Global Private Equity Newsletter - Fall 2017 Edition: Recent Developments in Acquisition Finance

by Dechert LLP

Dechert LLP

A delicate balance has evolved over time in leveraged acquisitions with respect to the nature of the contractual relationship between a target and its owners, on the one hand, and the debt financing sources of the buyer, on the other. Sellers are typically eager for buyers to lock in sufficient committed debt financing in order to successfully complete an acquisition, while financiers are wary of any direct contractual relationship with the sellers and potential legal exposure to them in the event the financing falls through for any reason. 

Customary structuring of a leveraged buyout thus positions the buyer as something of a “middleman” or intermediary between the seller and the acquisition financiers, whether in terms of the buyer being the party with the contractual right to enforce a financier’s financing commitment, or in terms of the buyer being the counterparty to an acquisition agreement with the seller that includes the seller’s agreements, made for the express benefit of the financier (though not a party), not to sue the financier for a failed acquisition.1 A recent Texas Supreme Court decision, discussed below, has given parties in this context something new to consider, and provides a cautionary note. And a recent New York federal district court decision, also discussed below, has given parties to credit facilities a novel issue or two to ponder. 

Can Loose Lips Still Sink Ships?

In the course of a competitive bidding process for a target, a bidder will often include a debt financing commitment as part of its bid package. The financing commitment strengthens the bid package, highlighting the bidder’s access to the debt financing needed to pay the purchase price. A debt financing commitment submitted with a bid package may typically be signed only by the financier. If the bid in question ultimately wins, the potential buyer would then further negotiate and finalize the acquisition agreement with the seller, at which time the debt financing commitment papers would also commonly be finalized and executed by the buyer and financier. The acquisition and financing transactions may then close sometime thereafter, contemporaneously.

But consider a situation in which, during the process of negotiating and finalizing the acquisition agreement and financing commitment, the financier makes various supportive statements, orally or otherwise, to the buyer (its client) to the effect that it stands ready, willing and able to provide the financing, that it supports the transaction and will close when needed, and statements to similar effect, and that the buyer is passing these statements along to the seller in the name of the financier, as the financier is making them. Suppose further that the deal then craters due to an adverse event at the target, and no acquisition agreement is ever signed. Correspondingly, no financing commitment papers are ever countersigned by the buyer or become fully executed. The target’s business thereafter fails, with no other buyers forthcoming. 

Owners of the target assert that, if not for the repeated assurances of the financier that the deal was on track, they would have taken certain remedial actions to address the adverse events at the target. They claim they failed to do so only because they justifiably believed the deal was on track, in reliance on the financier’s assurances as relayed to them by the buyer right up to the time the buyer walked away from the deal. The target’s owners claim that the financier is thus responsible for the losses they suffered, namely the amount by which the target’s value deteriorated in the course of the events in question. Target’s owners may point to the financing commitment executed by the financier and submitted to the sellers with the initial bid package. Given that ultimately the acquisition agreement was never signed and the buyer never countersigned the financing commitment, the fact that the financier had signed the financing commitment is not an unhelpful fact for the target’s owners in such circumstances, whether their claim against the financier is based on misstatements it had made or on a breach of contract theory.

First Bank v. Brumitt

This potential exposure is highlighted by First Bank v. Brumitt,2 a recent decision by the Texas Supreme Court. As the case illustrates, there can be exposure to a financier based on misstatements made by it in such circumstances, giving rise to a potential claim by a seller directly against it. And if such liability were imposed on a financier, the financier would likely turn around and seek indemnification from the buyer on any such account.

In First Bank, Richard Brumitt (Seller), owner of Southway Systems, Inc. (Target), proposed to sell his stock in Target to DTSG, Ltd. (Buyer). Buyer met with the president of First Bank (Financier) in order to finance the proposed acquisition. Buyer and Financier entered into commitment documentation for the financing. Buyer informed Financier of the “sense of urgency” that existed to close the acquisition, given the competing offers from other potential buyers.3 In response, Financier told Buyer that Financier could close the financing by the end of the year. That did not happen and, instead, over the course of the next fourteen months, Financier scheduled and then postponed multiple proposed closings, in each instance citing events outside of its control (e.g., regulatory changes affecting its lending process). Buyer contended that Financier was not giving the transaction proper attention, resulting in the multiple delays, and that Financier had compounded the problem by repeatedly making statements to Buyer to the effect that the loan would indeed be closing imminently. These statements subsequently were asserted to have been false and negligent misrepresentations on the part of Financier. 

