Scion Breckenridge Managing Member, LLC v. ASB Allegiance Real Estate Fund, No. 437, 2012, 2013 WL 1914714 (Del. May 9, 2013)

Issue Addressed:  Whether the reformation of agreements was appropriate on the basis of unilateral mistake and knowing silence by an opposing party.

Short Answer: Yes. Delaware courts may reform a written contract, as long as the complaining party’s failure to note the error does not amount to a lack of good faith and is in accordance with reasonable standards of fair dealing.

Background: The Chancery decision that was appealed from was highlighted on these pages at this link.

From January 2007 to January 2008, ASB Capital and Scion Group formed five joint ventures, each of which was a Delaware LLC. Scion Group sponsored the investments while ASB served as the investment promoter, providing 99% of the capital. During the formation of their third joint venture agreement, the junior associate tasked with drafting the agreement misplaced key terms so that Scion Group would receive incentive compensation even if the joint ventures lost money. The fourth and fifth agreements contained the same error.

ASB filed suit in the Court of Chancery seeking an order reforming all three of the disputed agreements to comport with the allegedly correct joint venture agreement. Scion counterclaimed and both sides invoked a contractual fee-shifting provision for attorneys’ fees.

The Vice Chancellor made certain credibility judgments against the principals of Scion Group. The Court found that Scion Group was aware of the mistake and remained silent; although, it did not find that Scion Group went as far as engaging in any fraud or trickery. The Vice Chancellor reformed the disputed agreements and awarded ASB over $3.2 million in attorneys’ fees.

Scion Group appealed both rulings to the Delaware Supreme Court.

Case Highlights:

  • The Supreme Court explicitly adopted the reformation standard in Restatement (Second) of Contracts § 157, which provides that a reformation claim is not barred because of a mistaken party’s failure to know or discover the facts before making the contract, “unless his fault amounts to a failure to act in good faith and in accordance with reasonable standards of fair dealing.”
  • The Court expressly overruled any Delaware case law inconsistent with the Restatement’s standard, but limited its ruling to reformation, elaborating that avoidance and reformation are fundamentally different remedies.
  • Against this backdrop, the Court agreed that even if ASB’s President had only read the first agreement, he acted in good faith and in accordance with reasonable standards of fair dealing when he relied on his employees and advisers to alert him to any significant changes in the later agreements.
  • The Court did not address whether ASB would have satisfied the Restatement standard if he had failed to read the first agreement.
  • To clarify the issue of whether knowing silence is sufficient for reformation, the Court reaffirmed the holding in Cerberus International, Ltd. V. Apollo Management, L.P., 794 A.2d 1141 (Del. 2002) which explained that “reformation based on unilateral mistake is available where a party can show that it was mistaken and that the other party knew of the mistake but remained silent.” Id. at 1151.
  • The Court further denounced decisions requiring that a case be “exceptional” in order for reformation to be appropriate. Rather, an “appropriate” case for reformation based on unilateral mistake is the ability to show “by clear and convincing evidence, that the existing written agreement erroneously expresses the parties’ true agreement.”
  • Ratification does not preclude reformation unless the ratifying party had actual knowledge of the error.
  • The high court disagreed with Chancery on the issue of fees and found that ASB did not “incur” fees within the plain meaning of the contract because ASB’s counsel represented it free of charge to avoid a malpractice claim related to the negotiation and drafting of the agreements.
  • The Supreme Court clarified that the power to award fees stems from the Court of Chancery’s inherent equitable authority – not from the statutory power to award costs under 10 Del. C. § 5106.
    • Also, a party cannot seek attorneys’ fees under 10 Del. C. § 5106 because “costs,”  within the context of the statute, do not include attorneys’ fees.
    • The case was remanded in part to determine whether ASB is entitled to fees based on one of the limited exceptions to the general rule that each party pays his own fees.

Postscript: Thanks to our summer intern, Stephenie Reimer, for her help in drafting this post.