A remorseful acquirer wants to get out of a merger or acquisition agreement. It concocts a thin justification, which a court wisely rejects, finding unlawful breach. What is the appropriate remedy for harm done to the target?
While attention has focused on the controversy surrounding Elon Musk’s proposed acquisition of Twitter, this question arose in the recent Canadian decision of Cineplex v. Cineworld. The Cineplex court rejected specific performance and instead, in a case of first impression, awarded the target CAD $1.24 billion in expectation damages for loss of anticipated synergies.
Our forthcoming paper takes a close look at remedies for M&A breach of contract, both in the specific context of Cineplex as well as M&A disputes in Canada and the U.S. generally.
We argue, first, that specific performance – currently sought by Twitter in Delaware – will often be the most suitable remedy. Second, if the remedy for breach of a merger or acquisition agreement between a buyer and target consists of damages, we suggest that they should not be calculated on the basis of lost synergies. Rather, we argue that loss of consideration to target shareholders is also the most reliable measure of the target’s own damages.
Background to Cineplex
Cineplex arose when Canada’s largest movie theater chain, Cineplex Inc., sued British cinema chain Cineworld Group plc for failing to complete an agreed acquisition of Cineplex (for CAD $2.8 billion), via a cash-for-stock arrangement, ratified by shareholders in February 2020. However, when Cineplex shortly thereafter began closing theaters due to COVID-19, Cineworld had a serious case of buyer’s remorse. The conditions under which Cineworld could avoid the transaction by paying a reverse termination fee did not apply, and the agreement’s material adverse effect clause excluded “outbreaks of illness,” leaving no easy way out for Cineworld. With the only hurdle to closing beingInvestment Canada Act (ICA) approval, Cineworld terminated the agreement in June 2020 based on alleged breaches of Cineplex’s operating covenants. The Ontario Superior Court of Justice rejected these allegations and found that Cineworld unlawfully repudiated the agreement.
When it came to remedies, the court rejected specific performance as it would have required an unwilling buyer to use its best efforts (in this case, to seek ICA approval) to enable the closing. With monetary damages left as the sole remedy, the focus turned to their quantification. The court considered three main types of damages: (1) the loss of consideration to Cineplex’s shareholders; (2) the loss of Cineplex’s future cash flow; and (3) the loss of synergies accruing to Cineplex. The court chose to award lost synergies in the amount of CAD $1.24 billion and the costs of Cineplex’s transaction expenses.
The decision was appealed, and a hearing was scheduled for October before the Court of Appeal for Ontario. Cineworld has recently filed for Chapter 11 bankruptcy protection, the effects of which on the litigation are not currently clear. These developments notwithstanding, the Cineplex case offers an opportunity for exploring the thorny issue of M&A remedies.
Why Specific Performance is Preferable
Specific performance – compelling a party in breach to perform its contractual obligations – is generally appropriate when damages would not adequately compensate the injured party because the goods in question are unique or non-substitutable.
In the M&A context, the purchase or sale of a business may be regarded as inherently non-substitutable. This is usually clear for a strategic buyer focused on a specific target. But a case for non-substitutability can also be made from the perspective of a seller where a business is sold for shares, where there are no alternative buyers that a seller could turn to (e.g., the disputed sale of Twitter), where the party in breach is unlikely to be able to pay (it is easier to obtain financing for a forced acquisition than a damages award), or when damages will not compensate for a failed acquisition’s negative impacts on the target’s future earnings. As a case in point on this final concern, consider how Twitter is seeking specific performance after Elon Musk’s efforts to abort the acquisition exposed some of the company’s apparent weaknesses.
Specific performance also avoids difficult valuation challenges, such as those concerning control premia or companies for which no public market exists. It is not surprising, therefore, that specific performance provisions are found in many M&A contracts, including the Twitter agreement.
Problems with Awarding Lost Synergies
The Cineplex court’s decision to rely on a loss of future synergies as a measure of the target’s damages is problematic for a number of reasons. To begin, deciding how to apportion synergies between buyer and seller involves assumptions and a high degree of discretion. In Cineplex, the court apportioned almost 93 percent of the synergies to the target. While it is technically possible to determine which entity in a corporate group would benefit directly from the synergies, this is an uncertain and artificially formalistic exercise. The economic reality is that within corporate groups, cash flows and other benefits can be allocated as the group sees fit. Ultimately, they accrue to the parent company.
Awarding synergies as damages can lead to varying and acutely problematic results. If a court can be convinced that projected transactional synergies would have accrued only or in large part to entities other than the target, the target’s damages would have to be small or zero. In these situations, even though an agreed purchase price may have included a premium to the target shareholders, that premium would not be recoverable in case of a buyer’s refusal to close.
Further problems arise if the target would not survive post-closing, e.g., because the acquisition is structured as a merger or amalgamation. How can a legal entity that ceases to exist be said to have benefited from future excess cash flows? Also, should the amount of damages depend on whether the party in breach is a financial or strategic buyer? Presumably, a financial buyer would be liable to pay less in damages than a strategic buyer, due to fewer synergies generated, or no damages at all under a restrictive definition of what constitutes synergies.
In short, awarding synergies as damages creates undesirable divergences in the availability and size of awards based upon transaction structuring and the nature of the buyer.
The Best Measure of M&A Damages Is Loss of Consideration to Shareholders
Loss of consideration to shareholders is the amount payable to shareholders minus the value of shares retained. Similar to what transpired in the Consolidated Edison litigation in the U.S., the Cineplex court rejected this measure of damages because Cineplex was the contracting party under the acquisition agreement, and the shareholders were contractually excluded from suing Cineworld for the type of breach that had occurred.
We suggest that the clearest way to understand the issue is not that a corporation is claiming for its shareholders’ loss, although that could be an option depending on the specific contractual arrangement. Rather, in the context of a breached agreement between a buyer and the target, the latter’s loss is best assessed by its shareholders’ loss. The consideration payable to shareholders most accurately represents the value and substance of the corporation’s bargain.
Cineplex is a useful case for analyzing the broader issues that arise when courts use a target or seller’s lost synergies as the appropriate measure of expectation damages. While individual cases will depend on the specific M&A structures and language in applicable contracts, loss of consideration to shareholders will often be the most appropriate damages award because it more accurately represents the injured party’s lost bargain and expectations. Moreover, in considering appropriate remedies for breach of contract in M&A agreements, specific performance will often be a desirable remedy – including for reasons that apply to the evolving Musk/Twitter litigation – as long as the parties have not excluded it contractually.
 2021 ONSC 8016.
 See Theresa Arnold et al., “Lipstick on a Pig”: Specific Performance Clauses in Action, 2021 Wis. L. Rev. 359, 363 (2021).
 Among others, see Consolidated Edison Inc. v. Northeast Utilities, 426 F.3d 524 (2nd Cir 2005).
This post comes to us from Jonathan Chan, an assistant professor at University College London Faculty of Laws, and Martin Petrin, the Dancap Private Equity Chair in Corporate Governance at Western University’s Faculty of Law and DAN Department of Management and Organizational Studies. It is based on their forthcoming paper, “Lost Synergies and M&A Damages: Considering Cineplex v. Cineworld,” available here.