Search results for: breckenridge

ASB Allegiance Real Estate Fund v. Scion Breckenridge Managing Member LLC, C.A. No. 5483-VCL (Del. Ch. Sept. 16, 2013)

This Chancery decision, on remand from the Delaware Supreme Court, awarded attorneys’ fees based on the bad faith exception to the American Rule. The Supreme Court had remanded because the award of fees was originally based on a fee-shifting provision in the contract, but the high court ruled that such was not a proper basis for a fee award because the prevailing party did not actually incur fees in light of their counsel providing free representation as a means of avoiding a malpractice claim.

This opinion provides a useful explanation of the types of litigation behavior that will support an award of fees. For example, in this case the court found that the scorched-earth tactic of filing three separate suits in three separate states regarding this same dispute, was designed primarily to increase the fees incurred by the other party, and to extract a settlement disproportionate to the merits. (To seasoned lawyers, that strategy is a familiar one observed all too often, but rarely are the promoters of that strategy held to account.)

Prior decisions in this case were highlighted on these pages here.

Postscript: Regular readers may notice that blogging has been light over the last few weeks, and it is expected to continue to be light for the next two weeks or so due to the press of business for paying clients–which for a practicing lawyer should be a good thing. Once my schedule returns to a “less frenetic pace” I hope to resume more regular updates.

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.

 

 

SIGA Technologies, Inc. v. PharmAthene, Inc., Del. Supr., No. 314, 2012 (May 24, 2013). This Delaware Supreme Court decision was the subject of a BloombergBusinessweek article on Sunday, May 26. The Court of Chancery’s opinion was highlighted on these pages at this link. Also, several other prior Chancery decisions in this case were also outlined on these pages.

Issue Addressed: Is an agreement to negotiate in good faith in accordance with a term sheet an enforceable obligation?

Short Answer: Yes, and a court may award expectation damages if the record supports a finding that an agreement would have been reached but for the defendant’s bad faith negotiations. This aspect of the trial court’s 117-page decision was upheld, but Delaware’s high court reversed and remanded the damages award to reconsider damages in light of this opinion.

One Takeaway from this Supreme Court Opinion: The detailed facts must be tethered to any lesson or principle of law taken from this opinion, but at least one ineluctable result of this ruling is that any attorney or businessperson who sends a term sheet to another party in the context of having a duty to negotiate in good faith, must read this opinion in order to determine whether liability will attach as a result of refusing to finalize a definitive agreement in a manner that may be construed, based on this opinion, to be based on less than good faith.

Brief Background

The prior decisions linked above provide more background, but a bare bones distillation of the factual setting involves SIGA and PharmAthene negotiating simultaneously for a license agreement and a merger agreement, with the goal that if the merger was not consummated that at least a license would result. After trial, the Court of Chancery found that the term sheet contained the essential terms for the license and that if a merger was not consummated, that a final and formal license agreement would be entered into. See Supreme Court Slip op. at 9.

Key fact: The parties signed a merger agreement which provided that if the merger were terminated, the parties agreed to negotiate in good faith a definitive license agreement based on the term sheet. (Notably, at the bottom of the two-page term sheet was a “footer” that stated: “non binding terms”.  In the context of the other overwhelming facts, that footer was not determinative.)

Bullet Points on Legal Principles from Opinion

  • Delaware’s high court discussed choice of law principles but determined that it was not necessary to decide the issue because New York and Delaware law were not meaningfully different on the relevant issues. See footnotes 34 to 36 and accompanying text. Nonetheless, the court discussed the reasoning that can be employed when two related, and somewhat overlapping contracts, have two different choice of law provisions.
  • In the context of proposing terms substantially different than the term sheet, the court described “bad faith” as:

 “not simply bad judgment or negligence, but rather it implies the conscious doing of a wrong because of dishonest purpose or moral obliquity; it is different from the negative idea of negligence in that it contemplates a state of mind affirmatively operating with furtive design or ill will.” See footnote 66 and related text.

