Survival Periods—Covenants Are Not Representations or Warranties, and Fraud Claims Premised Upon Contractual Representations and Warranties Are Not the Same as Indemnification Claims

Survival Periods define the contractually agreed time limits for bringing claims for alleged breaches of representations and warranties set forth in an acquisition agreement; their effect is to shorten or in certain states where permitted, like Delaware, potentially lengthen the otherwise applicable statute of limitations. Sometimes, survival clauses also limit the time periods during which claims may be made for the breach of covenants required to be performed by a party pre-closing. And still other times, survival clauses can purport to limit the time period during which tort claims can be premised upon the contractual representations and warranties set forth in an acquisition agreement. A recent Delaware decision, SPay, Inc. v. Stack Media Inc., 2021 WL 6053869 (Del. Ch. Dec. 21, 2021), highlights the importance for sellers of carefully wording their survival clause so as to ensure it actually captures each of the various sources of potential liability—i.e., claims premised upon contractual representations and warranties, both for contract-based claims and, to the maximum extent permissible by law, tort-based claims, as well as claims premised upon breaches of pre-closing covenants.

In SPay, the acquisition agreement stated in Section 7.1 that:

The representations and warranties of the Company contained in this Agreement and the Closing Certificates shall survive the Closing and continue until 11:59 p.m., Eastern time, on December 2, 2018; provided, however, that (a) the representations and warranties contained in Section 3.1 (Organization and Good Standing), Section 3.2 (Authorization of Agreement), Section 3.4 (No Subsidiaries), Section 3.7 (Necessary Assets) and Section 3.22 (Brokers and Financial Advisors) shall survive the Closing and continue until 11:59 p.m., Eastern time, on May 2, 2027, (b) the representations and warranties contained in Section 3.12 (Intellectual Property) shall survive the Closing and continue until 11:59 p.m., Eastern time, on May 2, 2021, and (c) the representations and warranties contained in Section 3.9 (Taxes) shall survive the Closing and continue until 11:59 p.m., Eastern time, on the date that is sixty (60) days after the relevant Governmental Authorities are no longer entitled to assess or reassess Purchaser or the Company in respect of any Taxes arising in respect of the substance of such representation and warranty…. Any claim or notice given under this Article VII with respect to any representation or warranty prior to the end of the applicable Survival Period shall be preserved until such claim is finally resolved. The parties agree and acknowledge that the Survival Periods set forth herein, to the extent expressly longer than the three (3) year survival period permitted by Title 10, Section 8106(a) of the Delaware Code, are expressly intended to survive for such longer periods as permitted by Title 10, Section 8106(c) of the Delaware Code.

The acquisition of the target company occurred sometime in 2017. Thus, other than (i) certain fundamental representations and warranties that survived for approximately 10 years, (ii) an IP representation that survived for approximately 4 years and (iii) the tax representations that survived for a period corresponding to the ability of governmental authorities to assert any tax claims, all representations and warranties expired if no claim was made approximately 18 months after closing.

After the closing, the buyer brought claims against the sellers and individual owners of the target asserting claims for intra-contractual fraud and breach of contract. Specifically, the buyer alleged that certain non-fundamental representations had been breached, as well as certain covenants. The defendants countered that the claims were barred by the survival clause because no notice of a claim had been made or filed prior to December 2, 2018.

The court agreed that the contractual indemnification claims premised upon the non-fundamental representations alleged to have been breached were in fact barred by the survival clause. However, the court said that the claim for the alleged breach of the various covenants was not so barred, because the survival clause did not even purport to cover breaches of covenants, and covenants are not representations and warranties. As a result, the claim for breach of the pre-closing covenants was subject to Delaware’s standard three-year statute of limitations from the date of the breach, and the buyer had filed its claims well within that period.

The court then turned to the issue of whether the fact that the contractual representations and warranties that were alleged to have been breached had effectively expired on December 2, 2018, when no notice of a claim had been made by that date, meant that a fraud claim premised upon those same “expired” contractual representations and warranties was precluded. Because there was a general undefined fraud carve-out to the exclusive remedy provision set forth in Section 7.4 of the acquisition agreement (and Section 7.4 and the survival clause (Section 7.1) were all part of the Article VII indemnification regime), the court concluded that the acquisition agreement “contemplates that at least some actions grounded in fraud can be brought outside the [acquisition agreement’s] indemnification provisions, and thus, can be timely brought within the statutory—rather than contractual—limitations period.”

None of this should be surprising, and it is only because this case was frequently mentioned in a recent series of meetings of the M&A Committee of the ABA’s Business Law Section that it seemed worthy of a blog posting. And in a market in which many acquisition agreements are intended to limit recourse solely to R&W insurance, and to otherwise have no survival of representations and warranties or covenants at all (other than those that are intended to be performed post-closing), this issue requires even more vigilance.

It would appear that, under Delaware law, a properly-worded survival clause may shorten the time period during which many (but perhaps not all) tort-based claims premised upon contractual representations and warranties can be asserted. And distinguishing between covenants and representations and warranties is the drafting equivalent of basic blocking and tackling.

So, consider adding to your survival clause a specific clause that not only establishes the applicable survival or no survival period for representations, warranties and covenants, but also clarifies that following the expiration of the applicable Survival Period, no claims of any kind (whether based in contract or tort) can be premised upon such representations, warranties and covenants. But in doing so, also be aware of the built-in limits to such provisions under Abry Partners and its progeny, which were discussed in another recent blog posting.[1] And, as a seller, make sure that you are drafting your nonrecourse, non-reliance and exclusive remedy provisions so that they work together to eliminate all tort based claims that can be eliminated under the strictures of Abry Partners and its progeny, which of course means avoiding the always dangerous “undefined fraud carve-out.” Consistent with prevailing market practice, ensure that any fraud carve out to your non-recourse, exclusive remedy or survival clause is defined so that it is appropriately limited to intentional intra-contractual fraud (the type and source of fraud for which Delaware law, under Abry Partners and its progeny, already provides an automatic carve out regardless of an express one).[2]

Endnotes    (↵ returns to text)
  1. Glenn West, Too Much Dynamite—The Non-Recourse and Surival Clauses Are Both Subject to Delaware’s Built-In Fraud Carve-Out for Intentional Intra-Contractual Fraud, Weil’s Global Private Equity Watch, August 24, 2021, available here.
  2. See Glenn West, Fraud Carve-Outs Come of Age, Weil’s Global Private Equity Watch, November 1, 2021, available here. Fraud carve-outs to non-reliance provisions are inappropriate as a general rule, but potentially harmless if defined to only permit claims premised upon intentional intra-contractual fraud. See Glenn West, Your Mother Was Right: Following Your Friends (or Market Studies) Off a Bridge is a Bad Idea, Weil Insights, Weil’s Global Private Equity Watch, January 28, 2020, n. 8, available here.