Delaware Court of Chancery Dismisses on the Pleadings M&A Specific Performance Claims

With the onset of the COVID-19 pandemic, buyers in a number of M&A transactions have refused to close, invoking, among other things, material adverse effect (MAE) clauses. Sellers in turn responded that these MAE clauses did not apply, and in several cases the sellers then sued in the Delaware Court of Chancery for specific performance of the buyers’ obligation to consummate the closing. Given the devastating harm that COVID-19 has caused to many businesses, and the uncertainty as to whether the pandemic and the related government-ordered restrictions on business activities would be deemed to be an MAE, many observers expected that these seller claims for specific performance would turn on the interpretation of the MAE clause and on an assessment of the harm incurred by the business in each case. In prior alerts, we reported on some of these developments. See COVID-19 as a Material Adverse Effect? A Discussion of Recent Cases and Sue First, Talk Later: Lessons From Recent Delaware Court of Chancery Decisions on Expediting Proceedings During the COVID-19 Pandemic.

But sellers, particularly those whose buyers are backed by private equity sponsors, are finding that other structural deal terms require sellers to pay special attention to the procedural aspects of forcing buyers to close. In a recent case illustrating these challenges, on July 17, 2020, in Realogy Holdings Corp. v. SIRVA Worldwide, Inc., C.A. No. 2020-0311-MTZ (Del. Ch.), the Delaware Court of Chancery dismissed a seller’s claims for specific performance, on the parties’ pleadings and prior to discovery, without reaching any of the underlying MAE issues in the suit.

Realogy owns Cartus Corporation, which assists businesses with the relocation of their employees. On Nov. 6, 2019, before the start of the pandemic, Realogy agreed to sell Cartus to SIRVA, a portfolio company of Madison Dearborn Partners (MDP), for $400 million. The purchase was to be financed by a combination of bank debt and equity to be provided by funds managed by MDP. The purchase was not contingent on SIRVA’s ability to obtain its financing, and, if the banks’ commitment to provide debt financing were to terminate for any reason, SIRVA was required to make reasonable best efforts to seek alternative debt financing.

As is common in private equity-backed leveraged buyouts, the right to compel SIRVA to complete the purchase and draw on MDP’s equity commitment rested on the key condition that SIRVA have or be assured of having the debt financing it needed to fund the purchase price. The acquisition agreement therefore provided that specific performance of SIRVA’s obligation to close was available to Realogy “if (and only if and for so long as) … the proceeds of the Debt Financing (or any alternative debt financing) have been funded to [SIRVA] or the agent of the Debt Financing Sources … has irrevocably confirmed in writing to [SIRVA] that the Debt Financing will be funded subject only to the funding of the Equity Financing.”

The transaction featured other customary components of private equity-backed transactions, namely an equity commitment letter (ECL), whereby the MDP funds agreed to provide equity financing to partially fund the purchase price should the closing occur, and a limited guarantee by MDP guaranteeing SIRVA’s obligation to pay Realogy a reverse termination fee of $30 million under certain circumstances. In consideration of this limited guarantee, Realogy agreed not to seek direct recourse against MDP except under the limited guarantee, and waived its right to bring claims under the acquisition agreement against MDP entities other than SIRVA. To support its debt financing of the transaction, SIRVA also obtained a Debt Commitment Letter (DCL) from Barclays and other banks. Under the DCL, the bank financing would be provided only if and no earlier than the equity financing under the ECL, effectively cross-conditioning the debt and equity financing. The lenders’ commitment would expire on May 7, 2020.

To further shield MDP from liability under the acquisition agreement, the ECL provided for an automatic and immediate termination of the equity commitment upon Realogy bringing any claims against MDP, except for “Retained Claims.” Notably, Retained Claims against MDP did not include any claim for breach of contract or seeking specific performance of the acquisition agreement. While the limited guarantee similarly provided for termination if Realogy were to assert non-Retained Claims against MDP, it included a cure provision requiring SIRVA to demand that Realogy dismiss its claims, whereas the ECL — to which Realogy was not a party — did not.

