This month's column will discuss three decisions, two by the Appellate Division, First Department, and one by the U.S. Court of Appeals for the Second Circuit, that addressed interesting points of contract law.

In VisionChina Media v. Shareholder Representative Services,1 the First Department affirmed the dismissal of a fraud in the inducement claim in connection with a corporate acquisition. The decision follows the well-established principle that when a sophisticated party in a substantial transaction chooses to proceed with the transaction when it has notice that representations and warranties made to it were not true, a court will not allow the party to thereafter prosecute a claim that the other party fraudulently induced it to close the transaction.

In J.P. Morgan Inv. Management v. AmCash Group,2 the First Department ruled that, on a motion for summary judgment, a court could give meaning to ambiguous language where the extrinsic evidence of custom and usage in the trade clearly showed the meaning of the language.

In Cruz v. FXDirectDealer,3 the Second Circuit reversed the dismissal of a claim that defendant had breached a contract by failing to comply with an agreement to use its "best efforts." The court ruled that despite language in the agreement limiting the party's performance obligation and disclaiming liability, and despite a lack of clear guidance as to standards to evaluate whether a party used its best efforts, plaintiff adequately pleaded a claim for breach by alleging facts that defendant did not act in good faith in performing its contractual obligations.


VisionChina Media Inc. and its wholly owned subsidiary, Vision Best Limited (collectively the buyer) acquired Digital Media Group Limited (DMG) from its shareholders (the sellers). Even though the companies and their businesses were in China, the litigation concerning the acquisition took place in New York.

At the time of the merger, VisionChina was one of China's largest out-of-home advertising networks providing advertising on digital televisions on public transportation such as buses and subways. DMG, a competitor of VisionChina, engaged in the same business. The merger created China's largest and most comprehensive mobile digital advertising network. The total consideration for the merger was $160 million in cash and stock.

Negotiations concerning the transaction first occurred in 2008. At that time, the buyer chose not to proceed with the transaction because DMG had not yet made a profit. In 2009, the sellers informed the buyer that DMG had significantly improved its financial position. In September 2009, the buyer and sellers entered into a letter of intent. The buyer then conducted due diligence, receiving DMG's audited financial statements for 2006 through 2008 and its unaudited monthly management accounts from Jan. 1 through Aug. 31, 2009. These management accounts confirmed an improving situation at DMG. The sellers allegedly made oral statements that the upward trend would continue for the remainder of 2009.

The parties signed an amended and restated agreement and plan of merger (the agreement) that provided that on Jan. 2, 2010 (the effective date) DMG would be merged into a subsidiary of VisionChina. The buyer contended that the management accounts and oral representations were material to its decision to enter into the agreement.

In the agreement, the buyer took steps to protect itself with respect to the accuracy of the upward trend reflected in the management accounts and confirmed by the sellers' oral statements. The sellers warranted in the agreement that the financial statements and management accounts that had been given to the buyer were "true and complete" and had been prepared in accordance with generally accepted accounting principles (GAAP). The sellers also agreed to make reasonable efforts to provide by Dec. 31, 2009, a report from the accounting firm of Ernst & Young (E&Y) concerning these documents.

Accordingly, the buyer would be able to assess, prior to the merger taking place, whether the upward trend actually existed. If the buyer learned the warranty was inaccurate, the agreement gave the buyer the right to cancel the agreement and not proceed with the merger. The agreement also provided that the sellers would indemnify the buyer for any losses caused by an inaccuracy of a fact warranted in the agreement. The agreement stated that the buyer's sole remedy for the inaccuracy of a warranty would be indemnification pursuant to the agreement and notice of any claim for indemnification had to be given on or before the first anniversary date of the agreement. The agreement also called for payments to the sellers on each of the first and second anniversary dates.

E&Y provided its report before the effective date. The report showed DMG's revenues for the first eight months were considerably lower, and its losses considerably higher, than stated in the management accounts. The buyer, nonetheless, went forward with the acquisition.

As a result of the merger, the buyer took possession of all of DMG's electronic information. The buyer discovered that DMG's financial information had been deleted and the computers had been "wiped clean" so that the data could not be recovered.

On Nov. 16, 2010, the buyer served a claim notice that a warranted fact was not true because DMG's accounts receivables and revenues had been overstated and the management accounts had not been prepared in accordance with GAAP. The buyer claimed $2.8 million in indemnifiable losses. The buyer did not give notice of any claim of fraudulent inducement. The buyer also did not make the payment due on the anniversary date.

Litigation ensued. The buyer asserted claims alleging, inter alia, it had been fraudulently induced to enter into the agreement and the sellers had breached obligations under the agreement. The sellers asserted claims that the failure to make payments on the anniversary dates breached the agreement.

The Supreme Court (Justice Charles E. Ramos) granted a motion to dismiss the buyer's claim of fraudulent inducement. The buyer appealed. The First Department affirmed the dismissal.

The First Department articulated three reasons for its affirmance. It noted that the buyer had failed to make any claim of fraud in the inducement prior to the first anniversary cut-off date. The court did not cite support for the proposition that the one-year period in the agreement applied to a claim for fraudulent inducement as opposed to only setting forth the period within which a claim for indemnity pursuant to the agreement had to be made.

