Delaware Supreme Court Affirms Enforcement of Agreement to Negotiate in Good Faith

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In a recent case before the Delaware Supreme Court, SigaTechnologies v. PharmAthene, the court upheld a Delaware Chancery Court’s ruling that an express agreement between parties to negotiate in good faith, even if the subject of the negotiation is embodied in a non-binding term sheet, is enforceable. This holding is significant not only for its reminder to carefully consider the consequences of language contained in documents to negotiate in good faith, but also for the court’s conclusion that, under the right set of facts, the breach of an agreement to negotiate in good faith could entitle the non-breaching party to damages equal to what it would have received had the underlying agreement been fully performed.

Siga Technologies, Inc. (Siga) and PharmAthene, Inc. (Pharm), both Delaware corporations, are engaged in biodefense research and development. In 2004, Siga acquired an antiviral drug for the treatment of smallpox that had enormous potential but, by late 2005, Siga began having difficulty funding the drug’s development. Siga turned to Pharm for a possible collaboration, whereupon the parties negotiated a term sheet for the license of the drug (the Term Sheet). Although not signed by either party and containing a footer on each page that stated “Non-Binding Terms,” the Term Sheet included a description of the licensed rights and the economic terms, including the license fee and royalty payments. Shortly after the Term Sheet was finalized, Siga determined it would prefer to merge with Pharm in lieu of entering into a license agreement, but in light of Siga’s financial condition, the parties first entered into a Bridge Loan Agreement pursuant to which Pharm loaned Siga $3 million for expenses relating to the development of the drug while merger negotiations continued. The Bridge Loan Agreement stated that the parties would negotiate in good faith a license agreement in accordance with the terms of the Term Sheet if the merger did not occur (the Term Sheet had been attached to the Bridge Loan Agreement as an exhibit). On June 8, 2006, the parties signed a Merger Agreement which contained language similar to that of the Bridge Loan Agreement, stating that if the merger was terminated, the parties agreed to negotiate in good faith a definitive license agreement in accordance with the Term Sheet. After the Merger Agreement was executed, however, Siga received a grant from the National Institutes of Health to develop the drug and entered into an agreement to start clinical trials on the drug, and consequently began to experience what the court called “seller’s remorse.” On October 4, 2006, Siga terminated the Merger Agreement.

After the Merger Agreement was terminated, the parties met to discuss the license agreement and Siga submitted a proposal that greatly differed from the Term Sheet, including the following key monetary changes: (i) upfront payments by Pharm were increased from $6 million to $100 million, (ii) the milestone payments owed to Siga were increased from $6 million to $235 million, (iii) the royalty percentages owned to Siga were increased by as much as 12 percent, depending on the sale volume, and (iv) the profit sharing arrangement was changed to include 50 percent of all remaining profit instead of profit from U.S. government sales having a margin of 20 percent or more. Pharm objected to these “radically different” terms and, after failed attempts to negotiate with Siga, filed suit on December 20, 2006.

On May 24, 2013, the court affirmed the Chancery Court’s ruling that Siga breached its obligation to negotiate a license agreement in good faith under the Merger Agreement and Bridge Loan Agreement, finding that the express provisions of the Bridge Loan Agreement and the Merger Agreement created an enforceable duty to negotiate a license agreement with terms similar to the Term Sheet. The court found that while the Term Sheet was not binding, the extent of its detail and the fact that it was referenced and attached to the other agreements demonstrated that the parties intended to negotiate a license agreement with economic terms substantially similar to the Term Sheet. The court then explained that, to hold Siga liable for a breach of the duty to negotiate in good faith, it must find both (i) that Siga’s proposed terms were substantially dissimilar to the Term Sheet and (ii) that the terms were proposed in bad faith. As to the difference between the Term Sheet and the proposed terms, the court held that not only were the proposed terms drastically different, they were significantly more favorable to Siga than the Term Sheet. As to the issue of bad faith, the court explained that Delaware law defines bad faith as “not simply bad judgment or negligence, but rather … the conscious doing of 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 will.” The court agreed with the Chancery Court’s holding that Siga’s unwillingness to negotiate with Pharm, coupled with evidence of its “seller’s remorse,” showed bad faith.

The court remanded the question of damages to the Chancery Court for further consideration, but held that where parties have a preliminary agreement on which certain major terms are agreed but others are left open for negotiation in good faith, the non-breaching party is entitled to recover expectation damages (i.e., in this case, the value Pharm would have received had the license agreement been fully performed) if a court factually concluded that the parties would have reached an agreement but for the breaching party’s bad faith negotiations.

It is important to note that because both the Bridge Loan Agreement and the Merger Agreement contained express provisions to negotiate in good faith, the court did not address when a duty to negotiate in good faith will be implied. Because of the uncertainty of whether a court will imply a duty to negotiate in good faith into letters of intent or other agreements, it is advisable to include language in relevant documents expressly negating the duty to negotiate in good faith or expressly providing the right to terminate negotiations unilaterally at any time.

 

Topics:  Breach of Contract, Contract Interpretation, Covenant of Good Faith and Fair Dealing, Damages, Negotiations, Term Sheets

Published In: Civil Procedure Updates, Civil Remedies Updates, General Business Updates, Mergers & Acquisitions Updates, Science, Computers & Technology Updates

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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