A Delaware Chancery Court has issued the first finding that a company can escape its legal obligations in connection with an existing deal as a result of the COVID-19 pandemic. Delaware Vice Chancellor Travis Laster’s nearly 250-page decision a high-stakes deal enables Mirae Asset Financial Group to walk away from the nearly acquisition agreement it entered into in September 2019 to acquire 15 hotels from Anbang Insurance, including the Westin St. Francis in San Francisco, Loews Santa Monica Beach Hotel, JW Marriott Essex House in New York and the Four Seasons in Jackson Hole, Wyoming,in exchange for nearly $6 billion.
The case got its start in April 2020 when Mirae, a Korean financial services conglomerate, refused to close on the parties’ hotel acquisition deal on the basis that China’s Anbang Insurance Group failed to make good on the representations and warranties it made in connection with the deal. One of the key conditions of the deal? That Anbang operate its business “in the ordinary course” between the time that the deal was signed and the formal closing.
Because Anbang closed two of its 15 hotels entirely as a result of the global health pandemic, stopped most food and beverage operations and other amenities in those that remained open, and laid off or furloughed 5,200 full-time-equivalent employees, while making changes to employee compensation, Mirae argued that the seller had failed to live up to its end of the bargain, thereby, enabling the buyer to break off the deal without penalty.
That led Anbang to file suit in a Delaware Chancery court in April, asking the court to require Mirae to come back to the table and follow through on the legally-binding deal, which nabbed the title of “the largest-ever overseas alternative investment by a Korean company” when it was reached in September 2019.
In response to Anbang’s complaint, Mirae argued that the plaintiff’s attempt to use the pandemic as grounds for terminating the deal falls short, as their agreement does not include a “pandemic” as a “material adverse” effect (“MAE”) that allows for a cancellation of the terms. It also responded with a claim of its own, aimed at clawing back the $580 million deposit it paid to Anbang, and getting the company to pay for its transaction and related litigation costs.
The court, ultimately siding with Mirae, determined that the Korean giant sufficiently “proved that due to the Covid-19 pandemic, [Anbang-owned Strategic Hotels & Resorts] made extensive changes to its business.” Because of those changes, which were enacted without the consent of Mirae, Judge Laster held that Anbang’s “business was not conducted only in the ordinary course of business, consistent with past practice in all material respects,” and as a result, Mirae was “relieve[d] … of its obligation to close” the deal.
“It comes as no surprise that if you promise to operate a business in the way it’s been run before a pandemic strikes, then whatever changes you have to make are going to violate that promise and affect the deal,” Larry Hamermesh, a University of Pennsylvania law professor who focuses on M&A cases, told Bloomberg. “Covid has put a lot of stress on deals and now it is going to make walking away easier than it had been previously.”
The court noted that while the MAE clause in the parties’ agreement – which sets out the instances in which the buyer may terminate the transaction as a result of an event or series of events – did not specifically include a reference to a pandemic, it did include a broader “natural disasters and calamities” term, with the court determining that the COVID pandemic falls neatly within the definition of “calamity” (e.g., a state of extreme distress or misfortune, produced by some adverse circumstance or event). As a result, the risk was shifted to Anbang, the seller, and Mirae is legally in the clear for breaking off the deal, stating in a regulatory filing on Tuesday that it is not sure yet if Anbang will appeal the Chancery Court’s decision.
MAE’s Going Forward
The case, which is the first to allow a company to back out of a transaction due to unanticipated business consequences tied to the COVID-19 pandemic, is a noteworthy one that could have implications for other companies, as no shortage of industries have suffered from the fallout of the pandemic, and headline-making deals – such as Sycamore’s bid for Victoria’s Secret’s and the $15.8 billion merger between LVMH and Tiffany & Co. – have hit the rocks.
Victoria’s Secret’s parent company L Brands and Sycamore settled their legal battle, but the deal for the lingerie company never came into fruition, while LVMH and Tiffany made peace and came to a renegotiated agreement in late October. In both of these sets of cases, the buyers (Sycamore and LVMH) asserted COVID-centric MAE claims, but since the parties’ settled their lawsuits pretty swiftly, the courts did not make any substantive decisions on the MAE allegations.
(It is worth noting that, as Brian JM Quinn, a professor at Boston College Law School, who focuses on corporate law, M&A, and transaction structuring, told TFL last week, the fact that Tiffany & Co. reported analyst-beating results for Q3 goes against LVMH’s previous deal-breaking argument that the jewelry stalwart was in the midst of suffering from a “durationally significant downturn.”)
“Historically, courts have been reluctant to allow a buyer to terminate a transaction on the basis of an MAE clause, putting the onus on buyers to show that the effect will have a long-term impact on the financial health of the target company,” Akin Gump attorneys Jeffrey Lazar Kochian, Andrew McDonough, John Hill, Caleb Daniel Loschen, and Julia Rinker stated in a client note this spring.
They noted that Akorn, Inc., v. Fresenius Kabi AG – the first-ever case in which a court found that an MAE existed and that the buyer had validly terminated a merger agreement – “reiterated that high burden, stating, ‘[t]he important consideration … is whether there has been an adverse change in the target’s business that is consequential to the company’s long-term earnings power over a commercially reasonable period, which one would expect to be measured in years rather than months.’”
The court in Akorn asserted that this requires a fact-specific demonstration that the event “substantially threaten[s]” the earnings potential of the entire business “in a durationally significant manner.”
In addition to potentially opening the door to more MAE-finding instances, the case at hand provides some useful insight into what it means to operate a business in the “ordinary course of business,” or not, as Mirae argued here. Judge Laster held that “the weight of Delaware precedent supports” Mirae’s argument that this should be construed as “the customary and normal routine of managing a business in the expected manner.”
Pointing to the 2012 Cooper Tire & Rubber Co. v. Apollo case, the court determined that while Anbang’s widespread layoffs and other changes may have been “a reasonable” – and even potentially, necessary – “reaction to” the pandemic, that did not change the fact that such acts were “a conscious effort to disrupt” the status quo of its business.
The court also noted that evidence of the actions of other, similarly-situated companies in the face of COVID is not persuasive, as “a company breaches an ordinary course covenant by departing significantly from [its own] routine,” not from those of the relevant market.
*The case is AB Stable VIII LLC v. MAPS Hotel and Resorts One LLC, 2020-0310, Delaware Chancery Court (Wilmington).