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July 06, 2021 Articles

COVID-19 Pandemic: Material Adverse Effects and Covenant Compliance under Delaware Law

Considerations for acquirers and target companies in the post–COVID-19 era

By Travis S. Hunter and Renée Mosley Delcollo

It has been more than a year since national, state, and local governments began issuing emergency orders to control the spread of the COVID-19 pandemic, effectively shuttering large swaths of the economy in the interest of public safety. As a result of these measures, numerous companies, particularly (but by no means exclusively) those whose businesses are most vulnerable to restrictions on public gatherings and shelter-in-place orders, have suffered and continue to suffer significant financial consequences, as well as operational challenges. During the past year, the amount of merger and acquisition litigation over material adverse effect (MAE) clauses and related contractual covenants, including the target’s obligation to operate in the ordinary course of business, has increased substantially as buyers evaluate, from a post-lockdown vantage point, pending deals that were struck in a pre-pandemic era. Although many of these cases are still pending or have been resolved (either through settlement or dismissal on other grounds), a review of the relevant case law, both before and after the COVID-19 era, is instructive and provides substantial guidance as to how the courts may resolve particular disputes.

Enforcement of MAE Clauses in Delaware Before COVID-19

Historically, a buyer seeking to invoke an MAE clause to excuse its obligation to close a merger and acquisition transaction governed by Delaware law has been viewed as facing a nearly insurmountable hurdle. See, e.g., Hexion Specialty Chems., Inc. v. Huntsman Corp., 965 A.2d 715 (Del. Ch. 2008) (rejecting acquirer’s arguments that the deteriorating financial situation of the target constituted an MAE). Indeed, under Delaware law, “a buyer faces a heavy burden when it attempts to invoke a material adverse effect clause in order to avoid its obligation to close.” Id. Delaware courts have held that MAE clauses should be seen as providing a “backstop protecting the acquirer from the occurrence of unknown events that substantially threaten the overall earnings potential of the target in a durationally-significant manner. A short-term hiccup in earnings should not suffice; rather [an adverse change] should be material when viewed from the longer-term perspective of a reasonable acquirer.” Id. (internal quotation marks and citations omitted).

There is only one case in which a Delaware court allowed a buyer to terminate a merger agreement after the occurrence of a material adverse effect. Akorn, Inc. v. Fresenius Kabi AG, 2018 WL 4719347 (Del. Ch. Oct. 1, 2018). The dispute in Akorn arose from Fresenius Kabi AG’s agreement to acquire Akorn, Inc., wherein Akorn made extensive representations about its compliance with applicable regulatory requirements and committed to use commercially reasonable efforts to operate in the ordinary course of business between signing and closing. The merger agreement did not provide Fresenius with an independent right to terminate the agreement upon a general material adverse effect, but it entitled Fresenius to refuse to close the merger on that basis. Shortly after the agreement was executed, “Akorn’s business performance fell off a cliff” due largely to unexpected competition and the loss of a key contract. Id. at *1. In addition, Fresenius received a series of letters from anonymous whistleblowers concerning Akorn’s alleged failure to comply with regulatory requirements. After an investigation into the compliance issues, Fresenius gave notice that it was terminating the merger agreement with Akorn. Akorn responded by filing the instant action, arguing, inter alia, that Fresenius’s attempt to terminate was invalid under the merger agreement.

Comparing Fresenius’s decision with those made in prior cases, the Delaware Court of Chancery noted that it has “correctly criticized buyers who agreed to acquisitions, only to have second thoughts after cyclical trends or industrywide effects negatively impacted their own businesses, and who then filed litigation in an effort to escape their agreements without consulting with the sellers.” Id. at *3. The court, however, reasoned that this case was “markedly different” because “[a]ny second thoughts that Fresenius had about the Merger Agreement were justified by unexpected events at Akorn.” Id.

