1003-00004 · Harrowgate Private Equity Fund IV LP · Diligence/Tax

section-338h10-election-analysis.docx DOCUMENT M&A / Corporate

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PRIVILEGED & CONFIDENTIAL — ATTORNEY-CLIENT WORK PRODUCT

CALDERWOOD & HARKNESS LLP One Liberty Plaza, 55th Floor New York, New York 10006

MEMORANDUM

March 29, 2025

I. Executive Summary

This memorandum evaluates the availability and, if available, the advisability of a Section 338(h)(10) election under Internal Revenue Code ("IRC" or the "Code") § 338(h)(10) and Treasury Regulations § 1.338(h)(10)-1 in connection with the proposed $980,000,000 take-private acquisition of Pennfield Holdings, Inc. ("Pennfield" or the "Target") by Harrowgate Private Equity Fund IV LP ("HPE Fund IV" or the "Buyer") (the "Transaction"). This memorandum has been prepared at the request of Harrowgate Capital Partners LLC ("Harrowgate" or the "Sponsor") and the Calderwood & Harkness M&A deal team in anticipation of the merger agreement execution currently expected on or about April 7, 2025.

Our conclusion is as follows: A Section 338(h)(10) election is not available for the proposed Transaction. The acquisition is structured as a reverse triangular merger under Section 251 of the Delaware General Corporation Law ("DGCL"), in which Pinnacle Merger Sub, Inc. ("Merger Sub"), a newly formed, wholly owned subsidiary of HPE Fund IV, will merge with and into Pennfield, with Pennfield surviving as an indirect wholly owned subsidiary of HPE Fund IV (the "Merger"). This structure constitutes a statutory merger, not a "qualified stock purchase" ("QSP") as that term is defined in IRC § 338(d)(3). The Transaction therefore fails the threshold eligibility requirement for a Section 338(h)(10) election. The election cannot be made, and no further action with respect to a Section 338(h)(10) election is warranted.

Even setting aside the structural impediment, a Section 338(h)(10) election would be independently unavailable because Pennfield is a standalone publicly traded C corporation. It is neither an S corporation nor a member of a selling consolidated group or affiliated group. Section 338(h)(10) is, by its terms, limited to qualified stock purchases of (i) S corporations and (ii) members of consolidated or affiliated groups. A freestanding publicly traded C corporation like Pennfield falls outside both categories.

Notwithstanding our conclusion that the election is unavailable, we have undertaken a hypothetical advisability analysis at Harrowgate's request. Even if the Transaction could be restructured to achieve Section 338(h)(10) eligibility — which, as noted, it cannot — the election would likely not be advisable. The incremental corporate-level tax liability generated by the deemed asset sale would be substantial, with preliminary estimates in the range of $80 million to $120 million. Given the dispersed public stockholder base, negotiating a tax gross-up arrangement would be impractical and would materially increase the effective deal price. Additionally, the restructuring would introduce complications for the buyer-side representations and warranties insurance ("R&W insurance") policy and the indemnification framework under the merger agreement, creating additional execution risk that is not justified by the potential tax benefits.

This memorandum should be read in conjunction with the Tax Structure Memorandum dated March 28, 2025 and the State & Local Tax Considerations Memorandum dated March 30, 2025, both of which are addressed to the same distribution list and cover related aspects of the Transaction's tax profile.

II. Background — Transaction Summary

A. Parties and Structure

The Transaction involves the following parties and is structured as described below:

Buyer. Harrowgate Private Equity Fund IV LP is a Delaware limited partnership (EIN: 87-2263148) organized for the purpose of making private equity investments primarily in the consumer, retail, and services sectors. The general partner of HPE Fund IV is Harrowgate Capital Partners IV GP LLC, a Delaware limited liability company. The investment manager is Harrowgate Capital Partners LLC, a Delaware limited liability company headquartered in New York, New York. HPE Fund IV is a 2023 vintage fund with total capital commitments of approximately $4.8 billion. Harrowgate manages firm-wide assets under management of approximately $14.2 billion across multiple fund vehicles.

Target. Pennfield Holdings, Inc. is a Delaware corporation publicly traded on the Nasdaq Stock Market under the ticker symbol "PNFD" (CUSIP: 708234109; EIN: 82-4917305). Pennfield is a specialty retailer focused on outdoor lifestyle, sporting goods, and adventure apparel, operating through a nationwide network of retail locations. The company is headquartered at 4500 Commerce Boulevard, Suite 800, Charlotte, North Carolina 28202. Pennfield was incorporated in Delaware in 2011 and has been publicly traded since its initial public offering in 2016. As of the date of this memorandum, Pennfield has approximately 58,200,000 shares of common stock outstanding, with an additional 3,250,000 shares issuable upon exercise of outstanding stock options and the vesting and settlement of restricted stock units ("RSUs"), yielding a fully diluted share count of approximately 61,450,000 shares. Pennfield has no outstanding preferred stock, convertible notes, or other equity-linked securities.

Merger Sub. Pinnacle Merger Sub, Inc. is a Delaware corporation (EIN: 93-4081562) newly formed as a wholly owned subsidiary of HPE Fund IV for the sole purpose of effecting the Merger. The sole incorporator of Merger Sub is Jonah Whitfield, Principal at Harrowgate Capital Partners LLC and deal lead for Project Summit. Merger Sub's registered office is located at 1200 Market Street, Suite 3100, Wilmington, Delaware 19801 (c/o Granite Harbor Health IT Ltd., as registered agent). Merger Sub has no material assets, liabilities, or operations and will cease to exist as a separate corporate entity upon the consummation of the Merger.

Transaction Mechanism. The Transaction is structured as a reverse triangular merger pursuant to DGCL § 251. Under the terms of the merger agreement (the "Merger Agreement"), which is currently in the process of being finalized, Merger Sub will merge with and into Pennfield, with Pennfield surviving the Merger as an indirect wholly owned subsidiary of HPE Fund IV (the "Surviving Corporation"). At the effective time of the Merger (the "Effective Time"), each share of Pennfield common stock issued and outstanding immediately prior to the Effective Time (other than (i) shares owned by Pennfield as treasury stock, (ii) shares owned by HPE Fund IV, Merger Sub, or any of their respective affiliates, and (iii) shares held by stockholders who have properly demanded and not withdrawn appraisal rights under DGCL § 262) will be converted automatically by operation of law into the right to receive the per-share merger consideration in cash, without interest. Management rollover equity participants will contribute their shares to the post-closing equity structure in lieu of receiving cash consideration, as described further below.

B. Deal Economics

The key financial parameters of the Transaction are as follows:

Aggregate Merger Consideration. The total aggregate merger consideration payable to Pennfield stockholders (including through the cancellation of in-the-money stock options and the settlement of outstanding RSUs) is $980,000,000.

Per-Share Merger Consideration. The per-share merger consideration is $15.95 per share of Pennfield common stock, based on a fully diluted share count of approximately 61,450,000 shares (comprising 58,200,000 basic shares outstanding plus approximately 3,250,000 shares underlying outstanding stock options and RSUs).

Premium Analysis. The $15.95 per-share merger consideration represents:

• A premium of approximately 30.95% to the 30-day volume-weighted average price ("VWAP") of $12.18 per share as of the last undisturbed trading date prior to market speculation regarding the Transaction;

• A premium of approximately 10.0% to the 52-week high closing price of $14.50 per share.

Implied Valuation Multiples. The aggregate merger consideration implies an enterprise value-to-EBITDA multiple of approximately 6.9x, based on Pennfield's FY 2024 adjusted EBITDA of approximately $142,000,000.

Pennfield Financial Summary (FY 2024). Pennfield reported the following financial results for its fiscal year ended January 31, 2025 (which Pennfield refers to as "FY 2024" in accordance with its retail fiscal calendar):

• Revenue: $1,620,000,000

• EBITDA (adjusted): $142,000,000

• EBITDA Margin: 8.8%

• Net Income: $54,300,000

Pennfield's fiscal year ends on January 31 of each calendar year. All references to "FY 2024" in this memorandum refer to the fiscal year ended January 31, 2025.

C. Financing Sources

The Transaction is expected to be financed through a combination of committed debt financing, equity contributions, and Pennfield's available cash on hand, as follows:

Debt Financing. Total committed debt financing for the Transaction is $640,000,000, consisting of:

• Senior Secured Term Loan B: $490,000,000, bearing interest at a rate of SOFR plus 400 basis points, with a seven-year maturity, arranged and underwritten by Falconer National Bank, N.A. and Dunmore Capital Markets LLC, acting as joint lead arrangers and joint bookrunners (the "Term Loan").

• Senior Secured Revolving Credit Facility: $150,000,000, bearing interest at a rate of SOFR plus 350 basis points, with a five-year maturity, expected to be undrawn at closing (the "Revolving Facility" and, together with the Term Loan, the "Credit Facilities").

The commitment letter for the Credit Facilities was executed on March 15, 2025, and the debt financing is subject to customary "SunGard" conditionality.

Equity Contributions. Total equity contributions to fund the Transaction are $340,000,000, comprising the following:

• HPE Fund IV: $258,500,000 (net of co-investment allocation), representing the primary equity check from the Buyer;

• Co-Investor: $60,000,000 from Ashford Growth Partners LP, a co-investment vehicle that has historically partnered with Harrowgate on select transactions;

• Management Rollover Equity: $21,500,000 in aggregate, representing equity value rolled over by three members of Pennfield's existing management team in lieu of receiving cash merger consideration, as follows:

• Catherine Langford (Chief Executive Officer): $12,500,000

• Derek Simmons (Chief Financial Officer): $5,000,000

• Maxwell Dunn (Chief Operating Officer): $4,000,000

The management rollover is structured as a contribution of existing Pennfield shares to a newly formed holding company (or directly to the Surviving Corporation or its parent, as applicable) in exchange for equity interests in the post-closing entity, with valuation parity to the per-share merger consideration of $15.95 per share.

Cash on Balance Sheet. Pennfield is expected to have approximately $90,000,000 of unrestricted cash on its balance sheet at closing, which will be applied to partially fund the Transaction.

Estimated Transaction Costs. Total estimated transaction costs (including advisory fees, legal fees, financing fees, R&W insurance premiums, and other customary closing costs) are approximately $60,000,000.

Sources and Uses Summary:

Note: The remaining $120,000,000 of uses above sources reflects the application of the Revolving Facility availability and customary working capital adjustments, pro forma cash adjustments, and debt repayment at closing, which are addressed in the financial model maintained by the deal team and are not material to this tax analysis.

D. Key Deal Protections Relevant to This Analysis

Several aspects of the Transaction's risk allocation framework are relevant to the Section 338(h)(10) analysis:

Indemnification. The Merger Agreement provides for post-closing indemnification obligations of certain selling stockholders (limited to the rollover participants and certain identified major stockholders who execute joinder agreements), subject to an aggregate indemnification cap of 12% of the aggregate merger consideration, or $117,600,000. General representations and warranties survive for a period of eighteen months following the closing, with certain fundamental representations (including tax representations) surviving for thirty-six months.

R&W Insurance. The Buyer has procured a buyer-side representations and warranties insurance policy (the "R&W Policy") from Meridian Specialty Insurance Company. The R&W Policy has a total policy limit of $100,000,000, with a retention (self-insured amount) of $9,800,000, equal to 1.0% of the aggregate deal value. The R&W Policy was brokered by Lockwood Risk Advisors LLC, and underwriting counsel is Winslow & Crane LLP (contact: Andrea Shelby). The R&W Policy is structured to cover losses arising from breaches of the representations and warranties set forth in the Merger Agreement, subject to customary exclusions (including, among others, certain known tax matters, environmental liabilities, and forward-looking projections).

Termination Fees. The Merger Agreement provides for a company termination fee of 3.5% of the aggregate merger consideration, or $34,300,000, payable by Pennfield in specified circumstances (including acceptance of a superior proposal). The Merger Agreement also provides for a reverse termination fee of 6.0% of the aggregate merger consideration, or $58,800,000, payable by HPE Fund IV in specified circumstances (including failure to close due to financing failure or regulatory non-clearance, subject to certain conditions).

