Buyer May Pay $1.2 Million Twice for Seller Assets Subject to Financing Statement

Introduction

One of the legal risks when purchasing a business is purchasing assets that are collateral for a loan.

The deal

This is a follow up to a deal where the buyer purchased the assets of a seller that made video lottery machines. See http://www.mk-law.com/wpblog/business-buyer-risks-loss-of-assets-to-secured-creditor/

The buyer apparently did not do a UCC search in Nevada, the state where the seller was incorporated, or it would have discovered that all of the seller’s personal property, which would include the machines and associated location contracts were secured as collateral under a $1.5 million loan made to the seller by a secured lender.

The lawsuit

After the closing, the buyer placed some of the video lottery machines in restaurants in Maryland, pursuant to location contracts. The buyer had paid the seller $1.2 million for the Maryland video lottery machines.

The seller defaulted its $1.5 million loan. The buyer sued the buyer in a Maryland federal district court and obtained a preliminary injunction from the court ordering that the revenue the restaurants paid the buyer from the Maryland machines be placed in trust pending the outcome of the lawsuit.

Later, the court granted the secured lender summary judgment and ordered the buyer to pay the secured lender the value of the Maryland machines in the amount of $1.2 million plus pre-judgment interest of $150K.

This case is referred to as Potts v. Maryland Games, LLC, Civil Action No. CBD-18-3250, United States District Court, D. Maryland, Southern Division (September 27, 2019)  

Comment

This is a strong reminder to buyers. Do a proper UCC search or you may pay twice for the assets of the target business. There is more than one place to search for UCC financing statements. But at a minimum you need to check the financing statements filed with the state where a seller entity is incorporated or if not an entity, with the state where the individual seller resides.

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Posted in due diligence, liens, UCC search Tagged with: , ,

Buyer’s Section 363 Purchase of Bankrupt Hospital Assets Is Free of Medi-Cal Liabilities

Introduction

A principal reason for buying the assets of a distressed business out bankruptcy is to purchase the assets free and clear of liabilities under Bankruptcy Code Section 363.

The deal

In this case the buyer agreed to purchase the assets of 4 California hospitals for $610 million. Each of the hospitals received Medi-Cal reimbursement from California for providing health care services to the poor under provider agreements.

However, the seller provider agreements had liabilities to California in excess of $50 million.

The lawsuit

The buyer asked the bankruptcy court to sell the provider agreements “free and clear of claims and interests” under Bankruptcy Code § 363, meaning that California would receive no payments in connection with the transfer. California resisted arguing that the provider agreements could not be sold free and clear of the liabilities because they are executory contracts; meaning that the buyer would have to assume the $50 liabilities in order to receive reimbursement under California’s Medi-Cal program.

The buyer argued that the provider agreements were not contracts but part of an entitlement program. The court agreed; saying that the provider agreements “lack a key feature found in all contracts—obligations imposed on both parties to the agreements.”

The court noted that the Medi-Cal provider agreements impose no obligations upon California. The only obligations spoken of in the Medi-Cal provider agreements pertain to the seller. Even these obligations do not constitute consideration for contract purposes, since they merely restate the seller’s pre-existing legal obligations.

The court found that the Medi-Cal provider agreements were akin to a license issued by a government agency, and therefore that the Medi-Cal provider agreements could be sold under § 363. The Medi-Cal provider agreements create a statutory entitlement to bill the Medi-Cal program for providing Medi-Cal services.

The court said that Bankruptcy Code § 363 provides that a sale Seller’s Medi-Cal provider agreements may be sold free and clear of any interest in the agreements, including the $50 million liabilities owed to California under the state’s Medi-Cal laws.

