SHOTGUN! You should know this before triggering a buy-sell provision
There are important lessons in a recent Ontario Court of Appeal decision examining shotgun buy-sell provisions, and in particular, the enforceability of a buy-sell offer that does not perfectly comply with the terms and conditions of the shotgun provision.
Unanimous shareholder agreements, partnership agreements, and joint venture agreements often contain what is commonly known as a “shotgun buy-sell provision”, which provides a mechanism for involuntarily expelling one or more parties from the business venture when the business relationship between them sours.
Briefly, a typical shotgun mechanism works as follows:
- the offeror triggers the provision by concurrently making both an offer to buy the offeree’s interest in the business venture and an offer to sell its own interest to the offeree;
- the offeree must decide whether to buy out the offeror, or to sell its interest to the offeror, at the price specified in the buy-sell offer; and
- if the offeree does not respond by the date in the buy-sell offer, then the offeror may force the offeree to sell its interests to the offeror.
Assuming the parties have similar financial capabilities, a shotgun provision tends to ensure that the offered price is fair because the offeror selects a price at which it would be willing to both buy and sell the interests in the business venture.
In Western Larch Limited v. Di Poce Management Limited, 2013 ONCA 722, three partners relying on the shotgun buy-sell provision in their partnership agreement delivered a joint buy-sell offer to another partner.
The buy-sell offer contained two alternatives, either one of which could have been accepted by the offeree partner. The alternatives differed in their treatment of debt owed by the partnership to the selling partner. One alternative complied with the terms of the partnership agreement and contemplated the repayment of the debt in full on closing. The other alternative provided for repayment of half of the debt on closing, and the balance over four years together with interest. The buy-sell offer deemed the offeree to have chosen to sell its interests in accordance with the non-compliant alternative if the offeree did not elect to purchase the interests of the offerors.
The offeree unsuccessfully tried to find financing so that it could buy out the interests of the offerors in accordance with the buy-sell offer. The offeree only disputed the validity of the buy-sell offer days before the deadline for responding to it. The purchase transaction contained in the buy-sell offer closed over the objection of the offeree, and the offeree sought damages.
The Court of Appeal determined that:
- The offer was enforceable despite the inclusion of the non-compliant alternative. The offer was valid because it included a compliant alternative. The inclusion of a non-compliant alternative was not unfair because it provided an option to the offeree, which if accepted, would logically have led to the amendment of the partnership agreement on the terms and conditions of the accepted offer.
- The offerors could not compel the offeree to accept the non-compliant alternative. The offerors could only have required the offeree to sell in accordance with the compliant alternative.
- The purported imposition of the non-compliant alternative on the offeree (if the offeree did not respond) did not render the offer unenforceable. The offerors did not make the offer equivocal or conditional on a matter not provided for in the shotgun provision in the partnership agreement. The deficiencies with the buy-sell offer were minor and compliance was best effected, and the breaches of the shotgun provision are best addressed, through damages. The Court concluded that the buy-sell offer was sufficiently compliant with the shotgun provision in the partnership agreement to meet the relevant standard of strict compliance.
The following key principles guide a court’s approach to the interpretation and enforcement of shotgun provisions:
- To be enforceable, a buy-sell offer must comply strictly with the shotgun provision in the applicable agreement.
- Strict compliance does not mean perfect compliance. In deciding whether a shotgun offer is “sufficiently compliant”, a court will consider the language of the applicable agreement and the shotgun provision, and the commercially reasonable expectations of the parties in the factual context. A court will enforce a buy-sell offer containing elements of non-compliance that are, in the particular factual context, commercially insignificant, and which can be fully and fairly remedied by damages.
- A buy-sell offer may be unenforceable if it includes a condition that was not provided for in the shotgun provision, or is equivocal.
- The inclusion of an alternative in a shotgun buy-sell offer that does not comply strictly with the shotgun provision does not affect the enforceability of the offer, provided that a compliant alternative is also included in the offer.
- When a shotgun buy-sell offer contains alternatives, the court will only enforce a compliant alternative.
- A party is unlikely to successfully argue for terms not already in the shotgun provision (such as requiring an offer to be at fair market value, or precluding parties from combining to oust another party).
The main takeaway from Western Larch is that in order to ensure that a shotgun buy-sell offer is compliant, close attention must be paid to the specific contractual language of the shotgun provision, the applicable agreement, and the factual circumstances of the parties’ relationship. Therefore, early consultation with commercial and litigation counsel is prudent.
buy-sell provision shareholder dispute shotgun clause