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When the M&A deal falls through... It is not uncommon for claims for damages to be made, sometimes horrendously high, when the M&A deal falls through.
Not all company sales end successfully. Different ideas about the terms of the contract, such as the purchase price, the location issue, personnel matters, etc., can lead to the breakdown of negotiations or the bursting of the M&A deal. This can occur at various stages.
It is not uncommon for an M&A deal to fall through, for example because the purchase price demanded is too high or there can be reached no agreement on guarantees, warranties or tax exemptions. In addition, the vanity of the management involved can lead to failure: Who stays and who goes? Or one party wants a joint venture, while for the other the only option is a takeover. It is not uncommon for the location issue to be a deal breaker, as each side wants to impose its location and remains firm. Or the parties cannot agree on which plants, products or technical platforms should be retained or closed. When one of the parties breaks off the contract negotiations, the other side is usually quick to demand damages.
I. Before conclusion of the contract
If the negotiations break off before the contract is concluded, it is already problematic to define the basis for a claim for damages. It is true that the pre-contractual relationship of trust between the parties gives rise to the possibility of a claim for damages. However, expenses incurred by a party with regard to the intended conclusion of a contract are at the party's own risk. To make matters worse, the decisions of the Federal Court of Justice (Bundesgerichtshof - BGH) are relatively restrictive, because on the one hand, costs would have been incurred even if the contract had been executed as agreed. On the other hand, these costs would probably also have been incurred if the sale had been made to another buyer. Thus, without an agreement on damages prior to the start of negotiations, it generally will be difficult to obtain damages for the breakdown of negotiations.
II. After conclusion of the contract
Nevertheless, even if the contract is already cut and dried, the deal can still fall through, for example if the agreed purchase price is simply not paid - as happened recently with Heidelberger Druckmaschinen AG. Here, as part of the restructuring and transformation of Heidelberger Druckmaschinen AG, the sale of the Gallus Group to Benpac Holding AG for EUR 120 m was agreed. However, the buyer did not pay and the clamor was great. In 2020, Condor airline experienced something similar, when the owners of the Polish airline Lot backed out. According to the media, however, Condor has since failed with its lawsuit for almost EUR 56 m.
If the parties have agreed to sell a company in whole or in part, failure to pay the agreed purchase price is a breach of contract that entitles the seller to demand compensation from the buyer for the loss incurred. Nevertheless, the purchase agreement remains effective for the time being, which is why in this case the seller cannot easily start or resume a new transaction with another interested party. Therefore, the seller has to set a deadline for the buyer to fulfill the contract and can only withdraw from the contract after its unsuccessful expiration. Only then, the seller can turn to other interested parties and/or claim damages. Alternatively, the seller can take legal action against the buyer for execution of the purchase contract and thus for payment of the full transaction amount.
As a rule, however, the contract will not be executed. On the one hand, because the buyer does not want the company (anymore), on the other hand, because the seller must continue to run and, above all, finance the sold business until the outcome of any legal dispute. For this reason, the seller will generally declare rescission of the contract and subsequently assert claims for damages. In addition to the transaction and M&A advisor, costs for the second M&A round, these damages can primarily include the difference between the originally agreed purchase price and the proceeds from the second sale.
What sounds simple at first glance, however, is not without problems in practice. Admittedly, it is obvious that the seller has suffered a loss if he sells the company on worse terms at the second attempt. In practice, however, the problem is how to prove this. It is not uncommon for the target to develop worse than planned after the failed sale, especially because the subsequent integration into the new corporate structures was expected to be different. In such cases, it is time-consuming to clarify whether the damages is one for which the buyer has to pay - or not.
Another example concerns so-called earn out clauses, i.e. parts of the purchase price that are dependent on certain milestones and are only paid when these are reached. If such contractual provisions exist, the question regularly arises as to whether they should be taken into account when calculating damages.
If the parties have not considered the possibility of a breakdown in negotiations or the deal falling through and have not made any corresponding agreements, it will be difficult to enforce any claims for damages. It is therefore essential to ensure the greatest possible transaction security as early as the contract drafting stage. This is usually done in advance by agreeing so-called break-up fees, which specify the minimum amount of compensation to be paid if a contractual partner withdraws from the sale. Guarantees or equity commitments are also possible, which secure the enforcement of claims in the event of a dispute. Finally, the Corona pandemic has brought into focus the use of contract clauses that apply in the event of the occurrence of a material and adverse change (Material Adverse Change or MAC clauses for short). These entitle the contracting parties to rescind the contract if certain events agreed in advance in the contract occur, such as a significant deterioration in business figures or the occurrence of other economic and even political events.
Notwithstanding the above, however, the purchaser of a company still has the right to renegotiate individual contractual terms even after the purchase agreement has been concluded. The fact that the contractual partner agrees to such a request is likely to be the exception rather than the rule, but it is not fundamentally ruled out.
Ultimately, however, every M&A transaction is an individual case. Even if it is only due to factors beyond the control of the parties. Neither the buyer nor the seller side has a fundamentally stronger bargaining power, which is why generalizations and standards should be avoided. Rather, it is of enormous importance that each sales negotiation and each purchase agreement is tailor-made and adapted to the specific situation.
Dr. Thomas Hausbeck, LL.M. will be happy to assist you with any questions you may have in connection with the purchase or the sale of a company, because every M&A deal contains its own pitfalls due to the many different ways in which contracts can be drafted, which require tailor-made advice and support.