COVID-19 has spread throughout the world at devastating speed, causing unprecedented lockdowns and quarantines in numerous countries, disrupting global supply chains and plunging capital markets dramatically lower. Companies across a variety of industries have already experienced and anticipate future substantial declines in their businesses and financial performance.
For M&A transactions that have already been signed but have yet to close, and for those currently being negotiated, COVID-19 and its fallout increase the risk that buyers may try to walk away from transactions, or renegotiate central deal terms by asserting the target or borrower suffered a material adverse effect or material adverse change (MAE). For financing transactions, similar to the aftermath of the 2008 financial crisis when MAE clauses dominated headlines after several high profile transactions collapsed, COVID-19 and its fallout increase the risk that lenders may try to pull back their commitments claiming an MAE has occurred, as typically one of the conditions to financing is that an MAE has not occurred since a referenced date.
Complaints recently filed in the Delaware Court of Chancery may portend similar litigation trends. while the world struggles with COVID-19. In that pending dispute, Sycamore Partners refused to consummate its affiliate’s acquisition of a majority stake in Victoria’s Secret and related businesses owned by L Brands, Inc. In its complaint filed on April 22, 2020, Sycamore Partners alleged that actions undertaken by L Brands in response to the pandemic and closure of its retail stores breached multiple provisions of the parties’ agreement, and that an MAE had occurred. One day later, on April 23, L Brands filed its complaint seeking to specifically enforce certain obligations of Sycamore, and highlighting the continued minority ownership interest in the target businesses held by L Brands and similar commercial steps undertaken by Sycamore Partners’ portfolio companies in response to COVID-19. Subsequently, L Brands and Sycamore Partners announced that they would settle the litigation and have mutually agreed to terminate the transaction agreement.
This article seeks to guide transaction participants in approaching what is a fact-intensive inquiry governing MAE determinations by highlighting key questions for self-analysis of potential MAE events. It offers practical suggestions to help those in pending transactions and negotiations begin to mitigate risks in connection with potential MAE litigation as an expected consequence of COVID-19 and the resulting turbulent market conditions.
* Originally published in Deal Lawyers