Mergers and Acquisitions: The Perils of Breaking a Stock Purchase Agreement
At Swiecicki & Muskett, LLC, we often litigate interesting cases that illustrate just how important it is to follow the terms of a contract. One recent case involved our appeal of findings in favor of the seller of a business. We aimed to prove that the company breached its Stock Purchase Agreement (SPA) with the buyer, despite the original court ruling in the seller’s favor.
The case hinged on what is considered within the “ordinary course of business.” It provides a clear lesson for businesses on both sides of a buy/sell agreement that the terms of a contract must be followed exactly. Had the seller in this instance consulted with an attorney such as Swiecicki & Muskett, LLC, they would have likely stayed out of the courtroom.
A Summary of the Case
In January 2018, the CEO of a St. Louis-based software company sought to acquire a similar entity that he had co-founded (and for whom he had previously worked). For the sake of simplicity, we will call these two companies the Buyer and Seller.
A Stock Purchase Agreement was drafted and scheduled for signing in late March, with the sale set for March 31. This coincided with the company’s fiscal year-end. Between January and the March signing of the SPA, both parties performed due diligence and negotiated the terms.
One point of negotiations involved accounts receivable. The SPA indicated that any money collected on or before March 31 would belong to the Seller, and anything collected thereafter would belong to the Buyer.
When signed, the contract stated that the Seller had not engaged in any conduct outside the “ordinary course of business.” In particular, the Seller asserted that there had not been any attempt to accelerate the collection of any accounts receivable or to change the company’s cash management policies.
Upon learning that a $1 million invoice had been paid on March 26—just before the proceeds would be the property of the Buyer, the Buyer sued the Seller for breach of the SPA.
Important Dates for the Case
|Jan 31||Feb & Mar||Mar 23||Mar 26||Mar 31|
|Intent to purchase||Due diligence and negotiations||SPA signed||Invoice paid||Fiscal Year End
Sale is Final
Questionable Actions By the Seller
A customer paying an invoice that they owed would not be an issue—except for the circumstances surrounding this significant payment at this particular time. The Seller took actions that were not part of normal operations, resulting in receiving payment just in time to benefit the business.
Just two days before the SPA was to be signed, the Seller’s CEO contacted an account manager on the Professional Services team. He asked the manager if he knew how to check on the status of a payment. Not only was this something the CEO had never asked before, but it was also outside the account manager’s normal duties. He had no experience in accounts receivable operations and the company had an accountant who was in charge of all invoice collection.
The focus of the CEO’s request was a $1 million invoice owed by the company’s largest client, a major retail chain. The account manager accessed the client’s internal billing portal without the client’s knowledge to see if there were any payments scheduled. There were none. He felt pressured to get payment before the fiscal year ended on March 31. He subsequently emailed an invoice to the client and requested expedited payment.
The retailer paid the invoice on March 26, five days after receiving it. This was just five days before year-end and three days after the SPA was signed on March 23. This raised red flags for the Buyer. The client typically paid invoices late. In fact, there were several outstanding invoices that were older and for smaller amounts than the $1 million.
The Seller’s Argument
The Seller’s defense in the case boiled down to a few points. First, they argued that they did not intentionally make misrepresentations in the SPA. The company did not discuss the SPA with the CEO and he was apparently unaware of the contractual terms.
They also claimed that any actions taken by the CEO and the account manager happened before March 23 when the SPA was signed. Thus, the contract was non-existent at that time, so there was nothing to breach.
The Buyer’s Appeal
Swiecicki & Muskett, LLC set out to prove in the appeal that there was, indeed, a breach of the SPA. Our arguments for the Buyer are the following:
- Although the SPA was signed on March 23, both parties had been engaged in negotiations regarding accounts receivable and other matters since January 31. During that time, the Buyer had raised concerns about expediting collections.
- Regardless of whether or not the Seller told their CEO about the terms of the SPA, they retained the responsibility for any breach committed by any of their employees.
- The Seller’s president (who signed the SPA) praised the CEO for his efforts when the invoice was paid. The CEO was hired as VP of Sales and Business Development of the newly organized company after this deal was closed.
- Several actions were taken outside the scope of standard operating procedures:
- The CEO and accounts manager getting involved in accounts receivable collection
- The accounts manager accessing the client payment portal, sending an invoice, and contacting the client to request fast payment
- The client deviated from an established history of paying invoices much later
All of the above, in our opinion, indicates an intentional misrepresentation by the Seller, as the SPA clearly states that there would be no actions outside the ordinary course of business.
Avoiding Litigation in the First Place
Mergers and acquisitions involve complex contractual obligations for both buyers and sellers. When one party tries to bend the rules or blur their intentions, they risk ending up in court. Even an unintentional breach of a contract’s terms can stand in the way of a deal going through. It is costly and unproductive for all involved.
This is why it is best to have experienced merger and acquisition attorneys in your corner for all business negotiations. They will help you avoid inadvertently sabotaging the purchase or sale of a business, and represent you if the other party does not act in good faith.