EXPRESS SCRIPTS, INC. and UNITED BIOSOURCE LLC, Defendants Below, Appellants/Cross Appellees, v. BRACKET HOLDINGS CORP., Plaintiff Below, Appellee/Cross Appellant.
No. 62, 2020
IN THE SUPREME COURT OF THE STATE OF DELAWARE
Decided: February 23, 2021
Submitted: December 16, 2020
Court Below: Superior Court of the State of Delaware C.A. No. N15C-02-233 CCLD
Before SEITZ, Chief Justice; VALIHURA, VAUGHN, TRAYNOR, and MONTGOMERY-REEVES, Justices, constituting the Court en Banc.
Upon appeal from the Superior Court. REVERSED and REMANDED.
Kevin G. Abrams, Esquire, Michael A. Barlow, Esquire, Daniel J. McBride, Esquire, ABRAMS & BAYLISS LLP, Wilmington, Delaware; Derek L. Shaffer, Esquire (argued), Michael Lyle, Esquire, QUINN EMANUEL URQUHART & SULLIVAN, LLP, Washington, D.C., Richard I. Werder, Jr., Esquire, Rollo C. Baker, Esquire, Silpa Maruri, Esquire, Dominic J. Pody, Esquire, QUINN EMANUEL URQUHART & SULLIVAN, LLP, New York, New York; Attorneys for Defendants-Appellants/Cross-Appellees Express Scripts, Inc. and United BioSource LLC.
SEITZ, Chief Justice:
United BioSource LLC (“UBC“), a subsidiary of Express Scripts, Inc. (“ESI“) agreed to sell three of UBC‘s pharmaceutical research and development businesses to Bracket Holding Corp. (“Bracket“), a holding company formed by Parthenon Capital Partners, LP (“Parthenon“) for the acquisition. In August 2013, Bracket and UBC signed a $187 million securities purchase agreement (the “SPA“). Except for claims involving deliberate fraud and certain fundamental representations, Bracket agreed to limit its remedy for breach of the SPA‘s representations and warranties to an insurance policy (the “R&W Policy“) purchased to cover these claims.
After closing, Bracket claimed that ESI and UBC engaged in fraud by inflating the revenue and working capital of one of the divisions of the acquired companies. In an arbitration proceeding Bracket recovered $13 million under the R&W Policy for breach of the SPA‘s representations and warranties. Bracket then sued ESI and UBC for fraud in the Superior Court. A jury awarded Bracket over $82 million.
The parties have appealed from the jury verdict and judgment. We find one issue dispositive. The SPA provides unambiguously that, except in the case of deliberate fraud and certain fundamental representations, Bracket could only recover up to the R&W Policy‘s limits for breaches of the representations and warranties. Over ESI‘s objection, however, the Superior Court instructed the jury that it could find for Bracket not only for deliberate fraud, but also for recklessness. A deliberate state of mind is a different kettle of fish than a reckless one. The court‘s erroneous jury instruction was not harmless—it violated a key provision of the SPA and how the parties allocated risk in the transaction. We therefore reverse the Superior Court‘s judgment and remand for a new trial. To be helpful to the court and the parties on remand, we also address one other meritorious issue raised by ESI and UBC in their appeal.
I.
We review the facts in a light most favorable to the jury‘s verdict.1 ESI is a Delaware corporation providing pharmaceutical support services and benefits management. In 2012, ESI acquired UBC and its three subsidiaries—Bracket Global Holdings LLC, Bracket Global K.K., and Bracket Global Limited. Parthenon, a private equity fund, formed Bracket to purchase the Company from UBC. To distinguish between Bracket Holding Corp., the acquisition entity, and the three UBC Bracket subsidiaries, we will refer to the acquisition entity as “Bracket” and the three subsidiaries as the “Company.” We will also refer to ESI and UBC together as “the defendants.”
In the fall of 2012, UBC hired Credit Suisse Securities (USA) LLC (“Credit
During due diligence, Parthenon grew concerned about the high balance of unbilled accounts in the QoE Report for Scientific Services, one of the Company‘s divisions. It raised the issue with Jim Stewart, the Company‘s Vice President of Finance. Stewart responded that the high receivable balance came from contract change orders when additional work was authorized beyond the scope of the original contract but had not yet been reflected in a revised contract. According to Stewart, unexecuted change orders were common in the industry and did not pose collectability problems. KPMG did not express concerns about the collectability of the balances.
