M & A Law Prof Blog

Editor: Brian JM Quinn
Boston College Law School

Friday, November 23, 2007

SLM Retreats

SLM is using the Thanksgiving holiday to make a tactical shift in its litigation with the Flowers Group.  On Wednesday, SLM sent a letter withdrawing its motion for an expedited paper ruling.  Instead, the dispute will now be settled at a later date through a full trial.  In making this request SLM stated:

prospect of settlement in this matter is sufficiently remote that it does not justify asking the Court to decide the issue posed by the motion for Partial Judgment . . . .

SLM also announced that it had changed litigation counsel, hiring Brendan V. Sullivan at Williams & Connolly.  Likely, SLM is coming to grips with the fact that on paper its case is not a strong one.  I can't come to any other conclusion -- if SLM really thought it would win this motion it would proceed full speed ahead whether or not there was a prospect for settlement.  SLM's actions likely mean there will not be a trial until Fall at the earliest.  It appears that SLM has decided that it is time to move on and get down to the business of running their company rather than fighting what appears to be a less than winning battle.  A victory for both SLM and the Flowers group. 

November 23, 2007 | Permalink | Comments (0) | TrackBack (0)

Cerberus Sues in New York

On Wednesday, Cerberus filed suit in New York State court to enforce the terms of its limited guarantee -- the document which Cerberus purports limits its liability under the URI merger agreement to $100 million.  This development doesn't mean particularly much for the legal case but it is an interesting new front opened by Cerberus and provides an insight into their strategy.  First, let's examine how this effects the legal case. In their complaint, Cerberus asserts that:

Under the Limited Guarantee and Equity Commitment Letter, United Rentals has no right to and therefore may not require Cerberus or its affiliates to fund or finance any transactions contemplated by the Merger Agreement or to bring any claim against Cerberus or its affiliates relating to or arising out of the Merger Agreement other than a claim for non-payment of the Guaranteed Obligations subject to a cap of $100 million.

In its N.Y. suit Cerberus is attempting to leverage the limited guarantee into an interpretation of the merger agreement.  But, this is the cart before the horse.  The guarantee only comes into play if a payment obligation is triggered under the merger agreement.  And whether the merger agreement itself limits Cerberus's liability to only the $100 million or includes a remedy of specific performance is vague itself at best.  I therefore suspect that any judge on this N.Y. case will find Cerberus's claims not yet ripe and wait for the Delaware court to interpret Cerberus's obligations under the merger agreement.  This is because the application of the limited guarantee only comes into play if the merger agreement obligations are triggered.  And for that we need a Delaware ruling.  This is not to say that the limited guarantee is not evidence of intent for the contractual provisions of the merger agreement -- it is, and will likely be brought into the Delaware court for such purposes -- rather Cerberus will likely not be permitted to litigate the merger agreement provisions through this N.Y. claim.

Cerberus likely knows this, so the question really is, why bring the suit at all?  A couple of thoughts:  1)  Cerberus is playing hardball here -- they are putting URI on notice that they will aggressively litigate this dispute to force URI to negotiate, 2) through this filing Cerberus shows what a mess these legal documents are -- again, this will likely push URI towards a settlement, 3) Cerberus can now have a designated New York judge on its case and begin to prep him or her for any possible litigation in New York involving the banks (I haven't seen the financing commitment letters but presume they have a N.Y. choice of forum clause -- there is also a diversity issue I need to look at), and 4) Cerberus gets to show what a big dog it is.  Still, while the strategy may work, I am not sure what it bodes for Cerberus's future.  Going-forward, parties are going to likely demand tighter restrictions, higher premiums and be less likely to pick Cerberus as a transaction partner on deals.  The rumor on The Street is that Cerberus is cutting its losses on URI because of larger failures on other transactions -- this may or may not be true -- but Cerberus may find that, ultimately, its conduct in the URI dispute becomes the longest-lasting wound. 

Note on Delaware Trial Date:  A Wednesday news article reported that there is likely to be an expedited Delaware court ruling, possibly by December or January, in the URI litigation.  The reason given is that "URI envisions an earlier court decision in its pursuit of specific performance, as the drop dead date on financing for the deal is 22 January."  Don't bet on it.  The banks here (and Cerberus) have no incentive for a quick ruling in this dispute.  Therefore, they will likely do what UBS has done in Genesco/Finish Line -- simply extend the drop-dead date to avoid grounds for a premliminary injunction ruling.

