By: Rachel Wynn, Business Law Clinic Student Director & Emily Buchholz, Executive Director of the Corporate Institute
Since the COVID-19 pandemic, material adverse effect claims have increased in Delaware courts. A material adverse effect (“MAE”) is a change in circumstances that is reasonably expected to significantly diminish the value of a company. MAE clauses are routinely written into merger agreements to condition the “duty to close a deal on the non-occurrence of a specific set of contingencies.” Typical material adverse effects include lawsuits or changes in business operations that lead to a significant devaluation of the company. If an MAE occurs, the buyer is no longer required to acquire the seller. It is also common for MAEs to expressly include, or “carve out,” force majeure events like natural disasters or wars on the understanding that, while these events may materially devalue the target, they are not the target’s fault. MAE claims have always been difficult to prove; the Delaware Chancery Court has only found one MAE despite numerous cases claiming them.
In early 2019 quintessential American jewelry retailer Tiffany & Co. (“Tiffany”) operated more than 300 stores in twenty countries and recorded $4.44 billion in annual revenue and $586.4 million in net income. By October 2019, Tiffany’s share price had fallen about thirty-five percent to $91.58 per share from a high of $140 per share a year earlier, although its brand remained strong. As a result of the company’s financial underperformance and leadership upheaval, industry observers predicted that Tiffany would make an excellent takeover target.
French luxury conglomerate, LVMH Moët Hennessy-Louis Vuitton SE (“LVMH”) is a global producer and distributor of high-end luxury goods headquartered in Paris, France. It became the most valuable company in Europe in 2021 and has a market capitalization of $369.17 billion. LVMH wanted to expand to the United States market, to solidify its dominance in the “soft luxury” goods space, which includes clothing and beverages, and to increase its holdings in “hard luxury” goods, such as jewelry.
On November 24th, 2019, after weeks of negotiations, the parties agreed to an all-cash transaction for Tiffany’s shares at a price of $135 per share. The two companies issued a joint press release the following day and declared the transaction was expected to close in mid-2020, pending shareholder and regulatory approvals. The merger agreement included an MAE clause with a causal requirement, as well as carve outs for “any hurricane, tornado, flood, earthquake or other natural disaster,” but no carve out for a pandemic. The clause permitted LVMH to terminate the transaction if Tiffany’s value decreased significantly between signing and closing.
COVID-19 began its spread around the world in December 2019, and by March 11, 2020, the World Health Organization declared a pandemic. This led to a significant drop in sales for Tiffany and retailers worldwide. Historically, Tiffany relied on mall traffic and tourists who spent money abroad to generate sales, both of which disappeared during the pandemic. The pandemic also caused weddings to be canceled or delayed, harming Tiffany’s sales of engagement rings, bridal jewelry, and gifts. Tiffany’s global net sales fell forty-five percent in the first quarter of 2020 and twenty-nine percent in the second quarter of 2020.
By June 2020, the media began publishing rumors that LVMH was having second thoughts on closing. However, despite a dramatic share price decline of 8.9%, Tiffany refused to renegotiate the deal. On September 9, 2020, LVMH announced that they could not close the deal by the drop-dead date of November 24, 2020. As such, the deal would not move forward. LVMH formally gave three reasons for exiting the transaction: “1) an MAE had occurred; 2) Tiffany did not operate the business in the “Ordinary Course”; and 3) [a] letter from [a] French Minister [asking LVMH to delay the Tiffany acquisition] prevented LVMH from closing the deal.” Tiffany filed a lawsuit in the Delaware Chancery Court that same day.
The MAE clause in the LVMH and Tiffany merger agreement did not include pandemics or general public health crises. This was not unusual. According to a study on merger agreements by Matthew Jennejohn at Columbia Law School:
[O]ur key finding is that—like the LVMH/Tiffany agreement discussed above—less than one out of eight MAE provisions in our data set explicitly carve out pandemics from force majeure events . . . . The majority of definitional carve-outs—a little more than half—do not even address a pandemic (or pandemic-like) outbreak— either with explicit terms or with ‘catch-all’ terms (such as ‘Act of God’, ‘“Calamity’, or ‘Force Majeure’) that arguably have sufficient breadth and scope to do so.
