Robert Szustakowski, The Lotis Engineering Group, PC

There is suddenly increased interest in the environmental audit process. There is at least one national bank that is now requiring audits for some energy-related borrowers, the Office of the Comptroller of the Currency published a guidebook for the oil and gas industry and the USEPA is now auditing pharmacies, groceries, hospitals and big box stores for potential hazardous waste violations. In New England, the USEPA and the CTDEP have identified hundreds of thousands of dollars of violations at national pharmacies and groceries. This has resulted in fines, consent orders and significant changes in operations. State environmental departments are now under direction by the USEPA to look at environmental regulation compliance at these industries where historically they’ve turned a blind eye due to the perceived relatively minor violations and difficulty in compliance. The argument is while there may be only a limited set of issues, they are repeated at hundreds, if not thousands, of locations, thus resulting in significant issues.

Unlike environmental site assessments (e.g., Phase I reports), these studies do not look at historic operations, municipal records of tanks, etc., but rather concentrates on the current operations of the Site occupant. That is, are the on-going operations consistent with applicable environmental regulations? Is there a risk of fines by a regulator? Is there a need to install expensive new equipment? Worst case, could the operator be shut down? Note here that I use the term “operator,” not “owner.” The operator’s lack of attention to regulation could impact an investor’s ability to repay your loan.

Scope Considerations

To say that there is a significant number of environmental regulations would be a gross understatement. Certain regulations apply to some operations but not to others. And many operators don’t know for sure what regulations apply to them.

One simple, and brief, “audit” might be to first confirm that the operation has the “anticipated” permits/registrations typically associated with their operations and whether there have been any reported issues or associated Superfund liabilities. For example, an active dry cleaner using historic dry cleaning solvents should be identified as a generator of hazardous wastes. The lack of such a listing is an immediate red flag, as it suggests that the operator may not be aware of his/her legal obligations. If properly registered, you can then confirm whether there have been any compliance audits by state regulators and the results of such audits. Lastly, you can obtain information on whether the operator has ever been identified as a Potentially Responsible Party (PRP) for a Superfund site. All of this information is readily available without ever going on-site.

A more complete audit, however, would require an on-site reconnaissance by an environmental specialist to review operations, paperwork and complete interviews with relevant staff. The extent of the audit would depend on the needs of the requestor. Some regulations may be deemed to be irrelevant to a particular operation (e.g., stormwater discharge issues for a jewelry operation in an urban area with no exterior areas would not be assessed) while others are extremely relevant (tank registrations at a gasoline station). The actual extent of any study needs to be determined, in large part, by the consultant.

Typical Regulations of Concern

The main regulations of concern would be the following.

Resource Conservation and Recovery Act (RCRA) – This regulation applies to the generation, transportation and disposal of hazardous wastes. Beyond the “usual suspects” of automotive paint shops and dry cleaners, many businesses generate hazardous wastes, even if they don’t know it. For example, medical alcohols, medicines and medications, beauty products, batteries, many cleaners and other materials, once determined to be a waste, are automatically a hazardous waste. For example, a drug store that must ship returned, recalled or off-spec cosmetics back to the supplier means that the drug store is now a generator of hazardous wastes, making that locations subject to a wide variety of storage, handling and paperwork regulations.

Petroleum and Chemical Storage – In addition to every gasoline station, this regulation can apply to something as simple as a diesel tank for a generator. And in some municipalities (the counties in Long Island, New York, for example), even the storage of chemicals in drums is highly regulated. Even if the petroleum storage is not subject to storage regulations due to state regulations, Federal regulations may still require Spill Prevention, Control and Countermeasure (SPCC) plans due to the potential (not actual) petroleum storage volume.

Clean Air Act (CAA) – These requirements do not only apply to larger industrial operations. The dry cleaner, the automotive body shop, the bakery and even the grocery refrigeration systems may all be subject to these regulations.

Clean Water Act (CWA) – Another significant regulation that comes up regularly is the CWA. The regulation covers discharges to any water body, potentially including stormwater from parking lots.

Toxic Substance Control Act (TSCA) – Again, a regulation typically associated with chemical manufacturing and PCBs. However, if a home improvement store needs to ship expired pesticides or herbicides back to the supplier, these regulations may well apply.

Typical Operations of Concern

Unfortunately, there are no longer “typical” operations that may trigger a regulatory audit. While historically audits were pretty much limited to larger manufacturing operations, this is no longer the case.

The Office of the Comptroller of the Currency (OCC) published their “Safety and Soundness, Oil and Gas Exploration and Production Lending” handbook in March 2016. Among other concerns are repeated references of environmental impacts of such operations and the need to monitor the borrower’s operations, from an environmental perspective.

The USEPA Region I (New England) began regulatory audits of a variety of grocery stores, pharmacies and “Big Box” stores to assess compliance with environmental regulations. EPA requested the states to take the lead. In 2006, Connecticut began by inspecting 10 CVS pharmacies. Violations were found and the average fine imposed was $80,000 per store for a total of $800,000. CVS entered into a Consent Order with Connecticut regulators that required CVS to audit compliance at its remaining 110 Connecticut stores, with discussion of further penalties deferred until completion of the audits/correction process. Connecticut also inspected 20 Big Box stores and fined Lowes, Home Depot,
etc., an average of $50,000 per store.

Shortly thereafter, California, using the inspection templates from Connecticut, inspected CVS, Walgreens, Rite Aid, Walmart, Save Mart, and others, with notable results. Penalties included: CVS – $11,000,000; Costco – $3,000,000; Walgreens – $16,575,000; Rite Aid – $9,400,000; Walmart – $40,000,000 (plus a $20,000,000 “Supplemental Environmental Project” and a criminal referral); and, Save Mart Supermarkets – $2,550,000.

Elsewhere in the country, Costco was fined $600,000 for CFC releases from some of its stores plus a $1.4 million required commitment to inspect/renovate/replace its cooling systems nation – wide. A Safeway Supermarket was fined $600,000.

Required Qualifications

Completion of a multi-media (that is, hazardous waste, air, water, etc.) compliance audit requires a highly specialized individual or team of people. There are a myriad of local, state and Federal regulations, each with their own nuanced requirements. Further, some regulations contradict others and sometimes the same regulation contradicts itself. As such, your typical “Phase I consultant” may not be able to complete environmental audits. There are no specific certifications or licenses to review that will assure you that a consultant can complete this type of work. It is very important to check with the consultant that they have completed such studies for the types of operations in question.

Report and Remedies

Consideration should be given to the fact that some regulations may require self-reporting by the operator upon discovery and fines for many violations are in the tens of thousands per day per violation; such resulted in the excessive fines noted above. [These are not typical, in this writer’s opinion.]

However, the USEPA and many states have “self-audit” programs whereby a regulated party can complete an audit, report the findings to the regulators and then negotiate a time frame during which to bring the operation into compliance. Typically, the fines are waived in such situations, to prompt such self-audits.

So, as I suggest for any situation where the borrower is the owner, there must be clear conversations on the ramifications of any findings relative to regulatory reporting, fines, etc. It may be beneficial for the borrower to contract such services directly, in order to control the flow of information.

About the Author

Bob has been completing environmental due diligence for lenders for 30 years. He has developed and managed environmental programs, as a consultant and bank employee, for some of the largest and smallest banks in the country. He has also devised bank programs for construction monitoring and routine property inspections.