Not All Financial Disputes Belong in Your M&A Purchase Price Adjustment

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Not every M&A financial dispute belongs in a purchase price adjustment. Discover why the Delaware Court of Chancery differentiated between accounting methodology and factual inaccuracies in a recent case, shifting millions. This post illuminates how precise contract drafting regarding PPA expert scope versus R&W indemnification is crucial for buyers, sellers, and advisors in lower middle market private deals, ensuring disputes are handled in the right forum to protect your negotiated deal terms.

M&A Stories

June 13, 2025

While accurately defining accounting methodologies for purchase price adjustments (PPAs) is paramount, another layer of complexity can arise when financial inaccuracies extend beyond mere accounting interpretation into questions of factual validity. This distinction often trips up less experienced practitioners, yet it carries significant implications for who resolves a dispute and under what terms.

This precise challenge surfaced recently in a Delaware Court of Chancery case involving the acquisition of a data center company by a Bitcoin mining company. A key part of their deal involved a PPA tied to the target company’s closing indebtedness and net working capital. To resolve potential disagreements over the exact amount of indebtedness and net working capital, the parties agreed to submit any disputes to an independent accounting expert for a binding determination.

A significant disagreement involved a $1.2 million receivable that the buyer claimed was not a genuine asset, having been double-billed to a customer whose prior payment had already satisfied the debt. The other concerned a nearly $3 million electricity bill that the seller believed was erroneously included in accounts payable, arguing it had already been settled or offset.

The buyer in this instance attempted to have these disputed amounts adjusted through the PPA process. However, the court unequivocally rejected this approach. Its reasoning was fundamental: these were not disputes about accounting methodology (how a specific accounting principle like GAAP should be applied). Instead, they were about the factual accuracy and validity of the underlying asset or liability. Was that $1.2 million truly owed? Did that $3 million truly represent an outstanding liability?

Such questions directly implicate a seller’s representations and warranties (R&Ws) within the stock purchase agreement. These are the seller’s contractual promises about the state of the business—for example, that all receivables are “bona fide” or that the list of liabilities is “complete and accurate.” When these promises prove to be untrue, it constitutes a breach of a representation.

The court emphasized that the accounting expert in a PPA is typically empowered only to apply accounting principles and calculate financial metrics. The expert does not act as an arbitrator to determine if a legal promise (an R&W) has been broken. Crucially, the stock purchase agreement in this case stipulated that indemnification was the “sole and exclusive remedy” for breaches of representations and warranties, and these indemnification claims were subject to a $2.7 million cap on liability. The court understood that allowing a factual R&W breach to be resolved through the uncapped PPA mechanism would undermine the fundamental risk allocation agreed upon by the sophisticated parties.

For legal advisors, this distinction is not a mere technicality; it is a critical aspect of deal architecture. The lesson is to draft the purchase agreement with precision, clearly delineating the scope of the PPA expert’s authority. This authority should generally be confined to mathematical accuracy and the application of defined accounting methodologies. Any dispute pertaining to the factual truthfulness, existence, or validity of an asset or liability that breaches a representation or warranty should be explicitly channeled to the indemnification provisions, complete with their agreed-upon caps, baskets, and survival periods. This clarity ensures that disputes are resolved in the intended forum, protecting the negotiated balance of risk and reward in the transaction.

See: Northern Data AG v. Riot Platforms, Inc., C.A. No. 2023-0650-LWW (Court of Chancery of Delaware 2025).

Thank you for reading this blog. If you have any questions, insights, or if you’d like to engage in a more detailed discussion on this matter, I invite you to reach out directly.

Feel free to send me an email. I value thoughtful discussions and am always open to connecting with business owners, management, as well as professionals who share an interest in the complexities of M&A law in lower middle market private target deals..

By John McCauley: I write about recent problems of buyers and sellers in lower middle market private target deals.

Email: jmccauley@mk-law.com

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

Telephone:      714 273-6291

Check out my books: Buying Established Business Assets: A Guide for Owners, https://www.amazon.com/dp/B09TJQ5CL5

and Advisors and Selling Established Business Assets: A Guide for Owners and Advisors, https://www.amazon.com/dp/B0BPTLZNRM

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 accounting methodology, PPA v indemnification, purchase price adjustment

GAAP or History? Don’t Leave Your M&A Purchase Price Adjustment to Chance M&A Stories

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Uncover how a $22 million M&A dispute hinged on a single accounting definition. This post dives into the critical challenge buyers, sellers, and advisors face when negotiating purchase price adjustments: should calculations follow GAAP or historical accounting practices? Learn how strategic contract drafting and pre-closing due diligence are essential to protect your deal’s value and avoid costly litigation in lower middle market private company acquisitions.

