In Thompson v. Real Estate Mortgage Network, 748 F.3d 142 (2014), the Court of Appeals for the Third Circuit determined, in a case of first impression, that a new employer may be held accountable for its predecessor’s wage and hour violations under the Fair Labor Standards Act (FLSA).

The plaintiff in Thompson first worked for Security Atlantic Mortgage Company (SMC), but later, she and her co-workers were asked by their supervisors to complete job applications to work for Real Estate Mortgage Network (REMN), which was represented to be a sister company. From that point forward, the plaintiff and her co-workers continued to do the same work at the same location but were paid by REMN.

The plaintiff sued both SCM and REMN for wage and hour violations under the FLSA and New Jersey law, claiming that the two companies were joint employers and/or that REMN was SCM’s successor. The district court dismissed the lawsuit, but the Third Circuit reversed.

The Third Circuit ruled that the plaintiff had adequately alleged claims under both theories. With respect to the successorship claim, however, the court acknowledged that it had not yet adopted a definitive successor liability standard for purposes of the FLSA and had to decide whether to adopt the federal common law standard or the New Jersey common law standard. The court chose the former.

The Third Circuit explained that the federal common law requires a consideration of the following factors in determining whether successor liability should be imposed: “(1) continuity in operations and work force of the successor and predecessor employers; (2) notice to the successor-employer of its predecessor’s legal obligations; and (3) ability of the predecessor to provide adequate relief directly.” In contrast, successor companies are considered legally distinct from their predecessors under New Jersey law and do not assume any debts or obligations of the predecessor unless: (1) the successor agrees to assume such liabilities; (2) the transaction amounts to a consolidation or merger of the buyer and seller; (3) the purchasing company is merely a “continuation” of the selling company; or (4) the transaction was consummated to fraudulently escape its liabilities and debts. The court adopted the federal common law standard, reasoning that the federal standard would make it more difficult for violators to escape liability by selling assets, which comports with the FLSA’s purpose of fostering labor peace and protecting workers’ rights.

Based on the federal common law standard, the court held that, for purposes of a motion to dismiss, the plaintiff had adequately alleged enough facts to show that REMN was a successor. With respect to the first factor – continuity of operations – the court found that the allegations that the employees continued to do the same jobs at the same locations satisfied this requirement. With respect to the second factor – notice of the predecessor’s violations – the court relied on the allegation that the SAC personnel who committed the FLSA violations became part of REMN’s management team (the court acknowledged that these facts did not conclusively show that REMN had the required notice when it acquired SAC’s assets, but they were sufficient to survive a motion to dismiss). As for the final factor – the predecessor’s ability to provide relief – the court accepted the plaintiff’s allegation that SAC was defunct and could not pay.

Based on the Thompson decision, companies that acquire substantial asset from and continue the business of a predecessor should evaluate the risks of successor liability under the FLSA as part of their due diligence.