On July 12, 2013, Bracket and UBC entered the SPA. UBC represented that the January 2011 through March 2013 financial information in the disclosure schedule supporting a $29 million TTM EBITDA was true and correct. UBC also represented that, as of May 31, 2013, the Company had $11.85 million in working capital, subject to a post-closing adjustment.
Soon after closing, Bracket believed it had been misled about the Company‘s finances. According to Bracket, the Company had inflated historical revenue by millions of dollars. The Company‘s unbilled receivable balance was way off. Contracts did not support the balances and the revenue recognized against them. The Company recognized revenue long after work ended. Revenue continued to be booked for closed out contracts and was uncollectible. Bracket claimed that the Company‘s working capital was a negative $2.7 million along with large unbilled receivables.
After some back and forth between the parties, Bracket settled on a negative $14 million in working capital, requiring an over $25 million post-closing working capital adjustment. Bracket attributed the shortfalls to overstated unbilled receivables. Bracket also believed that it overpaid for the Company by tens of millions of dollars based on the effect unbilled receivables had on revenue.
In October 2014, Bracket demanded arbitration to recover under the R&W Policy. The arbitration raised many of the same events that led to this litigation. Bracket recovered $13 million under the R&W Policy. The defendants did not participate in the arbitration.
In 2015, UBC filed an action in the Court of Chancery to compel Bracket to commence arbitration under Section 2.5(b) of the SPA to resolve the working capital dispute.2 The court granted UBC‘s demand and ordered the parties to commence the working capital arbitration process under the SPA.3 Under Section 2.5(b), each party submitted a proposed calculation of working capital. The arbiter issued a report,
Bracket then sued ESI, UBC, and Jim Stewart in the Superior Court for fraudulently inducing Bracket to purchase the Company. UBC responded with counterclaims for breach of contract and tortious interference for Bracket‘s failure to pay UBC under a separate contract—a Transition Services Agreement (“TSA“). At trial, Bracket called fact witnesses and an expert witness to show that Stewart recognized revenue for contracts before the work had been performed, that did not exist or had been terminated, and in amounts exceeding totals for active contracts. After a ten-day trial the jury found that the defendants committed fraud and that ESI aided and abetted UBC‘s fraud. The jury awarded Bracket $82.1 million in damages and UBC $2.2 million in damages for UBC‘s breach of the TSA.
The parties filed a flurry of post-trial motions. For purposes of this appeal, we focus on the Superior Court‘s jury instruction addressing the state of mind for proof of fraud. The Superior Court first addressed the state of mind requirement in its April 11, 2019 pre-trial opinion.5 Bracket argued that the defendants should be liable not only for deliberate fraud, but for reckless conduct. The defendants objected and relied on the SPA‘s deliberate fraud limitation to recover more than the R&W Policy. The court concluded that it was “confident there will be a significant dispute over how the jury will be instructed regarding fraud and what [Bracket] needs to establish to support this allegation” but found that “the extent to which others may have had knowledge of or reasonably suspected [Stewart‘s conduct] will be one for the jury to decide.”6 Continuing, the court concluded that Bracket “will be required to establish that the intent of [the] [d]efendants, through their employees, was to knowingly create false financial documents . . . . [but] [t]he exact wording of the jury instructions will await the submissions by the parties.”7
In a May 15, 2019 pre-trial hearing, the defendants raised the reckless versus deliberate jury instruction issue again, arguing that “it impacts the nature of the case statement that plaintiff has proposed. It may also influence the argument that plaintiff makes. So that is why the parties had agreed th[is] issue . . . could be addressed today as opposed to later during a charging conference.”8 It appears that the parties interpreted the court‘s April 11 ruling differently.9 After the parties made their positions known, the court clarified its prior decision. The court stated that the term “deliberate” was not “defined otherwise in the document,” meaning that UBC could be liable for recklessness, not just intentional fraud.10
The defendants renewed their objection to the fraud jury instruction in a post-trial motion for a new trial.13 Once again, the court turned away their argument. The court reasoned that Delaware law requires an “express agreement” to alter the common law fraud state of mind requirement, which includes recklessness.14 The court found “no clear articulation of the parties’ intent,” and thus, the court “d[id] not believe that the inclusion of one undefined term – ‘deliberate’ – in the indemnification section of the SPA alters the mental state required for common law fraud.”15 Thus, the court reaffirmed its prior ruling that the court properly instructed the jury that the defendants could be liable for fraud if they acted recklessly. The court denied the defendants’ post-trial motion to overturn the jury‘s verdict.