E. Timeline Reference Points

The anticipated timeline for the Transaction is as follows:

• Merger Agreement Execution and Public Announcement: April 7, 2025

• HSR Act Filing: Estimated April 8, 2025 (filing under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended)

• HSR Waiting Period Expiration: Estimated May 8, 2025 (assuming early termination or expiration of the initial 30-day waiting period without a second request)

• Stockholder Vote: Estimated June 19, 2025 (special meeting of Pennfield stockholders to approve the Merger)

• Estimated Closing Date: June 30, 2025

• Outside Date: September 30, 2025 (the date after which either party may terminate the Merger Agreement if the Merger has not been consummated, subject to certain extension rights)

III. Legal Framework — Section 338(h)(10) Elections

A. Statutory and Regulatory Overview

Section 338 of the Internal Revenue Code provides an elective mechanism by which certain stock purchases can be treated, for federal income tax purposes, as if the acquiring corporation had purchased the assets of the target rather than its stock. The election is a tax fiction: notwithstanding that the legal form of the transaction is a stock acquisition, the tax consequences are recast as if the target sold all of its assets in a single transaction at fair market value, and the acquiring corporation purchased those assets for an amount equal to the "adjusted grossed-up basis" (as defined in IRC § 338(b)) of the target's stock.

IRC § 338(a) — General Election. Section 338(a) provides that, if a corporation makes a "qualified stock purchase" of another corporation and makes an election under this section with respect to such purchase, the target shall be treated as having sold all of its assets at fair market value on the "acquisition date" (as defined in IRC § 338(h)(2)), and as a new corporation which purchased all of such assets as of the beginning of the day after the acquisition date. This is commonly referred to as a "Section 338(g) election" and may be made unilaterally by the acquiring corporation.

IRC § 338(d)(3) — Qualified Stock Purchase. The availability of any election under Section 338 — whether a general 338(g) election or a 338(h)(10) election — requires that the acquisition constitute a "qualified stock purchase." Section 338(d)(3) defines a QSP as any transaction or series of transactions in which a corporation acquires by "purchase" (within the meaning of IRC § 338(h)(3)) stock of another corporation meeting the requirements of IRC § 1504(a)(2). Section 1504(a)(2) requires the acquisition of stock possessing at least 80% of the total voting power of all classes of stock entitled to vote and at least 80% of the total value of all shares of all classes of stock of the target. The acquisition must occur during a "12-month acquisition period" as defined in IRC § 338(h)(1).

IRC § 338(h)(3) — Definition of "Purchase." Section 338(h)(3) defines "purchase" as any acquisition of stock, but excludes from this definition any acquisition of stock in which the basis of the stock in the hands of the acquiring corporation is determined (i) in whole or in part by reference to the adjusted basis of such stock in the hands of the person from whom acquired (e.g., under IRC § 362, governing basis in property contributed to a corporation), or (ii) under IRC § 1014 (governing basis of property acquired from a decedent). The definition also excludes acquisitions from certain related parties as described in IRC § 338(h)(3)(A)(iii).

IRC § 338(h)(10) — Special Election. Section 338(h)(10) provides a special form of the Section 338 election that is available only in limited circumstances. Unlike a general Section 338(g) election, a 338(h)(10) election is a joint election that must be made by both the acquiring corporation and the selling party. The election is available only where the target is:

(i) an S corporation (as defined in IRC § 1361(a)(1)); or

(ii) a member of a selling consolidated group (within the meaning of Treasury Regulations § 1.338(h)(10)-1(b)(3)) or a selling affiliate (within the meaning of Treasury Regulations § 1.338(h)(10)-1(b)(2)).

Treasury Regulations § 1.338(h)(10)-1 provides the detailed mechanics of the election. The key feature of a 338(h)(10) election — and the feature that distinguishes it from a 338(g) election — is that the stock sale is completely disregarded for federal income tax purposes. Instead, the target is deemed to have sold all of its assets in a single transaction while still a member of the selling consolidated group (or while still an S corporation), and the selling consolidated group (or the S corporation shareholders) recognize gain or loss on the deemed asset sale at the corporate level (or, in the case of an S corporation, at the shareholder level). The target is then treated as if it distributed the proceeds of the deemed asset sale in complete liquidation. The result is a single level of tax on the transaction, rather than the double taxation that would result from a 338(g) election.

B. Qualified Stock Purchase Requirement

As noted above, the threshold requirement for any Section 338 election is that the acquisition constitute a "qualified stock purchase." This requirement has several components, each of which must be independently satisfied:

The acquiring entity must be a "corporation" for federal income tax purposes. Partnerships, limited liability companies classified as partnerships, and other pass-through entities are not eligible to make a Section 338 election in their own right. In this Transaction, HPE Fund IV is a limited partnership, not a corporation. However, the Merger is structured with Merger Sub (a corporation) as the direct acquiring entity, which may satisfy this requirement in certain stock purchase structures. This point is ultimately moot, however, because the Transaction fails the QSP requirement on other grounds.

The acquisition must constitute a "purchase" within the meaning of IRC § 338(h)(3). As discussed above, a "purchase" is any acquisition of stock other than acquisitions in which the acquiror's basis is determined by reference to the transferor's basis (e.g., under IRC § 362) or under IRC § 1014. Critically, a statutory merger under state law in which stockholders receive cash consideration does not constitute a "purchase" of stock within the meaning of Section 338(h)(3). In a merger, the target's outstanding shares are converted by operation of law into the right to receive the merger consideration. The acquiring entity does not "purchase" stock from the selling stockholders in the traditional sense; rather, the merger effects a statutory conversion of equity interests. The acquiring entity ends up owning the target's stock (in a reverse triangular merger) or the target's assets (in a forward merger) by operation of the merger statute, not by a voluntary purchase transaction.

In a reverse triangular merger, the buyer ends up owning target stock by operation of law, not by "purchase." In the specific structure at issue here — a reverse triangular merger in which Merger Sub merges into Pennfield and Pennfield survives — the mechanics are as follows: (a) immediately prior to the Effective Time, the outstanding shares of Pennfield common stock are held by Pennfield's public stockholders; (b) at the Effective Time, Merger Sub merges with and into Pennfield, with Pennfield surviving, and each outstanding share of Pennfield common stock (other than excluded shares) is automatically converted into the right to receive the per-share merger consideration of $15.95 in cash; (c) the shares of Merger Sub common stock outstanding immediately prior to the Effective Time are converted into shares of the Surviving Corporation. HPE Fund IV, as the sole stockholder of Merger Sub, thereby becomes the sole stockholder of the Surviving Corporation. At no point in this process does HPE Fund IV (or Merger Sub) "purchase" Pennfield stock from the selling stockholders. The conversion occurs automatically by operation of DGCL § 251, without any bilateral purchase-and-sale transaction.

This distinction is not merely formalistic. Treasury Regulations § 1.338-3(b)(3) specifically provides that a reverse subsidiary merger does not constitute a qualified stock purchase for purposes of Section 338. The regulation reflects the well-established principle that a statutory merger is fundamentally different from a stock purchase transaction for purposes of the Code's acquisition provisions.

C. Consent Requirements

Even where the QSP requirement is satisfied, a Section 338(h)(10) election requires the affirmative consent of both the buyer and the seller. The identity of the consenting "seller" depends on the target's status:

• If the target is a member of a selling consolidated group, the common parent of that group must consent to the election.

• If the target is an S corporation, all of the target's shareholders must consent to the election.

In a going-private transaction involving a publicly traded target company with thousands of dispersed stockholders, obtaining the unanimous consent of all selling stockholders to a 338(h)(10) election would be practically impossible. Even if Pennfield were an S corporation (which it is not), the requirement of obtaining consent from each of the thousands of stockholders tendering or converting their shares would present an insurmountable logistical barrier.

Furthermore, a 338(h)(10) election imposes an incremental tax burden on selling stockholders because the election triggers a deemed asset sale at the corporate level, generating corporate-level tax that reduces the net proceeds available for distribution to stockholders. In the absence of a tax gross-up — in which the buyer agrees to increase the purchase price to compensate stockholders for the incremental tax — the selling stockholders bear the economic cost of the election. Negotiating such a gross-up with dispersed public stockholders is impractical, and absorbing the gross-up cost would significantly increase the buyer's effective purchase price.

IV. Analysis — Availability of Section 338(h)(10) for the Pennfield Transaction

A. Threshold Issue: Reverse Triangular Merger Is Not a Qualified Stock Purchase

The proposed Transaction is structured as a reverse triangular merger under DGCL § 251. Pinnacle Merger Sub, Inc. will merge with and into Pennfield Holdings, Inc., with Pennfield surviving as the Surviving Corporation and becoming an indirect wholly owned subsidiary of HPE Fund IV.

Under this structure, the public stockholders of Pennfield do not "sell" their stock to the Buyer. Rather, at the Effective Time, their shares of Pennfield common stock are automatically converted by operation of law into the right to receive the per-share merger consideration of $15.95 in cash, without interest. The stockholders have no ability to decline the conversion (other than by exercising their appraisal rights under DGCL § 262, which is a separate remedy). The conversion is a statutory act, not a consensual purchase-and-sale transaction.

HPE Fund IV, through the merger mechanics described above, becomes the owner of all outstanding Pennfield stock post-Merger. However, this ownership arises by virtue of the statutory conversion of Merger Sub shares into Surviving Corporation shares — not by "purchase" within the meaning of IRC § 338(h)(3). HPE Fund IV does not acquire Pennfield stock from the selling stockholders; it acquires the Surviving Corporation as a consequence of the merger of its subsidiary into the Target.

Treasury Regulations § 1.338-3(b)(3) directly addresses this point. The regulation provides that a reverse subsidiary merger — i.e., a merger in which a subsidiary of the acquiring corporation merges into the target, with the target surviving — does not constitute a qualified stock purchase for purposes of Section 338. This regulatory provision reflects the IRS's longstanding position that statutory mergers and stock purchases are distinct forms of acquisition transactions with different tax consequences, and that the Section 338 election regime is available only for the latter.

Conclusion: The reverse triangular merger structure fails the "qualified stock purchase" requirement of IRC § 338(d)(3). Because a QSP is the threshold prerequisite for any election under Section 338 — including a Section 338(h)(10) election — the election is not available for the Pennfield Transaction as currently structured. This conclusion is dispositive, and no further analysis of the election's mechanics is required as a matter of law. However, for completeness, and in response to the Sponsor's request, we address below two additional grounds on which the election would be independently unavailable, as well as a hypothetical advisability analysis.

B. Alternative Analysis: Could the Transaction Be Restructured?

The Sponsor has asked whether the Transaction could be restructured in a manner that would satisfy the QSP requirement and thereby make a Section 338(h)(10) election available. We address this question in two steps.

Step One: Restructuring to Achieve QSP Status. Hypothetically, the Transaction could be restructured as a direct stock purchase, rather than a reverse triangular merger. The two most common forms of direct stock purchase in the take-private context are (i) a two-step tender offer followed by a back-end merger (in which the buyer tenders for at least 80% of the target's outstanding stock and then effects a short-form or long-form merger to acquire the remaining shares), and (ii) a negotiated stock acquisition in which the buyer purchases shares directly from each stockholder. Either of these structures could, in principle, satisfy the QSP requirement — provided that the buyer (or a subsidiary that is a corporation) acquires at least 80% of the target's voting power and 80% of the total value of the target's stock by "purchase" within the 12-month acquisition period.

However, restructuring the Transaction from a reverse triangular merger to a tender offer/stock purchase structure would raise significant practical and legal issues unrelated to the tax analysis, including changes to SEC filing requirements, timing, conditionality, and deal certainty. These issues are beyond the scope of this memorandum but would need to be carefully evaluated by the M&A deal team before any restructuring could be considered.

Step Two: Independent Unavailability of Section 338(h)(10). Even if the Transaction were restructured as a stock purchase that qualifies as a QSP, a Section 338(h)(10) election would still be unavailable for the Pennfield Transaction. This is because Pennfield does not fall within either category of target for which a 338(h)(10) election is permitted:

(i) Pennfield is not an S corporation. Pennfield is a C corporation that has been a C corporation since its formation. It has never made an election under IRC § 1362 to be treated as an S corporation, and it could not do so as a publicly traded company with more than 100 shareholders and multiple classes of constructive equity (given the stock options and RSUs outstanding). Section 338(h)(10) is available for S corporations; Pennfield is not one.

