COVID-19 has brought about far-reaching challenges in the M&A space, one such being the construction, application and interpretation of the material adverse change (MAC) clause, also known as the material adverse effect (MAE) clause. The increased uncertainty in the market spurred on by COVID-19 and further intensified by Brexit, has brought with it an increased focus on MAC / MAE clauses as risk-allocation mechanisms in M&A transactions. MAC / MAE clauses are designed to address the unexpected rather than the known risks. In M&A transactions they are typically drafted to facilitate the parties, usually the buyer, to terminate an agreement without cost or penalty in the event of a material adverse change occurring between signing and completion.

Overview

On 12 October 2020, the English High Court delivered its decision on some preliminary issues in Travelport Limited & Ors v WEX Inc.[1], and at the heart of the hearing was the construction and interpretation of a MAE clause in a share purchase agreement (SPA) in the context of COVID-19. In light of the pandemic the buyer wanted to invoke the MAE provisions in the SPA in the hope of walking away from the deal. The seller brought proceedings for specific performance. The matter however was not so straightforward and hence the need for a trial on preliminary issues and in particular the construction of the MAE.

Background

On 24 January 2020, WEX Inc. (Buyer) entered into an SPA with Travelport Limited (Seller) to purchase the entire shareholding in eNett International (Jersey) Limited (eNett) and Optal Limited (Optal) (business-to-business (B2B) payment providers in the travel industry) for a total consideration of US$ 1.7 billion.

Shortly after the SPA was signed, COVID-19 became a global pandemic, resulting in the business of eNett and Optal being affected by the travel downturn. The Buyer sought to withdraw from the SPA sending notice to the Seller that a MAE had occurred on the basis that there had been a material adverse effect on eNett and Optal due to conditions resulting from the pandemic. The Seller rejected this suggestion and initiated legal proceedings to compel the Buyer to complete the transaction on the basis that no MAE had occurred.

The MAE Clause

The MAE clause was three-tiered, consisting of: (i) the definition of a MAE; (ii) the various “carve outs” to the definition; and (iii) the exceptions to the “carve outs”.

The first element was drafted in a manner frequently seen in SPA’s and provided that a MAE would include “any event, change, development… or effect” that would have had or has had a material adverse effect on the eNett or Optal groups.

The “carve outs” were also drafted as would be expected in an SPA of this kind, including a carve out relating to “conditions resulting from…pandemics”.

The central issue contested by the parties was the exception to that carve-out, which provided that a MAE may still exist where the event had a “disproportionate effect” on the eNett and Optal groups when “compared to other participants in the industries” in which eNett or Optal (including their respective subsidiaries) operated. The meaning of this exception needed to be determined by the court in advance of the court determining whether or not the defendant could actually rely on the MAE clause.

The Industry Differentiation

The Seller argued that the targets operated in the “travel payments industry”. The Buyer argued that no such industry existed and insisted that the appropriate industry should be the wider “B2B payments industry”. The distinction would be fundamental in determining whether or not the pandemic had caused the eNett or Optal groups to suffer disproportionately (as compared against its industry competitors). The level of disproportionality would be assessed very differently depending on whether one measured performance against the (narrow) travel payments industry which had been badly affected by the pandemic or the (much wider) B2B payments industry.

Judgment

The Court applied conventional principles of contractual construction and considered the factual background.

The Court agreed with the Buyer and held that the effect of the COVID-19 pandemic on the Sellers' business was to be determined by reference to the broader payments or B2B payments industry, rather than the narrower travel payments industry. This was a heavily negotiated contract and the parties could have, but did not, specify what industries they meant. It was noted that ‘industries’ was a word with broad meaning. It was found that there was no travel payments industry as defined by the Sellers and it was noted the acquisition was an opportunity for the Buyer to develop other markets too.

In reaching this decision and looking at how the MAE clause should be interpreted the judge looked at the leading English authority in this area but also at the more developed body of US decisions, in particular from the Delaware courts, regarding MAC / MAE clauses. It was important to establish where the risk was intended to lie.

The Court rejected the Sellers’ argument that the commercial purpose of the MAE clause was to insulate the Buyer from "firm-specific" risk only, rather than any systemic risk arising from the market in which it primarily operated.

The judge did not address the question of whether the event had a disproportionate effect on eNett and Optal in comparison to their competitors. This will no doubt be considered further at the subsequent trial but the finding in favour of the Buyer that the business being acquired was to be determined by reference to the broader payments industry will make it easier to demonstrate that the companies had been disproportionately affected by COVID-19 when compared with others in such industry.

Lessons in Practice

MAE clauses can be heavily negotiated and, now more than ever, frequently disputed. The Travelport decision shows the importance of careful and precise drafting.

Travelport demonstrates the necessity to carefully consider the structure and complexity of MAC / MAE clauses. It also illustrates the potential inadequacies of a MAC / MAE clause, when there is insufficient consideration of the words used and a lack of analysis of the possible competing meanings of words when the clause is read as a whole.

Further, those drafting these potentially challenging clauses should focus on the inherent purpose of the clause itself.

For acquisition agreements currently under negotiation drafters should consider including specific language to address the COVID-19 risk allocation in the context of a MAC / MAE clause or in a bespoke closing condition tailored to specific risks.

In relation to the extent to which MAC / MAE clauses can be triggered in acquisition agreements that have been signed and await completion, will of course be fact specific and depend on the specific language used in the agreement but no doubt the Irish courts will be paying close attention to decisions such as this one and indeed the ultimate findings at the subsequent trial. There is a dearth of Irish authority in this area but this may well change in the current COVID-19 landscape which has seen an upsurge in parties seeking to relieve themselves of their contractual obligations and attempting to rely more than ever on the likes of MAC / MAE clauses to facilitate this.