A recent 7th Circuit Court of Appeals decision illustrates the risks of hard bargaining particularly in the context of a letter of intent that includes a break-up fee. (Trovare Capital Group, LLC v. Simkins Industries, Incorporated, et al., No. 10-2778 (July 20, 2011)) In this case, a disappointed buyer sued for a break-up fee. The district court denied the claim on summary judgment for the seller. The 7th Circuit remanded for a bench trial finding issues of material fact that warranted a trial.

Randy Cecola, the sole member of Trovare Capital Group, became interested in purchasing the assets of Simkins Industries after Simkins Industries and its affiliated companies engaged Mesirow Financial to find a buyer. Trovare and Simkins Industries executed a letter of intent (LOI) on May 23, 2007. The LOI contained conditions precedent for completion of the transaction, including completion of due diligence, negotiation of an Asset Purchase Agreement (APA), and Trovare's receipt of financial commitments from lenders.  

Most of the LOI provisions were non-binding, but there were some key exceptions. One was a 90-day exclusivity period in which Simkins Industries would not "shop" itself. The other was a $200,000 break-up fee to be paid if Simkins Industries breached the exclusivity provision or if it notified Trovare in writing of its unilateral termination of negotiations. The LOI termination date was September 30, 2007.  

The parties began their negotiations and Trovare began its due diligence. The evidence after this point was not so much disputed as was the intent and purpose of Simkins Industries. Did Simkins Industries engage in hard bargaining or did it deliberately sabotage the negotiations in bad faith after deciding it did not want to sell? The 7th Circuit cited the following facts which showed Simkins Industries ambiguous intent:

  • As part of its environmental due diligence, Trovare conducted a Phase I study and decided it needed to do a Phase II. The Phase II was never undertaken and an internal Simkins Industries' e-mail indicated that a Phase II would not be commenced until after a deal was completed. This contradicted Trovare's statements that a Phase II was required before Trovare would proceed and before it could obtain financing.
  • The evidence showed that the owners of Simkins Industries were concerned about their potential liabilities from the sale, which they called "exit costs" or "tail items." These included pension funding obligations, union issues and environmental remediations. Trovare claimed these costs led Simkins Industries to effectively terminate negotiations.
  • On August 2, 2007, Leon Simkins, controlling shareholder of Simkins Industries, had an e-mail sent to his negotiators that Mr. Simkins "definitely does not want to go through with the Trovare Transaction. He has intentions of operating with his children in charge." Trovare argued that this, in effect, terminated negotiations and the failure to send a termination notice was a bad faith effort to avoid the termination fee.
  • When Trovare continued to work towards a deal, Simkins Industries' counsel gave him a list of "non-negotiable points," including the refusal to perform a Phase II study before the closing, the refusal to extend the Termination Date, and the refusal to allow validation of customer relations until after closing. This put Trovare in a Catch 22, since he could not get financing without completing some of these items but could not close without financing.
  • Mesirow had decided the deal was "dead" when Simkins Industries CFO began avoiding calls from Mesirow and Trovare.  

Faced with negotiations going nowhere, Trovare send a letter on August 21, 2007 demanding the $200,000 break-up fee. Nevertheless, communications (perhaps negotiations) continued until November 2007. Eventually Leon Simkins transferred his controlling interest to his children and his son became the new president. Trovare finally gave up and sued for the break-up fee.

As noted, the district court granted summary judgment to Simkins Industries, determining that discussions did not terminate, but continued and the conditions for the break-up fee were not met.  

The 7th Circuit did not dispute that discussions continued, and may even have continued in good faith, but felt that the evidence mentioned above could lead to a conclusion that Simkins Industries was only "pretextually negotiating" to avoid the break-up fee.  

At the end of its decision, the court noted that the trial would be a bench trial held by the same judge who issued the summary judgment decision in favor of Simkins Industries and the other defendants. The court noted that the trial judge would not likely change the eventual result. So the odds still would not favor Trovare. Left unsaid by the court is the strong possibility that the parties would try to settle the case through negotiation and by reversing the summary judgment, the court gave Trovare much more leverage in settlement negotiations.  

The 7th Circuit decision is interesting in that the court looked beyond the language of the LOI (which required formal written notice as a condition to the break-up fee) and asked the trial court to determine whether negotiations between the parties were actual hardball negotiations or a pretext to avoid the LOI's break-up fee provisions. So an LOI, even one with non-binding provisions, should be negotiated with care and taken seriously by all parties. Similarly, negotiations after an LOI is concluded should be undertaken with the LOI terms in mind.