A Difficult Problem. Imagine that your company is facing a government investigation, requiring you to spend hundreds of thousands of dollars in legal fees and costs, while being threatened with substantially more legal expense. That financial burden is simultaneously starving the company of cash needed to grow the business, and cash balances are heading toward zero. Worse yet, the cloud over the company means it cannot raise additional investment or even find a buyer, as potential buyers fear being saddled with the government investigation and any underlying potential claims.
The Strategy. That was the trap confronting our client Cylex Inc., a Maryland-based life sciences company whose diagnostic test kit detects immune function in organ transplant patients, when they asked me for help. After considering alternatives, the strategy we crafted was to use Chapter 11 bankruptcy’s sale process to obtain a bankruptcy court order expressly permitting the buyer to purchase the company’s assets “free and clear” of the government investigation and underlying claims.
The Stalking Horse Bidder. With the legal strategy in place, the next step was negotiating with a strategic buyer the company had identified. Fortunately, Cylex recognized the need for a solution early enough that we had time to work through the challenges of implementing the strategy.
- Given that the sale would be under Bankruptcy Code Section 363 – which allows a bankruptcy court to authorize an asset sale free and clear of liens, interests, claims and encumbrances – the buyer knew that its asset purchase agreement would be subject to “higher and better bids.” In effect, as seller, Cylex would have a chance to “shop” the buyer’s purchase agreement to try and find a better deal.
- The buyer, known as a “stalking horse bidder” in bankruptcy parlance, wanted both a break-up fee (a percentage of the sale price) and an expense reimbursement (for legal and other direct expenses), in the event another bidder emerged and won the bidding. Those amounts also set the floor for a minimum “topping” or overbid price.
- As is common, the stalking horse bidder also insisted on a no-shop provision until the bankruptcy was filed, meaning that Cylex would have a chance to shop the deal but only for a relatively short period after the bankruptcy was filed.
- The pre-bankruptcy sale negotiations with the stalking horse bidder were challenging and took months. However, in November 2012, Cylex and the stalking horse bidder executed a formal asset purchase agreement calling for a $6 million purchase price, but also including a long list of closing conditions, an escrow holdback, and other non-economic terms unfavorable to Cylex.
The Bankruptcy Filing. Cylex filed Chapter 11 bankruptcy in the U.S. Bankruptcy Court for the District of Delaware on December 3, 2012. Among the motions we filed on the first day of the case was one to approve the break-up fee, expense reimbursement, and bidding procedures, and the Bankruptcy Court approved them two weeks later. Given the company’s dwindling cash, the bidding procedures set a deadline of January 18, 2013 for any overbids, an auction on January 22, 2013 (if any overbids were made), and a hearing on approval of the sale on January 23, 2013. The schedule was accelerated to be sure Cylex could get the transaction closed before it ran out of cash.
The Sale And Auction Process. The company and its advisors only had about six weeks to shop the stalking horse bid, including over the holidays, but they made the most of the limited time.
- On the day of the overbid deadline, two new strategic bidders submitted overbids, both in the $6.7 million minimum overbid amount. That set the stage for the auction four days later.
- The auction made all of the efforts worthwhile. After 16 rounds of bidding, spanning more than 12 hours, the winning bid (from one of the two overbidders) was a stunning $14.425 million, all cash at closing. Through the auction, Cylex had increased the sale proceeds by more than $8 million over the stalking horse bid.
- When faced with bidding competition at the auction, the stalking horse bidder and each of the overbidders made concession after concession on non-economic terms, dropping closing conditions and the escrow holdback, and agreeing to purchase price adjustments favorable to Cylex.
- The Bankruptcy Court approved the sale to the winning bidder on January 23, 2013, and entered an order expressly permitting the winning bidder to purchase Cylex’s assets “free and clear” of the government investigation and underlying claims. The sale closed in February.
Conclusion. Cylex, now known as Immunology Partners Inc., faced an extremely challenging set of problems caused by the government investigation, in turn triggered by a False Claims Act qui tam complaint. Although the government later declined to intervene in the qui tam case, that decision came too late for the company to have non-bankruptcy options. As mentioned in the press release on the sale, despite the legal issues and financial distress it faced, the company was ultimately able to sell its assets for 2.6 times revenue, a multiple typically reserved for healthy companies in its industry. It never could have achieved that sale price, or perhaps any price, without a bankruptcy sale process given the cloud of the government investigation. Chapter 11 bankruptcy may be considered a last resort, but there are times when it is simply the best way to address a company’s financial and legal problems.