Based On Bad Earnings, Could Oracle (ORCL) Walk Out On Sun (JAVA)

The term “material adverse effect” was not in the business vocabulary until about two years ago when LBO deals began to fall apart. Acquirers who got cold feet, or could not get bank financing because of the credit crisis, would say that their buyout targets had become damaged goods because of bad earnings or loss of key customers. If was a legitimate case in some instances. The recession had driven down the value of a lot of firms.

Some of the disputes over M&A “material adverse effect” even went to court as companies expecting buyouts tried to force deal to close.

Oracle (ORCL) offered to pay a premium to buy server firm Sun (JAVA). Its final offer, which was accepted, was for $9.50 a share or $7.4 billion. Before Sun became a buyout target, its shares changed hands at below $5.

Yesterday, Sun announced that it had a terrible quarter. Revenue fell from $3.3 billion in the period last year to $2.6 billion. The company’s operating loss went from $16 million to $169 million. In other words, Sun now looked like badly damaged goods.

The earnings reports is a chance for Oracle to lower its offer for Sun. Will the larger company risk a court fight over how much Sun’s fortunes have changed? If $2 billion is involved, it may.

Sun’s shares may be about to head back to where they traded when it had no prospects to be bought.

Douglas A. McIntyre