Explore a recent case involving a buyer’s misrepresentation claim in an M&A deal. Learn how the economic loss doctrine played a crucial role in the outcome and its implications for similar cases.
M&A Stories
December 7, 2018
In a recent case involving a Madison, Wisconsin-based contract manufacturing company specializing in custom vitamin blends for animal feed, the buyer, who was also the company’s vice-president, claimed misrepresentations by the seller, the company’s president. Both individuals owned 50% of the company’s stock.
The buyer acquired the company’s stock in 2012 through a stock purchase agreement. After the deal was completed, the buyer alleged that the seller had made several misrepresentations prior to the agreement. These misrepresentations included the ownership of equipment, failure to include accounts payable information on the balance sheet, not disclosing a significant reduction in business from a major customer, and the switch of suppliers by another major customer.
In response, the buyer withheld payments owed to the seller under the purchase agreement, leading to a legal dispute. The seller sued for breach of contract, while the buyer counterclaimed with accusations of breach of fiduciary duty and fraudulent inducement.
The core of the issue revolved around the economic loss doctrine, which limited the buyer to suing the seller for breaches related specifically to the stock purchase agreement. However, in this case, the buyer based the misrepresentation claim on tort claims of breach of fiduciary duty and fraudulent inducement, not a breach of the contract.
Both the trial court and the Wisconsin intermediate appellate court ruled in favor of the seller, citing the economic loss doctrine. This doctrine is designed to protect the freedom of both parties to allocate economic risks associated with the business, with the onus on the buyer, who is better equipped to assess and manage those risks.
Moreover, the courts noted that the buyer had the means to protect themselves. They were experienced businesspeople, represented by legal counsel, and had affirmed their knowledge and involvement in the stock purchase agreement.
In summary, this case illustrates that there are circumstances in which a buyer’s misrepresentation claim cannot succeed due to the application of the economic loss doctrine. When the claim is based on tort claims like breach of fiduciary duty and fraudulent inducement, the economic loss doctrine may bar such claims, requiring the reliance on a breach of contract claim.
Nevertheless, some jurisdictions, like Delaware, may permit a buyer to reserve the right to make fraud claims by the use of a well drafted fraud carveout provision.
Case Reference:
Reinke v. Jacobson, Appeal No. 2016AP2197, Court of Appeals of Wisconsin, District IV, (October 26, 2017).
By John McCauley: I help people start, grow, buy and sell their businesses.
Email: jmccauley@mk-law.com
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