December 4, 2007
URI: The Specific Performance Issue
Kevin Miller, an excellent M&A lawyer at Alston & Bird, has a post up on DealLawyers.com concerning the possibility of specific performance being ordered in the URI case. You can read the full post by clicking here, but what follows is the gist of his argument:
URI's brief fails to justify specific performance for two reasons, both relating to the alleged harms it claims: (i) the defendants' failure to pay the agreed cash merger consideration and (ii) the decline in the value of URI shares as a result of the defendants' allegedly manipulative disclosures.
First, to the extent the alleged harms solely relate to the fact that URI's shareholders will not receive the agreed cash merger consideration or that the value of the URI shares they hold has declined, money damages would appear to be a practicable and therefor more appropriate remedy. URI voluntarily agreed to a cap on money damages - and should not now be permitted to claim that money damages are inadequate as a remedy because of that agreed limitation.
Second, and more importantly, the alleged harms are not harms to URI. They are only harms to URI's shareholders who are not third party beneficiaries under the merger agreement and are consequently not entitled to protection or relief against such harms (see Consolidated Edison v. Northeast Utilities, 426 F.3d 524 (2d Cir. 2005) applying New York law and holding that shareholders cannot sue for lost merger premium; see also Tooley v. Donaldson, Lufkin & Jenrette, Inc., 845 A.2d 1031 (Del. 2004) applying Delaware law in analogous circumstances).
I don't agree with Mr. Miller's argument and believe that specific performance is available here if URI wins on its contract claims for the following reasons:
- Mr. Miller's argument doesn't make logical sense. In Mr. Miller's world, Chandler agrees with URI's interpretation of the merger agreement that specific performance is required under 9.10. In other words, Chandler finds that the last sentence of section 8.2(e) limiting URI's rights to damages in the amount of $100 million is applicable only in cases where the merger agreement is terminated. But then at the damages phase after deciding Cerberus to be in breach and URI to have a right of specific performance under sec. 9.10, Chandler orders that as a matter of Delaware law, damages are more appropriate. This doesn't make sense because, if he did do this, it would mean that the $100 million guarantee limitation again kicks in leaving URI without full compensation for Cerberus's breach and giving Cerberus, the breaching party, exactly what they were asking for despite Chandler's finding of the intent of the contract. Even if the Chancery Court were not a court of equity I doubt they would come to such an illogical conclusion.
- Specific performance was agreed to here. If Chandler agrees with URI's reading of the merger agreement then Cerberus specifically agreed that specific performance was permissible under sec 9.10. In similar paradigms, the Chancery Court has held litigants to their agreement that a damages remedy was inadequate and an equitable one appropriate. Thus in True North Communications, Inc. v. Publicis, S.A., Del.Ch., 711 A.2d 34, 45, aff'd, Del.Supr., 705 A.2d 244 (1997), the Chancery Court provided a grant of injunctive relief based on a defendant's agreement that an equitable remedy was appropriate and damages an inadequate remedy. Here, if URI's argument is correct, it is likely the Chancery Court would bar Cerberus from arguing against specific performance due to their contractual agreement. This is after all a court of equity.
- Regardless, specific performance is justified here as there is no adequate damages remedy. Mr. Miller is right that in Delaware a party is never absolutely entitled to specific performance; the remedy is a matter of grace and not of right, and its appropriateness rests in the sound discretion of the court. In general, equity will not grant specific performance of a contract if it cannot “effectively supervise and carry out the enforcement of the order.” Moreover, the balance of the equities must favor granting specific performance. A remedy at law, i.e., money damages, will foreclose the equitable relief of specific performance when that remedy is “complete, practical and as efficient to the end of justice as the remedy in equity, and is obtainable as [a matter] of right.” NAMA Holdings, LLC v. Related World Market Center, LLC 922 A.2d 417 (Del.Ch. 2007). Here, however, a monetary damages award would be against RAM Holdings (the Cerberus subsidiary). This is a shell company and, as the Chandler no doubt knows, would not be able to pay any amount. Rather, again if Chandler awarded a monetary damage award URI could only collect against the $100 million guarantee issued by Cerberus resulting in URI not receiving full recompense for its damages. Given this, it is hard to see how Chandler can find that monetary damages is a complete remedy as it again results in Cerberus winning a back door victory and URI without full compensation for Cerberus's breach -- a predicate for specific performance even without Cerberus's agreement in sec. 9.10. And, of course, such a decision would fly in the face of the parties' intent to the extent Chandler rules in URI's favor on the breach point.
