TWA RESOURCES., formerly known as APPALACHIAN WELL SERVICES, INC., a Pennsylvania corporation, Plaintiff,
COMPLETE PRODUCTION SERVICES, INC., a Delaware corporation and AWS, INC., a Delaware corporation, Defendants.
Submitted: June 17, 2013
Joseph C. Schoell, Esquire, Lindsay O. Clizbe, Esquire, Drinker, Biddle & Reath, Wilmington, Delaware, Attorneys for Plaintiff
Seth A. Niederman, Esquire, Fox Rothschild LLP, Wilmington, Delaware, Daniel F. Shank, Esquire, James A. Collura, Jr., Esquire, Coats Rose, P.C., Houston, Texas, Attorneys for Defendants
OPINION FOLLOWING TRIAL
Plaintiff Appalachian Well Services, Inc. ("Appalachian") was founded by Jackie Albert ("Albert") and Douglas Henson ("Henson") in 1987. In 2006, Appalachian acquired Titan Wireline Service, Inc. ("Titan"). Appalachian was an oil field services company in the business of performing fracturing and cementing services related to oil and natural gas extraction. Through its subsidiary, Titan, Appalachian also supplied coiled tubing, perforation, and logging services in the Allegheny Plateau region of the northern Appalachian Basin.
The Marcellus Shale is a geographic formation that stretches from Ohio and West Virginia into Pennsylvania and Southern New York, and contains large quantities of natural gas. Due to the depth and tightness of the shale, however, it was cost-prohibitive to exploit these deposits until recently. Developments and advancements in drilling technology, specifically horizontal drilling and high pressure, multi-stage hydraulic fracturing ("fracing"),  have made access to these large deposits of natural gas more cost-efficient.
Prior to 2008, Appalachian engaged in "shallow market" fracturing in the Marcellus Shale. Appalachian was unable to exploit the deposits located in the deeper shale without more powerful equipment. Appalachian began discussions with Complete Production Services, Inc. ("CPX"), as a potential partner for high pressure fracking. Appalachian and CPX exchanged relevant information.
Letter of Intent
The parties executed a letter of intent ("LOI") in early August 2008. CPX created a wholly-owned subsidiary, AWS, Inc. ("AWS"). Under the terms of the LOI, AWS (the buyer) acquired the assets of Appalachian (including Appalachian subsidiary Titan). Appalachian (the seller) became known as TWA Resources, Inc. ("TWA").
AWS agreed to pay $48 million in cash, $12 million in CPX common stock with value determined based upon an average fifteen days' trading prices at closing, and up to $5 million in contingent consideration. The combined maximum consideration was $65 million. Additionally, AWS agreed to pay $8.2 million of the $12 million purchase price for the Marcellus high pressure frac fleet.
The $5 million contingent consideration was subject to certain performance targets for CPX's Marcellus Shale business, as calculated from the time of the transaction through December 31, 2010. First, TWA would receive a Milestone Payment of a maximum of $1 million if the earnings before interest, taxes, depreciation, and amortization ("EBITDA") from e-line operations exceeded $4 million per year during 2009 or 2010. Second, TWA would receive a Milestone Payment of a maximum of $3 million if "Pressure Pumping and Coiled Tubing Operations" generated EBITDA of $14 million or more over any consecutive twelve-month period during 2009 and 2010. Third, TWA would receive an additional $1 million Milestone Payment if certain targets were achieved in "New Services Lines."
Asset Purchase Agreement
On October 4, 2008, the parties executed the Asset Purchase Agreement ("APA") and the transaction closed. Albert and Henson became Vice Presidents of AWS, which began operating as a division of CPX.
Section 6.02(a) of the APA contains a covenant whereby TWA, Titan and their shareholders agree not to perform fracing services in the Marcellus Shale. The employment agreements entered into by Albert and Henson, in their roles as Vice Presidents of AWS, contain similar covenants not to compete. These covenants only prohibit TWA and its shareholders - Albert and Henson - from competing with AWS. The agreements do not contain reciprocal language explicitly prohibiting CPX, or any division of CPX, from competing with AWS in the Marcellus Shale high pressure fracing business. The employment agreements also permit AWS to terminate Albert's and/or Henson's employment at will.
