When a corporation determines to file for Chapter 11 protection, questions concerning the status of existing labor and employment agreements and viability of employee claims immediately arise. Indeed, there are litanies of potential pitfalls for companies that file for bankruptcy without strictly following the requirements of federal or state employment laws.
Perhaps the most-well known among these is the Worker Adjustment and Retraining Notification Act (WARN Act), which mandates that companies pay compensation up to average earnings for no more than 60 days. This compensation is paid to replace earnings lost by prematurely terminated employees. If this liability is triggered within 180 days of the bankruptcy filing, such liability amounts to a first-tier, fourth-priority (wages) claim under section 507(a) of the Bankruptcy Code (see In re Riker Ins. Indus., Inc., and In re Cargo, Inc.). If triggered during the post-petition period, such liability is a first-tier, first-priority claim under section 507(a) of the WARN Act (see In re Hanlin Grp.)
“Back pay” is also a common remedy under other federal and state employment laws, such as Title VII of the Civil Rights Act of 1964, the Age Discrimination in Employment Act, the Americans with Disabilities Act, as well as the historic common law remedy for unlawful termination due to unfair labor practices.
But these are not the only federal regulatory laws employers should be aware of when contemplating a bankruptcy filing. As the debtor in In re FPMI Solutions Inc., Case No. 16-12142-KHK (Bankr. E.D. Va.) learned, the McNamara-O’Hara Service Contract Act imposes significant monetary penalties for companies that run afoul of its provisions.
The McNamara-O’Hara Service Contract Act
The McNamara-O’Hara Service Contract Act (SCA) requires contractors and subcontractors performing services on prime contracts in excess of $2,500 to pay service employees in various classes no less than the wage rates and fringe benefits found prevailing in the locality, or the rates (including prospective increases) contained in a predecessor contractor’s collective bargaining agreement. The U.S. Department of Labor (DOL) issues wage determinations on a contract-by-contract basis in response to specific requests from contracting agencies. These determinations are incorporated into the contract.
The failure of a contractor to comply with the SCA and the regulations promulgated thereunder may result in liability and debarment from contracting with the government for three years.
In Vigilantes, Inc. v. Adm’r of Wage and Hour Div., U.S. Dept. of Labor, 968 F.2d 1412, 1418 (1st Cir. 1992) the decision stated that, “The legislative history of the SCA makes clear that debarment of contractors who violated the SCA should be the norm, not the exception, and only the most compelling of justifications should relieve a violating contractor from that sanction.” Furthermore, in Karawia v. U.S. Dept. of Labor, 627 F.Supp.2d 137 (S.D.N.Y. 2009), the precedent was set that the contractor’s numerous and repeated violations of SCA amounted to “culpable neglect,” an aggravating factor that precluded relief from debarment.
For contracts equal to or less than $2,500, contractors are required to pay the federal minimum wage as provided in Section 6(a)(1) of the Fair Labor Standards Act.
For prime contracts in excess of $100,000, contractors and subcontractors must also, under the provisions of the Contract Work Hours and Safety Standards Act, as amended, pay laborers and mechanics, including guards and watchmen, at least one-and-one-half times their regular rate of pay for all hours worked over 40 in a workweek. The overtime provisions of the Fair Labor Standards Act may also apply to SCA-covered contracts.
In re FPMI Solutions Inc.
A 30-year-old Virginia contractor that provides solutions in human resources, human capital, and learning services for commercial and government clients, both in the United States and internationally, paid back more than $3 million in back wages and benefits to workers to resolve the findings of a U.S. Department of Labor (DOL) investigation. Here’s what happened.
FPMI Solutions Inc. (FPMI) filed a case under Chapter 11 of the Bankruptcy Code on June 20, 2016. FPMI’s bankruptcy filing was precipitated by Western Alliance Bank, FPMI’s largest secured creditor, seizing accounts worth about $860,000 when FPMI failed to repay a loan. FPMI then began defaulting on trade debts and payroll obligations.
Additionally, FPMI violated the prevailing wage and fringe benefits provisions of the SCA, specifically for its failure to pay over $3 million in prevailing wage and health and welfare benefits to its employees working in the Washington, DC, area. The DOL found that FPMI failed to pay employees and contractors during several pay periods between June 2016 and October 2016.
Undeterred by FPMI’s Chapter 11 filing, the DOL immediately made an appearance in the bankruptcy case and aggressively pursued its claims, taking actions similar to those traditionally employed by a secured creditor or official committee of creditors. For instance, the DOL played an instrumental part in negotiating with FPMI and Apprio, a tech solutions contractor that ultimately purchased the company, on cash collateral and sale terms, advocating for the payment of salaries and benefits owed as well as retention in employment where possible. Ultimately, Apprio purchased FPMI for $1.7 million in a sale consummated by the court in September 2016. FPMI later moved to voluntarily dismiss the case, which the court granted on June 22, 2017.
Implication of the SCA provided a unique wrinkle to this Chapter 11 proceeding. However, this is not the first instance in which the DOL has enforced the SCA to recover millions in back wages.
In the case of USProtect Corporation, a defunct Maryland company that provided security services for federal buildings across the country, the U.S. Bankruptcy Court for the District of Maryland approved a global settlement allowing DOL to recover close to $8 million in back wages, fringe benefits, and 401(k) plan assets for more than 2,000 security guards. The USProtect Corp. case is actually two jointly administered Chapter 11 filings in the U.S. Bankruptcy Court for the District of Maryland: USProtect Corporation (Case No. 08-13637-TJC) and USProtect Services Corporation (Case No. 08-13638-TJC), with Case No. 08-13637 being the lead case.
The FPMI case should be a useful warning to contractors that fall under the purview of the SCA. The best way to avoid falling into hot water with the DOL is to review all of your contracts to determine whether you are required to follow the SCA. The SCA’s statutory requirements are not an option — they are mandatory. Citing the precedent in A to Z Maint. Corp. v. Dole, 710 F.Supp. 853, 857 (D.D.C. 1989): “[U]nfamiliarity with the requirements of the SCA may only constitute ‘unusual circumstances’ once; from then on, a contractor is put on notice that strict compliance with the SCA is required.” WageDeterminationsOnLine.gov is a helpful website that provides a single location for federal contracting officers to use in obtaining appropriate SCA wage determinations for each official contract action.
Also, be sure to hire experienced professionals to ensure that your company remains in compliance with the SCA. It is imperative that you perform an internal self-audit to ensure your employee compensation and record keeping is current and accurate.
Even if your company is facing financial hardship and is contemplating filing for Chapter 11, it is still important to keep your payroll up-to-date and in full compliance with the SCA. If your company does end up in bankruptcy owing past due wages and other benefits, it is in your best interests to cooperate with the DOL throughout the proceedings.
***** Shane Ramsey is a partner and vice chair of the Bankruptcy and Financial Restructuring Practice Group at Nelson Mullins Riley & Scarborough, LLP in Nashville, TN. The American Bankruptcy Institute recently recognized him as one of the “Forty Under Forty” bankruptcy professionals. David Barnes is an associate in the firm’s Washington, DC, office.
The views expressed in the article are those of the authors and not necessarily the views of their clients or other attorneys in their firm.