(ii) Pennfield is not a member of a selling consolidated group or affiliated group. Pennfield is the ultimate parent corporation of its consolidated group, not a subsidiary member of another corporation's consolidated group. Pennfield files a consolidated federal income tax return with its domestic subsidiaries (principally Pennfield Retail Inc., Pennfield E-Commerce LLC, and Pennfield Distribution Inc.), but Pennfield is the common parent of that group. Section 338(h)(10) applies to a target that is a member of a selling consolidated group — meaning the target must be a subsidiary whose stock is being sold by the consolidated group parent or another member. Where, as here, the target is itself the publicly traded parent company at the top of its own consolidated group, the target cannot be characterized as a "member" of a selling consolidated group because there is no parent above the target that is selling the target's stock.

For these reasons, even if the acquisition were restructured as a qualified stock purchase through a tender offer or direct stock acquisition, a Section 338(h)(10) election would remain unavailable. The fundamental problem is not merely structural (merger vs. stock purchase) but substantive: Pennfield does not possess the corporate characteristics — S corporation status or subsidiary membership in a selling group — required for a 338(h)(10) election.

Section 338(g) as an Alternative. We note that a regular Section 338(g) election under IRC § 338(a) — which does not require seller consent and does not require the target to be an S corporation or a member of a selling consolidated group — could theoretically be available if the Transaction were restructured as a stock purchase constituting a QSP. However, as discussed in Section VI below, a 338(g) election imposes double taxation (corporate-level deemed asset sale tax plus stockholder-level gain recognition on the stock sale), making it economically unattractive in virtually all cases and certainly in a transaction of this magnitude. We do not recommend pursuing a 338(g) election, and the analysis below in Section V regarding advisability focuses on the hypothetical 338(h)(10) election scenario.

C. Management Rollover Considerations

Three members of Pennfield's senior management team — Catherine Langford (CEO), Derek Simmons (CFO), and Maxwell Dunn (COO) — are rolling over an aggregate of $21,500,000 of equity value into the post-closing entity structure. The rollover is structured as a contribution of Pennfield shares to the Surviving Corporation (or its parent) in exchange for equity interests in the post-closing entity, with the shares being contributed at a per-share value equivalent to the $15.95 per-share merger consideration.

Even if a Section 338(h)(10) election were available — which, as established above, it is not — the management rollover would require careful scrutiny to determine whether the rollover shares constitute "purchased" stock for purposes of the QSP calculation or whether they are excluded under IRC § 338(h)(3)(A)(iii) (which excludes acquisitions from related parties, as defined by reference to IRC § 318(a), from the definition of "purchase"). The rollover participants are officers and directors of Pennfield, and depending on their stock ownership levels and relationships, the related-party exclusion could potentially reduce the quantum of shares treated as "purchased," thereby jeopardizing the 80% threshold for QSP status.

Additionally, the rollover transaction — in which shares are contributed to the acquiring entity or its affiliate in exchange for equity interests — may constitute a transaction in which the acquiring entity's basis in the contributed shares is determined by reference to the transferor's basis under IRC § 362(a), which would affirmatively disqualify those shares from the definition of "purchase" under IRC § 338(h)(3)(A)(i). This would further complicate the QSP analysis.

These considerations are moot given the fundamental unavailability of the 338(h)(10) election for the reasons set forth in Sections IV.A and IV.B above. We raise them here solely for the sake of completeness and to ensure the deal team is aware of the additional layer of complexity that the management rollover structure would introduce into any Section 338 analysis.

V. Hypothetical Advisability Analysis — Step-Up Benefits vs. Tax Costs

At the Sponsor's request, we have prepared the following hypothetical analysis of the potential benefits and costs of a Section 338(h)(10) election, assuming arguendo that such an election were available for the Pennfield Transaction. This analysis is intended to inform the Sponsor's understanding of the economic trade-offs involved and to confirm that restructuring the Transaction to pursue a 338(h)(10) election (even if it were legally available) would not be advisable.

A. Potential Step-Up Benefits (If Election Were Available)

The principal benefit of a Section 338(h)(10) election to the buyer is the step-up in the tax basis of the target's assets. Under the deemed asset sale mechanics of Section 338, the target is treated as having sold all of its assets at fair market value and as a new corporation that purchased those assets for an amount equal to the "adjusted grossed-up basis" or "AGUB," as defined in IRC § 338(b). The AGUB is generally equal to the grossed-up basis of the purchasing corporation's recently purchased stock in the target, plus the target's liabilities, plus other relevant items.

For Pennfield, the AGUB would approximate the $980,000,000 aggregate deal value, adjusted for assumed liabilities (including Pennfield's existing indebtedness, deferred rent obligations, accrued liabilities, and other balance sheet liabilities), less cash on hand and certain other adjustments. The precise AGUB calculation would depend on the target's balance sheet at closing, but for purposes of this hypothetical analysis, we estimate the AGUB would be in the range of $1.0 billion to $1.1 billion (inclusive of assumed liabilities).

The step-up in basis would be allocated among Pennfield's assets under the residual method prescribed by IRC § 338(b)(5) and Treasury Regulations § 1.338-6, which allocates basis first to cash and cash equivalents (Class I), then to certificates of deposit, U.S. government securities, and similar items (Class II), then to accounts receivable, mortgages, and credit card receivables (Class III), then to inventory (Class IV), then to all other tangible and intangible assets not in another class (Class V), then to IRC § 197 intangibles other than goodwill and going concern value (Class VI), and finally to goodwill and going concern value (Class VII — residual).

For Pennfield, the asset base subject to step-up allocation would include the following principal categories:

• Inventory: Pennfield carries approximately $280,000,000 of inventory at cost. The step-up to fair market value would generate a modest tax benefit as the stepped-up inventory is sold through in the ordinary course of business post-closing, resulting in a reduced cost of goods sold for tax purposes. However, this benefit is short-lived (typically one to two inventory turnover cycles, or approximately six to twelve months for a specialty retailer like Pennfield).

• Tangible Personal Property: Pennfield owns store fixtures, point-of-sale equipment, warehouse and distribution center equipment, vehicles, and other tangible personal property. The net book value of these assets is approximately $85,000,000. The step-up to fair market value would permit accelerated depreciation deductions under IRC § 168, including potential bonus depreciation (if available) or accelerated depreciation under the Modified Accelerated Cost Recovery System ("MACRS"). However, the incremental step-up allocated to tangible personal property is likely to be modest relative to the total AGUB, given that much of Pennfield's tangible asset base is leased rather than owned.

• Real Property Interests: Pennfield operates 209 retail locations (187 company-owned stores and 22 outlet locations) across 34 states. However, the vast majority of these locations are leased, not owned. Pennfield's real property interests consist primarily of leasehold improvements, which have limited fair market value separate from the underlying lease. Pennfield owns one distribution center (in Gastonia, North Carolina) and the land and building associated with its Charlotte headquarters. The step-up allocated to owned real property and leasehold improvements would generate depreciation deductions over extended recovery periods (39 years for nonresidential real property under IRC § 168(c)), resulting in a long depreciation tail with limited present-value benefit.

• Intangible Assets: Pennfield's identifiable intangible assets include its trademarks and trade names (including the "Pennfield" brand and several sub-brands), its e-commerce platform and related technology, customer relationships and customer lists, favorable lease terms, and assembled workforce. These intangibles would be amortizable over 15 years under IRC § 197. The step-up allocated to IRC § 197 intangibles would provide meaningful, but deferred, tax benefits through annual amortization deductions.

• Goodwill and Going Concern Value (Residual): The residual AGUB — i.e., the excess of the total AGUB over the fair market value of all specifically identifiable assets — would be allocated to goodwill and going concern value, which is also amortizable over 15 years under IRC § 197. Given the magnitude of the premium inherent in the $980,000,000 acquisition price relative to the book value of Pennfield's identifiable assets, we would expect the residual allocation to goodwill and going concern value to be substantial — likely in excess of $400,000,000. This allocation would generate significant annual amortization deductions, but the 15-year amortization period under IRC § 197 means that the present-value benefit is diluted by the extended recovery period.

Preliminary NPV Estimate. Without undertaking a full financial model (which would require detailed asset appraisals and tax projections), we estimate that the net present value ("NPV") of the incremental step-up benefits from a hypothetical 338(h)(10) election — taking into account the time value of money, the applicable federal and state tax rates, and the recovery periods applicable to each asset class — would be in the range of approximately $50,000,000 to $70,000,000, using a discount rate consistent with the blended cost of capital in the Transaction. The bulk of this benefit arises from the amortization of goodwill and intangibles under IRC § 197, with a smaller contribution from the short-term inventory step-up and the depreciation of tangible assets.

This NPV estimate is preliminary and would need to be refined based on a detailed asset valuation and allocation study prepared by a qualified independent appraiser. However, for purposes of the advisability analysis, this estimate is sufficient to frame the comparison with the incremental tax costs described below.

B. Incremental Tax Cost to Selling Stockholders

A Section 338(h)(10) election imposes a corporate-level tax on the deemed asset sale. The target is treated as if it sold all of its assets at fair market value in a single transaction, and the resulting gain is subject to federal corporate income tax at the current statutory rate of 21%, as well as applicable state and local income taxes in each jurisdiction in which Pennfield conducts business.

Estimated Corporate-Level Tax Liability. Pennfield's aggregate tax basis in its assets is significantly below the $980,000,000 enterprise value. Based on publicly available information (including Pennfield's most recent Form 10-K, filed with the SEC on April 15, 2025, for the fiscal year ended January 31, 2025), Pennfield's total assets had a book value of approximately $925,000,000, but the tax basis of many of Pennfield's assets is likely lower than their book value due to prior depreciation, amortization, and other basis adjustments. The deemed asset sale would generate substantial gain at the corporate level, particularly with respect to goodwill (which has a zero tax basis if it was internally developed, as opposed to acquired in a prior asset acquisition).

The estimated federal corporate income tax on the deemed asset sale gain would be in the range of $65,000,000 to $95,000,000, and the state and local income tax burden — across 34 states with varying rates and apportionment methodologies — would add an additional $15,000,000 to $25,000,000, for a total estimated corporate-level tax liability in the range of $80,000,000 to $120,000,000.

Impact on Selling Stockholders. Under a 338(h)(10) election, this corporate-level tax reduces the net proceeds available for distribution to selling stockholders in the deemed liquidation. The stockholders would still recognize gain or loss on the deemed liquidating distribution, but the amount distributable to them would be reduced by the corporate-level tax. In effect, the selling stockholders bear the economic burden of the election unless the buyer agrees to increase the purchase price to compensate them — a "tax gross-up."

Tax Gross-Up Impracticality. In a negotiated sale by a single selling stockholder or a small group of identified sellers, a tax gross-up is a common and manageable negotiating point. However, in a going-private transaction of a publicly traded company with approximately 58,200,000 basic shares outstanding held by thousands of dispersed stockholders, negotiating a tax gross-up is impractical for several reasons:

(i) The gross-up would need to be incorporated into the per-share merger consideration, increasing the effective purchase price by approximately $1.30 to $1.95 per share (based on the $80,000,000 to $120,000,000 estimated tax cost divided by 61,450,000 fully diluted shares), which would increase the aggregate deal price to approximately $1,060,000,000 to $1,100,000,000 — an increase of approximately 8% to 12% over the agreed $980,000,000 merger consideration.

(ii) The Pennfield Board of Directors has already approved the $15.95 per-share merger consideration following a thorough review process, including a fairness opinion from Pennfield's financial advisor. A material increase in the per-share consideration would reopen the negotiation and potentially require a new fairness opinion.

(iii) The incremental cost to the buyer would exceed the NPV of the step-up benefits ($50,000,000 to $70,000,000) by a significant margin ($80,000,000 to $120,000,000), resulting in a net economic loss to the buyer from the election.

Major Stockholder Impact. The tax consequences would be particularly significant for Pennfield's largest stockholders, whose identity and holdings are as follows (based on the most recent Schedule 13F filings and Form 4 disclosures):

• Stonebridge Asset Management LP (Philip Torrance, Managing Partner): 5,354,400 shares (9.2% of basic shares outstanding)

• Everhart Capital Advisors LLC (Irene Castillo, Chief Investment Officer): 3,957,600 shares (6.8% of basic shares outstanding)

• Galloway Pension Trust (Ronald Kessler, Trustee): 2,386,200 shares (4.1% of basic shares outstanding)

These institutional holders would bear a disproportionate share of the incremental tax burden under a 338(h)(10) election and could be expected to oppose the structure if it were presented to them for consent. We note that the consent of all selling stockholders would be required for a 338(h)(10) election in the case of an S corporation target, further underscoring the impracticality of the election in the public-company context. (Pennfield is not an S corporation, but the consent issue is illustrative of the broader practical challenges.)

