Bankruptcy and Environmental Regulation: An Emerging Conflict

Kenneth L. Rosenbaum

Editors' Summary: Commercial bankruptcy threatens to become a recurring impediment to the enforcement of hazardous waste laws. Last November, a federal district court ruled it had no jurisdiction to hear a RCRA and CERCLA enforcement action against Johns-Manville Sales Corporation, a bankrupt. The Comment reviews and criticizes the decision and suggests an alternative analysis to be applied in environmental bankruptcy cases.

[13 ELR 10099]

Bankruptcy has been as far from the domain of the environmental lawyer as homicide. That may soon change. Particularly in the area of hazardous waste, where complying with environmental laws is so costly and the finances of many waste disposers and generators are so precarious, courts will be asked to enforce environmental laws against bankrupt defendants. In enforcing the laws, the courts will face a clash of policies protecting the environment and policies protecting the bankrupt and its creditors.

The legal battles will center on the automatic stay provision of the bankruptcy code,¹ which potentially protects bankrupts from legal actions of all kinds. The stay is limited by exceptions, though, and one of these arguably allows enforcement of most environmental regulations.²

However, in November 1982, the United States District Court for the District of New Hampshire declared it has no jurisdiction to enforce state and federal hazardous waste laws against Johns-Manville Sales Corporation so long as the automatic bankruptcy stay shields the company.³ The precedential value of the decision is limited. The court relied on cases since vacated or disapproved by higher courts, and the decision is being appealed. But the case is worth study as an example of the difficulty in reconciling the statutory directives to protect the environment and to protect a bankrupt's creditors, and as a starting point for analysis of how courts might strike the balance in the future.

The Johns-Manville Case

The Johns-Manville Sales Corporation allegedly has disposed of wastes containing asbestos at several sites in Hudson, New Hampshire.⁴ In 1981, the United States sued Johns-Manville and the owners of the sites under the imminent hazard provision of § 7003 of the Resource Conservation and Recovery Act (RCRA).⁵ The government later added a claim under § 106(a), the parallel provision of the Comprehensive Environmental Response, Compensation, and Liability Act (CERCLA or Superfund).⁶ Under these laws, the United States may proceed against the waste disposer or the site owner seeking abatement of environmental or health threats caused by hazardous wastes. The government decided to proceed primarily against the disposer, Johns-Manville. The complaint asked for an injunction ordering Johns-Manville to make the sites safe through erection of protective signs and fencing and burial of the waste, which otherwise could become a hazardous airborne pollutant. The injunction would order the owners of the sites to note on their deeds that the lands contain hazardous waste, and to allow government inspection and monitoring. The State of New Hampshire intervened seeking similar relief under its Solid Waste Management Act⁷ and Hazardous Waste Management Act.⁸

This suit was not theonly asbestos-related action pending against Johns-Manville. The company also faced an estimated two billion dollars in products liability and occupational safety claims.⁹ Because this liability well exceeded [13 ELR 10100] the company's assets, Johns-Manville filed for voluntary reorganization under Chapter 11 of the federal Bankruptcy Code.¹⁰

Section 362 of the federal bankruptcy law¹¹ gives debtors a "breathing spell,"¹² a stay of creditor claims, lawsuits, and harassment while their financial problems are sorted out. To enforce this stay for Johns-Manville, the bankruptcy court issued a broad order restraining all parties from commencing or continuing litigation against the company.¹³ The Johns-Manville court had to decide whether this stay deprived it of jurisdiction.

There would be little question that the stay was valid, but for 11 U.S.C. § 362(b)(4), an express exception that allows "commencement or continuation of an action or proceeding by a governmental unit to enforce such governmental unit's police or regulatory power."¹⁴ The point of this and some other limited exceptions to the stay is to avoid giving the debtor a license to kill — to keep the debtor subject to general laws that have nothing to do with its finances.

