Advanced Course on Economic Benefit and The BEN Computer Model Contains Enforcement Sensitive Material Advanced BEN; Updated: July 2002 ------- TABLE OF CONTENTS Page No . SECTION I: ADVANCED TOPICS Status of Public Comment Process I-i Discount/Compound Rate Controversies 1-2 Upcoming Illegal Competitive Advantage Strategy 1-7 Statute of Limitations Concerns I-S Impact of Capital Investment Replacement Cycles 1-9 Important Case Developments 1-10 SECTION II: HYPOTHETICAL CASES 0 Contains Enforcement Sensitive Material Advanced BEN; Updated: July 2002 ------- SECTION I: ADVANCED TOPICS Contains Enforcement Sensitive Material Advanced BEN; Updated: July 2002 ------- STATUS OF PUBLIC COMMENT PROCESS • In October 1994, several industry groups (now calling themselves the “BEN Coalition”) submitted a petition for rulemaking concerning recovery of economic benefit, arguing that the BEN model constitutes a rule. • Partly in response to this petition (which the BEN coalition is no longer pursuing), in an October 1996 Federal Register Notice, EPA requested public comment on its economic benefit recapture approach, including the BEN model. • Specific areas for requested comment included: • Broad Economic Benefit Recapture Issues (including Alternatives to BEN and Illegal Competitive Advantage) • BEN’s Calculation Methodology • Improving BEN’s User Friendliness • FR Notice responded to public comments and proposed revisions to BEN on June 18, 1999. • FR Notice also requested comment on EPA’s proposed revisions to BEN. • EPA’s response Federal Register; Vol. 64, No. 117; Friday, June 18, 1999; “Civil penalty enforcement cases; calculation of economic benefit of noncompliance,” 32947-32972 [ FRD0c. 99-15271] http ://frwebgate4.access.gpo.gov/cgi-bin/waisgate.cgi? WAISd0cID=279352 19219 +O+O+O&WAjSactjon=retrjeve • Final notice containing responses to second set of comments along with final Agency decisions on changes to the benefit recapture approach has been ready since the summer of 2000, but has been held up due to language in EPA’s 2001 appropriation suggesting the model be put through a third peer review. • ICA peer review in early FY 2003. . • N.B. Nothing should be construed to indicate less full application of BEN and ICA concepts. Contains Enforcement Sensitive Material I-i Advanced BEN; Updated: July 2002 ------- DISCOUNT/COMPOUND RATE CONTROVERSIES • Firm with large cash reserves: S “I have all the money needed for compliance in the bank. All I need to do is write the check. Therefore my cost of capital (i.e., the discount rate) is 0% (or low interest rate on account).” (Smithfield argument). > But cash must be replenished to target level at average cost of debt & equity, hence true opportunity cost of capital is still the WA CC. • Small firm: • “We have not issued a share of stock in 25 years. Whatever we need for compliance costs we just take out of the cash coming into the firm from the sales of our products.” (Spang argument). > But even f company never borrows money or issues equity, its opportunity cost of capital is still the WA CC, since equity is tied up in company and carries implicit required rate of return. • Unprofitable firm: • “We lost money during noncompliance, hence no economic benefit.” > The economic benefit may take the form of lower losses than would otherwise been incurred (but for the noncompliance), as opposed to higher profits, but the company is nevertheless financially better off because of its noncompliance. • PHB & The Brattle Group risk-free rate approaches based on 30-day U.S. T-bill rate: • Older approach: WACC back to NCD for initial economic benefit, then compound forward at risk-free to PPD. Much smaller results than BEN. • Most currently seen (and more aggressive) approach: Future cash flows back to PPD at WACC or other risk-adjusted rate. Past cash flows forward to PPD at risk-free rate. Much smaller results than BEN, even negative sometimes! Both approaches focused incorrectly on tort damages literature (i.e., EPA removing violator’s economic benefit, not reimbursed for damages). > Ignores reality that companies will on average over time earn at least their WA CC —far in excess of risk-free rate. Leads to counter-intuitive results. • Court opinions on discount/compound rates: • Most cases settle before trial, with very few opinions addressing issue. • The only three recent court opinions commenting specifically on discount/compound controversy have adopted three different approaches. • Laidlaw adopted plaintiffs equity, explicitly rejected plaintiffs alternative WACC, and implicitly rejected defendant’s risk-free. • Smithfield adopted plaintiffs WACC, and explicitly rejected defendant’s risk-free. • WCI Steel adopted defendant’s risk-free, and implicitly rejected plaintiffs WACC. • Allegheny Ludlum case clearly rejected risk-free and endorsed WACC. Contains Enforcement Sensitive Material 1-2 Advanced BEN; Updated: July 2002 ------- Discount/Compound Rate Calculation Notes (l)Corporate Bonds All lndustnes, Federal Reserve Bulletin, Table 1 35 [ Average industry cost of debt] (2) Combined State/Federal Marginal Tax Rates federal+(state(1-federal)), Federation of Tax Administrators (3) Calculated as (1) • (100%-(2)). (4) Standard & Poor’s Analyst’s Handbook, S&P lndustnals Sample Balance Sheet, Liabilities section. [ Average industry debt weight] (5) Federal Reserve Bulletin Table 1.35. [ Used as a risk-free rate, Capital Asset Pricing Model (CA