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Novack. v. Raytheon Co.

Superior Court of Massachusetts, Suffolk, Business Litigation Session

June 10, 2016

Kenneth J. Novack as Agent for Certain Stockholders of BBN Technologies Holding Corp.
v.
Raytheon Company No. 134303

          FINDINGS OF FACT, RULINGS OF LAW, AND MEMORANDUM OF DECISION AFTER NON-JURY TRIAL

          Kenneth W. Salinger, Justice

         Plaintiff Kenneth J. Novack, acting on behalf of former stockholders of BBN Technologies Holding Corp., seeks the release of most of the $10.5 million that Raytheon Company is holding in escrow to cover potential costs to clean up or otherwise remediate environmental contamination at a site in Cambridge, Massachusetts. BBN had occupied and operated that site for many years and thus was legally responsible for remediating the presence of chlorinated volatile organic compounds (" CVOCs") and other pollutants at the site. Raytheon assumed those liabilities when it acquired BBN in late 2009. The BBN stockholders are contractually obligated to indemnify Raytheon for at least some costs of remediating the Site, subject to contractual provisions that required Raytheon to limit its initial claim against the escrow fund to reasonably likely remediation costs, and then to investigate the Site and quantify remediation costs without undue delay and, if appropriate, reduce its escrow claim accordingly.

         The Court finds and concludes that Raytheon breached its contractual duties under the merger and escrow agreements in two ways. First, Raytheon made an excessive initial claim against the escrow fund. The $10.5 million claim asserted by Raytheon was far higher than the amount of compensable remediation costs that were " reasonably likely to be incurred" at the time Raytheon made its escrow claim. Based on the relatively limited site investigation that Raytheon chose to do during the 18 months after the merger transaction closed, Raytheon was entitled to assert an escrow claim of $3.545 million but no more. Second, Raytheon then failed to comply with its contractual obligation to determine the amount of its compensable remediation costs " as promptly as reasonably practicable." The appropriate remedy for this second breach is to place the burden on Raytheon to prove what amount of remediation costs are likely to be incurred, and to release any escrow balance exceeding that amount. The Court finds and concludes that the maximum likely amount of remediation costs proved by Raytheon is $4.0 million, of which $500, 000 must be paid by Raytheon under the terms of the parties' contracts. Finally, Raytheon has no contractual right to recover reasonable attorneys fees and litigation costs incurred in defending this action, as the Court previously ruled.

         In sum, Mr. Novack is entitled to final judgment in his favor ordering the escrow agent to release and pay to him $7.0 million of the current escrow balance.

         1. Findings of Fact

         The Court conducted a jury-waived trial in this case over nine days from January 25 to February 4, 2016. The parties filed post-trial requests for findings of fact and rulings of law on March 18, 2016. The Court heard closing arguments on March 29, 2016. The Court makes the following findings of fact based on the credible evidence presented at trial, the undisputed facts to which the parties stipulated before trial, and reasonable inferences drawn from the evidence. It makes additional findings regarding likely remediation costs in section 3.4, beginning at page 23 of this slip opinion, below.

         1.1. Site Description

         BBN continuously occupied and operated a campus in North Cambridge, Massachusetts (the " Site") from the 1950s until BBN was acquired by Raytheon in 2009. The Site is located on the north side of Concord Avenue between Moulton Street and Fawcett Street. The Fresh Pond reservoir, which provides the City of Cambridge with drinking water, is on the south side of Concord Avenue opposite the Site.

         From the 1950s until 2004, BBN or its corporate predecessors owned the entire Site except for a parcel in the southwest corner (the " 10 Moulton Street parcel, " also known as 625 Concord Avenue) that was owned and operated by Superior Laundry Company, a commercial laundry service. Superior occupied a building on the 10 Moulton Street parcel and ran a dry cleaning business there from the 1930s to the early 1970s. Like other dry cleaners, Superior used CVOCs as a degreaser in cleaning clothes. While Superior Laundry was occupying this parcel, there was an above-ground gasoline tank located just east of its building. In the early 1970s Superior Laundry left the Site and BBN began leasing the 10 Moulton Street parcel from its new owner, Western Properties Master, LLC (" Western Properties").

