“Everything zen? Everything zen? I don’t think so. . .”¹ – MAE Clauses in the Time of COVID

On March 1, 2022, the Delaware Court of Chancery delivered a memorandum opinion ordering a
yoga franchisor to complete the acquisition of its franchisee’s chain of yoga studios. The case arose out of the parties’ pre-COVID asset purchase agreement (“APA”) through which the defendant, CorePower Yoga LLC, was set to acquire various yoga studios owned by the plaintiff, Level 4 Yoga, LLC, for nearly $30 million. Level 4 claimed that CorePower breached the parties’ APA in the early months of the COVID-19 pandemic when CorePower refused to close the transaction, failing to deliver payments and take possession of plaintiff’s yoga studios. In its defense, CorePower claimed it was excused from closing the deal because Level 4’s response to the pandemic resulted in a “material breach” of, among other things, the APA’s Material Adverse Effect (“MAE”) clause.

An MAE clause serves to allocate risk among the buyer and the seller of an adverse change affecting the long term earning capacity of the target between the signing and closing of a transaction. Here, CorePower argued that by shuttering the yoga studios in response to the pandemic, Level 4’s actions amounted to such a change, significantly affecting the value of the business. The Court disagreed, noting that at the time of its breach “CorePower anticipated only [a] short-term hiccup in earnings”—an insufficient loss for MAE purposes.

The APA also failed to expressly condition the buyer’s obligation on the absence of an MAE; thus, even if the MAE clause had been breached, the Court found no contractual right to avoid closing under the contract.

In delivering its opinion, the Court focused on the nonexistence of closing conditions, express termination rights, or even a force majeure clause as evidence that “the APA [was] structured…to effectuate a ‘one-way gate’ through which the parties would pass on their way to inevitable closings.” Moreover, the APA provided remedies for breaches of representations and warranties in the form of a purchase price adjustment clause and a “hearty post-closing indemnification regime,” demonstrating the parties’ “intent to close the Transaction even if either party was in breach of the APA prior to the contractually-designated closing.”

The Court’s decision illuminates the need to practice mindfulness when drafting contractual terms, especially for buyers seeking to preserve certain rights to avoid their obligations. By agreeing not to include closing conditions or express termination rights in a purchase agreement, parties demonstrate their intent to close the transaction even if either party is in breach prior to closing.

¹Level 4 Yoga, LLC v. CorePower Yoga, LLC, CorePower Yoga Franchising, LLC, No. CV 2020-0249-JRS at 3 (Del. Ch. Mar. 1, 2022), quoting Gavin Rossdale, Everything Zen (Interscope, ©BMG 1994).

You may also like...