The seller’s unpaid creditors contend that other potential strategic partners were willing to pay between $42 million and $51 million for the seller.
M&A Stories
September 26, 2022
Introduction
Selling a financially distressed business involves unique risks for both the owner and potential buyers. In this case, a Pittsburgh-based snack maker with revenues exceeding $88 million and 650 employees faced financial difficulties. The owner, without replacing key executives, agreed to a deal orchestrated by secured lenders to sell the company’s assets to a private equity firm for $36 million in cash. However, unpaid creditors argue that the seller could have fetched a higher price, with other potential partners offering between $42 million and $51 million.
The Lawsuit
Following the sale, the unsecured creditors filed a lawsuit in bankruptcy court against the seller’s owner, the acquiring company, and the buyer’s private equity owner. They claimed that the company could have been sold for a greater amount, citing two rejected offers. The court refused to dismiss the claims, finding merit in the allegations.
Allegations Against the Seller’s Owner: The court identified allegations against the seller’s owner, who also served as the CEO, suggesting a potential breach of fiduciary duty. These allegations included:
1. Failure to explore and consider alternative suitors adequately.
2. Neglecting to market the business to third parties, engage brokers or investment bankers, or conduct an auction before the pre-bankruptcy foreclosure sale.
3. Lack of proper corporate governance, failure to involve independent fiduciaries, and failure to hire professionals for valuation and strategic partnership analysis.
Liability of the Buyer: The court also acknowledged the potential liability of the buyer for the seller’s debt owed to unsecured creditors. Under Pennsylvania’s de facto merger successor liability theory, if the seller’s owner received equity in the buyer and the buyer continued the seller’s operations, the buyer could be held responsible for the debts.
Piercing the Corporate Veil: Additionally, the court considered the possibility of holding the buyer’s owner accountable for the buyer’s actions through the “piercing the corporate veil” theory. The buyer, alleged to be a special purpose vehicle controlled by the owner solely for the transaction, could face liability.
See In Re Pa Co-Man, Inc., Bankruptcy No. 20-20422-JAD, Adversary No. 21-02061-JAD., 21-02075-JAD, 21-02076-JAD, United States Bankruptcy Court, W.D. Pennsylvania., (September 19, 2022).
Conclusion
The seller’s owner and the buyer group could have potentially avoided the costly and time-consuming litigation by conducting a bankruptcy sale under the supervision of the court. Opting for a bankruptcy code section 363 sale may have involved certain risks, such as losing the deal or paying a higher price, but it could have mitigated the disputes faced in this case.
By John McCauley: I write about recent legal problems of buyer 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
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