M&A: No-Reliance Contract Clauses and Avoiding Post-Closing Claims of Fraud
A post-closing claim of fraud is one of the most common litigation risks associated with buying/selling a San Diego business or with a merger and acquisition. In general, this is a claim made by a buyer who has “buyer’s remorse.” We wrote recently about how to avoid litigation over fraud claims with solid no-reliance clauses in the sale/purchase contract and in other closing documents/agreements. See here. As a reminder, one of the legal elements of a fraud claim is “reasonable reliance” by the buyer on any alleged false claims or omissions made by the seller. Defeating the reliance element is one reason that any seller must demand, in the sale/purchase agreement, that a buyer engage in a robust due diligence regimen. An experienced San Diego corporate lawyer can help draft a solid enforceable sale/purchase agreement that will accomplish these goals.
A recent case out of Delaware is right on point and provides good guidance on the contract-drafting principles. See Chyronhego Corp. v. Wright, C.A. No. 2017-0548-SG (Dela. Court of Chan. July 13, 2018). See Opinion here. Normally, we focus on California cases. But, occasionally, lessons can be learned from decisions made by courts in our sister states. In brief, the Delaware Chancery Court gave guidance as follows:
- A standard “merger” or integration or “entire agreement” clause is insufficient to contractually defeat the reliance element
- Explicit statements related to the parties’ non-reliance are needed
- Linking the non-reliance language explicitly to fraud and fraud claims are needed
- Explicit references should be made to omissions
- Language — as a whole — must show unequivocally that buyer is promising that he/she/it did not rely on statements or omissions made by the Seller (other than those in the contract documents)
In ChyronHego, the court held that the seller had effectively defeated a claim of fraud with combination of four provisions:
- A standard integration/merger clause,
- An exclusive remedies provision (not listing a claim of fraud),
- An “excluded liabilities” section in the indemnification provision (excluding fraud) and
- An anti-reliance provision (labeled as an “exclusive representation” clause).
The court held that the clauses, read together and “holistically,” clearly indicated the parties’ intent to make the buyer wholly responsible for its decision to consummate the deal without any reliance on statements or omissions allegedly made by the seller. The court did hold that the buyer could sue for fraud related to alleged statements/representations made in the contract. But, that was not alleged in the case. Thus, the fraud claim was dismissed.
Here is a quick rundown of the case and the “exclusive representation” clause that was used:
San Diego Corporate Law: Details on ChyronHego
ChyronHego is a company that specializes in creating graphics used in live television broadcasts and in other media. The target company was called Click Effects which creates graphics and media effects for in-stadium events for high schools, colleges, and professional sports teams. The agreed price was $12.5 million. After the deal was consummated, ChyronHego was unhappy and eventually sued in Delaware state court alleging various false statements and misrepresentations by the sellers of Click Effects mostly revolving around the actual financial condition and value of Click Effects. ChyronHego was required by the stock purchase agreement to conduct due diligence and such due diligence was conducted.
The sellers filed a motion to dismiss the fraud claims. As noted, the court agreed with the legal arguments put forward. Here was the anti-reliance/exclusive representation clause used in the contract:
“[SELLER] and the Buyer agree that neither the Company, any Seller nor any of their respective Affiliates or advisors have made and shall not be deemed to have made any representation, warranty, covenant or agreement, express or implied, with respect to the Company, its business or the transactions contemplated by this Agreement, other than those representations, warranties, covenants and agreements explicitly set forth in this Agreement. Without limiting the generality of the foregoing, the Buyer agrees that no representation or warranty, express or implied, is made with respect to any financial projections or budgets; provided, however, that this Section 4.7 shall not preclude the Buyer … from asserting claims for Fraud indemnification in accordance with [other provisions of this Agreement.]
Contact San Diego Corporate Law
For more information, contact attorney Michael Leonard of San Diego Corporate Law. To schedule a consultation, contact Mr. Leonard via email or by calling (858) 483-9200. Mr. Leonard has been named a “Rising Star” four years running by SuperLawyers.com and “Best of the Bar” by the San Diego Business Journal.