INTRODUCTION 

With the onset and progression of increased  governmental regulation of the closure and transfer of industrial properties that has occurred over the past 20 years, environmental issues in acquisition agreements, deeds, and, in some  cases, settlement agreements, have become  increasingly more complex and nuanced.  In all  cases, both the transferor and the transferee are  looking to limit both short and long term exposure to liability and costs arising out of environmental issues. It is the intention of this article to briefly review the standard approaches to environmental issues in these agreements and  to focus on evolving issues and approaches that  should be considered by any experienced  practitioner in this arena.    

STANDARD ACQUISITION AGREEMENT  

Experienced corporate practitioners are familiar  with the types of representations and warranties  that are normally required in an agreement that  transfers title to or control over property or  facilities that are regulated by environmental  law.  The buyer would seek to include, and the  seller would likewise seek to limit, the  following types of representations and  warranties:       

1.  Compliance with all state, local, and  federal environmental laws;  
2.  A history of, or representation with  respect to the lack of, regulated  discharges (whether impacting  groundwater, soil, or the atmosphere);  
3.  A list of all permits used, and  appropriate representations concerning  the lack of violations thereunder;  
4.  A history of off-site shipments of  hazardous materials and a representation  concerning the absence of any liability  for off-site disposal;  
5.  The absence of any environmental  contamination at, under, or emanating  from the property; and  
6.  All appropriate disclosures, including  schedules, relating to the above.

In addition, buyer and seller would have to  negotiate certain covenants with respect to  future environmental actions:    

1.  In those states where prior approval (or  at least the initiation of the approval  process) is required prior to the sale of  the property, a covenant by seller (or an  appropriate assumption of the obligation  by buyer) to take all necessary actions to  obtain such approval; and   
2.  Appropriate covenants with respect to  the assignment and transfer of permits  necessary to continue operations at the  property.      

ADDITIONAL BUYER ISSUES

In many transactions, the above “standard”  representations and warranties may be  substantially all that is necessary to  appropriately protect your client’s interest in a  particular transaction.  Depending on the nature  and breadth of the operations conducted at the  property and the depth of regulatory issues that  may be involved, however, both sides need to  do further work to protect their respective  interests.      

From a buyer perspective, additional issues may  include:      

Performing Further Due Diligence.
If there is or was any activity on the property  capable of causing an adverse environmental  impact, or even if the property is located in an  industrial area, the buyer must obtain its own  due diligence to identify any adverse impacts. A Phase I Environmental Report is a given.  

In  many cases, Phase II Reports will be necessary to identify potential areas of concern and  associated clean-up costs and operational  impacts, if any.  Normally, a buyer would want  the satisfactory resolution of its due diligence tobe a condition precedent to any obligation to  proceed with closing the transaction.   Satisfaction of that condition should be at  buyer’s sole discretion.    

Permit Review.    
In many cases, a review of the final schedules to  an Acquisition Agreement is one of the issues  that is left until the last minute.  On  environmental matters, this can be a significant  mistake.  Obtaining a list of permits from the  seller and a review of same, and their  assignability, can be critical to the continued  operations of the facility once the closing  occurs.  Obviously, these issues can differ  between states and even localities, and the  particular industry in which the seller operates  also will impact these issues.      

Indemnification for Pre-Closing Activities.   
Normally a buyer will seek indemnification  from the seller for any environmental liabilities  relating to site conditions (and all off-site  impacts) existing as of the closing date.  In the  context of such a provision, the parties normally  discuss the duration of the indemnity period and  an appropriate basket and cap for any liability.   All too often, however, the parties fail to focus  on whether there is a practical way of  differentiating between pre and post-closing  discharges or releases (i.e., establishing a  baseline of pre-closing conditions) so as to  appropriately allocate responsibility for future  clean-up costs.  This issue is further complicated  if the buyer intends to continue existing  operations.  Thus, while careful pre-sale  delineation of site contamination is critical, it is  rarely dispositive where existing operations are  to be continued.  Because of these difficulties,  many sellers will seek to resolve this issue by  negotiating a credit with the buyer and agreeing  to sell the property “as is” (an issue that will be  discussed in more detail below.)      

Capping of Future Costs.   
If the buyer agrees to assume certain ongoing  environmental liabilities affecting the property,  the buyer (and in certain situations, the seller)  should consider options to cap its future  liability.  Environmental insurance has been  available for a number of years for just this  purpose.  The buyer can purchase environmental  insurance which, for a premium, will assume  liability for any clean up costs over the  negotiated amount.  

This can be utilized not  only by the buyer in connection with the assumption of activities, but can also be utilized  by the seller in connection with its own commitment to clean up the property.  The use  of environmental insurance can, in the proper circumstance, close the gap and expectations between the buyer and seller by limiting the  risks of future costs overruns.       