PM)] (6) Beta is a measure of risk relative to the overall market [ A value of 1 00 assumes risk is same as overall market] (7) Differences of historical arithmetic mean returns from 1926 to prior year; Ibbotson Associates Handbook, [ Represenling expected return on an average risk investment] (8) Calculated as (6) * (7). (This equals (7)for average risk, because average risk has a beta of I] (9) Calculated as (5) + (8). [ Risk-free rate of return plus the risk premium] (10) Calculated as 100% - (4). [ Totalfinancing - debt equity financing] (II) Calculated as (3) * (4) + (9) (10). [ (Debt cost x debt weight) + (equity cost x equity rate)] average 1992 to: 1998 = 10.0% from: [ Final result/ (1) (2) (3) (4) (5) (6) (7) (8) (9) (10) (11) 5-Year Intermed. Company Cost of After-Tax Debt Treasury Horizon Risk Equity Equity YEAR Debt Tax Rate Debt Cost Weight Notes Beta Risk Premium Cost Weight Rate Prem 1987 9.9% 403% 5.9% 43.0% 7.94% 1.00 7.7% 7.7% 15.6% 57.0% 1988 10.2% 403% 6.1% 52.0% 8.47% 1.00 7.3% 7.3% 15.8% 48.0% 1989 9.7% 403% 5.8% 49.0% 8.50% 1.00 7.4% 7.4% 15.9% 51.0% 1990 9.8% 40.3% 5.9% 50.0% 8.37% 1.00 7.8% 7.8% 16.2% 50.0% 1991 9.2% 40.3% 5.5% 49.0% 7.37% 1.00 7.5% 7.5% 14.9% 51.0% 1992 8.6% 403% 5.1% 47.0% 6.19% 1.00 7.7% 77% 13.9% 53.0% 9.8% 1993 7.5% 41.2% 44% 47.0% 5 14% 1.00 7.6% 7.6% 12.7% 53.0% 8.8% 1994 8.3% 41.2% 4.9% 44.0% 6.69% 1.00 7.6% 7.6% 14.3% 56.0% 10.2% 1995 7.8% 41.2% 4.6% 42.0% 638% 1.00 7.4% 7.4% 138% 58.0% 9.9% 1996 7.7% 41.2% 4.5% 37.0% 618% 1.00 7.8% 78% 14.0% 63.0% 10.5% 1997 7.5% 41.2% 4.4% 37.0% 6.22% 1.00 7.9% 7.9% 14.1% 63.0% 10.5% 1998 7.0% 41.2% 4.1% 37.0% 5.50% 1.00 8.2% 8.2% 13.7% 63.0% 10.2% Contains Enforcement Sensitive Material Ad Jôced BEN; Updated: July 2002 ------- DISCOUNT/COMPOUND RATE CONTROVERSIES (continued) • Academicians’ views on discount/compound rates: all over the map • James Van Home (endowed chair in finance at Stanford Business School) endorses WACC throughout calculation, although compounding should switch to the violator’s debt rate once the violator eventually comes into compliance and escrows the penalty amount. • Stewart Myers (MIT, Sloan) signs off on Brattle Group risk-free rate articles, but many years earlier in an EPA review endorsed WACC back/debt-rate forward (which he has never repudiated) as well as indirectly endorsed WACC back! WACC forward. • Charles Upton (Kent State) wrote somewhat confusing article for BEN public comment process, but seems to endorse WACC back/debt-rate forward, disagreeing with Brattle Group approach. • Cohn Blaydon (Dartmouth, Tuck Business) co-authored expert report for PHB with WACC back/risk-free forward, but then repudiated approach in deposition for another PHB case, endorsing the other risk-free rate approach. • Wendy Morrison (Middlebury College) endorsed WACC in her public comment. • Eugene Brigham (Florida) in earlier EPA review endorsed WACC. • Lawrence Schall (Washington) in earlier EPA review endorsed contrarian and complicated view that other reviewers strongly criticized • Graphical illustration of competing methodologies follows, using the same inputs as example problem but with the capital investment changed to no replacement cycles, and without any one-time nondepreciable expenditure or annually recurring costs. Capital Investment = Noncompliance Date (NCD) = Compliance Date (CD) = Penalty Payment Date (PPD) = Tax Rate = Inflation Adjustments = WACC = After-Tax Risk-Free Rate = Equity Cost of Capital = $1,000,000 (in 1992 dollars) January 1, 1992 January 1, 1997 January 1, 1999 C-Corporation in Massachusetts (-41%) Plant Cost Index (PCI) 10.0% 2.6% 13.8% Contains Enforcement Sensitive Material 1-4 Advanced BEN; Updated: July 2002 ------- Current A2encv ADDroach: WACC Rate (10.0%) in Both Directions First discount all cash flows back to the NCD at the WACC for an initial economic benefit of $234,114. Then compound the initial economic benefit forward to the PPD at the WACC for a final economic benefit of $456,461. $600,000 $400,000 $200,000 $0 Formerly Chief Competing Theory: WACC ( 10.0%) back to NCD. then Risk-Free rate ( 2,6%) forward to PPD First discount all cash flows back to the NCD at the WACC for an initial economic benefit of $234,114. Then compound the initial economic benefit forward to the PPD at a risk-free rate for a final economic benefit of $280,233. Formerly Competing Theory $1,000,000 $800,000 $600,000 $400,000 $200,000 $0 • Delay Scenario o On-Time Scenario o Econornc Benef it Current Agency Approach $1,000,000 $800,000 • Delay Scenario D On-TWTe Scenario o Econonic Benefit 1992 1993 1994 1995 1996 1997 1998 1999 1992 1993 1994 1995 1996 1997 1998 1999 Contains Enforcement Sensitive Material ‘-5 Advanced BEN; Updated: July 2002 ------- Currently Chief Competing Theory: Risk-Adjusted back to PPD & Risk-Free forward to PPD NCD CD PPD — Compound past cash flows forward to the PPD at a risk-free rate, and discount future flows back to the PPD at a “risk-adjusted” rate: Risk-Free > > > > <----Risk-Adjusted (e.g., WACC) Final Economic Ben flt = -$13.910 The negative economic benefit estimate results from combining: - small yet positive economic benefit of $34,630 from initial capital investment cash outflow; with, - negative economic benefit of $48,541 from the depreciation cash inflows. Using the other methodologies, the violator similarly gains from delaying the actual expenditure, but then loses from delaying the taxation advantages. This methodology, however, generates