The Hidden Importance of Environmental Law
in Commercial Transactions

Kala Anandarajah provides an overview of the environmental matters that potential acquirers must be concerned with. This article sets out the broad framework of environmental laws in Singapore, discusses the environmental regulators and provides specific instances of concern that environmental laws bring to mergers and acquisitions.

Overview  
'Have you looked at the Environmental law concerns in this transaction?'

'Environmental law? Are there specific issues that we need to be concerned about? No one has ever mentioned this before.'

'Yes, and I would strongly suggest reviewing the matter to ascertain whether an environmental due diligence must be carried out.'

'Oh '

The captioned exchange is not untypical, particularly in the Singapore context. Environmental law has not been regarded with much importance by persons entering into commercial transactions, although it is a matter of tremendous concern to the Government. Indeed, Singapore had taken steps very soon after independence to ensure that adequate measures (including the setting up of a separate Ministry of the Environment) were put in place to ensure the preservation of the environment and to combat any flouting of environmental laws.

Environmental law concerns ought not to be taken for granted. Environmental law issues are significant for most businesses involved primarily in manufacturing operations. It must be stressed that the liability resulting from environmental contamination can be substantial. Thus, it is important that a potential business acquirer or owner or leaseholder of real property be suitably advised of such concerns.

The article does not discuss lender liability issues. However, for a quick understanding of lender liability concerns, please refer to my article entitled 'Lender Liability in Singapore', published in the December 1999 issue of this journal.

Framework of Environmental Laws

The laws

Environmental laws in Singapore have, to a large extent, adopted a methodology for prevention rather than for penalty purposes. As a general rule, the intent of the environmental legislative framework in Singapore is to ensure compliance with environmental matters at the stage of operational start-up via a series of licensing and permitting requirements, and the requirement to undertake certain anti-pollutive measures depends on the nature of the operations. Such licensing and permitting measures and the anti-pollutive measures to be undertaken have been in place since the 1970s, having been revised and updated over the years to take into account revised world standards. The legislation generally takes the form of 'enabling legislation', thereby enabling the Minister for the Environment and/or his regulatory agencies to flesh out the framework provided by the Act in the form of powers conferred on the Minister to make Rules and Regulations to implement the goals of the environmental legislation.

Major characteristic of Singapore's environmental legislation statutes are the wide discretionary powers conferred on the Minister and his agencies, whether in the permit or approval process or during actual manufacturing activity.

Apart from Acts of Parliament and subsidiary legislation, various governmental bodies issue documents that prescribe various standards and procedures, which include codes of practice, directives, circulars and notices (collectively, 'Codes'). The extent of the force of law behind these Codes varies widely. If expressly referred to in an Act or a Regulation, the standards and procedures within such a Code would have the force of law. The Code would not have force of law in itself, but would be implicitly incorporated into the Act or Regulation and, therefore, be part of the Act or Regulation. As such Codes derive the force of law from the executive powers conferred on the Government, they are referred to as 'Codes with executive force'. The provisions of Codes with executive force are enforced under the powers conferred by the provisions of Acts or the Regulations on the regulatory agencies. These powers fall within the following categories:

  1. powers to license or grant approvals;
  2. powers to impose conditions on the grant of licences or approvals, with powers to monitor compliance with such conditions; and
  3. powers to prosecute breaches and impose penalties.

The standards and procedures provided in Codes which are not 'Codes with executive force', serve merely as a guide for professionals, such as architects and engineers, and members of the general public when seeking licences, permits, clearances or approvals from governmental bodies. Such Codes provide guidelines as to what is to be expected when seeking such licences or approvals. These Codes are not binding and do not carry the force of law.

Environmental law in Singapore is not only dealt with by legislation. The common law also deals with this by the provision of a wide range of rights and remedies available in the law of tort to a person who has suffered personal or proprietary damage as a result of manufacturing operations or other forms of pollutive activities. Tort law includes the principles of negligence, the law of nuisance and the strict liability rule in Rylands v Fletcher (1868) LR 3 HL 330. Where a continuing interference with comfort and convenience takes place, such as that caused by noise or smell, nuisance is probably the only relevant tort in most cases. However, where physical damage has occurred, it is likely that negligence and/or the Rylands v Fletcher rule may be pleaded in addition or as an alternative cause of action.

