Explore the implications of Delaware law on survival periods and statute of limitations in M&A agreements. Learn how a recent case, Kilcullen v. Spectro Scientific, Inc., sheds light on extending timeframes for indemnification claims.
September 6, 2019
M&A Stories
Introduction:
In the world of mergers and acquisitions (M&A), it’s customary to define specific survival periods for indemnification claims. These periods are often paused while a claim is pending. However, it’s important to note that, under Delaware law, the survival period cannot extend the applicable statute of limitations for contract claims—unless specified differently in a contract following a 2014 Delaware law amendment.
The Scenario:
In a recent case, a company specializing in oil analyzers was acquired by a buyer through a stock purchase agreement (SPA). The SPA secured the seller’s obligations with a $500K deposit in an escrow account. This agreement stipulated that any remaining escrowed funds not subject to an indemnification claim would be released within three business days after the first anniversary of the closing.
The Challenge:
Before the stock purchase was finalized, it was discovered that some analyzers contained unlicensed software owned by Microsoft. The buyer was unaware of this issue as both the seller and the target had represented in the SPA that they were authorized to use the software, had obtained the necessary licenses, and were in compliance with all laws.
The Fallout:
After the closing, the buyer found that about 330 analyzers with unlicensed software (referred to as “legacy units”) were still in use worldwide. The buyer notified the seller of an indemnification claim based on the target’s failure to obtain proper software licenses.
Legal Battles:
The seller disputed the buyer’s indemnification claims. Six months later, the buyer settled with Microsoft, which released both the buyer and the target from claims related to the unlicensed software. However, Microsoft did not release the end users of the 330 legacy units, leaving the target exposed to potential licensing-related claims.
The buyer demanded the release of escrowed funds to cover the settlement and reserved the right to seek indemnification for future losses. When the seller refused, the dispute ended up in the Delaware Court of Chancery.
Statute of Limitations:
One of the central issues was whether the buyer’s indemnification claim against the seller for breaching the SPA’s intellectual property representation and warranty was barred by Delaware’s three-year statute of limitations for contract claims. The court ruled in favor of the statute of limitations, which had expired eight months before the buyer filed the lawsuit.
Tolling Explained:
The buyer argued that the SPA’s one-year survival period and the three-year statute of limitations were tolled when it made its indemnification claim within one year of the closing. The court agreed that the pending indemnification claim tolled the one-year survival period but clarified that it didn’t affect the three-year statute of limitations. Consequently, the IP representation and warranty breach claim were time-barred because the buyer didn’t sue the seller within three years of the closing.
Looking Forward:
It’s worth noting that a 2014 Delaware law amendment allows buyers to extend the Delaware three-year statute of limitations for contract claims for up to 20 years through contract specifications (See 10 Del. Code § 8106(c).
In conclusion, this case emphasizes the importance of understanding the interplay between survival periods and the statute of limitations in M&A agreements under Delaware law. It also highlights the potential to extend these timeframes when needed.
Case Reference:
Kilcullen v. Spectro Scientific, Inc., C.A. No. 2018-0429-KSJM, Court of Chancery of Delaware (Decided: July 15, 2019)
By John McCauley: I help companies and their lawyers minimize legal risk associated with small U.S. business mergers and acquisitions (transaction value less than $50 million).
Email: jmccauley@mk-law.com
Profile: http://www.martindale.com/John-B-McCauley/176725-lawyer.htm
Telephone: 714 273-6291
Check out my book: Buying Assets of a Small Business: Problems Taken From Recent Legal Battles
Legal Disclaimer
The blogs on this website are provided as a resource for general information for the public. The information on these web pages is not intended to serve as legal advice or as a guarantee, warranty or prediction regarding the outcome of any particular legal matter. The information on these web pages is subject to change at any time and may be incomplete and/or may contain errors. You should not rely on these pages without first consulting a qualified attorney.
Recent Comments