Wednesday, January 9, 2008
Huntsman Chemical is trading below its August lows today. As we all know, Huntsman currently has agreed to be acquired by Hexion Specialty Chemicals Inc., a portfolio company of Apollo. At first blush, it appears that Hexion pulled a nice trick -- negotiating a private equity type agreement for a strategic combination. Huntsman countered with an Avaya-type model -- demanding specific performance of the financing and a reverse termination fee of $325 million. That is the public perception. But given the recent trading lows of the stock I thought I would take a second look at the merger agreement. It turns out the public perception is not all correct.
Let's start with Section 7.4 -- which is specific performance of the financing arrangements. It states:
Financing Breach. In the event that (i) Parent and Merger Sub are in compliance with the terms of Section 5.12 of this Agreement, (ii) the terms and conditions set forth in the Commitment Letter with respect to the Financing (or the definitive documentation entered into with respect to any Alternate Financing obtained in the manner provided in, and consistent with the terms of, Section 5.12) have been satisfied and (iii) one or more of the financing institutions obligated to provide a portion of the Financing (or such Alternate Financing) fails to provide its respective portion of such financing and, as a result, the Closing does not occur, Parent and Merger Sub shall, upon the request of the Company, promptly commence a litigation proceeding against any breaching financial institution or institutions in which it will use its best efforts to either (x) compel such breaching institution or institutions to provide its portion of such financing as required or (y) seek from the breaching institution or institutions the maximum amount of damages available under applicable law as a result of such breach. Parent and Merger Sub further agree that any amounts received by Parent and Merger Sub in settlement or resolution of any such proceeding, net of any reasonable fees and expenses incurred by Parent and Merger Sub in connection with any such proceeding, shall be paid to the Company promptly following receipt thereof by Parent and Merger Sub; provided, that if such recovery is obtained prior to the termination of this Agreement in accordance with its terms, Parent shall, subject to the other terms and conditions contained herein, complete the Merger and the other transactions contemplated by this Agreement.
This is nice language -- it specifically requires Hexion and Merger Sub to go after the financing banks to fund the transaction and use their best efforts to do so (a standard which is higher than the reasonable best efforts required of Finish Line in its merger agreement and generally has been interpreted to require all actions short of bankruptcy). M&A lawyers negotiating private equity deals on the sell-side would do well to include this language.
Here is where it gets murky. Section 8.11 of the merger agreement state:
In circumstances where the Parent and Merger Sub are obligated to consummate the Merger and the Merger has not been consummated on or prior to the earlier of the last day of the Marketing Period or the Termination Date (other than as a result of the Company’s refusal to close in violation of this Agreement) the parties acknowledge that the Company shall not be entitled to enforce specifically the obligations of Parent or Merger Sub to consummate the Merger; provided, that notwithstanding the foregoing, it is agreed that the Company shall be entitled to enforce specifically the Parent’s and Merger Sub’s obligation to draw upon and cause the Financing to be funded if the conditions set forth in Section 6.1 and Section 6.2 have been satisfied (other than conditions which by their nature cannot be satisfied until Closing) and the funds contemplated by the Financing or any Alternate Financing shall be available.
Read this a few times. I read it to say that Huntsman can force Hexion to draw on the financing but cannot be required to consummate the transaction!? Can this be -- Hexion would likely counter argue that this only applies if you are at the end of the marketing period or the termination period (April 5, 2008 though extendable). Before we make any conclusions, let's see if any other provisions of the merger agreement shed light on this. Section 7.3(f) of the merger agreement contains the general cap on monetary damages. It states:
Section 7.3(f) Notwithstanding anything to the contrary in this Agreement, the parties agree that the monetary remedies set forth in this Section 7.3 and in Section 7.4 and the specific performance remedies set forth in Section 8.11 shall be the sole and exclusive remedies of (A) the Company and its Subsidiaries against Parent and Merger Sub and any of their respective former, current or future general or limited partners, stockholders, managers, employees, representatives, members, directors, officers, Affiliates or agents for any loss suffered as a result of the failure of the Merger to be consummated except in the case of fraud or with respect to Parent and Merger Sub only, a knowing and intentional breach as described in Section 7.2(b), and upon payment of such amount, none of Parent or Merger Sub or any of their respective former, current or future general or limited partners, stockholders, managers, employees, representatives, members, directors, officers, Affiliates or agents shall have any further liability or obligation relating to or arising out of this Agreement or the transactions contemplated hereby except in the case of fraud or, with respect to Parent and Merger Sub only, a knowing and intentional breach as described in Section 7.2(b); and (B) Parent and Merger Sub against the Company and its Subsidiaries and any of their respective former, current or future stockholders, managers, employees, representatives, members, directors, officers, Affiliates or agents for any loss suffered as a result of the failure of the Merger to be consummated except in the case of fraud or with respect to the Company and its Subsidiaries, a knowing and intentional breach as described in Section 7.2(b) but subject to the terms of Section 8.10, and upon payment of such amount, none of the Company and its Subsidiaries or any of their respective former, current or future stockholders, managers, employees, representatives, members, directors, officers, Affiliates or agents shall have any further liability or obligation relating to or arising out of this Agreement or the transactions contemplated hereby except in the case of fraud or, with respect to the Company and its Subsidiaries, a knowing and intentional breach as described in Section 7.2(b) but subject to the terms of Section 8.10.
So, the limitation on liability is made subject to Section 8.11 at the beginning. This is the type of drafting that got Cerberus into so much trouble. Section 8.11 is the specific performance clause and it is set forth above. Go back and read it. It only requires specific performance of the financing. Again, quite a circularity. But here before we start panicking Section 7.2(b) saves the day. It states:
(b) In the event of termination of this Agreement by any party hereto as provided in Section 7.1, this Agreement shall forthwith become void and there shall be no liability or obligation on the part of any party hereto except with respect to this Section 7.2, the fifth and sixth sentences of Section 5.2, Section 7.3, Section 7.4 (if applicable) and Article VIII; provided, however, that no such termination (or any provision of this Agreement) shall relieve any party from liability for any damages (including, in the case of the Company, claims for damages based on the consideration that would have otherwise been payable to the stockholders of the Company, and, in the case of Parent and Merger Sub, claims for damages based on loss of the economic benefits of the transaction) for a knowing and intentional breach of any covenant hereunder.
So, actually, the agreement is a pretty tight one. It requires that Hexion use its best efforts to enforce the commitment letters and reasonable best efforts to replace that financing if it is unavailable. But what if Hexion can't get the financing even if it does use such efforts? Is it still obligated to close? Here there is no financing condition -- the question would be whether in light of the fulfillment of all of the conditions, the refusal to close would be a breach and though Huntsman would lose the deal it could still collect damages. I see no other provisions on the agreement on this, so it certainly appears to be a good argument for Huntsman. All private equity deals should be this tight.
Addendum: Note the deal is also unusual in that it provides for the funding of the deal pre-closing into a payment fund. Huntsman's condition to closing is predicated on the payment of the merger consideration into the payment fund (see Section 6.3(d).