The court also noted that the agreement stated that a claim for indemnification would be the buyer's sole remedy for the inaccuracy of a fact warranted in the agreement. The court, however, did not explain (or cite authority to support) the view that the specification of a sole remedy in the agreement limited the buyer's ability to assert a claim for fraudulent inducement.

Finally, the court rejected the buyer's contention that under the Court of Appeals' decision in DDJ Management v. Rhone Group,4 the buyer justifiably relied upon the sellers' representations concerning the management accounts. In DDJ, the court ruled that a sophisticated party can show justifiable reliance upon a representation by having the statement warranted in the contract. The First Department rejected the buyer's claim of reliance based upon DDJ. The First Department believed that the buyer could not have justifiably relied on the truth of the sellers' warranty since the buyer chose to proceed with the transaction after learning, prior to the effective date, of the inaccuracy of the warranty.

The First Department's analysis of the reliance issue is consistent with established authority that a sophisticated party has a heightened obligation of due diligence if it has a hint of a fraud and the party acts at its peril if it proceeds with the transaction with reason to believe the warranted facts might not be accurate. A court will not allow a party to enjoy a "heads I win, tails you lose" situation where it can wait to see how a transaction turns out before raising a claim for fraudulent inducement.

VisionChina structured the agreement to protect itself from the uncertainty concerning the accuracy of the alleged fraudulently stated facts. It had the seller warrant certain facts, it obtained a third-party expert's assessment of the facts and it bargained for the right to cancel the transaction if the warranted facts were inaccurate. VisionChina decided not to take advantage of that protection. Instead, it let the merger take place while it was on notice that it may have been defrauded. It is not surprising that the court would not let VisionChina subsequently pursue a claim for fraudulent inducement.

'J.P. Morgan'

In the J.P. Morgan Inv. Management case, the parties entered into a termination agreement pursuant to which plaintiff agreed to make payments to defendants if, after termination, plaintiff served as an adviser to a "Current Yield ETF" which, as defined in a related asset purchase agreement, required, among other things, that a covered fund have shares "listed on an organized securities market."

In litigation between the parties, the court considered whether, on a motion for summary judgment, it could give meaning to the phrase "listed on an organized securities market." The First Department ruled the court could since (i) there was no dispute as to the credibility of the evidence that clearly established the meaning of the phrase in the relevant industry, (ii) it had been shown that either the parties were aware of the established usage or the usage in the business to which the transaction relates is so notorious that an ordinary person in the exercise of reasonable care would have known it and (iii) there is no question that the parties intended to follow, as opposed to depart from, such customary usage.


In Cruz, plaintiff brought a putative class action against defendant foreign currency trading service alleging, inter alia, that defendant breached its contractual obligations with respect to executing plaintiff's orders. Plaintiff claimed that defendant breached its promise to use "best efforts" to execute the orders because defendant intentionally delayed trades or caused them to fail in order to enrich itself at the expense of its customer.

The District Court (Paul A. Crotty, J.) granted a motion to dismiss the breach of contract claim. The District Court relied upon the principle that a claim for breach cannot withstand a motion to dismiss if the express terms of the contract contradict the claim. The court noted that the contract specifically stated that, for various reasons, execution of a trade might not be at the prevailing bid and asked prices in the interbank market. The agreement also qualified the best efforts obligation in that the customer acknowledged market conditions or other circumstances could cause the defendant to be unable to execute a trade at market or at a price set by the customer, and, in such circumstance, defendant would have no liability. Defendant also disclaimed any guarantee that it would execute a trade at the price specified by the customer.

The Second Circuit reversed the dismissal of the breach of contract claim. It first noted that the best efforts clauses are far from clear but, at the very least, impose an obligation to act in good faith in light of a party's capabilities.5 The court noted that although some state court decisions have required clear guidelines against which to measure a party's efforts before the court will enforce a best efforts obligation, the New York Court of Appeals has never endorsed such a requirement. The court believed that plaintiff should be allowed to proceed with its claim that defendant breached the agreement by not using best efforts to execute plaintiff's trades allegedly because defendant acted in bad faith to gain a benefit from a delay in executing or failure to execute a trade. Nothing in the contract contradicted that claim or allowed defendant to derive a benefit by delaying or failing to execute plaintiff's trades.

Glen Banks is a partner at Norton Rose Fulbright (Fulbright & Jaworski) and is the author of "New York Contract Law," a Thomson Reuters publication.

Editor's Note: This column originally ran in the New York Law Journal on August 1.


1. —A.D.3d—, 967 N.Y.S.2d 338 (2013).

2. 106 A.D.3d 559, 966 N.Y.S.2d 23 (1st Dept. 2013).

3. 2013 WL 3021904 (2d Cir. June 19, 2013).

4. 15 N.Y.3d 147, 905 N.Y.S.2d 118 (2010).

5. Citing Bloor v. Falstaff Brewing, 601 F.2d 609, 613 n. 7 (2d Cir. 1979) (Friendly, J.).