In her recent decision in Travelport Limited v Wex Inc,(1) the head of the Commercial Court provided topical guidance on the construction and application of material adverse effect (MAE) clauses in the context of the COVID-19 pandemic. The judgment highlights the significance of the precise words used and the importance of ensuring, insofar as possible, that they properly reflect the intended allocation of risk between the parties.
WEX Inc agreed to purchase the parent companies of two business-to-business (B2B) payments companies specialising in the travel sector, eNett International (Jersey) Limited and Optal Limited, from the claimants (the sellers) pursuant to a share purchase agreement (SPA) dated 24 January 2020 for a total consideration of approximately $1.7 billion.
The SPA included conditions to WEX's obligation to close the transaction, including that:
there shall not have been any Material Adverse Effect and no event, change, development, state of facts or effect shall have occurred that would reasonably be expected to have a Material Adverse Effect.
In early May 2020, WEX formally notified the claimants of its view that an MAE had occurred due to the impact of the COVID-19 pandemic and claimed that it was therefore not obliged to close the transaction. The claimants responded that there had not been an MAE and that the condition to closing was satisfied, and then issued claims for a declaration that there had been no MAE and for specific performance under the SPA.
Following an expedited hearing, the Commercial Court determined certain preliminary issues between the parties, focusing on the proper construction of the definition of an MAE in the SPA in the context of the pandemic.
The dispute between the parties arose from the fact that the MAE definition contained:
- exceptions to the general definition of an MAE for effects from particular causes including specifically "conditions resulting from… pandemics" (the carve out); and
- an exception to the carve out providing that even if an adverse event otherwise falls within the carve out, an MAE may nonetheless exist if the adversity has had "a disproportionate effect on" the eNett or Optal groups "taken as a whole, as compared to other participants in the industries in which [they] operate".
As such, for there to have been an MAE, the conditions resulting from the pandemic must have had a disproportionate effect on either of the eNett or Optal groups as compared with other participants in the industries in which they operate.
The key issue considered by the court was the identification of the relevant industries under the carve-out exception. The claimants argued that the relevant industry was the travel payments industry, whereas WEX argued that there was no travel payments industry and that the appropriate comparator was the B2B payments industry.
The court held that WEX's construction was correct and that the appropriate comparator was the wider B2B payments industry. In reaching this decision, the court considered both a textual analysis of the MAE definition and interpretative considerations arising from arguments about its commercial purpose.
The court found that a purely textual analysis favoured WEX's broader interpretation. In particular, the parties had chosen the word 'industries' as opposed to 'markets', 'sectors', 'competitors' or an identified pool. 'Industries' was a broader word and its natural and ordinary meaning captured a group of participants in a broad sphere of economic activity. This was supported by expert evidence heard by the court and by the use of the words 'industry' and 'businesses' elsewhere in the SPA.
In reaching this conclusion, the court noted that while the wording was standard boilerplate, this was nonetheless a heavily negotiated contract where it could be assumed that all of the wording had been carefully scrutinised by lawyers and was used wittingly and advisedly.
The sellers argued that the definition of an MAE had to be interpreted in light of its commercial purpose as a matter going to the factual matrix against which the objective intentions of the wording had to be assessed. The sellers sought to argue that the commercial purpose was to isolate firm-specific risks (ie, the risks facing eNett and Optal), as opposed to those facing the wider industry or sector in which they operated. In response, WEX argued that the commercial purpose extended beyond that to capture risks relating to the broader sector in which the sellers predominantly operated.
Given the lack of English authority on material adverse change (MAC) and MAE clauses in SPAs, the court was taken to US case law (particularly from Delaware) and academic articles. Those materials supported a view that MAC and MAE clauses tend to be interpreted as allocating general market or industry risks to the buyer and more company-specific risks to the seller. However, they provide no clear guidance as to precisely where the line was drawn when it came to risks affecting companies operating in particular markets or sectors within a wider industry.
The court then considered whether the purpose of the transaction was the acquisition of a travel business or a wider payments business. It found that the transaction did not have a single objective purpose. Optal and eNett's businesses were primarily focused on the travel sector but WEX's case that it saw future value in extending their reach into other sectors and markets was accepted.
Meaning of 'industries'
Ultimately, the court found that the commercial purpose argument provided no convincing reason to depart from the ordinary reading of the language used.
The court held that the sellers had failed to establish the existence of a specific travel payments industry and that it was at most a market, sector or vertical within the wider B2B payments industry (itself a subset of the wider payments industry).
Therefore, for the carve-out exception to operate, the pandemic had to have disproportionately affected eNett and Optal as compared with the payments industry (generally) and the B2B payments industry (more specifically). Given the specific impact that it has had on the travel sector, this finding will significantly assist WEX in its efforts to show that eNett and Optal suffered disproportionately compared with their relevant peers.
While the issue of whether there has been an MAE remains to be determined, this judgment provides important guidance on how the court will approach the interpretation of MAE clauses in the context of the pandemic.
In circumstances where the carve-out exception was not specific as to the comparator to be used, the court conducted a multi-layered analysis focusing on the precise wording and the commercial purpose of the definition. The parties' choice of the word 'industries' (as opposed to 'markets', for example) was significant, especially where it could be assumed that given the nature of the contract, the wording had been heavily scrutinised and used advisedly. This is a valuable reminder that when negotiating these clauses, parties should carefully consider the words used and their likely objective meaning and seek to address any potential areas of uncertainty in the contract. Otherwise, the court will be forced to fashion an objective intent which may never have been subjectively shared between the parties, a situation which it expressly noted would arise only if renegotiations aimed at seeking to resolve the subjective differences of view failed.
Issues in relation to existing contracts will require equally careful and nuanced assessment. The painstaking care with which the parties and the court worked through all angles of these construction arguments is reflective of both the criticality of the current economic conditions and the powerful economic risk allocation functions played by MAE and MAC clauses.
For further information on this topic please contact Jake Hardy or Jodie Gittins at RPC by telephone (+44 20 3060 6000) or email ([email protected] or [email protected]). The RPC website can be accessed at www.rpc.co.uk.