Although environmental law in Singapore is a mixture of statutory and common law, the common law is, as stated in the preceding paragraph, based on existing principles such as negligence, nuisance and trespass. In contrast, statute law has been developed specifically to deal with environmental issues and, as such, provides a number of legal principles of particular application to environmental matters and of special interest in transactions. Such legislative intervention through the years as a tool of controlling environmental damage has made the common law remedies almost redundant. Moreover, common law remedies are not very effective in protecting the environment, since such remedies arise only after the environmental damage has been done. The preventive aspect is, therefore, somewhat lacking. Nevertheless, such remedies remain available and useful where the injured party requires compensatory damages or where a regulatory agency is not prepared to take action.

The remedies

As a general rule, environmental breaches are dealt with as offences for which varying penalties, including imprisonment, is imposed. Penalties for violations can be severe and do not necessarily bear any relationship to the environmental harm that may have resulted. Environmental breaches involving the sea have generally attracted the largest penalties, with environmental breaches involving land attracting lesser penalties. Civil remedies are also available for breaches. For instance, it is open to the authorities, having effected a clean-up, to recover the cost of doing so from the party causing the breach.

It should also be noted that in instances where legislation imposes a particular duty or obligation on a party, a private individual who has suffered loss or injury arising from non-compliance with that duty or obligation may have a common law right of action against such party for breach of statutory duty. The importance of this remedy lies in the fact that the courts appear to have viewed breaches of statutory duty as involving strict and absolute liability, that is, the plaintiff may not have to prove fault on the part of the defendant. As an example, the Factories Act (Cap 104), provides that 'every dangerous part of any machinery shall be securely fenced'. The English courts, in interpreting a similar English statute, have held a factory owner liable for an injury caused by the unfenced part of a grinding wheel, even though it would have been impossible to use the machine if the dangerous part was indeed securely fenced.

The enforcement

The enforcement of environmental legislative requirements generally operates at three levels. First, depending on the type of manufacturing activity in question, the relevant regulatory agency, at the approval stage, determines if all anti-pollution measures mandated by legislation have been complied with before granting approval for the commencement of such manufacturing activity. Secondly, the Ministry of the Environment, through its departments, conducts regular inspections on ongoing industrial activities to ensure that compliance with environmental legislation continues to be observed. Finally, the Ministry enforces environmental requirements by prosecuting offenders in court.

Implications for commercial transactions

Given that a number of statutes and regulations impose limits and requirements on a variety of business activities, it is always a concern that businesses have to be aware of and deal with. Manufacturers are most affected, since virtually any manufacturing activity will involve air emissions, discharges of liquid wastes and creation of solid wastes that must be disposed of or recycled, or at least the storage of an inventory of materials which would be hazardous if not properly handled. The present expense of complying with existing requirements, the future capital cost and annual expense of meeting new or anticipated requirements, and the penalties and other consequences that flow from non-compliance all need to be taken into account in evaluating a potential acquisition.

Where the environmental legislation imposes liability for the present consequences of past activities, the current owner may be held liable for all civil and potentially criminal consequences of the past activity. Since the person or company that undertook such past actions is frequently no longer around, the liability scheme established was intentionally cast very broadly. The position is simple. The owner or occupier of the premises is deemed responsible for the clean up of any waste generated at the premises, whether the waste was discharged prior to the party entering into occupation of the premises or after such entry. In other words, the owner of a facility today can thus be held liable for the cost of cleaning up hazardous substances buried there, even if they were buried long before that owner acquired the property, simply by virtue of having the status of owner. The actual party causing the discharge would always remain liable if he were locatable. For instance, a company (or its corporate successor) that disposed of manufacturing wastes at a facility decades ago and then sold it, may be liable for the cleanup that the present owner undertakes. In either case, the acquirer of a business today can find itself paying for the consequences of actions taken long ago, and for which it received no direct benefit.

There are several things that an acquirer can do to protect itself from such liability. First, and most importantly, careful due diligence can identify much potential liability. An acquirer who knows what it is acquiring can either adjust the purchase price or allocate liabilities in the acquisition agreement. While such agreements do not serve to protect an otherwise liable person against a third-party claim, they at least allocate liability between parties to the agreement. In this regard, it is important to note that a contractual allocation or indemnity is only as good as the balance sheet of the party retaining or assuming the liability.

Second, insurance is sometimes available for at least some kinds of environmental liability.

