Companies committing themselves to earn-out payments when they’re negotiating the purchase of a company should be careful about what they promise to help the other company achieve their milestones, Arnold & Porter partners Thomas Yadlon and Tracy Belton say in an analysis of a Chancery Court case that touches on key contractual issues.

Clinical trial media company Trifecta Multimedia Holdings sued WCG Clinical Services for fraud on the grounds it promised to help Trifecta reach earn-out milestones but did nothing it said it would do after the acquisition closed. 

WCG promised to apply $14 million a year in sales of its own product towards Trifecta’s earn-out revenue goals, but it didn’t do that, the lawsuit alleges. It promised to treat Trifecta’s three-part product as a main selling point for clients, but it immediately split the product into separate pieces, neutralizing what clients most like about the product, the lawsuit says. And it promised to allow Trifecta to operate independently while taking advantage of shared services like accounting and legal, but it allowed the company no leeway to do business on its own, even preventing a Trifecta salesperson from contacting potential clients. 

With the exception of WCG’s $14 million revenue commitment, the promises weren’t formalized as part of the purchase agreement. Even so, the promises provided sufficient grounds for a court to weigh whether WCG acted fraudulently, the Court of Chancery ruled last month, rejecting most of WCG’s motion to dismiss and allowing the case to proceed.

Trifecta claims WCG was motivated to prevent it from reaching the milestones to avoid paying the earn-out amounts.  

“Buyers operating under earn-outs should … be cautious about making statements that could be construed as specific promises regarding their future operations, in any format or forum,” the attorneys say in their analysis of the case, Trifecta vs. WCG. 

Not all of the promises WCG made need to be weighed at trial, the court ruled. Some of them were nothing more than puffery.

For example, WCG promised it would be “the best partner to accelerate growth” and that they would work together “shoulder to shoulder,” among other things. Even though WCG failed to live up to those promises, as Trifecta has alleged, statements like that are too nonspecific to build a fraud charge around. They were dismissed as part of the fraud claim.  

The difference between specific and nonspecific promises isn’t particularly clear in the court’s ruling, the attorneys say. For example, WCG promised it would support Trifecta “with over 100 sales and marketing staff” and didn’t do that, but the court saw that promise, despite its concrete number, as another example of puffery. 

“The distinction between statements identified by the court as ‘mere puffery’ and those considered to be specific enough to be actionable is very slight,” the attorneys said.

That uncertainty reinforces why it’s important buyers be cautious about what they promise, the attorneys said. 

It’s also critical for buyers not to think an integration clause by itself is enough to keep promises made outside the purchase agreement from being included as evidence of fraud. 

Although an integration clause makes it clear provisions in the agreements are what control, it’s equally necessary to include an anti-reliance clause, the attorneys said. That clause makes it clear parties to the deal agree not to rely on anything outside of the agreements, whether spoken or in writing, in deciding whether to go forward with the deal.

“It is imperative that buyers, or any other party that is subject to an earn-out or earn-out like requirement, include explicit anti-reliance language in the agreement, in addition to including a standard integration clause,” the attorneys said. 

Buyers might hesitate to include an anti-reliance clause in the agreement out of concern it would spook the seller, but that concern is overblown, the attorneys said. “The inclusion of the anti-reliance provision should be no more controversial than the inclusion of an integration clause,” they said.

Bottom line: Companies using earn-outs as part of their offer in acquiring another company should be careful about promises they make to help the seller meet the milestones. They should also be careful about including an anti-reliance provision in the purchase agreement, because an integration clause by itself won’t necessarily prevent evidence from outside the agreement being allowed in the case.