This case is referred to as In Re Verity Health System of California, Inc., Lead Case No. 2:18-bk-20151-ER, Jointly Administered With Case No. 2:18-bk-20162-ER, Case No. 2:18-bk-20163-ER., 2:18-bk-20164-ER, 2:18-bk-20165-ER, 2:18-bk-20167-ER, 2:18-bk-20168-ER, 2:18-bk-20169-ER, 2:18-bk-20171-ER, 2:18-bk-20172-ER, 2:18-bk-20173-ER, 2:18-bk-20175-ER, 2:18-bk-20176-ER, 2:18-bk-20178-ER, 2:18-bk-20179-ER, 2:18-bk-20180-ER, 2:18-bk-20181-ER, United States Bankruptcy Court, C.D. California, Los Angeles Division (September 26, 2019)  

Comment

This case illustrates the value of purchasing the assets of a distressed business in bankruptcy. But it also demonstrates that not all assets can be purchased free and clear of all liabilities. For example, purchasing executory contract such as valuable lease may come with liabilities that the buyer can’t avoid.

Email:              jmccauley@mk-law.com

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The blogs on this website are provided as a resource for general information for the public. The information on these web pages is not intended to serve as legal advice or as a guarantee, warranty or prediction regarding the outcome of any particular legal matter. The information on these web pages is subject to change at any time and may be incomplete and/or may contain errors. You should not rely on these pages without first consulting a qualified attorney.

Posted in bankruptcy sale, distressed business acquisitions, executory contracts, Medi-Cal provider agreements, Section 363 sale Tagged with:

Medical Practice Buyer Sues Selling Doctor for Post-Closing Taking of Patient List

Introduction

A patient list may be a valuable and confidential asset of a medical practice. Therefore, a buyer of a medical practice will want to keep the selling doctor from taking the patient list with him or her after the closing.

The deal

This case involved the purchase of an OB-GYN practice. One of the selling doctors had a falling out with the practice and was terminated after the closing. The doctor downloaded a list of the patients she had seen at the practice with the intent of contacting them after her non-solicitation had expired.

The lawsuit

The buyer learned of the doctor’s intent and sued the doctor for misappropriation of a trade secrets in a Maryland federal district court.

The doctor conceded that the patient list was a trade secret but claimed that she had not misappropriated the trade secret under either federal or state law because she had not used the patient list nor disclosed the patient list to anyone.  However, she did admit that she was going to use it when her nonsolicitation covenant expired.

The doctor asked the court to dismiss these claims in a motion for summary judgment. The court denied the request.

The court said that the doctor’s downloading of the patient list by saving it as an Excel spreadsheet file for her personal use was the acquisition of the buyer’s trade secret by improper means and that is a misappropriation of a trade secret.

This case is referred to as Maryland Physician’s Edge, LLC v. Behram, Civil Action No. DKC 17-2756, United States District Court, D. Maryland (September 20, 2019)  

Comment

The doctor could compete against the buyer after the expiration of her nonsolicitation covenant. However, that would not free her up from using buyer’s trade secret; the list of her patients from her old practice.

Email:             jmccauley@mk-law.com

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Telephone:      714 273-6291

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Posted in trade secret misappropriation, trade secret misappropriation by former seller employee Tagged with:

Business Buyer Sues Seller Founder for Using His Personal Name to Promote Competitor

Introduction

The personal name of the founder of a company such as the name of an inventor or fashion designer can be a very valuable asset in an acquisition. A buyer may want to minimize the risk that the inventor or designer will use his or her personal name after the closing to promote a competitor.

The deal

In this case the founder of the selling company invented a wood pellet grill. The founder manufactured and sold his new wood pellet grills under a trademark that contained his last name through a company owned and operated by him and his family.

On February 21, 2006, the buyer purchased all the seller’s assets, including its intellectual property. The buyer paid $9 million for the IP.

The lawsuit

After the closing, the buyer sued the founder in a Florida federal district court, accusing him of using his personal name and image to promote a competitor’s product. The buyer asked the court to issue a preliminary injunction to stop the founder from doing that pending the outcome of the trial.