M&A Stories

June 12, 2025

In the acquisition of private lower middle market businesses, it’s standard practice for the purchase price to be adjusted after closing based on financial metrics like cash, indebtedness, or working capital. This mechanism is commonly known as a purchase price adjustment (PPA). A frequent source of contention between buyers and sellers arises when the buyer calculates these financial metrics using generally accepted accounting principles (GAAP), while the seller relies on its historical accounting practices. Without precise contractual language, this divergence can lead to significant post-closing disputes.

This precise challenge surfaced recently in a Delaware Court of Chancery case involving the acquisition of a data center company by a Bitcoin mining company. A key part of their deal involved a PPA tied to the target company’s closing indebtedness. To resolve potential disagreements over the exact amount of indebtedness, the parties wisely agreed to submit any disputes to an independent accounting expert for a binding determination.

The heart of the disagreement revolved around how to treat two large, up-front payments the data center company had received from customers before the closing. Historically, the target had treated these as recognized revenue, meaning they were not recorded as deferred revenue and, therefore, did not appear on its balance sheet as indebtedness. However, the stock purchase agreement stipulated that indebtedness for the purpose of calculating the PPA must be calculated “in accordance with GAAP” and also “consistent with the target’s historical accounting practices.”

Following the closing, the buyer asserted that, under GAAP, these up-front payments should have been classified as deferred revenue. This reclassification increased the target’s indebtedness by over $22 million, consequently reducing the purchase price by that same amount. The seller vehemently objected, contending that the calculation had to adhere to the target’s well-established historical accounting practices, which notably did not treat up-front customer payments as deferred revenue.

When the dispute went before the accounting expert, the expert sided with the buyer, determining that these up-front payments indeed constituted deferred revenue as required by GAAP. The seller subsequently challenged this decision in the Delaware Court of Chancery. The court affirmed the expert’s decision, clarifying that the accounting methodology outlined in the stock purchase agreement prioritized GAAP compliance. The court noted that the target’s historical accounting practices would not be followed for the PPA if they were found to be non-compliant with GAAP, as was determined in this instance.

The financial ramifications of this clarification were substantial. In this case, the court’s interpretation, which favored GAAP over the target’s historical accounting practices, shifted more than $22 million from the seller to the buyer. This outcome underscores the critical importance of absolute clarity in defining the accounting methodology for a PPA in an M&A agreement.

For sellers and their advisors, the lesson is not simply to insist on historical practices, but rather to strategically analyze which accounting standard—GAAP or the target’s historical practices—will yield the most favorable financial outcome for each specific PPA metric. Once that determination is made, the stock purchase agreement’s accounting methodology must explicitly define that preference, even if it means stating that historical practices will govern where they diverge from GAAP. This requires meticulous drafting that goes beyond general references and directly addresses how potential conflicts will be resolved. Conversely, buyers and their advisors benefit from equal clarity, ensuring that the acquired business’s financial position is valued according to agreed-upon and explicitly defined standards, avoiding unexpected liabilities. Precise contractual provisions, carefully negotiated during the pre-closing phase, are the best safeguard against such costly post-closing disputes.

See: Northern Data AG v. Riot Platforms, Inc., C.A. No. 2023-0650-LWW (Court of Chancery of Delaware 2025).

Thank you for reading this blog. If you have any questions, insights, or if you’d like to engage in a more detailed discussion on this matter, I invite you to reach out directly.

Feel free to send me an email. I value thoughtful discussions and am always open to connecting with business owners, management, as well as professionals who share an interest in the complexities of M&A law in lower middle market private target deals..

By John McCauley: I write about recent problems of buyers and sellers in lower middle market private target deals.

Email: jmccauley@mk-law.com

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

Telephone:      714 273-6291

Check out my books: Buying Established Business Assets: A Guide for Owners, https://www.amazon.com/dp/B09TJQ5CL5

and Advisors and Selling Established Business Assets: A Guide for Owners and Advisors, https://www.amazon.com/dp/B0BPTLZNRM

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 accounting methodology, purchase price adjustment Tagged with: , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , ,

Defining Ordinary Course A Crucial Carve-Out Lesson for M&A Buyers

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Learn how to avoid common M&A litigation pitfalls in carve-out transactions. This blog post unpacks a critical New York M&A case, revealing why precise contract drafting, especially for “ordinary course of business” clauses in carved-out segments, is vital for buyers. Discover actionable insights to minimize legal risks in your next lower middle market acquisition.

M&A Stories

June 11, 2025

Acquiring a carved-out segment of a larger business—whether it’s a specific division, product line, or a collection of assets like call centers—presents distinct challenges for buyers. A critical element in many acquisition agreements is the “ordinary course of business” provision, intended to ensure the target’s operations remain stable between a specified date (often the last fiscal year-end) and the deal’s closing. The subtlety, and often overlooked risk, in carve-outs lies in precisely defining which “business” must be conducted in the ordinary course. For the buyer’s protection, it should unequivocally refer to the carved-out segment, not the seller’s entire enterprise.

