Deal-Making in the COVID-19 Era: How Businesses Are Adapting in a Volatile Economy
COVID-19 has had a monumental impact on most of the U.S. and global economy. The travel industry has been especially hit hard by the COVID-19 pandemic. With governmental health guidelines and restrictions in place, fewer individuals are traveling and more businesses have moved to operating remotely. As a result, travel companies are finding it difficult to acquire the capital required to close deals and to adhere to contractual obligations. This article will address a recent failed deal between two companies, how the Delaware court handled the issue, and what attorneys can do to prevent potential COVID-19 related problems.
A recent deal between Cartares Management of the Carlyle Group (“Carlyle”) and GIC (formerly known as the Government of Singapore Investment Corporation) to buy 20% of American Express Global Business Travel (“AEGBT”) ended up in the Delaware Chancery Court. (Jef Feeley, Bloomberg Law). Due to COVID-19 related complications, both Carlyle and GIC asked Judge Joseph Slights III to nullify the deal in separate lawsuits. Id. Cartares’ counsel attempted to persuade the judge to schedule a speedy trial. Id. Judge Slights refused and said that it would be impractical and imprudent to try to protect the deal’s June 30 financing deadline because most of the country is locked down due to the pandemic, international travel is discouraged, and the health of the population is still at risk. Id.
In the Cartares-GIC deal, a GIC spokesman said that Carlyle, GIC, and AEGBT cannot live up to obligations under the agreement because the deal speaks to the core fundamentals of the businesses they operate, not simply contract technicalities. Id. This means that the deal fails because the parties cannot adhere to the deal’s fundamental intention or purpose due to the economic downturn in the travel industry, not because of a minor technicality. Id. GIC says that travel businesses cannot operate in the ordinary course as required by the deal’s terms because the business has been invoking cost-cutting measures, which include cutting salaries, freezing new hires, and reducing operating expenses. Id. In GIC’s opinion, the changes in the economy due to the pandemic amount to a material adverse effect, which they have asserted to rescind the deal. Id.
COVID-19 may be a deal killer because parties fail to mitigate its risks and take necessary steps to adapt to the pandemic. For example, in what was supposed to be a merger between Simon Property Group and Taubman Centers, both involved in the mall and retail market, Simon claimed that Taubman did not mitigate the impact of COVID-19 as well as other businesses in the retail industry did and thus wanted to cancel the deal entirely (George Anderson, RetailWire). Such mitigation steps include making cuts to operating expenses and expenditures. Id.
In some instances, buyers are invoking material adverse effect provisions to prevent deals from closing (Jef Feeley, Bloomberg Law). A material adverse effect is a change in circumstances, effect, or result, that individually or in sum, would be expected to be contrary and adverse to the parties to an agreement, thus inhibiting, delaying or preventing a party to an agreement from closing the deal. (Barbara Becker, Stephen Glover, and Daniel Alterbaum, Gibson Dunn).
Another trend in COVID-19 business deals is the increase of force majeure claims. A force majeure clause sets out the circumstances, generally unforeseen or unexpected, that allow a party to establish a legal excuse for the non-performance of their contractual obligations (James Carter, Charles Allin, Matthew Lo, and Rachel Howell, DLA Piper). When a party invokes a force majeure clause, it will have to show and describe various factors, including: (1) the occurrence of the force majeure event, (2) the impact of the event on performance, (3) whether the event is the sole cause of the impact on performance, (4) mitigation efforts that have been pursued, and (5) contractual consequences. Id.
In order to scrap deals, which can allow companies to save capital and reinvest the capital in future deals, companies can raise the defense of impossibility when sued because of a failed deal. Because of the current economic downturn, operating restrictions imposed by the government, and slimmer profit margins, businesses cannot be expected to operate in the ordinary course. When a business does not operate in the ordinary course, the company may be able to rescind contracts, deals, or obligations. That company can then be sued by the other party to the failed deal. The company may assert the defense of impossibility in an attempt to excuse it from its obligations or non-performance because the business was not allowed to operate in the ordinary course. A defense of impossibility can be raised when “the performance of a contract is objectively impossible.” (Shireen Barday, Mary Maloney, Rahim Moloo, Hannah Kirshner, and Robert Banerjea, Gibson Dunn). The American Bar Association (“ABA”) notes that when a party breaches a contract that cannot be performed, the party should not be liable. (Mark Henriques, American Bar Association). During the COVID-19 pandemic, some government orders may render the performance of an agreement impossible. Id. For example, a contract for a theater show would be impossible in regions of the country where theaters were forced to shut down. Id.
Similarly, companies may assert the defense of impracticability. The defense of impracticability requires that the party invoking the defense show that the execution of the deal would make performance excessively burdensome because of an unusual or unanticipated event. Id. Such an event must be unforeseeable, without the fault of the parties to the agreement, inconsistent with the parties’ intentions at the time of the agreement, and of a type that a reasonable person or party would not have thought to protect against in the making of the agreement. Id.
Looking to the future, in order to prevent deals from falling apart and to protect future deals, businesses must be prepared to operate in a volatile economy. Buyers should ensure that they engage in due diligence and that due diligence extends to the following: insurance and business interruption policies, crisis management procedures, alternative sources of supply, business exposure in COVID-19 hotspots, implications of working remotely (including licensing and privacy implications), safety protocols in the physical workspace, processing health data, solvency, servicing debt, and the ability of parties to continue or end agreed-upon obligations. (Ryan Scofield, Parthiv Rishi, and Sidley Austin LLP, Harvard Law School Forum on Corporate Governance).
As COVID-19 continues to alter the economy and business transactions, companies will need to be mindful of potential measures that they might utilize to insulate themselves from loss and to protect themselves, such as claiming force majeure or a material adverse effect. If companies are to remain profitable and grow during this unprecedented economic downturn, they must be prepared to operate in new and untraditional ways.