  • The elements of a promissory estoppel claim were recited and then the court reasoned that such a claim does not apply to this case because a fully enforceable contract governs the promise at issue–that is, the merger agreement with its provision to negotiate in good faith. See Slip op. at 30-31.
  • Two types of “agreements to negotiate in good faith” are referred to as “Type I” and “Type II” based on federal decisions described in footnotes 82 and 85 and accompanying text. Type II agreements do not guarantee the parties will reach agreement on a final contract due to good faith differences that may arise, but a Type II agreement: “does, however, bar a party from renouncing the deal, abandoning the negotiations, or insisting on conditions that do not conform to the preliminary agreement”. Footnote 85.
  • DAMAGES: The Delaware Supreme Court announces new law in this opinion: When the parties have a Type II agreement to negotiate in good faith, and the record supports the trial court’s finding that the parties would have reached an agreement but for the defendant’s bad faith negotiations, the plaintiff is “entitled to recover contract expectation damages.” Slip op. at 37.  Expectation damages presuppose that “the plaintiff can prove damages with reasonable certainty.” See footnote 99. Because this is the first time the Delaware Supreme Court clarified this issue of damages, it reversed and remanded for Chancery to reconsider the award of damages in light of this opinion.
  • Attorneys’ Fees: The Court of Chancery awarded fees based on both the bad faith exception to the American Rule as well as a fee-shifting provision in the Bridge Loan Agreement between the parties. The high court affirmed the award of attorneys’ fees based on the fee-shifting provision and a finding that the fees requested were reasonable. See footnote 110 and related text.
  • The high court did not address the bad faith basis for awarding fees except to note in footnote 109 that the Court of Chancery has inherent equitable authority to award fees–separate from the award of costs pursuant to 10 Del. C. Section 5106 (citing Scion Breckenridge Managing Member, LLC v. ASB Allegiance Real Estate Fund, 2013 WL 1914714  at *12 (Del. May 9, 2013)).
  • The Supreme Court also remanded for the Court of Chancery to reconsider the award of expert fees  so as to tailor them to the bases of liability on which PharmAthene prevailed. See footnotes 111 and 112.

ASB Allegiance Real Estate Fund v. Scion Breckenridge Managing Member LLC, C.A. No. 5843-VCL (Del. Ch. July 9, 2012).  In this opinion the Court of Chancery awarded attorneys’ fees, based on a fee-shifting provision of the LLC agreement, of more than $3.2 million. The recent Chancery decision on the merits of this case, on which the award of fees is based, was highlighted on these pages here.

Issue Addressed

Whether the fee-shifting provisions of an LLC Agreement justified an award of fees to the prevailing party for litigation conducted simultaneously in four different courts.

Short Answer: Yes.

Brief Background

The background details of this case were highlighted in a May 2012 decision by the Court of Chancery linked above, which addressed the merits of a dispute involving the interpretation of several related LLC Agreements, and the decision of the Court to reform the related LLC Agreements based on a scrivener’s error.

One key issue in this case was whether the four separate litigations in four separate courts could be combined for purposes of awarding fees to the prevailing party.

In describing the procedural genesis of this case, the Court said that: “logic and efficiency cried out for a single forum, preferably with a decision-maker knowledgeable about Delaware law.  Scion eschewed the efficient course.”  Instead of agreeing to litigate all the issues in Delaware, the defendant filed three separate additional actions in three separate federal courts in Illinois, Wisconsin and Florida.  Motions to stay were filed, briefed and decided in each of the federal cases.  Motions to dismiss were filed, briefed and decided in all four cases.  Motions for summary judgment were filed, briefed and decided in all four cases.  Multiple courts heard motions on discovery in pretrial issues.  At least two emergency applications were made to the Court of Chancery for an expedited decision to help avoid a “multi-jurisdictional train wreck.”

The prevailing parties sought $3.2 million in fees and costs for the successful effort in the Court of Chancery, as well as in the three separate federal cases.  After the Court of Chancery decision in May of 2012, the parties dismissed the three federal cases by stipulation.  [By comparison, a separate decision from the Court of Chancery also within the last few days, awarded fees based on the bad faith exception to the American Rule, under different factual circumstances, as summarized here.]