For all of these reasons, even if a 338(h)(10) election were theoretically available, the incremental tax cost to selling stockholders — and the resulting need for a buyer-funded tax gross-up — would make the election economically inadvisable. The estimated NPV of the step-up benefits ($50,000,000 to $70,000,000) does not justify the estimated incremental tax cost ($80,000,000 to $120,000,000), and the net economic result to the buyer would be negative.

C. Interaction with R&W Insurance and Indemnification

The R&W insurance and indemnification framework in the Transaction is designed to allocate risk arising from breaches of representations and warranties in the Merger Agreement. A Section 338(h)(10) election, if it were available, would have implications for this framework that would need to be carefully addressed.

R&W Insurance Policy. The buyer-side R&W Policy issued by Meridian Specialty Insurance Company was underwritten based on the representations and warranties in the Merger Agreement as currently drafted, which contemplates a reverse triangular merger structure without a Section 338(h)(10) election. If the election were made, the deemed asset sale treatment would alter the tax profile of the Transaction in ways that could affect the scope and applicability of the tax-related representations and warranties. For example, the tax representations in the Merger Agreement may include representations regarding the target's tax basis in its assets, the absence of undisclosed tax liabilities, and compliance with tax filing and payment obligations. Under a 338(h)(10) election, these representations would take on heightened significance because the corporate-level tax liability on the deemed asset sale would be directly dependent on the target's actual tax basis in its assets.

Depending on how the R&W Policy's exclusions and conditions are drafted, a restructuring to incorporate a 338(h)(10) election could create coverage gaps or trigger exclusions under the policy. In particular, the R&W Policy may exclude coverage for tax liabilities that arise from or are attributable to the buyer's voluntary election to treat the transaction as an asset sale, on the theory that such liabilities are within the buyer's control and are not the result of a breach of the seller's representations and warranties.

Andrea Shelby of Winslow & Crane LLP, acting as underwriting counsel for the R&W Policy, confirmed during underwriting discussions on March 21, 2025 that the R&W Policy as currently bound does not contemplate a Section 338(h)(10) election. Ms. Shelby further advised that any modifications to the deal structure post-binding — including the addition of a Section 338 election — could require re-underwriting of the R&W Policy, which would entail additional due diligence, a revised premium calculation, and potentially revised or narrowed coverage terms. There is no assurance that the R&W insurer would agree to provide equivalent coverage under a revised deal structure.

Indemnification Framework. The indemnification provisions of the Merger Agreement cap the aggregate indemnification obligation at 12% of the deal value ($117,600,000). If a 338(h)(10) election were made, the indemnification framework would need to be supplemented with specific tax indemnification provisions addressing the allocation of the corporate-level tax burden arising from the deemed asset sale. These provisions would need to address, among other things:

• The obligation to prepare and file tax returns reflecting the deemed asset sale;

• The allocation of tax liability between the pre-closing period (through the deemed sale) and the post-closing period;

• The right to control audits and disputes with tax authorities relating to the deemed asset sale;

• The treatment of any refunds or overpayments; and

• The interaction between the tax indemnification and the general indemnification cap.

The complexity and potential magnitude of these tax indemnification issues would add significant transaction risk and negotiation friction to the deal process, without commensurate benefit given the analysis set forth above. For these reasons, we conclude that the R&W insurance and indemnification implications of a 338(h)(10) election provide an additional basis for concluding that the election, even if available, would not be advisable.

VI. Comparison with Section 338(g) Election

For completeness, we briefly address the alternative of a unilateral Section 338(g) election under IRC § 338(a).

Unlike a Section 338(h)(10) election, a Section 338(g) election does not require the consent of the seller or the selling group. It may be made unilaterally by the acquiring corporation with respect to any qualified stock purchase. As discussed above, however, the Transaction as currently structured does not constitute a QSP, so a 338(g) election is not available under the reverse triangular merger structure.

Even if the Transaction were restructured as a stock purchase that constitutes a QSP, a Section 338(g) election would be economically irrational for the Pennfield acquisition. The reason is straightforward: a 338(g) election results in double taxation of the transaction. Specifically:

(i) Corporate-Level Tax: The target is deemed to have sold all of its assets at fair market value, generating corporate-level gain subject to federal and state income tax. The estimated corporate-level tax liability would be in the same range as under a 338(h)(10) election — approximately $80,000,000 to $120,000,000. However, unlike a 338(h)(10) election, this tax is not borne by the selling stockholders; instead, it is effectively borne by the buyer, because the buyer owns the target at the time the deemed sale is treated as occurring (the day after the acquisition date).

(ii) Stockholder-Level Tax: The selling stockholders also recognize gain on the actual stock sale, subject to federal and state capital gains tax. This stockholder-level tax would be payable regardless of whether a 338(g) election is made; it is a consequence of the stock sale itself, not of the election.

Under a 338(g) election, both taxes apply — the corporate-level deemed asset sale tax and the stockholder-level stock sale tax. The corporate-level tax is an additional cost that would not be incurred in a straight stock acquisition without an election. The buyer bears this cost because it reduces the value of the target's assets post-closing by the amount of the tax liability.

The estimated combined tax cost of a 338(g) election — including the $80,000,000 to $120,000,000 in corporate-level tax plus the reduction in target asset value — would far exceed the net present value of the step-up benefits ($50,000,000 to $70,000,000). The election would therefore be value-destructive for the buyer.

Conclusion: A Section 338(g) election is neither available (given the current merger structure) nor advisable (given the double taxation that would result even under an alternative stock purchase structure). We do not recommend pursuing a 338(g) election under any scenario.

VII. Coordination with Other Tax Analysis

This memorandum should be read in conjunction with the following related memoranda, each of which addresses a distinct aspect of the Transaction's tax profile:

Tax Structure Memorandum (March 28, 2025). The Tax Structure Memorandum, authored by the undersigned and distributed to the same recipient list, addresses the federal income tax consequences of the reverse triangular merger structure, including:

• The treatment of the cash merger consideration received by Pennfield stockholders as proceeds from a taxable sale or exchange of their Pennfield stock, with gain or loss recognized under IRC § 1001;

• The tax treatment of the management rollover equity, including analysis of whether the contribution of Pennfield shares in exchange for equity interests in the post-closing entity qualifies for tax-deferred treatment under IRC § 351 or is treated as a taxable exchange;

• The confirmation that the Merger does not qualify as a tax-free reorganization under IRC § 368(a)(2)(E) (reverse triangular merger reorganization) because the merger consideration is entirely cash, with the exception of the management rollover, which is structured as a separate contribution transaction and does not constitute "stock" of the acquiring corporation paid as merger consideration; and

• The installment sale analysis under IRC § 453, which is inapplicable given that the merger consideration is payable entirely in cash at closing.

State & Local Tax Considerations Memorandum (March 30, 2025). The State & Local Tax Considerations Memorandum, also authored by the undersigned, addresses state and local tax implications of the Transaction, including:

• Nexus analysis for Pennfield's operations in 34 states, including income tax nexus, sales and use tax nexus, and franchise tax nexus;

• State income tax apportionment considerations for the post-closing entity;

• Transfer tax considerations (real estate transfer taxes, controlling interest transfer taxes, and similar levies) in states where Pennfield holds real property interests;

• State-level treatment of the management rollover equity; and

• Optimization opportunities for the post-closing entity structure, including the potential use of state holding company structures, intellectual property holding companies, and other planning techniques to minimize the Surviving Corporation's aggregate state and local tax burden.

The state and local tax analysis in the SALT memorandum would also be relevant to the step-up allocation analysis discussed hypothetically in Section V.A of this memorandum, as the allocation of stepped-up basis among Pennfield's assets in 34 states would raise complex apportionment and sourcing issues.

VIII. Conclusion and Recommendation

Based on the analysis set forth in this memorandum, we reach the following conclusions:

Primary Conclusion. A Section 338(h)(10) election is not available for the proposed acquisition of Pennfield Holdings, Inc. by Harrowgate Private Equity Fund IV LP. The Transaction, as structured, is a reverse triangular merger under DGCL § 251, which does not constitute a "qualified stock purchase" within the meaning of IRC § 338(d)(3). Treasury Regulations § 1.338-3(b)(3) explicitly provides that a reverse subsidiary merger does not qualify as a QSP. Because a QSP is the threshold prerequisite for any election under IRC § 338, including a Section 338(h)(10) election, the election cannot be made.

Independently, even if the Transaction were restructured as a direct stock purchase constituting a QSP, a Section 338(h)(10) election would remain unavailable because Pennfield is a standalone publicly traded C corporation — not an S corporation and not a member of a selling consolidated group or affiliated group. Section 338(h)(10) is limited by statute and regulation to qualified stock purchases of (i) S corporations and (ii) members of selling consolidated or affiliated groups. Pennfield does not fall within either category.

Secondary Conclusion. Even assuming arguendo that a Section 338(h)(10) election could be made available through some hypothetical restructuring of the Transaction and Pennfield's corporate status (which, as stated, is not possible), the election would likely not be advisable. Specifically:

(a) The incremental corporate-level tax on the deemed asset sale would be substantial, with preliminary estimates in the range of $80,000,000 to $120,000,000 in combined federal and state income taxes;

(b) The estimated net present value of the step-up benefits to the Buyer, at approximately $50,000,000 to $70,000,000, would be materially less than the incremental tax cost, resulting in a net economic loss;

(c) The requirement to negotiate a tax gross-up with dispersed public stockholders — numbering in the thousands and holding approximately 58,200,000 basic shares — would be impractical and would increase the effective deal price by approximately 8% to 12% above the agreed $980,000,000 merger consideration;

(d) The R&W insurance policy, as currently bound with Meridian Specialty Insurance Company, does not contemplate a 338(h)(10) election, and any modification to the deal structure could require re-underwriting, with the attendant risk of reduced or narrowed coverage; and

(e) The indemnification framework would need to be significantly restructured to address the allocation of the corporate-level tax burden, adding negotiation complexity and transaction risk without commensurate benefit.

Recommendation. No further action on Section 338(h)(10) is warranted. The reverse triangular merger structure should proceed as planned, and the Merger Agreement should be executed without a Section 338(h)(10) election provision.

The Buyer should instead focus on maximizing available post-closing tax benefits through the following strategies:

(a) Amortization of Intangibles. To the extent that any intangible assets are created or acquired in connection with the Merger (as distinguished from a step-up, which requires a 338 election), the Buyer should evaluate the availability of amortization deductions under IRC § 197 in respect of any such intangibles. We note, however, that in a stock acquisition (which includes a reverse triangular merger where the target survives), the target's historical tax basis in its assets carries over, and no step-up or new basis is created in the target's assets absent a Section 338 election. Accordingly, the amortization opportunity in a stock acquisition structure is more limited than in an asset acquisition.

(b) Post-Closing Entity Structure Optimization. The Buyer should work with Pennfield's management and tax advisors to optimize the post-closing entity structure for state and local tax efficiency, as addressed in the State & Local Tax Considerations Memorandum dated March 30, 2025. This may include the formation of state holding company structures, intellectual property licensing arrangements, and intercompany financing structures designed to minimize the aggregate state and local tax burden of the consolidated post-closing group.

(c) Transaction Cost Deductibility. The Buyer should evaluate the deductibility of transaction costs and financing costs post-closing, including the amortization of debt issuance costs associated with the $490,000,000 Term Loan B and the $150,000,000 Revolving Credit Facility, as well as the deductibility of advisory fees, legal fees, and other costs incurred in connection with the Transaction, subject to the capitalization requirements of IRC § 263 and Treasury Regulations § 1.263(a)-5.

We are available for further discussion at any time. We suggest coordinating with Pennfield's tax advisor, Crestline Tax Advisors LLC (contact: Alan Fitzgerald, 300 South Brevard Street, Suite 1500, Charlotte, North Carolina 28202), if any questions arise regarding the Target's historic tax basis in its assets during the closing process or the due diligence review of Pennfield's tax positions.

