Safe Harbor Policy Bolsters Case for Strong Environmental Due Diligence in M&A Transactions
New Department of Justice Policy Leans Toward Leniency for Timely Voluntary Disclosure
- In October, U.S. Deputy Attorney General Lisa Monaco announced a new U.S. Department of Justice (DOJ) Safe Harbor Policy promising a presumption of prosecutorial declination for voluntary self-disclosures of criminal conduct discovered in the course of a merger or acquisition.
- The new Safe Harbor Policy should encourage effective environmental due diligence because issues that are identified can now be corrected and disclosed with the presumption that DOJ will decline to prosecute acquiring companies.
- Progressive groups are pushing back, but DOJ appears to be standing firm in its decision, noting that the Safe Harbor applies only when an acquiring company takes corrective action.
The U.S. Department of Justice (DOJ) in October delivered a clear message to companies involved in mergers and acquisitions (M&A) and their advisers: Acquiring companies will not be penalized for timely voluntary disclosure of criminal conduct of the acquired entities. This departmentwide Safe Harbor Policy, announced by U.S. Deputy Attorney General Lisa Monaco at the Society of Corporate Compliance and Ethics' 22nd Annual Compliance & Ethics Institute in Chicago, promises a presumption of prosecutorial declination for voluntary self-disclosures of criminal conduct discovered in the course of a merger or acquisition. Holland & Knight's White Collar Defense and Investigations and Securities Enforcement Defense teams previously reported on the new Safe Harbor's requirements and the government's continued focus on corporate compliance and self-reporting. (See Holland & Knight's previous alert, "Understanding the Department of Justice's New Safe Harbor Policy," Oct. 19, 2023.) This Holland & Knight alert covers the Safe Harbor Policy's impact on environmental due diligence efforts during M&A transactions.
DOJ's Environment and Natural Resources Division (ENRD) has yet to issue a follow-up announcement or supporting policy guidance materials. However, if DOJ applies the Safe Harbor Policy as announced, the Department will decline to prosecute "acquiring companies that promptly and voluntarily disclose criminal misconduct within the Safe Harbor period, and that cooperate with the ensuing investigation, and engage in requisite, timely and appropriate remediation, restitution, and disgorgement." This Safe Harbor should encourage corporate managers and M&A teams to perform effective and thorough environmental due diligence and flag potential environmental misconduct early in the review process.
Though the DOJ's policy is likely to present opportunities to resolve past misconduct during the process of a merger or acquisition, various progressive groups are pushing back aggressively, reportedly calling on DOJ to withdraw the policy while claiming that it will "… "incentivize more concentration of corporate power through strategically-timed mergers or acquisitions" that they allege are intended to "slate clean for lawbreakers." Despite these assertions, DOJ is standing firm, noting that "aggravating factors" will be treated differently and the goal is to encourage law-abiding acquiring companies to "invest in strong compliance programs."
How Does the New Safe Harbor Policy Work?
The policy applies generally to the acquiring company. It can extend to the acquired entity as well, provided that there are no aggravating circumstances, such as significant profit from the misconduct, recidivism or pervasiveness of the conduct within the company. Monaco made clear that presence of these factors will not shield the acquired company from criminal prosecution.
The foregoing could prove problematic for large companies with a national or international footprint or those that have extremely poor environmental compliance programs, particularly because environmental criminal misconduct can occur under so many regulatory schemes. Environmental crimes can arise under various federal statutes, including:
- Clean Air Act (CAA), 42 U.S.C. §§ 7401-7671
- Comprehensive Environmental Response, Compensation & Liability Act (CERCLA), 42 U.S.C. §§ 9601-9675
- Federal Hazardous Material Transportation Law, 49 U.S.C. §§ 5101-5127
- Federal Insecticide, Fungicide and Rodenticide Act (FIFRA), 7 U.S.C. §§ 136-136y
- Clean Water Act (CWA)), 33 U.S.C. §§ 1251-1387
- Resource Conservation and Recovery Act (RCRA), 42 U.S.C. §§ 6901- 6992k
- Surface Mining Control and Reclamation Act (SMCRA), 30 U.S.C. §§ 1201-1328
- Toxic Substances Control Act (TSCA), 15 U.S.C. §§ 2601-2692
- Endangered Species Act, 16 U.S.C. § 1531
- Migratory Bird Treaty Act (MBTA), 16 U.S.C. § 707
- The Lacey Act, 16 U.S.C. § 3372
With almost 20 federal statutes covering pollution-related criminal misconduct and four covering wildlife-related crimes, environmental professionals supporting M&A deals should be vigilant during the review process and, if potential criminal misconduct is discovered, they should consider whether DOJ's Safe Harbor should be applied.
It should be noted that the Safe Harbor will be available only for acquirors in arm's-length deals and will not be available where conduct was already required to be disclosed or known to DOJ or the public. Additionally, DOJ's policy will not be applied or contemplated for civil or other regulatory enforcement actions.
Companies engaged in M&A activities and the professionals who steward them through such transactions need to understand the key elements of the new policy pertaining to timing, cooperation, remediation and monetary payment.
When Does an Acquiring Company Need to Act?
