Summary
On May 1, 2012, in a case argued by Saul Ewing attorney John F. Stoviak (with assistance from Braden A. Borger on the Brief), the Pennsylvania Court of Common Pleas (Jefferson County) held that reliance is not an essential element of a claim for breach of a representation or warranty contained in an asset purchase and sale agreement. The case, Guardian Elder Care of Brockway, LLC v. WRC Highland View Healthcare, No. 199-2011-CD ("Opinion"), appears to have been a case of first impression for a Pennsylvania state court, and provides an important reminder to transactional practitioners of the importance of carefully negotiating the apportionment of risk among contracting parties and precisely documenting the representations and warranties in transactional documents.

Background

On May 21, 2007, Guardian Elder Care of Brockway, LLC and Guardian Elder Care at Brockway, LP (collectively, "Guardian" or "Buyer"), represented by Saul Ewing attorney Deborah L. Spranger, entered into an agreement with WRC Highland View Healthcare and WRC Senior Services (collectively, "WRC" or "Seller") to purchase substantially all of the operating assets used by WRC in operating a nursing home known as "Highland View" (the "Facility"). WRC was also represented by sophisticated counsel in the negotiation and preparation of the Purchase Agreement. Indeed, the Court made much of the deposition testimony of WRC's CEO, in which the CEO testified that counsel to WRC reviewed the terms and conditions of the Purchase Agreement with the WRC Board and specifically discussed the significance of the representations and warranties contained therein. Opinion at 4.¹

The Purchase Agreement included certain conditions precedent to Buyer's obligation to purchase the Facility, one of which provided that:

Buyer shall have completed its due diligence review of the Seller, the Assets, the Facility, the Premises and the Business [within 30 days after the execution of the Purchase Agreement], the results of which shall be to its complete satisfaction as determined in its sole discretion . . ..²

The express purpose of the diligence review period was to allow Guardian to investigate WRC's business and affairs, the condition of the Facility, operating assets and real property, and the accuracy of WRC's representations and warranties.

The Purchase Agreement also contained customary representations and warranties of Seller concerning the condition and status of the assets and the accuracy and completeness of those representations and warranties. The applicable representations and warranties were not limited or qualified in any way, and pursuant to the terms of the Purchase Agreement they survived for a period of two years following the closing of the transaction. The Purchase Agreement further provided that WRC would indemnify and hold Guardian harmless from and against any breach of its representations or warranties.

The transaction closed on August 1, 2007, and Guardian subsequently discovered what it alleged were material defects in the condition of the real property, the Facility and certain of the operating assets. Guardian estimated that the aggregate cost of these defects was more than $800,000. On July 27, 2009, Ms. Spranger provided written notice to WRC of its alleged breach of the above-referenced representations and warranties and Guardian's resulting claim for indemnification. WRC refused to indemnify Guardian and therefore, on March 4, 2011, Guardian sued WRC for, among other things, breach of the Purchase Agreement.

In its answer to Guardian's complaint, WRC raised an affirmative defense that because Guardian had an opportunity to conduct a due diligence investigation of the assets and Facility prior to closing and did, in fact, conduct such an investigation, Guardian had knowledge, or should have had knowledge of the condition of the assets when it proceeded to close on the transaction. As such, WRC argued that Guardian did not rely, or was not entitled to rely, on WRC's representations and warranties in the Purchase Agreement.

Discussion

In Guardian, the Court of Common Pleas held that "where the warranty appears as an express contractual provision, the general and well-established principles of contract law" require that a court interpreting a contract must give effect to the parties' intent as evidenced by the plain meaning of the contract. Opinion at p. 6. Moreover, the Court held that "a plain reading of the contract at issue here leaves no room for the insertion of reliance." In so holding, the Court distinguished between quasi-contractual claims (such as promissory estoppel) and contractual claims. Quasi-contractual claims, the Court recited, are based upon a promise that is not enforceable as a bargained for, contractual guarantee; therefore, the plaintiff making such claims must prove actual, detrimental reliance on the promise. Contractual claims, on the other hand, are based upon expressly articulated provisions of a contract; therefore, the plaintiff must simply prove that (1) a contract exists; (2) the opposing party breached a duty imposed in the contract; and (3) that the plaintiff sustained damages as a result of the breach.

The Court also held that representations and warranties such as those found in the Purchase Agreement, "signify the apportionment of risk to which the contracting parties explicitly agree, and a party dissatisfied with the imposed risks may renegotiate or not agree to the transaction at all." Opinion at 8 (citing Giuffrida v. American Family Brands, Inc., 1998 WL 196402, *4 (E.D. Pa. 1998)). The Court further held that introducing reliance into such a contract would eviscerate the certainty and predictability that should follow the execution of that contract, and would also encourage "gamesmanship" by buyers who might seek to avoid due diligence in order to side-step a potential claim that the performance of diligence resulted in a de facto waiver of a seller's representations and warranties.

In rejecting WRC's affirmative defense, the Court noted that WRC, "[w]ithout caveat…warranted that its assets were in good condition and working order; were functional for their intended uses; and constituted all of the assets necessary for Guardian to conduct the business" and that "the buildings, structures and equipment being sold contained no material defects and were in good operating condition and repair." These warranties were "unequivocal, unqualified, and bargained-for guarantees, and the due diligence provisions did not alter its obligations to fulfill them." As such, the Court granted Guardian's motion for partial summary judgment and held that WRC could not insert its affirmative defense of reliance with respect to Guardian's breach of contract and warranty claims.

Although not expressly discussed in the opinion, it should be noted that the Purchase Agreement did not include a so-called "anti-sandbagging" provision (generally, a provision in an acquisition agreement that expressly states that the buyer waives the right to advance a post-closing claim based on any fact or circumstance known to the buyer prior to closing of the transaction). As a result, the Court in Guardian did not address the enforceability of such a provision.

Conclusion

In the context of the sale of a business, the parties to the transaction expend significant effort negotiating the apportionment of risk – an apportionment that is ultimately embodied in carefully drafted representations, warranties, covenants and conditions. The Guardian case stands for the proposition that a Seller will not be able to avoid or mitigate its obligations to fully satisfy its representations and warranties by providing the Buyer with the opportunity to conduct due diligence, at least in the absence of an express anti-sandbagging provision. Moreover, this case confirms that the law of contractual interpretation in Pennsylvania applies with full force to asset purchase and sale agreements, and as such a buyer need not prove that it relied, to its detriment, upon express contractual provisions contained in such an agreement. Rather, a buyer must simply prove (as with any contract), that there was a contract, that the seller breached a provision thereof, and that the buyer suffered damages as a result of that breach.

1. During the process of discovery in this case, members of the WRC Board admitted that they were advised of, and understood the difference between, a sale of assets on an "as-is" basis and a sale conditioned upon the accuracy of certain representations and warranties concerning those assets.

2. Capitalized terms were defined in the Purchase Agreement.