Buying a company is an expensive proposition. In addition to the purchase price, there are legal expenses, financial adviser fees and sometimes, financing costs. These expenses will arise regardless of whether the purchase turns out to be a good deal or not. Through the due diligence process and representations and warranties of the seller in the sale agreement, the buyer should obtain some protection against incurring substantial expenses to acquire a company and then learning that the acquired company is not what it appeared to be.
But what about a buyer that walks away before a definitive agreement? That buyer could still have incurred significant expenses in the due diligence process. If that buyer believes it was defrauded in the due diligence process, can it shift responsibility for due diligence expenses to the seller? The Supreme Court’s decision in RAA Management v. Savage Sports Holdings, No. 577, 2011 (Del.), suggests that will be difficult unless the seller negotiated for the accuracy and completeness of information provided by the buyer in the due diligence process.
RAA arose from an auction of defendant Savage Sports Holdings. In September 2010, Savage’s financial adviser contacted plaintiff RAA Management about RAA potentially bidding for Savage. As is typical in the sale process, RAA entered into a nondisclosure agreement with Savage to obtain confidential information about Savage for due diligence. In the NDA, RAA agreed that Savage was making no representations or warranties as to the accuracy of any information provided to RAA and that Savage would have no liability to RAA if RAA relied on such information, with an exception for breaches of representation and warranties made by Savage in a later, definitive sale agreement. RAA also waived any claims it might have in a potential transaction with Savage unless the parties entered into a definitive agreement. After engaging in some due diligence, RAA and Savage executed a letter of intent. After additional due diligence, RAA notified Savage it was no longer interested in acquiring RAA and demanded payment of its $1.2 million in due diligence costs.
RAA sued Savage in the Superior Court, claiming that Savage committed fraud by misrepresenting three material liabilities relating to an environmental investigation, potential unionization at a facility and a multimillion-dollar lawsuit. The Superior Court granted Savage’s motion to dismiss based upon on the terms of the NDA and RAA appealed to the Supreme Court.
In the appeal, the Supreme Court assumed New York law applied (the NDA contained a New York choice of law clause), but concluded that the outcome would be the same under Delaware or New York law. The Supreme Court first addressed RAA’s argument that the NDA only barred RAA from asserting claims based on inaccurate or incomplete information negligently or mistakenly provided by Savage, but that RAA could still sue for inaccurate or incomplete information that was fraudulently provided. The Supreme Court disagreed, finding that the disclaimers in the NDA did not distinguish between incorrect information provided negligently or intentionally. The Supreme Court also rejected RAA’s alternative argument that the disclaimer language in the NDA was ambiguous. Relying on two prior Court of Chancery decisions interpreting similar NDA language, the Supreme Court held the language was unambiguous under Delaware and New York law. Under the NDA, RAA agreed that unless there was a final sale agreement, Savage would have no liability for any inaccurate or incomplete information it provided in the due diligence process.
RAA next argued that the Superior Court should have applied New York’s peculiar knowledge exception and denied Savage’s motion to dismiss. Under the peculiar knowledge exception, some New York courts have held nonreliance provisions would not bar a buyer’s claims of fraudulent inducement if the facts at issue were peculiarly within the knowledge of the seller. The Supreme Court agreed with Savage, however, that the peculiar knowledge exception was inapplicable where sophisticated parties could have negotiated contractual protection for themselves. According to the Supreme Court, RAA and Savage were sophisticated parties and RAA could have negotiated for a representation by Savage that it was providing complete and accurate due diligence disclosures.
Finally, the Supreme Court rejected RAA’s argument that the nonreliance and waiver provisions of the NDA should not be enforced due to public-policy considerations. As the Supreme Court recognized, Delaware has a public policy in favor of enforcing contractual disclaimers of reliance on representations outside of a final sale agreement. A party attempting to escape the effect of such a representation by claiming that it relied on representations outside of a final sale agreement is essentially admitting that its own representation in the final sale agreement was false. New York has the same public policy favoring enforcement of reliance disclaimers. Accordingly, the Supreme Court concluded that under New York and Delaware law, RAA’s claims were barred by the NDA. The Supreme Court affirmed the Superior Court’s dismissal of RAA’s complaint.
This case offers useful guidance to buyers and sellers negotiating NDAs. Buyers should heed the lessons of this case and attempt to negotiate language in which the seller represents the accuracy and completeness of information provided in due diligence. Depending on the amount of interest in the seller, a buyer could have trouble obtaining such language. A buyer will then have to decide, before receiving nonpublic information, whether it wants to go ahead and incur the expense of due diligence or if it should walk away. Sellers, on the other hand, will want to have disclaimer language like the language in the NDA in this case.