Recent Decision by NY County Supreme Highlights Potential Pitfall for Business Buyers Seeking to Avoid Their Seller's Pre-Closing Liabilities.

by:  Michael Braunstein

Very often, buyers who are acquiring an existing business will desire to structure their transaction as a purchase and sale of all or substantially all of the assets of the seller. In contrast to a stock or interest purchase, the parties in an asset purchase transaction can specifically designate which assets will be included in the sale and which liabilities, if any, will be assumed by the buyer. In this way, buyers may avoid being held responsible for their seller's pre-closing liabilities, which very often cannot be easily identified and when they can be identified are not always easily quantified. As the New York County Supreme Court recently pointed out in Zmos Networks, LLC v. Momentum Investment Partners et. al., this strategy may not always work out as planned.

In Zmos, the court used the doctrines of de-facto merger and mere continuation to find that Momentum, the corporate defendant-buyer, was not entitled to a dismissal of the plaintiff-creditor's complaint that Momentum should be held liable for the obligations of its predecessor. 

The general rule of successor liability is that a corporation which acquires the assets of another is not liable for the torts or contractual obligations of its predecessor unless: 

(1) it expressly or impliedly assumed them,  

(2) there was a consolidation or merger of seller and purchaser, 

(3) the purchasing corporation was a mere continuation of the selling corporation; or

(4) the transaction is entered into fraudulently to escape such obligations. 

The de facto merger doctrine is an exception to the general rule under which a court will disregard the actual form of the parties' transaction and treat them as having merged with one another to find successor liability. The court stated that "the hallmarks of a defacto merger include: continuity of ownership; cessation of ordinary business and dissolution of the acquired corporation as soon as possible;  assumption by the successor of the liabilities ordinarily necessary for the uninterrupted continuation of the business of the acquired corporation; and continuity of management, personnel, physical location, assets and general business operation... not all of these elements are necessary to find a defacto merger."

Regardless of the ultimate outcome of the Zmos case, there are a few important lessons to be learned from the decision on the motion. Most of them are not novel but are worth restating here.

First, merely structuring an acquisition as an asset purchase over a stock purchase does not mean that the buyer can always avoid its seller's pre-closing obligations. 

Second, whether a buyer will ultimately be held liable for these obligations is a highly fact sensitive question and creditors will often have a reasonably good shot at pleading a case that survives a motion to dismiss.

Third, although most Asset Purchase Agreements provide indemnities for these kinds of things, an indemnity alone may not be sufficient if the indemnitor does not have the wherewithal to pay claims. Proving at trial that there was no defacto merger or continuation will no doubt be time consuming and expensive. Moreover, an adverse decision will directly influence the outcome of claims by other creditors, which could start to add up very quickly.

All of this leads to what I consider to be the most important lesson: in a deal where any of the above factors are present, it is especially critical that the buyer insist on an escrow fund to back-stop the seller's indemnity obligations. The amount of the fund should correlate to any identifiable obligations of the seller plus an additional amount for the expense of defending claims and for any unforeseen liabilities. Finally, the escrow should survive long enough for any potential litigation to wind its way through the courts, a period usually stated in years. 

We have handled many deals involving these kinds of issues and would be happy to discuss them with you in greater detail should you have any questions. 

Read the decision here.  

Old City Hall to become new ZAPPOS headquarters

Senior partner, Harry Braunstein, recently handled a real estate transaction for one of the largest landowners in downtown Las Vegas who finds his properties in the midst of some very interesting changes occurring in downtown Las Vegas. 

In addition to three casino hotels containing approximately 1500 rooms, our client's holdings originally included numerous parcels of vacant land and a full square block, previously the site of the Ambassador Hotel, all located on East Fremont Street, just east of the Fremont Street Experience canopy of lights.  This part of Fremont Street is now rapidly being gentrified by Tony Hsieh, the almost billionaire founder of ZAPPOS, the online shoe retailer.

Working with local counsel we've recently completed the sale for our client of 23 separate tax parcels, including the former Ambassador site, to Tony Hsieh's real estate subsidiary for a sum in excess of $9 Million.  Retail shops, parks, and other entertainment and office uses are on the way along with thousands of new residents.

Tony's vision is to create an all-encompassing modern village containing not just high tech incubators but all the entertainment and other amenities that make a downtown environment a great place to live.  Our client has befriended Tony Hsieh and embraced his plans for changing the downtown environment.

Completing a Complex Leasehold Financing for the Four Seasons Hotel

by Vincent Georgetti

Landmark   Four Seasons Hotel

When people think of the Four Seasons Hotel in New York, the word "excellence" is usually what comes to mind. When presented with the opportunity to represent one of our institutional lenders in a leasehold financing transaction concerning the Four Seasons Hotel in midtown Manhattan, we recognized the importance of getting the transaction done right.

 

The difficulty with any leasehold financing transaction is the lender's security is not a "tangible" asset like a commercial office building or a residential home that you can foreclose upon. Rather, the asset is the rights and interests that flow from the lease governing the relationship between your borrower and its landlord.  

 

As was to be expected, the asset that was being secured in this deal was a ground-lease between our borrower and the landowner of the property upon which the Four Seasons stands.  The ground-lease was highly complex and voluminous, which did not make the transaction easy. To further complicate the deal, the cash flow to pay the rent obligations under the ground-lease and cover the debt service on the loan emanated from an equally sophisticated sub-lease between our borrower and the Four Seasons.  Many protections were previously negotiated and built into both leases by the counsel for the landlord and the Four Seasons. However, we needed to flesh out the salient provisions that were most important in protecting the asset of our client, particularly the rights of a lender in a bankruptcy and the disbursement of casualty and condemnation proceeds.  

 

In the end, we were able to work out a deal structure that protected our client's interest while satisfying the demands of the other parties involved in the transaction. 

 

We are proud to have participated in shaping how the business of one of the great landmarks of Manhattan is conducted.