         At present, the Site contains a number of buildings and various open parking areas. The far northwest corner of the Site is now a parking lot that is accessible from Moulton Street. Building 1 is a two-story structure located just south of this parking lot; it was built in 1953 or 1954. Building 2 is another two-story structure located immediately to the south of Building 1; it was built in 1960, and is now physically connected to Building 1. To the immediate south of Building 2 stand Buildings 3, 4, and 5, which are all one-story structures. They were all built in 1953 and 1954, and have been interconnected so that from outside they now appear to be one large building. Buildings 1-5 all front onto Moulton Street.

         The far northeast corner of the Site is occupied by Building 19, a one-story structure that fronts onto Fawcett Street. There are two large open-air parking lots to the south of Building 19, accessible from Fawcett. Building 17, another one-story structure, is near the southeast corner of the Site; it is surrounded by paved parking areas that fill the site up to the intersection of Fawcett Street and Concord Avenue.

         Building 6 now stands in the southwest corner of the Site, on the 10 Moulton Street parcel previously occupied by Superior Laundry, near the intersection of Moulton Street and Concord Avenue. Building 6 was constructed in 1974 or 1975. The footprint of Building 6 partially overlaps the footprint of the building that had been occupied by Superior Laundry. The lowest level of Building 6 is not enclosed; it serves as a below-grade, open-air parking garage. Above the garage there is a six-story brick office building. Rainwater that lands on the roof of Building 6 flows through pipes into the garage, where it collects in a sump below the level of the garage floor. Water that collects in the sump is pumped into a municipal storm water drainage system under Moulton Street that flows to the north and eventually into Alewife Brook. There is a driveway to the north of Building 6, and immediately to the south of Building 5, that connects Moulton Street to the parking area immediately to the east of Building 6; access to the parking garage under Building 6 is from this driveway. The Court infers and therefore finds that the structure previously occupied by Superior Laundry was demolished, and that area where Building 6 now stands was excavated, in the early 1970s.

         1.2. BBN's Knowledge of and Liability for Site Contamination

         BBN became aware at some point that various types of environmental contamination are present in the soil and groundwater at the Site and in the indoor air of several of the buildings at the Site. The contamination includes CVOCs, petroleum products, polycyclic aromatic hydrocarbons (" PAHs"), and metals (including lead).

         CVOCs are man-made industrial solvents that are used in dry cleaning, as degreasers in manufacturing operations, and for other purposes. When present above certain concentrations CVOCs are toxic and may be carcinogenic. In Massachusetts they have been subjected to increasingly stringent regulatory standards under the Massachusetts Contingency Plan (" MCP") adopted by the Massachusetts Department of Environmental Protection (" MassDEP") pursuant to G.L.c. 21E. The CVOCs present at the site consisted of perchlorethylene (" PCE") and its degradation products. Over time PCE will naturally break down into trichloroethylene (" TCE"), which will then break down into dichlorethylene (" DCE") or cis-1, 2 dichlorethylene (" cis-1, 2 DCE"), which will break down into vinyl chloride (" VC"), which will then break down into non-hazardous compounds. This process may take many years.

         CVOCs can be highly volatile. When present in the soil above the groundwater table, they can vaporize and rise in gaseous form out of the soil into the air. If CVOCs vaporize below or near a building, they may enter the indoor air of the building and as a result pose a health risk to people inside the building.

         On the other hand, when present in the ground CVOCs can also gather in globules or even pools of dense nonaqueous phase liquid (" DNAPL") that is denser than water. Over time DNAPL will tend to sink or migrate downward through the soil column and through groundwater until it reaches a material like clay that is denser than the DNAPL. CVOCs in DNAPL form will not flow through clay, but over time small amounts of the CVOCs may diffuse into a clay layer by molecular diffusion. Furthermore, over time--and especially once decades have passed--CVOCs in DNAPL form will desorb from the soil and be degraded by naturally occurring microbes that convert CVOCs into non-hazardous compounds.

         BBN and Western Properties each hired a license site professional (" LSP") to investigate the Site. The LSPs closed the Site under the version of the Massachusetts Contingency Plan that was in effect in 2003 and 2005, but no audit was performed by MassDEP. The LSPs summarized their findings and conclusions in a Phase I Environmental Site Assessment Report dated February 2003, and in two response action outcome statements issued in 2003 and 2005.