Unfortunately, the distinction between stayed financial proceedings and exempted regulatory actions can be obscure, as the Johns-Manville facts illustrate. Seeking an injunction to abate pollution seems like straightforward, nonfinancial regulation. But both the United States and New Hampshire had the option under their laws of cleaning up the sites themselves and suing Johns-Manville for the costs.¹⁵ Though they might be able to sue to recover their cleanup costs under the § 362(b)(4) exception, § 362(b)(5) makes clear that the judgment would be unenforceable.¹⁶ The Johns-Manville court had to decide whether it could order a defendant to spend a large sum of money on cleanup when it clearly could not order the defendant to reimburse the government for its abatement actions.

To answer the question, the court first turned to the legislative history of the Bankruptcy Reform Act of 1978.¹⁷ This history is unusual in that neither the House nor Senate committee report covers the bill as eventually enacted. For an accurate picture of legislative intent, a court must read the committee reports in conjunction with the floor statements of the Act's proponents.¹⁸

The House report on § 362(b)(4) says "where a governmental unit is suing a debtor to prevent or stop violation of fraud, environmental protection, … or similar … laws, the action or proceeding is not stayed."¹⁹ But the report goes on to say that although the exception covers injunctions and money judgments, it does not cover enforcement of money judgments.

Since the assets of the debtor are in possession and control of the bankruptcy court, and since they constitute a fund out of which all creditors are entitled to share, enforcement by a governmental unit of a money judgment would give it preferential treatment to the detriment of all other creditors.²⁰

The identical floor statements of Congressman Edwards and Senator DeConcini say simply that the section "is intended to be given a narrow construction in order to permit governmental units to pursue actions to protect the public health and safety and not to apply to actions by a governmental unit to protect a pecuniary interest in property of the debtor."²¹ Neither addressed what happens when the government action protects both the public health and a government financial interest.

The hazardous waste enforcement that the plaintiffs sought here was arguably within the letter of the exception to the stay. Certainly the enforcement would be an environmental protection action, as referred to in the House report. But the suit would force the debtor to spend a large sum of money from the fund under control of the bankruptcy court. More important, it would obviate the governments' cleaning up the dumps themselvesand seeking money damages.²²

The court quoted Jaffee v. United States,²³ a radiation injury compensation case, for the proposition that "a plaintiff cannot transform a claim for damages into an equitable action by asking for an injunction that orders the payment of money."²⁴ The court noted that Jaffee was relied on in United States v. Price,²⁵ a hazardous waste case where a district court denied a request for a preliminary injunction that would order defendants to spend money on a groundwater contamination study, holding that plaintiff's claim was essentially for money damages. [13 ELR 10101] Read alongside Jaffee and Price, the court held the legislative history to favor respecting the stay.

The court then turned to past judicial construction of the exception. In re Mansfield Tire & Rubber Co.²⁶ allowed collection of workers' compensation claims where the claims were paid out of an insurance fund legally not part of the debtor's assets. Department of Environmental Resources v. Peggs Run Coal²⁷ allowed injunctions calling for posting of a bond to ensure compliance with environmental regulations. NLRB v. Evans Plumbing Co.²⁸ allowed reinstatement of employees with back pay. But the Johns-Manville court found these precedents not on point.

Instead, the court gave great weight to In re Kovaks,²⁹ a Sixth Circuit case recently vacated on other grounds by the Supreme Court. The Sixth Circuit held the stay prevented Ohio from seeking information about a debtor's income when the state's ultimate goal was to apply the income to cleanup of a hazardous waste site. "What amounted to a money judgment," said the Kovacs court, "was properly subject to the monetary stay."³⁰

The Johns-Manville court noted that the debtor before it was not threatened with just a modest performance bond. The enforcement actions could cause a substantial drain on Johns-Manville's assets.³¹ And the plaintiffs could have chosen to couch this drain as a suit for damages rather than for an injunction,³² or could have chosen to place the burden on the owners of the sites. The court therefore characterized the injunction as the equivalent of money damages, and found the injunction barred by the stay. Essentially, the court gave precedence to the Bankruptcy Act's objectives over these of the environmental statutes, holding that the financial element in the government action eclipsed the environmental element.

