How Sponsor Involvement Can Create Risk in a Distressed Portfolio Company

A recent Fifth Circuit decision involving the shutdown of Bayou Steel is a reminder that decisions made during a portfolio company’s final days can create risk not only for the company, but for its PE sponsor as well.

Bayou Steel operated a steel mill in LaPlace, Louisiana. On September 30, 2019, the company closed the plant and terminated approximately 300 employees without providing the advance notice required by the federal Worker Adjustment and Retraining Notification Act, or WARN Act. Bayou Steel filed for Chapter 11 bankruptcy the next day.

The employees initially pursued WARN Act claims against Bayou Steel in bankruptcy court. They later dismissed that action and filed a class action in Louisiana federal court against Black Diamond Capital Management and an intermediate holding company. Black Diamond was the private equity firm that advised the fund that indirectly owned Bayou Steel.

The WARN Act Claim Against Black Diamond

The employees argued that Black Diamond and Bayou Steel should be treated as a single employer under WARN and that Black Diamond had exercised de facto control over the decision to close the plant without proper notice. The case ultimately turned on that issue.

Under Department of Labor regulations, courts consider five factors in deciding whether related entities should be treated as a single employer under WARN: common ownership, common directors or officers, de facto exercise of control, unity of personnel policies, and dependency of operations.

In an earlier appeal in 2023, the Fifth Circuit ruled that there was enough evidence regarding de facto control to require a trial. The court did not find Black Diamond liable. It concluded that a factual dispute existed as to whether Black Diamond directed the plant closing. After a bench trial, the district court ruled for Black Diamond.

In May 2026, a divided Fifth Circuit panel affirmed that ruling in an unpublished opinion. The majority held that the district court did not clearly err in finding that the employees had failed to prove Black Diamond specifically directed the plant closing.

That distinction is important. The record contained substantial evidence of Black Diamond’s involvement in Bayou Steel’s affairs as its financial condition deteriorated, including financing, board matters, cost-cutting measures and restructuring discussions. The majority nevertheless concluded that this did not require a finding that Black Diamond had directed the employment decision that violated WARN.

Judge Stephen Higginson dissented. He believed the majority placed too much emphasis on identifying the specific person who ordered the shutdown and too little on the broader evidence of Black Diamond’s control over Bayou Steel’s finances, operations, personnel and decision-making.

Black Diamond ultimately won the case. But getting there required years of litigation, a trial and two appeals.

Sponsor Involvement During Financial Distress

The case also has implications beyond the WARN Act. As a company’s financial condition worsens, sponsors often become more involved. They may decide whether to provide additional capital, participate in discussions about layoffs, help select restructuring professionals, evaluate a sale or shutdown, or prepare for a bankruptcy filing.

None of that, by itself, means the sponsor is responsible for the portfolio company’s WARN Act obligations. Ownership, board representation, financial oversight and even a decision not to provide additional funding do not automatically make a sponsor the employer. A problem may arise when it becomes difficult to tell where sponsor oversight ends, and company decision-making begins.

That is why governance is especially important during periods of distress. A portfolio company’s board should continue to exercise its own authority. Major decisions should be documented, and management should understand who has authority to make employment decisions. Outside advisors should be clear about which entity they represent and from whom they are taking instructions.

Potential WARN Act issues should also be addressed early. WARN generally requires 60 days’ advance notice, although statutory exceptions may apply in some circumstances. By the time a company is down to its last few days of liquidity, many of its options may already be limited.

The Bayou Steel case does not establish a broad rule that private equity sponsors are liable for their portfolio companies’ employment decisions. Black Diamond prevailed.

But the case shows how closely a sponsor’s role can be examined when a portfolio company collapses, and employees seek recovery beyond their direct employer.

For sponsors and portfolio company boards, clear roles, sound governance and careful documentation are especially important when a business is approaching the end of its runway.