Examples of Financier’s statements that were characterized by both Buyer and Seller as false and negligent and as grounds for liability included Financier’s oral statements that the closing would occur “in early March,”4 that it could commit to closing “in April or May,”5 and that it would close “no later than July 15,” and then “on August 4,”6 as well as its text message to Buyer stating, “you are approved.”7 On the basis of these statements by Financier, Buyer and Seller informed Target’s employees of the impending ownership change and began making transition arrangements. 

The loan ultimately never was made and the proposed acquisition never occurred. Target soon thereafter failed as a going concern. Buyer then sued Financier for lost profits and exemplary damages, among other things, and Seller intervened and joined the action as an additional plaintiff against Financier. The causes of action against Financier included breach of contract, with Seller asserting rights as an intended third-party beneficiary against Financier under the financing commitment letter, and negligent misrepresentation, based on the asserted reliance by both Buyer and Seller on Financier’s statements about the certainty and timing of the financing for the proposed acquisition. 

The trial court found Financier liable to each of Buyer and Seller under both breach of contract and negligent misrepresentation theories, for the deterioration in Target’s value from the time of Financier’s entry into its financing commitment with Buyer, which effectively equaled all of Target’s value at such time. Separate damages awards were ordered by the trial favor of each of Buyer and Seller, with the overall recovery from Financier being split roughly equally between them. 

Financier appealed, and on appeal the Texas appellate court affirmed the trial court’s ruling on the breach of contract claim, finding that Seller was entitled to recovery from Financier as a third-party beneficiary of the financing commitment letter between Financier and Buyer, since those parties had intended to confer a benefit on Seller by virtue of the commitment letter, namely to finance Buyer’s purchase of Target from Seller.8 The Texas appellate court, however, reversed the trial court’s ruling on the negligent misrepresentation claim and dismissed it, ruling that the losses incurred were adequately compensated for under the breach of contract claim.9

Texas Supreme Court Weighs In

The Texas Supreme Court, on further appeal, reversed the Texas appellate court on both the breach of contract and negligent misrepresentation claims.10 The court held that the debt commitment letter did not contain a “clear and unequivocal expression of the contracting parties”11 to make Seller a third-party beneficiary. The mere fact that Financier and Buyer were aware of the benefit to Seller of the financing commitment letter was not sufficient ground from which to infer that they had intended to benefit Seller, which they could have demonstrated only by expressly stating their intention to do so or by naming Seller in the commitment letter, which they had not done.12

Having thus ruled that Seller could not recover on breach-of-contract grounds, since it was not an intended third-party beneficiary of the commitment letter, the court then reversed the finding of the Texas appellate court on the negligent misrepresentation claim, reinstating it. The rationale employed by the appellate court in denying that claim, namely that Seller’s breach of contract claim should suffice, no longer applied. The Texas Supreme Court thus reinstated Seller’s action for negligent misrepresentation against Financier, and remanded it down to the lower court for further action, finding it to be a factual question as to whether Financier had provided information it should have known to be false and whether Seller had reasonably relied on such information to its detriment. As the trial court had already found Financier liable on the negligent misrepresentation claim, Financier’s prospects on remand seem dim. 

What this Means for Sponsors

An obvious takeaway from First Bank is that financing commitment papers can speak for themselves, and that characterizations by either a financier or buyer that are inconsistent with their terms, or otherwise contrary to fact, serve no one’s interests. To characterize and relay “in shorthand” what are typically the detailed conditions of a debt commitment letter, and to do so inaccurately or incompletely, in terms such as “buyer is approved” or “we’re all set to close next week,” can be misleading when the reality does not match the shorthand. As noted, to the extent liability were imposed on a financier in favor of a seller, an indemnity claim by the financier against the buyer is likely not far behind. The best policy in such communications is simply to limit them to the facts. 

Cumulus Media -- Too Much of a Good Thing?

Traditional principles of contractual interpretation include that a specific provision will override a more general one dealing with the same subject matter, and that a contract should be read as a whole, with meaning being given to each provision within it to the extent possible. Such principles are designed to give effect to the presumed intention of the contracting parties when they entered into the agreement in question. The US District Court for the Southern District of New York, in its analysis in Cumulus Media Holdings, Inc. v. JPMorgan Chase Bank, N.A.13 as to whether a proposed debt exchange transaction was permitted under the terms of a credit agreement, emphasized the “whole contract” approach. The court found as a matter of law that the credit agreement as a whole prohibited the proposed transaction, notwithstanding that certain particular provisions of the agreement seemed to permit it. 

Cumulus Media (Cumulus) was the borrower under a senior secured credit agreement entered into in 2013 that evidenced US$1.8 billion in outstanding term loans and an undrawn US$200 million revolving credit facility, undrawn because Cumulus could not comply with a leverage ratio test that was a condition to any revolving facility draw. Cumulus also had US$600 million in unsecured bonds (Bonds) outstanding that had been issued in 2011, maturing in May 2019. The term loan maturity was in December 2020, unless an earlier “springing maturity” in January 2019 was triggered, which would occur only if the outstanding principal amount of Bonds exceeded US$200 million at the end of January 2019. The undrawn revolving facility would terminate altogether in December 2018. 