Is Johns-Manville Good Law?

Though the court's decision is definsible, three aspects of it are disturbing. The first disturbing aspect is legal. In holding that the relief sought by the governments was equivalent to money damages, the court relied on two cases, Jaffee and Price,³³ whose precedential value was subsequently reduced.The Third Circuit, in affirming Price, expressly disapproved of the lower court's characterization of the injunction sought as equivalent to money damages:

We do not agree that Jaffee leads to the conclusion that, in this case, plaintiff's request for an injunction was actually a claim for damages. Damages are awarded as a form of substitutional redress. They are intended to compensate a party for an injury suffered or other loss. A request for funds for a diagnostic study of the public health threat posed by the continuing contamination and its abatement is not, in any sense, a traditional form of damages. The funding of a diagnostic study in the present case, though it would require monetary payments, would be preventive rather than compensatory. The study is intended to be the first step in the remedial process of abating an existing but growing toxic hazard which, if left unchecked, will result in even graver future injury, i.e., the contamination of Atlantic City's water supply.³⁴

This dictum, though it deals with hazardous waste rumedies, does not make the Johns-Manville ruling clearly erroneous. First, the Price decision examined the relief sought only in the context of general equity, i.e., whether the relief was the proper subject of a preliminary injunction. The Johns-Manville court also had to examine the relief in the context of bankruptcy, whose policies of debtor protection could demand stricter standards. Second, even applying the Price standards to the Johns-Manville situation, one can find the relief sought in Johns-Manville to be equivalent to damages. Though the Johns-Manville relief was "not a traditional form of damages,"³⁵ and was "preventative rather than compensatory"³⁶ and "remedial,"³⁷ one could argue that the Johns-Manville relief was "a form of substitutional redress"³⁸ since the government had alternative remedies.³⁹ Nevertheless, Price argues strongly against using such artificial construction to limit the implementation of environmental laws.

The second disturbing aspect of the case is equitable. The court gave short consideration to the practicality of the options before it. A court in equity traditionally looks beyond the legally possible to the practical and balances the costs to the two sides. The Johns-Manville court did little to quantify the burden an injunction would have had on Johns-Manville's creditors⁴⁰ or to determine if either of the plaintiffs could practically deal with the hazard to public health without Johns-Manville's help.⁴¹ The [13 ELR 10102] court should have allowed these factual issues to be fully argued before it made a decision.⁴²

The third disturbing aspect of the case is jurisprudential. The court saw the question before it as one of jurisdiction. Yet it relied on two kinds of precedent: one dealing with bankruptcy jurisdiction⁴³ and one dealing with the extent of a court's general equitable powers.⁴⁴ The resulting rule is obscure and would be hard to apply to a case with only slightly different facts.

A Better Analysis

A better analysis might be to split the question before the court in two. First ask, Does the court have jurisdiction over the general subject matter of the suit? Second ask, Is the relief requested appropriate? The first question involves a straightforward application of § 362(b). If the cause of action colorably involves application of governmental regulatory or police powers, the court has jurisdiction over the subject matter. Under the Johns-Manville facts, the action involved invoronmental regulation and the court clearly had jurisdiction. The Johns-Manville court acknowledged this fact when it noted that if the relief requested was on the order of a performance bond, it could have granted the relief.⁴⁵

One court and one commentator have suggested this straightforward approach to interpretation of § 362. In In re Canarcio Quarries, Inc.,⁴⁶ a case decided under the old Bankruptcy Code, the federal district court in Puerto Rico held that debtors are generally open to environmental regulatory actions. In dicta, the court interpreted § 362(b) of the current code as requiring that "public interest regulations are to outweight that of the Bankruptcy Act and Rules in case of conflict."⁴⁷

Professor Aaron, in an analysis of the potential policy conflicts between environmental protection and bankruptcy,⁴⁸ also concluded that § 362 should be read to give a blanket approval for environmental actions. Aaron pointed out that if an environmental action causes true hardship to the creditors, as it might have in the Johns-Manville case, the bankruptcy court could ultimately block the action under 11 U.S.C. § 105.⁴⁹ Under Aaron's interpretation, the bankruptcy court, an expert in creditor problems, would decide the question of hardship, and the burden of proof would be on the creditors, not the government.⁵⁰ If, as the Canarcio court seemed to suggest,⁵¹ the primary policy of the stay is one of promoting judicial efficiency by bringing all financial questions in a bankruptcy before one court, then the Aaron interpretation is quite sensible.