Ongoing Seller Clean-Up Activities.    
If the seller assumes the obligation to perform  the necessary regulatory clean-up, the seller necessarily will continue to be involved at the site. The negotiation of an appropriate access agreement, the commitment by the seller to limit  interruptions in the ongoing activities of the  buyer, agreement on the nature of the clean-up,  and the buyer’s interest in reviewing, and  perhaps, approving work plans and other submission to the appropriate environmental  authority, all need to be addressed in the event  the seller retains this obligation.      

Is ISRA-Clean Clean Enough?   
 
The Industrial Site Remediation Act (“ISRA”) is  the underlying statute in New Jersey which  governs the obligations of the seller to clean-up a property in connection with the transfer of its  title or operations to an unrelated party. ISRA  requires the seller to identify, define the extent  of and clean-up soil and groundwater  contamination on or migrating from the site.   

The clean-up standards applicable to such activity are contained in ISRA’s implementing  regulations (the technical requirements for site remediation are found at N.J.A.C. 7:26E). The  technical requirements provide some (albeit  limited) flexibility with respect to those  standards (i.e., unrestricted use  — “residential”  standards and restricted use — “non-residential” standards) and address whether contamination  must be removed, treated, or where appropriate, left in place.  Specifically, more liberal clean-up  standards (“non-residential”) are permitted where institutional and/or engineering controls are implemented. In addition, under appropriate  circumstances, contamination may be left in place in conjunction with the filing of a deed  notice and use of appropriate engineering  controls (e.g., a cap, fence, etc.).  Thus, a  generalized reference to ISRA compliance in the  transactional documents does not specifically  address the issue of how “clean is clean” and  without further specificity, is likely to lead to significant post-sale disputes regarding the nature and extent of the clean-up.

In addition, the contract should address other ISRA related issues such as responsibility for additional clean-up requirements resulting from remedy failure or a subsequent lowering of  clean-up standards, as well as responsibility for operation and maintenance, if any, associated  with the selected remedy. The latter would  include the filing of biennial certifications required for certain institutional controls such as deed notices and groundwater classification exemption areas.    

ADDITIONAL SELLER ISSUES  

In many cases, particularly in the disposition of  former manufacturing facilities, the primary  interest of the seller will be to limit, both  temporally and financially, its liability with  respect to the ongoing environmental  compliance costs associated with the property.   

Achieving this limit, in many cases, is significantly more important to the seller than  the actual purchase price.  Accordingly, the  seller also will have a number of additional  concerns that need to be addressed.    

Release and Indemnification.    
First and foremost, a seller normally will seek to  be fully released from, and indemnified against,  any continuing liability with respect to the  environmental condition of the subject property.   

This raises a number of significant issues:     

A. For purposes of New Jersey law, the  legal formalities for an “as is” purchase  are not insignificant.  New Jersey case  law over the years has stated that in order for an “as is” purchase to be  effective to serve as a release by the  buyer against the seller, the Contract of  Sale (or other transactional documents)  must contain express language allocating  those risks to the buyer.  An “as is”  clause, without specific reference to  environmental matters, is not sufficient  to effect a release.  

B.  The differences between release and  indemnification are significant.  A  release is a personal covenant between  the buyer and the seller.  If the buyer  purchases the property “as is”, it may release any claims it may have for ongoing expenses with respect to  environmental clean up costs.  From a  seller’s perspective, the release also should cover any potential claims by the  buyer for devaluation of the property  (because, for example, it can only be used for nonresidential purposes).  Such a release notwithstanding, the seller still  retains certain obligations under both  common and statutory law, including obligations to third parties and  governmental entities.  The seller might  therefore seek indemnification from the  buyer for those liabilities, once the seller  has performed its necessary clean-up  obligations (or has given the buyer an  adjustment in the purchase price). The buyer, if willing to indemnify the seller for clean-up costs, may refuse to provide  similar protection for third party claims for purporting devaluation and/or personal injury.  The likelihood of such  claims are difficult to assess let alone quantify.  As such, the parties may decide to reserve all rights and remedies  they may have against one another in the  event claims are filed by a third party.      

In addition to these concerns there are other  negotiating nuances that should be considered  by the experienced practitioner in this arena.   For example, in the event a buyer is willing to  release a seller from certain obligations as long  as seller performs its clean-up obligations under  the acquisition agreement, seller’s attorneys  must carefully review the agreement language to make sure that a minor breach of a seller  representation and warranty does not, in fact,  invalidate the entire release of seller by the  buyer.      

Seller’s Clean-Up Obligations.    
If the seller has agreed to assume responsibility  for clean-up costs, the nature thereof and the  applicable clean-up standards, as discussed  above, should be incorporated in the contract.  If  such specificity is not possible, then, at a  minimum, the seller should insure that the  contract permits him to undertake clean-up  consistent with the commercial/industrial nature  of the operations conducted on the property.   Stated otherwise, the seller would want to  confirm the availability of institutional and/or  engineering controls, together with the use of  “non-residential” soil clean-up standards.   Pursuant to N.J.S.A. 58:10B-13b,  “nonresidential standards” are not available unless  the owner of the property agrees to the filing of  a deed notice.  As such, the contract must  obligate the buyer to accept a deed notice in  connection with the seller’s assumption of  clean-up responsibility.      

