A recent opinion [1] from the Delaware Superior Court addresses the not uncommon situation of a buyer of a business seeking to pursue remedies against the seller that are not specified in the purchase agreement based on allegations of fraudulent conduct by the seller or its representatives.  Specifically, the buyer acquired the shares of a company that had a liability (an obligation to make an “earn-out” payment to the former owners of a previously acquired company) that became payable after completion of the acquisition.  The buyer sued the seller alleging that the seller (and not the acquired company) should be responsible for satisfying the earn-out liability when it became due.

The court rejected the first element of the buyer’s complaint — that the purchase agreement itself required the seller to satisfy the liability — and instead concluded that the agreement was unambiguous in providing that the liability was an obligation of the acquired company (and the seller had not agreed to retain or satisfy the liability).  But the buyer also alleged that in the course of negotiating the purchase agreement the seller had made a fraudulent promise, separate from the purchase agreement, to the effect that the seller would satisfy the earn-out obligation when it became payable.  The court, applying the relatively plaintiff-friendly standard used in considering motions to dismiss, refused to dismiss the fraud claim.  In reaching this conclusion, the court considered two provisions of the purchase agreement:

  • First, the court noted that although the agreement contained an integration clause and a “no other representation” acknowledgment from the buyer, the provision did not include a specific acknowledgement that the buyer did not rely on any representations or statements other than those expressly set forth in the purchase agreement. Prior Delaware cases [2] have held that such a specific acknowledgement of non-reliance is necessary in order to avoid fraud claims based on extra-contractual statements.
  • Second, the agreement contained an exception to the provision that the seller’s indemnity would be the buyer’s exclusive remedy for post-closing recourse, and that exception permitted non-indemnity-based claims for “actual fraud”. The court referred to this language as indicating that the parties expressly contemplated that fraud claims were contemplated (and may have survived even if the contract included broader non-reliance language referred to in the prior paragraph). [3]

Most purchase agreements contain some formulation of these provisions and this decision is a useful reminder that the actual words are quite important.  In particular, Delaware law [4] appears to permit a seller to limit its liability for all claims of fraud except to the extent that the seller knew that the actual representations and warranties in the purchase agreement were false.  In other words, a seller should be able to insulate itself from claims of fraud based on statements outside of the purchase agreement so long as the purchase agreement is properly drafted.  In order to achieve this result, the purchase agreement should contain (in addition to a standard integration clause) an express acknowledgement that the buyer has not relied on any statements or representations other than those expressly included in the purchase agreement.  In addition, any “fraud” exception to the exclusive remedies (or other) limitation should be carefully tailored to permit only fraud claims based on the representations and warranties included in the purchase agreement and not claims based on extra-contractual statements.

[1] TrueBlue, Inc. et al. v. Leeds Equity Partners IV, LP, memo. op. (Del. Super. Sept. 25, 2015)

[2] Abry Partners V, L.P. v. F&W Acquisition LLC, 891 A.2d 1032 (Del. Ch. 2006)

[3] In refusing to dismiss the fraud claim, the court also rejected the seller’s argument that buyer could not have reasonably relied on an alleged oral promise of the seller that was directly contradicted by the unambiguous terms of the subsequently executed purchase agreement.  In particular, since the court held that the purchase agreement made clear that the earn out payment was the acquired company’s obligation, there would seem to be a strong argument that the buyer could not prevail on a fraud claim that contradicted the written agreement, since reasonable reliance on a representation is an essential element of a fraud claim.  But here, despite dismissing the contract-based claims, the court permitted the fraud claim to go forward because it found the contract language insufficiently clear to defeat, at the motion to dismiss stage, reasonable reliance on allegedly inconsistent oral promises.  Although outside the scope of this note, we find this conclusion somewhat perplexing.

[4] New York law is similar, although it is advisable under New York to draft the non-reliance waiver with as much specificity as possible.  See Grumman Allied Industries, Inc. v. Rohr Industries, Inc. (2nd Circuit, 1984).