A recent New York appellate case underscores this precise point. The dispute arose from a seller’s sale of a carved-out segment comprising customer service call centers and their associated client contracts. After the transaction closed, the buyer initiated litigation, alleging that the seller had breached its promise to operate the business in the ordinary course by implementing a significant reduction in force within the acquired call center segment and by stalling advertising efforts.

The seller contended that such actions – reductions in force and advertising delays – were, in fact, routine practices for its business as a whole. Conversely, the buyer asserted that the specific call center segment it purchased had no historical precedent for such operational shifts. The New York appellate court, reviewing the matter, chose not to issue a summary judgment. It pointedly noted that the asset purchase agreement lacked a clear definition of what constituted “the business” for the purpose of the ordinary course provision. This ambiguity allowed the litigation to persist.

This case serves as a sharp reminder for even the most sophisticated M&A practitioners: boilerplate contractual provisions, particularly those pertaining to the ordinary course of business, demand careful customization when transitioning from a full enterprise acquisition to a carve-out. Had the buyer in this instance explicitly defined “business” within the ordinary course clause to refer solely to the call center carved-out segment, it likely would have avoided the protracted and costly litigation. Without such precise language, a seller can reasonably argue that “business” encompasses its broader corporate operations, creating a significant and preventable risk for the buyer.

See: Skyview Capital, LLC v. Conduent Business Servs., LLC, 2025 NY Slip Op 3291 (Appellate Division of the Supreme Court of New York, First Department 2025).

Thank you for reading this blog. If you have any questions, insights, or if you’d like to engage in a more detailed discussion on this matter, I invite you to reach out directly.

Feel free to send me an email. I value thoughtful discussions and am always open to connecting with business owners, management, as well as professionals who share an interest in the complexities of M&A law in lower middle market private target deals..

By John McCauley: I write about recent problems of buyers and sellers in lower middle market private target deals.

Email: jmccauley@mk-law.com

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

Telephone:      714 273-6291

Check out my books: Buying Established Business Assets: A Guide for Owners, https://www.amazon.com/dp/B09TJQ5CL5

and Advisors and Selling Established Business Assets: A Guide for Owners and Advisors, https://www.amazon.com/dp/B0BPTLZNRM

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 ordinary course of business Tagged with: , , , , , , , , , , , , , , , , , , , , , , , , , , , ,

Navigating M&A Disputes Ensure Your Forum Selection Clause Doesn’t Undermine Arbitration

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Discover how unharmonized arbitration clauses with forum selection clauses in M&A agreements create costly litigation. This post analyzes a recent Fifth Circuit case to show lower middle market buyers, sellers, and their advisors how precise pre-closing drafting of these provisions can prevent procedural battles, protect deal value, and ensure disputes are resolved as intended. Learn to avoid common pitfalls in M&A contract negotiation.

M&A Stories

June 10, 2025

Lower middle market M&A transactions frequently incorporate arbitration, often utilizing an independent accountant or industry expert, to efficiently resolve financial disagreements such as earnout calculations and purchase price adjustments. While intended to provide a clear path for dispute resolution, the reality can sometimes diverge, leading one party to attempt to force the dispute into a courtroom.

A recent federal Fifth Circuit case, Odom Industries, Inc. v. Sipcam Agro Solutions, LLC, offers a pertinent illustration of how contractual language can create unforeseen procedural battles. In this instance, a seller of business assets initiated a lawsuit in a Mississippi state court, despite an Asset Purchase Agreement that stipulated all disputes were to be resolved through arbitration. Complicating matters, the agreement also contained a forum selection clause which asserted that, “notwithstanding” the arbitration provision, any “suit or proceeding” related to the asset purchase agreement must be filed in a specified Mississippi state court.

The buyer, upon being sued, removed the case to federal district court in Mississippi and promptly moved to compel arbitration. However, the seller successfully persuaded the federal district court that the forum selection clause necessitated the state court’s determination of the arbitration request. The district court concurred, remanding the case to state court and prompting the buyer’s appeal to the Fifth Circuit.

The Fifth Circuit reversed this decision. It clarified that, under the Federal Arbitration Act (FAA), a federal district court is obligated to address a motion to compel arbitration before considering a remand based on a forum selection clause, especially when federal jurisdiction is not in question. The appellate court sent the case back to the federal district court for it to properly make that determination.

