DealLawyers.com Blog

The Delaware Supreme Court recently issued its opinion in J&J’s appeal of the Chancery Court’s decision in Fortis Advisors v. Johnson & Johnson. J&J made numerous arguments on appeal, including that the Chancery Court misapplied the implied covenant and rewrote the parties’ bargain, misconstrued the “commercially reasonable efforts” clause and eliminated discretion that J&J should have had per the contract, erred in finding fraud, and failed to give effect to the exclusive remedy provision.

In Johnson & Johnson v. Fortis Advisors (Del.; 1/26), the Supreme Court agreed only with respect to the implied covenant, noting that the implied covenant applies to “developments that could not be anticipated, not developments that the parties simply failed to consider.”

Other provisions within the Merger Agreement acknowledged differing possible regulatory scenarios . . . Yet Auris and J&J chose to explicitly tie every regulatory milestone—totaling hundreds of millions of dollars—to “510(k) premarket notification,” and only to that pathway . . . We also conclude that the FDA’s regulatory switch from 510(k) to De Novo, although believed to be unlikely, was not unforeseeable at the time of contracting . . . Therefore, the implied covenant has no role to play here . . .

The implied covenant was the necessary premise of the Court of Chancery’s damages award for Milestone 1. Once 510(k) became unavailable for iPlatform’s first clearance, Milestone 1’s express condition could not be satisfied as written, and the damages award for Milestone 1 cannot stand.

J&J argued that the implied covenant decision had a “domino effect” and reversing that portion of the decision should relieve its obligations as to the remaining milestones. De Novo review is so much more onerous, it argued, that “’all the milestones, timelines, and payments”’ would have changed had De Novo been required to unlock 510(k).” The Court disagreed and found that the reversal of the implied covenant conclusion did not disturb Chancery’s rulings as to remaining milestones.

The remaining milestones are different. Those milestones continue—by their plain terms—to require 510(k) notifications. The Court of Chancery found, and J&J does not challenge, that once iPlatform obtained De Novo approval for a first generation indication, it could serve as its own predicate device and proceed through the 510(k) pathway for additional indications.

Accordingly, although the implied covenant did not require J&J to pursue De Novo approval in order to achieve Milestone 1, J&J remained obligated to use commercially reasonable efforts to pursue 510(k) approval for the remaining milestones, including by seeking De Novo approval for an initial indication where necessary to facilitate 510(k) clearance for subsequent indications. The unavailability of 510(k) for a general surgery indication did not excuse J&J from the later milestones. Reversing the implied covenant rewrite of Milestone 1 therefore does not disturb J&J’s express obligations, or the damages awarded, for the remaining regulatory milestones.

That means that the Court affirmed Chancery’s interpretation of the efforts clause and upheld the decision that J&J breached its express obligation to use “commercially reasonable, ‘priority’ device efforts” to achieve the remaining regulatory milestones — maintaining Chancery’s damages methodology, which had resulted in damages with interest exceeding $1 billion — except for damages awarded for Milestone 1. The Court remanded the case so that damages calculation can be redone to exclude the Milestone 1 payment.

– Meredith Ervine