- Delaware Precedent supports the grant of specific performance. In In re IBP, Inc. Shareholders Litigation, 789 A.2d 14 (Del.Ch. 2001), Vice Chancellor Strine found that sellers in a merger agreement were entitled to specific performance. His decision rested in part on the ability of the sellers to elect to receive stock in the transaction (not an issue here) but also upon the fact that monetary damages would be exceedingly difficult to establish. The latter point is applicable here even if there was not the issue of the guarantee. There is also some good dictum in that case which supports URI's case.
- The fact that the URI shareholders are not a party to this agreement is not an issue. Mr. Miller's second point is contrary to established case-law. He is arguing that URI cannot establish damages here because URI's shareholders are not a party to the agreement and are not third party beneficiaries. But he is conflating a number of issues. First, under basic contract law URI can itself contract for a benefit to a third party (i.e., its shareholders) and if the other party breaches, the damages remedy is generally the amount URI would have to incur to cure the breach. So, for example, I hire a music teacher for my child and agree that they will provide lessons at $10 an hour. If the music teacher breaches and I have to hire a new music teacher at $12 an hour, then my damages against the first music teacher are relatively clear under contract law -- it is the $2 an hour difference. This is the case here. The opposite outcome would mean that no contract of this type could ever be truly enforced. Moreover, numerous cases in Del., New York and federal courts have enforced buyer obligations under merger agreements on this same rationale -- none to my knowledge has ever held Mr. Miller's position to be correct. Mr. Miller attempts to distinguish IBP on this issue, but again I think he misses the point that Strine treated IBP and its shareholder claims as one and the same. There appears no jusitification for any different treatment here.
- The third party beneficiary clause does not effect this outcome. This is where Mr. Miller again conflates the issue. He cites the "no third party beneficiary" clause in the merger agreement and the Con Ed. case to assert that URI has no damages claim with respect to the consideration paid to its shareholders. But the no third party beneficiary clause and the Con Ed. case merely state that shareholders in this regard have no right to sue in their personal capacity under the merger agreement -- only the company can. Tooley, the Delaware case he cites, says the same thing. Here, though, URI is bringing the claim, not the shareholders -- so this is not a problem and as I stated in point 5-- URI is permitted under established case-law to bring this claim. Again, I challenge anyone to find a case where a seller in a merger contract sues to enforce the contract and the court denies the claim because the damages remedy is to the shareholders. There isn't one because it just doesn't jibe with basic contract interpretation laws or the parties likely intent and it just doesn't make commercial sense.
Finally, there is one big problem on the specific performance front for URI, and that is the complexity of any such remedy. In alternative scenarios, Delaware courts have refused to grant specific performance because it would be too complex a remedy for the court to implement. So, in Carteret Bancorp., Inc. v. Home Group, Inc., 1988 WL 3010 (Del. Ch. 1988), the court refused to issue an injunction requiring defendants to use their best efforts to obtain required regulation approvals and, specifically, to take or refrain from taking certain identified actions in part on the grounds that it was too complex. This may be the case here -- the remedy URI seeks is certainly a complex one. And a weakness in URI's brief is their assumption that Chandler can fashion a specific performance remedy in this case --i.e., force Cerberus to fund the equity. I think URI has a good case in Delaware but I simply do not know what happens if they do indeed win at the Dec. mini-trial. I suppose it all shifts up to New York with URI litigating RAM Holding's claim against Cerberus under the equity commitment letter? But who knows, and maybe that is why URI didn't address this issue in depth -- they just don't know either. BTW -- URI's response to Cerberus's N.Y. complaint is due 30 days after they are served (if they are served outside N.Y.) -- this is around Dec. 16 -- I suspect URI will ask Cerberus for more time to respond, though, in order to see how the Delaware action plays out.