The study also found that pandemic language increased somewhat in 2009 due to the H1N1 crisis, and by 2019, twenty-three percent of deals had pandemic-related language. These deals typically placed the pandemic language in the carve-outs section to pass pandemic risk onto the buyer.
Tiffany argued that no MAE had occurred, but even if one had, it did not affect Tiffany disproportionately over their peers. Tiffany’s losses were in line with the Boston Consulting Group’s prediction of a twenty-five to forty-five percent drop in luxury sales globally. LVMH countersued, arguing that Tiffany’s attorneys had written pandemic carve-outs into other contracts and, as of 2019, one-third of agreements with a value over $1 billion included pandemic language.
LVMH also argued that Tiffany deviated from its ordinary course of business by cutting marketing costs and capital expenditures to boost short-term profitability. Finally, they argued that Tiffany irresponsibly managed the company by not canceling its dividend payments. In its complaint, LVMH argued that Tiffany “hemorrhaged cash for the first time in a quarter century, with no end to its problems in sight,” and asserted that “Tiffany’s performance will continue to be poor,” at least in part because its “retail strategy” is “particularly ill-suited for the challenges ahead.”
LVMH’s fears were not fully founded. By the third quarter of 2020, Tiffany’s earnings showed a drop of only sixteen percent compared with sales from the prior year and only one percent from the prior quarter, beating Wall Street expectations. LVMH returned to the negotiating table with Tiffany in October 2020. This time Tiffany had more leverage. Though the two parties eventually settled on a reduced share price of $131.50, Tiffany also gained a few rights to ensure the deal would close this time. First, if LVMH tried to take Tiffany to court again to exit the agreement, the price would go back to $135 per share. Further, Tiffany insisted on removing the clause which allowed LVMH to withdraw should it receive another letter from a French government official. The deal officially closed on January 7, 2021.
On April 30, 2021, the Delaware Court of Chancery issued a ruling in Snow Phipps Group LLC v. KCAKE Acquisition, Inc. which proved the wisdom in the parties’ decision to renegotiate and ultimately close the deal. The ruling in the Snow Phipps Group case explicitly held that a pandemic does not constitute an MAE unless the target had reduced sales of over fifty percent for an extended period of time. Tiffany’s revenues did not drop over fifty percent due to the pandemic. Though they did initially fall forty-five percent during the first quarter of the pandemic when all U.S. stores were closed, sales significantly improved when stores reopened.
Only a year after being acquired, Tiffany is proving to be a strategic asset for LVMH. The purchase improved LVMH’s position in the jewelry industry and expanded its presence in the United States. LVMH announced a “[s]uccessful integration, in its first year in the Group, of Tiffany, which produced a record performance.” According to LVMH’s CFO, Jean-Jacques Guiony, Tiffany generated an operating income of over $900 million (€796 million) in 2021.
The LVMH and Tiffany merger demonstrates the importance of MAE carve outs for a seller. LVMH was never likely to prevail on its MAE claim given the Delaware courts’ historic reluctance to grant relief on MAE grounds. Regardless, had the LVMH and Tiffany merger agreement specifically included pandemics, public health crises, or even more general acts-of-god as part of its definition of an MAE, LVMH would certainly have been in a stronger position. Despite a body of caselaw that discourages MAE’s in Delaware courts, the LVMH and Tiffany merger shows the importance of careful drafting in MAE clauses as a tool for negotiation.
 Matthew Jennejohn, Julian Nyarko, & Eric L. Talley, COVID-19 as a Force Majeure in Corporate Transactions 2 (Columbia L. & Econ., Working Paper No. 625, 2020).
 Id. 2–3.
 Akorn, Inc. v. Fresenius Kabi AG, No. 2018-0300-JTL, 2018 Del. Ch. LEXIS 325, 523 (Ch. Oct. 1, 2018).
 Guhan Subramanian, Julian Zlatev, & Raseem Farook, LVMH’s Bid for Tiffany & Co., Harv. Bus. Sch., Case 921-049, 1 (2021).