Final Note:  The Cerberus suit in N.Y. once again highlights the importance for M&A lawyers of ensuring that all of the transaction documents have the same choice of forum clause.  Ideally, M&A lawyers should also select only one law to govern all of the transaction documents.  I understand in making this second statement that New York law is the choice for bank finance and Delaware increasingly the choice for merger agreements -- but perhaps the solution is to have the provisions in the financing doocuments which mirror the merger agreement provisions (e.g., MAC clauses) be governed by Delaware law and the rest by New York.  I need to think about this as it might just make things even more complicated.      

November 23, 2007 in Litigation | Permalink | Comments (0) | TrackBack (0)

Wednesday, November 21, 2007

Cerberus Strikes Back

Here is the press release. Classic litigation tactic to file the day before a holiday and ruin the other side's break.  Not very nice, though -- this dispute is getting uglier.  I'll have commentary before market open on Friday.  Enjoy your holiday and give thanks you are not a lawyer representing United Rentals on this deal -- they're working the rest of this week. 

New York, New York – November 21, 2007 – Earlier today Cerberus Capital Management, L.P. and Cerberus Partners L.P. (collectively, “Cerberus”) filed an action for a declaratory judgment against United Rentals, Inc. (NYSE:URI) (“United Rentals”) in New York State Supreme Court. In taking this action, Cerberus seeks to ensure that United Rentals honors the express contractual undertakings it made contemporaneous with the execution of the Merger Agreement announced July 22, 2007.

Contrary to United Rentals’ current position in litigation and in the press, while negotiating the Merger Agreement, Cerberus and its affiliates, RAM Holdings, Inc. and RAM Acquisition Corp.(“the RAM entities”), with respect to any and all claims arising under or related to the Merger Agreement, negotiated for and received a liability cap of $100 million. Due to the uncertainty in the financial markets, Cerberus and its affiliates required, and United Rentals expressly agreed, that United Rentals’ sole and exclusive remedy against Cerberus and its affiliates was damages in an amount not to exceed $100 million.

This bedrock principle of the transaction is reflected in all of the critical agreements and documents, and in particular, in the Merger Agreement and in Cerberus’ Limited Guarantee of the obligations of the RAM Entities. Thus, in the Limited Guarantee that Cerberus provided to United Rentals as part of the transaction, United Rentals agreed, after substantial negotiation that the liability of Cerberus and its affiliates for any claims arising under or related to the Merger Agreement would be capped at $100 million and that United Rentals had no rights to seek equitable relief.

Regrettably, United Rentals is now engaged in an effort to rewrite history and the contracts into which it entered, claiming that it has the right to compel the RAM Entities and Cerberus to go forward with the merger transaction. United Rentals’ position flies in the face of the provisions of the Merger Agreement and the Limited Guarantee. The plain text of the documents is directly contrary to United Rentals’ position.

Under the Limited Guarantee and Equity Commitment Letter, United Rentals has no right to and therefore may not require Cerberus or its affiliates to fund or finance any transactions contemplated by the Merger Agreement or to bring any claim against Cerberus or its affiliates relating to or arising out of the Merger Agreement other than a claim for non-payment of the Guaranteed Obligations subject to a cap of $100 million.

In taking this action, Cerberus seeks merely to ensure that United Rentals honors the express contractual undertakings contemporaneous with the execution of the Merger Agreement of July 22, 2007.

November 21, 2007 in Litigation | Permalink | Comments (0) | TrackBack (0)

Thanksgiving Tidbits

I'll be on hiatus for the rest of the week, returning on Monday.  In the interim, here are some tidbits to keep your M&A mind working over the Thanksgiving holiday:

  1. CKX, Inc. yesterday filed a Form 8-K finally detailing the financing commitment letters for its pending acquisition by Robert F.X. Sillerman and Simon R. Fuller.  Kudos to CKX for making the filing only two days before Thanksgiving instead of later today.  I'll have more on this Monday when people are back -- but in the interim feel free to figure out on your own the amount of financing now being provided by Sillerman and whether these "commitment letters" are really as firm as they should be.  Moreover, in addition to possibly shaky financing, five months in the parties have yet to file a preliminary proxy statement with the SEC, and CKX cannot terminate the deal for failure of Sillerman's financing until June 1, 2008 at the earliest -- in a going private deal the type of long-term optionality being provided here to Sillerman, et al. really is remarkable.  For more on this see my prior post:  CKX:  The Fine Art of Cramped Disclosure
  2. Buttressing Genesco's case, Footlocker announced poor third quarter results yesterday.  This should help Genesco argue that the MAC carve-out for industry-wide down-turns in its agreement with Finish Line applies.  For more on this argument, see my prior post:  Hell is Other People:  Genesco/Finish Line/UBS.
  3. Sears Holding Corporation filed a Schedule 13D announcing it had acquired 13.67% of Restoration Hardware.  The purchase took place in two transactions on November 8 and November 12, respectively.  Restoration Hardware is clearly in Revlon mode right now and its Board is thus required to accept the highest price reasonably available.  Sears' foray has come during Restoration's go-shop period so a break-fee on the deal is the lower $6,675,000 instead of $10,680,000.  For more on Restoration's pending deal with Catterton Partners and its transaction defenses, see my post:  Restoration Hardware Sold!
  4. Remember the SPAC Endeavor Acquisition Corp.'s agreement to acquire American Apparel?  It has been so long few do; the transaction was announced on December 18, 2006.  But a year later Endeavor has yet to clear its merger proxy with the SEC.  The latest proxy filing contemplates a December 12 meeting to approve the transaction, but has yet to be mailed. They are certainly cutting it close:  if they do not complete the acquisition by December 15, 2007, Endeavor will be required under its organizational documents to be dissolved.  Note that on November 7, 2007, the acquisition agreement was amended to, among other things:
    1. increase the number of shares of Endeavor being issued to Dov Charney [CEO and majority owner of American Apparel] at the closing of the acquisition from 32,258,065 to 37,258,065;
    2. increase the level of American Apparel’s net debt above which there would be an adjustment in the number of shares issued to Mr. Charney at closing of the acquisition from $110 million to $150 million;
    3. increase the size of the 2007 performance equity plan from 2,710,000 shares to 7,710,000 shares and to provide that stock awards from an aggregate of 2,710,000 shares would be allocated and issued thereunder . . . .;
    4. eliminate as a closing condition American Apparel’s hiring of a chief financial officer, chief operating officer and chief information officer; and
    5. Revise Dov Charney's compensation under his employment agreement (wonder which way it went?).   

In my next life, I want to be acquired by a SPAC. 

November 21, 2007 in Current Events | Permalink | Comments (0) | TrackBack (0)

Tuesday, November 20, 2007

URI/Cerberus: The Complaint

RAM said it would need to draw on its committed bridge financing facilities, but in the current credit markets it was not prepared to impair relationships with RAM’s financing sources by forcing them to fund [the acquisition of United Rentals]. . . .

--  URI Complaint alleging the reasons why Cerberus has repudiated its agreement with URI and perhaps revealing where Cerberus's true allegiances lie.

United Rentals yesterday filed suit against the Cerberus acquisition vehicles, RAM Holdings, Inc. and RAM Acquisition Corp. (for ease of reference I will refer to them as Cerberus).  The complaint is about as straight-forward as they get.  United Rentals sole claim is that Section 9.10 of the merger agreement requires specific performance of Cerberus's obligations.  Section 9.10 of the United Rentals/Cerberus merger agreement states:

The parties agree that irreparable damage would occur in the event that any of the provisions of this Agreement were not performed in accordance with their specific terms or were otherwise breached. Accordingly . . . . (b) the Company shall be entitled to seek an injunction or injunctions to prevent breaches of this Agreement by Parent or Merger Sub or to enforce specifically the terms and provisions of this Agreement and the Guarantee to prevent breaches of or enforce compliance with those covenants of Parent or Merger Sub that require Parent or Merger Sub to (i) use its reasonable best efforts to obtain the Financing and satisfy the conditions to closing set forth in Section 7.1 and Section 7.3, including the covenants set forth in Section 6.8 and Section 6.10 and (ii) consummate the transactions contemplated by this Agreement, if in the case of this clause (ii), the Financing (or Alternative Financing obtained in accordance with Section 6.10(b)) is available to be drawn down by Parent pursuant to the terms of the applicable agreements but is not so drawn down solely as a result of Parent or Merger Sub refusing to do so in breach of this Agreement. The provisions of this Section 9.10 shall be subject in all respects to Section 8.2(e) hereof, which Section shall govern the rights and obligations of the parties hereto (and of the Guarantor, the Parent Related Parties, and the Company Related Parties) under the circumstances provided therein.