By March 2020, before the scheduled closing on the transaction, the spread of COVID-19 shut down corporate travel of all kinds and upended Cartus’ corporate relocation business. Cartus was forced to cut costs, but through March and April, the parties still continued to work toward closing. Then, on Saturday morning, April 25, allegedly without any warning, MDP told Realogy that it had failed to satisfy the conditions to closing, that an MAE had occurred and that SIRVA would not make the purchase.

On Monday morning, April 27, Realogy filed its initial complaint against SIRVA and the MDP funds. The core of the complaint was Realogy’s specific performance claim against SIRVA and a demand for recovery of the termination fee from SIRVA and MDP; but in its prayer for relief, Realogy asked the court to declare that the “Defendants [which, as defined, would have included both SIRVA and the MDP funds] are not excused from performing their obligations under the Purchase Agreement, and … committed material breaches of the Purchase Agreement.”

Realogy also moved to expedite the proceedings. The defendants opposed that request, arguing, among other things, that by seeking the judicial declaration that MDP had breached the acquisition agreement, Realogy was asserting a claim that the ECL did not define as “Retained,” and thus Realogy itself had caused the ECL to terminate. On May 7, the DCL expired, and a day later, the court held a hearing on the motion to expedite the proceedings. From the bench, the Vice Chancellor noted that Realogy’s claim for specific performance was not frivolous, but added that “the parties' agreement contains an escape hatch from specific performance that may have been triggered,” and the defendants’ argument that the ECL was terminated because Realogy brought a non-Retained Claim against MDP “may provide fodder for a motion to dismiss.” At the end of the hearing, the court ordered that some of the proceedings be expedited, and it directed the parties to submit briefs on the defendants’ motion to dismiss the claim for specific performance.

On May 22, Realogy amended its complaint and tried to close the “escape hatch” by dropping any non-Retained Claims against MDP. The amended complaint separated Realogy’s claim against SIRVA for breaching the acquisition agreement from its claim against MDP to enforce payment under the limited guarantee; it specified that Realogy’s declaratory judgment claim was against SIRVA only, and it eliminated any references to declaratory relief against defendants other than SIRVA.

The defendants then moved to dismiss the claim for specific performance. The defendants argued principally that Realogy’s initial complaint contained a claim for declaratory relief against all “defendants” — including the MDP funds — and thus Realogy had asserted a non-Retained Claim against MDP, triggering the ECL’s termination. With the ECL having been terminated, it became impossible to meet the DCL’s condition that SIRVA receive equity contributions from MDP, and in any event, the DCL expired by its terms on May 7. Accordingly, defendants contended that because the DCL had expired and/or its conditions could no longer be met, one of the conditions to the remedy of specific performance under the acquisition — the continued availability of the debt financing — could no longer be satisfied. The defendants also argued that any obligation SIRVA had to pursue alternative financing expired with the termination of the ECL because the acquisition agreement did not require it to seek alternative financing to replace equity financing, or to seek financing in excess of what was to be provided under the DCL.

In response, Realogy argued that it was SIRVA’s contractual breaches and bad faith conduct that caused the DCL to terminate without replacement, and that a motion to dismiss prior to any discovery regarding these allegations was premature. Realogy also claimed that the legal doctrine of “prevention” barred SIRVA from invoking the debt financing condition to the specific performance remedy because SIRVA’s very own conduct was the cause for such failure. With respect to the filing of a non-Retained Claim against MDP, Realogy responded that the complaint as a whole made clear it was not bringing claims for specific performance under the acquisition agreement against MDP — and that any language in the complaint suggesting a non-Retained Claim against MDP was a “scrivener’s error” that Realogy fixed by amending its complaint. Further, Realogy contended that the cure provision in the limited guarantee — to which it was a party — should be read together with the ECL and DCL, and required that SIRVA demand the withdrawal of any non-Retained Claim, which it did not do. And as for the automatic expiry of the DCL on May 7, Realogy contended that it had filed its claims before the expiration date and therefore met the conditions for specific performance under the acquisition agreement.