Analysis

When parties by agreement have consented to a shifting of fees that requires a non-prevailing party to reimburse the prevailing party for reasonable fees and costs in connection with enforcement of an agreement, the focus of the Court is:  “principally on enforcing the parties’ agreement to make the prevailing party whole.”  Prior decisions of the Court of Chancery have generally upheld such a provision entitling the prevailing party to fees, and the Court has found that such a provision:  “will usually be applied in an all-or-nothing manner.”

Explanation of the Difference between “Good Faith” and “Fair Dealing” as Components of Fiduciary Duty, as Compared to the Implied Covenant of Good Faith and Fair Dealing  

In the course of explaining why it would award attorneys’ fees under the fee-shifting provision of the LLC Agreements, the Court was called upon to discuss the basis of a claim for a breach of the implied covenant of good faith and fair dealing–and to compare the “good faith component” of that covenant, and the “fair dealing component” of such a claim, with the fair dealing concept under the fiduciary duty law of Delaware, and the good faith aspect of the fiduciary duty law of Delaware, and how those concepts differ.  See Slip op. at 5-7.

The Court emphasized that fair dealing for purposes of the good faith and fair dealing covenant imposed on every contract in Delaware as an implied covenant is, unlike its fiduciary duty namesake under the entire fairness doctrine, a commitment to deal consistently with the terms of the agreement of the parties and the agreement’s purpose.

Likewise, the good faith component of the covenant of good faith and fair dealing does not envision loyalty to the other party to the contract, but rather:  “Faithfulness to the scope, purpose, and terms of the parties’ contract.  Both necessarily turn on the contract itself and what the parties would have agreed upon had the issue arisen when they were bargaining originally.”

In connection with its analysis, the Court also reviewed basic contract principles including Delaware’s recognition of “efficient breach” of contract and that the:  “traditional goal of the law of contract remedies has not been compulsion of the promissor to perform as promised but compensation of the promissee for the loss resulting from the breach.  ‘Willful’ breaches have not been distinguished from other breaches . . .”  See footnote 6.  Moreover, the Court emphasized that proving a breach of contract claim does not depend on the breaching party’s mental state.

The Court also emphasized that proof of fraud violates the implied covenant not because breach of the implied covenant requires fraud, but because “no fraud” is an implied contractual term.  That is, the law implies that the parties never would have agreed to fraud as a term of an agreement.

The Court also recited the four situations when an at-will employee can claim a violation of the implied covenant.  See footnote 8.

In discussing the way that the concept of fraud interfaces with a claim for breach of the implied covenant, the Court explained that proving fraud is simply one way of establishing a breach of the implied covenant of good faith and fair dealing, but not the only way.  This is so, because proving fraud represents a specific application of the general implied covenant test; that is:  “What would the parties have agreed to when bargaining initially?”  Specifically, they would have agreed that fraud would not be allowed.  The Court explained that the implied covenant of good faith and fair dealing is, in essence, a contract claim and not a tort claim.

The Court also cited to other decisions to support the view that even when separate actions and separate lawsuits were pending in different jurisdictions, if they were related to one essential dispute, then a fee award would be entirely proper that included those separate actions which were deemed to be one continuous piece of litigation, and the net result of all the actions resulted in the settlement of the differences of the parties.

Reasonableness of the Fee Award

The Court described the standards that would be used to determine the reasonableness of fee awards based in part on Rule 1.5(a) of the Delaware Lawyers’ Rules of Professional Conduct. As applied to the facts of this case, the Court reasoned that simply because the rates that one firm charges are higher does not make them unreasonable.  In addition, the fact that an attorney for one party spent more than twice as many hours for the same task does not make that number of hours unreasonable.  For example, the Court referred to the attorney for the prevailing party spending 67 hours to prepare for an expert deposition, and that at trial the prevailing attorney “destroyed” the credibility of the opposing party’s expert.  The losing party, by contrast, was unshaken on cross examination and that party’s attorney spent less than half the number of hours (31) preparing for the expert deposition.

Practical Perspective

One of the many lessons that can be learned from this opinion, is that Delaware courts do not often second guess the amount of fees charged by attorneys in situations where the fees are awarded based on a fee shifting provision in an agreement, such as this case, or when they were awarded pursuant to the bad faith exception to the American Rule.  See, e.g., Auriga case highlighted here, and the very recent Coughlin case, highlighted here.