United Rentals must still get around Section 8.2(e) of the merger agreement which purports to trump this provision and limit Cerberus's aggregate liability to no more than $100,000,000.  This clause states: 

(e) Notwithstanding anything to the contrary in this Agreement, including with respect to Sections 7.4 and 9.10, (i) the Company’s right to terminate this Agreement in compliance with the provisions of Sections 8.1(d)(i) and (ii) and its right to receive the Parent Termination Fee pursuant to Section 8.2(c) or the guarantee thereof pursuant to the Guarantee, and (ii) Parent’s right to terminate this Agreement pursuant to Section 8.1(e)(i) and (ii) and its right to receive the Company Termination Fee pursuant to Section 8.2(b) shall, in each case, be the sole and exclusive remedy, including on account of punitive damages, of (in the case of clause (i)) the Company and its subsidiaries against Parent, Merger Sub, the Guarantor or any of their respective affiliates, stockholders, general partners, limited partners, members, managers, directors, officers, employees or agents (collectively “Parent Related Parties”) and (in the case of clause (ii)) Parent and Merger Sub against the Company or its subsidiaries, affiliates, stockholders, directors, officers, employees or agents (collectively “Company Related Parties”), for any and all loss or damage suffered as a result thereof, and upon any termination specified in clause (i) or (ii) of this Section 8.2(e) and payment of the Parent Termination Fee or Company Termination Fee, as the case may be, none of Parent, Merger Sub, Guarantor or any of their respective Parent Related Parties or the Company or any of the Company Related Parties shall have any further liability or obligation of any kind or nature relating to or arising out of this Agreement or the transactions contemplated by this Agreement as a result of such termination. The parties acknowledge and agree that the Parent Termination Fee and the Company Termination Fee constitute liquidated damages and are not a penalty and shall be the sole and exclusive remedy for recovery by the Company and its subsidiaries or Parent and Merger Sub, as the case may be, in the event of the termination of this Agreement by the Company in compliance with the provisions of Section 8.1(d)(i) or (ii) or Parent pursuant to Section 8.1(e)(i) and (ii), including on account of punitive damages. In no event, whether or not this Agreement has been terminated pursuant to any provision hereof, shall Parent, Merger Sub, Guarantor or the Parent Related Parties, either individually or in the aggregate, be subject to any liability in excess of the Parent Termination Fee for any or all losses or damages relating to or arising out of this Agreement or the transactions contemplated by this Agreement, including breaches by Parent or Merger Sub of any representations, warranties, covenants or agreements contained in this Agreement, and in no event shall the Company seek equitable relief or seek to recover any money damages in excess of such amount from Parent, Merger Sub, Guarantor or any Parent Related Party or any of their respective Representatives.

United Rentals argues that this damages limitation clause does not bar its specific performance claim since:

RAM implied in its November 14, 2007 letter that this explicit contractual provision, headed “Specific Performance” has no force and effect because of language in Section 8.2(e) of the Merger Agreement. But RAM is incorrect. As reflected in the language of the Merger Agreement itself, and as described in the Proxy Statement that RAM and its counsel reviewed and signed off on, Section 8.2(e) limits rights to equitable relief only in the event that the Merger Agreement has been terminated.

I'm surprised at this argument.  The limitation in Section 8.2(e) specifically has the qualification:  "In no event, whether or not this Agreement has been terminated pursuant to any provision hereof . . . ."  This would seem to make its applicability wider than just termination events.  Moreover, Section 9.10 specifically makes its provisions subject to clause 8.2(e).  I just don't think that United Rental's argument here is compelling since a better, though not certain reading, of this clause would be that its liability cap is applicable in circumstances other than termination of the agreement. 

Instead of the above argument, I would have thought that United Rentals would have argued what I postulated they would the other day

Conversely, United Rentals is going to argue that "equitable relief" here refers to other types of equitable relief than set out in Section 9.10 and that to read Section 8.1(e) any other way would render Section 9.10 meaningless. United Rentals will also argue that specific performance of the financing commitment letters here is at no cost to Cerberus and so the limit is not even met. 

But United Rentals has the benefit of the lawyers who negotiated for them and the currently non-public parol evidence as to how the contract was meant to be read, so perhaps the plain fact is that clause 8.2(e), though in-artfully drafted, was actually meant to be interpreted this way.  Still, I wonder how United Rentals will ultimately explain the qualification "whether or not this agreement has been terminated".  Regardless, this is a clearly ambiguous contract; this is a conclusion I can make even before reading Cerberus's response.  This dispute will have to be resolved at trial in Delaware Chancery Court -- an event that is 6-9 months out at best, even on an expedited basis. 