On reply, the defendants brushed aside the suggestion that the non-Retained Claim was a mere "scrivener’s error" — noting that Realogy had issued a press release explicitly touting its “Litigation Against Madison Dearborn Partners … to Enforce Commitments Under Purchase Agreement.” Defendants also emphasized that the amendment to the original pleading was not capable of undoing the ECL’s termination because, under the terms of the ECL, such termination was automatic the moment the original complaint was filed. Further, SIRVA argued, the “prevention doctrine” applied only to an alleged breach of contract based on a failure of a condition, but not, as was allegedly the case here, to conditions to remedies. Moreover, according to SIRVA, the failure of the conditions to specific performance had been caused by Realogy’s filing of the non-Retained Claim, not by any conduct by SIRVA, so the doctrine would not apply in this instance. Lastly, because specific performance would be available “if (and only if and for so long as)” the debt financing was available or confirmed in writing, upon expiration of the DCL, specific performance was no longer available.

The court granted the motion and dismissed Realogy’s claim for specific performance. In fact, with only minor exceptions, the court adopted as its reasoning defendants’ arguments at the hearing. The court noted that it did not have to reach the "doctrinal boundaries of the prevention doctrine because I believe that Realogy, and not SIRVA, caused the conditions to fail by filing the Non-Retained Claims.” The court also concurred with SIRVA’s position that specific performance was available only “for so long as” debt financing was in place.

The decision illustrates some of the pitfalls sellers face in bringing specific performance claims against private equity-sponsored buyers. Although the seller may not be a direct party to key financing agreements, the seller’s actions may trigger provisions in those agreements, including termination, that may have a cascade effect and make it impossible to close the sale. Practitioners should therefore be especially sensitive to the intricate interplay between the acquisition agreement, and the debt and the equity commitment letters when negotiating these documents and drafting pleadings in litigation. Similar issues arose in the proposed sale of Victoria’s Secret to an entity sponsored by Sycamore Partners in SP VS Buyer LP v. L Brands Inc., C.A. No. 2020-0297 (Del. Ch.). There, the parties settled — on terms seemingly most favorable to buyer — after L Brands brought claims against Sycamore, which, according to Sycamore, triggered a non-Retained Claims provision like the one in Realogy, and caused the equity financing commitment to terminate. In Realogy, the court strictly enforced the contractual terms of interrelated agreements and gave full effect to the limitations on specific performance consistent with the buyer’s interpretation of the contract, concluding that the seller’s formulation of its declaratory judgment prayer for relief, arguably a “foot fault” that Realogy sought to cure shortly thereafter, terminated MDP’s equity financing commitment and became incurable. As a result, the court denied the seller’s specific performance remedy prior to any discovery into its allegations that the buyer acted in bad faith, and decided an apparent “MAE case” in the buyer’s favor without addressing whether an MAE occurred, leaving the seller to seek payment of the reverse termination fee under the limited guarantee.

The case also illustrates the timing challenges that sellers may face. It is not unusual, especially in the current economic uncertainty, for a buyer and seller to continue to discuss contractual compliance issues right up to the scheduled date of the closing. Neither party would want to assert claims prematurely when they still hope to close. However, as discussed in our prior alert regarding expediting Delaware litigation, the Court of Chancery may put a premium on the aggrieved party’s suing long enough before financing commitments expire to allow effective relief to be fully considered and, if appropriate, granted.

On July 27, following the court’s decision, Realogy sought permission to take an interlocutory appeal, highlighting that it “scrambled in 48 hours to file a 45-page complaint seeking equitable relief,” and that the claims against MDP were the result of “typographical errors” caused by that time pressure. Although it remains to be seen whether the Delaware Supreme Court will review the Chancery Court’s order, prospective litigants should note that even with the need for expedited litigation amid the exigencies of the pandemic, the Court of Chancery may hold parties to the strict, formal terms of their written commitments.