February 16, 2017 Article

Environmental Alert: Court Finds Consultant Not Liable to Prospective Purchaser Regarding ESA Performed for Lender

Environmental Alert

A California appeals court ruled on February 8, 2017 (Mao v. PIERS Envtl. Servs., Inc., 2017 BL 37928, No. H041214, Cal. App. 6th) that an environmental consultant had no duty to a prospective purchaser of contaminated property in circumstances where it had not conducted the Environmental Site Assessment (ESA) for the purchasing party.  While the result in the Mao case may not be surprising, there are several key takeaways for environmental consultants.

In 2000, Marlene Mao purchased a commercial site in Milpitas, California.  Her lender, Bank of Santa Clara, hired PIERS Environmental Services, Inc. (PIERS) to undertake a Phase I ESA of the property.  The Phase I report stated that it had “been prepared for the exclusive use of Bank of Santa Clara and/or its agents” and recommended that a “limited Phase II” be conducted due to the presence of a former gas station with a previously repaired gas pump leak at the site.  (At trial, a PIERS representative testified that the bank had requested the “least expensive screening” and that this did not allow for comprehensive sampling throughout the property.)  The Phase II  also was conducted on behalf of the bank.  No detectable levels of contamination were found and the Phase II recommended no further investigation for the site.  Mao then closed on her purchase of the property. 

In 2005, Mao hired PIERS to perform an update of its prior Phase I assessment following a fire that destroyed the commercial retail building on the property.  The Phase I update noted the former presence of a gas station and repeated the finding from the Phase II assessment that there was no evidence of impacts to groundwater.  In 2006, she transferred the property to AIM Integrated Matrix Developer Enterprises, Inc. (AIM), a closely held corporation of which she was the majority shareholder and president.  A subsequent Phase II study conducted for AIM by a different consultant in 2010 found petroleum contamination and recommended monitored natural attenuation.  AIM conducted this work and the site was closed with regulatory approval in October 2013.

In the lawsuit, Mao alleged that PIERS had failed to meet the appropriate standard of care in its performance of the Phase I and II assessments in 2000 prior to her purchase of the property. 

The court found that PIERS did not owe Mao a professional duty in connection with the Phase I and Phase II work because its contract was with her lender.  “It is … not enough that a prospective buyer of a property who read and relies on environmental reports prepared for the lender’s due diligence purposes may foreseeably be harmed by inaccuracies in the report…. The intent to affect or protect Mao as a prospective purchaser or future owner was at best secondary.”  The court was not persuaded that a “policy of preventing future harm” compelled a finding of duty to Mao.

There are several key takeaways for environmental consultants regarding this decision:

  • A consulting firm’s contract language as well as its ESA reports should clearly specify who may rely on environmental site assessments, especially those ESAs that are conducted on behalf of parties other than prospective purchasers (e.g., lenders).  In addition, the reports should contain specific language noting that third parties (i.e., anyone other than the contracting client-recipient of the ESA) may not rely on any aspect of the ESA without written approval by the entity performing the ESA (a so-called “Reliance Letter”).
  • The record in the Mao case indicates that the scope of the PIERS Phase II was substantially limited by the lender.  A more extensive Phase II might have identified the contamination that was eventually found.  Documentation of such client decisions regarding scope limitations should be included in any final ESA reports delivered by a consulting firm to its client.

The foregoing precautions alone will not prevent a lawsuit from being filed against a consultant in the event of later-discovered contamination.  However, a thorough review of standard ESA contracts and templates for ESA reports to ensure that these issues are proactively addressed in those documents will be of significant benefit in defending claims in such lawsuits.  In addition, these risk management techniques may positively impact professional liability coverage/premiums for those consulting firms that undertake a higher volume of ESAs.

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