Finally, United Rentals makes a big deal in their complaint about their proxy disclosure, and Cerberus's failure to correct it.  United Rentals claims that this shows that their interpretation is the correct one.  I'm not so sure about this.  While ex post facto conduct can evidence the parties intentions with respect to the contract, their reading of the proxy statement can easily be disputed by Cerberus.  Moreover, Cerberus's failure to comment here is weak evidence as opposed to affirmative, conscious conduct.   For those who want to read the proxy disclosure and make their own conclusions, here it is: 

Specific Performance

Parent, Merger Sub and the Company have agreed that irreparable damage would occur in the event that any of the provisions of the merger agreement were not performed in accordance with their specific terms or were otherwise breached. Accordingly, the parties have agreed that they shall be entitled to seek an injunction to prevent breaches of the merger agreement and to be able to enforce specifically the terms and provisions of the merger agreement, in addition to any other remedy to which such party is entitled at law or in equity, including the covenants of Parent or Merger Sub that require Parent or Merger Sub to (i) use its reasonable best efforts to obtain the financing and satisfy certain conditions to closing, and (ii) consummate the transactions contemplated by the merger agreement, if the financing (or alternative financing) is available to be drawn down by Parent pursuant to the terms of the applicable agreements but is not so drawn down solely as a result of Parent or Merger Sub refusing to do so in breach of this Agreement. The provisions relating to specific performance are subject to the rights and obligations of the parties relating to receipt of payment of the termination fee, as described above under “Fees and Expenses,” under the circumstances described therein.

Fees and Expenses

The merger agreement provides that our right to terminate the merger agreement in the above circumstances and receive payment of the $100 million termination fee is the sole and exclusive remedy available to the Company and its subsidiaries against Parent, Merger Sub, the guarantor and any of their respective affiliates, stockholders, general partners, limited partners, members, managers, directors, officers, employees or agents for any loss or damage suffered as a result of such termination.

To the extent this proxy disclosure is actually unambiguous, my guess is that United Rentals post-signing recognized the uncertainty in the actual agreement and tried to cure it here without raising Cerberus's ire or comment.  The result is the neutral language above which I believe is still far from definitive and certainly not dispositive.  I think United Rentals is grasping for parol evidence.  I suspect that this may be because there is not really anything out there on paper evidencing the negotiation of this provision other than mark-ups -- further weakening their case in light of their less than compelling argument above.

Final question:  what then were the proxy comments of Cerberus which URI alledgedly ignored and which Cerberus referred to in its August 31 letter

November 20, 2007 in Delaware, Litigation, Merger Agreements, Private Equity | Permalink | Comments (0) | TrackBack (0)

Monday, November 19, 2007

URI Complaint

You can read URI's complaint here.  I'll have full analysis tomorrow.  But URI is claiming that section 8.2(e) of the merger agreement which limits equitable remedies to $100 million is only applicable if the merger agreement is terminated.  For an explanation fo this legal argument see my prior post here

My gut reaction is that URI probably thought that that was what they agreed to but the agreement is quite unclear on this point, a likely result of hurried, and sloppy, drafting by the lawyers (sorry Simpson).  URI clearly realized this a while ago and have been attempting to cover it up through significantly clearer proxy statement disclosure -- a point they make in the complaint.  If you want to have fun do a search for specific performance and limited gurantee in the merger proxy statement.  If it only it were written this way in the contract. 

The bottom line is that the contract is unusually ambiguous on when URI can receive specific performance of the agreement and whether it is limited by the $100 million cap.  And while I think URI has a good argument, the contract is so unclear that who is right will depend upon the parol evidence -- evidence outside the contract -- as determined by a judge in Delaware after full discovery.  there will be no paper ruling here like in SLM.  And even the quickest trial will be 6-9 months out.  More tomorrow. 

November 19, 2007 in Litigation | Permalink | Comments (0) | TrackBack (0)

URI Sues (Finally)

Here it is, finally.  I'll have more on it later (but for now see my post from last week -- this is unfolding as I predicted and URI's claims at this point are not surprising -- they are clearly relying on the unavailability of financing to escape their obligations).

GREENWICH, Conn.--(BUSINESS WIRE)--November 19, 2007 United Rentals, Inc. (NYSE: URI) announced today that it has filed a lawsuit against RAM Holdings, Inc. and RAM Acquisition Corp. (collectively, "RAM"), acquisition vehicles formed by Stephen A. Feinberg's Cerberus Capital Management, L.P. to acquire United Rentals. The lawsuit, filed in the Delaware Court of Chancery, seeks to compel the Cerberus acquisition vehicles to complete the agreed-upon transaction.