only a very small gain (since the risk-free rate barely exceeds the inflation rate), which is more than offset by a larger loss. (See spreadsheet printout on facing page.) Old EPA Approach: Equity Rate (13.8%) in Both Directions First discount all cash flows back to the NCD at equity, for an initial economic benefit of $317,253. Then compound the initial economic benefit forward to the PPD at equity, for a final benefit of $784,710. Old Agency Approach $1,000,000 $800,000 $600,000 • Delay Scenario DOn-Time Scenario $400,000 0 Econorric Benefit $200,000 $0 1992 1993 1994 1995 1996 1997 1998 1999 Contains Enforcement Sensitive Material 1-6 Advanced BEN; Updated: July 2002 ------- UPCOMING ILLEGAL COMPETITIVE ADVANTAGE STRATEGY • EPA preparing guidance document to assist enforcement staff in evaluating illegal competitive advantage (picking up where BEN’s questions leave off). • Goal is not to provide fixed approach to calculating economic benefit from illegal competitive advantage; rather, educate enforcement staff on types of illegal competitive advantage that arise in enforcement actions, and provide framework for EPA analysts and outside experts who perform actual calculations. • EPA proposes the following general outline for discussion and assessment of illegal competitive advantage. Introduction to Illegal Competitive Advantage A. Economic Benefit From Delaying or Avoiding Compliance Costs B. Economic Benefit from Illegal Competitive Advantage II. How to Determine When BEN is Insufficient A. Examples and Counterexamples 1. Violator Gains Additional Market Share 2. Violator Sells Products or Services Prohibited by Law 3. Violator Initiates Construction or Operation Prior to Government Approval 4. Violator Operates at Higher Capacity B. BEN Model Screening Questions 1. Did noncompliance create a cost advantage that allowed market share gains? 2. Did violator sell prohibited products/services that no additional costs could have made legal? 3. Did noncompliance allow start of production/sales earlier than under hypothetical compliance? 4. Would permit have affected operations so significantly as to alter gross revenues? 5. Did compliance *require* a reduction in throughput/output? ifi. How to Calculate Illegal Competitive Advantage A. Fundamental Guidelines B. Examples 1. Violator Gains Additional Market Share 2. Violator Sells Products or Services Prohibited by Law 3. Violator Initiates Construction or Operation Prior to Government Approval 4. Violator Operates at Higher Capacity • Agency will probably seek public comment on its approach. Contains Enforcement Sensitive Material 1-7 Advanced BEN; Updated: July 2002 ------- STATUTE OF LIMITATIONS CONCERNS • Economist’s view: SOL is irrelevant. • DOJ view: uncomfortable with going past SOL date, i.e., five years before complaint filed, but does show some interest in taking the more aggressive approach. In Sheyenne Tooling, judge calculated benefit going back 10 years before complaint filed in an analogous situation to SOL. • Not settled policy or law. • Probably should go beyond SOL, but need to be careful which cases: • Purpose of SOL is prevent parties from having to defend themselves from stale claims (e.g., evidence not clear when violations started and stopped). • But if whole basis is that violator never installed equipment that was required in 1984 and still has not, can’t be surprised if brought into a 1998-filed case. • Arbitrary to cut off benefit at five years before complaint was filed. • Economic benefit is a factor to consider, not a jurisdictional question: • This is the language of the statute. • Other factors are considered even beyond five years. • History of violation — should judge ignore fact that the defendant committed the same violation 3 years ago, 8 years ago and 10 years ago? • Should judge ignore fact that defendant has letter from 1984 from EPA stating it was exempt? • Canned brief available on SOL issue. Contains Enforcement Sensitive Material 1-8 Advanced BEN; Updated: July 2002 ------- IMPACT OF CAPITAL INVESTMENT REPLACEMENT CYCLES • Violator gains economic benefit not only from initial delay of capital investment but also from expected future delays of replacement cycles for capital equipment. • The larger the capital investment relative to other compliance costs, the greater the impact of replacement cycles upon economic benefit. • Impact also depends on number of replacement cycles (how many times equipment must be replaced), useful life of capital equipment (how often equipment must be replaced), and case- specific dates. • DOS version of BEN model offered choice of one-time capital investment or infinitely recurring replacement cycles, with a standard-value 15-year useful life. • New WindowsTM version allows entry in options screen of finite number of replacement cycles (zero to five, with default of one) and useful life (seven to 25, with default of 15). • Replacement cycles in addition to the first generally have only a small impact, and any cycles past the second generally have a negligible impact (because of the time value of money, see p. 1-6). • Example below illustrates impact of changing useful life or number of replacement cycles, using the same inputs as the example case. Useful Life # of Cycles Economic Benefit Notes 15 years I $698,461 Same as the example case. 15 years 0 $568,942 Since equipment need not be replaced, economic benefit is lower by about $130,000. 