In Hexion Specialty Chemicals, Inc. v. Huntsman Corp., (Del. Ch., Sept. 29, 2008), read opinion here, the Delaware Chancery Court rejected the arguments of Hexion, which is 92% owned by private equity group Apollo, that it should be relieved of its contractual obligations to buy 100% of Huntsman’s stock based on a July 2007 agreement that was valued at $10.6 billion. Hexion/Apollo argued that the "material adverse effect" clause in the parties’ agreement was triggered, and in light of a report (that the court found to be unreliable), that the combined companies would together be insolvent, it should not be required to complete the merger. (Wrong.)
A prior decision in this case was summarized on this blog here.
In this 91-page post-trial opinion, the court found that:
"the seller [Huntsman] has not suffered a material adverse effect, as defined in the merger agreement, and further concludes that the buyer has knowingly and intentionally breached numerous of it covenants under that contract. Thus, the court will grant the seller’s request for an order specificaly enforcing the buyer’s contractual obligations to the extent permitted by the merger agreement itself."
The court clarified its holding at page 86 and 87 of the opinion as follows:
"… the agreement does not allow Huntsman to specifically enforce Hexion’s duty to consummate the merger. Instead, if all other conditions precedent to closing are met, Hexion will remain free to choose to refuse to close. Of course, if Hexion’s refusal to close results in a breach of contract, it will remain liable to Huntsman for damages."
Moreover, the court held that:
"Hexion’s utter failure to make any attempt to confer with Huntsman when Hexion first became concerned with the potential issue of insolvency, both constitutes a failure to use reasonable best efforts to consummate the merger and shows a lack of good faith." (see page 74. Is "lack of good faith" here tantamount to "bad faith"?)
As I did for the 100-page Chancery decision I summarized a few days ago on this blog, the only practical way to highlight this 91-page decision in an appropriate length for a blog post, is to use bullet points for selected key parts of the decision and then encourage readers to download the whole opinion at the link above if the issues addressed are of interest to them.
- Procedurally, it is notable that the Amended Complaint was filed on July 7, 2008 and expedited proceedings on limited issues were allowed on July 9, 2008, and a six-day trial started less than two months later, on September 8, 2008. That is what I call lightening speed, especially for a case of this magnitude.
- Hexion beat out Basell as a bidder for Huntsman even after Basell had signed an agreement at $25.25 per share, and Basell refused to raise its offer based on its assertion (almost ironic now) that it (Basell) was "more certain to close." Less than three weeks after Basell signed an agreement, Hexion signed an all cash deal to buy Huntsman for $28 per share.
The MAE Discussion
- The court’s analysis and reasoning about why it did not find a trigger of the MAE clause can be found at pages 39 to 56 of the opinion. Footnotes 52 to 64 discuss some of the cases that the court relies on. For example, the logic of the Chancery Court’s 2001 decision in IBP, although based on New York law, was still found applicable.
- The court observed that: "Many commentators have noted that Delaware courts have never found a material adverse effect to have occurred in the context of a merger agreement. This is not a coincidence."
- The burden of proof was placed on Hexion, as the party who first sought the declaratory judgment.
The Breach of Contract Discussion
- Both parties claimed a right to a declaratory judgment that the other party committed a "knowing and intentional" breach. The court was critical of both parties’ sloppy language and explained that such a phrase does not appear either in the Williston treatise on contracts nor in the Restatement of Contracts, and is more at home in criminal law. The court noted at the end of footnote 87 by analogy that a "director need not know that his action breaches a fiduciary duty for liability for that breach to lie: gross negligence is sufficient for breach of a duty of care, and no showing of knowledge is required."
- As used in the agreement, a "knowing and intentional breach" was found by the court to include, as here, a deliberate commission of an act that constitutes a breach of a covenant in the merger agreement.
- The court emphasized the "fundamental proposition of contract law that damages in contract are solely to give the non-breaching party the "benefit of the bargain" and not to punish the breaching party". (see footnotes 89 to 92)(emphasis mine).
- The court found that Hexion failed to use its best efforts to consummate the financing and also failed to give Huntsman notice of its concerns. (The first time that Huntsman became aware of the insolvency opinion is when Hexion attached it to the complaint they filed–and publicized it at the same time to the bankers. Of course, this had a negative impact on the financiers’ desire to finance the deal.)
- Footnote 99 refers to the section of the Williston treatise that describes the need for a breach by one party to be material before it can excuse performance by another party.
The court did not address the issue of whether the combined entity would be insolvent or not as it was not currently ripe. Of course, there is much more to be written on this case, but for a meager blog post, this is already longer than the average blog entry.
UPDATE II: Professor Bainbridge kindly links to this post here and provides his views from the hallowed halls of academia.
UPDATE III: The Wall Street Journal’s "Law Page" has picked up the post here.