Private Equity Law Review : New York Private Equity Lawyer & Attorney : Geoffrey Parnass : Corporate & Business Law

The Delaware Supreme Court recently sided with Blackstone in its dispute with Alliance Data Systems, affirming last January's ruling by Vice Chancellor Leo E. Strine, Jr. of the Delaware Chancery Court.  The ruling lets stand the dismissal of ADS's action against the Blackstone fund that sponsored the acquisition.  As you may recall, the deal failed to close after a federal bank agency required financial guarantees directly from the Blackstone fund.  ADS sued Blackstone for the $170 million reverse termination fee, contending that the Blackstone fund's failure to satisfy the demands of the regulatory agency required payment of the reverse termination fee.

 

The additional guarantees demanded by the bank agency were not covered by the letters that the Blackstone fund provided to ADS at the time the deal was signed  The letters covered only the reverse termination fee and the equity commitment.  As is typical in private equity transactions, the fund itself was on the hook for nothing more than this.

This structure is typical of private equity deals.  At least until recently, the target contracts with thinly capitalized shells created by the private equity fund. The only commitments of the private equity fund itself are made through a guarantee of the payment of the reverse termination fee and an equity commitment letter. The private equity fund is technically on the hook for nothing more. If it doesn’t want to show up for regulatory hearings or sign a necessary regulatory filing, the agreements do not obligate it to do so.

ADS negotiated no greater commitment from the private equity fund than this.  The reverse termination fee was triggered only if the shell company did not perform under the agreement. But the Blackstone shell did what it could. It just had no money to satisfy the bank regulators. Because the shells complied with the agreement, the reverse termination fee was not payable.

If and when large private equity transactions return, the ADS ruling and others like it will compel targets to demand greater financial commitments from the private equity funds themselves.  Boards of directors of public companies will not want to put themselves in play with a buyer whose financial commitment to the transaction is materially limited.  This in turn will restrain the willingness of private equity forms to bid up prices for targets.  All in all, another reason why it will be years before an M&A market driven by private equity deals returns to this earth.