The court ruled in favor of Fresenius, finding that it had validly terminated the merger agreement for several reasons. First, the court found that Akorn’s compliance representations were not true and correct and that the magnitude of the inaccuracies would reasonably be expected to result in a material adverse effect. Second, Akorn materially breached its obligation to continue operating in the ordinary course of business between signing and closing. Last, Fresenius had properly relied on the fact that Akorn suffered a material adverse effect as a basis for refusing to close.

On appeal, the Delaware Supreme Court affirmed the Court of Chancery’s opinion, concluding that (i) Akorn had suffered a material adverse effect, excusing Fresenius from its obligation to close the merger, and (ii) Fresenius had properly terminated the merger agreement due to Akorn’s breach of regulatory representations and warranties, giving rise to a material adverse effect. Akorn, Inc. v. Fresenius Kabi AG, 198 A.3d 724 (Del. 2018).

Recent Delaware MAE Cases in the Wake of COVID-19

While the number of cases seeking to invoke MAE clauses during the pandemic increased, the case law addressing whether effects arising out of COVID-19 constitute an MAE has not yet been fully developed. Indeed, many cases are still pending, have been resolved though settlement, or were decided on other grounds. See, e.g., Realogy Holdings Corp. v. SIRVA Worldwide, No. CV 2020-0311-MTZ, 2020 WL 4559519, at *5 (Del. Ch. Aug. 7, 2020) (noting that dismissal was a “matter-of-law determination” and the motion to dismiss “ha[d] nothing to do with the MAE issues in the case”).            

In one recent case, however, the Delaware Court of Chancery found that the COVID-19 pandemic fell within an exception to a purchase agreement’s MAE definition for “natural disasters and calamities.” AB Stable VIII LLC v. MAPS Hotels & Resorts One LLC, No. CV 2020-0310-JTL, 2020 WL 7024929, at *1–2 (Del. Ch. Nov. 30, 2020). In AB Stable, the buyer, MAPS Hotel and Resorts One LLC, agreed to purchase a company that owned multiple luxury hotels. The purchase agreement contained a bring-down condition, which provided that MAPS was not obligated to close if seller AB Stable’s representations were not true and correct as of the closing date, unless “the failure to be so true and correct . . . would not, individually or in the aggregate, reasonably be expected to have a Material Adverse Effect.” Id. at *52. The MAE definition “follow[ed] standard form, consisting of an initial definition followed by a series of exceptions,” one of which was for “natural disasters and calamities.” Id. at *48. MAPS argued that the target suffered an MAE as a result of the pandemic. Id. at *2. The Court of Chancery held that “[u]nder a plain reading of the MAE Definition, the exception for ‘calamities’ encompasses the effects that resulted from the COVID-19 pandemic, excluding the pandemic’s effects from the MAE Definition.” Id. at *57. In so holding, the court determined that the bring-down condition did not fail due to the no-MAE representation becoming inaccurate.

Although the court concluded that effects arising out of the pandemic were within the MAE clause’s exception for “calamities,” it nevertheless relieved MAPS of its obligation to close because the “extraordinary” changes in the target’s business operations resulted in a material violation of its covenant to operate in the ordinary course. Id. at *75.


The COVID-19 pandemic continues to present challenges for businesses worldwide. The materiality of these challenges in merger and acquisition deals remains a question in many pending suits in Delaware. Whether an MAE clause is triggered will be largely fact-specific; however, it is clear that sellers, through careful drafting, should be able to protect their deals by including exceptions for the COVID-19 pandemic (and related effects, along with other types of “calamities”) to the transaction agreement’s MAE clause. Similarly, sellers should seek protection against claims that they have breached their covenants by resisting flat “ordinary course covenants” (as opposed to covenants qualified with efforts standards, such as an obligation to use commercially reasonable efforts to operate in the ordinary course) and by seeking to provide expressly that actions taken in response to or arising out of COVID-19 measures shall be deemed not to constitute a breach of specified covenants.

Travis S. Hunter is a director and Renée Mosley Delcollo is an associate of Richards, Layton & Finger, P.A., in Wilmington, Delaware.

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