As previously announced, United Rentals received a letter from RAM, repudiating the merger agreement even though there has been no material adverse change in United Rentals' business. The letter was sent after a meeting led by Mr. Feinberg at which RAM informed United Rentals' advisors that RAM did not want to force its financing sources to fulfill their commitments, even though the merger agreement requires them to do so. At the meeting, Cerberus specifically confirmed that there has not been a material adverse change. United Rentals believes that the repudiation, which is unwarranted and incompatible with the covenants of the merger agreement, is nothing more than a naked ploy to extract a lower price at the expense of United Rentals' shareholders.

The lawsuit asserts that the "Specific Performance" provision of the merger agreement, which states that "irreparable damage would occur in the event that any of the provisions of th(e) Agreement were not performed in accordance with their specific terms or were otherwise breached," explicitly gives United Rentals the right to compel consummation of the merger in the present situation. The lawsuit contends that the Cerberus acquisition vehicles are directly violating the merger agreement and acting in bad faith, and do not have the right to pay a reverse break-up fee and simply walk away. There is no financing barrier to completing the merger, as RAM has binding commitment letters from its financing sources to provide financing for the transaction. United Rentals believes that the financing sources stand ready to fulfill their contractual obligations.

As described in the lawsuit, the Specific Performance provision of the merger agreement requires RAM to draw down the committed financing and consummate the merger under precisely these circumstances. The lawsuit also contends that the Cerberus acquisition vehicles sought to further their scheme to buy United Rentals for less bytaking advantage of the dramatic stock price drop that occurred after their intention to walk away from their obligation to consummate the merger was leaked to a news organization. The lawsuit asks the Court to award United Rentals specific performance of the merger agreement to consummate the merger in accordance with its terms.

The United Rentals Board believes it is in the best interest of the Company and its stockholders to bring this action to enforce their contractual rights, and looks forward to prevailing in court.

The New York law firm of Orans, Elsen & Lupert LLP and the Wilmington, Delaware law firm of Rosenthal, Monhait & Goddess, P.A. is representing United Rentals in this litigation.

November 19, 2007 in Litigation | Permalink | Comments (0) | TrackBack (0)

Sunday, November 18, 2007

Hell is Other People: Genesco/Finish Line/UBS


The Genesco/Finish Line material adverse change dispute is now about as ugly as it gets.  First, early last week Genesco filed an amended complaint.  The amended complaint was largely unremarkable and unchanged from the original, although in addition to a specific performance claim, Genesco amended its complaint to include an alternative claim for damages relief (this is important -- I'll get to it below under the heading Solvency).  Later in the week, Finish Line answered.  Finish Line, now having the benefit of discovery, counter-claimed "against Genesco for having intentionally, or negligently, misrepresented its financial condition in order to induce Finish Line into entering" the transaction.  Shifting tactics, Finish Line also baldly asserted that a material adverse change had occurred to Genesco under the terms of the merger agreement.  Moreover, Finish Line asserted that "[t]his fundamental change in Genesco's financial position also raises serious doubts that Finish Line and the combined company will be solvent following the Merger."  Finish Line concluded its answer and counter-claim by stating:

As a result, Finish Line suffered injury by entering into the Merger Agreement while unaware that Genesco was in the midst of a financial free-fall, for which there still appears to be no bottom.

It actually got worse after this.  On Friday, UBS counter-claimed in the Tennessee Court.  UBS didn't assert a claim of "intentional, or negligent, misrepresentation".  Instead they threw down a counter-claim of fraud against Genesco.  Things are real bad when your ostensible banker is accusing you of fraud.  Not content with that charge, UBS also sued both Finish Line and Genesco in the Southern District of New York seeking to void its financing commitment letter since Finish Line could not deliver the solvency certificate required to close the financing.   The reason UBS asserted was that "[d]ue to Finish Line's earnings difficulties and Genesco's disastrous financial condition, the combined Finish Line-Genesco entity would be insolvent . . . . "  Clearly, Finish Line's specially hired uber-banker Ken Moelis was unable to perform his expected job of reigning in UBS.  [update here is the UBS N.Y. complaint]

This is a mess.

Material Adverse Change Clause

First, the material adverse change issue.  My first thought is that this case is a very good example of the fact-based nature of MAC disputes.  When we first looked at this deal back on August 31, I noted that I thought Genesco had a good legal case based on the tight MAC clause it had negotiated.  But I also stated that my conclusions at that time were based on the public evidence and that discovery would flesh out the validity of Finish Line's claims.  It now appears that Finish Line's claim is premising its MAC claim on Genesco's earnings drop -- a decline of 100% to $0.0 earnings per share compared to the same period from the previous year when Genesco's earnings per share were $0.24. 