While the federal district court is now likely to compel arbitration, given the FAA’s strong preference for it, this scenario highlights a crucial pre-closing lesson. The dispute in Odom Industries over where to dispute, which led to costly and time-consuming procedural delays, could have been entirely avoided. This actionable risk arises when an agreement’s forum selection clause, like the one in Odom, broadly states that “any suit or proceeding” must be filed in a specific court, even in the presence of an arbitration provision. To mitigate this, advisors should ensure the forum selection clause is carefully drafted to expressly apply only to litigation that is not subject to arbitration under the agreement’s arbitration provision. This precise contractual language is a vital, yet often overlooked, pre-closing legal risk management tool that can prevent future litigation headaches and preserve deal value.

See: Odom Industries, Inc. v. Sipcam Agro Solutions, LLC, No. 24-60410 (5th Cir. 2025)

Thank you for reading this blog. If you have any questions, insights, or if you’d like to engage in a more detailed discussion on this matter, I invite you to reach out directly.

Feel free to send me an email. I value thoughtful discussions and am always open to connecting with business owners, management, as well as professionals who share an interest in the complexities of M&A law in lower middle market private target deals..

By John McCauley: I write about recent problems of buyers and sellers in lower middle market private target deals.

Email: jmccauley@mk-law.com

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

Telephone:      714 273-6291

Check out my books: Buying Established Business Assets: A Guide for Owners, https://www.amazon.com/dp/B09TJQ5CL5

and Advisors and Selling Established Business Assets: A Guide for Owners and Advisors, https://www.amazon.com/dp/B0BPTLZNRM

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 arbitration, dispute resolution provision, problems with forum selection clauses Tagged with: , , , , , , , , , , , , , , , , , , , , , , , ,

Mastering the Hybrid Noncompete A Perilous Path in M&A

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Unlock the hidden risks of hybrid noncompetes in M&A deals where sellers stay on. This essential guide for buyers, sellers, and advisors reveals why combined restrictive covenants often fail in court and how strategic pre-closing legal structuring can protect your investment and prevent costly litigation. Learn from a recent 8th Circuit case how to draft effective noncompetes for private target acquisitions.

M&A Stories

June 05, 2025

It’s common practice in lower middle market acquisitions for the seller-owner to transition into an employee role with the buyer after closing. Frequently, the noncompete covenant, intended to protect the acquired business, is structured to begin running from the later of the transaction’s closing date or the seller-owner’s subsequent termination of employment. This creates what is often termed a “hybrid” covenant, blending aspects of both a sale-of-business noncompete and an employment noncompete.

This blended approach introduces a significant risk for both parties. State laws frequently distinguish between these two types of covenants, generally viewing noncompetes designed to protect the goodwill acquired in a business sale more favorably than those arising solely from an employment relationship. Indeed, in some jurisdictions, such as California, employment noncompetes are broadly unenforceable.

A recent case from the Eighth Circuit Court of Appeals illustrates this very problem. In 2013, a buyer acquired an Arkansas business specializing in video security equipment for school districts, a transaction valued at $1.9 million. As part of the deal, the seller-owner agreed to work for the buyer for an initial year, transitioning thereafter to an at-will employment arrangement. Critically, the noncompete clause stipulated that the seller-owner would not compete in Arkansas for five years, commencing from the later of the closing date or the termination of his employment.

The seller-owner continued working for the buyer for over eleven years. Upon his eventual termination, he promptly began competing with the buyer. The buyer initiated litigation, and an Arkansas federal district court initially granted a preliminary injunction, temporarily barring the seller-owner from competition during the lawsuit. However, the seller-owner appealed, and the Eighth Circuit reversed this decision. The appellate court concluded that Arkansas law applies stricter scrutiny to employment noncompetes than to those integral to a business sale. In the court’s assessment, the covenant in question primarily functioned as an employment noncompete, and under established Arkansas precedent, a five-year term for such an agreement is considered unreasonable and, consequently, unenforceable.

The clear lesson for buyers, sellers, and their advisors is the importance of distinguishing between the sale-of-business and employment relationships when drafting restrictive covenants. What constitutes reasonable terms for protecting the acquired goodwill in a sale may be entirely different, and potentially unenforceable, when applied to a post-closing employment relationship.

To proactively mitigate this risk, parties should consider drafting a separate, distinct noncompete covenant specifically tied to the business sale. If permitted by applicable state law, a second, separate noncompete could then be included within the employment agreement to address the post-employment period. This structured approach allows both buyers and sellers to analyze the likely enforceability of each covenant independently, tailored to its specific purpose and the nuances of state law, thereby avoiding the ambiguity and litigation risk inherent in a single, undifferentiated hybrid noncompete.

See: Progressive Technologies, Inc. v. Chaffin Holdings, 33 F.4th 481 (8th Cir. 2022)

Thank you for reading this blog. If you have any questions, insights, or if you’d like to engage in a more detailed discussion on this matter, I invite you to reach out directly.