ASB Allegiance Real Estate Fund v. Scion Breckenridge Managing Member LLC, C.A. No. 5843-VCL (Del. Ch. May 16, 2012).

Issue Addressed: Should a real estate joint venture agreement be reformed to correct a scrivener’s error in the provisions of an agreement that “departed from settled real estate practice and produced an economically irrational result.”

Short Answer: Yes.

Background Facts

Entities affiliated with ASB Capital Management LLC sued to reform the capital-event waterfall provisions in a series of agreements governing real estate joint ventures managed by the affiliates of the Scion Group LLC.  The mistakenly drafted provisions called for Scion to receive incentive compensation even if the joint ventures lost money.  Scion seeks to enforce the agreements as written, and its affiliates advanced counterclaims for breach of fiduciary duty and related claims.  This post-trial opinion found that the plaintiffs proved that their entitlement to reformation was established by clear and convincing evidence.  The Court found that the testimony of the Scion witnesses was “at best self-serving.”  On the other hand, he found that the testimony of each of the ASB witnesses was candid and credible.

The Court found that the expert witness of Scion could not offer any plausible justification for the mistakenly drafted terms of the agreement known as the waterfall provision. The joint ventures in this case involved student housing.  ASB relied on a large law firm to prepare the joint venture agreements and an experienced real estate partner initially began the drafting responsibility but later ceded much of the work to an associate.

The parties’ intent was for Scion to receive incentive compensation known as a “promote.”  It was intended to be a two-tier promote.  The correct language was in the wrong place.  One of the net results of this misplacement was that Scion would begin to earn its promote before ASB and Scion received back their capital–contrary to standard industry practice.  Therefore on a money-losing deal, Scion would still receive 20% of every dollar that ASB invested.

Despite the dramatic economic consequences of this mistake, apparently nobody reviewing the drafts commented on the change.  However, Scion did notice that the first-tier promote did appear in a draft in the wrong location and “he understood the favorable implications of the error for Scion” even though he admitted that Scion did not provide any consideration for the favorable treatment.

Moreover, the lead partner responsible for preparing the agreement did not recall whether she had read the two drafts involved before they were circulated, but then testified that she must not have done so, because she acknowledged that it was simply wrong.  Her associate conceded that as a young associate she lacked the experience necessary to understand the terms involved and she only learned of the mistake from the partner afterwards.  The critical (wrong) provision, known as the Sales Proceeds Waterfall, was signed off by the associate with the net result being that the first-tier promote came before the return of the invested capital of the members. In the fall of 2007, an amendment was made to other provisions that did not relate to the promote.

A subsequent joint venture was entered into, and while the partner was on vacation, the associate took the lead on drafting the agreement.  She copied the original agreement and then made deal specific changes on business terms which did not correct the mistake.  Everyone assumed that the original agreement reflected the deal terms that everyone had negotiated, and therefore, that provision was not reviewed carefully.  The partner did not review the agreement carefully before it was approved.

Subsequent agreements among the parties were entered into whereby the associate would electronically copy the original agreement and then only made deal-specific edits without fixing the substantive mistake.  All the lawyers and the parties finalized the subsequent agreements again while assuming that it was correct, and not reviewing the provisions with the mistake.

The Court found that the brothers who controlled Scion were aware of the mistake but because it was to their benefit did not notify anyone.  One of those brothers, who was a lawyer, stayed “knowingly silent” about the mistake.

Several years later, in June 2010, Scion exercised a put right in one of the agreements.  At that point the venture was underwater and was worth less than what ASB had contributed in capital.  Based on the mistake, Scion would receive a gain of 282% and ASB would have a loss of $14 million or roughly 30%.  Without the mistake, Scion would have suffered a proportionate loss comparable to ASB.  Scion exercised a similar put right in other joint venture agreements with the parties that resulted in a similar substantial gain that was approximately 328%.