         In 2004, BBN sold the portions of the Site that it owned to Intercontinental Fund III 20 Moulton Street. BBN leased all the property back and continued to occupy and operate it. In 2006, Western Properties sold the 10 Moulton Street parcel to Intercontinental, which added that parcel to its lease with BBN.

         This Lease provides that BBN was liable for any and all contamination at the Site that violated any environmental laws. More specifically, the Lease provided that BBN was obligated to " take all steps necessary at [BBN's] sole expense to remediate and cure such violation or spill in accordance with all applicable environmental laws."

         1.3. 2009 Sale of BBN--Key Contractual Provisions

         Raytheon purchased BBN in 2009 for $350 million. The parties agreed to this sale on August 31, 2009, when they entered into an " Agreement and Plan of Merger" governing the transaction. The transaction closed on October 26, 2009, but had an effective date of August 31, 2009. BBN is now a wholly-owned subsidiary of Raytheon. It has changed its name to Raytheon BBN Technologies Corp. (" Raytheon BBN") and is BBN's successor on the Lease of the Site. Thus, under the Lease, Raytheon BBN is liable to the landlord for all environmental contamination at the Site.

         During due diligence for this merger transaction, BBN provided Raytheon with access to reports and records disclosing the known environmental contamination at the Site, including the reports summarized above. BBN's environmental disclosures to Raytheon described the detection of CVOCs in two separate areas of the Site: (i) in the vicinity of the 10 Moulton Street parcel formerly owned and operated by Superior Laundry, and thus in the vicinity of structures known as Buildings 5 and 6 in the southwest corner of the Site near Concord Avenue and Moulton Street, and (ii) in the open air parking lot to the north of Building 1, in the northwest corner of the Site abutting Moulton Street.

         In accord with the Plan of Merger, Raytheon placed 12.5 percent of the purchase price, or $43.75 million, into an Escrow Fund to cover various possible contingencies. One of those contingencies was the cost of remediating environmental contamination at the Site. The BBN stockholders irrevocably appointed Mr. Novack, the plaintiff in this action, to serve as their agent with respect to the escrow and indemnification provisions of the Plan of Merger, and for several other purposes not relevant here. At the time that the merger closed, Raytheon, Novack, and escrow agent JPMorgan Chase Bank, N.A., entered into a separate written Escrow Agreement that governs claims by Raytheon on the Escrow Fund, disputes over those claims, and distributions from that fund.

         With respect to claims on the Escrow Fund for environmental assessment and cleanup costs, the key provisions in the Plan of Merger are as follows. The BBN stockholders represented and warrantied that the environmental contamination disclosed in the 2003 and 2005 reports would not give rise to any future liabilities in excess of $100, 000 in the aggregate. They also agreed to " indemnify and hold harmless" Raytheon in the event that this representation and warranty proved to be inaccurate. The indemnification provisions of the Plan of Merger state that Raytheon is only entitled to be indemnified if the aggregate " Losses" that it is entitled to recover exceed $1.175 million. In addition, if the selling BBN stockholders' indemnification obligation is triggered, a $500, 000 deductible will apply, thus reducing the amount payable to Raytheon from the Escrow Fund. This deductible is specified in the Plan of Merger provision stating that if the indemnification obligation is triggered the BBN stockholders " will be responsible only for the amount of such Losses in excess of $500, 000."

         Raytheon had the contractual right to make claims of certain kinds on the amount held in escrow, so long as it did so within eighteen months from the closing date of the merger, or by April 25, 2011. In other words, the parties agreed that Raytheon would have no more than eighteen months after their transaction closed to investigate the Site, determine the extent of environmental contamination at the Site that may be subject to indemnification from the Escrow Fund, and make a reasonable estimate of the likely cost to remediate that contamination. At the end of that eighteen-month period, any balance in the Escrow Fund that had not been paid to or claimed by Raytheon was to be distributed to the former BBN stockholders.

         The Escrow Agreement provides that any claim on the Escrow Fund submitted by Raytheon had to include Raytheon's " best estimate of the amount of Losses attributable to such claim." The Escrow Agreement also gave Mr. Novack the right to dispute any escrow claim by Raytheon. If a claim on the Escrow Fund is disputed, then the escrow agent is required to hold the disputed amount in the Escrow Fund until Raytheon and Novack agree upon its disposition or until a final court decision resolves the matter.

