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An Ontario court has ruled against Duo Bank of Canada, which was trying to get out of an agreement to acquire Fairstone Financial Holdings Inc. by arguing that the impact of the COVID-19 pandemic on Fairstone was so significant it fundamentally changed the deal and the transaction should not close.

In a lengthy ruling last week, Justice Markus Koehnen of the Ontario Superior Court of Justice said there was not a material adverse effect, or MAE, which is a change to the seller company that would justify cancelling the deal, and ordered the parties to close as planned.

Legal experts say the case will draw widespread interest from the business community as many companies are carefully considering how they draft MAE clauses in future agreements in light of the pandemic. Meanwhile others that struck deals before the impact of COVID have been reviewing the terms to see whether they can find a way out of transactions that no longer look very good. One high-profile example of this is British-based theatre giant Cineworld Group PLC, which is fighting a legal battle to backtrack on its deal to acquire Canada’s Cineplex Inc., with a trial scheduled for next September.

Duo Bank, formerly known as Walmart Canada Bank, announced the deal to acquire consumer finance company Fairstone in February, with plans to close the transaction in June. The value of the deal was not previously disclosed, but the judge wrote that “it was estimated to be over $1-billion.”

In the months after striking the agreement, the pandemic took hold and Fairstone scrambled to adapt, including by changing the way its branches operated, allowing customers to defer certain payments, reducing staffing levels and offering a pay premium for employees who did not work remotely.

By the end of May, Duo Bank said it did not plan to close the deal; the parties launched competing legal claims against each other and a trial ensued. Following Justice Koehnen’s decision, the parties now say they plan to close the transaction.

“My general view is it is an uphill battle for buyers to wiggle out of their agreements to close deals on the basis of the pandemic,” said Bryan Haynes, a corporate and commercial law partner at Bennett Jones LLP. “This case is proving that.”

He said to win on an MAE clause, a buyer would have to show that the pandemic disproportionately affected a seller’s particular business, beyond what was typical in the seller’s industry as a whole.

“The pandemic is not a pretext for buyers to walk away from their obligations under purchase agreements. It’s normal for buyers to have second thoughts or buyers’ remorse, but the lesson here is this pandemic is not going to give them the out they may have hoped for,” Mr. Haynes said. “The takeaway for vendors is you have more leverage than you may have thought before.”

In the Duo Bank case, Justice Koehnen ruled that “at first blush” an MAE did occur as a result of the pandemic, but the contract contained several exceptions to the MAE clause, which included effects that are caused by “worldwide national, provincial or local emergencies.” Owing to the exceptions, the judge concluded, the MAE clause did not apply.

Duo Bank also made other arguments, including that the steps Fairstone took to deal with the pandemic were not consistent with “the ordinary course of normal day-to-day operations.” Justice Koehnen rejected those arguments, writing that the steps Fairstone took were consistent with steps it had taken to respond to past recessions or steps that it was required to take by law.

The case could push other companies to settle similar disputes outside of court, said Sarah Gingrich, a partner with Fasken Martineau DuMoulin LLP who specializes in mergers and acquisitions.

“Even in non-pandemic times, it’s always open to parties to negotiate in between signing and closing. So we are seeing clients look at their options rather than litigation. I think this case will definitely inform some of that decision making, whether they negotiate new deal terms, an amended purchase price or consider a break fee.”

Ms. Gingrich said M&A lawyers are now paying more attention to the risk of a pandemic in drafting new commercial agreements or transactional documents.

In a statement through its law firm Torys LLP, Duo Bank said on Monday, “We have received the court’s decision and are in discussions with the sellers around outstanding closing matters. Once resolved, we look forward to working with management and our partners to support the company into its next phase of growth.”

Fairstone CEO Scott Wood said Monday that the company is proceeding “to conclude the transaction as quickly as possible.” In an e-mailed statement he added that his company remains enthusiastic about the deal and sees its business as complementary to that of Duo Bank. Fairstone was represented by Stikeman Elliott LLP.

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