DealLawyers.com Blog

In late August, the Chancery Court declined to dismiss claims a buyer breached an SPA by failing to make certain earnout payments. At issue in Medal v. Beckett Collectibles (Del.Ch.; 8/24) was whether the earnout payments had been accelerated under the terms of the SPA. Here’s the background from this Fried Frank memo:

Section 2.05(b) of the SPA provided that, if, during the Milestone Period, (i) Beckett terminated Medal’s employment without Cause (as defined in Medal’s Employment Agreement), or (ii) Beckett determined not to continue pursuing the development of the intellectual property and technology contemplated by the Milestones, then “[Beckett] shall pay to the Stakeholders the full amount of any unpaid Milestone Payments in accordance with Section 2.05(d).” The Plaintiff asserted that (i) had occurred, as Beckett terminated Medal’s employment on August 15, 2023. The Plaintiff contended that, since Beckett did not provide any notice of any material nonperformance or other deficiency by Medal, and provided no viable Cause for termination even after pressed twice by Medal’s counsel for an explanation for the termination, the termination was without Cause. …

The Plaintiff interpreted this language as meaning that, upon the occurrence of the enumerated events, all unpaid Milestone Payments would be accelerated and become due. Beckett interpreted this language as not providing for an acceleration of payments, but “only clarif[ying] that Milestones could continue to be earned after one of the three enumerated circumstances.”

The court denied the motion to dismiss because it determined the plaintiff’s interpretation was one reasonable interpretation of the provision:

The court found the Plaintiff’s interpretation reasonable—i.e., “that the parties intended Section 2.05(b) to reference Section 2.05(d)’s payment mechanics without embracing a requirement that the Milestone Payments be ‘earned’ by achieving said Milestones….” The court stated that, at the pleading stage, it need not consider whether Beckett’s interpretation was reasonable, given that it found the Plaintiff’s interpretation conceivably was reasonable. In other words, because Beckett’s interpretation was not the only possible reasonable interpretation, the claim could not be dismissed at the pleading stage.

The memo suggests these types of accelerations should be carefully considered and clearly drafted to avoid this situation:

– The parties should consider carefully whether termination of employment of a rollover employee (such as a founder) should trigger acceleration of earnout payments. It is one thing for a buyer to agree to pay out an employment agreement if the buyer decides to terminate the employee without cause. Tying the termination to acceleration of earnout payments is, generally, a much more significant (i.e., expensive) thing, however. Where an employee is going to be critical to achieving the earnout, there is a rationale for tying a termination of employment to acceleration of the earnout. A buyer’s view of whether the employee is critical to achieving the earnout may change over time, however. The buyer may not want termination of employment to trigger acceleration, or may want termination of employment to trigger acceleration only if it is established that the termination was related to the earnout not being achieved.
– Language calling for payment of all unpaid earnout amounts under specified circumstances must state clearly whether acceleration of all of the earnout payments is intended—or, alternatively, whether only payment of already earned but unpaid amounts is intended. Where a provision (Section X) sets forth the mechanics for payment of earned amounts, and another section provides for payment under specified circumstances of amounts “pursuant to Section X,” the language should clarify whether the reference is only to the mechanics for payment set forth in Section X or also to the substantive provisions of Section X (such as its being applicable only to earned payments). Drafters should consider providing general statements of the parties’ intentions and/or illustrative examples to further clarify the language.

As the memo notes, the decision also addressed whether the plaintiff was entitled to bring suit since the SPA first required good faith negotiation but failed to explain what the parties had to do to satisfy the requirement. The memo suggests these provisions should have some more “meat on the bones,” including by addressing whether negotiation is a prerequisite when the party believes it would be futile.

– Meredith Ervine