The Delaware Supreme Court recently upheld the decision by a Delaware Superior Court in RAA Management, LLC v. Savage Sports Holdings, Inc.1/, thereby affirming the Delaware courts’ position of enforcing the unambiguous terms of non-reliance disclaimer and advance waiver provisions contained in non-disclosure agreements between sophisticated parties.
The Delaware Superior Court had previously dismissed a claim by RAA (a private equity firm) seeking recovery for the costs it incurred while performing a due diligence review of Savage in connection with a potential acquisition of Savage. RAA claimed that Savage had omitted or mischaracterized material facts regarding certain significant liabilities of Savage during the due diligence (and pre-definitive agreement) phase of the proposed transaction.
The Delaware Supreme Court determined that the clear and broad non-reliance disclaimer and advance waiver provisions contained in the parties’ non-disclosure agreement (the “NDA”) barred RAA from asserting its claim.
In September 2010, Savage’s financial advisor invited RAA to participate in a private auction process for the potential sale of Savage. Shortly thereafter, Savage and RAA, each with the assistance of counsel, negotiated and entered into the NDA. The NDA covered the exchange of information during RAA’s due diligence period until the execution of a definitive sale agreement. The NDA included a commonly-used form of non-reliance disclaimer providing that Savage was not making any representation or warranty as to the accuracy or completeness of the evaluation materials or of any other information concerning Savage provided to RAA during the due diligence period and that only those representations and warranties ultimately made in an executed definitive sale agreement would have “any legal effect.” In addition, the NDA included an advance waiver by RAA of any claims in connection with the proposed transaction unless and until the parties entered into a definitive sale agreement.
After conducting preliminary due diligence, RAA and Savage entered into a letter of intent, pursuant to which RAA confirmed its interest in a potential transaction with Savage and Savage agreed to a 45-day exclusivity period. Throughout January and February 2011, RAA conducted more extensive due diligence. According to RAA, late in the due diligence process, RAA discovered that Savage had knowingly mischaracterized or omitted material facts regarding certain significant liabilities in its earlier responses to specific diligence requests. In March 2011, before a definitive sale agreement was reached, RAA notified Savage that it would not pursue a transaction with Savage and demanded payment from Savage of US$1.2 million in “sunken due diligence costs.”
After Savage refused to pay such costs RAA initiated a lawsuit in the Delaware Superior Court, New Castle County, seeking recoupment of due diligence costs, asserting that Savage had committed fraud by misrepresenting and concealing from RAA the existence of three alleged material unrecorded liabilities. The Delaware Superior Court granted Savage’s motion to dismiss for failure to state a claim and the Delaware Supreme Court upheld that dismissal.
The NDA’s non-reliance and advance waiver provisions
In dismissing the case with prejudice, the Delaware Superior Court determined that the non-reliance disclaimer and advance waiver provisions were unambiguous and enforceable. In dismissing the plaintiff’s claim, the Court noted:
“Where a sophisticated investor like RAA . . . agrees to perform due diligence with the understanding that the seller disclaims any warranty of accuracy or completeness in the information it provides to the potential buyer, the due diligence is governed by . . . a buyer beware notion, that even absolves the seller from intentional fraud.”
In its appeal to the Delaware Supreme Court, RAA claimed that representations made by Savage that were fraudulently or intentionally inaccurate or incomplete should fall outside of the scope of the non-reliance disclaimer provision of the NDA. The Court rejected RAA’s argument noting that the non-reliance disclaimer provision did not distinguish between due diligence information that was inaccurate or incomplete due to Savage’s negligence or mistake and due diligence information that was inaccurate or incomplete due to Savage’s fraudulent or intentional conduct.
In reaching its decision, the Court cited several Delaware Chancery Court cases in which the courts interpreted non-reliance disclaimer provisions similar to the NDA’s provision. On the basis of such precedent, the Court held that a non-reliance disclaimer provision such as the one contained in the NDA expresses the clear intent of sophisticated parties to “waive any deficiencies in due diligence as a basis for suit, unless that deficiency constituted a breach of a representation . . . in the resulting [definitive sale agreement].” The Court stated that it is up to sophisticated parties to negotiate and define the scope of non-reliance disclaimer provisions, and that the parties in this case did that “clearly and unambiguously, in the NDA.”
Moreover, with respect to arguments advanced by RAA that to condone fraudulent misrepresentations made by Savage would be against public policy, the court cited favorably to ABRY Partners V, L.P. v. F&W Acquisition LLC2/ wherein the Delaware Court of Chancery stated:
“To fail to enforce non-reliance clauses is not to promote a public policy against lying. Rather, it is to excuse a lie made by one contracting party in writing—the lie that it was relying only on contractual representations and that no other representations had been made—to enable it to prove that another party lied orally or in a writing outside the contract's four corners. For the plaintiff in such a situation to prove its fraudulent inducement claim, it proves itself not only a liar, but a liar in the most inexcusable of commercial circumstances: in a freely negotiated written contract.”
This case puts both potential buyers and sellers on notice that, as sophisticated parties, they will be held to the unambiguous terms of non-reliance disclaimer and advance waiver provisions in non-disclosure agreements.
The outcome in this case should give potential sellers substantial comfort that broad, clearly worded, non-reliance disclaimer and advance waiver provisions of the kind contained in the NDA can significantly limit, if not eliminate, a seller’s exposure to liability for the accuracy of information provided prior to entry into a definitive sale agreement.
At the same time, this case reminds potential buyers of the reality that unless and until definitive transaction agreements are entered into, a potential buyer may have no recourse if substantial time and resources are spent conducting due diligence based on inaccurate or incomplete information provided by a target, especially if the NDA (or letter of intent) governing the process contains non-reliance disclaimers and advance waiver provisions. The Delaware Supreme Court noted that RAA could have negotiated to include a representation from Savage that due diligence disclosures made by Savage were in fact accurate. In most situations, however, such a representation or similar protection may be very difficult for a potential buyer to obtain unless it had unique leverage. Alternatively, potential buyers might instead attempt to protect themselves by negotiating specific carve-outs allowing for recourse against the seller in specific circumstances such as intentional or fraudulent misrepresentation. Regardless of whether a potential buyer is able to negotiate carve-outs to the non-reliance disclaimer and advance waiver provisions, it should carefully consider the risks of investing significant time and financial resources when commencing a due diligence review of a target company.