II.
On appeal, the defendants argue that the Superior Court erred by allowing Bracket to recover for breach of the representations and warranties not only for deliberate fraud, but for recklessness. They point to Section 9.6(d) of the SPA and its “deliberate fraud” requirement. In the absence of deliberate fraud, the defendants argue, the SPA limited Bracket to the “sole remedy” of the R&W Policy.16 According to the defendants, because the fraud jury instruction conflicted with a fundamental provision of the SPA, they are entitled to a new trial.
Bracket responds that the SPA contains numerous provisions referring to fraud, which refer to common law fraud. When the SPA is read as a whole, Bracket argues, the defendants could be liable for common law fraud, which includes recklessness. Further, Bracket contends that “deliberate” fraud under the SPA covers intentional and reckless mental states. Finally, according to Bracket, if the Superior Court erred, the error was harmless given what they characterize as overwhelming evidence of deliberate fraud.
On appeal, we review de novo the trial court‘s jury instructions.17 While “jury instructions need not be perfect,” they must “give a correct statement of the substance of the law and be reasonably informative and not misleading when read as a whole.”18 If the jury misunderstands the law, “its ability to perform its duty is undermined and substantial rights of the parties are affected.”19
In ABRY Partners V, L.P. v. F & W Acquisition LLC, the Court of Chancery recognized “a strong tradition in American law that holds that contracts may not insulate a party from damages or rescission resulting from the party‘s fraudulent conduct.”20 There is also “a strong American tradition of freedom of contract, and that tradition is especially strong in [Delaware], which prides itself on having commercial laws that are efficient.”21 The Court of Chancery in ABRY Partners resolved the tension between Delaware‘s “distaste for immunizing fraud” and “the need for commerce to proceed in a rational and certain way,” by concluding that a contracting party cannot, as a matter of public policy, “limit . . . exposure for its own conscious participation in the communication of lies to the Buyer . . . .”22 But when a party “knowingly accepted the risk that the [counterparty] would act with inadequate deliberation,” then that party “may not escape the contractual limitations on liability by attempting to show that the [counterparty] acted in a reckless, grossly negligent, or negligent manner.”23
The SPA—governed by Delaware law24—and its indemnification framework directly reflects the balance struck in ABRY Partners. In Section 9.6(D) of the SPA, the parties addressed deliberate fraud and other states of mind and allocated the risks associated with post-closing liability for breach of representations and warranties:
NOTWITHSTANDING ANY OTHER PROVISION HEREIN TO THE CONTRARY, EACH OF THE BUYER AND PARENT ACKNOWLEDGES AND AGREES, THAT FROM AND AFTER THE CLOSING, EXCEPT IN THE CASE OF FRAUD, PARENT SHALL NOT HAVE ANY DIRECT OR INDIRECT LIABILITY (DERIVATIVELY OR OTHERWISE) WITH RESPECT TO ANY BREACH OF ANY REPRESENTATION OR WARRANTY (OTHER THAN THE FUNDAMENTAL REPRESENTATIONS) MADE BY PARENT IN THIS AGREEMENT. IN FURTHERANCE OF THE FOREGOING, THE BUYER AND PARENT EACH ACKNOWLEDGES AND AGREES THAT EXCEPT IN THE CASE OF ANY DELIBERANT [sic] FRAUDULENT (I) ACT, (II)
STATEMENT, OR (III) OMISSION (1) THE SOLE AND EXCLUSIVE REMEDY OF WITH RESPECT TO ANY BREACH BY PARENT OF ANY REPRESENTATION OR WARRANTY (OTHER THAN THE FUNDAMENTAL REPRESENTATIONS) CONTAINED IN THIS AGREEMENT SHALL BE SATISFIED SOLELY FROM THE R&W INSURANCE POLICY . . . .25
Section 9.6(D) is unambiguous. The parties agreed that, except for fraud and fundamental representations, the Parent—defined as UBC26—would not be liable for any breach of the SPA‘s representations
