DealLawyers.com Blog

On Friday, in Meyers v. Zimmer Biomet Holdings (Del. Ch.; 5/26), the Chancery Court dismissed claims for breach of an earnout’s “commercially reasonable efforts” covenant and the implied covenant, but allowed a narrow fraud claim to survive. The lawsuit arose from Zimmer’s 2022 acquisition of Embody, Inc. for an initial cash payment of $155 million plus $120 million in possible earnout payments over a three-year period. Only $72.5 million of the earnout was paid.

The plaintiff securityholder representative claimed that Zimmer fraudulently induced Embody to enter into the merger agreement by representing its intentions to carry out Embody’s preexisting clinical development plans and by claiming that it “was hiring, and already had budget approval to hire, 94 direct sports medicine sales representatives over the next two years.” The merger agreement did not include anti-reliance language but did include a standard integration clause.

Citing precedent, the court said: “While anti-reliance language is needed to stand as a contractual bar to an extra-contractual fraud claim based on factual misrepresentations, an integration clause alone is sufficient to bar a fraud claim based on expressions of future intent or future promises” inconsistent with the written agreement. Accordingly, the court dismissed the fraud claim premised on Zimmer’s development plan statements but bifurcated the statement regarding hiring, finding that the representation that Zimmer “already had budget approval” was a statement of present fact and could support a fraud claim.

As to the earnout provision, the parties disagreed about whether the commercially reasonable efforts clause was qualified by language that Zimmer had the right to direct and control the production, marketing, promotion, sale and commercialization of the product in all respects, in their sole discretion, or, as the plaintiff argued, whether the “commercially reasonable” term qualified the “sole discretion.” The court found the plaintiff’s argument to be reasonable, but still dismissed the claim for breach. The agreement didn’t define commercially reasonable efforts, and whether applying an inward- or outward-facing standard, the court found the complaint fell short of alleging breach.

Plaintiff does not allege or even attempt to explain why the number and experience of sales representatives that New Embody did employ was commercially unreasonable by any standard. Additionally, Plaintiff alleges that New Embody failed to use commercially reasonable efforts because it did not follow Plaintiff’s plans as allegedly promised in the Development Representation, including by failing to improve the terms of employee incentive plans, decreasing the R&D budget compared to Embody’s budget, and “shelving” certain “improvements” that Embody had planned for Tapestry RC.

Other than alleging that New Embody failed to follow Embody’s existing plans, Plaintiff does not allege or explain why New Embody’s efforts were not commercially reasonable. The Amended Complaint makes no effort to “plead[] at least some facts tying [New Embody’s conduct] to the ‘relevant yardstick’ supplied by the contractual commercially reasonable efforts provision,” whatever Plaintiff believes that standard to be.

As to the implied covenant claims, the court found that there was no contractual gap for the implied covenant to fill.

– Meredith Ervine