But a court should not stop its analysis here. There is no economy in deciding a case and granting an injunction if the bankruptcy court will obviously have to stay the injunction under § 105. Once a court determines that it has subject matter jurisdiction, it should make a preliminary inquiry into whether the relief sought can be equitably granted. This inquiry would follow general equitable principles. First the court would inquire whether the relief is of the sort generally available under equity. The Price standards would control.⁵² Applied to the Johns-Manville facts, the relief sought was a proper subject of an equitable suit. Next the court might consider whether an alternative remedy at law would be sufficient. It is unclear how this issue would have come out under the Johns-Manville facts, since the court did not inquire into the practicality of alternative remedies.⁵³

Next, the court should examine the hardships faced by the two sides. Though the district court lacks the expertise of the bankruptcy court in judging hardship to the bankrupt's estate, the bankruptcy court lacks the district court's experience in judging the potential harm to the public welfare. The district court's inquiry into hardship to the estate can be preliminary, and should err in favor of the public. If the hardship to the estate later proves to be real, the bankruptcy court can correct the problem.

It is impossible to say how the Johns-Manville court should have ruled on the hardship question, since the court heard no formal evidence either on how much harm the injunction threatened to cause or on how compelling [13 ELR 10103] the public interest was.⁵⁴ But the court did surmise that at least some of the relief the government requested would cause little hardship to Johns-Manville.⁵⁵ Assuming that the court found that the other relief would cause hardship, the court still should have found jurisdiction to hear the case and grant the less onerous relief.

In weighing the equities, the court should also consider the good faith of the parties. Specifically, a debtor who committed an environmental violation in contemplation of bankruptcy, intending to use the stay as a shield from prosecution, should be estopped from contesting the propriety of an injunction.⁵⁶

The analytic framework detailed here does not resolve the root problem in environmental bankruptcy stay questions: the conflict between policies that protect the bankrupt and policies that protect the environment. The courts, in their weighing of the equities, must decide how to balance these clashing objectives. The bankruptcy statute and its legislative history are vague enough to support a range of policy interpretations. But the clear concern of Congress over the last 15 years with cleaning up the environment argues for favoring public health and welfare over the financial interests of a group of creditors.

Sadly, courts may face this problem again and again in coming years. RCRA and CERCLA, by internalizing the social costs of waste disposal, may bankrupt many previously profitable businesses. How the courts resolve the clash of policies exemplified by Johns-Manville could seriously affect enforcement of hazardous waste law.

1. 11 U.S.C. § 362.

2. 11 U.S.C. § 362(b). The pertinent language is discussed in text accompanying note 14, infra.

3. 13 ELR 20310 (D.N.H. Nov. 15, 1982), appeal docketed No. 83-1152 (1st Cir. Mar. 3, 1983).

4. Unless indicated, the facts are taken from the court's opinion, 13 ELR at 20310-11.

5. 42 U.S.C. § 6973, ELR STAT. 41922.

6. 42 U.S.C. § 9606(a), ELR STAT. 41947.

7. N.H. REV. STAT. ANN. ch. 149-L.

8. N.H. REV. STAT. ANN. chs. 147-A, -B, & -C.

9. Manville, long the largest supplier of asbestos, is currently defending itself against about 16,500 asbestos claims, with 500 new ones being brought every month. The company's cost per claim has steadily increased, at a rate far in excess of inflation, to more than $40,000 per claim. The discounted cost of all expected claims present and future is by conservative estimates something over $2 billion. The net worth of the company, the asbestos claims to one side, is just over $1 billion.

