Hexion v. Huntsman; Huntsman's Aggressive Posture

I commented on this case by my post of June 28, 2008. Hexion, a 92%-owned portfolio company of Apollo and its various funds, wants out of its $10.6 billion July 2007 merger agreement with Huntsman Corporation, and seeks the Delaware Chancery Court’s order that it may do so by reason of a deterioration in Huntsman’s financial condition and prospects since the merger was agreed to. Huntsman promptly filed an action in Montgomery County, Texas, against Apollo and its two principals, Leon Black and Joshua Harris, alleging fraud and tortious interference of contract. Huntsman has also now answered Hexion’s Delaware complaint (No. 3841-VCL) and has asserted counterclaims for breach of contract; breach of the duty of good faith and fair dealing; tortious interference with contract; defamation, injurious falsehood, and/or commercial disparagement; and aiding and abetting/civil conspiracy. In response to Huntsman’s Texas action and Huntsman’s board’s extension of the termination date of the merger agreement to October 2, 2008, Hexion filed its amended and supplemental complaint with the Delaware Chancery Court on July 7, 2008, supplementing its original requests by asking the Court to declare the extension invalid and to enjoin Huntsman from prosecuting the Texas action.

A. Huntsman’s Attitude

Huntsman is angry. It spares no venom in its accusations against Apollo and its two principals, and its attacks are personal to Messrs. Black and Harris.

Hexion’s securing its debt financing from Credit Suisse and Deutsche Bank is not a condition to closing of the deal. However, that Hexion would finance the transaction was of course known to Hunstman, and the terms of the commitment letter were made known to and the subject of negotiations with Huntsman. The crux of Hexion’s request of the Delaware Chancery Court is that because of an alleged deterioration in Huntsman’s financial condition, one of the conditions to the financing – providing comfort to the lenders that the post-closing borrower will be solvent – cannot be met, and therefore the deal can’t happen. Hexion therefore asks the Delaware court to declare that Hexion’s exposure is limited to the $325 million termination fee set forth in the merger agreement. Reaching for the fences, Hexion alternatively asks the Delaware court to rule that Huntsman has been subject to a “material adverse effect” since the signing of the merger agreement, allowing Hexion to back out of the deal for no payment.

Here is Huntsman’s take on Hexion’s Delaware action:

“… [I]t is now apparent that Leon Black and Joshua Harris never intended to allow Hexion to consummate the merger at a price of $28 per share. They never wanted Hexion to pay a price that high. They caused Apollo to offer such a price and Harris represented Apollo’s commitment to accept the financing and regulatory risks only to induce Huntsman to abandon its merger with Basell [with whom Huntsman had a deal at $25.75, broken up by the Hexion transaction, at a payment of a break-up fee of $200 million]. Once Apollo had eliminated Basell as a competitor and secured control of the transaction through an executed merger agreement, they intended at the right time to cause a renegotiation of the transaction and bring the Hexion purchase price down to a level more acceptable to them.”

Texas Petition ¶ 38.

Ignoring Hexion, the focus of Huntsman’s ire is Apollo and its two principals. Events subsequent to the inking of the merger agreement in July 2007 have demonstrated, according to Huntsman, “Apollo’s duplicity many times over.” Id. ¶ 39. Apollo’s securing the Duff & Phelps insolvency study (concluding that the post-merger entity will not be solvent), without first conferring with Huntsman (or allowing Duff & Phelps to confer with Huntsman) was “an absurdity.” “It is inconceivable that if Apollo wanted to proceed with the transaction, it would not seek Huntsman’s help with the solvency opinion. But, without consulting Huntsman, Apollo delivered the report to its banks and released it to the public.” ¶ 41. The Delaware action filed by Hexion represents a “patently unripe lawsuit …” Id. ¶ 42.

In its answer to Hexion’s Delaware complaint, filed July 2, Huntsman adds counterclaims, summarized above, against both Hexion and Apollo for “(i) Hexion’s intentional and knowing breach of the agreement of merger by which Hexion agreed to acquire Huntsman, and (ii) Apollo’s own tortious conduct in connection with those knowing and intentional breaches.” Answer ¶ 128. Huntsman asks the Chancery Court to order Hexion specifically to perform its obligations under the merger agreement or, in the alternative, to award Huntsman’s damages measured by the $28 per share (plus interest at 8% per annum) Hexion agreed to pay Huntsman’s stockholders, damages equal to the impairment in the value of Huntsman caused by Apollo’s and Hexion’s wrongful conduct, the $325 million breakup fee, and additional damages. Given that Huntsman is trading at around $13.70 per share, and that there are over 220 million Huntsman shares outstanding, we’re talking real money here.

In a series of letters between Huntsman and Hexion, filed publicly under cover of 8-K reports (always conducive to negotiations), Huntsman has made its position clear: since financing is not a condition to the merger of Hexion and Huntsman, Hexion is under an obligation to find the money to close the deal, period.

“You have agreed in the Merger Agreement not only to seek Alternative Financing [financing to replace the Credit Suisse and Deutsche Bank financing if it is unavailable], but to use your ‘reasonable best efforts to take, or cause to be taken, all actions, and to do, or cause to be done, ... all things necessary, proper or advisable to consummate the Merger.’ Perhaps more importantly, you have agreed, without any limitation based on the use of any particular level of efforts, to provide to us [Huntsman] and our Board of Directors, a solvency letter opining that, immediately after the consummation of the Merger, the post-Merger Hexion would be solvent. This absolute obligation is not tied to your ‘financing’ (or ‘Alternate Financing’) and requires you to take the steps necessary to procure a solvency letter. Hence, our belief that your obligation to deliver the funds required under the Merger Agreement is absolute, and that it would behoove you to be seeking additional or supplemental financing. To date Hexion’s failures in this regard can be nothing less than an intentional breach of the Merger Agreement.”