Feel free to send me an email. I value thoughtful discussions and am always open to connecting with business owners, management, as well as professionals who share an interest in the complexities of M&A law in lower middle market private target deals..

By John McCauley: I write about recent problems of buyers and sellers in lower middle market private target deals.

Email: jmccauley@mk-law.com

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

Telephone:      714 273-6291

Check out my books: Buying Established Business Assets: A Guide for Owners, https://www.amazon.com/dp/B09TJQ5CL5

and Advisors and Selling Established Business Assets: A Guide for Owners and Advisors, https://www.amazon.com/dp/B0BPTLZNRM

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, hybrid noncompetes Tagged with: , , , , , , , , , , , , , , , , , , , , ,

The De Facto Merger Trap Successor Liability in Equity Rollover Asset Acquisitions M&A Stories

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Navigate the often-unseen dangers of de facto merger in M&A asset acquisitions involving equity rollover. Discover how a recent court ruling reveals the critical need for proactive pre-closing measures to manage known seller liabilities, even when contractually excluded. This post offers essential insights for private equity buyers, sellers, and their advisors seeking to safeguard against unexpected successor liability in lower middle market transactions.

M&A Stories

June 04, 2025

Private equity firms frequently engage in asset acquisitions within the lower middle market, a strategy often favored for its ability to “cherry-pick” assets and explicitly exclude unwanted liabilities. A common and strategically beneficial feature in these deals is the inclusion of buyer equity, often structured as rollover equity for the seller. While effective for aligning interests and optimizing capital, this structural element introduces a significant, though well-understood, successor liability risk.

A recent Rhode Island Superior Court case, Great Point, Inc. v. NE Fibers, LLC, serves as a stark reminder of this exposure. In this instance, a seller, engaged in the production and sale of cellulose-based insulation, agreed to sell its assets for $48.5 million. A portion of this purchase price was paid in buyer parent stock. At the time of the transaction, the seller faced a claim from a sales representative for approximately $1 million in unpaid commissions. Despite the asset purchase agreement explicitly stating that the buyer would not assume this particular liability, the sales representative subsequently sued the buyer, asserting liability under the de facto merger doctrine.

The court granted summary judgment in favor of the sales representative, holding the buyer liable. The court’s decision underscored how the buyer’s continuity of the seller’s business operations, coupled with the inclusion of buyer parent stock as part of the purchase price, satisfied the criteria for a de facto merger. This outcome highlights that the economic substance of a transaction, particularly the continuity of ownership facilitated by equity rollover, can override the explicit contractual intent to exclude liabilities in an asset deal.

For PE buyers, where rollover equity is a common deal component, this case highlights a critical lesson. The mistake isn’t in understanding the de facto merger doctrine, but in relying solely on purchase agreement clauses to shed known seller liabilities when the deal otherwise resembles a merger. Even if the buyer aims to avoid specific known creditors, the court’s ruling demonstrates that simply listing liabilities as “non-assumed” is not a complete defense.

Minimizing this successor liability risk requires a direct approach. When seller equity rollover is part of the deal, buyers must ensure known liabilities are fully covered. For example, the approximately $1 million owed to the sales representative here could have been directly settled by the seller using proceeds at closing, or a specific $1 million escrow could have been established for the claim. This proactive step provides essential protection beyond what contractual language alone can provide.

In essence, while buyer equity offers strategic advantages, it demands vigilance. M&A teams must ensure that pre-closing measures are robust enough to address known liabilities that the asset purchase form cannot always contain.

See: Great Point, Inc. v. NE Fibers, LLC,  C.A. No. KC-2019-0705, Superior Court of Rhode Island, KENT, SC., (February 26, 2025).

Thank you for reading this blog. If you have any questions, insights, or if you’d like to engage in a more detailed discussion on this matter, I invite you to reach out directly.

Feel free to send me an email. I value thoughtful discussions and am always open to connecting with business owners, management, as well as professionals who share an interest in the complexities of M&A law in lower middle market private target deals..

By John McCauley: I write about recent problems of buyers and sellers in lower middle market private target deals.

Email: jmccauley@mk-law.com

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

Telephone:      714 273-6291

Check out my books: Buying Established Business Assets: A Guide for Owners, https://www.amazon.com/dp/B09TJQ5CL5

and Advisors and Selling Established Business Assets: A Guide for Owners and Advisors, https://www.amazon.com/dp/B0BPTLZNRM

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 buyer equity, problems with successor liability Tagged with: , , , , , , , , , , , , , , , , , , , , ,

In Asset Sales How to Preserve Your Right to Recover Damages from a Co-Owner’s Pre-Closing Misconduct

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For lower middle market M&A asset sales, learn a critical strategy to preserve seller owners’ rights to recover damages from pre-closing misconduct like fiduciary breaches or diverted opportunities. A recent Delaware case highlights how overlooked contract language can jeopardize these vital claims.

