Delaware Court of Chancery Finds Pharma Buyer Failed to Use Commercially Reasonable Efforts in Achieving Post-Closing Milestones

In a recent post-trial opinion, the Court of Chancery provides helpful guidance to parties negotiating and drafting contingent value right (“CVR”) provisions in acquisition agreements. In Shareholder Representatives LLC v. Alexion Pharmaceuticals, Inc., the court found that a pharmaceutical buyer was liable to the stockholder representative of a drug developer seller for (i) a $130 million earnout payment for achieving the first of eight milestones (“Milestone #1”) and (ii) failing to use commercially reasonable efforts, as that term was defined in the merger agreement, when it terminated the drug development, with damages to be determined in a forthcoming opinion.

Background

In September 2018, Alexion Pharmaceuticals, Inc. acquired Syntimmune, Inc. for $1.2 billion. Syntimmune had been developing a monoclonal antibody later known as ALXN1830. Of the total merger consideration, $400 million was to be paid upfront, and the remaining $800 million was to be paid in installments upon achieving each of the eight milestones for the ALXN1830 program. Syntimmune was entitled to the first installment of $130 million upon completion of Milestone #1, which was defined as achieving five separate criteria. The first criterion required achieving “an observed PK/PD profile that supports weekly or less frequent subcutaneous administration in long term safety and efficacy studies” (“Criterion No.1”). The parties disputed whether Criterion No.1 was satisfied.

The merger agreement required Alexion to use commercially reasonable efforts to achieve all milestones. The agreement defined “commercially reasonable efforts” not in relation to Alexion’s subjective views or company-specific circumstances, but in relation to an objective, hypothetical company similarly situated as Alexion based on safety, efficacy, order of entry, regulatory approval and other factors that such a hypothetical company would consider.

Following the merger, the ALXN1830 program hit several roadblocks, as a result of which Alexion eventually terminated the program in December 2021. While certain roadblocks, such as the global COVID-19 pandemic, likely impacted the industry and Alexion’s peer companies, others were more specific to Alexion, including (i) contamination of its clinical drug supply, which prompted a pause on ALXN1830, and (ii) Alexion’s launch of its corporate initiative that led to a deprioritization of the ALXN1830 program.

The plaintiff, appointed to represent the former Syntimmune shareholders, sued Alexion for breach of the merger agreement, alleging that it had met Milestone #1, yet failed to make the first earnout payment, and that Alexion failed to use commercially reasonable efforts to achieve the remaining milestones.

Post-Trial Findings

On September 5, 2024, the court issued a detailed post-trial opinion in which it marched through the comprehensive factual record and expert materials, making two findings:

Disputed Achievement of Milestone #1 

For Milestone #1, the parties heavily disputed the interpretation of Criterion No.1 regarding the requisite data supporting the PK/PD profile. The court found Criterion No.1 was satisfied so long as the Phase 1 trial produced PK/PD data supporting the ability to dose ALNX1830 on a weekly or less frequent basis, even if the data did not support administering the dosage in a long term safety and efficacy study. The court found, based on the parties’ negotiation history and Alexion’s internal communications, the parties intended to compensate prompt achievement of a dosing regimen based on Phase 1 data, not on a demonstrated readiness to move to Phase 2 or Phase 3 trial.

Commercially Reasonable Efforts

For commercially reasonable efforts, the court found that the merger agreement imposed an outward-facing, objective standard, requiring that Alexion undertake the efforts and considerations a hypothetical typical company similarly situated as Alexion would have undertaken in developing a product similar to ALXN1830, taking into account factors typically considered by such companies. Notably, the court observed that such an outward-facing standard disallowed considerations of Alexion’s own self-interest or company-specific hurdles in drug development. Alexion may be excused only if the efforts required “would be contrary to prudent business judgment.”

Applying the “hypothetical company” standard, the court holistically assessed more than 11 typical factors called for by the merger agreement, and found that Alexion failed to use commercially reasonable efforts when it terminated the ALXN1830 program. The court rejected Alexion’s commercial rationality as a defense, including that ALXN 1830 (i) would be the fifth to the market overall, (ii) would not be the strongest anti-body to come to market, (iii) would not have the highest efficacy, (iv) would require continued Phase 1A/2B study, and (v) had demonstrated suspected, albeit not concrete or oversized, safety risk. The court further found Alexion’s own views about the market potential of ALXN1830 likewise supported that terminating the program fell short of commercially reasonable efforts.

Takeaways

Alexion provides important practical guidance to both acquirors and sellers in the diligence, negotiation, and drafting of CVR provisions in acquisition agreements:

• First, CVR milestones of scientific, clinical or technical matters should be carefully drafted with inputs from subject matter experts to minimize the risk of disputes and costly litigation. As one illustrative lesson from Alexion, despite the highly technical definition and the parties’ respective position that Criterion No.1 was unambiguous, the court nevertheless found the definition ambiguous and reviewed extensively the extrinsic evidence to determine the contracting parties’ intentions.
• Second, whether to use an outward-facing/objective or an inward-facing/subjective standard for commercially reasonable efforts remains a critical decision in negotiating acquisition agreements. An acquiror should be thoughtful before agreeing to an outward-facing standard, given the unique character of drug development and its company-specific considerations that may not be shared by its similarly situated peers. If and when an acquiror decides to accept an outward-facing standard, however, it should be cognizant of both (i) the practices of its peer group for similar product development, and (ii) the narrow circumstances of subjective factors appropriate for integration into the overall objective standard.
• Third, a subjective CVR standard remains valuable in reducing the risk that hypothetical standards and practices of evaluating products will be applied to assessing an acquiror’s conduct and compliance with its covenant to use commercially reasonable efforts.
• Fourth, regardless of using an objective or subjective standard for CVR, it is important to ensure that such standard reflects the specific, unambiguous criteria the company would use to evaluate continuing or terminating a product development.
• Fifth, diligence and understanding of a target company’s existing CVR obligations to third parties should remain a front and center consideration for acquirors, particularly acquirors of pharmaceutical companies.

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