The Superior Court “d[id] not believe that the inclusion of one undefined term – ‘deliberate’ – in the indemnification section of the SPA alters the mental state required for common law fraud.”27 We disagree. When sophisticated parties craft purchase agreements, they typically follow a time-tested template.28 Specific to
indemnification provisions, the buyer wants to be sure it is getting what is represented and secures representations and warranties specific to the seller‘s financial information. The seller wants to limit its liability for post-closing disputes over representations and warranties. The parties channel post-closing representation and warranty disputes to the indemnification provisions of their agreement.29
Here, the parties followed this well-worn path and used Section 9.6(D) to address fraud and allocate risk associated with post-closing disputes. Following Delaware law, the parties carved out deliberate fraud from the limits of the indemnification provision.30 But for all other states of
its remedy to the R&W Policy for breaches of the SPA‘s representations and warranties.
Our reading of Section 9.6(D) is confirmed when read in conjunction with Article 4, which addresses the “Representations and Warranties of the Buyer.”31 Consistent with the indemnification limitations in Section 9.6(D), and specifically the carveout for deliberate fraud, the parties agreed in Section 4.6 (Insurance) that “[t]he R&W Policy shall not provide for, or increase, any liability of Parent or its Affiliates . . . except as may result in the case of any deliberate fraudulent (a) act, (b) statement or (c) omission.”32 Further, the R&W Policy had to include “a waiver by the insurer(s) that issued the R&W Policy of any and all rights of subrogation . . . except in the case of any deliberate fraudulent (a) act, (b) statement or (c) omission.”33 In other words, the scope of the R&W Policy had to “conform to the
representations and warranties were false.‘“) (quoting ABRY PARTNERS, 891 A.2d at 1064); see also Lou R. Kling & Eileen Nugent, Negotiated Acquisitions of Companies, Subsidiaries, and Divisions, § 15.02 (2020) (discussing the ambiguity problem of undefined fraud parameters and suggesting “a clause which narrowly defines fraud based on a concept of intentional, knowing misrepresentation by the Seller“); Model Stock Purchase Agreement with Commentary 294 (“If the sellers are successful in negotiating one or more liability-limiting provisions, they often agree to remain fully liable for ‘willful’ or ‘intentional’ misconduct such as fraud or intentional misrepresentation.“); Steven M. Haas, Contracting Around Fraud Under Delaware Law, 10 DEL. L. REV. 49, 57 (2008) (“As one would expect, exclusive remedy provisions are intensely negotiated and contain various carve-outs for different occurrences. . . . Most often, these carve-outs exempt claims relating to intentional misrepresentations from the exclusive remedy provisions such that all claims except for fraud must be brought as indemnification claims.“).
representation in Section 4.6.”34 The R&W Policy incorporated the deliberate fraud limitations—“[t]he insurer shall only be entitled to exercise rights of subrogation against the Seller(s) . . . if the Loss arose in whole or in part out of any deliberate fraudulent act, statement or omission.”35 Through Section 4.6, the parties made clear that deliberate fraudulent “acts, statements, and omissions” were not covered by the R&W Policy and the carrier could subrogate a claim for these actions and omissions. Otherwise, the R&W Policy was the exclusive remedy.
A plain reading of the SPA shows that the parties took great care to distinguish between deliberate fraud and other states of mind and conduct. If the defendants committed deliberate fraud, Bracket could recover damages in addition to the R&W Policy. Absent that, Bracket‘s sole remedy was a claim against the R&W Policy.
B.