Peter Huntsman’s July 28, 2008 Letter to Hexion and Apollo.

Going even further, Huntsman has offered, by its letter of July 24, to introduce Hexion to potential investors that have expressed an interest to Huntsman “in providing supplemental financing to Hexion in connection with our Merger.” Nice gesture!

B. Hexion’s Position

Hexion, on the other hand, has asserted that it has no obligation to seek “additional” or “supplemental” financing, and that its obligation under the merger agreement is to use its reasonable best efforts to secure the financing contemplated by its commitment letter with Credit Suisse and Deutsche Bank or, if such is unavailable, alternate financing on terms no less favorable to Hexion than those set forth in the Credit Suisse/Deutsche Bank commitment letter:

“… [W]e must once again take issue with Huntsman’s mischaracterization of Hexion’s obligations under the Merger Agreement. There is no obligation under the Merger Agreement to seek ‘additional’ or ‘supplemental’ financing. Hexion’s only obligation is to seek Alternate Financing to replace the Financing provided by the [Credit Suisse/Deutsche Bank] Commitment Letter if – as we believe to be the case – the financing provided by the Commitment Letter becomes unavailable.”

Hexion’s Letter to Huntsman, dated July 25, 2008.

C. Who’s Right?

Huntsman’s aggressive posture undoubtedly reflects management’s frustration over Apollo’s second thoughts, and surely plays well with Huntsman’s stockholders. Huntsman had a deal in June 2007 with Basell at $25.25 per share. Huntsman’s board accepted that deal over Apollo’s competing $26 per share proposal. The board did so because of the completion risk associated with the Apollo proposal (including potential regulatory delays given that Hexion and Huntsman are competitors). When Apollo (after having submitted its “highest and best offer” at $26) learned of the Basell deal, it refused to let go, first upping the ante to $27.25 and then, trumping its own offer, to $28. In response to Apollo’s moves, Basell held firm, arguing that its deal was superior, for reasons that have proved prescient:

“On July 5, 2007, Basell, through Skadden, delivered a written communication to the Transaction Committee [of the Huntsman Board] arguing that the Basell merger agreement was superior to the Hexion proposal [of $27.25] because, in their view, (i) it delivered value to Huntsman stockholders sooner, without extended regulatory or financing delays, (ii) the quicker time to close reduced the risk that Huntsman would incur a material adverse effect, which would provide the buyer with the ability to terminate the agreement, and (iii) the Basell merger agreement had less completion risk than the Hexion proposal.”

Huntsman’s September 12, 2007 Proxy Statement at 28.

In light of the history of this deal, it is understandable that Huntsman is outraged at Hexion’s latest move, including that it was made without prior consultation with Huntsman.

Nevertheless, it is likely that the Chancery Court will focus on the parties’ agreement and not primarily on how the parties came to the agreement. And Huntsman’s view of the agreement appears to be a stretch. Under the July 12, 2007 merger agreement, the availability of financing to Hexion is not a condition to closing of the merger. However, Hexion’s financing was clearly an object of negotiation, as Hexion’s agreement to secure financing is separately addressed in the agreement, in Section 5.12. Hexion agreed to use its “reasonable best efforts” to take, or cause to be taken, “all actions and to do, or cause to be doing, all things necessary, proper or advisable to arrange and consummate the Financing on the terms and conditions described in the Commitment Letter, …”

The terms of the commitment letter were known to both parties and, indeed, had been the subject of negotiation between the parties (as well as, obviously, with Credit Suisse and Deutsche Bank). In the event that any portion of the financing contemplated by the commitment letter becomes unavailable, then, pursuant to Section 5.12(c), Hexion agrees to “use its reasonable best efforts” to arrange alternative financing “in an amount sufficient to consummate” the merger that would provide “for at least the same amount of financing” as the commitment letter “on terms and conditions … no less favorable to [Hexion] than those included in the Commitment Letter …”

Assume that Credit Suisse and Deutsche Bank advise Hexion that, based upon Huntsman’s current and projected numbers, they are prepared to lend only 80% of the amount initially contemplated by the commitment letter. Assume further that other lending sources would say the same thing (I exclude the possibility that another lender would make a loan of the same amount as contemplated by the original commitment letter but, say, at an interest rate higher than that committed to by Credit Suisse and Deutsche Bank, since obviously that would fly in the face of the limitation in the covenant that Hexion need not secure alternate financing on terms less favorable to it than that contemplated by the commitment letter). So Credit Suisse and Deutsche Bank say to Hexion that, if it wants to do the deal, it will have to come up with equity to fund the 20% of the original committed amount that the lenders are not now prepared to lend. Is that a deal that can be construed as “less favorable to” Hexion than the terms set out in the original commitment letter? I would think yes, and that therefore Hexion would not have to take that deal and provide equity to make up the difference in the lenders’ revised commitment. But this is where the debate should focus.

Huntsman relies upon the broad “further assurances” covenant in Section 5.13 of the merger agreement in arguing that Hexion’s obligation is to come up with the money, period. However, I would think that this general covenant does not trump the specific provisions of Section 5.12, and that therefore the focus of the dispute will be on Hexion’s obligations under Section 5.12 of the merger agreement.

I pass over the question of ripeness. It is entirely conceivable that the Chancery Court will conclude that this dispute is unripe and that, until Credit Suisse and Deutsche Bank refuse to fund, on the grounds that one or more conditions to funding have not been met, the financing dispute between Huntsman and Hexion is not ripe for judicial review.