INSIGHT: M&A Break-Up Fees in the Age of Covid-19

Those considering terminating an agreement given the impact of Covid-19 should not take for granted that the break-up fee will be enforced at face value. McDermott Will & Emery attorneys say that if not settled first, there are plenty of issues that may come up in court that will not be easily dismissed without discovery. This should be factored into a termination decision.


Because of Covid-19 financial upheaval, in a few short months, previously lucrative and financially viable M&A transactions have transformed into potentially ruinous ones. If you are looking to terminate such a deal, accounting for termination or “break-up” fees in a merger agreement will be critical.

While it comes as no surprise that break-up fees are typically found to be enforceable as the non-terminating party’s “sole and exclusive remedy,” that is not always the case. In some situations, courts have held that the non-terminating party can obtain damages in excess of the break-up fee.

In other cases, courts held that the defenses to payment of the fee by the terminating party must proceed to discovery and even trial. Lastly, in the somewhat atypical circumstance of a party terminating the transaction also seeking payment of the termination fee, courts have responded with healthy doses of skepticism. The Break-Up Fee May Not Always Cap Damages

The general rule is that break-up fees are enforceable as liquidated damages and serve as the exclusive and sole remedy of the non-terminating party, at least when the agreement so specifies, which it typically does. But that is not always true, and courts have at times allowed the non-terminating party to recover damages above and beyond the break-up fee. This most often happens when a court concludes that the termination provision at issue had a condition precedent or carve-out. For example, the Delaware Court of Chancery has held that even though the defendant paid a break-up fee, plaintiff’s allegation of a breach of the non-solicitation piece of a “fiduciary out” provision—the compliance with which was a condition precedent of the termination provision—was a way out of the “sole and exclusive remedy” language, at least at the pleading stage. Genuine Parts Co. v. Essendant Inc. (Del. Ch. Sept. 9, 2019).

The decision in Essendant is a stark reminder that just because an agreement contains a break-up fee—or even that you paid the break-up fee—it does not mean you are in the clear. Litigation could still be in your future if the other party can argue that you failed to comply with all aspects of the termination provision. Challenging a Break-Up Fee May Be Costly

In addition to considering if you are on the hook for more than the break-up fee, you may wonder if you could avoid paying the break-up fee all together. The most common attack on a break-up fee has been to challenge it as an unenforceable penalty. The general rule, however, is that such clauses will be upheld as liquidated damages clauses unless: (1) the damages can be precisely estimated at the time of contracting; or (2) the fee is “unconscionable” or “grossly disproportionate” to the probable loss. Courts have treated this as a high bar.

Putting aside the issue of whether a court would set aside a break-up fee agreed to by sophisticated parties—the answer is “probably not”—these disputes are generally not cheaply resolved on a motion to dismiss without discovery. That is because the court’s analysis will turn on the nature of the contract and the circumstances at the time the contract was made, which in turn requires discovery. See, e.g., Brazen v. Bell Atlantic Corp., 695 A.2d 43 (Del. 1997).

The same goes for attacks on break-up fees such as mootness or impossibility, which courts have found improper to decide on a motion to dismiss without discovery. See, e.g., Fujifilm Holdings Corp. v. Xerox Corp., 1:18-cv-05458, Dkt. 40, at 50-56 (S.D.N.Y. March 18, 2019). Whatever your reason for arguing a break-up fee is unenforceable, remember that early dismissal without discovery will not always be possible. Courts Are Often Attuned to Fairness Considerations

If you find yourself in the unusual circumstances of being able to terminate your agreement while also having a claim to collect a break-up fee and think you hit the jackpot—not so fast. Courts have shown resistance to parties hoping to take advantage of such “Heads-I-Win-Tails-You-Lose” situations.

In a recent Delaware Court of Chancery case, one of the parties sought to both enforce a termination of the agreement and collect a termination fee after the counter-party blew a critical deadline. See, e.g., Vintage Rodeo Parent LLC v. Rent-a-Center Inc. (Del. Ch. March 14. 2019).

After an expedited trial, the court found the termination was valid, but suggested that further briefing would be required to determine whether the implied covenant of good faith and fair dealing may bar the break-up fee claim. The case settled shortly thereafter. While the contract often controls, courts appear hesitant to reward you with a break-up fee if you are the one terminating the agreement, even if a technical reading could lead to that result. Conversely, courts seem willing to entertain fairness driven arguments if you both lost your deal and are being sued to pay an additional break-up fee.

Author Information John J. Calandra, a partner at international law firm McDermott Will & Emery and head of the firm’s New York Litigation Practice Group, represents clients in complex commercial litigation. Richard Nicholson Jr., an associate at McDermott Will & Emery, focuses his practice on complex commercial litigation as well as arbitrations and mediations.

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