Comment by Pablo Enrique Carrillo
When an acquiring company (Buyer) of a privately held company (Target) learns of material misrepresentations in the definitive purchase agreement, the acquisition-review phase of the transaction can be riddled with peril for the unwary. The courses of action available to a company that learns, through its own due diligence, of misrepresentations as to salient aspects of the definitive purchase agreement are a function of the remedies available. And, the remedies that are available to the Buyer in a material misrepresentation context generally arise from the express provisions within the purchase agreement, federal and state securities law, and the common law fraud cause of action.
However, when the Buyer discovers these misrepresentations after execution of the purchase agreement but before the deal closes, particular ambiguity arises as to what the Buyer should do. This ambiguity results, in part, from: (1) a strict interpretation of the “reliance” requirement, which determines the viability of both the fraud and breach of express warranty cause of action; and (2) the panoply of affirmative defenses that can emerge from the purchase agreement itself. At every turn, peril awaits the Buyer who happens upon a material misrepresentation in the acquisition-review phase of a negotiated stock purchase when acquiring a privately held company.
This Comment will consider the contours that define the options available to the Buyer and will weigh the legal implications of what the Buyer decides to do (or not do). In particular, the following question will be considered: to what extent does the Buyer's closing with actual knowledge of the misrepresentation preclude recovery from the Seller for damages arising from that misrepresentation? Specifically, this Comment will consider under what circumstances the Seller's actions can support a private cause of action under section 10(b) or Rule 10b-5 of the Securities Exchange Act of 1934 (the 1934 Act). This Comment will also consider whether a state claim for breach of an express warranty can lie where the Buyer has actual, preclosing knowledge of the misrepresentation but, nonetheless, consummates the transaction.
On one level, this Comment explores, for the benefit of prospective Buyers of privately held companies, the available courses of action to pursue vis-à-vis the Seller upon the discovery of material misrepresentations of terms embodied in the purchase agreement after execution of the definitive purchase agreement but before consummation of the transaction. Nonetheless, on a broader level, the purpose of this Comment is to test, in the context of a relatively unlikely but certainly possible scenario, our conventional understanding of a rather elusive and nebulous concept prevalent in the transactional and securities fraud milieu, that is, reliance.
About the Author
Pablo Enrique Carrillo. Managing Editor, Tulane Law Review, 1996-97. B.A. 1992, J.D. 1997, Tulane University.
Citation
72 Tul. L. Rev. 2113 (1998)