Most disputes settle, so it is important for legal teams to be aware of the key issues involved in drafting a settlement agreement. This is particularly true now, as companies around the world grapple with the COVID-19 pandemic and the resulting strain on supply chains and business relationships.
When businesses decide to resolve issues amicably, the settlement agreement should accurately reflect the compromise that the parties have reached. Too often, the focus is only on the amount to be paid in exchange for the release of claims, but there are other, equally important considerations that need to be addressed.
Below are six questions that business and in-house legal teams should ask themselves when pursuing settlement negotiations and finalizing settlement and release agreements.
1. Do you want a broad or narrow release of claims?
Parties should carefully consider which claims they want to release as part of a settlement agreement and whether the language in the settlement agreement captures those precise claims. Releases may cover different categories of claims, including:
- Claims asserted in pending litigation or arbitration;
- Claims arising out of or related to a particular agreement;
- Claims arising out of or related to a particular subject matter or event; or
- Claims arising out of or related to the relationship between the parties.
In deciding which option is best for you, consider whether you want to foreclose all potential litigation (which is attractive if you would be the defendant in any future litigation) or whether you may want to retain certain claims to assert in the future.
It is also important to clarify in the settlement agreement whether the release of claims is mutual. For example, if only one party has asserted claims in pending litigation, you may want the settlement agreement to release not only claims asserted in the litigation but also any claims that the defendant may have related to the same underlying events.
2. Do you want to release unknown claims?
Put differently, do you intend to release claims that are not yet known to exist but may later be discovered? If so, then the settlement agreement should explicitly release all known and unknown claims. A general release of claims is not always sufficient to release claims that were unknown at the time of settlement.
For example, California Civil Code Section 1542 provides that a general release of claims does not extend to claims that the releasing party “does not know or suspect to exist” at the time of the release and that, if known, “would have materially affected” the settlement. If your settlement agreement is governed by California law or has another nexus to California, a provision stating that the parties agree to waive Section 1542 must be included in order to release unknown claims.
3. Who should be covered by the settlement agreement?
Normally, the parties to a settlement agreement would be the parties to the contracts at issue or the parties to the pending litigation or arbitration. But should the agreement cover anyone else? Consider whether you would benefit from adding a provision stating that entities with a legal relationship to the parties also agree to release claims. For example, you may want to ensure that the release covers a party’s “parent, subsidiaries, assignees, transferees, representatives, principals, agents, shareholders officers or directors, and all persons acting by, through, under, or in concert with them.” You may also want to include a release covering downstream customers in certain circumstances.
If you are the defendant, then you will want to ensure that all of the opposing party’s related entities are covered by the release of claims to broaden the reach of the agreement. However, even if you are in the position to assert claims, you may be willing to include such a provision if none of your related entities would have a viable claim in any event.
4. Who should bear fees and costs?
Parties to a settlement agreement often agree to bear their own legal fees, but are there any particular costs the parties should share?
5. How and when will the settlement payment occur?
The settlement agreement should be clear as to the date of any settlement payment, any conditions precedent to payment, and the means of transferring such payment. Additional considerations include whether you want the ability to assign the right to receive the payment to affiliates and, if so, whether that assignment can occur with or without the consent of the other party.
6. Who is allowed to know about the settlement agreement?
The settlement agreement will include a provision explaining confidentiality obligations, and parties typically agree that the terms of the settlement agreement must remain confidential. But consider whether you want to be able to share the existence of the settlement agreement with anyone besides the parties to the agreement. For example, you may want your customers or certain business partners to be aware of the settlement. Confidentiality provisions also normally allow disclosures to the extent required by law, regulation, or court order.