Epstein, Manville: The Bankruptcy of Products Liability Law, REG., Rept.-Oct. 1982, at 14,14.

10. 11 U.S.C. § 1101-1174.

11. 11 U.S.C. § 362.

12. See H.R. REP. NO. 95-595, 95th Cong., 2d Sess. 340, reprinted in 1978 U.S. CODE CONG. & AD. NEWS 5963, 6296 [hereinafter cited as HOUSE REPORT AND REPRINT, respectively].

13. The bankruptcy court was sitting in the Southern District of New York. 13 ELR at 20310.

14. 11 U.S.C. § 362(b)(4).

15. The United States could do this under §§ 104 & 107 of CERCLA, 42 U.S.C. §§ 9604 & 9607, ELR STAT. 41945, 41947. However, as a practical matter, since the Hudson sites were not on the Superfund priority list, no federal funds would be immediately available for cleanup.

The analogous New Hampshire laws are in N.H. REV. STAT. ANN. ch. 147-B. The New Hampshire state fund currently generates less than $100,000 a year for cleanup. One estimate put the cost of the Manville cleanup at over $1,000,000. 13 ELR at 20311 n.8.

16. 11 U.S.C. § 362(b)(5). See also infra text accompanying notes 19-21.

17. Pub. L. No. 95-598, 92 Stat. 2549 (1978).

18. The two houses originally passed different bills. Late in the session, leaders of the houses arrived at a compromise bill, but time would not allow referral to a committee to produce a fresh report. Instead, Representative Edwards (Cal.), Chairman of the Subcommittee on Civil and Constitutional Rights of the House Judiciary Committee, and Senator DeConcini (Ariz.), Chairman of the Subcommittee on Improvements in Judicial Machinery of the Senate Judiciary Committee, read into the record identical, detailed statements explaining how the compromise bill differed from its two predecessors. 124 CONG. REC. 32392 (1978) (Rep. Edwards); id. 33992 (Sen. DeConcini).

19. HOUSE REPORT, supra note 12, at 343, Reprint at 6299.

20. Id. The Senate report is silent on the subsection.

21. 124 CONG. REC. 32395 (1978) (Rep. Edwards); 124 CONG. REC. 33995 (1978) (Sen. DeConcini).

22. See supra note 15. The court neve heard evidence on whether this route was practical. See 13 ELR 20310-11 n.7.

23. 592 F.2d 712 (3d Cir.), cert. denied 441 U.S. 991 (1979).

24. Id. at 715.

25. 523 F. Supp. 1055, 11 ELR 21047 (D.N.J. 1981), aff'd, 688 F.2d 204, 12 ELR 21020 (3d Cir. 1982).

26. 660 F.2d 1108 (6th Cir. 1981).

27. 423 A.2d 765 (Pa. Commw. Ct. 1980).

28. 639 F.2d 291 (5th Cir. 1981).

29. 681 F.2d 454 (6th Cir. 1982), vacated to consider the question of mootness sub nom. Ohio v. Kovacs, 51 U.S.L.W. 3552 (U.S. Jan. 24, 1983).

30. 681 F.2d at 456.

31. The record included no formal evidence on this point. See 13 ELR at 20311 n.8.

32. See supra note 15.

33. See supra text accompanying notes 23-25.

34. United States v. Price, 688 F.2d 204, 212, 12 ELR 21020, 21023 (3d Cir. 1982).

35. Id.

36. Id.

37. Id.

38. Id.

39. Still, the government might have been able to resort to some sort of self-help in Price, though the court did not discuss the possibility.

40. See supra note 31.

41. See supra note 15.

Of course, an inquiry into the environmental consequences of the court's decision might lead the court into speculation about discretionary matters determining how quickly the government could in fact move to clean up these sites. Nevertheless, the court could have asked whether the sites were on the EPA superfund priority list (they were not) or met the criteria for being placed there.