The court looked at the description of the intellectual property transferred in the asset purchase agreement and the assignment document. The transferred IP included “personal goodwill … used or usable in the business,” which specifically included the founder’s last name  “including but not limited to the following: … (the founder) … name and tree logo (which … (the seller) … is assigning including any rights to register, in connection with the Business only). Any other marks, logos, copyrights or other intellectual property used in connection with the Business, including without limitation likenesses of people and images used in advertising.”

The court concluded that the acquisition documents were not clear as to whether the buyer acquired the exclusive right to use the founder’s personal name and image in the wood pellet grill market. Therefore, the court denied the request for a preliminary injunction because the answer to that question depends upon the evidence to be presented by the litigants to the fact finder at trial.

This case is referred to as Traeger Pellet Grills LLC v. Traeger, Case No. 8:19-cv-1714-AEP, United States District Court, M.D. Florida, Tampa Division (September 11, 2019)  

Comment

The court talked about a New York federal court case where the court concluded that buyer acquired the exclusive right to use the seller’s fashion designer’s personal name in a commercial context under the acquisition documents.

There the designer (Joseph Abboud) transferred: “All rights to use … the words “Joseph Abboud,” “designed by Joseph Abboud,” “by Joseph Abboud,” “JOE” or “JA,” or anything similar thereto or derivative thereof, either alone or in conjunction with other words or symbols … for any and all products or services.”

P.S. About a week ago, the buyer did persuade an Arizona federal district court to issue a preliminary injunction against the competitor to stop the competitor from using the founder’s name and image in promoting its wood grill products pending the resolution of the trial. https://www.govinfo.gov/content/pkg/USCOURTS-azd-2_19-cv-04732/pdf/USCOURTS-azd-2_19-cv-04732-0.pdf

Email:             jmccauley@mk-law.com

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Telephone:      714 273-6291

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Posted in Intellectual Property, Personal Name Tagged with: ,

Court Permits Business Seller to Sue Buyer for Seller CEO Retention Bonus Deal

Introduction

A business buyer often wants to retain the seller’s top management. One technique used is a lucrative retention bonus. One legal risk in using this technique is a seller claim that the retention bonus is in fact part of the purchase price for the business.

The deal

In this case the private equity owned buyer negotiated with the seller’s CEO to buy the assets of the seller’s business.  The buyer and seller agreed to an APA purchase price of $17 million.  However, when the seller signed, the seller’s owners did not know that the buyer and the seller CEO had agreed to a retention bonus for seller’s top management of $1.5 million; most of which would go to the CEO.

The seller’s owners learned about the retention bonus before the closing. Nevertheless, the owners of the seller closed the transaction.

The lawsuit

The seller sued the buyer in a Texas state court and the seller CEO in a Michigan state court 3 days after the closing. The claim against the buyer ultimately ended up in a Delaware Superior Court.

Specifically, the seller accused the buyer of bribing the seller’s CEO with the $1.5 million retention bonus in exchange for only paying $18.5 million for the company (the $1.5 retention bonus plus the $17 million purchase price) for a company worth $20 million.  One of the seller’s legal theories was that the buyer fraudulently concealed the retention bonus deal from the seller’s owners before the seller signed the APA.

The buyer asked the court to dismiss the claim because the buyer had no duty to disclose the existence of the bonus retention deal before the signing of the APA, because the buyer was not a fiduciary of the seller, but rather “an arms-length counter-party to a commercial transaction.” Furthermore, the buyer argued that the seller learned of the retention payments a month prior to the closing.

The court permitted the seller to proceed with its fraudulent concealment claim. For the purpose of the buyer’s motion to dismiss the seller’s fraudulent concealment claim, the court assumed that the retention agreement was unknown to the seller until approximately a month before the closing; that this concealment occurred during the negotiations for the purchase of the seller and if known in advance of the APA signing, would perhaps have provided the seller with an opportunity to investigate and react to the bonus retention agreement.

The court said that, the crux of the seller claim is that the retention agreement was concealed from the seller until it was too late to react. It is the concealment of the event that is the genesis of this claim. If the buyer knowingly and willfully conspired with the seller CEO to prevent the seller from gaining knowledge of the retention agreement and it was done with the specific purpose of obtaining the assets of Seller at a reduced price, the elements of fraudulent concealment are present except for causation and damages.