15 years 5 $752,442 Since equipment needs to be replaced more times economic benefit is higher by about $54,000. 25 years I $626,408 Since equipment needs to be replaced less frequently, replacement cycle occurs further in the future, and economic benefit is lower by about $72,000. 7 years I $797,846 Since equipment needs to be replaced more frequently, replacement cycle occurs closer in the future, and economic benefit is higher by about $99,000. Contains Enforcement Sensitive Material 1-9 Advanced BEN; Updated: July 2002 ------- Case Law Update - Economic Benefit 6/24/2002 Use of Nonexpert Witnesses to Present Economic Benefit Testimony In re: Industrial Chemicals Corp. , Docket No. CWA-02-99-3402 June 16, 2000 2000 WL 793949 (EPA AL!) [ Round I] - EPA used an engineer as its “financial expert” on both the benefit and ability to pay issues before Judge Nissen, and it worked. It is not clear from the decision how the engineer derived the benefit component, but from the P0’s references to the BEN model, and my contact with this attorney on a similar case, there must have been some use of the BEN model. Although Judge Nissen stated that the engineer failed to explain the rationale behind the BEN model. He did find that there was $1,096 in Economic Benefit from failing to monitor storm water discharges. But the costs were very low, the benefit was avoided and Respondent admitted that he had saved almost the same amount that the engineer calculated . It is important not to read too much into this decision. In the Matter of Industrial Chemicals Corporation - 2000 EPA AU LEXIS 84 (Docket No. CWA-02-99-3803 )(September 22, 2000) [ Round II] - The respondent was issued a civil penalty for failing to properly prepare, implement, and amend its Spill Prevention Control and Countermeasure Plan (SPCC) for its chemical manufacturing facility in Puerto Rico. ICC used about 10,000 gallons of diesel oil annually to operate a boiler and sulfur burner during start-up of sulfur processing operations and to fuel five maintenance vehicles. Smaller quantities of lubricating and hydraulic oils were also used for maintaining equipment and vehicles. The facility had a total oil storage capacity of 24,620 gallons and was located immediately adjacent to the shoreline of the Carribean Sea and the Tallaboa River. In late 1997, when the Region received reports of a sticky and discolored substance along the shoreline adjacent to the ICC facility, it undertook an inspection of the ICC facility. During the December 20, 1997 inspection a number of SPCC violations were revealed. A notice of noncompliance was sent to the respondent on February 13, 1998. Pursuant to the CWA the Region assessed a civil penalty of $11,475, which included an economic benefit amount of $3,375 due to its delayed compliance with the SPCC regulations. That amount included interest, and annualized construction and maintenance costs for the period of noncompliance - from December 1997 until April 1999. The EPA witness was not an expert. He applied the “rule of thumb” formula from the 1984 penalty policy. The Region’s witness testified that, in arriving at this amount, conservative estimates regarding respondent’s costs were used for the benefit calculation. Since ICC did not challenge the testimony or the methodology used, the AU accepted the witness’ testimony as the only substantial evidence on the issue. Analysis Even though the judge seems to think the government witness used the BEN model to derive the penalty figure, the witness used the rule of thumb approach. The problem is: the AU may have Contains Enforcement Sensitive Material 1-10 Advanced BEN; Updated: July 2002 ------- actually thought he that was hearing was a BEN analysis. Either way. it demonstrates that AU’s are willing to accept nonexpert testimony on economic benefit. Nevertheless, we strongly advise against having a nonexpert introduce BEN analyses in hearing or trial as the more normal response is for the judge to reject them unless the witness can explain what the model did with the inputs. In re: City of Salisbury . 2000 WL 190658 (E.P.A., Feb 08, 2000) (NO. CWA-ffl-219) - The EPA -successflully used its penalty witness, a nonfinance person, to calculate benefit and ability to pay. The Agency first voluntarily reduced its penalty demand from the initially proposed amount of $69,000 to a penalty of $16,000 on the basis of Respondent’s ability to pay. In the process of developing the penalty figure before the ability to pay adjustment, the Chief Judge Susan Biro determined that the economic benefit component was $7,125. She accepted the analysis of EPA’s penalty witness., an environmental scientist and enforcement officer. The penalty witness just listed the items that were avoided and summed them together. She made no attempt to adjust them for taxes. determine their net-present value. etc . There was one minor error, which only became apparent at trial. Judge Biro made the appropriate subtraction and moved forward. Decision at pages 29-30. The interesting part of this case, for a municipality violating the CWA after showing municipal budgetary data that they could afford to pay that fine, equal to about $2 per household. Analysis At least for Judge Biro, one can see a willingness to rely on very simple economic analyses as long as they are not opposed by Respondents. In fact I see in this opinion a little frustration on her part that the Agency did not seek a larger penalty. Piney Run