchase the predecessor’s good will. Part of the rationale of the product line exception is that a company should not profit from the predecessor’s good will whilst also dodging responsibility. But that did not happen the in the EDNY case.
It also did not happen in the case we discuss today, Gentle v. Portland Orthopaedics Ltd., 2018 WL 771333 (E.D. Wash. Feb. 7, 2018). That case applied Washington state law and also concluded that successor liability, whether viewed through traditional principles or the dreaded product line exception, did not apply to the product liability claims. The claims were similar to the EDNY case. The defendants were similar. The analyses were similar. So were the results. Perhaps we have an area of drug and device liability law that is pretty well resolved.
In Gentle, the plaintiffs argued that the defendants were liable as manufacturers/sellers under the doctrines of successor liability, acting in concert, agency, and vicarious liability. The actual manufacturer (Portland, just as in the EDNY case we blogged about last December) went bankrupt. The moving defendants acquired substantially all the assets associated with the hip implant product line. Standard successor liability would not work here, because we have none of the following: (1) the purchaser expressly or impliedly agrees to assume the obligations of the predecessor; (2) the transaction amounts to a consolidation or merger; (3) the purchasing corporation is merely a continuation of the predecessor; or (4) the transaction is fraudulent and intended to escape liability. But the Washington Supreme Court adopted the product line liability rule, so we’re not done yet.
The theory behind the product line liability rule is that the “benefit of being able to take over a going concern manufacturing a specific product line is necessarily burdened with potential product liability linked to the product line.” To prove product line liability under Washington law, a plaintiff must show that the product line transferee: has acquired virtually all of the transferor’s assets; holds itself out as a continuation of the transferor by producing the same product line under a similar name; and benefits from the transferor’s goodwill. Washington law also limits the product line liability rule to cases where the predecessor corporation must be unavailable as a source for the plaintiff’s remedy and the successor corporation must have contributed to the predecessor’s unavailability. The plaintiff argued that that last requirement of causation was not truly part of the test, but lost, and that’s too bad for the plaintiff because the court concluded that the successor companies “did not cause the destruction of Plaintiffs’ remedy against Portland Ortho.” Further, the plaintiffs did not demonstrate that the defendants had acquired substantially all of Portland’s assets. For instance, they did not acquire assets related to the manufacture and distribution of the hip implant product line outside the United States, nor did they acquire accounts receivable, cash, contracts, or goodwill. Just as in the EDNY case, the failure to acquire goodwill was a key point in the court’s reasoning: “Under Washington law, product line liability contemplates the benefits derived from the goodwill of the corporation, not a single product line.” Indeed, the plaintiffs conceded that the original manufacturer had no goodwill at the time of the asset purchase. Thus, the Gentle court had no problem granting summary judgment to the plaintiff.
So if any of you litigators have to play transactional lawyer sometime in the future, or if you are merely rendering advice to colleagues working on an acquisition, do not be shy about advising them to choose an asset purchase over a stock purchase if possible, to find some assets to exclude from the deal, and no-way-no-how buy the goodwill. Maybe the result is that you’ll have one less litigation to handle down the road, or maybe such litigation will be way easier to win. Either way, your client will likely be happier.