Furthermore, the court said that the seller’s discovery of the concealed event in advance of the execution of the APA merely relates to whether the seller was harmed by the nondisclosure or could have taken reasonable action to prevent damages from occurring. As such, the seller’s knowledge of the retention agreement before closure of the APA does not prevent this claim from proceeding forward.

However, the court said that whether the concealment was deliberate, whether the buyer intentionally kept the agreement secret to obtain an advantageous purchase price, or whether there is a connection between the concealment and damages allegedly suffered by the seller are all matters which the seller will be required to establish at trial.

This case is referred to as Pregis Performance Products LLC v. Rex Performance Products LLC, C.A. No. N18C-03-157 WCC CCLD, Superior Court of Delaware (Decided: September 4, 2019)  

Comment

The retention bonus arrangement was payable in installments beginning 4 months after the closing and installments would stop if the seller CEO was not still with the business a year after the closing. A post-closing CEO service obligation would be part of a legitimate retention bonus arrangement.

It is common for private equity to retain top target management with retention bonus arrangements. Disclosing the retention arrangement to the seller’s owners before signing the APA would have given the seller group time to decide whether the seller group wanted to go through with the deal and probably have eliminated the time, expense and stress involved with litigation in Michigan, Texas and Delaware courts.

Email:             jmccauley@mk-law.com

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Posted in fraudulent concealment, private equity, retention bonus Tagged with:

Business Buyer Pays Reasonably Equivalent Value Liable to Seller Lessor Under UFTA

Introduction

One legal risk of buying a distressed business is having to pay a seller creditor for an unassumed APA liability even when the buyer paid fair market value for the business.

The deal

The buyer in this case was a newly created subsidiary of the operator of an iron ore mine under a contract with the seller, the owner of the mine. The seller used railroad equipment to ship the iron ore which it leased from the lessor.

The mine owner’s principal owner was Steve and his son Dale was the president of the mine operator.  Later Dale was hired by the seller as president in order to manage the logistics of shipping the iron ore.

Several years later iron ore prices declined. Seller could not pay its bills. It marketed the company. In the end it sold the business for $13.8 million to buyer’s acquisition subsidiary. The buyer paid a reasonable value for the business.

The seller was anxious to sell in order to pay off its creditors. However, it was significantly behind in lease payments with the lessor and was delaying payment. In fact, at the time of the deal the seller and the lessor were in litigation. The buyer group also knew that the seller was delaying payment with the lessor and planned on using the purchase price proceeds to pay off the seller’s other creditors.

The lawsuit

The lessor was owed $2.6 million in lease breach damages and sued the buyer group in a Utah bankruptcy court. (The buyer had filed for bankruptcy.) The court ordered the buyer group to pay the lessor the $2.6 million in lease breach damages.

The court held that even though the buyer paid a reasonably equivalent value for the seller’s business, it was responsible the seller’s lease obligation under Utah’s Uniform Fraudulent Transfer Act. Specifically, a buyer of a business can be responsible for a seller liability under the UFTA if the seller sold the mining business to the buyer with actual intent to hinder, delay, or defraud the lessor.

The court pointed to the factors in this case that show this intent to hinder, delay, or defraud under the UFTA: the buyer group knew that the seller was trying to delay paying the lessor; and there was an inside relationship between the buyer group and the seller; with the buyer group being under contract as the mining operator for the seller’s mining business, and Steve was the 80% principal of the buyer group while his son Steve, was the president of the seller. This was enough even though the buyer paid a reasonably equivalent value for the mining business.

This case is referred to as In Re Black Iron, LLC, Bankruptcy No. 17-24816, Consolidated With Adv. Pro. No. 17-2088, Adv. Pro. No. 17-2094, United States Bankruptcy Court, D. Utah (August 30, 2019)  

Comment

The Uniform Fraudulent Transfer Act has been renamed recently as the Uniform Voidable Transactions Act.