Preservation Ass’n v. County Com’rs of Carroll County. Md. , 82 F.Supp 2d 464 (D. Md., Feb 10, 2000) rev’d on other grounds 268 F.3d 255 ( 4 th Cir. 2001); U.S. v. Hill, - In this citizen suit for substantial injunctive relief and civil penalties, neither side hired an expert witness to present the economic benefit or ability to pay issues. The court did a “seat of the pants” type of calculation without any attempt to look at the time value of money issue and the fact that some of the costs were delayed and not avoided. He imposed a civil penalty of $400,000. But the judge went against logic and the established case law in starting his calculation two years after the benefits began accruing. He recognized that the violations began in June of 1996, but when he calculated the economic benefit of noncompliance, he started the calculation from November 1998, the date he felt that the defendants knew of the problem. By doing so, the judge has essentially added knowledge as a requirement for the calculation economic benefit. This case was reversed on the liability issue. Contains Enforcement Sensitive Material I-I 1 Advanced BEN; Updated: July 2002 ------- Analysis: The Good. the Bad and the Surprising The good news is that was the first time to my knowledge that a citizen plaintiff prevailed against a municipality on the civil penalty issue. This is a particularly significant development because Carroll County is a relatively small defendant. The bad news is that this cases suggests that knowledge is a requirement to establish economic savings. This approach, although not precedential because of the reversal, is inconsistent with the case law in this area, but it might undermine the deterrent effect of citizen suits and EPA enforcement actions. By making knowledge a requirement, the judge is encouraging violators to be ignorant of what it takes to remedy their noncompliance. Had the court of appeals affirmed, the County would still have walked away from this private citizen enforcement action with substantial economic savings even after paying a $400,000 civil penalty. The surprising is that the judge was willing to impose a large penalty based upon economic benefit with so little information in the record. Illegal Competitive Advantage In Re: Chemnace Corporation FIFR.A Appeal Nos. 99-2 & 99-3 Docket No. 5-IFFRA-96-017 May 18, 2000 2000 WL 696821 (EPA EAB) - While this decision is known better for its controversial ability to pay holding (upheld on appeal to the EAB) the AU determined the economic benefit component based on mostly on an ICA type analysis - the sales of the product. AU Peristein found Chempace liable of 99 counts of manufacturing and distributing unregistered, misbranded and canceled pesticides. The AU found that Chempace realized S35.000 from its unlawful sales, and that figure was considered a minimum starting point in considering an appropriate penalty. Chempace also saved S6300 in annual pesticide registration fees by not registering the three pesticides it produced and sold. While he did not add the benefit component to the gravity comnonent. he did state that penalty sufficiently exceeded the total of gravity amounts to fully recover the Chempace’s economic benefit. Analysis Judge Perlstein had no trouble using the illegal sales ICA approach to come up with most of his benefit figure. The $6,500 was a standard avoided expense. Not only is this an important ICA case, but it is the first time to my knowledge that a judge has calculated benefit from both a BEN type analysis and ICA type benefit analysis in the same case. Practitioners should proceed with caution here as many BEN type benefit scenarios overlap with ICA type scenarios leading to potential double counting of benefits. In re: Lawrence John Crescio III - 2001 WL 537494 (Docket No. 5-CWA-98-004) May 17, 2001 Contains Enforcement Sensitive Material 1-12 Advanced BEN; Updated: July 2002 ------- The respondent was a “muck-farmer” charged with violating the CWA by discharging pollutants into navigable waters without a permit. The respondent hired a company to install drainage tiles on his land using a trenching machine which discharged approximately 2,810 cubic yards of dredged material - soils and organic material - into wetlands located on the site. The AU imposed a civil administrative penalty in the amount of $31,500 for the violation. Since the AU believed it was possible to calculate at least a partial or reasonable approximation of economic benefit of noncompliance, he began the penalty calculation with that factor. The EPA calculated an economic benefit of $5,000 representing the savings the respondent realized by not monitoring and restoring the site for seven years, from October 1991, when he installed the tiles, until August 1998, when he plugged the ditch system and disabled the tiling system. This was a standard BEN type analysis, and the AU accepted this figure. However, after the hearing. EPA included an additional economic benefit of approximately $27000 to $29.700 minus costs for the years 1993 through 1998 from income gained through the sale of mint oil which was grown on the nine productive acres of the thirteen acres tiled in 1991. The AU ruled that the economic benefit consisted of at least 52.400 in “wrongful profits.” in addition to the initial amount of 55.000 in savings from delayed restoration of the site. or a total of 57.400. Analysis This a clear application of an ICA type analysis, and