Bracket argues that references to common law fraud throughout the SPA “fit together seamlessly with the indemnification provision in Article 9.”36 The argument goes as follows. Section 9.6(D) states that “[n]otwithstanding any other provision herein to the contrary, . . . except in the case of fraud,” the defendants will not be liable for “any breach of any representation or warranty.”37 Section 9.8 states
that “[i]n the absence of fraud and except for [Bracket‘s] and its Affiliates’ rights under the R&W Policy,” the SPA‘s indemnification
Bracket‘s attempt to import fraud references from other provisions into the indemnification provision suffers from glaring errors. First, it ignores the language in Section 9.6(D) that the indemnification provision supersedes “any other provision herein to the contrary,” meaning anything in Section 9.8 or other SPA provisions that are inconsistent with Section 9.6(D).41 In Section 9.6(D) the parties treated deliberate fraud as a matter separate from other general references to fraud in the SPA.42 Further, Section 9.6(D)‘s lead-in phrase following the general fraud
exception—“[i]n furtherance of the foregoing“—means that more is coming to refine the fraud exception. The parties made clear that, other than for instances of deliberate fraud, the R&W Policy is the exclusive remedy. Section 9.6(D)‘s specific treatment of fraud also controls over general references to fraud elsewhere in the SPA.43
Next, Bracket resorts to grammatical rules to override the plain meaning of Section 9.6(D). It argues that “‘delibera[te]’ in §9.6(d) is an adjective that modifies the nouns ‘act,’ ‘statement,’ and ‘omission,’ not an adverb that modifies ‘fraudulent.‘”44 Thus, according to Bracket, “[e]ven if Defendants were right to claim that ‘deliberate’ means ‘intentional,’ §9.6(d) would require only an intentional act, statement, or omission; it would not alter the scienter standard for whether such intentional act were fraudulent.”45 This is a tortured reading of Section 9.6(D). States of mind are often paired with, and modify, the legal description of claims that follow them.46 Although grammatical
ambiguous language,47 here Section 9.6(D) has a plain meaning—the parties sought to distinguish deliberate fraud from other mental states.
Finally, Bracket claims that “deliberate” fraud can include recklessness. But as explained earlier, fairly read, the parties used Section 9.6(D) to distinguish “deliberate fraud” from other states of mind. Even though the parties did not define “deliberate,” its use in context shows that it was meant to refer to an intentional state of mind. Dictionary definitions back this up.48 Black‘s Law Dictionary defines “deliberate” as “1. Intentional; premediated; fully considered” and “2. Unimpulsive; slow in deciding.”49 “Deliberate,” in its plainer meaning, is defined as “[o]f a person: that acts or takes decisions after careful thought or consideration; measured and
represented that were, in fact, ‘intentionally fraudulent.‘“); see also, e.g., In re Massey Energy Co., Deriv. & Class Litig., 2011 WL 2176479, at *27 n.180 (Del. Ch. May 31, 2011) (“Typical exclusions [from D & O insurance coverage] include acts arising out of, based upon, or attributable to . . . committing any deliberate criminal or deliberate fraudulent act.“) (alteration in original) (citation omitted).
thoughtful. Also: that acts purposely or with intent.”50 What the parties intended to describe here was an intentional state of mind, not recklessness.
A deliberate state of mind does not equate to a reckless state of mind.51 The parties used “deliberate” to describe a specific state of mind. Bracket agreed that, absent deliberate fraud, its sole and exclusive remedy for breach of the representations and warranties was the R&W Policy. The Superior Court erred when it instructed the jury that it could find for Bracket if it proved that the defendants acted with a reckless state of mind.
Bracket argues in the alternative that we should treat the legal error as harmless. Bracket claims that the “overwhelming evidence at trial . . . [that] showed that [the] [d]efendants committed intentional not merely reckless fraud” should excuse the erroneous instruction.52 According to Bracket, the reckless instruction “did not ‘undermine[] the jury‘s ability to intelligently perform its duty.‘”53 We disagree.
