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First Court of Appeals Rejects "Continuation" Theory of Successor Liability Under Title VII

What happens when an employment discrimination plantiff obtains a judgment against a corporate defendant, but the owner of the company puts the corporation into bankruptcy and continues the business with a new corporation?  The First Court of Appeals addressed this issue in E-Quest Management, LLC v. Shaw, No. 01-11-00296-CV (Tex. App. -- Houston [1st Dist.] March 28, 2013).

Robbie Shaw filed a state law race discrimination claim against Retirement Living Management, Inc. (RLM) in 2002.  She won her case to a jury in 2004.  After the jury verdict, but before the entry of judgment, the president of RLM formed a new company, E-Quest.  RLM then filed for a Chapter 7 bankruptcy.  The president of the company then continued RLM's business (with some changes) under the name E-Quest, though no physical assets were transferred.

Shaw sued E-Quest, arguing that it was a successor to RLM.  The trial court agreed and entered judgment in favor of Shaw.  E-Quest appealed.

As framed by the First Court of Appeals, the issue was whether the successorship issue was governed by Title VII jurisprudence (which Texas courts generally follow in applying the state statutes) or by Texas corporate law.  The court noted that the federal courts have adopted a broad standard for successor liability under Title VII.  In Rojas v. TK Communications, Inc., 87 F.3d 745 (5th Cir. 1996), the Fifth Circuit applied a nine-factor test:

(1) whether the successor company had notice of the charge or pending lawsuit prior to acquiring the business or assets of the predecessor; (2) the ability of the predecessor to provide relief; (3) whether there has been substantial continuity of business operations; (4) whether the new employer uses the same plant; (5) whether he uses the same or substantially the same work force; (6) whether he uses the same or substantially the same supervisory personnel; (7) whether the same jobs exist under substantially the same working conditions; (8) whether he uses the same machinery, equipment, and methods of production; and (9) whether he produces the same product.

Under that standard, Shaw would win the case.  However, Texas corporate law allows a corporation to sell its assets to a buyer free and clear of any liabilities:

Except as otherwise expressly provided by statute, a person acquiring property described by this section may not be held responsible or liable for a liability or obligation of the transferring domestic entity that is not expressly assumed by the person.

Tex. Bus. Orgs. Code § 10.254(b).  Under that standard, Shaw would lose the case, because E-Quest did not assume the liability to her.

The First Court of Appeals held that Texas corporate law trumped the successor liability rule from employment law.  The court found that the theory of liability from Title VII jurisprudence was similar to the "mere continuation" theory of successor liability (in other words, that the successor is liable when it is the "mere continuation" of the original company).  The court found that the Texas legislature rejected the "mere continuation" theory when it enacted the statute that is now Tex. Bus. Orgs. Code § 10.254(b):

In light of the express statutory mandate precluding the imposition of implied successor liability under Texas law, we conclude that Shaw’s successor-liability claim is precluded by Texas statute.

Accordingly, Shaw lost.

What could Shaw have done differently?  For starters, it is not clear whether she was active in RLM's bankruptcy proceeding.  It would seem that shutting down RLM and reopening the business as E-Quest is something that could have been challenged as a fraud on the creditors of the bankruptcy estate.  It is also possible that Shaw could have used the fraudulent transfer statutes to challenge the RLM's maneuver, but that sort of claim may belong to the bankruptcy trustee.  It is not clear whether any of these tactics would have worked, but unfortunately for Shaw the successorship argument failed.

Here are two questions that are not answered by the First Court of Appeals' opinion:

  1. Shaw sued under Chapter 21 of the Texas Labor Code, not under Title VII.  Would the result have been different if she sued under Title VII?  Bear in mind that Title VII is a federal statute, and federal law preempts contrary state law.  Would the successor liability rule adopted by the Fifth Circuit (which is a federal common law rule, not a statutory rule) preempt Texas corporate law?
  2. Will this case cause the federal courts to reconsider their application of successor liability rules to employment discrimination cases involving Texas corporations?

David C. Holmes is a Houston employment lawyer with The Law Offices of David C. Holmes