it is the second time to my knowledge that a judge has calculated benefit from both a BEN type analysis and ICA type benefit analysis in the same case. As mentioned with Chempace . above, practitioners should proceed with caution here as many BEN type benefit scenarios overlap with ICA type scenarios leading to potential double counting of benefits. In re: Iowa Turkey Growers Coot,erative (Docket Nos. CWA-07-2001 -0052; CERCLA-07-2002- 0009; EPCRA-07-2002-0009) May 14, 2002. This case revolves around the Regions attempts to use the limited administrative discovery we have to determine if the violator obtained an ICA from its violations. Judge Moran refused to compel discovery when the Respondent failed to cooperate with the Region’s discovery request. Judge Moran reasoned that in order to conduct an ICA type analysis, you need to compare what a company did before and after the violation occurred citing Dean Dairy. The information requested by the EPA did not allow that comparison to be made. The information requested should have covered a longer period of time than it did to enable the government to calculate the ICA. Thus the information requested lacked probative value. Then he held that AU’s are not compelled to admit or consider “wrongful profits”citing the B.J. Carney EAB decision. Region VII filed a motion for reconsideration and an interlocutory appeal. The nub of each motion was that 1) such comparison was not needed to perform an ICA, particularly since the court in Dean Dairy made no such comparison and 2) it is not up the AU to decide whether the ICA approach is appropriate in a particular case. The EAB’s reasoning in B.J. Carney was directed at the Contains Enforcement Sensitive Material 1-13 Advanced BEN; Updated: July 2002 ------- Agency, not the AU’s. Judge Moran denied both motions, and the Region decided to push the issue further. The case later settled before hearing. Analysis Judge Moran’s holding is very disturbing. While EPA could not tell at the discovery phase if there was an ICA, it seems entirely inappropriate for a judge to cut off EPA’s inquiry at that phase of the hearing. Burden of Proof in Administrative Cases on the Economic Benefit Part of the Case In re: Titan Wheel Corporation of Iowa - 2001 WL 499328 (Docket No. RCRA-VII-98-H-0003) May 4, 2001; aff’d RCRA (3008) Appeal No. 01-3. This case was filed under Resource Conservation and Recovery Act (RCRA). The respondent manufactured steel wheels for agricultural equipment and generated solid and hazardous waste in the process. Since it generated hazardous waste in quantities greater than 1000 kilograms per month at the facility, it’s defined as a Large Quantity Generator and was subject to the requirements under RCRA § 3005. After conducting a screening of the violator’s facility an EPA representative decided to conduct a full RCRA compliance inspection of the facility. The violations observed by the representative were described in three separate counts. Count I: storage of hazardous waste without a permit at the facility for periods greater than the 90 days allowed by RCRA on eight separate occasions. Count H: failure to develop or use a personnel training program aimed at compliance with the requirements of 40 C.F.R. Part 265, and that teaches employees how to respond to emergency situations. Count ifi: contingency plans failure to meet statutory requirements. An argument for economic benefit was presented for all three counts. Mr. Jonathan Shefftz, who testified by affidavit by agreement of both parties, was used as the EPA’s expert for all three counts. He calculated the economic savings realized by the violator by delaying the removal of the excess solvent by compounding the respondent’s cash flows using an estimated WACC to determine the present value of economic benefit. The respondent rejected his calculations as arbitrary and flawed and argued that the benefit amount should be decreased to small Dercentages of the government’s calculations without explaining how It arrived at that number. The EPA countered that the respondent failed to offer its own testimony or evidence and did not attempt to cross-examine Mr. Shefftz. The AU agreed with these arguments and affirmed the economic benefit amounts. Analysis This confirms the clearly established burden of proof in administrative litigation. The Agency had the burden of going forward on the benefit question, and satisfied that burden with Mr. Sheffiz’s testimony. Respondent failed to undermine his testimony, present its own evidence on the issue or attack the reasoning behind the benefit analysis. Thus it failed to meet its burden of going forward, arid the government consequently won the issue. Just for the record, I would point out that Contains Enforcement Sensitive Material 1-14 Advanced BEN; Updated: July 2002 ------- the AU imposed a substantial BEN component even though RCRA is silent about considering benefit. (Of course the RCRA civil penalty policy addresses benefit.) U.S. Supreme Court Looks at Benefit Recapture Friends of the Earth. Inc. v. Laidlaw Environmental Services (TOC). Inc. , 120 S.Ct. 693 (U.S.S.C. Jan 12, 2000) - While the real issues in this Supreme Court were not directly related to economic benefit, Justice Ginsburg’s majority opinion did discuss the issue in footnote 2. She attacks Justice Scalia’s dissenting opinion which claims that the penalty would not have had much deterrent effect because the lawsuit by the State