NB. For those following the Genesco trial many of the principles above apply there under Tennessee law, but the matter is complicated by the solvency issue.
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You can just call me Kevin.
And by the way, I really enjoy your blog and find it one of the most interesting and thorough on M&A matters, though, obviously, we don't always agree.
Fundamentally I am raising two separate issues:
1. Should a voluntary cap on monetary damages make monetary damages "inadequate" for purposes of justifying specific performance; and
2. Is it appropriate to grant specific performance as a remedy to protect the interests of non-third party beneficiaries.
URI could address the first point by alleging nonmontary damages, though it hasn't yet and it may be it can't.
I don't think URI can necessarily address point 2 unless it alleges damages to URI.
The points are separate and distinct and I believe either one could be the basis for a motion to dismiss before getting to the summary judgment issue as to whether 9.10 or the last sentence of 8.2(e) controls.
The bottom line is that I don't think a voluntarily agreed cap on monetary damages makes monetary relief inadequate and if monetary damages are not inadequate, a court should not exercise its equitable powers to grant extraordinary permanent relief like specific performance.
Normally you talk about monetary damages being inadequate where the contracted item is unique - e.g., a buyer's right to buy land or a specific business. For example, even without an exclusive remedy provision, I don't think a court should or would grant equitable relief to a buyer solely because an agreed cap on an indemnity provision prevented the buyer from being fully compensated for a breach of warranty or covenant.
My argument is not that the URI specific performance provision is not enforceable or meaningless (subject to the 8.2(e) issue), its just that it is only enforceable if URI alleges damages that are difficult to quantify in dollars and the only damages URI has alleged so far relate to RAM's failure to pay the merger consideration - a clearly quantifiable damage.
Addressing your specific criticisms:
With regard to 1, 2 and 3 - The key point, as you later acknowledge, is that you can't negotiate or contract for a "right" to specific performance as it is a remedy solely within the grace and discretion of the court to be granted only as a last resort upon a showing of no other appropriate remedy.
In my world the Court could just say (i) yes RAM breached; (ii) the "harm" resulting from the alleged breach is difference between the value of the merger consideration and, lets say, the cover bid; (iii) such damages are calculable and equal to $X; (iv) money damages, being easily measured, are the preferred remedy; and (iv) to the extent $X exceeds a voluntary limitation on money damages you can't now complain that a damages award will not make you whole; (v) you can collect up to that voluntary cap through the Cerberus limited guarantee, consequently monetary damages are appropriate and practicable.
Injunctive relief - e.g., prohibiting a rival bidder from interfering with a shareholder vote is different from ordering specific performance in order to force payment of a specified amount of cash. The former clearly has no remedy at law while the latter does.
As previously indicated in the deallawyers blog, I am concerned that RAM may be precluded from challenging URI's right to specific performance because of 9.10. I think that's what happened in IBP, but I think a court recognizing the issues has to address them of its own volition.
4. The fact that IBP was a cash and stock deal was critically important. Monetary damages were not easy to calculate in IBP specifically because it would have required a guesstimate as to the value of the synergies that would have benefited IBP shareholders had they elected to receive stock. Where the merger consideration is solely cash, damages should not be that difficult to calculate.
As the IBP court said:
"I start with a fundamental question: is this a truly unique opportunity that cannot be adequately monetized?...In the more typical situation, an acquiror argues that it cannot be made whole unless it can specifically enforce the acquisition agreement, because the target company is unique and will yield value of an unquantifiable nature, once combined with the acquiring company. In this case, the sell-side of the transaction is able to make the same argument, because the Merger Agreement provides the IBP stockholders with a choice of cash or Tyson stock, or a combination of both. Through this choice, the IBP stockholders were offered a chance to share in the upside of what was touted by Tyson as a unique, synergistic combination. This court has not found, and Tyson has not advanced, any compelling reason why sellers in mergers and acquisitions transactions should have less of a right to demand specific performance than buyers, and none has independently come to mind."
I think the Second Circuit in the ConEd case discussed below, answered the IBP court's rhetorical question - because target shareholders are not parties or third party beneficiaries of the contract.
