Monthly Financial Statements Not Covered by Financial Representation Covered by Books & Records Representation

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Introduction

In mergers and acquisitions agreements, the seller generally represents and warrants that the target’s financial statements for its most recent fiscal year and its most recent interim financial statements are accurate and complete, consistent with operations, and prepared in according generally accepted accounting principles, consistently applied. The seller also represents and warrants in a separate provision that the target’s books and records are complete and correct.

The deal

This case involved the $224 million stock acquisition of an information services company from the sellers, father and son.

The lawsuit

After the closing the buyer claimed that the target had significantly overstated revenue in monthly financial statements that the sellers furnished the buyer which buyer reviewed before buying the company. These financial statements were not covered in the financial statement representation and warranty given by the sellers to the buyer.

Nevertheless, the buyer, in its Delaware lawsuit claimed that these monthly financial statements were covered by the representation and warranty of the sellers that the target’s books and records were accurate and complete.

The sellers denied liability claiming that the monthly financial statements were not “books and records” within the meaning of the books and records representation and warranty and could only be covered under their financial statement representation and warranty. The sellers argued that since their financial statement representation and warranty applied only to specifically enumerated financial statements and that the monthly financial statements were not included as part of the enumerated financial statements covered by the financial statement representation and warranty.

The Delaware Court of Chancery rejected the sellers’ argument: “I conclude … (the books and record representation and warranty) … covers the Monthly Financials to the extent the Monthly Financials are not included in … (the financial statements representation and warranty’s) … more specific representations. Consistent with foundational principles of contract interpretation, this construction harmonizes and gives meaning to both provisions at issue, obviating any need to prefer one over the other.”

This case is referred to as Hill v. LW Buyer, LLC., C.A. No. 2017-0591-MTZ, Court of Chancery of Delaware (Decided: July 31, 2019)  

Comment

This is not a surprising holding. The financial statement representation and warranty and the books and records representation and warranty both say that the covered material is correct and complete. But the financial statements representation and warranty goes farther saying that specified financial statements were also prepared according to GAAP, consistently applied.

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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