Background
In December 2021, Follett Parent, LP (“Parent”) acquired all the outstanding stock of Follett Corporation through a merger agreement. Before the merger, Follett Corporation indirectly owned preferred stock in Lumen, Inc. (the “Lumen Interest”). The merger agreement required Parent to use “reasonable best efforts” to sell the Lumen Interest within three years after closing and to pay 75% of the net proceeds to the former Follett Corporation stockholders. If the Lumen Interest was not sold within 30 months, Parent was required to hire a valuation firm to determine fair market value and pay 75% of that amount to the stockholders instead.
Shareholder Representative Services, LLC (“SRS”), the contractually appointed representative for the former stockholders, alleged that Parent dragged its feet. According to SRS, Parent failed to sell the Lumen Interest for 30 months, proposed a valuation firm (Ankura) but then refused to retain it, and ultimately sold the Lumen Interest for $2.5 million — allegedly four to five times below fair market value. Parent then attempted to deduct its own litigation defense costs from the sale proceeds owed to the stockholders. SRS filed suit asserting breach of contract, seeking declaratory judgment on the scope of deductible costs, and alleging breach of the implied covenant of good faith and fair dealing.
Parent moved to dismiss on multiple grounds, leading with the argument that SRS lacked standing to bring the claims because it was not the real party in interest.
The Court’s Holding
Judge Adams denied Parent’s motion to dismiss on Counts I through III and granted it on Count IV. On the threshold standing question, the court found that SRS was the real party in interest under Delaware law. The court rejected Parent’s “hyper technical” arguments that SRS impermissibly sued in its own name or failed to identify individual stockholders. Looking to substance over form, the court noted that the complaint clearly identified SRS as the appointed representative of the former stockholders, alleged harm to those stockholders, and incorporated the merger agreement, which broadly authorized SRS to act as the stockholders’ “agent, attorney-in-fact, and representative.”
On Count I (breach of the “reasonable best efforts” obligation to sell), the court found it reasonably conceivable that Parent breached Section 6.10 of the agreement, pointing to Parent’s repeated refusal to document its efforts, the absence of any offers for 30 months followed by two below-market offers in quick succession, and the two offers themselves being allegedly far below fair market value. On Count II (failure to obtain a valuation), the court emphasized that the agreement’s language — “shall comply” and “shall retain” — was mandatory, and SRS had pled that Parent proposed Ankura, SRS approved, and Parent then refused to retain the firm or any other.
On Count III (declaratory judgment regarding deductible costs), the court found an actual controversy existed and that the phrase “costs . . . or expenses . . . to consummate the Lumen Sale” in Section 6.10 was ambiguous — it could reasonably be read narrowly (only transaction costs) or broadly (all related costs including litigation defense fees). Because two reasonable interpretations existed, dismissal was inappropriate.
The court granted dismissal of Count IV (implied covenant of good faith and fair dealing), however, because SRS failed to identify any gap in the agreement. The implied covenant claim was based on the same conduct as Count I and merely sought to layer a good-faith standard on top of the express “reasonable best efforts” obligation. Following the Court of Chancery’s reasoning in Fortis Advisors v. Dialog Semiconductor, the court held this was impermissibly duplicative.
Key Takeaways
- Contractually appointed shareholder representatives have broad authority to bring post-closing claims in Delaware courts. The court will look to the substance of the pleadings, not the caption, to determine whether claims are properly brought in a representative capacity.
- A “reasonable best efforts” obligation to sell an asset creates a factual question that is rarely resolved at the motion-to-dismiss stage. A buyer’s refusal to document its sale efforts and acceptance of below-market offers can support a breach claim.
- Mandatory valuation obligations triggered by contractual deadlines (“shall comply,” “shall retain”) cannot be ignored at the buyer’s discretion, even if the buyer ultimately sells the asset through a different path.
- Implied covenant claims will be dismissed as duplicative when they target the same conduct governed by an express contractual standard — here, reasonable best efforts — without identifying a genuine gap in the agreement.
Why It Matters
This case is a cautionary tale for private equity buyers who acquire companies with deferred consideration structures tied to the sale of specific assets. The merger agreement here contemplated two pathways — a sale or a fair-market-value cash-out — and the court made clear that the buyer could not simply ignore the valuation fallback when it failed to sell within the specified timeframe. For M&A practitioners, the decision reinforces the importance of clearly defined efforts standards and the enforceability of post-closing obligations, particularly when stockholder representatives are empowered to enforce them.
The ruling on deductible costs is also noteworthy. Buyers often seek broad language allowing them to net expenses from earnout or contingent consideration payments. Here, the court found the cost-deduction provision ambiguous, leaving open the possibility that litigation defense costs are not deductible from sale proceeds owed to sellers. Deal lawyers should take note: if you want to include litigation costs in the deduction basket, say so explicitly.