Glen Banks
Glen Banks ()

This column discusses decisions on contract law issues from the Court of Appeals in June. In Quadrant Structured Products Company v. Vertin,1 the court addressed the scope of a no-action clause in an indenture. In IDT Corp. v. Tyco Group,2 the court considered whether a complaint stated a claim for breach of an obligation to negotiate in good faith. This column also offers an additional thought about Biotronik v. Conor Medsystems Ireland,3 where the Court of Appeals ruled the lost profits sought by a distributor to redress an alleged breach of a distribution agreement were general, as opposed to consequential, damages.

‘Quadrant Structured’

In Quadrant Structured Products, the Court of Appeals answered questions certified to it by the Delaware Supreme Court. The case involved an indenture for debt securities. Indentures typically contain a no-action clause that provides an individual debt holder cannot bring an action or proceeding unless certain conditions are satisfied. Before an individual holder could assert a claim concerning the indenture, the individual had to give the trustee written notice of a “default” under the indenture that was “continuing.” After giving that notice, the individual could assert the claim only if (I) the majority in interest of the individual holders requested the trustee to bring a claim concerning the default, offering the trustee a reasonable indemnity with respect to the requested action, and (ii) the trustee did not take the action.4

An individual debt holder brought suit in Delaware Chancery Court asserting some claims that arose from its rights under the indenture and other claims that arose from its status as a holder of debt securities. The debt holder did not dispute that the conditions in the no-action clause had not been satisfied. The defendants moved to dismiss arguing the no-action clause barred the claims. The Chancery Court agreed and dismissed the action.5 The court relied upon Delaware authority concerning no-action clauses in indentures governed by New York law.6 The Chancery Court believed that under that authority, the no-action clause in the indenture precluded plaintiff’s claims in the absence of satisfaction of the conditions expressed in the clause.

On appeal to the Delaware Supreme Court, plaintiff argued that the no-action clauses in the cases cited by the Chancery Court stated that the clause applied to claims concerning both the indenture and the underlying debt securities while, in contrast, the no-action clause at issue applied only to claims concerning any remedy under the indenture. The Delaware Supreme Court found the record in the case insufficient for appellate review. While retaining jurisdiction, it sent the matter back to Chancery Court directing it to analyze the significance under New York law of the differences between the indenture at issue and the indentures in the cases upon which the Chancery Court had relied.

The Chancery Court found that the indenture at issue materially differed from the indentures in the cited cases because the no-action clause in the indenture at issue addressed rights and remedies under the indenture and did not mention rights and remedies concerning the securities. The Chancery Court noted the indenture at issue should be strictly construed and that courts in other states had ruled that when the no-action clause did not mention claims outside the indenture, the clause had not been applied to those claims. The Chancery Court found that the no-action clause in the indenture could be applied to preclude plaintiff from asserting only claims arising under the indenture and did not apply to the other claims in plaintiff’s complaint.7

The Delaware Supreme Court considered the Chancery Court’s analysis. The Supreme Court believed New York law had no controlling precedent on the issue of to what extent, if any, the no-action clause at issue barred the plaintiff’s claims. The Delaware Supreme Court certified to the New York Court of Appeals the question of whether the no-action clause which addressed actions or proceedings upon, under or with respect to “this Indenture” but did not make reference to actions or proceedings concerning “the Securities” precluded enforcement of only claims arising under the indenture and did not preclude enforcement of all common law and statutory claims.8

In oral argument before the Court of Appeals, plaintiff’s counsel argued the Delaware Chancery Court correctly found that the no-action clause barred only those claims arising from the provisions of the indenture or to enforce the indenture. Defense counsel contended that the fact the no-action clause referred to the indenture but not the securities had absolutely no significance. Defense counsel stressed that the court had to consider the purpose of the no-action clause which is intended to centralize in the trustee the right to take action with respect to claims. Defense counsel argued the clause was intended to prevent individual debt holders from acting as “lone rangers” filing individual claims with the result being multiple suits in multiple forums.

Defense counsel urged that the court not “unsettle” New York law by allowing the individual security holder to decide when and where to bring suit. Counsel argued that when the indenture was prepared, no court decision alerted the draftsmen to the possibility that if the words “and securities” were not included in the no-action clause, the clause would apply to some, but not all, claims a debt holder could assert. Counsel contended the draftsman would not have contemplated the possible impact of the absence of the words “or securities” in the no-action clause and it would be inappropriate to have the non-inclusion of the phrase “or securities” undermine the purpose of the no-action clause to centralize in the trustee the decision of whether to bring suit.

The Court of Appeals ruled the no-action clause pertained to only claims concerning the indenture and did not preclude other common law or statutory claims. It believed the indenture must be strictly construed to give effect to its precise words and language. The court noted that the no-action clause contained a specific limit on the enforcement of rights arising from the indenture. The clause did not limit claims which did not arise from the indenture. Nor did the clause address statutory claims.

The court noted that in other cases involving no-action clauses in indentures, the clause put conditions upon seeking any remedy with respect to the indenture “or the securities.” The court concluded that the fact that the no-action clause at issue addressed only claims under the indenture meant the clause did not apply to other claims. The court stated that the maxim expressio unius est exclusio alteritus supported the conclusion that when parties to a contract omit terms readily found in other similar contracts, the inescapable conclusion is that the parties intended that omission.

