Tuesday, November 20, 2012
Bingham just issued this interesting Legal Alert on Pharos Capital Partners, L.P. v. Deloitte & Touche.
In that case, on Oct. 26, 2012, the United States District Court for the Southern District of Ohio granted summary judgment in favor of Credit Suisse, holding that, under New York or Ohio law, plaintiff Pharos Capital Partners failed to prove it justifiably relied on Credit Suisse in connection with its private equity investment in National Century Financial Enterprises (a business that was later found to be fraudulent) because Pharos expressly disavowed any such reliance in a letter agreement with Credit Suisse.
According to Bingham:
The decision is significant for the financial industry because it enforces a party’s representations in an agreement that it was relying on its own due diligence investigation in connection with its investment, rather than any alleged representations made by a placement agent. Prior to the decision in Pharos, many courts have been reluctant to enforce such agreements to defeat claims for fraud and negligent misrepresentation.
OK, so now that it looks like Hostess has another shot at life - the judge has ordered mediation and private equity buyers like, Sun Capital, are starting to gather, it's worth getting some detailed background on Hostess. For that there's a very good article in Fortune from this summer. This backgrounder reviews the sorry history of Hostess Brands from the 1920s to its bankruptcy in the 2000s to its currenting teetering on the verge holding a $1 billion in debt. OK, it's been a bit of a mess.
Central to its current struggles is the question of the mult-employer pension plan ("MEPP") that is in place for Hostess. Hostess wants rid of it. From the Fortune article:
MEPPs, which grew in popularity back in the union glory days of the 1950s and '60s, were designed for companies within an industry to share pension burdens. There are nearly 1,500 MEPPs in the country, covering more than 10 million workers. These mammoth defined-benefit plans -- employers, not workers, make the contributions -- were especially attractive to unions, as they allowed workers to move easily between companies.
Trouble with MEPPs is, if some employers go out of business, the remaining companies have to pick up the shortfall in funding benefits. When there are too few employers left standing, the fund is in trouble. According to a March research report by Credit Suisse, MEPPs are now underfunded by $369 billion. A third of the 40 MEPPs to which Hostess contributes are among the most underfunded plans in the country.
At the bargaining table, week after week, Hostess and the Teamsters have gone at it over the MEPPs, which Hostess contends are at the heart of its woes. Perella Weinberg's Michael Kramer has squared up against Harry Wilson, the financial adviser retained by the Teamsters. Monarch's Herenstein has been there. So has a representative from Silver Point. Though all are cordial -- somebody once served Hostess snacks -- they've yet to achieve a middle ground.
Now, according to the Dealbook, investors are starting to get interested. If I were a Teamster that would start to get me nervous. Why? Well, one of the potential investors - Sun Capital - looks familiar and Sun is holding a fresh opinion from a Federal district court in Massachusetts that is basically a road-map for shedding unwanted MEPP obligations. The implications of Sun Capital Partners v. New England Teamsters and Trucking Inustry Pension Fund is that private equity funds are essentially immune from liability for withdrawing from a MEPP or for unfunded benefits under a single employer plan. Ugh. Want to sully PE's image further, then let them to do this. In any event, the court in Sun Capital reached this conclusion because it ruled Private Equity funds are not "engaged in a trade or business" and are merely passive investors (okaay...).
So, if the MEPP is in fact the issue keeping Hostess transaction from getting done and if Sun has just entered the room, I think the negotiating ground just shifted.
Be careful when you start thinking like this:
"At the end of the day, the SEC's got to pick their battle because they have a limited number of people and a huge number of investors to go after."
Chances are, once the SEC picks that up, you'll be next. That's the lesson this group of high school buddies is learning now.
Here's the complaint.
Monday, November 19, 2012
In the private company context, buyers usually deal with the problem of inaccurate representations and warranties through the use of an indmenity or escrow. By setting aside a portion of the consideration for a period of say 18 months after closing, the buyer knows that in the event any of the seller's represenations turn out to be wrong, the buyer can get some of the consideration back. This post-closing true up is one way of giving the seller incentives to be truthful in the deal making process.
In the public company context, buyers can't generally get access to an indemnity or an escrow. I suppose this is where M&A/transactional insurance steps into the void. CFO.com has a piece describing M&A insurance:
Such transactional insurance is “for the event that something the buyer was told turns out to be untrue and the buyer suffers financial loss."...
The coverage pays off if seller representations turn out to be false and the buyer discovers this after closing, Schioppo says. On a $100 million deal, the buyer is typically protected by an indemnity arrangement in which the seller might be “on the hook for two years, [during which] the buyer is allowed to come back if something turns out to be false for up to $10 million.”
Sellers can also buy insurance that covers what they might have to pay buyers that they have misinformed. One example of a covered exposure is if the seller says its “20 major customers were in good standing, but one of them was really in bad standing — [and] a month after closing they were no longer doing business with the company,” says Schioppo.
If M&A insurance - essentially third party warranties for seller reps - becomes prevalent, I wonder what effect that will have on the deal making process. Will it generate less incentives for buyers to investigate carefully what they are buying? Will it push the work of due diligence out to insurers who will take on the burden of certifying seller statements, and thus reduce the lawyer work in that area? Especially if M&A insurance moves beyond a niche market, it raises interesting questions about transaction design. Worth keeping an eye on.
Here is Chubb's M&A Insurance (no endorsement) page for a description of the coverage.