As noted earlier, “[a] party is not entitled to a particular jury instruction but does have the unqualified right to have the jury instructed on a correct statement of the substance of the law.”54 “While some inaccuracies and inaptness in statement are to be expected in any [jury] charge, this Court will reverse if the alleged deficiency in the jury instructions undermined the jury‘s ability to intelligently perform its duty in returning a verdict.”55
The erroneous jury instruction was not harmless error. Bracket was able to argue for a lesser mental state to establish liability notwithstanding the parties’ agreement to limit fraud liability in excess of the R&W Policy to deliberate fraud.56 Rather than focus on deliberate or intentional misrepresentations, the jury was instructed that it could also find in favor of Bracket by focusing on the defendants’ “recklessly indifferent” conduct, meaning the defendants “we[re] aware of and
consciously disregarded a substantial and unjustifiable risk.”57 The jury instruction misstated the law and undermined how the parties allocated risk in the SPA.58 The
III.
Although we reverse the Superior Court‘s judgment based on its erroneous fraud jury instruction, to be as helpful as possible to the court on remand, we address another meritorious evidentiary issue the defendants raised on appeal.60
Throughout the case, Bracket alleged that it calculated its purchase price based on a multiple of EBITDA during the TTM period. If the defendants overstated EBITDA, Bracket argued, it overpaid for the Company. But Bracket‘s overstated EBITDA claim depended on the financial statements represented in the SPA. In its summary judgment ruling, the Superior Court limited Bracket‘s fraud claim to the Company‘s March 2013 financial statements based on what it characterized as a representation that Bracket relied on those statements. The court ruled:
[T]he financial statements that were certified in § 3.1 of the SPA are set forth in disclosure statement § 3.4(a). It is the representation as to these statements that Plaintiff alleges is false. It has also been represented to the Court that Plaintiff determined its pricing based upon these disclosure statements. Therefore, the Court believes it is the difference
between the financial statements ending as of March 2013 and those recalculated by [Bracket‘s expert] that are at issue. As a result, the calculations set forth in Exhibit 2 of [Bracket‘s expert]‘s report would appear to reflect the relevant difference and are the calculations that the Court will allow testimony about.”61
At trial, the defendants sought to introduce three exhibits to show that Bracket
As established before trial, Bracket relied upon the March 2013 financial statements in setting the purchase price for the transaction. The evidence that Defendants sought to introduce regarding Bracket‘s evaluation of other statements would have been prejudicial and irrelevant to whether Bracket was defrauded. The decision as to [the relevant exhibits‘] exclusion was set forth in the Court‘s Memorandum Opinion of April 11, 2019, which resolved the dispute over the appropriate TTM period. As a result of the Court‘s [summary
judgment] ruling, the Plaintiff was limited to this period, which had a significant impact on the damages they were claiming. In spite of the Court‘s ruling, at trial, the Defendants tried to introduce, through non-expert witness testimony, evidence regarding other potential periods. This was simply a back door effort to get around the Court‘s previous ruling.”64
It appears that the court misapprehended the basis for the defendants’ use of the three exhibits. To prove its fraud claim, Bracket had to demonstrate, among other elements, reliance.65 The defendants sought to introduce the exhibits to show that Bracket relied on financial information outside the March 2013 financial statements to set the purchase price. What Bracket relied on to fix the purchase price was both relevant and a question for the jury that was not susceptible to resolution at summary judgment.
Having concluded that the exhibits are relevant, under
prejudice. It appears from the court‘s rulings that the prejudice stemmed from the court‘s prior ruling that Bracket was limited to the March 2013 financials. Thus, as we understand it, Bracket would be unfairly prejudiced if it was limited to the March 2013 financial statements, but the defendants could use post-March financial statements to undermine Bracket‘s reliance.67
Once again, we think that the prejudice finding stemmed from a lack of clarity about the intended use of the evidence. The defendants sought to use the evidence to undercut Bracket‘s claim that it relied exclusively on financial statements covered by the SPA. Bracket could still rebut this evidence with proof that it relied on the March 2013 financial statements. Relevant evidence is, for the most part, prejudicial to the other party‘s case.68 The prejudice must be unfair when balanced against
relevance.69 On the record before us, the balance tips decidedly in favor of admission.
IV.
The Superior Court‘s judgment is reversed. The case is remanded for a new trial consistent with this opinion. The issues raised on cross-appeal are moot. Thus, we do not comment on the merits of the arguments on cross-appeal.