Thanks to the Chicago Daily Law Bulletin for pointing out the recent decision in Arwood v. AW Site Services, No. 2019-0904 (March 9, 2022). In this case, an acquisition took place, but the buyer sued the seller for breach of representations and warranties in the agreement. The seller alleged in defense that information it provided before the deal was made should have shown the buyer that the representations were false.

Delaware is a pro-sandbagging state, the court ruled.  It cited several articles on sandbagging and noted that the issue could be decided by the contract itself: either allowing due diligence materials to negate or excuse a false representation, disallowing reliance on due diligence materials to excuse a false representation, or remaining silent on the subject. In the case at issue, the contract was silent.

Delaware considers itself a contractarian state: it will enforce contracts whether they are good or bad. And the default rule is that Delaware will allow someone who could have discovered that a representation in a contract was false if they had reviewed the due diligence materials to nevertheless sue for money damages based on the falsity of that representation.  The only limitation is that if someone actually knew a representation were false, they could not sue for breach of it.

This of course means that transactional lawyers have to be careful. They should not let their clients make a false representation. If the due diligence materials provided to a potential buyer show that a representation is false, the transactional lawyers for the seller have equal access to those materials and should not allow a contrary representation to be placed in the contract in the first place. In addition, however, they should insert a limitation that all representations are qualified, limited, or negated by the due diligence materials provided.

As a firm that represents clients harmed by their lawyers’ malpractice, it is easy to see how the Arwood decision could result in more legal malpractice actions being filed against transactional attorneys who fail to follow its teaching.

If you have a question about legal malpractice, contact Thomas Patterson at tpatterson@pattersonlawfirm.com.