M&A Stories

May 29, 2025

In the intricate landscape of lower middle market M&A asset sales, the Asset Purchase Agreement (APA) meticulously defines what the buyer acquires and what the seller retains. Yet, a subtle but significant class of assets is often overlooked: claims stemming from pre-closing breaches of fiduciary duty, fraud, or the usurpation of business opportunities by seller owners. A recent Delaware Chancery Court decision offers a pointed illustration of how this oversight can lead to protracted and costly post-closing litigation among the seller owners themselves.

Consider a recent case involving the sale of a South Carolina-based manufacturer of high-density polyethylene conduit. The asset purchase agreement governing this transaction broadly stipulated that the buyer would acquire all assets integral to the seller’s business, including all claims against third parties relating to its operation.

The seller entity was owned by three principals. Just prior to the closing, one owner discovered that a co-owner had secretly established and held a stake in a competing entity, allegedly diverting business opportunities that should have belonged to the seller. Despite this revelation, the $25 million asset sale proceeded. Nearly a year later, the buyer acquired this competing entity for a substantial $91.6 million, vastly exceeding the initial purchase price of the first business.

Following the sale, the aggrieved co-owner initiated a lawsuit, both individually and on behalf of the original seller entity. The suit sought damages for the alleged breaches of fiduciary duty and the usurpation of business opportunities by the diverting co-owner. This litigation remains ongoing, and a pivotal legal question has emerged: there is a real possibility that the court will determine the original seller entity transferred to the buyer the very right to pursue these claims for damages against the diverting co-owner.

While it’s not uncommon for a co-owner’s actions to potentially diminish a business’s value, it’s equally common in asset sales for the seller’s rights to seek damages for such internal misconduct to inadvertently transfer to the buyer. This occurs when these claims aren’t explicitly designated as “excluded assets” in the APA.

In this particular case, the discovering co-owner was aware of the other’s competitive business before the closing. In hindsight, a critical pre-closing step would have been to insist on a precise expansion of the APA’s definition of excluded assets. This expanded definition should specifically encompass all claims among the seller owners and the seller entity for pre-closing breaches of fiduciary duty, fraud, or the usurpation of opportunity. Such a proactive measure is especially vital for private companies with co-owners or active non-owner officers, directors, or managers.

See: Baugh v. Ingle,  C.A. No. 2024-0460-LWW, Court of Chancery of Delaware, (May 21, 2025).

Thank you for reading this blog. If you have any questions, insights, or if you’d like to engage in a more detailed discussion on this matter, I invite you to reach out directly.

Feel free to send me an email. I value thoughtful discussions and am always open to connecting with business owners, management, as well as professionals who share an interest in the complexities of M&A law in lower middle market private target deals..

By John McCauley: I write about recent problems of buyers and sellers in lower middle market private target deals.

Email: jmccauley@mk-law.com

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

Telephone:      714 273-6291

Check out my books: Buying Established Business Assets: A Guide for Owners, https://www.amazon.com/dp/B09TJQ5CL5

and Advisors and Selling Established Business Assets: A Guide for Owners and Advisors, https://www.amazon.com/dp/B0BPTLZNRM

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 Excluded Assets Tagged with: , , , , , , , , , , , , , , , , , , , , , , , , , , ,

M&A Earnouts on Acquired Contracts: Guarding Against Hidden Termination Risks

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Protect M&A earnouts linked to acquired contracts. Understand how termination rights create hidden risks for seller payments and find pre-closing strategies for lower middle market deals.

M&A Stories

May 29, 2025

In lower middle market mergers and acquisitions, earnouts are frequently a critical component of transaction value, often directly tied to the revenue generated from the contracts being acquired. For sellers, these arrangements offer a path to maximize their return, while for buyers, they de-risk the initial investment and incentivize a smooth integration. Yet, a subtle, often overlooked risk can undermine a seller’s deferred compensation: the inherent termination rights embedded within the very contracts being acquired.

Consider a recent federal court case, Aiello v. Signature Commercial Solutions, LLC (D. Mass. 2025), which offers a pertinent illustration of this challenge. The seller, a cybersecurity staffing firm, structured a significant portion of its sales proceeds as an earnout directly tied to the revenue generated from its ongoing client and key employee contracts. These “collateral agreements” formed the operational backbone of the business and were transferred to the buyer as part of the asset purchase. Crucially, many of these underlying contracts permitted termination at will by the business. The asset purchase agreement itself was silent on any restrictions governing the buyer’s post-closing ability to terminate these specific revenue-generating agreements.

