In high stakes transactions in which vast sums of wealth are exchanged in return for ownership in ongoing complex businesses, mergers and acquisitions (M&A) contracts are an oft-overlooked source of clever legal craftsmanship. With so much value and risk embodied in these transactions, counsel for both parties—sought after specialists in these pressure-filled transactions—play a tense game of textual jab and parry, each trying to minimize risk and maximize leverage for their clients. In doing so, they often create compelling contract language readily amenable for use in non-M&A contexts.
Legal acumen and attention in acquisition deals is most likely brought to bear on the representations and warranties, the indemnification provisions, the liability cap, and the fraud disclaimer. Glenn D. West, a prominent M&A lawyer and commentator whose insights reach well beyond the M&A context, has written extensively about the appropriate contract language to use in order to effectively disclaim the threat of fraud claims and avoid liability for extra-contractual statements. In two highly regarded pieces for the ABA Business Lawyer (Contracting to Avoid Extra-Contractual Liability —Can Your Contractual Deal Ever Really Be the “Entire” Deal? and That Pesky Little Thing Called Fraud: An Examination of Buyers’ Insistence Upon (and Sellers’ Too Ready Acceptance of) Undefined “Fraud Carve-Outs” in Acquisition Agreements), Mr. West has proven an effective advocate for, inter alia, the following propositions:
- more than a simple “entire agreement” integration clause is required to effectively disclaim reliance on extra-contractual statements;
- buyer should be required to disclaim reliance on extra-contractual statements; and
- a simple “except in the case of fraud” disclaimer at the end of an exclusive remedies provision is unacceptably vague and imbued with risk that most practitioners would not accept if they understood the implications.
These are worthy guidelines in the licensing and technology transactions context as well. Virtually any transaction in which one side is selling something of significant value (including high-dollar technology licensing or acquisition agreements, IT outsourcing agreements, and enterprise SaaS solution terms) would benefit from the clarity and certainty that comes with limiting the remedies and risks of the parties to the four corners of the contract.
After all, it’s not uncommon for a breach of contract claim to be accompanied by a fraud claim, as a matter of course. As Mr. West ably points out:
Fraud and negligent misrepresentation claims have proven to be hard to define, easy to allege, hard to dismiss on a threshold, pre-discovery motion, difficult to disprove without expensive, lengthy litigation, and highly susceptible to the erroneous conclusions of judges and juries. And ironically, it may be the one alleging the fraud that is the actual ‘fraudster’—not the person against whom the fraud is alleged.
This dynamic is no less applicable in the technology transactions context.
When a big technology implementation project fails, the customer’s lawyers will pretty much always try hard to find opportunities to accuse the vendor of having lied.
…
Litigation counsel know that jurors typically won’t understand whatever technology is involved. (In fact, the customer’s lawyers might well try to exclude any prospective juror who knows even a little about the technology.)
That can make it hard for customers to win such cases on garden-variety ‘technical’ grounds such as breach of contract or breach of warranty. Judges and jurors absolutely do get it, on the other hand, when it appears someone lied or cheated.
D.C. Toedt III, On Contracts, Why the fraud claim is the lawyer’s weapon of choice in lawsuits over failed technology projects (2010) (noting that the threat of punitive damages, not available in breach of contract claims but commonly awarded in fraud claims, raises the stakes in this context considerably).
Consequently, technology counsel for both sides should consider the following drafting points, in furtherance of making the written deal the entire deal of the parties. First, consider establishing the sole remedies for breach of warranties, and make such remedies available to the buyer regardless of whether breach involves “intentional, reckless or negligent misrepresentations.” Consider including language such as, “Vendor is not asserting the truth of any warranty set forth in this Agreement; rather the parties intend that if any warranty proves untrue, Buyer will have the specific rights and remedies set forth in this Agreement and no other.”
Second, consider including disclaimers of reliance on extracontractual statements. Here’s an example: “The parties have voluntarily agreed to define their rights, liabilities and obligations respecting this Agreement and [insert subject matter] exclusively in contract pursuant to the terms of this Agreement, and each party disclaims that it is owed any duties or is entitled to any remedies not set forth in this Agreement.”
And third, for any fraud-related carveouts to the disclaimers, avoid reliance on the all-too-simple “except in the case of fraud.” As Mr. West demonstrates, fraud can be a great many things; and as such, the term should be defined, so as to avoid ambiguity. One possibility is to define fraud to mean false statements with respect to the set of express warranties in the agreement. Here’s an example: “Nothing in this Agreement will operate to limit the liability of Vendor to Buyer for fraud in the event Vendor is finally determined to have willfully and knowingly committed fraud against Buyer, with the specific intent to deceive and mislead Buyer, regarding the warranties of section [x].”
From the perspective of the buyer, such measures make the warranties and the express remedies the focal point of the negotiations. Buyer’s counsel will seek to make those warranties and remedies as specific and as concrete as possible, recognizing the value that comes with stable and predictable contract language.
Finally, both sides are equally served by a robust integration and merger clause, and a choice of law and forum clause that captures not just contract claims but tort claims as well (eg “This Agreement and all related disputes will be governed by the laws of ___”).
In New York, clauses providing for the agreement to be “governed by” and “construed in accordance with” a particular law have been construed as applying only to disputes concerning the agreement itself, and not to all disputes arising out of the relationship; whereas choice of law clauses applying to controversies “arising out of” or “connected to” the contract are construed to include tort or fraud claims. In California, “governed by” is construed as encompassing all causes of action arising out of or related to the agreement, including tortious breaches of duties arising out of the agreement.
These drafting measures are by no means foolproof. Motivated litigants can always discover new ways of convincing juries to look beyond the text of the contract. Nevertheless, adoption of these measures should go a long way towards ensuring that the parties’ written deal really is the entire deal.
First published in the Spring 2020 edition of New Matter, the quarterly journal of the Intellectual Property Section of the California Lawyers Association.
___________________________
The intended audience for this post is licensed and practicing lawyers, not laypersons seeking legal advice for their situation. If you are not a lawyer, hire one before using or relying on any information contained here. This post is: (1) informational only and not intended as advertising or as solicitation for legal services, (2) not intended to render legal advice to you, and (3) not a substitute for obtaining legal advice from a qualified attorney to assess your exact situation. The information here is subject to change and may not be applicable or correct in your jurisdiction. The views and opinions expressed here are Sean’s alone and do not necessarily represent the positions of Sean’s present or former employers, law firms, or clients.