         In addition, the Escrow Agreement imposes several additional obligations on Raytheon to justify holding back amounts in the Escrow Fund, if Raytheon and Mr. Novack are unable to agree on the appropriate " Hold Back Amount." First, if Raytheon stated in its notice of claim that the amount required to satisfy the claim is not reasonably ascertainable, " or if for any other reason Raytheon and Novack could not agree on the appropriate hold back amount for any particular escrow claim by Raytheon, then the amount initially claimed by Raytheon and held back in the Escrow Fund may not exceed an amount that Raytheon " reasonably and in good faith concludes, after consultation with outside counsel, that is approximately equal to the Losses that are reasonably likely to be incurred." Given the $500, 000 deductible on any claim by Raytheon for indemnification of compensable Losses, by contract any claim by Raytheon against the Escrow Fund for remediating environmental contamination at the Site could not exceed the remediation costs that were reasonably likely to be incurred, based on information developed by or otherwise known to Raytheon at the time, minus the $500, 000 deductible. Second, Raytheon is also contractually obligated " to ascertain the amount of such Claim as promptly as reasonably practicable and to notify the Escrow Agent and Stockholders' Agent of the amount of such Claim promptly after such amount becomes reasonably ascertainable by Parent, " and then to release any excess Hold Back Amount.

         14. Raytheon's April 2011 Hold Back of $10.5 Million

         Raytheon hired the firm Arcadis to investigate and evaluate environmental contamination at the Site, and then estimate the cost of remediating that contamination for the purpose of supporting a claim by Raytheon against the Escrow Fund. Raytheon first retained Arcadis to do this work in the summer of 2009, around the time that Raytheon and BBN agreed to the terms of their merger.

         In December 2009, Raytheon BBN established an environmental liability reserve in the amount of $4.645 million to reflect its best estimate at that time of the likely cost to remediate all environmental contamination at the Site.

         Arcadis did underground sampling to test for subsurface contamination at the Site in October 2010. After receiving initial reports from Arcadis about this testing, Raytheon's environmental risk manager (Robert Luhrs) reported internally that these initial indications suggested that soil contamination at the Site " is not widespread like feared, " and that Raytheon " may be significantly over reserved." Arcadis then tested indoor air in the various buildings at the Site in February 2011.

         Shortly thereafter, also in February 2011, Mr. Luhrs instructed Arcadis to prepare " worst case" estimates of the cost to delineate and remediate the environmental contamination at the Site that Raytheon could use as the basis for making a claim against the Escrow Fund. In Luhrs' experience, environmental consultants often sugar coated their initial cost estimates to clean up or otherwise remediate environmental contamination, with the expectation that if actual costs exceed the more appealing initial estimates they could be recouped from Raytheon through a series of change orders. Luhrs made clear to Arcadis that he did not want them to prepare that sort of cost estimate, but that to the contrary he wanted to know the worst case cost scenario so that Raytheon could submit the highest reasonable claim against the Escrow Fund.

         Arcadis complied with Raytheon's instruction to prepare and submit a " worst cost" estimate of all costs to delineate and remediate contamination at the Site. In its first draft, completed on February 28, 2011, Arcadis professionals estimated that the total costs would range from $800, 000 to $1.3 million. But Arcadis was concerned that there could be unanticipated contingencies not reflected in these estimates, so it increased them substantially to ensure that it was truly estimating a worst case scenario. It prepared a revised estimate later on February 28 that increased the high-end estimate to $2.7 million. Arcadis then spent some time analyzing whether it could justify yet higher cost estimates.

         Ultimately, Arcadis provided Raytheon with a " worst case" cost estimate totaling $4.045 million. The largest single component of this total was an estimate of $1.8 million to clean up any CVOCs that had migrated across the southern property line of the Site under or to the other side of Concord Avenue, toward Fresh Pond, under the assumption that CVOCs in large concentrations of non-aqueous phase liquid (NAPL) was found south of Concord Avenue. Arcadis included this amount in its cost estimate even though Arcadis and Raytheon had no reason to believe at that time that groundwater flowed south from the Site toward Fresh Pond or that any CVOCs had migrated from the Site toward or to the other side of Concord Avenue. The other components of this worst case scenario were estimates of $200, 000 to complete site delineation and identify the extent of any environmental contamination, $695, 000 to run a dual phase high vacuum extraction system for three years to eliminate all CVOC contamination in the soil and groundwater, $800, 000 to conduct quarterly groundwater monitoring to ensure that the dual phase extraction system was successful, and $550, 000 to manage the project and make all required reports to MassDEP. These remaining estimates were based on worst case assumptions that NAPL was identified under existing buildings, that a multi-phase extraction system would have to be installed to recover the NAPL, and that as much as 15 years of monitoring would be required to ensure that there was no rebound in CVOCs levels, i.e. that all CVOCs in NAPL form had been remediated.