As we know under Delaware law a  "short-term hiccup in earnings should not suffice; rather the Material Adverse Effect should be material when viewed from the longer-term perspective of a reasonable acquiror."  In re IBP, Inc. Shareholders Litigation (“IBP”), 789 A.2d 14 (Del. Ch. 2001).  Thus, it is interesting to note that Finish Line's only support for this assertion appears to be the following:

What is more, there is no indication Genesco's decline has bottomed out. Genesco's most recent financials instead indicate that it is poised to suffer another substantial drop in earnings in the third quarter.

Finish Line still hasn't factually asserted anything longer term than two quarters of adverse performance.  Thus, to the extent the Tennessee court adopts Delaware law on this issue, Finish Line is going to have to show at trial that this is an adverse change that is going to continue.  They have a good start with the two-quarter drop, if indeed Genesco's results announced later this month show such a drop, but at trial Finish Line will still need to prove the long term nature of this change.  Moreover, the MAC clause in the merger agreement excludes out a failure to meet projections as well as: 

(B) changes in the national or world economy or financial markets as a whole or changes in general economic conditions that affect the industries in which the Company and the Company Subsidiaries conduct their business, so long as such changes or conditions do not adversely affect the Company and the Company Subsidiaries, taken as a whole, in a materially disproportionate manner relative to other similarly situated participants in the industries or markets in which they operate;

Nowhere does Finish Line comprehensively address this argument.  My bet is, given the of-late poor performance of Finish Line itself, the definitive MAC issue at the Tennessee trial is going to revolve substantially around whether this sub-clause (B) excludes out any MAC.  Here, note the materially disproportionate requirement, something notably absent in the SLM/Flowers MAC (to their detriment).  Thus, Finish Line still has a high hurdle to meet in order to prove a MAC-- it must prove the long term nature of this claim beyond two quarters and that it is materially disproportionate to what is occurring in the industry generally.

Perhaps as a comment on the Finish Line MAC claim, UBS in its own complaint makes the following statement about the Material Adverse Change to Genesco:

UBS denies that there necessarily has been no Material Adverse Effect with respect to Genesco's business.

UBS has yet to claim a MAC occurred in the merger agreement.  And, I have not read UBS's N.Y. complaint but it appears that they have not asserted the mirror-image MAC clause in their financing commitment letter to justify not financing the deal.  Rather, their argument appears centered on fraud by Genesco and the insolvency of the combined entity. 

The one monkey-wrench here is the solvency claim which may in and of itself justify a MAC claim. 


The issue had been rumored on the Street for a while, but still the solvency claim is amazing.  Finish Line is clearly frantically trying to avoid a doomsday scenario where it is required to complete the Genesco deal but lacks the financing to do so.  Thus, Finish Line claims that "[t]he ability of Finish Line and the combined enterprise to emerge solvent from the Merger is an additional condition precedent to the Merger Agreement under Sections 4.9 and 7.3."  However, Section 4.9 is Finish Line's own representation to Genesco as to its solvency post-closing.  Section 7.3 is the condition that Finish Line's own representations must be true in order for Finish Line to require Genesco to close.  But, Genesco can waive this condition and the breach of this representation!  Moreover, Finish Line appears to be aware of this snafu; so it also claims that if the post-combination company is insolvent it would violate Genesco's representation in 3.17 that the merger will not violate any law applicable to Genesco.  I think this final argument is a stretch -- the violative conduct would be that of Finish Line -- if the parties had wanted to pick up this type of conduct they would have had Genesco make the representation rather than Finish Line.

Still, any judge would be loathe to order specific performance of a merger that would render the other party insolvent -- which is why I suspect Genesco is now asking for a monetary award.  This is an alternative to this issue.  Nonetheless,  I want to emphasize that any judge in the face of this insolvency may find it to be MAC.  I don't believe that this is what the MAC is intended to encompass or that the plain language is designed to address such events -- it is merely changes to Genesco.  If the parties had wanted they could have negotiated a solvency condition.  But they didn't.  Nonetheless, the event is so horrific a judge may find a way to read the MAC clause this way. 

The bottom line is that even if this combination would indeed render Finish Line insolvent, I'm not sure they get out of this agreement unless the judge stretches in interpreting the MAC clause.  There is no specific solvency condition and the agreement does not contain any specific out for such circumstances. 

Unfortunately for Finish Line, UBS has a better case to escape its financing commitments.  Under the financing commitment letter, it is a condition to closing that UBS receive:

all customary opinions, certificates and closing documentation as UBS shall reasonably request, including but not limited to a solvency certificate.

