Private equity fund investors beware: Sun Capital revisited again

I have previously covered the Sun Capital case, in which two affiliated private equity funds operated by Sun Capital partners were held to be potentially liable for the multiemployer pension plan withdrawal liability owed by one of their jointly-owned portfolio investment companies. The court’s holding is a significant concern for private equity funds as many of them, in an effort to avoid these types of liabilities, structure their operations and portfolio investment holdings in a similar manner as used by Sun Capital partners.

Withdrawal liability is due when a participating company incurs a complete or partial withdrawal from a pension plan jointly operated by a union and contributing employers (a multiemployer pension plan). Such liability is jointly and severally owed by the participating company incurring the withdrawal and by each other “trade or business” in which it is under “common control.”

Recent developments

When we last left off, the First Circuit Court of Appeals had remanded the case back to the District Court, the same court that had originally determined that the private equity fund was not liable for the obligation, to reconsider its determination utilizing the “investment plus” concept articulated by the circuit court. The District Court issued its ruling on Monday, finding that the two private equity funds were “trades or businesses” and were under “common control” with each other and the portfolio investment company that owed the withdrawal liability. Sun Capital Partners III LP v. New England Teamsters & Trucking Indus. Pension Fund, (2016 BL 95418, D. Mass., No. 1:10-cv-10921, 3/28/16)

The court went to great lengths to find that despite the fact the investments were intentionally made in a manner to specifically avoid being under common control, the two funds were treated together effectively as a “partnership.” In addition, applying the “investment-plus” standard adopted by the higher court, the District Court found that both of the funds were “trades or businesses.” Based upon these two factors, the court held the two private equity funds to be jointly and severally liable for the multiemployer pension plan withdrawal liability.

A warning for private equity funds

As mentioned above, many private equity funds intentionally structure their investments in a similar manner in an effort to avoid being treated as part of the same controlled group of corporations as their portfolio companies. If the holding in the Sun Capital case is followed by other circuits, these private equity funds may also find themselves facing significant claims should one of their portfolio investments incur such withdrawal liability.

In addition, while the case involved withdrawal liability from a multiemployer pension plan, similar controlled group rules apply to other types of benefit plan liabilities and requirements, for example:

• Liability to the PBGC for underfunded defined benefit plans
• Responsibility to provide COBRA
• Qualified retirement plan non-discrimination testing
• Applying benefit and compensation limitations under Code Section 415
• Complying with minimum coverage testing purposes

Therefore, operators of private equity funds should take special care to review the Sun Capital holding to determine how they would fare using a similar analysis.