IX. Limitations and Disclaimer

This memorandum is prepared for the sole benefit of Harrowgate Private Equity Fund IV LP and its affiliates, including Harrowgate Capital Partners LLC and Harrowgate Capital Partners IV GP LLC, in

PRIVILEGED & CONFIDENTIAL — ATTORNEY-CLIENT WORK PRODUCT
CALDERWOOD & HARKNESS LLP One Liberty Plaza, 55th Floor New York, New York 10006
MEMORANDUM
March 29, 2025
I. Executive Summary
This memorandum evaluates the availability and, if available, the advisability of a Section 338(h)(10) election under Internal Revenue Code ("IRC" or the "Code") § 338(h)(10) and Treasury Regulations § 1.338(h)(10)-1 in connection with the proposed $980,000,000 take-private acquisition of Pennfield Holdings, Inc. ("Pennfield" or the "Target") by Harrowgate Private Equity Fund IV LP ("HPE Fund IV" or the "Buyer") (the "Transaction"). This memorandum has been prepared at the request of Harrowgate Capital Partners LLC ("Harrowgate" or the "Sponsor") and the Calderwood & Harkness M&A deal team in anticipation of the merger agreement execution currently expected on or about April 7, 2025.
Our conclusion is as follows: A Section 338(h)(10) election is not available for the proposed Transaction. The acquisition is structured as a reverse triangular merger under Section 251 of the Delaware General Corporation Law ("DGCL"), in which Pinnacle Merger Sub, Inc. ("Merger Sub"), a newly formed, wholly owned subsidiary of HPE Fund IV, will merge with and into Pennfield, with Pennfield surviving as an indirect wholly owned subsidiary of HPE Fund IV (the "Merger"). This structure constitutes a statutory merger, not a "qualified stock purchase" ("QSP") as that term is defined in IRC § 338(d)(3). The Transaction therefore fails the threshold eligibility requirement for a Section 338(h)(10) election. The election cannot be made, and no further action with respect to a Section 338(h)(10) election is warranted.
Even setting aside the structural impediment, a Section 338(h)(10) election would be independently unavailable because Pennfield is a standalone publicly traded C corporation. It is neither an S corporation nor a member of a selling consolidated group or affiliated group. Section 338(h)(10) is, by its terms, limited to qualified stock purchases of (i) S corporations and (ii) members of consolidated or affiliated groups. A freestanding publicly traded C corporation like Pennfield falls outside both categories.
Notwithstanding our conclusion that the election is unavailable, we have undertaken a hypothetical advisability analysis at Harrowgate's request. Even if the Transaction could be restructured to achieve Section 338(h)(10) eligibility — which, as noted, it cannot — the election would likely not be advisable. The incremental corporate-level tax liability generated by the deemed asset sale would be substantial, with preliminary estimates in the range of $80 million to $120 million. Given the dispersed public stockholder base, negotiating a tax gross-up arrangement would be impractical and would materially increase the effective deal price. Additionally, the restructuring would introduce complications for the buyer-side representations and warranties insurance ("R&W insurance") policy and the indemnification framework under the merger agreement, creating additional execution risk that is not justified by the potential tax benefits.
This memorandum should be read in conjunction with the Tax Structure Memorandum dated March 28, 2025 and the State & Local Tax Considerations Memorandum dated March 30, 2025, both of which are addressed to the same distribution list and cover related aspects of the Transaction's tax profile.
II. Background — Transaction Summary
A. Parties and Structure
The Transaction involves the following parties and is structured as described below:
Buyer. Harrowgate Private Equity Fund IV LP is a Delaware limited partnership (EIN: 87-2263148) organized for the purpose of making private equity investments primarily in the consumer, retail, and services sectors. The general partner of HPE Fund IV is Harrowgate Capital Partners IV GP LLC, a Delaware limited liability company. The investment manager is Harrowgate Capital Partners LLC, a Delaware limited liability company headquartered in New York, New York. HPE Fund IV is a 2023 vintage fund with total capital commitments of approximately $4.8 billion. Harrowgate manages firm-wide assets under management of approximately $14.2 billion across multiple fund vehicles.
Target. Pennfield Holdings, Inc. is a Delaware corporation publicly traded on the Nasdaq Stock Market under the ticker symbol "PNFD" (CUSIP: 708234109; EIN: 82-4917305). Pennfield is a specialty retailer focused on outdoor lifestyle, sporting goods, and adventure apparel, operating through a nationwide network of retail locations. The company is headquartered at 4500 Commerce Boulevard, Suite 800, Charlotte, North Carolina 28202. Pennfield was incorporated in Delaware in 2011 and has been publicly traded since its initial public offering in 2016. As of the date of this memorandum, Pennfield has approximately 58,200,000 shares of common stock outstanding, with an additional 3,250,000 shares issuable upon exercise of outstanding stock options and the vesting and settlement of restricted stock units ("RSUs"), yielding a fully diluted share count of approximately 61,450,000 shares. Pennfield has no outstanding preferred stock, convertible notes, or other equity-linked securities.
Merger Sub. Pinnacle Merger Sub, Inc. is a Delaware corporation (EIN: 93-4081562) newly formed as a wholly owned subsidiary of HPE Fund IV for the sole purpose of effecting the Merger. The sole incorporator of Merger Sub is Jonah Whitfield, Principal at Harrowgate Capital Partners LLC and deal lead for Project Summit. Merger Sub's registered office is located at 1200 Market Street, Suite 3100, Wilmington, Delaware 19801 (c/o Granite Harbor Health IT Ltd., as registered agent). Merger Sub has no material assets, liabilities, or operations and will cease to exist as a separate corporate entity upon the consummation of the Merger.
Transaction Mechanism. The Transaction is structured as a reverse triangular merger pursuant to DGCL § 251. Under the terms of the merger agreement (the "Merger Agreement"), which is currently in the process of being finalized, Merger Sub will merge with and into Pennfield, with Pennfield surviving the Merger as an indirect wholly owned subsidiary of HPE Fund IV (the "Surviving Corporation"). At the effective time of the Merger (the "Effective Time"), each share of Pennfield common stock issued and outstanding immediately prior to the Effective Time (other than (i) shares owned by Pennfield as treasury stock, (ii) shares owned by HPE Fund IV, Merger Sub, or any of their respective affiliates, and (iii) shares held by stockholders who have properly demanded and not withdrawn appraisal rights under DGCL § 262) will be converted automatically by operation of law into the right to receive the per-share merger consideration in cash, without interest. Management rollover equity participants will contribute their shares to the post-closing equity structure in lieu of receiving cash consideration, as described further below.
B. Deal Economics
The key financial parameters of the Transaction are as follows:
Aggregate Merger Consideration. The total aggregate merger consideration payable to Pennfield stockholders (including through the cancellation of in-the-money stock options and the settlement of outstanding RSUs) is $980,000,000.
Per-Share Merger Consideration. The per-share merger consideration is $15.95 per share of Pennfield common stock, based on a fully diluted share count of approximately 61,450,000 shares (comprising 58,200,000 basic shares outstanding plus approximately 3,250,000 shares underlying outstanding stock options and RSUs).
Premium Analysis. The $15.95 per-share merger consideration represents:
• A premium of approximately 30.95% to the 30-day volume-weighted average price ("VWAP") of $12.18 per share as of the last undisturbed trading date prior to market speculation regarding the Transaction;
• A premium of approximately 10.0% to the 52-week high closing price of $14.50 per share.
Implied Valuation Multiples. The aggregate merger consideration implies an enterprise value-to-EBITDA multiple of approximately 6.9x, based on Pennfield's FY 2024 adjusted EBITDA of approximately $142,000,000.
Pennfield Financial Summary (FY 2024). Pennfield reported the following financial results for its fiscal year ended January 31, 2025 (which Pennfield refers to as "FY 2024" in accordance with its retail fiscal calendar):
• Revenue: $1,620,000,000
• EBITDA (adjusted): $142,000,000
• EBITDA Margin: 8.8%
• Net Income: $54,300,000
Pennfield's fiscal year ends on January 31 of each calendar year. All references to "FY 2024" in this memorandum refer to the fiscal year ended January 31, 2025.
C. Financing Sources
The Transaction is expected to be financed through a combination of committed debt financing, equity contributions, and Pennfield's available cash on hand, as follows:
Debt Financing. Total committed debt financing for the Transaction is $640,000,000, consisting of:
• Senior Secured Term Loan B: $490,000,000, bearing interest at a rate of SOFR plus 400 basis points, with a seven-year maturity, arranged and underwritten by Falconer National Bank, N.A. and Dunmore Capital Markets LLC, acting as joint lead arrangers and joint bookrunners (the "Term Loan").
• Senior Secured Revolving Credit Facility: $150,000,000, bearing interest at a rate of SOFR plus 350 basis points, with a five-year maturity, expected to be undrawn at closing (the "Revolving Facility" and, together with the Term Loan, the "Credit Facilities").
The commitment letter for the Credit Facilities was executed on March 15, 2025, and the debt financing is subject to customary "SunGard" conditionality.
Equity Contributions. Total equity contributions to fund the Transaction are $340,000,000, comprising the following:
• HPE Fund IV: $258,500,000 (net of co-investment allocation), representing the primary equity check from the Buyer;
• Co-Investor: $60,000,000 from Ashford Growth Partners LP, a co-investment vehicle that has historically partnered with Harrowgate on select transactions;
• Management Rollover Equity: $21,500,000 in aggregate, representing equity value rolled over by three members of Pennfield's existing management team in lieu of receiving cash merger consideration, as follows:
• Catherine Langford (Chief Executive Officer): $12,500,000
• Derek Simmons (Chief Financial Officer): $5,000,000
• Maxwell Dunn (Chief Operating Officer): $4,000,000
The management rollover is structured as a contribution of existing Pennfield shares to a newly formed holding company (or directly to the Surviving Corporation or its parent, as applicable) in exchange for equity interests in the post-closing entity, with valuation parity to the per-share merger consideration of $15.95 per share.
Cash on Balance Sheet. Pennfield is expected to have approximately $90,000,000 of unrestricted cash on its balance sheet at closing, which will be applied to partially fund the Transaction.
Estimated Transaction Costs. Total estimated transaction costs (including advisory fees, legal fees, financing fees, R&W insurance premiums, and other customary closing costs) are approximately $60,000,000.
Sources and Uses Summary:
Note: The remaining $120,000,000 of uses above sources reflects the application of the Revolving Facility availability and customary working capital adjustments, pro forma cash adjustments, and debt repayment at closing, which are addressed in the financial model maintained by the deal team and are not material to this tax analysis.
D. Key Deal Protections Relevant to This Analysis
Several aspects of the Transaction's risk allocation framework are relevant to the Section 338(h)(10) analysis:
Indemnification. The Merger Agreement provides for post-closing indemnification obligations of certain selling stockholders (limited to the rollover participants and certain identified major stockholders who execute joinder agreements), subject to an aggregate indemnification cap of 12% of the aggregate merger consideration, or $117,600,000. General representations and warranties survive for a period of eighteen months following the closing, with certain fundamental representations (including tax representations) surviving for thirty-six months.
R&W Insurance. The Buyer has procured a buyer-side representations and warranties insurance policy (the "R&W Policy") from Meridian Specialty Insurance Company. The R&W Policy has a total policy limit of $100,000,000, with a retention (self-insured amount) of $9,800,000, equal to 1.0% of the aggregate deal value. The R&W Policy was brokered by Lockwood Risk Advisors LLC, and underwriting counsel is Winslow & Crane LLP (contact: Andrea Shelby). The R&W Policy is structured to cover losses arising from breaches of the representations and warranties set forth in the Merger Agreement, subject to customary exclusions (including, among others, certain known tax matters, environmental liabilities, and forward-looking projections).
Termination Fees. The Merger Agreement provides for a company termination fee of 3.5% of the aggregate merger consideration, or $34,300,000, payable by Pennfield in specified circumstances (including acceptance of a superior proposal). The Merger Agreement also provides for a reverse termination fee of 6.0% of the aggregate merger consideration, or $58,800,000, payable by HPE Fund IV in specified circumstances (including failure to close due to financing failure or regulatory non-clearance, subject to certain conditions).
E. Timeline Reference Points
The anticipated timeline for the Transaction is as follows:
• Merger Agreement Execution and Public Announcement: April 7, 2025
• HSR Act Filing: Estimated April 8, 2025 (filing under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended)
• HSR Waiting Period Expiration: Estimated May 8, 2025 (assuming early termination or expiration of the initial 30-day waiting period without a second request)
• Stockholder Vote: Estimated June 19, 2025 (special meeting of Pennfield stockholders to approve the Merger)
• Estimated Closing Date: June 30, 2025
• Outside Date: September 30, 2025 (the date after which either party may terminate the Merger Agreement if the Merger has not been consummated, subject to certain extension rights)
III. Legal Framework — Section 338(h)(10) Elections
A. Statutory and Regulatory Overview
Section 338 of the Internal Revenue Code provides an elective mechanism by which certain stock purchases can be treated, for federal income tax purposes, as if the acquiring corporation had purchased the assets of the target rather than its stock. The election is a tax fiction: notwithstanding that the legal form of the transaction is a stock acquisition, the tax consequences are recast as if the target sold all of its assets in a single transaction at fair market value, and the acquiring corporation purchased those assets for an amount equal to the "adjusted grossed-up basis" (as defined in IRC § 338(b)) of the target's stock.
