Asset Buyer Fights Customer Claim Based Upon Unassumed Seller Contract

Introduction

A buyer and seller agree to a price for the sale of the seller’s company. Then the buyer gets his or her adviser involved to iron out the details.

One of those details is whether the transaction will be a sale of the assets of the target or a sale of the target itself (for example the sale of stock if the target is a corporation).  Does it matter?

Well, there may be contracts the target has with customers, suppliers, employees, lenders and investors. The adviser explains that if the buyer purchases target assets, the buyer can pick and choose which contracts the buyer wants to buy or assume.

There may be some contracts that the buyer does not want. For example, the buyer may not like the terms that the target has with a major customer; and so, in an asset deal the buyer would not buy or assume that customer contract; and try to cut a new deal with the customer if the buyer can.

In contrast in a stock deal, the buyer inherits all the target’s contracts because it bought the company, not some of the target’s assets.

So, does the asset buyer have any risk under the unassumed customer contract after the asset deal closes? Usually not; but there are exceptions.

The deal

Our buyer bought the assets of a North Dakota based oil and gas drilling machinery company in 2011. One of the assets was a 2010 contract seller had with its largest customer. The customer contract with the seller stated that the seller could not assign the contract to the buyer without the customer’s consent.

Nevertheless, the seller had agreed that if consent was not obtained it would work with the buyer after the closing to permit the buyer to keep the customer’s business; even if the seller had to use the buyer to service the customer through a subcontract.

In the end, the buyer did not obtain the customer’s consent but continued to service the customer without the help of the seller; but using the seller’s tradename in its dealings with the customer; which it had purchased in the deal.

The lawsuit

In 2012, one of the buyer’s employees was injured while performing work for the customer. The employee’s right to compensation from the buyer was limited by North Dakota’s worker’s compensation laws.

The injured employee therefore sued the customer for negligence. The customer turned around and sued the buyer for indemnification. The customer claimed that the seller had agreed to indemnify the customer for this accident under their 2010 contract; and that the buyer had assumed seller’s indemnification obligation.

The buyer claimed that it was not responsible to the customer because the buyer did not assume the 2010 contract that the seller had with the customer; and especially because the customer had not consented to the assignment.

The customer said that it consented after the lawsuit and that was good enough; especially because the buyer continued to service the customer after the closing using the seller’s trade name.

The court held that this dispute could not be decided at this preliminary stage of the litigation. Meaning, that the buyer ultimately may have to indemnify the customer.

This case is referred to Peterson v. Murex Petroleum Corporation, Case No. 1:17-cv-165, United States District Court, D. North Dakota, (April 25, 2019)

Comment

The takeaway here is that an asset buyer may be stuck with a seller’s contract even if consent is required by the other party to the contract; and not given. In this case, it may turn out that the buyer’s post-closing conduct of servicing the customer under the seller’s tradename; and perhaps the customer’s acceptance of those services established a legal assignment of the contract.

But what could have the buyer done to avoid this litigation with 20/20 hindsight? Well the buyer could have negotiated a new contract with the customer that would have yielded a more favorable indemnification provision.

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

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Posted in asset purchase agreement, assignment of contracts, assumed liabilities, assumption of a contract, consent to assignment, due diligence Tagged with: , , ,

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