The Environmental Law Regulators

The principal regulatory authority for environmental laws is the Ministry of the Environment. Apart from the Ministry of the Environment, the Ministry of Health is also involved in environmental regulations where the issues involve health and safety. Each of the two ministries have various departments which co-ordinate various aspects of environmental concerns.

Implications for Commercial Transactions

How environmental laws impact on commercial acquisition transactions

The impact of environmental transactions on commercial transactions can very easily be said to be pecuniary. Of course, there is the higher concern of ensuring that the environment itself is not destroyed. However, when all is said and done, the only issue that concerns parties involved in a commercial deal is the bottom-line.

It is not possible in a paper of this length to deal with any degree of detail about the various possible environmental implications in each of the different permutations of commercial transactions. For illustration purposes, the case of an acquisition is looked at.

In the acquisition of a manufacturing company or site, the acquirer would normally be concerned about any liabilities, whether disclosed or undisclosed, which could accrue on the transfer of ownership. Potential environmental liability is one such concern. As indicated earlier, the breach of any environmental laws may result in common law liabilities as well as liabilities under legislation which could affect either the company's financial position or the value of the site. Such liabilities would often be undisclosed because environmental contingencies are not mandatory disclosures in a company's financial statements. The acquirer should, therefore, ensure that all governmental consents, permits or authorisations which may be required for the carrying out of the manufacturing activities in question have been obtained and are in order. In addition, the acquirer should also ensure that an environmental audit is carried out at the site.

The level of investigation conducted by the buyer would depend on the size and complexity of the transaction. In practice, the acquirer's investigation is limited to requiring the seller to furnish evidence of compliance with all environmental and health laws. In acquisitions involving the conveyance of land, the acquirer sends standard form requisitions to various departments within the Ministry of the Environment. The department's responses to the questions contained in these requisitions should enable the buyer to ascertain if the laws and regulations administered by such departments governing the land in question have been complied with by the seller. It is not a usual practice in Singapore for the buyer to appoint experts on environmental matters to carry out independent investigations of the target company or site. This may be attributed to the fact that the costs of engaging experts may not be justified unless the size of the acquisition is sufficiently large.

In commercial transactions, generally, the seller does not have a statutory duty to notify the acquirer of any site contamination or the presence of dangerous chemicals of which the seller is aware, nor is there a statutory duty to investigate such matters prior to transferring the site to the acquirer. At common law, the position should generally be the same in view of the principle of caveat emptor. In theory, it may be possible to argue that the seller has breached a common law duty if he fails to warn the acquirer that the site has become dangerous by reason of site contamination or the presence of toxic chemicals of which he is aware, and that such a breach should be actionable at law. Such arguments would involve extensions of the principles set forth in Rylands v Fletcher or the tort of negligence and it is not possible to predict whether the Singapore courts will accept such extensions or to determine the exact parameters of liability.

The government does not normally interfere with private commercial transactions except in cases where the manufacturing company to be acquired represents a major industry of vital significance to the economy. For example, it may well be that in a case of a large industrial concern, such as a petrochemical plant, the government would want to know if there has been a change of control since approval for the operation of the plant may have been based on the status and financial and technical capabilities of the owners of the plant. In such circumstances, approval for the operation of the plant may have been given on condition that there should be no change in the controlling interest of the same. It follows then that, in certain acquisitions, notification to the government, and perhaps its approval, may be required.

Scope of due diligence

Perhaps the obvious implication for participants in commercial transactions made aware of environmental concerns is to ensure that adequate due diligence is carried out.

Given the nature of the environmental laws in Singapore, it is important for those engaged in commercial transactions generally, including mergers and acquisitions involving industrial companies or properties in Singapore, to identify the type of industrial activities being carried on; determine what rules and regulations impact on such activities and, finally, to ascertain if these rules and regulations have, in fact, been complied with. The determination of what anti-pollution measures have to be taken and the cost and time involved in implementing such measures are significant factors in ascertaining if a particular industrial venture is feasible. Often, it is not possible to predetermine such factors because there are certain laws which vest in the relevant governmental authorities wide discretionary powers to decide on the appropriate anti-pollution measures that have to be taken. In such instances, the time taken for consultations with, and applications to, the relevant authority will have to be taken into account.

For example, the Clean Air Act (Cap 45) imposes highly complex limits on the amounts of air emissions that an individual manufacturing facility is allowed, and requires such facilities to seek renewed permits periodically in order to continue in business. Thus, one aspect of due diligence for any company subject to Clean Air Act limitations must include a review of its permits, and of whether its operations comply with the limits in the permits. As the relevant limitations are constantly changing, a review of anticipated and budgeted future capital compliance costs is becoming common.

