Deal or No Deal? The Courts Weigh In

As 2007 grinds to an end, court decisions on soured mergers-and-acquisitions deals just keep coming.

Last week, the Delaware Chancery Court ruled that Cerberus Capital Management did not have to close a $4 billion deal to buy United Rentals, saying that the contract between the two parties did not call for, in legal parlance, "specific performance."

But specific performance lives!

A Tennessee judge has ruled that Finish Line Inc., an Indianapolis-based retailer of athletic footwear, must complete its $1.5 billion deal, inked in June, to acquire rival footwear retailer Genesco Inc.

To arrive at her ruling, Chancery Court Judge Ellen Hobbs Lyle rejected claims that Genesco and Goldman Sachs committed fraud by concealing its operating results from Finish Line. "The court finds that the fault is with Finish Line's adviser, UBS and its agents, whom Finish Line was relying on to investigate Genesco," Judge Lyle wrote.

UBS had asked for Genesco's May results before they had been finalized, and never renewed that request before signing the deal.

More ominously, Judge Lyle rejected Finish Line's claims that it should get out of the deal under the "material adverse effect" clause -- a standard tactic for walking away. Judge Lyle found that Genesco's poor results were "due to general economic conditions," and not as a result of problems specific to the footwear industry.

"They way she reads it is quite broad," says Steven Davidoff, an assistant professor at Wayne State Law School and author of the M & A Law Prof blog.

(The ruling, to be sure, may not have a broad impact, because Judge Lyle applied Tennessee law, while most deals are governed by Delaware or New York state law.)

Having dismissed all of Finish Line's arguments to get out of the deal, Judge Lyle moved on to whether specific performance should be granted: 'As to the final consideration that the enforcing the merger creates a conflicted, financially weak company, the court has thought long and hard," she wrote. From the proof she has seen, Judge Lyle found that the "combined entity can succeed. Specific performance is not a futile, harsh result."

But in state court in New York, UBS has filed a lawsuit against Finish Line, contending that it does not have an obligation to finance the deal any longer because the resulting company will be insolvent.

In her opinion, Judge Lyle described this pending case as another potential out for Finish Line: "If the combined companies would result in an insolvent entity, the New York lawsuit by UBS will halt the merger," she wrote. In a statement after the defeat, Finish Line noted it was considering its options, including an appeal, but also saw hope in the New York case.

For his part, Professor Davidoff is not so sure: "Finish Line signed a no-out contract, it could be stuck in the middle between UBS and Genseco, forced to complete the merger without the financing. That is a bankruptcy situation for Finish Line."

Stay tuned. For now, troubled deals seem to have created a full-employment act for litigators.

Karen Donovan