The decision in Quadrant Structured Products illustrates an important point with respect to a clause that usually is included in a particular type of agreement. A failure to use language commonly used in the clause will be viewed as manifesting an intent to differ from the “standard” clause and not have the clause extend to situations covered by the deleted language. Although counsel and their clients may be unhappy with the amount of “boilerplate” in an agreement, and although they might see a benefit in “pruning” the language, there is a danger that deleting language might have an unintended result.

Telecommunications System

The IDT opinion was the second time the Court of Appeals addressed a dispute between the parties concerning the development and use of a telecommunications system. In 1999, the parties executed a memorandum of understanding relating to a joint venture that would develop an undersea fiber optic telecommunications system. Subsequent litigation between the parties resulted in an October 2000 settlement agreement in which Tyco would provide IDT with an indefeasible right of use (IRU) of the contemplated telecommunications system for a period of 15 years. The terms of the IRU were to be mutually agreed upon and set forth in a definitive agreement. Those terms were not to be inconsistent with the terms of the settlement agreement.

Negotiations between the parties from 2001 to 2004 failed to reach a definitive agreement. After the market for the capacity represented by the IRU sharply dropped, negotiations concerning the definitive agreement flagged and ended in March 2004. IDT brought suit alleging that Tyco failed to negotiate in good faith. In a 2009 decision, the Court of Appeals ruled that Tyco did not fail to negotiate in good faith.9

Five weeks after the decision by the Court of Appeals, IDT sent a letter to Tyco demanding that Tyco honor its obligations under the 2000 Settlement Agreement. Although Tyco allegedly did have further discussions with IDT in 2009 and 2010, it insisted it had no obligation to negotiate. When these discussions ended with no agreement, IDT again sued alleging Tyco failed to negotiate in good faith during these later discussions.

In the recent opinion, the Court of Appeals considered whether the trial court acted properly in dismissing, at the pleading stage, IDT’s claim that Tyco breached an obligation to negotiate in good faith. The court ruled it did. The court noted that an obligation to negotiate in good faith can end without breach by either party. Through no fault of either party, the negotiations might not result in a final contract. As the court noted: “[t]here is such a thing as a good faith impasse; not every good faith negotiation bears fruit.”

The court noted that IDT did not dispute the court’s statement in its previous decision in the case that negotiations came to an end in 2004. Even if the court were to accept IDT’s assertion that negotiations were revived and took place in 2009-2010, the court believed IDT had failed to allege facts that would constitute a breach of the obligation to negotiate in good faith. The court found IDT did not meet its pleading burden merely by recounting that in the discussions in 2009-2010, Tyco took the position that it had no obligation to engage in further negotiations. Two members of the court10 believed otherwise, stating that Tyco had a continuing obligation under the 2000 settlement agreement to negotiate in good faith and IDT stated a claim for breach of that obligation by alleging that during the discussions in 2009-2010, Tyco denied that obligation.

‘Biotronik’

My previous two columns had been devoted to the decision of the Court of Appeals in Biotronik. The court ruled the plaintiff’s alleged claim for $100 million in lost profits damages to redress a breach of contract sought general damages that were not precluded by a “no consequential damages” clause. An interesting question raised by that decision is what impact, if any, it will have on proving the amount of lost profit damages.

The decisions of the Court of Appeals require that the amount of lost profit damages be proved with “reasonable certainty.”11 The Second Circuit has ruled that the “reasonable certainty” standard applied only when the claimed lost profits were consequential damages. The Second Circuit believed that when the claimed lost profits were general damages, the claiming party’s burden with respect to proving the amount of its damages is to present a stable foundation for a reasonable estimate of its damages.12

It is an open question whether a New York state court would adopt the general/consequential distinction of the Second Circuit or rule that when lost profits are sought as general damages, a party does not need to prove the amount of its damages with reasonable certainty but can satisfy its burden of proof by presenting a stable foundation for a reasonable estimate of its damages.13 The Biotronik case may shed light on this question.

ENDNOTES:

1. 2014 WL 2573378 (N.Y. June 10, 2014).

2. 2014 WL 2515708 (N.Y. June 5. 2014)

3. 22 N.Y.3d 799 (2014).

4. See, Quadrant Structured Products Company, Ltd. v. Vertin, 2013 WL 3233130 (Del. Ch. Jun. 20, 2013).

5. 2012 WL 2051753 (Del. Ch. June 5, 2012).

6. Lange v. Citibank, 2002 WL 2005728 (Del. Ch. Aug 13, 2002); Feldbaum v. McCrory Corp., 1992 WL 119095 (Del. Ch. June 1, 1992).

7. 2013 WL 3233130.

8. Quadrant Structured Products Company v. Vertin, 2013 WL 5962813 (Del. Supr. Nov. 7, 2013).

9. IDT Corp. v. Tyco Group, 13 N.Y.3d 209, 899 N.Y.S.2d 401 (2009).

10. Judge Eugene Pigott and Judge Victoria Graffeo.

11. Kenford Co. v. County of Erie, 67 N.Y.2d 257, 502 N.Y.S.2d 131 (1986).

12. Tractebel Energy Mktg., v. AEP Power Mktg., 487 F.3d 89 (2d Cir. 2007).

13. This issue is discussed in my article “Lost Profits for Breach of Contract: Would the Court of Appeals Apply the Second Circuit’s Analysis,” 74 Albany Law Review 637 (2010/2011).