If the combined company is indeed going to be insolvent UBS can get out of its financing commitment.  But as I've said, it is unclear if Finish Line can also get out of its own agreement.  Given this, Finish Line must clearly be desperate to raise this issue in its own filings.  But I suppose it has nothing to lose at this point. 


It is at this point that I will quote Finish Lines representation at Section 4.6:

For avoidance of doubt, it shall not be a condition to Closing for Parent or Merger Sub to obtain the Financing or any alternative financing.

While I tut-tut the lawyers for putting this as a representation (it is more appropriate to include as a covenant or in the conditions to closing), it bears repeating that there is no financing condition in this merger agreement. 

As an aside, in Section 6.9 Finish Line agrees that: 

In the event any portion of the Financing becomes unavailable on the terms and conditions contemplated in the Commitment Letter, Parent shall use its reasonable best efforts to arrange to obtain alternative financing from alternative sources in an amount sufficient to consummate the transactions contemplated by this Agreement on terms and conditions not materially less favorable to Parent in the aggregate (as determined in the good faith reasonable judgment of Parent) than the Financing as promptly as practicable following the occurrence of such event but in all cases at or prior to Closing. Parent shall give the Company prompt notice of any material breach by any party to the Commitment Letter of which Parent or Merger Sub becomes aware or any termination of the Commitment Letter. Parent shall keep the Company informed on a reasonably current basis in reasonable detail of the status of its efforts to arrange the Financing.

This doesn't mean particularly much for Genesco as there is no way that any bank is going to give financing to Finish Line on the same terms as UBS has.  Any financing will be much less favorable, so Genesco can't get much from this.  I note this only as a possible rabbit hole. 


The fraud claim by UBS and intentional or negligent misrepresentation claim by Finish Line are much more interesting.  Finish Line alleges that: 

On top of this, by its own admission, Genesco also knew by at least early June that its second quarter projections were based on the erroneous assumption that certain state's back-to-school dates and tax holidays fell during the second quarter. Despite this, Genesco intentionally, or negligently, failed to provide Defendants, prior to execution of the Merger Agreement, with its May operating results or tell Defendants that Genesco's second quarter projections mistakenly relied on certain back-to-school dates and tax holidays occurring in the quarter.

UBS's fraud claim relies on similar non-disclosure. 

I'm going to wait and see Genesco's response before responding to this as it is a pure question of fact.  If the court finds this true, it would generally justify excusing Finish Line's performance.  The New York law on this is actually more developed -- I am not sure off-hand what the Tennessee law is.  Again, though, this is really just something that will depend on how each judge rules.  Ultimately since the Tennessee judge is ruling first, the New York one will likely follow.

But I will say this, Finish Line clearly wants out of this agreement at all cost and is playing a scorched earth policy.  It has now completely alienated the employees and officers of a company it may have to acquire.  Quite a risk and perhaps why they did not allege fraud but rather negligent misrepresentation (though again I am not up on Tennessee law on this point so there may be real differences and reasons for this -- I'll look into it). 


The bottom-line is that this deal still has a long way to go before it closes.  Although Genesco still has a decent defense against a MAC claim, the solvency and fraud claims could still strongly work to Finish Line's favor.  This is something we just don't know until we see Genesco's response, and even then much of this will be determined at trial as a question of fact.  Also, do not forget that even if Genesco wins in Tennessee, there is still now a New York action to face (and UBS can further amend its complaint there to litigate a MAC claim under N.Y. law in the financing commitment letter).  This may ultimately be Finish Line's problem but still has the potential to mean no deal for Genesco or a damages remedy it can only enforce in bankruptcy court (Finish Line's bankruptcy that is) if Finish Line is unable to enforce its financing commitment.  Of course, the lawyers could have avoided this final complexity by siting the choice of forum clauses in the financing commitment letter and the merger agreement in the same states.  M&A lawyers should take note. 

Ultimately given the risks, if I was Genesco the good business decision would be to settle this out for a lump sum payment -- but the parties appear too intractable at this point for such a disposition.  Though there is a very real scenario here where Genesco actually ends up controlling Finish Line -- talk about payback. 

November 18, 2007 in Litigation, Material Adverse Change Clauses, Merger Agreements, Takeovers | Permalink | Comments (0) | TrackBack (0)

N.Y. Times on PE Buy-outs

The N.Y. Times today has an article by Sorkin: "If Buyout Firms Are So Smart, Why Are They So Wrong?".  It's about the recent spate of private equity firms reneging on their deals.  I'm quoted in it. 

November 18, 2007 in Current Events, Private Equity | Permalink | Comments (0) | TrackBack (0)