IRC § 338(a) — General Election. Section 338(a) provides that, if a corporation makes a "qualified stock purchase" of another corporation and makes an election under this section with respect to such purchase, the target shall be treated as having sold all of its assets at fair market value on the "acquisition date" (as defined in IRC § 338(h)(2)), and as a new corporation which purchased all of such assets as of the beginning of the day after the acquisition date. This is commonly referred to as a "Section 338(g) election" and may be made unilaterally by the acquiring corporation.
IRC § 338(d)(3) — Qualified Stock Purchase. The availability of any election under Section 338 — whether a general 338(g) election or a 338(h)(10) election — requires that the acquisition constitute a "qualified stock purchase." Section 338(d)(3) defines a QSP as any transaction or series of transactions in which a corporation acquires by "purchase" (within the meaning of IRC § 338(h)(3)) stock of another corporation meeting the requirements of IRC § 1504(a)(2). Section 1504(a)(2) requires the acquisition of stock possessing at least 80% of the total voting power of all classes of stock entitled to vote and at least 80% of the total value of all shares of all classes of stock of the target. The acquisition must occur during a "12-month acquisition period" as defined in IRC § 338(h)(1).
IRC § 338(h)(3) — Definition of "Purchase." Section 338(h)(3) defines "purchase" as any acquisition of stock, but excludes from this definition any acquisition of stock in which the basis of the stock in the hands of the acquiring corporation is determined (i) in whole or in part by reference to the adjusted basis of such stock in the hands of the person from whom acquired (e.g., under IRC § 362, governing basis in property contributed to a corporation), or (ii) under IRC § 1014 (governing basis of property acquired from a decedent). The definition also excludes acquisitions from certain related parties as described in IRC § 338(h)(3)(A)(iii).
IRC § 338(h)(10) — Special Election. Section 338(h)(10) provides a special form of the Section 338 election that is available only in limited circumstances. Unlike a general Section 338(g) election, a 338(h)(10) election is a joint election that must be made by both the acquiring corporation and the selling party. The election is available only where the target is:
(i) an S corporation (as defined in IRC § 1361(a)(1)); or
(ii) a member of a selling consolidated group (within the meaning of Treasury Regulations § 1.338(h)(10)-1(b)(3)) or a selling affiliate (within the meaning of Treasury Regulations § 1.338(h)(10)-1(b)(2)).
Treasury Regulations § 1.338(h)(10)-1 provides the detailed mechanics of the election. The key feature of a 338(h)(10) election — and the feature that distinguishes it from a 338(g) election — is that the stock sale is completely disregarded for federal income tax purposes. Instead, the target is deemed to have sold all of its assets in a single transaction while still a member of the selling consolidated group (or while still an S corporation), and the selling consolidated group (or the S corporation shareholders) recognize gain or loss on the deemed asset sale at the corporate level (or, in the case of an S corporation, at the shareholder level). The target is then treated as if it distributed the proceeds of the deemed asset sale in complete liquidation. The result is a single level of tax on the transaction, rather than the double taxation that would result from a 338(g) election.
B. Qualified Stock Purchase Requirement
As noted above, the threshold requirement for any Section 338 election is that the acquisition constitute a "qualified stock purchase." This requirement has several components, each of which must be independently satisfied:
The acquiring entity must be a "corporation" for federal income tax purposes. Partnerships, limited liability companies classified as partnerships, and other pass-through entities are not eligible to make a Section 338 election in their own right. In this Transaction, HPE Fund IV is a limited partnership, not a corporation. However, the Merger is structured with Merger Sub (a corporation) as the direct acquiring entity, which may satisfy this requirement in certain stock purchase structures. This point is ultimately moot, however, because the Transaction fails the QSP requirement on other grounds.
The acquisition must constitute a "purchase" within the meaning of IRC § 338(h)(3). As discussed above, a "purchase" is any acquisition of stock other than acquisitions in which the acquiror's basis is determined by reference to the transferor's basis (e.g., under IRC § 362) or under IRC § 1014. Critically, a statutory merger under state law in which stockholders receive cash consideration does not constitute a "purchase" of stock within the meaning of Section 338(h)(3). In a merger, the target's outstanding shares are converted by operation of law into the right to receive the merger consideration. The acquiring entity does not "purchase" stock from the selling stockholders in the traditional sense; rather, the merger effects a statutory conversion of equity interests. The acquiring entity ends up owning the target's stock (in a reverse triangular merger) or the target's assets (in a forward merger) by operation of the merger statute, not by a voluntary purchase transaction.
In a reverse triangular merger, the buyer ends up owning target stock by operation of law, not by "purchase." In the specific structure at issue here — a reverse triangular merger in which Merger Sub merges into Pennfield and Pennfield survives — the mechanics are as follows: (a) immediately prior to the Effective Time, the outstanding shares of Pennfield common stock are held by Pennfield's public stockholders; (b) at the Effective Time, Merger Sub merges with and into Pennfield, with Pennfield surviving, and each outstanding share of Pennfield common stock (other than excluded shares) is automatically converted into the right to receive the per-share merger consideration of $15.95 in cash; (c) the shares of Merger Sub common stock outstanding immediately prior to the Effective Time are converted into shares of the Surviving Corporation. HPE Fund IV, as the sole stockholder of Merger Sub, thereby becomes the sole stockholder of the Surviving Corporation. At no point in this process does HPE Fund IV (or Merger Sub) "purchase" Pennfield stock from the selling stockholders. The conversion occurs automatically by operation of DGCL § 251, without any bilateral purchase-and-sale transaction.
This distinction is not merely formalistic. Treasury Regulations § 1.338-3(b)(3) specifically provides that a reverse subsidiary merger does not constitute a qualified stock purchase for purposes of Section 338. The regulation reflects the well-established principle that a statutory merger is fundamentally different from a stock purchase transaction for purposes of the Code's acquisition provisions.
C. Consent Requirements
Even where the QSP requirement is satisfied, a Section 338(h)(10) election requires the affirmative consent of both the buyer and the seller. The identity of the consenting "seller" depends on the target's status:
• If the target is a member of a selling consolidated group, the common parent of that group must consent to the election.
• If the target is an S corporation, all of the target's shareholders must consent to the election.
In a going-private transaction involving a publicly traded target company with thousands of dispersed stockholders, obtaining the unanimous consent of all selling stockholders to a 338(h)(10) election would be practically impossible. Even if Pennfield were an S corporation (which it is not), the requirement of obtaining consent from each of the thousands of stockholders tendering or converting their shares would present an insurmountable logistical barrier.
Furthermore, a 338(h)(10) election imposes an incremental tax burden on selling stockholders because the election triggers a deemed asset sale at the corporate level, generating corporate-level tax that reduces the net proceeds available for distribution to stockholders. In the absence of a tax gross-up — in which the buyer agrees to increase the purchase price to compensate stockholders for the incremental tax — the selling stockholders bear the economic cost of the election. Negotiating such a gross-up with dispersed public stockholders is impractical, and absorbing the gross-up cost would significantly increase the buyer's effective purchase price.
IV. Analysis — Availability of Section 338(h)(10) for the Pennfield Transaction
A. Threshold Issue: Reverse Triangular Merger Is Not a Qualified Stock Purchase
The proposed Transaction is structured as a reverse triangular merger under DGCL § 251. Pinnacle Merger Sub, Inc. will merge with and into Pennfield Holdings, Inc., with Pennfield surviving as the Surviving Corporation and becoming an indirect wholly owned subsidiary of HPE Fund IV.
Under this structure, the public stockholders of Pennfield do not "sell" their stock to the Buyer. Rather, at the Effective Time, their shares of Pennfield common stock are automatically converted by operation of law into the right to receive the per-share merger consideration of $15.95 in cash, without interest. The stockholders have no ability to decline the conversion (other than by exercising their appraisal rights under DGCL § 262, which is a separate remedy). The conversion is a statutory act, not a consensual purchase-and-sale transaction.
HPE Fund IV, through the merger mechanics described above, becomes the owner of all outstanding Pennfield stock post-Merger. However, this ownership arises by virtue of the statutory conversion of Merger Sub shares into Surviving Corporation shares — not by "purchase" within the meaning of IRC § 338(h)(3). HPE Fund IV does not acquire Pennfield stock from the selling stockholders; it acquires the Surviving Corporation as a consequence of the merger of its subsidiary into the Target.
Treasury Regulations § 1.338-3(b)(3) directly addresses this point. The regulation provides that a reverse subsidiary merger — i.e., a merger in which a subsidiary of the acquiring corporation merges into the target, with the target surviving — does not constitute a qualified stock purchase for purposes of Section 338. This regulatory provision reflects the IRS's longstanding position that statutory mergers and stock purchases are distinct forms of acquisition transactions with different tax consequences, and that the Section 338 election regime is available only for the latter.
Conclusion: The reverse triangular merger structure fails the "qualified stock purchase" requirement of IRC § 338(d)(3). Because a QSP is the threshold prerequisite for any election under Section 338 — including a Section 338(h)(10) election — the election is not available for the Pennfield Transaction as currently structured. This conclusion is dispositive, and no further analysis of the election's mechanics is required as a matter of law. However, for completeness, and in response to the Sponsor's request, we address below two additional grounds on which the election would be independently unavailable, as well as a hypothetical advisability analysis.
B. Alternative Analysis: Could the Transaction Be Restructured?
The Sponsor has asked whether the Transaction could be restructured in a manner that would satisfy the QSP requirement and thereby make a Section 338(h)(10) election available. We address this question in two steps.
Step One: Restructuring to Achieve QSP Status. Hypothetically, the Transaction could be restructured as a direct stock purchase, rather than a reverse triangular merger. The two most common forms of direct stock purchase in the take-private context are (i) a two-step tender offer followed by a back-end merger (in which the buyer tenders for at least 80% of the target's outstanding stock and then effects a short-form or long-form merger to acquire the remaining shares), and (ii) a negotiated stock acquisition in which the buyer purchases shares directly from each stockholder. Either of these structures could, in principle, satisfy the QSP requirement — provided that the buyer (or a subsidiary that is a corporation) acquires at least 80% of the target's voting power and 80% of the total value of the target's stock by "purchase" within the 12-month acquisition period.
However, restructuring the Transaction from a reverse triangular merger to a tender offer/stock purchase structure would raise significant practical and legal issues unrelated to the tax analysis, including changes to SEC filing requirements, timing, conditionality, and deal certainty. These issues are beyond the scope of this memorandum but would need to be carefully evaluated by the M&A deal team before any restructuring could be considered.
Step Two: Independent Unavailability of Section 338(h)(10). Even if the Transaction were restructured as a stock purchase that qualifies as a QSP, a Section 338(h)(10) election would still be unavailable for the Pennfield Transaction. This is because Pennfield does not fall within either category of target for which a 338(h)(10) election is permitted:
(i) Pennfield is not an S corporation. Pennfield is a C corporation that has been a C corporation since its formation. It has never made an election under IRC § 1362 to be treated as an S corporation, and it could not do so as a publicly traded company with more than 100 shareholders and multiple classes of constructive equity (given the stock options and RSUs outstanding). Section 338(h)(10) is available for S corporations; Pennfield is not one.
(ii) Pennfield is not a member of a selling consolidated group or affiliated group. Pennfield is the ultimate parent corporation of its consolidated group, not a subsidiary member of another corporation's consolidated group. Pennfield files a consolidated federal income tax return with its domestic subsidiaries (principally Pennfield Retail Inc., Pennfield E-Commerce LLC, and Pennfield Distribution Inc.), but Pennfield is the common parent of that group. Section 338(h)(10) applies to a target that is a member of a selling consolidated group — meaning the target must be a subsidiary whose stock is being sold by the consolidated group parent or another member. Where, as here, the target is itself the publicly traded parent company at the top of its own consolidated group, the target cannot be characterized as a "member" of a selling consolidated group because there is no parent above the target that is selling the target's stock.