Section 2.05 of the APA contains the same terms relating to earn-outs (or Milestone Payments) and Growth Oriented Capital Expenditures as were included in the LOI. For Pressure Pumping and Coiled Tubing Operations, TWA is entitled to an earn-out of up to $3 million - governed by a stated formula - if EBITDA for the operations is in excess of $14 million over a consecutive twelve-month period. TWA is entitled to the maximum earn-out of $3 million if EBITDA from Pressure Pumping and Coiled Tubing Operations reaches $20 million for a consecutive twelve-month period. The minimum EBITDA threshold for an earn-out and the maximum EBITDA cap subject to an earn-out were to be adjusted based on investment by CPX in "Growth Oriented Capital Expenditures" related to AWS's operations. If EBITDA were not in excess of the minimum EBITDA threshold, however, no Milestone Payment would be owed.
The APA also provides an additional earn-out of up to $1 million through the offering of new services in the Marcellus Shale. By the terms of the APA, both parties were required to negotiate in good faith concerning a "New Services Milestone." If the parties could not reach an agreement, however, the APA included a "fall back" whereby the New Services Milestone would be calculated as a proportion of the other two earn-outs paid or payable.
Transfer of Frac Fleets
During 2009, AWS performed three fracing jobs in the Marcellus Shale. On two of the three jobs, serious complications occurred. During the first job (for XTO Energy), a joint of pipe ruptured causing an "iron failure." AWS secured two fracking jobs with East Resources. On one of the jobs, AWS suffered its second iron failure, which led to serious injuries to multiple employees and an OSHA investigation.
Pumpco is a wholly-owned subsidiary of CPX and operates as a division of CPX. In September 2009, CPX transferred a Pumpco high pressure pumping frac fleet from Texas to the Marcellus Shale. This fleet performed five fracing jobs throughout the remainder of 2009. Gross revenues were $4, 426, 000.00.
In November 2009, CPX transferred AWS's high pressure frac fleet to Texas. Albert and Henson both agreed to this transfer. After being transferred to Texas, the AWS fleet was broken up and used to supplement Pumpco's other operations.
On January 15, 2010, Albert and Henson were terminated from AWS.
Section 2.05(d) of the APA requires Buyer to deliver a Milestone Statement detailing the calculation of the Milestone Payments to Seller prior to March 1, 2010 and 2011. Following delivery of the Milestone Statement, Seller had ten business days to deliver a Disagreement Statement. If the parties are unable to negotiate a final determination of appropriate Milestone Payments, they must jointly select an independent auditor of recognized national standing to resolve any disagreement concerning the calculations of the Milestone Payments.
2009 Milestone Payment
CPX delivered a Milestone Statement for 2009 on February 26, 2010. The 2009 Milestone Statement included all Pumpco revenue and EBITDA from the Marcellus Shale in calculating the earn-out. CPX calculated a Pressure Pumping and Coiled Tubing Threshold of $15, 466, 895, and a Pressure Pumping and Coiled Tubing Cap of $21, 466, 895. Because CPX did not have a positive EBITDA from Pressure Pumping and Coiled Tubing Operations for 2009, CPX determined that it did not owe an earn-out.
Additionally, because no New Services Milestone had been agreed upon by the parties, CPX contended that the New Services Milestone should be calculated based upon the default formula contained in Section 2.05(c) of the APA, which would result in no Milestone Payments for new services.
On March 12, 2010, TWA sent a Disagreement Statement to CPX, pursuant to Section 2.05(d) of the APA, challenging certain aspects of the 2009 Milestone Statement.
On May 4, 2010, the parties met in an attempt to resolve the disagreement regarding the Milestone Payment for 2009, but ultimately were unsuccessful. CPX then proposed that an independent auditor be selected to review the matter ...