To qualify for the Safe Harbor, self-disclosure must occur within six months after the M&A transaction closes, regardless of whether the misconduct was discovered pre- or post-acquisition. Additionally, the misconduct must be remediated within one year. Both of these periods may prove to be unfeasibly short for many transactions, particularly if internal investigations or M&A due diligence are deficient. For many acquiring companies, early hints of misconduct do not even come to light until many months after acquisition, typically following turnover of existing personnel or full integration of the acquired company into the acquiring company's culture and practices. Evidence of misconduct may go unnoticed for years after a transaction where the acquired company continues to operate as a subsidiary with a level of independence from the acquiror. This can be particularly problematic for acquired companies that maintain operations overseas or have multiple facilities.
Recognizing this conundrum, DOJ is "placing an enhanced premium on timely compliance-related due diligence and integration. Compliance must have a prominent seat at the deal table if an acquiring company wishes to effectively de-risk a transaction." For companies negotiating a deal, a perfunctory compliance diligence process will not satisfy this requirement and will likely prevent the acquiring company from later obtaining voluntary self-disclosure benefits if criminal misconduct is identified.
Companies that invest time and resources to conducting a thoughtful and robust environmental compliance diligence review of M&A targets are now also investing in potentially vastly better future outcomes – including complete declination – if that diligence process identifies evidence of a crime. The contrast is also true: Failure to take compliance diligence seriously could result in even harsher sanctions, with Monaco noting companies that do "not perform effective due diligence or self-disclose misconduct at an acquired entity" will be "subject to full successor liability for that misconduct[.]"
The Importance of Cooperation and Disciplinary Action
As with all self-disclosure policies, DOJ highlights the need for cooperation during the investigation phase, including active efforts to identify and appropriately discipline individual wrongdoers – including potential compensation clawback or termination – regardless of their status or seniority at the company.
As such, due diligence teams for acquiring companies should take note of key environmental, health and safety (EHS) managers and personnel who are making compliance-related decisions for the acquired entity and determine whether any violations are being undertaken with the required mental state to result in criminal misconduct. If so, it would be prudent for acquiring team attorneys, advisers and managers to raise egregious or potential criminal misconduct early in the process.
The Need for Remedial Action
To qualify for the Safe Harbor, the conduct must not only be self-reported within six months, it must also be "fully" remediated within one year from the date of closing. Recognizing this may be an unworkable time period, Monaco noted in her speech that this deadline was a "baseline" that can be extended by prosecutors to take into account the "specific facts, circumstances, and complexity of a particular transaction[.]" Suffice to say, DOJ will expect to see companies focused on designing a tailored and effective remediation plan and then taking steps to promptly implement and complete that plan.
This timeline might be difficult even in less-complex transactions. For smaller companies, a relative lack of financial, staffing and technological resources may hinder their ability to create the necessary sea change in internal controls at the acquired company. This concern cannot be ignored; the majority of criminal prosecutions of corporations, particularly with respect to environmental matters, are of small, privately held organizations.
Potential Profit Impacts and Potential for Civil Enforcement
DOJ's new Safe Harbor Policy will require the acquiring company to disgorge profits gained from the misconduct. Though not a significant departure from past DOJ policies, this is a consideration that will need to be contemplated during due diligence and prior to closure of any M&A transaction and may have a significant impact on the value of a transaction. During environmental due diligence, it will behoove an acquiring company to identify the potential profits generated due to noncompliance and then consider revising the deal terms to account for the potential for disgorgement. For instance, the acquiring company might offset its offer by the cost or consider establishing an escrow to cover projected disgorgement costs.
It is important to also note that the Safe Harbor Policy must be contemplated in conjunction with related civil enforcement policies adopted by the U.S. Environmental Protection Agency (EPA) and similar state agencies. For example, conduct that might be subject to criminal penalties under the Resource Conservation and Recovery Act (RCRA) – the federal hazardous materials and waste law – may also be subject to civil enforcement activity and associated civil fines of up to $50,000 per day per violation. Acquiring companies may find that voluntary self-disclosure of criminal misconduct could put them at significant risk of huge civil sanctions if not also disclosed under the EPA's analogous Audit Policy.
The Potential for Public Disclosure
It's important for companies to also understand that the Safe Harbor policy does not require DOJ to keep the existence of the disclosure confidential. As a result, DOJ may later publicly disclose the investigation and its decision to decline prosecution of the company and plan for potential financial and reputational impact.
Holland & Knight's Mergers and Acquisitions Team is supported by experienced and dedicated environmental and white collar defense attorneys who are well positioned to advise on companies' most complicated and serious legal problems. If you have questions about the EPA Audit Policy or DOJ's Safe Harbor Policy and its impact on your business, contact the authors or another member of Holland & Knight's Environmental Team, White Collar Defense and Investigations Team or Securities Enforcement Defense Team.
Information contained in this alert is for the general education and knowledge of our readers. It is not designed to be, and should not be used as, the sole source of information when analyzing and resolving a legal problem, and it should not be substituted for legal advice, which relies on a specific factual analysis. Moreover, the laws of each jurisdiction are different and are constantly changing. This information is not intended to create, and receipt of it does not constitute, an attorney-client relationship. If you have specific questions regarding a particular fact situation, we urge you to consult the authors of this publication, your Holland & Knight representative or other competent legal counsel.