The credit agreement prohibited the making of any payments by Cumulus to redeem, prepay or acquire any of the Bonds, with an exception for payments made pursuant to “any refinancing of [the Bonds] . . . permitted pursuant to the terms [of the credit agreement].”14 Thus, despite the general restriction on making payments on the Bonds, Cumulus could still refinance them. Presumably this was because a refinancing would include a later maturity date, thereby allowing the loans under the credit agreement to mature first. The credit agreement elsewhere defined “Permitted Refinancings” of Cumulus debt permitted to be incurred or outstanding under the terms of the agreement. Such “Permitted Refinancings” were allowed because they featured various protections for the lenders, such as that the refinancing debt would mature later than the refinanced debt, and that the refinancing debt would be subordinated to the loans under the credit agreement at least to the same extent as the refinanced debt, among other protections. 

In order to avoid triggering the early January 2019 maturity of the term loans, Cumulus sought to refinance the Bonds in a manner that would enable it also to utilize its revolving credit facility, which otherwise was unavailable due to Cumulus’ inability to comply with the relevant leverage-ratio test. The proposal was to have the existing revolving lenders, which included banks that generally were uninterested in waiving compliance with the leverage-ratio test, assign their revolving lending commitments to Bondholders, who as the new revolving lenders would then waive compliance with the leverage-ratio test and then effectively convert their Bonds into secured revolving loans under the credit agreement. These new revolving lenders would also extend about another US$100 million as an incremental revolving facility under the credit agreement. Cumulus would then have effectively completed a distressed exchange of all of its US$600 million face amount of Bonds for the new and incremental secured revolving loans in the total principal amount of about US$300 million (plus some equity interests in Cumulus). This proposal was desirable for all parties involved, except the term lenders, who would find themselves sharing their collateral under the credit agreement with an additional US$300 million or so of new ratably secured revolving loans under the credit agreement, in place of the unsecured Bonds to which they had been effectively senior. 

The term lenders objected to the proposed transaction on two grounds. First, they asserted that the transaction did not fall under the relevant exception for Bond repayments made in connection with a “refinancing . . .permitted under [the credit agreement],” since the proposed transaction did not qualify as a “Permitted Refinancing” as defined in the agreement. Since “Permitted Refinancings” were the type of debt refinancing specifically allowed under the credit agreement, other debt refinancings, such as the Bond refinancing pursuant to the proposed exchange transaction, were asserted as not being among those “permitted under [the credit agreement]” for purposes of the exception. 

Second, the term lenders noted that, although the amendments section of the credit agreement permitted the revolving loan leverage-ratio test to be amended with the consent of just the revolving lenders, another provision in the credit agreement prohibited Cumulus from amending any of its credit or debt instruments in a manner materially adverse to the credit agreement lenders. The term lenders claimed that the proposed transaction, which would spread their already thin collateral across the additional new revolving loans, would be materially adverse to the term lenders, who then comprised all of the lenders under the credit agreement. They therefore maintained that, in order to approve the proposed transaction, a waiver of such prohibition was needed from a majority of the term lenders, which Cumulus had not obtained. 

For its part, Cumulus asserted that the proposed transaction was indeed a “refinancing . . . permitted under [the credit agreement]” under the language of the relevant exception, since the proposed transaction would refinance and retire the Bonds and would not violate any express term of the credit agreement. Cumulus maintained that reading the phrase “refinancing . . . permitted under [the credit agreement]” to include only a “Permitted Refinancing” was too narrow a reading and unwarranted. On the issue of whether term lender consent was needed to waive compliance with the revolving loan leverage-ratio test, Cumulus asserted that the covenant in the credit agreement governing amendments to credit and debt instruments generally, which the term lenders were relying on, is overridden by the specific requirements of the amendments section of the credit agreement that directly addressed the question of which lenders would be needed to approve particular waivers and amendments of this credit agreement. 

In its decision, the court sided with the term lenders and disallowed the proposed restructuring transaction, holding that it would violate the terms of the credit agreement. But the court did not use the rationale that the term lenders had employed. The court reasoned that the credit agreement should be read as a whole, and focused mainly on the fact that all lenders under the credit agreement, both revolving and term lenders, had limited Cumulus’ ability to make payments on the Bonds other than through a refinancing of the Bonds. But the parties had also defined the types of refinancings of company debt that were protective of the lenders, as “Permitted Refinancings.” The court then found the decisive provision to be in another section of the credit agreement altogether, one on which neither Cumulus nor the term lenders had initially focused. 