Five years after the acquisition closed, the buyer opted to terminate some of these client and employee contracts. The immediate consequence was the effective cessation of the earnout revenue stream flowing to the seller. Faced with this abrupt halt to their payments, the seller initiated litigation, challenging the buyer’s termination decisions and seeking damages. The buyer moved for summary judgment, asserting its right to terminate the contracts given their at-will nature and the absence of any express limitations within the asset purchase agreement.

The court, however, denied the buyer’s motion. It acknowledged that while the underlying contracts were indeed terminable, Florida law, which governed the asset purchase agreement, imposed an implied obligation of good faith and fair dealing on the buyer’s termination decision. The court concluded that a trial will be necessary to determine whether the buyer’s actions were undertaken in good faith, indicating that simply possessing a contractual right to terminate does not automatically grant immunity when that exercise fundamentally undermines the value of the earnout.

This case delivers a salient lesson for all parties involved in lower middle market transactions. For sellers, it underscores the vulnerability of earnouts predicated on customer or service contracts that can be terminated at will. Relying on a court to apply an “implied covenant” introduces significant uncertainty, cost, and delay.

The seller could clearly solve this problem by agreeing to a definite earnout period (none was mentioned in the case) and getting the buyer to agree in the asset purchase agreement not to terminate these contracts during the earnout period.

See: Aiello v. Signature Commercial Solutions, LLC,  Civil Action No. 23-11930-BEM, United States District Court, D. Massachusetts, (May 16, 2025).

Thank you for reading this blog. If you have any questions, insights, or if you’d like to engage in a more detailed discussion on this matter, I invite you to reach out directly.

Feel free to send me an email. I value thoughtful discussions and am always open to connecting with business owners, management, as well as professionals who share an interest in the complexities of M&A law in lower middle market private target deals.

By John McCauley: I write about recent problems of buyers and sellers in lower middle market private target deals.

Email: jmccauley@mk-law.com

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

Telephone:      714 273-6291

Check out my books: Buying Established Business Assets: A Guide for Owners, https://www.amazon.com/dp/B09TJQ5CL5

and Advisors and Selling Established Business Assets: A Guide for Owners and Advisors, https://www.amazon.com/dp/B0BPTLZNRM

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 earnout based upon revenue from at will contracts, problems with earnouts Tagged with: , , , , , , , , , , , , , , ,

Customer Due Diligence: Mitigating Concentration Risk in Lower Middle Market M&A

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Customer concentration risk in M&A demands scrutiny. Learn how deep due diligence can prevent costly fraud claims and litigation in lower middle market acquisitions, drawing lessons from a recent Delaware case.

M&A Stories

May 28, 2025

Acquiring a business with just a handful of key customers inherently carries greater risk than purchasing one with a broadly diversified revenue base. Effective customer due diligence, therefore, becomes paramount. It involves a meticulous review of seller records and, where feasible, direct confirmation of customer relationships with the seller’s account representatives and, ideally, the customers themselves.

A recent case before the Delaware Superior Court, Premier Technology Advisors, LLC v. Procure IT LLC, powerfully illustrates this point in the context of a technology advisory and management services acquisition. Following the closing, the buyer alleged the acquired business swiftly lost its three largest customers. This dramatic turn of events led to a fraud claim against the seller, asserting that critical information had been withheld. The buyer contended the seller failed to disclose its largest customer was in severe financial distress, that its second largest customer was actively planning not to renew its contract, and that an informal, yet crucial, commitment to its third largest customer (to provide a specific sales representative) was never revealed. When the buyer did not fulfill this unstated obligation post-closing, that customer also terminated its contract.

Significantly, the buyer’s fraud claim withstood a motion to dismiss, allowing the litigation to proceed. Yet, one must consider whether this costly and protracted legal battle could have been entirely averted. Had the buyer discovered the true state of affairs with these three pivotal accounts during its pre-closing due diligence, it might have approached the transaction very differently, potentially avoiding the lawsuit altogether.

While the specifics of the buyer’s actual due diligence remain undisclosed, the problems with these customers were likely discoverable. The key lies in moving beyond a superficial review and engaging in targeted examinations of seller records and direct conversations with key personnel.

To uncover issues with the financially distressed largest customer, due diligence should have included a granular review of the customer’s detailed Accounts Receivable (A/R) aging reports over the preceding 12 to 24 months, looking for persistent overdue balances. Examining the customer’s payment history ledgers would have revealed any pattern of late payments or non-payment. Furthermore, reviewing internal communications, such as emails or chat logs, with the customer’s finance or procurement teams could have provided direct evidence of financial distress or payment difficulties.

For the second largest customer, whose contract was not renewed, a careful review of the customer contract itself would have immediately highlighted the upcoming expiration date. This crucial discovery should then have prompted immediate discussions with the seller regarding the likelihood of renewal. If possible, a direct conversation with the customer, facilitated by the seller, would have been the ultimate validation of their future intentions.

