September 29, 2020

Busted Deals: Specific Performance a Tough Sell in Covid-19 Lawsuits

This Cooley blog reviews the busted deal litigation that’s arisen following the onset of the pandemic. Among other things, the blog discusses the challenges that sellers face in seeking the Delaware Chancery Court to compel PE sponsored buyers to specifically perform their contractual obligations. As this excerpt highlights, the limited nature of the typical PE fund specific performance obligation & their dependence on financing commitments often puts sellers in a bind:

In virtually all transactions that require debt financing to fund a portion of the purchase price (and where the private equity sponsor is not providing a 100% equity backstop), specific performance of buyer’s obligation to close is only available as a remedy if the debt has been funded or would be funded if the sponsor’s equity is funded. In other words, the specific performance remedy is conditional, and neither buyer nor the sponsor can be forced to close without the debt financing. In the event of a legitimate financing failure, a seller’s sole remedy would be to terminate the purchase agreement and collect the negotiated reverse termination fee.

Consequently, as certain sponsor-backed buyers indicated an unwillingness to close pending transactions due to COVID-19, sellers in those transactions requested expedited proceedings in the Delaware Chancery Court, knowing that their chances of obtaining specific performance would be significantly reduced (if not impossible) if the original debt financing commitment expired prior to the specific performance trial. In at least two instances, despite establishing a colorable claim and showing sufficient possibility of threatened irreparable injury, those requests for expedition were denied.

In addition, merger agreements often provide that a PE sponsor’s equity commitment will immediately terminate if the seller brings any claims against it other than claims to enforce that commitment and the sponsor’s limited guarantee of the target’s performance. Termination of the equity commitment results in a failure of the conditions to the debt financing, which means that filing other claims against the sponsor may be fatal to any potential specific performance remedy.

The blog reviews recent Delaware cases addressing seller claims for specific performance and the challenges facing sellers in those situations.  It also makes several recommendations for sellers to consider when negotiating deals with PE sponsored buyers, including pushing for a sponsor equity commitment equal to the full purchase price, negotiating higher reverse breakup fees, and requiring more extended financing commitments from the buyer’s lenders.

John Jenkins