Delaware trial court holds that the seller’s claim that the buyer unreasonably delayed additional product testing requested by a customer to the point where the prospective business deal fell apart, may establish a buyer breach of its implied duty to act in good faith in pursuing a business opportunity that was source of the seller’s earnout.
M&A Stories
January 27, 2022
Introduction:
In an acquisition deal, sellers often include an “earnout” in the purchase price, which depends on the buyer’s business operations. A recent Delaware trial court case sheds light on how a buyer’s actions can impact the seller’s earnout. Here’s a simplified summary of the case:
The Deal:
In May 2018, a seller who designed and created water and sewer valve systems sold the business assets to a buyer. As part of the deal, the seller was negotiating with a UK company to adapt its valve system for the gas industry and earn an 8% commission on UK sales.
The Problem:
In October 2018, the buyer terminated the seller’s CEO and his brother, leading to a breakdown in the business relationship with the UK company. The buyer’s attempts to manage the deal with the UK company resulted in failed product trials. The UK company requested additional trials, but the buyer allegedly delayed them, causing the project to lose funding. As a result, the seller only received $100K in commissions.
The Lawsuit:
On December 18, 2020, the seller sued the buyer for breach of the commission agreement, alleging that the buyer violated the implied covenant of good faith and fair dealing. The seller claimed that the buyer’s actions, including firing key personnel and mismanaging the UK business, prevented them from receiving the full benefits of the deal.
Court Ruling:
The court agreed that the buyer had an obligation to act in good faith when pursuing the UK deal. The seller’s allegations were deemed sufficient to support a claim of breach of that obligation. The court denied the buyer’s motion to dismiss, allowing the litigation to continue.
This case is referred to as Light Years Ahead, Inc. v. Valve Acquisition, LLC., C.A. No. N20C-12-181 DJB, Superior Court of Delaware, (Argued September 21, 2021. December 22, 2021)
Takeaway:
This case highlights the importance of including specific language in earnout provisions to ensure buyers act in good faith regarding their earnout obligations. Sellers should be cautious about waiving their right to implied covenants of good faith and fair dealing in the agreement.
By John McCauley: I write about recent legal problems of buyers and sellers of small businesses.
Email: jmccauley@mk-law.com
Profile: http://www.martindale.com/John-B-McCauley/176725-lawyer.htm
Telephone: 714 273-6291
Check out my book: Buying Assets of a Small Business: Problems Taken From Recent Legal Battles
Legal Disclaimer
The blogs on this website are provided as a resource for general information for the public. The information on these web pages is not intended to serve as legal advice or as a guarantee, warranty or prediction regarding the outcome of any particular legal matter. The information on these web pages is subject to change at any time and may be incomplete and/or may contain errors. You should not rely on these pages without first consulting a qualified attorney.
Recent Comments