of South Carolina had already pushed the level of deterrence “near the top of the graph.” She then points out that Laidlaw asked the DHEC to sue it, drafted the complaint, and paid the filing fee. She also noted the district court judge’s finding that South Carolina’s penalty “was far too low to remove Laidlaw’s economic benefit from noncompliance.” It is clear from that footnote that she endorses the considering the violator’s economic benefit of noncompliance. While this is not part of the holding of the case, it certainly suggests strongly that at least Justice Ginsburg supports the recapture of economic benefit. It gives us hope that if the recapture issue makes it to the Supreme Court, it has a good chance of getting a favorable hearing. Statutory Maximum Imposed in Major UST Case U.S. v. Hill , 2000 WL 725709 (N.D.N.Y. May 30, 2000) - The judge assigned the maximum penalty of $4,756,000 under the Solid Waste Disposal Act to a gas station owner who spilled more than 10,000 gallons of gasoline on a Native American Reservation, poisoning the drinking water. The judge found it appropriate since he saved more than $1,000,000 by failing to clean up, made no effort to clean it up or otherwise mitigate the damage, and did not refute the government’s evidence that he was a wealthy man and capable of paying the full penalty. There was no factor-by-factor presentation of how the judge calculated the penalty since he imposed the statutory maximum. Analysis This is another good example of egregious facts producing a very favorable decision. I suspect that the benefit factor may have helped convince the judge to impose the maximum. Ik fact that this individual made money while he poisoned people’s drinking water is an invitation to a severe penalty. It is also possible that he would have imposed the maximum no matter what. But one should always be ready to make a concrete presentation of benefit . Egregious Facts in Safe Drinking Water Act Case In re: Sunbeam Water Company. Inc.. Garden Grove Public Water System. Contains Enforcement Sensitive Material 1-15 Advanced BEN; Updated: July 2002 ------- the Estate of Rodney Parrish. and R. Michael Parrish , 1999 WL 1013077 (E.P.A., Oct 28, 1999) (NO. 1 0-97-0066-SD WA) - Sunbeam Water Company is a small drinking water provider and was prosecuted for violating a 1996 order directed at serious deficiencies in their delivery of water. It was alleged during the hearing that some of the families using the water were getting ill from it. The Agency requested and received a $9,000 civil penalty. The economic benefit evidence was sketchy at best in this decision. Judge Pearlstein does not state how the figure was derived, only that the benefit was in the $3,500 to $4,000 range, and that $3,500 was a minimum number. It did “not include the savings from failing to submit the site sampling plan; failing to publish notice of the violations; delaying compliance; and from interest earned on the savings.” Analysis Of significant importance is that the facts were egregious. The Respondents’ conduct was outrageous both in blowing off their responsibilities and in their jeopardizing the health of the families using the water. I sensed some real judicial anger in this decision. I would note the two of the strongest judicial reactions were to cases where the respondent/defendant poisoned someone’s drinking water: this case and U.S. v. Oliver R. Hill . Ringing Endorsement of Agency Discounting/Compounding Approach United States v. Allegheny Ludlum Corporation 187 F.Supp. 426 (W.D. Pa. 2002). This case is a ringing endorsement of benefit recapture and the Agency’s WACC discount/compound methodology in calculating that benefit. The judge stated: Indeed, were we to adopt ALC’s [ Allegheny Ludlum Corporation] approach, we might very well create an economic incentive to violate the law p.441. Analysis While this one of four opinions on the subject, it contains the most reasoning on the subject. This case should prove particularly helpful for the government. Confirmation that Benefit Recapture Applies to Federal Facilities In re: U.S. Army. Fort Wainwright Central Heating & Power Plant , Docket No. CAA-1--99-0121 (April 30, 2002). Army power plant in Alaska out of compliance for over 10 years. Ignored State of Alaska notices of violation. EPA got involved five years ago, and they ignored the EPA as well. Very massive violations in a pristine environment. EPA suing the Army for $16,000,000 based largely on benefit. Judge Susan Biro had already found the Army liable of 8 of the 9 counts in the complaint on a motion for accelerated decision. Contains Enforcement Sensitive Material 1-16 Advanced BEN; Updated: July 2002 ------- The Army then challenged the Agency’s application of the size of business factors and economic benefit of noncompliance to its facility. Judge Biro concluded as a matter of law that both factors were applicable. The actual calculation of the penalty is reserved for later proceedings. In the meantime, the Army filed an interlocutory appeal which Judge Biro and the EAB accepted. Analysis Judge Biro crafted a very well reasoned, thoroughly researched opinion that should do well on appeal. There was a factual error in her opinion when she described the BEN computer model, but this is not part of the holding. She clearly states in footnote 22 on page 36 of her opinion that she is not making any final decision on the appropriate methodology for benefit