March 28, 2024
Successor Liability: Asset Deals as “De Facto Mergers”
Buyers in an asset deal go to a lot of trouble to ensure that they acquire only the assets and assume only the liabilities that they want. Ordinarily, courts will honor that bargain, but sometimes successor liability doctrines can come into play and make the buyer responsible for liabilities that it didn’t sign up for in the asset purchase agreement. This McDermott Will article discusses one of the most widely asserted bases for successor liability claims – the de facto merger doctrine. This excerpt highlights some of the complexities associated with determining which state’s law will apply to the determination of whether a deal involves a de facto merger:
The specific factors for de facto merger vary by jurisdiction. Delaware law takes a very restrictive approach, holding that a de facto merger only occurs when one company transfers all of its assets to another, payment is made in stock directly to the shareholders of the transferring company, and, in exchange, the buyer agrees to assume all debts and liabilities of sellers. Cleveland-Cliffs Burns Harbor LLC v. Boomerang Tube, LLC, , at *15 (Del. Ch. Sept. 5, 2023)
However, Delaware is the outlier. Usually the standard of the state in which the liability arose will control, rather than the state of incorporation or even the law that governs the purchase agreement.
Most states have adopted far more flexible standards, weighing various non-exclusive factors including: (1) the continuation by the buyer of the seller’s operations; (2) the continuation of directors, officers, and other employees; and (3) whether the buyer assumed the liabilities ordinarily necessary to continue normal business operations. Other factors can include whether the selling company ceases operations or dissolves, and whether the buyer keeps using the same trade name, phone number, vendors and suppliers, and marks.
These factors ultimately drive at whether the deal amounts to the same people using the same assets to do the same thing. They also often create fact questions that may have to be decided by a jury.
The memo points out that the risks of a deal being treated as a de facto merger are greater for financial buyers than for strategic buyers, since PE funds in many cases don’t have their own established management infrastructure and instead retain many existing officers and employees of the acquired business.
Unfortunately, the de facto merger doctrine is far from the only avenue for imposing successor liability on an asset buyer. If you’re interested in an in-depth discussion of other successor liability doctrines that might come into play, be sure to check out Chapter 8 of the Practical M&A Treatise.