Analysis

The Court explained the concept of equitable reformation which involves the Court’s power to “reform a contract in order to express the real agreement” of the parties involved.  The Court explained that there are two doctrines that allow a reformation:

“The first is the doctrine of mutual mistake.  In such a case, the plaintiff must show that both parties were mistaken as to a material portion of the written agreement.  The second is the doctrine of unilateral mistake.  The parties asserting this doctrine must show that it was mistaken and that the other party knew of the mistake but remained silent.”

Regardless of which doctrine is used, clear and convincing evidence must be presented by the plaintiff to demonstrate that the parties came to a specific prior understanding that differed materially from the written agreement.

Reformation requires that there be a “specific prior contractual understanding” that conflicts with the terms of the written agreement, and that prior understanding “provides a comparative standard that tells the Court of Chancery exactly what terms to insert in the contract rather than being put in the position of creating a contract for the parties.”  Moreover, the prior understanding “need not constitute a complete contract in and of itself.”  Handwritten notes can constitute a prior specific understanding.  See Restatement (Second) of Contracts, § 155 cmt. a (1981).

In this case, the Court found that an e-mail (prior to the agreement being signed) reciting the terms of the deal, and an e-mail agreeing to those terms, formed the necessary “specific prior contractual understanding.”

The Court also relied on a term of art in the industry known as a “promote” which contemplates the return of invested capital and refers to a share of the profits from a project.  The Court found that the parties operated based on an understanding to use the established industry meaning of the word “promote.”

The Court concluded that there was a mistaken belief that the relevant provision reflected the correct terms.

The Court discredited the testimony of Scion, and found credible the ASB witnesses.

Knowing Silence of Party/Lawyer

The evidence also established the “knowing silence” of a principal of Scion, who also happened to be a lawyer, and who was aware that the provisions were mistakenly scrivened but intentionally remained silent. The Court did not address the legal ethics issues raised by this finding nor were the professional responsibility issues referenced elsewhere in the opinion. It is worth underscoring that the court found that a principal of Scion was a sophisticated real estate attorney with significant real estate joint venture experience, and the court determined that he provided less than credible testimony and that “he intentionally remained silent in an effort to capture an undeserved benefit for Scion.”

In connection with the attempt by Scion to take advantage of the scrivener’s error, the Court explained that:

“Delaware law states that the knowledge of an agent acquired while acting within the scope of his or her authority is imputed to the principal . . . It is the general rule that the knowledge of an officer or director of a corporation will be imputed to the corporation . . . This basic principal of agency law applies with equal force to LLCs.”

Thus, the knowledge of the representatives of Scion was imputed to Scion.

Failure to Read

The Court rejected the affirmative defense of Scion that “failure to read an agreement is no defense.”  The Court explained that:  “Delaware law does not require that a senior decisionmaker . . . read every agreement in haec verba.”  See fn. 2.

The Court also explained that failure to read the agreements before approving them would not bar equitable reformation because:  “Reformation is not precluded by the mere fact that a party who seeks it failed to exercise reasonable care in reading the writing . . ..”  (citing Restatement (Second) of Contracts § 155 cmt. a. See fn. 3 (citing cases that support this as the majority rule.)

The Court explained the difference between “avoidance” and reformation.  Unlike avoidance, an agreement subject to reformation is not voidable.  Equitable reformation does not void an agreement but rather corrects an error by conforming the as-written document to the agreed upon understanding.  See Restatement (Second) of Contracts § 157 cmt. b.

The Court also explained why ratification was not appropriate as an affirmative defense.  Likewise, the Court rejected the defense of unclean hands.

The Court also awarded attorneys’ fees pursuant to the contractual provisions of the parties in favor of ASB as the prevailing party.

UPDATE: This Chancery decision was appealed and on May 9, 2013, the Delaware Supreme Court upheld the reformation holding but reversed and remanded on the issue of fees because, in part, Delaware’s high court reasoned that the fees were not “incurred” in this case, as that term is used on the fee shifting provision of the applicable agreement (in light of the firm handling the case for free to avoid a malpractice claim), therefore, the trial court should determine on remand if there is another basis to award fees.

Supplement: Doug Batey on his LLC Law Monitor provides helpful commentary about the case.