calculation. That will be left for the penalty phase of the hearing. Contains Enforcement Sensitive Material 1-17 Advanced BEN; Updated: July 2002 ------- SECTION II: HYPOTHETICALS ------- HYPOTHETICAL CASES Remember, in each example, you need to: • First, determine “on-time” and “delay” scenarios, i.e., what actions and associated costs were necessary for on-time compliance, and for delayed compliance. • Economic benefit is difference between net present values (NPVs) of the two scenarios. • Fundamental definition of economic benefit — difference between NPVs of on-time and delay scenarios — is same regardless of whether economic benefit is from delayed/avoided pollution control expenditures (i.e., BEN’s calculations) or from illegal competitive advantage (i.e., expert using even more complex calculations). Contains Enforcement Sensitive Material 11-1 Advanced BEN; Updated: July2002 ------- ROCKCRUSHER • A rockcrushing operation had enforceable limits on its daily operating hours and production throughput. • The rockcrusher operated in excess of these limits for many years. • The rockcrusher did not delay or avoid any “traditional” compliance costs. What is the economic benefit? • EPA had already created a spreadsheet documenting the excess production for every single day over the several-year noncompliance period. • [ xis example] How to calculate the economic benefit? Contains Enforcement Sensitive Material 11-2 Advanced BEN; Updated: July 2002 ------- PIPELINE COMPANY • Company operated an aging pipeline system with no regard for its condition. • Company should have spent millions of dollars on pipeline repairs, reconditioning, upgrades, etc. • Instead it spent nothing, and a large oil spill resulted. What is the economic benefit? • But, the company spent IcJ of millions of dollars cleaning up the spill. Contains Enforcement Sensitive Material 11-3 Advanced BEN; Updated: July 2002 ------- CELLULAR PHONE TRANSMITTERS • A cellphone company neglected to prepare SPCC and EPCRA reports/plans for its transmitters. • Compliance would have entailed relatively small paperwork costs. • But, these costs were necessary for many separate sites. • Company had prepared a spreadsheet for all the sites, documenting their noncompliance dates, compliance dates, and compliance costs. • [ xis example] How to calculate the economic benefit? Contains Enforcement Sensitive Material 11-4 Advanced BEN; Updated: July 2002 ------- HOUSING DEVELOPER • Developer never applied for a permit to fill in wetlands (and most likely never would have received a permit had one been applied for). • He then illegally filled in wetlands, built houses on filled sites; and sold them. What is the economic benefit? • Developer also needed to repair downstream damage from the illegal filling, but delayed making these repairs. What is the economic benefit from this delay? Are these two economic benefits additive, or would that constitute double counting? • Double counting! Are the repair costs therefore an offset to the economic benefit from the illegally filled land? • Yes, but... • The developer would have faced costs of a similar magnitude for “armoring” the creek had the wetlands not been filled and the legal part of the development (on nearby dry land) still proceeded. • The repair and armor costs were assumed to be roughly a wash, especially since detailed costs estimates were not available. • Therefore, not offsetting the economic benefit for the incurred repair costs was balanced by not augmenting the economic benefit for the avoided armoring costs. Contains Enforcement Sensitive Material 11-5 Advanced BEN; Updated: July 2002 ------- ANOTHER WETLANDS CASE • Developer filled 10 acres, but was not allowed to develop the land, and instead was immediately ordered to restore. What is the economic benefit? • At another site, the developer filled 45 acres and will be allowed to retain 5 for development — the other 40 acres must be restored. • The developer must also create 5 acres of replacement wetlands offsite. • Had the developer applied for a permit, he would have been allowed to develop the same 5 acres that he eventually was allowed to retain. • He also would have been denied permission to fill the other 40 acres that he must now restore. • Similarly, he would have needed to create 5 acres of replacement wetlands offsite. • The application would have also entailed various permitting costs. • Filling 40 acres costs $30,000. • Restoring 40 acres costs $50,000. • Creating 5 acres of wetland offsite costs $20,000. • Permitting costs $1,000. What is the economic benefit? Contains Enforcement Sensitive Material 11-6 Advanced BEN; Updated: July 2002 ------- USED OIL RECYCLER • Company purchased 10,000 gallons of used oil, and then fraudulently resold the used oil as new oil. • The cost of obtaining new oil is $2.25 per gallon. • The cost of obtaining used oil is only $0.25 per gallon. What is the economic benefit? • The company also avoided the $1.00 per gallon compliance cost for used oil recyclers. W iat is the economic benefit? Are these two economic benefits additive, or would that constitute double-counting? • If calculation is based upon selling new oil, then double counting! (That is, if new oil had been obtained, compliance costs would not have been necessary.) If these two economic benefits are not additive, then which is the appropriate one? Contains Enforcement Sensitive Material 11-7 Advanced BEN; Updated: July2002 ------- |