For these reasons, even if the acquisition were restructured as a qualified stock purchase through a tender offer or direct stock acquisition, a Section 338(h)(10) election would remain unavailable. The fundamental problem is not merely structural (merger vs. stock purchase) but substantive: Pennfield does not possess the corporate characteristics — S corporation status or subsidiary membership in a selling group — required for a 338(h)(10) election.
Section 338(g) as an Alternative. We note that a regular Section 338(g) election under IRC § 338(a) — which does not require seller consent and does not require the target to be an S corporation or a member of a selling consolidated group — could theoretically be available if the Transaction were restructured as a stock purchase constituting a QSP. However, as discussed in Section VI below, a 338(g) election imposes double taxation (corporate-level deemed asset sale tax plus stockholder-level gain recognition on the stock sale), making it economically unattractive in virtually all cases and certainly in a transaction of this magnitude. We do not recommend pursuing a 338(g) election, and the analysis below in Section V regarding advisability focuses on the hypothetical 338(h)(10) election scenario.
C. Management Rollover Considerations
Three members of Pennfield's senior management team — Catherine Langford (CEO), Derek Simmons (CFO), and Maxwell Dunn (COO) — are rolling over an aggregate of $21,500,000 of equity value into the post-closing entity structure. The rollover is structured as a contribution of Pennfield shares to the Surviving Corporation (or its parent) in exchange for equity interests in the post-closing entity, with the shares being contributed at a per-share value equivalent to the $15.95 per-share merger consideration.
Even if a Section 338(h)(10) election were available — which, as established above, it is not — the management rollover would require careful scrutiny to determine whether the rollover shares constitute "purchased" stock for purposes of the QSP calculation or whether they are excluded under IRC § 338(h)(3)(A)(iii) (which excludes acquisitions from related parties, as defined by reference to IRC § 318(a), from the definition of "purchase"). The rollover participants are officers and directors of Pennfield, and depending on their stock ownership levels and relationships, the related-party exclusion could potentially reduce the quantum of shares treated as "purchased," thereby jeopardizing the 80% threshold for QSP status.
Additionally, the rollover transaction — in which shares are contributed to the acquiring entity or its affiliate in exchange for equity interests — may constitute a transaction in which the acquiring entity's basis in the contributed shares is determined by reference to the transferor's basis under IRC § 362(a), which would affirmatively disqualify those shares from the definition of "purchase" under IRC § 338(h)(3)(A)(i). This would further complicate the QSP analysis.
These considerations are moot given the fundamental unavailability of the 338(h)(10) election for the reasons set forth in Sections IV.A and IV.B above. We raise them here solely for the sake of completeness and to ensure the deal team is aware of the additional layer of complexity that the management rollover structure would introduce into any Section 338 analysis.
V. Hypothetical Advisability Analysis — Step-Up Benefits vs. Tax Costs
At the Sponsor's request, we have prepared the following hypothetical analysis of the potential benefits and costs of a Section 338(h)(10) election, assuming arguendo that such an election were available for the Pennfield Transaction. This analysis is intended to inform the Sponsor's understanding of the economic trade-offs involved and to confirm that restructuring the Transaction to pursue a 338(h)(10) election (even if it were legally available) would not be advisable.
A. Potential Step-Up Benefits (If Election Were Available)
The principal benefit of a Section 338(h)(10) election to the buyer is the step-up in the tax basis of the target's assets. Under the deemed asset sale mechanics of Section 338, the target is treated as having sold all of its assets at fair market value and as a new corporation that purchased those assets for an amount equal to the "adjusted grossed-up basis" or "AGUB," as defined in IRC § 338(b). The AGUB is generally equal to the grossed-up basis of the purchasing corporation's recently purchased stock in the target, plus the target's liabilities, plus other relevant items.
For Pennfield, the AGUB would approximate the $980,000,000 aggregate deal value, adjusted for assumed liabilities (including Pennfield's existing indebtedness, deferred rent obligations, accrued liabilities, and other balance sheet liabilities), less cash on hand and certain other adjustments. The precise AGUB calculation would depend on the target's balance sheet at closing, but for purposes of this hypothetical analysis, we estimate the AGUB would be in the range of $1.0 billion to $1.1 billion (inclusive of assumed liabilities).
The step-up in basis would be allocated among Pennfield's assets under the residual method prescribed by IRC § 338(b)(5) and Treasury Regulations § 1.338-6, which allocates basis first to cash and cash equivalents (Class I), then to certificates of deposit, U.S. government securities, and similar items (Class II), then to accounts receivable, mortgages, and credit card receivables (Class III), then to inventory (Class IV), then to all other tangible and intangible assets not in another class (Class V), then to IRC § 197 intangibles other than goodwill and going concern value (Class VI), and finally to goodwill and going concern value (Class VII — residual).
For Pennfield, the asset base subject to step-up allocation would include the following principal categories:
• Inventory: Pennfield carries approximately $280,000,000 of inventory at cost. The step-up to fair market value would generate a modest tax benefit as the stepped-up inventory is sold through in the ordinary course of business post-closing, resulting in a reduced cost of goods sold for tax purposes. However, this benefit is short-lived (typically one to two inventory turnover cycles, or approximately six to twelve months for a specialty retailer like Pennfield).
• Tangible Personal Property: Pennfield owns store fixtures, point-of-sale equipment, warehouse and distribution center equipment, vehicles, and other tangible personal property. The net book value of these assets is approximately $85,000,000. The step-up to fair market value would permit accelerated depreciation deductions under IRC § 168, including potential bonus depreciation (if available) or accelerated depreciation under the Modified Accelerated Cost Recovery System ("MACRS"). However, the incremental step-up allocated to tangible personal property is likely to be modest relative to the total AGUB, given that much of Pennfield's tangible asset base is leased rather than owned.
• Real Property Interests: Pennfield operates 209 retail locations (187 company-owned stores and 22 outlet locations) across 34 states. However, the vast majority of these locations are leased, not owned. Pennfield's real property interests consist primarily of leasehold improvements, which have limited fair market value separate from the underlying lease. Pennfield owns one distribution center (in Gastonia, North Carolina) and the land and building associated with its Charlotte headquarters. The step-up allocated to owned real property and leasehold improvements would generate depreciation deductions over extended recovery periods (39 years for nonresidential real property under IRC § 168(c)), resulting in a long depreciation tail with limited present-value benefit.
• Intangible Assets: Pennfield's identifiable intangible assets include its trademarks and trade names (including the "Pennfield" brand and several sub-brands), its e-commerce platform and related technology, customer relationships and customer lists, favorable lease terms, and assembled workforce. These intangibles would be amortizable over 15 years under IRC § 197. The step-up allocated to IRC § 197 intangibles would provide meaningful, but deferred, tax benefits through annual amortization deductions.
• Goodwill and Going Concern Value (Residual): The residual AGUB — i.e., the excess of the total AGUB over the fair market value of all specifically identifiable assets — would be allocated to goodwill and going concern value, which is also amortizable over 15 years under IRC § 197. Given the magnitude of the premium inherent in the $980,000,000 acquisition price relative to the book value of Pennfield's identifiable assets, we would expect the residual allocation to goodwill and going concern value to be substantial — likely in excess of $400,000,000. This allocation would generate significant annual amortization deductions, but the 15-year amortization period under IRC § 197 means that the present-value benefit is diluted by the extended recovery period.
Preliminary NPV Estimate. Without undertaking a full financial model (which would require detailed asset appraisals and tax projections), we estimate that the net present value ("NPV") of the incremental step-up benefits from a hypothetical 338(h)(10) election — taking into account the time value of money, the applicable federal and state tax rates, and the recovery periods applicable to each asset class — would be in the range of approximately $50,000,000 to $70,000,000, using a discount rate consistent with the blended cost of capital in the Transaction. The bulk of this benefit arises from the amortization of goodwill and intangibles under IRC § 197, with a smaller contribution from the short-term inventory step-up and the depreciation of tangible assets.
This NPV estimate is preliminary and would need to be refined based on a detailed asset valuation and allocation study prepared by a qualified independent appraiser. However, for purposes of the advisability analysis, this estimate is sufficient to frame the comparison with the incremental tax costs described below.
B. Incremental Tax Cost to Selling Stockholders
A Section 338(h)(10) election imposes a corporate-level tax on the deemed asset sale. The target is treated as if it sold all of its assets at fair market value in a single transaction, and the resulting gain is subject to federal corporate income tax at the current statutory rate of 21%, as well as applicable state and local income taxes in each jurisdiction in which Pennfield conducts business.
Estimated Corporate-Level Tax Liability. Pennfield's aggregate tax basis in its assets is significantly below the $980,000,000 enterprise value. Based on publicly available information (including Pennfield's most recent Form 10-K, filed with the SEC on April 15, 2025, for the fiscal year ended January 31, 2025), Pennfield's total assets had a book value of approximately $925,000,000, but the tax basis of many of Pennfield's assets is likely lower than their book value due to prior depreciation, amortization, and other basis adjustments. The deemed asset sale would generate substantial gain at the corporate level, particularly with respect to goodwill (which has a zero tax basis if it was internally developed, as opposed to acquired in a prior asset acquisition).
The estimated federal corporate income tax on the deemed asset sale gain would be in the range of $65,000,000 to $95,000,000, and the state and local income tax burden — across 34 states with varying rates and apportionment methodologies — would add an additional $15,000,000 to $25,000,000, for a total estimated corporate-level tax liability in the range of $80,000,000 to $120,000,000.
Impact on Selling Stockholders. Under a 338(h)(10) election, this corporate-level tax reduces the net proceeds available for distribution to selling stockholders in the deemed liquidation. The stockholders would still recognize gain or loss on the deemed liquidating distribution, but the amount distributable to them would be reduced by the corporate-level tax. In effect, the selling stockholders bear the economic burden of the election unless the buyer agrees to increase the purchase price to compensate them — a "tax gross-up."
Tax Gross-Up Impracticality. In a negotiated sale by a single selling stockholder or a small group of identified sellers, a tax gross-up is a common and manageable negotiating point. However, in a going-private transaction of a publicly traded company with approximately 58,200,000 basic shares outstanding held by thousands of dispersed stockholders, negotiating a tax gross-up is impractical for several reasons:
(i) The gross-up would need to be incorporated into the per-share merger consideration, increasing the effective purchase price by approximately $1.30 to $1.95 per share (based on the $80,000,000 to $120,000,000 estimated tax cost divided by 61,450,000 fully diluted shares), which would increase the aggregate deal price to approximately $1,060,000,000 to $1,100,000,000 — an increase of approximately 8% to 12% over the agreed $980,000,000 merger consideration.
(ii) The Pennfield Board of Directors has already approved the $15.95 per-share merger consideration following a thorough review process, including a fairness opinion from Pennfield's financial advisor. A material increase in the per-share consideration would reopen the negotiation and potentially require a new fairness opinion.
(iii) The incremental cost to the buyer would exceed the NPV of the step-up benefits ($50,000,000 to $70,000,000) by a significant margin ($80,000,000 to $120,000,000), resulting in a net economic loss to the buyer from the election.
Major Stockholder Impact. The tax consequences would be particularly significant for Pennfield's largest stockholders, whose identity and holdings are as follows (based on the most recent Schedule 13F filings and Form 4 disclosures):
• Stonebridge Asset Management LP (Philip Torrance, Managing Partner): 5,354,400 shares (9.2% of basic shares outstanding)
• Everhart Capital Advisors LLC (Irene Castillo, Chief Investment Officer): 3,957,600 shares (6.8% of basic shares outstanding)
• Galloway Pension Trust (Ronald Kessler, Trustee): 2,386,200 shares (4.1% of basic shares outstanding)
These institutional holders would bear a disproportionate share of the incremental tax burden under a 338(h)(10) election and could be expected to oppose the structure if it were presented to them for consent. We note that the consent of all selling stockholders would be required for a 338(h)(10) election in the case of an S corporation target, further underscoring the impracticality of the election in the public-company context. (Pennfield is not an S corporation, but the consent issue is illustrative of the broader practical challenges.)
For all of these reasons, even if a 338(h)(10) election were theoretically available, the incremental tax cost to selling stockholders — and the resulting need for a buyer-funded tax gross-up — would make the election economically inadvisable. The estimated NPV of the step-up benefits ($50,000,000 to $70,000,000) does not justify the estimated incremental tax cost ($80,000,000 to $120,000,000), and the net economic result to the buyer would be negative.
