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Three-headed hell-dog of a private equity firm Cerberus recently backed out of a deal to buy hotel operator Innkeepers out of bankruptcy because … uh … well, it’s been a bit of an intriguing mystery so far. Turns out it’s still a mystery to Innkeepers as well, so they’ve decided to sue and find out:
Defendants purport to terminate their binding and irrevocable commitment based on an unidentified and unexplained “material adverse effect” on the Debtors’ business. But no such material adverse effect has occurred. And to this day, neither Cerberus nor Chatham — despite numerous calls and other contacts — has said what the purported “material adverse” event, condition, or effect is.
Innkeepers finds it just a little suspicious that there’s been an MAE because Cerberus’s partners in the deal, Chatham Lodging Trust, has been going around saying that the deal would “generate strong returns for our shareholders” – after failing to close.
According to Innkeepers, Cerberus is just spooked by the fact that the markets have been melting down, and they want to get ahead of this wave of deals busted by equity and credit market conditions:
To be sure, the performance of the [purchased] Properties is solid and Cerberus and Chatham can point to nothing to the contrary. Instead, Cerberus and Chatham apparently seek to rely on recent volatility in financial markets to avoid their “binding and irrevocable commitment” to purchase the … Properties.
And, Innkeepers claims, the MAE clause in the purchase agreement does not include “volatility in financial markets” as a potential MAE.
Innkeepers has some of the top lawyers in the business, but the purchase agreement that they rely on could maybe have been just a touch clearer. They describe it as follows:
The material adverse effect provision in the Binding Commitment Letter provides that [Cerberus and Chatham] may only terminate the agreement upon
The occurrence of any condition, change or development that could reasonably be expected to have a material adverse effect on the business, assets, liabilities (actual or contingent), or operations, condition (financial or otherwise) or prospects of the Fixed/Floating Debtors taken as a whole . . .
(Binding Commitment Letter at 7.) There is no so-called “market MAE” provision (i.e., authorizing termination based on general market conditions) in the Binding Commitment Letter and, indeed, a proposed “market MAE” provision was deleted from an earlier draft of the baseline bid upon which Cerberus and Chatham were required to bid.
Helpful evidence that overall market volatility shouldn’t be enough to let Cerberus back out. But performance in the lodging industry actually correlates pretty well with the general economy. There’s a nontrivial argument that the last few weeks of trading, and associated commentary, reflect an economic environment that could have a negative effect on the business of these hotels – even though Cerberus has no complaint about their operating performance.
This is not a puzzle that has never been seen before. Pretty much every merger agreement goes on to say that an MAE specifically will not include “occurrences, changes, events, effects or circumstances generally affecting the economy or the financial, debt, credit or securities markets, in the United States or elsewhere.” (That particular example is from the Motorola/Google deal but the sentiment is pretty common.) That language seems to be missing from the Innkeeper’s agreement – at least as cited by their own complaint – perhaps because Innkeepers’ lawyers thought they’d gotten all they could get by deleting the “market MAE.” But what they’re left with may be ambiguous enough to let Cerberus wiggle out of their deal.
Innkeepers Sues Cerberus Over Collapsed Deal [DealBook]