         Raytheon knew the basis for the Arcadis cost estimates, and was aware that they represented the likely worst case scenario. In particular, Raytheon was aware that the Arcadis cost estimate included $1.8 million for remediating contamination under or across Concord Avenue that probably did not exist.

         Nonetheless, Raytheon decided to make a claim against the Escrow Fund that was far higher than Arcadis's good faith estimate of the worst case cost scenario. Raytheon justified claiming a higher amount as follows. Raytheon has had responsibility for remediating environmental contamination at roughly 200 different sites. At forty of those sites remediation efforts were ongoing as of early 2011. Eleven of those forty sites involved some level of CVOC contamination. Five of those eleven sites were in Massachusetts and the other six were in other sites. Luhrs compared the initial cost estimates to clean up those sites with the actual costs incurred after ten years. He totaled those figures for all eleven sites and thereby determined that, on a weighted-average basis, the actual remediation costs for all eleven sites was 263 percent of (i.e., 163 percent higher than) the original remediation cost estimates. But Luhrs did nothing to determine whether the scope and levels of CVOC contamination at these eleven sites was at all comparable to the Site in this case. Nor did he do any analysis of whether the regulatory requirements that applied to the six sites outside of Massachusetts were at all similar to the regulatory requirements that apply to the Cambridge Site in this case. Indeed, Luhrs did not bother to review any of the available reports concerning remediation efforts at these eleven sites before deciding that he would use data from those sites to inflate the Arcadis worst case cost estimate. The Court credits Luhrs' testimony that the original cost estimates for these other sites were " sugar coated" and unrealistic, and therefore finds that they are not comparable to the worst case costs estimates that Luhrs sought and obtained from Arcadis for the Site in this case.

         Nonetheless, on April 18, 2011, Raytheon made a $10.5 million claim against the Escrow Fund that it derived by arbitrarily grossing up the Arcadis cost estimate using this back-of-the-envelope analysis by Luhrs. Raytheon informed Mr. Novack and the escrow agent that Arcadis estimated it would cost $4.045 to complete the required remediation at the Site, that in Raytheon's experience " eventual remediation costs increase nearly threefold from initial estimates, " and that Raytheon therefore multiplied the Arcadis cost estimate by 275 percent (rounding up from the 2.63 multiplier suggested by Luhrs' calculations) " to provide a reasonably sufficient amount of funds to complete the remediation." Raytheon then subtracted the $500, 000 deductible that applied to its environmental claims, and an additional $100, 000 that Raytheon thought it had to subtract under the contract, and rounded the result down to a claim of $10.5 million.

         Ten days later, Mr. Novack submitted a timely notice to Raytheon and the escrow agent that he was disputing the substance, amount, and method of Raytheon's $10.5 million claim against the Escrow Fund.

         The Court finds that Raytheon's application of this 275 percent multiplier to the worst case cost estimate by Arcadis was arbitrary and unreasonable, and that Raytheon had no good faith basis for believing that the amount it could eventually recoup from the Escrow Fund for remediating environmental contamination at the Site would approximately equal $10.5 million. The Court further finds that as of April 2011 Raytheon could not reasonably have concluded that the total costs that were reasonably likely to be incurred to remediate environmental contamination at the Site would exceed the $4.045 million " worst case" cost estimate provided by Arcadis.[1] Since any claim against the Escrow Fund was subject to a $500, 000 deductible, the highest amount that Raytheon could reasonably have claimed against the Escrow Fund in April 2011 was $3.545 million.

         1.5. Notification of MassDEP and Reporting Deadlines

         In August 2011, Intercontinental--which at that point still owned the Site--informed MassDEP of the CVOC contamination that Arcadis had detected in the southern portion of the Site in October 2010. In November 2011, Intercontinental informed MassDEP of additional CVOC contamination detected by Haley & Aldrich in the northern portion of the Site, and of PAH and lead contamination detected in urban fill present in various ...


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