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Superior Court Orders Earn-Out Payment under Ambiguous Merger Agreement after Defendant Withheld Documents in Discovery

Fortis Advisors, LLC v. Dematic Corp., C.A. No. N18C-12-104 AML CCLD (Del. Super. Dec. 29, 2022)
Defendant acquired the plaintiff's hardware and software solutions business. The merger agreement required the defendant to make contingent payments if the company achieved performance targets. The targets were based on EBITDA calculations and sales of "Company Products," which the merger agreement referred to in a disclosure schedule that contained descriptions of products’ functionalities. Under the agreement, the defendant committed to incentivizing its sales force to sell Company Products and integrating the products into its own products and services. At the end of the earn-out period, the defendant reported low sales and EBITDA. From limited documentation, the plaintiff was able to determine that defendant based its calculations only on the acquired products, not an integrated portfolio. Plaintiff filed suit for breach of contract, alleging that the defendant either failed to incentivize its sales force and integrate the products, or had failed to properly account for "Company Products" when calculating contingent payments.

Before trial, it became evident that the defendant had failed to produce responsive documents related to its efforts to integrate products and to incentivize sales that the defendant sought to exclude from payment calculations. As sanctions for repeated discovery failures, the Court precluded the defendant from introducing testimony or exhibits derived from the withheld documents and ordered that, if at trial the Court agreed with the plaintiff’s interpretation of “Company Products” in the merger agreement, the Court would presume the financial targets had been met. The defendant would owe the plaintiff the maximum contingent payment.

After the trial, the Court determined that the merger agreement was ambiguous as to the meaning of Company Products, based on the disclosure schedule's inclusion of functionalities rather than only product names. Considering extrinsic evidence, the Court concluded that "Company Products" included the plaintiff’s source code because the code was essential to the functionalities listed in the disclosure schedule and for which customers purchased the products. As a result, any of the defendant’s products that integrated the plaintiff’s source code should be included in the calculation for contingent payments. The Court’s ruling in favor of the plaintiff's interpretation triggered the presumptions in the discovery sanctions, and thus, the Court found the defendant liable for the maximum contingent payment, less the reasonable costs the defendant had incurred in settling an appraisal action.

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