A buyer should be aware of the legal risks of buying the assets of a distressed business.  It may be liable for unassumed seller liabilities under various federal and state statutes; including the type involved in this case.

With 20/20 hindsight, the buyer should have consulted an insolvency lawyer about how to manage the legal risks of purchasing a distressed business; including the possibility of a purchase in bankruptcy.

By John McCauley: I help companies and their lawyers minimize legal risk associated with small U.S. business mergers and acquisitions (transaction value less than $50 million).

Email:             jmccauley@mk-law.com

Profile:            http://www.martindale.com/John-B-McCauley/176725-lawyer.htm

Telephone:      714 273-6291

 Legal Disclaimer

The blogs on this website are provided as a resource for general information for the public. The information on these web pages is not intended to serve as legal advice or as a guarantee, warranty or prediction regarding the outcome of any particular legal matter. The information on these web pages is subject to change at any time and may be incomplete and/or may contain errors. You should not rely on these pages without first consulting a qualified attorney.

Posted in hinder, delay or defraud, insider, reasonably equivalent value, successor liability, Uniform Fraudulent Transfer Act or Uniform Voidable Transfer Act Tagged with: , , , ,

Court Voided Board Approval of Book Value Stock Issuance to Director

Introduction

The founder of a company often wants to pass the business on to his kids when he or she is ready to slow down. The founder also often wants to control the business after the transfer. That is what happened here.

The deal

The founder built, owned and operated a Dodge, Chrysler and a Toyota car dealership, based in Texas. One of the founder’s sons was active in running the family business.

Eventually, the founder started to shift control of the business to his son. Each dealership was operated out of a separate limited partnership. There were two related limited partnership that held dealership real estate.

The general partner and manager of each limited partnership was a corporation. The son owned all 1,000 issued and outstanding shares of this management company. However, the founder held a proxy to vote his son’s shares and thus, dad was the sole director and president of the management company. The son’s shares had no preemptive rights; meaning that he had no right to purchase additional shares to prevent dilution of his 100% stock interest.

The founder and son had a falling out and shortly before his death the founder as sole director of the management company authorized the issuance to him of 1,100 shares of the management company’s stock for $3.2 million. The price was determined by the founder’s accountant based upon the company’s book value. The company was worth substantially more than book value.

The lawsuit

The son learned of the 1,100 shares stock issuance to his father after his dad died. The son then asked a Texas court to void the 1,100 shares stock issuance, claiming that his dad, as sole director, breached his fiduciary duty under Texas corporate law that he owed to his son, as shareholder, by approving the issuance of stock to the father at book value.

The son was successful. On appeal the court noted that the transaction would have been legal had it been fair to the son, even though the father was self-dealing. But a book value purchase price was too low and thus not fair.

This case is referred to as In the Matter of the Estate of Poe, No. 08-18-00015-CV, Court of Appeals of Texas, Eighth District, El Paso (August 28, 2019)  

Comment

The court noted that the son “presented testimony criticizing the use of book value. For instance, … (the founder’s accountant) … spent about an hour calculating the stock price based on book value, while a fair market value determination would have taken four to six weeks.”

There are several ways to manage the risk that a stock deal between a company and one of its directors will hold up under legal scrutiny. One way is to have a credible valuation of the transaction by an independent valuation consultant with experience in valuing the business involved and a good reputation in the industry.

By John McCauley: I help companies and their lawyers minimize legal risk associated with small U.S. business mergers and acquisitions (transaction value less than $50 million).

Email:             jmccauley@mk-law.com

Profile:            http://www.martindale.com/John-B-McCauley/176725-lawyer.htm

Telephone:      714 273-6291

 Legal Disclaimer

The blogs on this website are provided as a resource for general information for the public. The information on these web pages is not intended to serve as legal advice or as a guarantee, warranty or prediction regarding the outcome of any particular legal matter. The information on these web pages is subject to change at any time and may be incomplete and/or may contain errors. You should not rely on these pages without first consulting a qualified attorney.

