DealLawyers.com Blog

In Winton v. North Highland Co. (Del. Ch.; 9/26), Vice Chancellor Will addressed procedural checks that the seller had negotiated to preserve some control over the earnout calculation process.

The North Highland Company LLC acquired a technology consulting firm, agreeing to an earnout based in part on gross profits from “Qualifying Projects.” The governing purchase agreement established a classification process under which the seller representative would notify North Highland of the potential Qualifying Projects, and the parties then would mutually agree on their classification before North Highland submitted a client proposal.

Post-closing, North Highland used its exclusive control over internal systems to withhold information the seller representative needed to identify Qualifying Projects, preventing him from participating in the bargained-for notification and classification process. North Highland also unilaterally excluded projects based on extra-contractual carve-outs. The seller representative now seeks to enforce the bargained-for protective mechanism.

In a memorandum opinion addressing four expedited issues presented at a two-day trial, VC Will applied the implied covenant of good faith and fair dealing to address a contractual gap — that the applicable provisions did not address “how the Seller Representative will obtain information to classify projects under the Qualifying Project definition.”

I conclude that the implied covenant of good faith and fair dealing prohibits North Highland from arbitrarily withholding the data necessary for the Seller Representative to participate in the contractual notification and classification process, but not as broadly as Winton contends. [. . .] The implied covenant can function as a “limited ‘gap-filler’” that “enforces the parties’ reasonable expectations in circumstances that they could not foresee and did not address in their written agreement, but it may not be used to rewrite or contradict express terms.” [. . .] The implied covenant also constrains the exercise of contractual discretion where necessary to preserve the parties’ reasonable expectations at signing.

Here, the implied constraint concerns North Highland’s control over implementation of the agreed-upon notification and classification process. The Earnout Addendum makes the Seller Representative’s notification a prerequisite to classification. That process requires information about a project’s anticipated services and revenue composition. North Highland cannot demand strict compliance with this condition precedent while wielding its exclusive control over its systems to arbitrarily withhold the sole means of effectuating it.

She ordered specific performance, requiring the buyer to provide information necessary to make the notification and classification process work, which was a narrower set of information than the seller’s representative asserted he was entitled to.

North Highland must provide reports every two weeks identifying projects entering or moving through Stage 3 for which an RFP has not yet been submitted. The information must include the Salesforce fields necessary to identify the project—such as Opportunity Name, Stage, Amount, Account, and comparable identifying information. It must also include the corresponding pricing-tool output showing the revenue allocation between technology or data analytics services and other services for projects entering or moving through Stage 3. If a project will reach the submission deadline before the next scheduled report, North Highland must provide a supplemental disclosure sufficiently in advance to afford the Seller Representative a meaningful opportunity to notify North Highland of the potential Qualifying Project and participate in the mutual-agreement process.

– Meredith Ervine