The credit agreement contained a debt-incurrence covenant that allowed Cumulus to incur debt only if it fell within the scope of various negotiated debt baskets. The two baskets relevant in this context were (1) the basket for debt drawn by Cumulus under the credit agreement in the form of revolving and term loans and (2) the basket for Cumulus’ debt under the Bonds and under “Permitted Refinancings” of the Bonds. The court viewed the second of these baskets as certain proof of the parties’ intention to limit Bond refinancings to those qualifying as “Permitted Refinancings,” under which the proposed transaction in question did not qualify. Cumulus’ assertion that these baskets were permissive only, and thus could not be used as a basis on which to prohibit a transaction otherwise allowed under the credit agreement, fell on deaf ears with the court. So did Cumulus’ contention that the transaction would be seen as permissible once it was dissected into its two component parts (namely, the new revolver borrowing permitted under the first basket referenced above, and the resulting refinancing of the Bonds permitted by the exception for Bond repayments under a “refinancing . . .permitted under [the credit agreement]).”15

The court found that the second basket referenced above, allowing the debt of Cumulus under the Bonds or under “Permitted Refinancings” thereof, was so specific that it barred any debt incurrence in connection with a Bonds refinancing that did not qualify as a “Permitted Refinancing,” despite the fact that this basket was just one of various baskets under which debt could seemingly be incurred. Because the court viewed the parties’ intentions at the time of entering into the credit agreement as having been clear that any Bond refinancing would need to qualify as a “Permitted Refinancing,” and believing that the parties had never contemplated that revolving loans themselves would be used to refinance the Bonds, the court inferred a use-of-proceeds test on revolver draws from the credit agreement taken as a whole, imposing this test on revolver draws and thereby disallowing any revolver draw that would be used to refinance the Bonds in a refinancing that did not qualify as a “Permitted Refinancing.” The court was unswayed by Cumulus’ argument that each of the constituent parts of the proposed transaction fell within a particular basket under each of the various negative covenants at issue, stating that its ruling on the matter was “consistent with the intent evinced by the structure and context of the contract as a whole. . . . The credit agreement does not permit each component of the refinancing.”16

On the second issue, namely which lenders’ approval under the credit agreement was needed in order to waive application of the leverage-ratio test for revolver draws, the court sided again with the term lenders, finding that a waiver would be needed from them as well. The court ruled that both the more general provision in the credit agreement governing modifications of any of Cumulus’ credit or debt agreements, as well as the specific provision in the credit agreement governing amendments of this particular credit agreement, needed to be complied with. This second ruling appears to have followed the outcome on the first ruling discussed above, and ironically cuts the other way in terms of the court’s stated rationale for its first ruling, emphasizing as it did in that connection the need to read the contract as a whole and to give greater weight to specific provisions over more general ones. 

What this Means for Sponsors

The decision in Cumulus Media highlights the tension sometimes found between what parties to an agreement likely intended and what the agreement’s technical meaning may seem to accommodate. It is a reminder to sponsors, and well as to other parties to financing arrangements, that sometimes one can be overly eager in attempting to squeeze a proposed transaction into an exception or basket that only technically applies -- especially where the result would be either to read in an allowance for something that may be viewed as blatantly violating the spirit of an agreement, or otherwise to defeat the reasonable expectations of counterparties. 

Creativity in the structuring of transactions is essential, especially for distressed portfolio companies in which the company’s future is on the line. Yet, creativity needs also to be controlled and ultimately embodied in a structure that is defensible on its face as being in line with the substance and intent of existing agreements.


1) This is one of the so-called “Xerox” provisions typically included in an acquisition agreement for the financier’s benefit. 

2) 519 S.W.3d 95 (Tex. 2017).

3) Id. at 100. 

4) Id. 

5) Id. at 101. 

6) Id. 

7) Id. 

8) First Bank v. DTSG, Ltd., 472 S.W.3d 1, 13 (Tex. App. Ct. 2015), rev’d sub nom., First Bank v. Brumitt, 519 S.W.3d 95 (Tex. 2017).

9) Brumitt, 519 S.W.3d at 101. 

10) Id.

11) Id. at 103.

12) Id. at 101. 

13) No. 16-9591, 2017 WL 1367233 (S.D.N.Y. Mar. 31, 2017).

14) Transcript of Hearing at 9, Cumulus Media Holdings, Inc. v. JPMorgan Chase Bank, N.A., No. 16-9591, 2017 WL 1367233 (S.D.N.Y. Feb. 24, 2017) (ECF No. 118).

15) Id. at 9.

16) Id. at 86.


DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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