Posted in doing deal with company's officer or director, fair insider deal Tagged with: , ,

Buyer and Seller Litigate Accountant Selection for Working Capital Calculation Dispute

Introduction

The amount of the purchase price in a business acquisition is often finetuned in the purchase agreement by a working capital mechanism; where the working capital at closing is calculated after the closing.

The deal

That was the case in this $1.25 million asset acquisition of a contract manufacturing, industrial fabrication and related installation services business. The APA had a closing working capital purchase price adjustment mechanism.

The provision required the buyer to make the calculation after the closing. If the seller disputed it then the dispute would be decided by an independent accountant. The accountant would be selected by mutual agreement of the buyer and the seller at that time.

The lawsuit

After the closing the buyer calculated an amount of closing working capital that would result in an upward purchase price adjustment of $82K. The seller disputed it and the parties could not agree upon an accountant to resolve the dispute.

So, the dispute boiled over into a Pennsylvania trial court and then an intermediate appellate court; which described the litigation aslong, tortured and, at times, convoluted.” In the end the appellate court ordered the trial court to transfer the dispute for resolution to an independent accountant.

This case is referred to as TTSP Corporation v. Rose Corporation, No. 1498 MDA 2018, Superior Court of Pennsylvania (Filed: August 27, 2019)  

Comment

This deal closed almost 3 years ago, and the battle is still not over. An alternative dispute resolution of a purchase price adjustment by an accountant might have resolved this dispute much earlier had the buyer and seller named the accounting firm in the APA. Leaving the selection of the accountant to the agreement of the parties after a dispute breaks out cost the buyer and seller unnecessary expenditures of time, stress and money.

Best to identify the accounting firm to resolve the purchase price adjustment calculation in the acquisition agreement.

By John McCauley: I help companies and their lawyers minimize legal risk associated with small U.S. business mergers and acquisitions (transaction value less than $50 million).

Email:             jmccauley@mk-law.com

Profile:            http://www.martindale.com/John-B-McCauley/176725-lawyer.htm

Telephone:      714 273-6291

 Legal Disclaimer

The blogs on this website are provided as a resource for general information for the public. The information on these web pages is not intended to serve as legal advice or as a guarantee, warranty or prediction regarding the outcome of any particular legal matter. The information on these web pages is subject to change at any time and may be incomplete and/or may contain errors. You should not rely on these pages without first consulting a qualified attorney.

Posted in dispute resolution procedure, purchase price, working capital adjustment Tagged with:

Court Greenlights Business Asset Buyer’s Fraudulent Inducement Claim Re 2-Year Noncompete Term

Introduction

Sometimes being a good guy in an M&A deal can come back to bite you. If the buyer’s allegations are true, then this feels like a no good deed goes unpunished story.

The deal

Here, both the buyer and seller were in the customer printing business. The seller’s founder and owner told the buyer that he wanted “to exit the custom folder printing business forever because they saw no future in the business”.

The buyer purchased the business from the seller for approximately $15 million. The deal was done through an asset purchase agreement.

The seller’s owner and seller gave the buyer a 2 year noncompetition covenant; short but the buyer felt ok given that the seller and its owner were getting out of the custom printing business.  Also, the buyer leased the seller’s customer printing facility for 2 years from an LLC owned by the Seller’s owner.

The lawsuit

Things went well for about 21 months. Then the seller’s owner told the buyer that it was not going to renew the 2 year lease and that the buyer was going to have to vacate the premise.

The buyer vacated the premises. After that the seller’s owner relaunched a custom printing business out of his old facility; and it was after the expiration of the two year noncompetition covenant term.

The buyer sued the seller and its owner in an Omaha federal district court. One of its claims was for fraudulent inducement. The buyer claimed that it agreed to a short 2 year noncompetition term because the seller’s owner had said that he was getting out of the customer printing business forever.

