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Who's the Boss

The expanded reach of private equity funds as owners of Main Street companies has also undermined the traditional employment relationship.
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It has become harder and harder for workers to tell who their employer is. Companies have engaged in vertical dis-integration as franchised businesses have become increasingly prominent and contracting out of operations by traditional firms has increased. The expanded reach of private equity funds as owners of Main Street companies has also undermined the traditional employment relationship.

In both cases, a complex web of legally distinct entities has been put in place whose aim is to separate a business's actual owners and managers from responsibility for the effects of their decisions on workers.

Recent developments, however, suggest that the interpretation of laws meant to assure that workers are fairly paid and their pensions are safeguarded is finally catching up with these new realities.

In a landmark decision on August 27, the Ninth U.S. Circuit Court of Appeals in San Francisco overturned lower court decisions and ruled that FedEx drivers in California are employees and not, as the company maintained, independent contractors. The Court found that FedEx's labeling of the drivers as "independent contractors" in its Operating Agreement did not make them so.

The court noted that the drivers are required to wear FedEx uniforms, drive vehicles that meet FedEx's standards, and dress according to FedEx's appearance code. FedEx tells its drivers what packages to deliver, on what days, and at what times. The Court agreed with the FedEx drivers that they are indeed employees. The decision means that 2,300 past and present FedEx drivers in California are entitled to overtime pay and to recoup work expenses for their uniforms and trucks.

The FedEx decision follows soon after another landmark decision -- this one affecting employees at McDonald's franchised restaurants. In July, in a case involving charges of unfair labor practices, legal counsel for the National Labor Relations Board (NLRB) held that McDonald's Corporation has joint responsibility with its franchised restaurant owners for how employees are treated.

In the franchising model, which has become increasingly prevalent in fast food and retail operations, local franchise owners are nominally responsible for the restaurant's operations, pay fees to a corporation to use its brand, and must run the operation in conformance with the corporation's guidelines. Questions have been raised about just how independent franchise owners are. The NLRB ruling holds that the parent corporation and the franchise owner are jointly responsible for working conditions and violations of labor law in the franchised establishments, with wide implications for workers at franchised businesses.

McDonald's defense is that its role is 'hands-off' when it comes to the operations of its franchised restaurants. This is the claim that private equity owners of companies also invoke to argue that they are investors, not managers, and are not responsible for assuring that labor and employment laws are adhered to. In our new book, "Private Equity at Work: When Wall Street Manages Main Street ," Rosemary Batt and I demonstrate that a company's private equity owners make decisions that directly affect the jobs, pay and working conditions of its employees. This is not hands-off management. Indeed, proponents of the private equity business model themselves are quick to point out that private equity creates value precisely through the active management of the companies it owns.

Several recent rulings spell out what this means for private equity. In the case of the law governing pension liabilities, the United States Court of Appeals for the First Circuit issued a ruling in July 2013 that one of PE firm Sun Capital's funds was not merely a passive investor but was actively involved in the operations of a portfolio company that went bankrupt and may be responsible for its unfunded pension plan and other liabilities.

Private equity firms have also found themselves liable for employees' back pay and benefits under the federal Worker Adjustment and Retraining Notification Act (WARN Act) which requires employers with 100 or more employees to provide 60 days advance notice to workers in the event of a plant closing or mass layoff.

The Delaware District Court has allowed WARN lawsuits against private equity firms MatlinPatterson Global Advisers and Navigation Capital Partners (NCP) to go forward in cases where a portfolio company failed to provide the required advance notice here and here. A similar ruling from the Court of Appeals for the Second Circuit held that PE firm York Capital and its Bay Harbour Management portfolio company were a single employer for purposes of the WARN Act.

Finally, the NLRB appears ready to classify PE firms as joint employers with their portfolio companies for purposes of the National Labor Relations Act (Private Funds Management Monday Monitor, August 25, 2014). This could make the PE firm liable for unfair labor practices, for failure to adhere to a collective bargaining contract, and for contributions to employees' health plans.

These are early days, and the various rulings highlighted here are likely to be appealed. But this new willingness of courts and agencies to reconsider what it means to be an employer in today's multi-faceted employment relationships is a welcome development for workers who would otherwise lack meaningful recourse when labor, employment or pension laws are violated.

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