Court Upholds Limits On FCA Successor Liability Following Bankruptcy Proceeding Involving An Asset Sale

Posted by Robert J. Conlan and David Schilling

In a recent decision, United States ex rel. Ceas v. Chrysler Group LLC, No. 12-CV-02870 (N.D. Ill. Jan. 28, 2015), a judge in the Northern District of Illinois provided guidance on the issue of successor liability for FCA claims in connection with a corporate asset sale in the bankruptcy context.

On April 30, 2009, Chrysler LLC (“Old Chrysler”) filed a pre-packaged Chapter 11 bankruptcy petition in the U.S. Bankruptcy court for the Southern District of New York. That same day, Old Chrysler agreed to sell to Chrysler Group LLC (“New Chrysler”) substantially all of its assets free and clear of claims and liabilities, except for a defined set of specific liabilities that New Chrysler assumed. The bankruptcy court approved the sale on June 1, 2009. Three years later, relator William Ceas, Jr. filed a complaint under the FCA claiming that Old Chrysler had made false statements to the United States regarding warranties on vehicles it sold to the government in 2004 and 2005. The United States declined to intervene, and Ceas continued to pursue the claims under the FCA’s qui tam provisions. New Chrysler moved to dismiss the complaint, including on the grounds that the Sale Order in the bankruptcy proceeding barred such claims against New Chrysler.

The court acknowledged that bankruptcy courts’ authority to approve a sale of assets free and clear of any claims is “an issue of some disagreement….” Order at 4 n.3. That is, Chapter 11 of the Bankruptcy Code provides only for the debtor’s sale of property “free and clear of any interest in such property.” 11 U.S.C. § 363(f) (emphasis added). Despite the potential for alternate readings, however, the district court was persuaded that the term “interest” in section 363(f) should be construed broadly, to include successor or transferee liability claims. Further, the court concluded, the Sale Order in issue “adopted a broad, inclusive definition of ‘claim,'” both as to timing and subject matter, and – when viewed in light of the Bankruptcy Code’s definition of “claim” – covered FCA and other fraud claims. Order at 4-5. In addition, the district court found, the Sale Order issued by the bankruptcy court affirmatively enjoined future litigation in conflict with the terms that order. Order at 5-6.

Notwithstanding these restrictive terms, the relator argued that his FCA claims were rooted in breach-of-warranty or product-liability claims, which New Chrysler had expressly assumed under the terms of the sale. The court rejected this argument, noting that the relator’s FCA claims did not constitute breach-of-warranty or products-liability claims, and even if they did the relator would not be authorized (under the FCA or otherwise) to pursue such claims on behalf of the government. Order at 7-8. Moreover, even though the relator’s FCA claims were “factually related” to product warranties, the district court refused to construe the language of the transfer agreement so broadly as to provide a “loophole for qui tam plaintiffs to seize upon[,] an unexpected and unwelcomed vulnerability for asset purchasers.” Order at 8.

The relator also argued that, despite the narrow language of the transfer agreement, New Chrysler was nonetheless liable for Old Chrysler’s violations of the FCA as its successor because FCA claims are not dischargeable in bankruptcy. The court agreed that FCA claims are not dischargeable in bankruptcy, see Order at 10 (citing 11 U.S.C. § 1141(d)(6)(A)), but also found that—distinguishing between a reorganization and an asset sale—the relator’s argument “misse[d] the mark” because New Chrysler was not the successor of Old Chrysler:

The elephant in the room is the notable distinction between a bankrupt entity that chooses to restructure and emerge under a traditional chapter 11 reorganization and an entity that elects an asset sale under § 363(f) of the Bankruptcy Code. Had Old Chrysler elected the former path, because the FCA claims (which arose prior to confirmation) cannot be discharged, Plaintiff would likely be entitled to proceed with his claims against the reorganized Old Chrysler today. However, because the bankruptcy court approved a § 363 sale of Old Chrysler’s assets free and clear of any successor claims or interests, Plaintiff’s claims lie solely against a now-defunct, potentially-successorless entity.

Order at 11.

The court acknowledged that, as “one way around this predicament,” the agreement between Old and New Chrysler (and the Sale Order) could have been written to expressly impute FCA liability to the Section 363 purchaser. Order at 11 (citing In re Haven Eldercare, LLC, 2012 WL 1357054, at *6 (Bankr. D. Conn. 2012) (“nothing in this Sale Order shall limit the federal government’s right to pursue or collect any claim for civil fraud under the False Claims Act”)). However, no such provision was made a term of the transfer between Old and New Chrysler. Order at 12 (“[A]bsent any controlling guidance to the contrary, the Court is inclined to uphold the plain language of the Sale Order, absolving New Chrysler of successor liability for all claims not expressly assumed in the [Master Transaction Agreement], including Plaintiff’s FCA claims.”).

The Ceas decision thus provides a useful template for understanding the limited circumstances in which liability for FCA claims might be extinguished in bankruptcy cases. A copy of the district court’s opinion and order can be found here.