Perhaps the court's disinterest in such information is tied to the nature of the creditors' claims. The court noted that many of the creditors were asbestos victims. Perhaps the court did balance the interests and found it just to compensate these already suffering before worrying about risks of future harm, particularly since it had reason to believe that such risks would not persist. But if such was the deciding argument, the opinion poorly reflects it. And by relying on the strained argument that the governments' request for injunctive relief was for damages, instead of adopting the available alternative of asserting jurisdiction and refusing through exercise of its equitable discretion to order the full injunctive relief sought, see infra text accompanying notes 45-46, the court left no clear path for further courts facing these issues to travel.

42. The court apparently considered but rejected the idea of hearing further evidence. 13 ELR at 20310 n.5.

43. I.e., In re Kovacs; see supra text accompanying note 29.

44. I.e., Jaffee and Price; see supra text accompanying notes 23 & 25.

45. 13 ELRat 20312.

Yet, because the Johns-Manville court denied jurisdiction over the entire action, it precluded itself from granting any relief, even though it might have been able to ensure some protection of the public health while not significantly injuring Manville's creditor. Thus the court's deference to the bankruptcy law's goal of protecting creditors may have been an unnecessarily strong rebuff to the environmental laws' goal of protecting public health. Absent reversal on appeal, the government agencies are left with no recourse but to clean up the sites and seek compensation from the bankruptcy trustee at a fraction on the dollar. And either alternative takes time, which increases the public health risk.

46. 466 F. Supp. 1333 (D.P.R. 1979).

47. Id. at 1339.

48. Aaron, Bankruptcy Stays of Environmental Regulation: Harvest of Commercial Timber As an Introduction to a Clash of Policies, 12 ENVTL. L. 1 (1981).

49. Section 105 gives the bankruptcy court broad equitable powers to carry out the purposes of the Act. See infra the legislative history quoted in note 50.

50. In the legislative history of § 362(b), the HOUSE REPORT expressly contemplated and approved this backstop role for § 105.

The court has ample other powers to stay actions not covered by the automatic stay. Section 105 … grants the power to issue orders necessary or appropriate to carry out the provisions of title 11. [Section 105] stays will not be automatic, but will be granted or issued under the usual rules for the issuance of injunctions. By excepting an act or action from the automatic stay, the bill simply requires that the trustee move the court into action, rather than requiring the stayed party to request relief from the stay. There are some actions, enumerated in the exceptions, that generally should not be stayed automatically upon the commencement of the case, for reasons of either policy or practicality. Thus, the court will have to determine on a case-by-case basis whether a particular action which may be harming the estate should be stayed.

HOUSE REPORT, supra note 12, at 342, Reprint at 6298.

51. "'We note at the outset that "the power to stay proceedings is incidental to the power inherent in every court to control the disposition of the causes in its docket with economy of time and effort for itself, for counsel and for litigations."'" In re Canarcio Quarries, Inc., 466 F. Supp. 1333, 1338 (D.P.R. 1979), quoting Ohio Environmental Council v. U.S. District Court, 565 F.2d 393, 396 (6th Cir. 1977), in turn quoting Landis v. North American Co., 299 U.S. 248, 254-55 (1936).

52. See supra text accompanying notes 35-38.

53. See supra text accompanying note 41. The court should have considered both, whether the governments could provide relief at all and whether they could provide relief as quickly as Johns-Manville could.

54. Sections 7003 of RCRA and 106(a) of CERCLA are aimed at imminent hazards to the public health. If the governments' case had merit, the public interest was very compelling.

55. 13 ELR at 20311.

56. This rule would be, in a rough way, analogous to the antipreference section of the bankruptcy code, 11 U.S.C. § 547, which is designed to prevent a debtor from manipulating its affairs in contemplation of bankruptcy of favor some debtors over others. A would-be bankrupt who saves money be dumping waste illegally has in effect made a payment to his creditors in preference to the public. Equity ought to prevent a debtor from fraudulently using bankruptcy as a shield against environmental laws.