Note: Not a big point but IBP is not a Delaware precedent, it is a Delaware court applying NY law.
5. I agree that the third party beneficiary defense is a weaker defense though I think your music teacher story addresses the issue.
To avoid being distracted by issues relating to the provision of personal services, let's assume you ordered an xbox 360 from seller A for $350 as a present for your kid but for some reason - lets say they’re big fans of Ohio State - seller A refused to deliver an xbox 360 to Michigan even though Seller A had sufficient product, forcing you to cover by paying $400 to obtain the same product from seller B. And suppose further that the contract with seller A had a provisions stating that (i) the parties agreed in advance that a breach would result in irreparable harm and that equitable relief including specific performance would be appropriate and (ii) under no circumstances would seller A be liable for money damages in excess of $25 for breaches of the agreement. I honestly don't think a court should require specific performance solely because you couldn't collect the full $50 in money damages from Seller A. On the other hand, if everyone was sold out of xbox 360's, specific performance might be the only appropriate remedy and the court would be required to balance the equities.
But the foregoing example as well as your music teacher example focus on the easy case - protecting the interests of a party to an agreement - not a demand for equitable relief to effectively compensate a non third party beneficiary.
There is a huge difference between (i) a court specifically enforcing a buyer's rights to buy a product or a service at a specific price, even where that product or service will be delivered or rendered to a third party and (ii) a court specifically enforcing a buyer's "obligation" to pay cash consideration to a nonthird party beneficiary.
The more relevant example would be, suppose you agree that I can buy your brother's old xbox for $10 provided your brother agrees (analogous to the requisite shareholder vote), but later I say I don't want to buy your brother's old xbox for $10 but will still pay $8. Can you sue me in equity and force me to pay your brother $10 for his xbox. I don't think that's the right answer. Certainly your brother can't sue me (ConEd). Similarly he couldn’t sue you for agreeing to take $8 instead $10 (essentially Tooley) or even for voluntarily terminating the agreement in its entirety.
The court in IBP didn't see the point because it wasn't briefed. "Although Tyson's voluminous post-trial briefs argue the merits fully, its briefs fail to argue that a remedy of specific performance is unwarranted in the event that its position on the merits [of whether there had been a MAC] is rejected. This gap in the briefing is troubling."
6. The Second Cir. effectively held that neither the target nor its shareholders could sue for lost merger premium as the shareholders were not third party beneficiaries. In ConEd the claim for lost profits was originally brought by NU. The federal district court held that NU's shareholders were clearly third party beneficiaries of the merger agreement and denied ConEd's motion to dismiss. Later, a competing shareholder class action for lost profits was brought and the federal district court ended up ruling that the shareholder class plaintiffs could more effectively represent the interests of NU shareholders at the time of the breach and granted summary judgment against NU's claim for lost profit. Thus, on appeal, the second circuit was effectively asked whether NU or the shareholder class plaintiff's acting on behalf of shareholders at the time of the breach were the better plaintiff/plaintiff representative. The second circuit's answer was essentially "neither" as shareholders were not third party beneficiaries under the merger agreement.
This generated a fair amount of discussion among M&A lawyers though no one seemed to come up with a solution that many thought practicable. A few lawyers have sought to include provisions in merger agreements governed by NY law making target stockholders third party beneficiaries with rights solely enforceable by the target, including some very large deals - see Berkshire Hathaway's acquisition of Russell Corp.; Brookfield Properties acquisition of Trizec; Phelps Dodge's proposed acquisition of Inco; and Aviva's proposed acquisition of AmerUs (all referenced in the ConEd article cited in my original DealLawyers' blog). See also a more recent article by Victor Lewkow and Neil Whoriskey of Clearly Gottlieb in the October 2007 issue of The M&A Lawyer). Based on anecdotal evidence, I think the practical effect is that most M&A lawyers are avoiding the ConEd issue by agreeing to Delaware rather than NY choice of law provisions in merger agreements - in effect hoping for a different answer from the Delaware courts, with no guarantee of success.
Posted by: Kevin Miller | Dec 5, 2007 10:19:52 AM