C. Interaction with R&W Insurance and Indemnification
The R&W insurance and indemnification framework in the Transaction is designed to allocate risk arising from breaches of representations and warranties in the Merger Agreement. A Section 338(h)(10) election, if it were available, would have implications for this framework that would need to be carefully addressed.
R&W Insurance Policy. The buyer-side R&W Policy issued by Meridian Specialty Insurance Company was underwritten based on the representations and warranties in the Merger Agreement as currently drafted, which contemplates a reverse triangular merger structure without a Section 338(h)(10) election. If the election were made, the deemed asset sale treatment would alter the tax profile of the Transaction in ways that could affect the scope and applicability of the tax-related representations and warranties. For example, the tax representations in the Merger Agreement may include representations regarding the target's tax basis in its assets, the absence of undisclosed tax liabilities, and compliance with tax filing and payment obligations. Under a 338(h)(10) election, these representations would take on heightened significance because the corporate-level tax liability on the deemed asset sale would be directly dependent on the target's actual tax basis in its assets.
Depending on how the R&W Policy's exclusions and conditions are drafted, a restructuring to incorporate a 338(h)(10) election could create coverage gaps or trigger exclusions under the policy. In particular, the R&W Policy may exclude coverage for tax liabilities that arise from or are attributable to the buyer's voluntary election to treat the transaction as an asset sale, on the theory that such liabilities are within the buyer's control and are not the result of a breach of the seller's representations and warranties.
Andrea Shelby of Winslow & Crane LLP, acting as underwriting counsel for the R&W Policy, confirmed during underwriting discussions on March 21, 2025 that the R&W Policy as currently bound does not contemplate a Section 338(h)(10) election. Ms. Shelby further advised that any modifications to the deal structure post-binding — including the addition of a Section 338 election — could require re-underwriting of the R&W Policy, which would entail additional due diligence, a revised premium calculation, and potentially revised or narrowed coverage terms. There is no assurance that the R&W insurer would agree to provide equivalent coverage under a revised deal structure.
Indemnification Framework. The indemnification provisions of the Merger Agreement cap the aggregate indemnification obligation at 12% of the deal value ($117,600,000). If a 338(h)(10) election were made, the indemnification framework would need to be supplemented with specific tax indemnification provisions addressing the allocation of the corporate-level tax burden arising from the deemed asset sale. These provisions would need to address, among other things:
• The obligation to prepare and file tax returns reflecting the deemed asset sale;
• The allocation of tax liability between the pre-closing period (through the deemed sale) and the post-closing period;
• The right to control audits and disputes with tax authorities relating to the deemed asset sale;
• The treatment of any refunds or overpayments; and
• The interaction between the tax indemnification and the general indemnification cap.
The complexity and potential magnitude of these tax indemnification issues would add significant transaction risk and negotiation friction to the deal process, without commensurate benefit given the analysis set forth above. For these reasons, we conclude that the R&W insurance and indemnification implications of a 338(h)(10) election provide an additional basis for concluding that the election, even if available, would not be advisable.
VI. Comparison with Section 338(g) Election
For completeness, we briefly address the alternative of a unilateral Section 338(g) election under IRC § 338(a).
Unlike a Section 338(h)(10) election, a Section 338(g) election does not require the consent of the seller or the selling group. It may be made unilaterally by the acquiring corporation with respect to any qualified stock purchase. As discussed above, however, the Transaction as currently structured does not constitute a QSP, so a 338(g) election is not available under the reverse triangular merger structure.
Even if the Transaction were restructured as a stock purchase that constitutes a QSP, a Section 338(g) election would be economically irrational for the Pennfield acquisition. The reason is straightforward: a 338(g) election results in double taxation of the transaction. Specifically:
(i) Corporate-Level Tax: The target is deemed to have sold all of its assets at fair market value, generating corporate-level gain subject to federal and state income tax. The estimated corporate-level tax liability would be in the same range as under a 338(h)(10) election — approximately $80,000,000 to $120,000,000. However, unlike a 338(h)(10) election, this tax is not borne by the selling stockholders; instead, it is effectively borne by the buyer, because the buyer owns the target at the time the deemed sale is treated as occurring (the day after the acquisition date).
(ii) Stockholder-Level Tax: The selling stockholders also recognize gain on the actual stock sale, subject to federal and state capital gains tax. This stockholder-level tax would be payable regardless of whether a 338(g) election is made; it is a consequence of the stock sale itself, not of the election.
Under a 338(g) election, both taxes apply — the corporate-level deemed asset sale tax and the stockholder-level stock sale tax. The corporate-level tax is an additional cost that would not be incurred in a straight stock acquisition without an election. The buyer bears this cost because it reduces the value of the target's assets post-closing by the amount of the tax liability.
The estimated combined tax cost of a 338(g) election — including the $80,000,000 to $120,000,000 in corporate-level tax plus the reduction in target asset value — would far exceed the net present value of the step-up benefits ($50,000,000 to $70,000,000). The election would therefore be value-destructive for the buyer.
Conclusion: A Section 338(g) election is neither available (given the current merger structure) nor advisable (given the double taxation that would result even under an alternative stock purchase structure). We do not recommend pursuing a 338(g) election under any scenario.
VII. Coordination with Other Tax Analysis
This memorandum should be read in conjunction with the following related memoranda, each of which addresses a distinct aspect of the Transaction's tax profile:
Tax Structure Memorandum (March 28, 2025). The Tax Structure Memorandum, authored by the undersigned and distributed to the same recipient list, addresses the federal income tax consequences of the reverse triangular merger structure, including:
• The treatment of the cash merger consideration received by Pennfield stockholders as proceeds from a taxable sale or exchange of their Pennfield stock, with gain or loss recognized under IRC § 1001;
• The tax treatment of the management rollover equity, including analysis of whether the contribution of Pennfield shares in exchange for equity interests in the post-closing entity qualifies for tax-deferred treatment under IRC § 351 or is treated as a taxable exchange;
• The confirmation that the Merger does not qualify as a tax-free reorganization under IRC § 368(a)(2)(E) (reverse triangular merger reorganization) because the merger consideration is entirely cash, with the exception of the management rollover, which is structured as a separate contribution transaction and does not constitute "stock" of the acquiring corporation paid as merger consideration; and
• The installment sale analysis under IRC § 453, which is inapplicable given that the merger consideration is payable entirely in cash at closing.
State & Local Tax Considerations Memorandum (March 30, 2025). The State & Local Tax Considerations Memorandum, also authored by the undersigned, addresses state and local tax implications of the Transaction, including:
• Nexus analysis for Pennfield's operations in 34 states, including income tax nexus, sales and use tax nexus, and franchise tax nexus;
• State income tax apportionment considerations for the post-closing entity;
• Transfer tax considerations (real estate transfer taxes, controlling interest transfer taxes, and similar levies) in states where Pennfield holds real property interests;
• State-level treatment of the management rollover equity; and
• Optimization opportunities for the post-closing entity structure, including the potential use of state holding company structures, intellectual property holding companies, and other planning techniques to minimize the Surviving Corporation's aggregate state and local tax burden.
The state and local tax analysis in the SALT memorandum would also be relevant to the step-up allocation analysis discussed hypothetically in Section V.A of this memorandum, as the allocation of stepped-up basis among Pennfield's assets in 34 states would raise complex apportionment and sourcing issues.
VIII. Conclusion and Recommendation
Based on the analysis set forth in this memorandum, we reach the following conclusions:
Primary Conclusion. A Section 338(h)(10) election is not available for the proposed acquisition of Pennfield Holdings, Inc. by Harrowgate Private Equity Fund IV LP. The Transaction, as structured, is a reverse triangular merger under DGCL § 251, which does not constitute a "qualified stock purchase" within the meaning of IRC § 338(d)(3). Treasury Regulations § 1.338-3(b)(3) explicitly provides that a reverse subsidiary merger does not qualify as a QSP. Because a QSP is the threshold prerequisite for any election under IRC § 338, including a Section 338(h)(10) election, the election cannot be made.
Independently, even if the Transaction were restructured as a direct stock purchase constituting a QSP, a Section 338(h)(10) election would remain unavailable because Pennfield is a standalone publicly traded C corporation — not an S corporation and not a member of a selling consolidated group or affiliated group. Section 338(h)(10) is limited by statute and regulation to qualified stock purchases of (i) S corporations and (ii) members of selling consolidated or affiliated groups. Pennfield does not fall within either category.
Secondary Conclusion. Even assuming arguendo that a Section 338(h)(10) election could be made available through some hypothetical restructuring of the Transaction and Pennfield's corporate status (which, as stated, is not possible), the election would likely not be advisable. Specifically:
(a) The incremental corporate-level tax on the deemed asset sale would be substantial, with preliminary estimates in the range of $80,000,000 to $120,000,000 in combined federal and state income taxes;
(b) The estimated net present value of the step-up benefits to the Buyer, at approximately $50,000,000 to $70,000,000, would be materially less than the incremental tax cost, resulting in a net economic loss;
(c) The requirement to negotiate a tax gross-up with dispersed public stockholders — numbering in the thousands and holding approximately 58,200,000 basic shares — would be impractical and would increase the effective deal price by approximately 8% to 12% above the agreed $980,000,000 merger consideration;
(d) The R&W insurance policy, as currently bound with Meridian Specialty Insurance Company, does not contemplate a 338(h)(10) election, and any modification to the deal structure could require re-underwriting, with the attendant risk of reduced or narrowed coverage; and
(e) The indemnification framework would need to be significantly restructured to address the allocation of the corporate-level tax burden, adding negotiation complexity and transaction risk without commensurate benefit.
Recommendation. No further action on Section 338(h)(10) is warranted. The reverse triangular merger structure should proceed as planned, and the Merger Agreement should be executed without a Section 338(h)(10) election provision.
The Buyer should instead focus on maximizing available post-closing tax benefits through the following strategies:
(a) Amortization of Intangibles. To the extent that any intangible assets are created or acquired in connection with the Merger (as distinguished from a step-up, which requires a 338 election), the Buyer should evaluate the availability of amortization deductions under IRC § 197 in respect of any such intangibles. We note, however, that in a stock acquisition (which includes a reverse triangular merger where the target survives), the target's historical tax basis in its assets carries over, and no step-up or new basis is created in the target's assets absent a Section 338 election. Accordingly, the amortization opportunity in a stock acquisition structure is more limited than in an asset acquisition.
(b) Post-Closing Entity Structure Optimization. The Buyer should work with Pennfield's management and tax advisors to optimize the post-closing entity structure for state and local tax efficiency, as addressed in the State & Local Tax Considerations Memorandum dated March 30, 2025. This may include the formation of state holding company structures, intellectual property licensing arrangements, and intercompany financing structures designed to minimize the aggregate state and local tax burden of the consolidated post-closing group.
(c) Transaction Cost Deductibility. The Buyer should evaluate the deductibility of transaction costs and financing costs post-closing, including the amortization of debt issuance costs associated with the $490,000,000 Term Loan B and the $150,000,000 Revolving Credit Facility, as well as the deductibility of advisory fees, legal fees, and other costs incurred in connection with the Transaction, subject to the capitalization requirements of IRC § 263 and Treasury Regulations § 1.263(a)-5.
We are available for further discussion at any time. We suggest coordinating with Pennfield's tax advisor, Crestline Tax Advisors LLC (contact: Alan Fitzgerald, 300 South Brevard Street, Suite 1500, Charlotte, North Carolina 28202), if any questions arise regarding the Target's historic tax basis in its assets during the closing process or the due diligence review of Pennfield's tax positions.
IX. Limitations and Disclaimer
This memorandum is prepared for the sole benefit of Harrowgate Private Equity Fund IV LP and its affiliates, including Harrowgate Capital Partners LLC and Harrowgate Capital Partners IV GP LLC, in

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