March 22, 2022

Del. Supreme Court Again Addresses Preliminary Agreements

Earlier this month, the Delaware Supreme Court once again weighed in on the subject of the obligations created by “preliminary agreements” relating to potential business transactions – and in the Court’s words, provided a reminder that the good faith obligations imposed under the terms of these agreements are “not worthless.”

In Cox Communications v. T-Mobile US, (Del.; 3/22), the Court was called upon to interpret a contractual provision contained in a settlement agreement that obligated Cox to enter into a definitive exclusive provider agreement with Sprint “on terms to be mutually agreed upon between the parties for an initial period of 36 months” before offering mobile wireless services to its customers.  After T-Mobile bought Sprint in April 2020, Cox opted to partner with Verizon and T-Mobile promptly accused Cox of breaching its contractual obligations. Cox responded by seeking a declaratory judgment concerning the extent of its contractual obligations.

Cox argued that those obligations were limited to, at most, a requirement to negotiate in good faith a definitive agreement with Sprint, while T-Mobile contended that the contract obligated Cox to refrain from partnering with another carrier for a 36-month period.  The operative language was contained in Section 9(e) of the settlement agreement, and provided as follows:

Before Cox or one of its Affiliates (the “Cox Wireless Affiliate”), begins providing Wireless Mobile Service (as defined below), the Cox Wireless Affiliate will enter into a definitive MVNO agreement with a Sprint Affiliate (the “Sprint MVNO Affiliate”) identifying the Sprint MVNO Affiliate as a “Preferred Provider” of the Wireless Mobile Service for the Cox Wireless Affiliate, on terms to be mutually agreed upon between the parties for an initial period of 36 months (the “Initial Term”).

The Chancery Court held that this provision obligated Cox to negotiate in good faith and prohibited it from entering into a deal with another carrier during the 36-month period. The Supreme Court disagreed:

We cannot reconcile the Court of Chancery’s reading with the plain contractual text. In particular, we do not see two promises in the first sentence of Section 9(e). Instead, we read the provision as a single promise that unambiguously contemplates a future “definitive” agreement but leaves many terms open, “to be mutually agreed upon between the parties[.]” Because it leaves material terms open to future negotiations, Section 9(e) is a paradigmatic Type II agreement of the kind we recognized in SIGA v. PharmAthene.  Parties to such agreements must negotiate the open terms in good faith, but they are not required to make a deal.

In PharmAthene, the Court said that “Type II” preliminary agreements were those in which the parties “‘agree on certain major terms, but leave other terms open for future negotiation.”  Agreements of this type “do not commit the parties to their ultimate contractual objective but rather to the obligation to negotiate the open issues in good faith.”  As a result of this conclusion, the Court remanded the case back to the Court of Chancery in order to determine whether Cox had satisfied its obligation to negotiate in good faith. Justices Valihura and Montgomery-Reeves dissented in part from the Court’s decision, noting that although they agreed that Section 9(e) reasonably could be read as a Type II agreement, the provision was sufficiently ambiguous that it could be read as the Chancery Court read it as well.

Weil’s Glenn West recently blogged about this case, and commented on the perils associated with the “hazy lines” dividing unenforceable agreements to agree, actual agreements that are “preliminary,” and otherwise non-binding preliminary agreements that may impose an obligation to negotiate in good faith:

Many times parties use non-binding term sheets and letters of intent as a means of providing a road map for the deal that the parties then contemplate, but with the understanding that the chosen route described in the term sheet or letter of intent could well change and that the parties are not binding themselves to the stated route or destination.

If the outlined terms are to be converted into a fully-baked deal by the court and then damages assessed based on breach of that deal to the extent there is a finding that one of the parties failed to negotiate in good faith, the risk is that those damages could far exceed the actual damages that may have been available to the non-breaching party pursuant to a fully-negotiate definitive agreement that, for example, contained a damages limitation provision.

So, what’s the best way for parties to protect themselves in these situations? Glenn says it’s to provide disclaimers of any intent to enter into a binding agreement or to negotiate in good faith. You can also take a look at some practice points for letters of intent that I posted over on the John Tales blog.

Also, be sure to check out Francis Pileggi’s blog on the Court’s decision, which focuses on the nuances of Delaware contract law involved in the case.

John Jenkins