 Carol Matlack & Robert Williams, The Big Luxury Brands Have $22 Million to Burn, Bloomberg (April 10, 2018), https://www.bloomberg.com/news/articles/2018-04-11/luxury-s-enviable-headache-what-to-do-with-22-billion-in-cash [https://perma.cc/35HS-BQKB].
 Subramanian et al., supra note 5.
 Press Release, LVMH, LVMH Reaches Agreement with Tiffany & Co. (Nov. 25, 2019), https://www.lvmh.com/news-documents/press-releases/lvmh-reaches-agreement-with-tiffany-co/ [https://perma.cc/9J4J-A8BA].
 Tiffany & Co., Definitive Proxy Statement (Schedule 14A), 86 (Jan. 6, 2020), https://www.sec.gov/Archives/edgar/data/98246/000119312520001590/d841743ddefm14a.htm#rom841743_85 [https://perma.cc/SBL4-8HMK] (“[P]rovided, however, in the case of clause (a) no effect arising out of or resulting from any of the following shall be deemed either alone or in combination to constitute a Material Adverse Effect: . . . (viii) any hurricane, tornado, flood, earthquake or other natural disaster.”).
 Subramanian et al., supra note 5, at 4.
 Id. at 5.
 Matthew Dalton & Suzanne Kapner, Behind the LVMH-Tiffany Deal: Insults, Lawsuits and Political Intrigue, Wall St. J. (Dec. 28, 2020),https://www.wsj.com/articles/behind-the-lvmh-tiffany-deal-insults-lawsuits-and-political-intrigue-11609158490 [https://perma.cc/6EZ5-7XQX].
 Lauren Hirsch & Elizabeth Paton, Tiffany’s $16 Billion Sale Falls Apart in Face of Pandemic and Tariffs, N.Y. Times (Sept. 9, 2020), https://www.nytimes.com/2020/09/09/business/lvmh-tiffany-deal-lawsuit.html [https://perma.cc/8WWN-W62R].
 Press Release, LVMH, Press Release (Sept. 9, 2020), https://www.lvmh.com/news-documents/press-releases/press-release-09092020 [https://perma.cc/3N6B-8NUH].
 Subramanian et al., supra note 5, at 6.
 See Tiffany & Co., supra note 11.
 See Jennejohn et al., supra note 1.
 Subramanian et al., supra note 5, at 6.
 Hirsch & Paton, supra note 16.
 Subramanian et al., supra note 5, at 7.
 As Tiffany & Co. Q3 Sales Spike, What About LVMH’s Material Adverse Effect Claim?, Fashion L. (Nov. 25, 2020), [hereinafter LVMH’s Material Adverse Effect Claim] https://www.thefashionlaw.com/as-tiffany-co-q3-sales-spike-what-about-lvmhs-material-adverse-effect-claim [https://perma.cc/5TKW-WD7U].
 Press Release, LVMH, LVMH Completes the Acquisition of Tiffany & Co. (Jan. 7, 2021), https://www.lvmh.com/news-documents/press-releases/lvmh-completes-the-acquisition-of-tiffany-and-co/ [https://perma.cc/R7PV-Z48X].
 Snow Phipps Grp., LLC v. KCAKE Acquisition, Inc., No. 2020-0282-KSJM, 2021 Del. Ch. LEXIS 84, 66–70 (Ch. Apr. 30, 2021).
 Hirsch & Paton, supra note 16.
 LVMH’s Material Adverse Effect Claim, supra note 32.
 Dominique Muret, Tiffany & Co. Acquisition a Brilliant Bargain for LVMH, Fashion Network (Feb. 7, 2022), https://ww.fashionnetwork.com/news/Tiffany-co-acquisition-a-brilliant-bargain-for-lvmh,1375777.html [https://perma.cc/8YBG-WB5E].
 Press Release, LVMH, New Records for LVMH in 2021 (Jan. 27, 2022), https://www.lvmh.com/news-documents/press-releases/new-records-for-lvmh-in-2021/ [https://perma.cc/7RKT-7SYJ].
 Muret, supra note 42.