Hospital executives who had been terminated after the hospital was sold in bankruptcy were entitled to bring severance claims against the buyer despite the existence of a “no-third-party-beneficiaries clause” in the asset purchase agreement, a U.S. Bankruptcy Court judge in Massachusetts has ruled in a case of first impression.

The former executives argued that a provision in the asset purchase agreement that specifically obligated the buyer to honor severance provisions in the hospital’s employment agreements and provide severance pay to any hospital employee terminated after the closing date took precedence over the APA’s no-third-party-beneficiaries clause.

Judge Melvin S. Hoffman agreed.

“I predict that were the Massachusetts Supreme Judicial Court to rule on this issue, it would conclude that [the severance provision] of the APA manifests an explicit intent to benefit a class of non-party beneficiaries to the APA, namely [the hospital’s] employees on the closing date, and that this intent trumps the boilerplate no-third-party-beneficiary clause,” Hoffman wrote in granting the executives’ motions for allowance of their claims.

The 14-page decision is In Re: Quincy Medical Center, Inc., et al.

‘Sum and substance’

John Morrier of Casner & Edwards in Boston represented the debtor hospital. He said the ruling demonstrates that, in transactions in which there clearly are beneficiaries beyond the parties to a contract, courts will take a look at the “sum and substance” of the transaction, even in the face of exclusionary language.

“Judge Hoffman is stating the proposition that if your contract states an intent to do or not do something, that’s still part of the contract, even if that benefit would flow to a third party,” Morrier said. “Exclusionary language is not enough to trump specific promises in your contract.”

Had the decision gone the other way, Morrier added, it would have not only undermined the intent of his client in negotiating the APA, but the intent of contracts in general.

“Buyers and sellers could have agreed to a deal point, made a promise, and then the promise could have been ignored simply because it benefits a third party,” he said.

Jeanne P. Darcey of Sullivan & Worcester co-chairs the Boston Bar Association’s Bankruptcy Law Section with Morrier. Darcey called the ruling “a case of contract interpretation with a little bit of a bankruptcy bent.”

Though she was not involved in the case, Darcey said the decision sends a message to purchasers of assets from companies in bankruptcy to be cognizant of what they are actually purchasing.

“You have to be very careful with the specific provisions of the contract,” she said.

James D. McGinley of Edwards, Wildman, Palmer in Boston, who represented the purchaser, declined to comment.

Neither Charles R. Bennett Jr. of Murphy & King in Boston nor Bruce Gladstone of Cameron & Mittleman in Providence, R.I., who represented the terminated executives, could be reached for comment prior to deadline.

Asset purchase

The debtor, Quincy Medical Center, hired claimant Apurv Gupta as its senior vice president and chief medical officer in October 2009. Several months later, claimant Victor Munger began working as the hospital’s senior vice president of human resources.

Both claimants were included in QMC’s executive severance policy, which entitled them to six to 12 months’ base salary upon termination other than for cause.

On July 1, 2011, QMC filed for bankruptcy under Chapter 11 of the U.S. Bankruptcy Code.

A day earlier, QMC and its affiliates had signed an asset purchase agreement under which they agreed to sell all their assets to Steward Family Hospital, Inc.

Under the terms of the APA, Steward expressly agreed to retain all transferred QMC employees for at least three months. The buyer also agreed that any QMC employee terminated after the closing would be entitled to any severance pay due under QMC’s severance policy.

At the same time, the parties incorporated a standard clause in the agreement stating that no third party would have any legally enforceable rights under the agreement.

The sale closed on Oct. 1, 2001.

Gupta and Munger subsequently received letters from Steward dated Oct. 7, informing them that they were terminated effective Oct. 1. The letters stated that they were being let go because QMC, having sold its assets, was no longer operating as a hospital and thus their services were no longer needed.

Gupta and Munger each asserted claims against Steward for six months’ severance pay plus the three months’ salary they would have received had the buyer hired and then fired them.

Trump card

Addressing the former claimants’ motion, Hoffman noted that under Massachusetts law, when parties have clearly stated an intention to exclude third-party beneficiaries, that intent is controlling.

However, the bankruptcy judge continued, the claimants urged that another APA provision “manifests a specific intent of the parties to grant QMC employees third party beneficiary status and this section trumps the more general language in the [disclaimer provision].”

Indeed, Hoffman said, “when interpreting a contract containing two seemingly contradictory clauses, it is a basic tenet of contract interpretation that the more specific clause prevails over the general one.”

Additionally, a contract should be construed in a manner that best carries out the parties’ intent, he said.

Meanwhile, the judge said he was aware of no cases applying Massachusetts law to a contract with a boilerplate no-third-party-beneficiaries clause and a more specific clause demonstrating the parties’ intent to confer such rights on specific beneficiaries, as alleged in the case before him.

Accordingly, Hoffman turned to a 2005 state court ruling from Ohio, Lapping v. HM Health Services, Inc., in which the court found that following a hospital sale, a provision in the purchase agreement promising that doctors would be afforded the same clinical privileges after the closing that they had enjoyed before trumped a no-third-party-beneficiary clause.

“[T]there exists the same apparent conflict between the general anti-third party beneficiary clause and the more specific contract provision reflecting an intent to benefit a defined class,” he said.

If the SJC were to rule on the issue, it most likely would conclude that the severance provision in Steward’s APA similarly trumped the more general no-third-party-beneficiary clause, he said.

Thus, Hoffman concluded, “Steward is … liable to each of [the claimants] for severance pay equal to six months’ compensation under QMC’s executive severance policy [plus] three months’ salary” as transferred employees terminated within three months of the closing.