The seller also should seek to avoid responsibility for post-closing maintenance requirements, if any.  For example, if the seller is required to construct and maintain an engineered cap associated with the use of  institutional or engineering controls to  encapsulate and isolate contaminated soils, it  should seek to put liability on the buyer to maintain that cap and make all appropriate filings with respect thereto.    

Seller might also seek to obtain a covenant from  the buyer with respect to its own post-closing  activities, because, from the seller’s perspective, residential construction, schools, certain types  of office buildings, or other activities may  potentially increase the exposure of individuals to contamination at the site and therefore  increase the likelihood of third party claims  against the seller. Such restrictions should be  recorded in the Deed.    

In addition, of course, as suggested above, the seller would have an interest in shifting the risk for unknown conditions, changes in environmental standards, and liability for historic operations, to the buyer as a result of the  transfer of the property.      

A SELLER’S PERSPECTIVE AND THE  RESTATEMENT OF SERVITUDES

Consider the following hypothetical. A seller and a buyer, either in connection with the settlement of clean-up litigation between each other, or in connection with an ongoing  acquisition, have reached agreement on  representations and warranties and the scope of  releases and indemnification. Assume, again, that the buyer is willing to covenant that it will provide the seller some level of protection with respect to the ongoing enforceability of the  release from the buyer.  The seller desires to  ensure that it can obtain as much protection as  possible.  Certainly, a contractual release (and  covenant as to future use) should be enforceable  directly against the buyer.  Is it enforceable  against the buyer’s successors?  Is there any  way that the seller can expand the benefit of this  release against third parties by putting such parties on notice that liability has been shifted  from the seller to the buyer?      

The question requires us to revisit the concept of  “covenants running with the land” from our law  school days.  The answer, ultimately, depends  upon where the property is located.  In New  Jersey, in determining the enforceability of  restrictive use covenants, the pivotal inquiry  concerns the reasonableness of the covenant.   See Davidson Bros. Inc. v. D. Katz & Sons, 121  N.J. 196 (1990) (addressing the issue in the  context of non-competition covenants).  While  not altogether discarding the “touch and  concern” test applicable under traditional  servitudes doctrine, in Davidson the New Jersey  Supreme Court relegated the test to a minor role  in determining the reasonableness, and thus  enforceability, of restrictive use covenants.  The  Court announced: “[t]he time has come to cut  the Gordian knot that binds this State’s  jurisprudence regarding covenants running with  the land. ... Reasonableness, not esoteric  concepts of property law, should be the guiding  inquiry into the validity of covenants at law.”   Id. at 210.    

The Court enumerated eight factors to be  considered in assessing the reasonableness, and  hence enforceability, of the covenant: (1)  whether the parties had a lawful intent at the  time of execution; (2) whether the covenant  impacted the consideration exchanged; (3)  whether it clearly and expressly articulates the  restriction; (4) whether the subsequent  purchaser had record notice; (5) whether the  temporal and geographic scope of the covenant  is reasonable; (6) whether it imposes an  unreasonable restraint on trade; (7) whether it is  contrary to the public interest; and (8) whether,  even if reasonable when first recorded, in light  of changed circumstances, it has become  unreasonable.  Id. at 211-212.    

It is not entirely clear whether the courts would  apply the same analysis in the context of  covenants not to sue, but the Davidson case  certainly represents a significant departure from  traditional doctrine with its strict adherence to  the touch and concern/benefit and burden test.    

Some jurisdictions appear to have gone further  by recognizing the approach advocated in the  Restatement (Third) of Property:

Servitudes.   
The Restatement places the central inquiry on  whether the covenant, if allowed to run with the  land thereby binding future owners, would be  illegal, unconstitutional or in violation of public  policy.  Under the Restatement approach, the  party  seeking to avoid enforcement bears the  burden of showing its illegality.  See Susan F.  French, “Can Covenants Not to Sue, Covenants  Against Competition and Spite Covenants Run  with the Land?  Comparing Results under the  Touch or Concern Doctrine and the Restatement  Third, Property (Servitudes),” 38 Real Property,  Probate and Trust Journal, Summer 2003, at  268-269.  The focus is on implementing the  legitimate intent of the contracting parties.     

Ultimately, to the extent covenants not to sue  are an issue in the context of the real estate  transaction, or in settling litigation, counsel  would be wise to make inquiry with regard to  the law of the jurisdiction where the property is  located.  Whether that jurisdiction follows  traditional doctrine, the approach favored by the  drafters of the Restatement or something in  between, ultimately will impact the manner in  which to proceed.       

CONCLUSION  

The issues involved in connection with the  purchase and sale of industrial or otherwise  contaminated real property are numerous and  varied.  It is the hope of the authors that  practitioners will be able to use this article as a  guideline to identify issues and approaches that  may be appropriate to protect the interests of  their client in these transactions.

Attorney Jennifer L. Kapell was a co-author of this article.