May 7, 2007

Parent Companies Now Have Increased Risk for Subsidiaries

Holland & Knight Alert
Trisha M. Rich

On Friday, February 16, 2007, the Illinois Supreme Court held for the first time that a parent corporation may be held liable for an accident at a subsidiary where the parent participated directly in creating the risk. In Forsythe v. Clark USA, employees at the subsidiary’s refinery were killed in a fire. The plaintiffs alleged that the parent company was liable for the accident, because the parent company had cut spending on training, maintenance and safety and had failed to evaluate training and safety procedures by the subsidiary, which resulted in the subsidiary employing unqualified mechanics, in turn causing the fire.

Based on many prior federal decisions holding a parent liable for its direct supervision of a subsidiary under environmental and labor laws, the court first held that a parent may be liable for its own acts in direct supervision of its subsidiary. This principle applies to a parent’s liability for injuries where the parent exercises “specific control over the activity that causes the accident.” The parent company argued, however, that it had no liability for setting a budget, which is a typical act of an investor in the subsidiary. Nonetheless, the court ruled that “budgetary mismanagement, accompanied by the parent’s negligent direction or authorization of the manner in which the subsidiary accomplishes that budget, can lead to a valid cause of action under the direct participant theory of liability.” The court stated:

“[w]here there is evidence sufficient to prove that a parent company mandated an overall business and budgetary strategy and carried that strategy out by its own specific direction or authorization, surpassing the control exercised as a normal incident of ownership in disregard for the interests of the subsidiary, that parent company could face liability. If a parent company specifically directs an activity, where injury is foreseeable, the parent could be held liable if injury results. Similarly, if a parent company mandates an overall course of action and then authorizes the manner in which specific activities contributing to that course of action are undertaken, it can be liable for foreseeable injuries.”

Mere allegations of budgetary mismanagement are not sufficient, however, to establish the parent’s liability.

As a result of Forsythe, parent companies may find themselves subject to liability in instances where they might previously have been protected by the corporate veil. It has always been the case that a parent could be liable for its subsidiary’s conduct if the parent ignored the corporate form. However, now parent corporations may be able to insulate themselves to a greater degree by not heavily mandating how subsidiaries accomplish particular tasks or projects. According to the Illinois Supreme Court, it is when a parent exercises specific direction or authorization that direct liability might attach.

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