The buyer claimed that it would never have paid $15 million for the business with a 2 year noncompetition covenant had it known that the seller’s owner’s true intent was to pay off his crushing debt with the $15 million purchase price and then relaunch the business after the 2 year noncompetition covenant term expired.

The court agreed with the buyer: “The Court concludes that … (the buyer) … has stated a claim for fraudulent inducement. Assuming … (the buyer’s) … allegations are true, the operative complaint contends that … (seller and its owner) … committed fraud by ‘falsely representing that they desired to exit the custom folder printing business forever because they saw no future in the business’ when … (their) … ‘true intent was to generate funds to pay down crushing debt… (they) … had accumulated and then to reenter the business in direct competition’ … Relying on … (their) … representation, … (the buyer) … agreed to a short, two-year restrictive covenant and paid… (the seller) … for its printing business. … As a result of that conduct, … (the buyer) … was damaged.”

This case is referred to as Crabar/GBF, Inc. v. Wright, No. 8:16-CV-537, United States District Court, D. Nebraska (August 26, 2019)  

Comment

With 20/20 hindsight, the buyer would want a four or five year noncompetition covenant term.

By John McCauley: I help companies and their lawyers minimize legal risk associated with small U.S. business mergers and acquisitions (transaction value less than $50 million).

Email:             jmccauley@mk-law.com

Profile:            http://www.martindale.com/John-B-McCauley/176725-lawyer.htm

Telephone:      714 273-6291

 Legal Disclaimer

The blogs on this website are provided as a resource for general information for the public. The information on these web pages is not intended to serve as legal advice or as a guarantee, warranty or prediction regarding the outcome of any particular legal matter. The information on these web pages is subject to change at any time and may be incomplete and/or may contain errors. You should not rely on these pages without first consulting a qualified attorney.

Posted in covenant not to compete, fraudulent inducement, noncompetition covenant term Tagged with:

Court Finds No De Facto Merger in Purchase of Bankrupt’s Intangibles-IP

Introduction

Buyers of manufacturing businesses must always assess product liability risks. Even when buying the assets of the business as opposed to the stock (or LLC membership interests).

The deal

Here, the manufacturing company in this case made lathes. It eventually filed for bankruptcy and its assets were sold to another company.

That company sold the manufacturer’s intangible assets (pricing and customer information as well as intellectual property such as know-how) to the buyer.

The buyer builds machines for a variety of industrial applications; and manufactures and services parts for machines made by other companies, including machines originally made by the manufacturer.

The lawsuit

The manufacturer had sold a lathe to a customer before the bankruptcy. An employee of the customer was injured when a piece of metal was released from a lathe manufactured and designed by the manufacturer.

The injured employee could not find the manufacturer and sued the buyer which ended up in an Oklahoma federal district court; claiming that the buyer was a successor to the manufacturer under Ohio’s de facto merger successor liability doctrine.

The plaintiff argued that it had acquired not only the manufacturer’s intangible assets (including its intellectual property) but also on its website held itself out to be the manufacture using such words as “we are” the manufacturer and “as” the manufacturer. The buyer responded that it made such assertions for many legacy companies, not just the manufacturer; but that it does not claim actual ownership of these legacy companies.

The court rejected the de facto merger claim, because the buyer did not buy the manufacturer’s “brick and mortar office, as well as its inventory.”

This case is referred to as Sowell v. Bourn & Koch, Inc., Case No. 18-CV-0320-CVE-FHM, United States District Court, N.D. Oklahoma (August 15, 2019)  

Comment

A de facto merger is a stretch in any case where there is no common ownership between the seller and the buyer. And even the product line exception to the successor liability doctrine requires that the buyer acquire substantially all of the seller’s assets; which apparently did not happen in this case.

By John McCauley: I help companies and their lawyers minimize legal risk associated with small U.S. business mergers and acquisitions (transaction value less than $50 million).

Email:             jmccauley@mk-law.com

Profile:            http://www.martindale.com/John-B-McCauley/176725-lawyer.htm

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