Benefits of due diligence

By conducting proper due diligence in conjunction with suitable warranties, an acquirer would be able to pass on the liability for environmental contravention to the seller. In addition, as regards a breach resulting in criminal penalties, it may be raised as a valid defence that all reasonable enquiry into the previous ownership and uses of the property had been undertaken and no contravention uncovered. A purchaser may escape liability for unknown and undiscovered contamination which existed prior to acquisition if the acquirer, at the time of acquisition, conducted 'all appropriate inquiry' into the previous ownership and uses of the property consistent with good commercial or customary practice in an effort to minimise liability. The acquirer must establish that he or she did not know and had no reason to know that there was a release of hazardous substances at the property. Factors taken into account to determine that the defendant 'had no reason to know' include any specialised knowledge or experience of the acquirer; the relationship of the acquisition price as compared with the value of the property, if uncontaminated; commonly known or reasonably ascertainable information about the property; the obviousness of the presence or likely presence of contamination at the property and the ability to detect such contamination by appropriate inspection.

Successor liability

As a general matter, a party who purchases the shares of a company from another shareholder, acquires the liabilities as well as the assets of the purchased corporation, but a corporation which purchases all the assets of another company is not liable for the debts of the seller. This common law rule applies in the environmental context.

The four exceptions to the general common law rule also apply. A purchaser may be liable for its predecessor's liabilities where:

  1. the purchaser contractually assumes the seller's liabilities;
  2. the purchase was entered into fraudulently in an attempt to avoid liability;
  3. the purchaser merges with the seller; or
  4. the purchaser is a mere continuation of the seller's enterprise.

The first exception is largely within the control of the parties to the contract and the bargain they strike will generally be enforced by the courts.

The second is infrequently an issue in legitimate, arm's-length transactions. The third and fourth exceptions to non-liability, though, have been expanded substantially in the tort context over the past two decades, and the tort cases have generally been followed in the environmental context. If the seller remains in existence, and is financially viable, these successor liability doctrines may not be applicable, but in the common case in which the seller is dissolved following the sale, they apply with full force.

A 1998 decision of the US Supreme Court in United States v Bestfoods clarified that corporate parents will be held responsible for the environmental liabilities of properly capitalised subsidiaries which have observed appropriate corporate formalities only if the parent itself was actively involved in the operation of the specific facility at which the liabilities arose or directly controlled the environmental affairs of the subsidiary. The Bestfoods decision expressly rejected the earlier construction adopted by some of the lower courts, which allowed the imposition of liability on corporate parents or other controlling shareholders if they managed or dominated the subsidiary generally. Concerns over potentially large liabilities reaching corporate parents from a small and otherwise unimportant subsidiary are thus less than they were earlier.

As a result, banks and other sources of capital for acquisitions are generally more comfortable about environmental issues, although they still typically demand (and receive) strong environmental representations and indemnities.

Conclusion

It has traditionally been easy to advise clients that in determining the feasibility of a particular project, the costs involved in obtaining the requisite licences and permits and in installing such anti-pollutive measures as may be required must be provided for in the overall study. However, with increasing environmental consciousness generally, as well as awareness of clean-up obligations and issues lender liability, the nature of the traditional advice must be modified substantially. For instance, it becomes necessary to advise the financier that in reviewing whether to extend the financing, the past activities carried out on the piece of property must also be ascertained. Further, steps may also have to be taken to ascertain whether all environmental requirements have been complied with. This could, for instance, be in the form of requisite due diligence which has to be carried out, including environmental audits at the site. The task sounds easy enough, but given the voluminous environmental legislation in place in Singapore, it may not be so in reality. Of course, a simpler solution might be to incorporate adequate appropriate warranties and indemnities in the relevant agreements between the parties.

Environmental due diligence review is still not undertaken as a matter of course in the Singapore context, except where the acquirer is a party from the United States or from Europe. The culture must be modified so that environmental due diligence becomes a matter of routine in a transaction. Whilst a large part of the environmental due diligence can be effected by lawyers, it may be necessary to appoint environmental consultants, particularly where there is land involved and the prior operations were manufacturing operations.


Kala Anandarajah
Partner & Head, Knowledge Management
Rajah & Tann