The third customer’s issue stemmed from an informal commitment not explicitly captured in the formal contract. To uncover such hidden obligations, buyers should delve into Customer Relationship Management (CRM) system notes, which often contain detailed interactions, specific customer requests, and informal promises made by account managers or sales representatives. Similarly, reviewing internal project management system logs could reveal unbilled tasks, resource allocations, or specific personnel dedicated to that customer. Finally, a thorough review of internal communications (emails, chat logs) among the seller’s sales, operations, and account management teams about this customer might expose specific demands, resource assignments, or internal challenges in meeting expectations.

This case powerfully underscores the indispensable value of thorough due diligence in accurately assessing the stability and quality of customer relationships. It is inherently more advantageous for a buyer to negotiate a deal armed with a precise and unvarnished understanding of the customer base, rather than to rely on legal representations and warranties or, worse, complex fraud claims, to recover damages for overpaying for the business after closing.

See: Premier Technology Advisors, LLC v. Procure IT LLC,  C.A. No. N24C-01-212 VLM CCLD, Superior Court of Delaware, (November 15, 2024).

Thank you for reading this blog. If you have any questions, insights, or if you’d like to engage in a more detailed discussion on this matter, I invite you to reach out directly.

Feel free to send me an email. I value thoughtful discussions and am always open to connecting with business owners, management, as well as professionals who share an interest in the complexities of M&A law in lower middle market private target deals..

By John McCauley: I write about recent problems of buyers and sellers in lower middle market private target deals.

Email: jmccauley@mk-law.com

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

Telephone:      714 273-6291

Check out my books: Buying Established Business Assets: A Guide for Owners, https://www.amazon.com/dp/B09TJQ5CL5

and Advisors and Selling Established Business Assets: A Guide for Owners and Advisors, https://www.amazon.com/dp/B0BPTLZNRM

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 customer due diligence, problems with customers Tagged with: , , , , , , , , , , , , , , , , , , , , , , , ,

The Costly Impasse: M&A Litigation Arising from Unspecified Dispute Accountants

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Navigating M&A purchase price adjustments can be tricky. This blog post dissects a recent legal case highlighting a common pitfall in lower middle market deals: the failure to pre-select an accounting firm for working capital dispute resolution. Learn how this oversight led to costly litigation.

M&A Stories

May 15, 2025

It is common in M&A to adjust the purchase price based upon the net working capital as of a measurement date. The parties base the tentative purchase price upon the estimated net working capital and adjust the purchase price after the actual net working capital has been determined. Unfortunately, disputes over the final number are common. Usually, the final resolution is left up to an independent accounting firm.

Often, the parties identify the accounting firm that will make the final determination in the M&A agreement. But sometimes, the parties instead agree to mutually pick an accounting firm if they cannot agree upon the final number. This case illustrates how deferring the choice of an accounting firm until after a dispute breaks out may lead to unnecessary litigation.

This case involved the acquisition of maker of specialty paper products. The deal was structured as a merger and the purchase price was to be adjusted up or down based upon the difference between the estimated net working capital and the finally determined net working capital. Under the agreement, after closing, the buyer determines the final number, and if the seller disagrees, and they can’t resolve the dispute, the final determination is to be made by a nationally recognized neutral accounting firm, to be mutually selected by the buyer and the seller.

In this case the seller did not accept the buyer’s determination of the final number. Furthermore, the parties could not agree on an accounting firm. So, the case ended up in New York state court who ordered the parties to select an accounting firm from a court provided list, and if they can’t, the court would make the selection.

We don’t know why the parties did not identify an accounting firm in the merger agreement. Had they done so they would have saved substantial time and money in revolving this dispute. Parties should decide upon the accounting firm up front when relations are more cordial than after a dispute breaks out.

See: Matter of Decree-Crane Special Papers NA, LLC v. WP Strategic Holdings, LLC,  Index No. 912660-24, Supreme Court, Albany County, (April 16, 2025).

Thank you for reading this blog. If you have any questions, insights, or if you’d like to engage in a more detailed discussion on this matter, I invite you to reach out directly.

Feel free to send me an email. I value thoughtful discussions and am always open to connecting with business owners, management, as well as professionals who share an interest in the complexities of M&A law in lower middle market private target deals..

By John McCauley: I write about recent problems of buyers and sellers in lower middle market private target deals.

Email: jmccauley@mk-law.com

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

Telephone:      714 273-6291

Check out my books: Buying Established Business Assets: A Guide for Owners, https://www.amazon.com/dp/B09TJQ5CL5

and Advisors and Selling Established Business Assets: A Guide for Owners and Advisors, https://www.amazon.com/dp/B0BPTLZNRM

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 Accounting Firm Dispute Resolution Tagged with: , , , , , , , , , , , , , , , , , ,

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