In many if not most lawsuits between discordant business partners there comes a time when they launch settlement negotiations for a buy-out of one partner by the other. Sometimes this occurs early in the lawsuit and sometimes later, after one or more rounds of inconclusive motion practice and discovery proceedings.
The parties’ lawyers normally orchestrate and conduct settlement negotiations and are at their clients’ side at any face-to-face settlement meetings. Lawyers also are trained to ensure that any binding and enforceable settlement agreement entered into is fully baked, that is, it contains all the material terms and conditions necessary to effectuate the struck bargain, including appropriate representations and warranties, security and tax-related provisions, releases, and other necessary “boilerplate.” By the same token, lawyers are trained to flag any term sheet or other preliminary accord, that is, one that requires further fleshing out and negotiation, with an appropriate written acknowledgement that the stated terms are non-binding unless and until formalized in a future, comprehensive, signed agreement.
Sometimes, however, clients engage in direct settlement discussions without the lawyers. This can happen for many different reasons, with or without the lawyers’ approval and guidance. Clients have been known to initiate or take over settlement discussions directly with the other side when they feel lawyer ego or clash of personality are impeding the process. It also can happen when one or both clients believe their settlement demands and sentiments have been distorted or otherwise not communicated effectively by the other side’s lawyer to his or her client.
One of the dangers when this happens is a client who wittingly or unwittingly signs off on a buy-out agreement — often one handwritten on the spot by the parties at their private tête-à-tête — without having it vetted by his or her lawyer and with or without intending it to constitute a binding arrangement. After the lawyers get a hold of it, and they discern that key terms have been overlooked or misstated or overly generous concessions made, there may ensue a court contest over the agreement’s enforceability, with one side contending that the agreement is a binding settlement of the litigation and the other arguing that it is merely an incomplete and unenforceable “agreement to agree.”
The De Well Case
A prime example of the perils of the client-negotiated buy-out agreement is found in De Well Container Shipping Corp. v. Guo, Short Form Order, Index No. 12955-11(Sup Ct Nassau County Mar. 13, 2013), decided by Nassau County Commercial Division Justice Timothy S. Driscoll. De Well involved dueling lawsuits between 51% and 49% shareholders of a closely held freight forwarding company. The controlling shareholder filed suit in the company’s name against the minority shareholder, his wife and others affiliated with him, accusing them of starting up a competitive business using the company’s assets and good will, and diverting its business. The minority shareholder commenced a proceeding to dissolve the company, also accusing the majority shareholder of business diversion and other activities designed to devalue the minority shareholder’s interest.
The “Agreement in Principle”
In January 2012, Justice Driscoll granted the company’s preliminary injunction motion against the minority shareholder and other defendants (read decision here). In May 2012, the principal of the majority shareholder, Yang Shi Time, and the minority shareholder, Mingwei Guo, met alone for 14 hours and emerged with a signed agreement entitled “Agreement in Principle,” portions of which were written in English and other portions in their native Chinese language. As quoted in Justice Driscoll’s decision, the Agreement in Principle read as follows:
– (Yang shi) Time shall pay one Lump Sum, $1.25 million to Mingwei Guo within 7 working days after signing the formal agreement.
– [writing in Chinese] No recourse to each other for whatever the claims against each other in the past.
– If any tax issues arise in the future for the tax-returns for the years 2010 and before, Time and Mingwei Guo shall share the total cost at 50/50.
– All the legal proceedings shall be cancelled and stopped by each party.
– This settlement is for Time to take over all the shares of De Well from Mingwei Guo in the [company]. Mingwei Guo and Family shall not use De Well name for any NVOCC/Freight Forwarding Business.
– Lawyers for each party shall draft the formal agreement.
Guo Seeks to Enforce after Time “Reneges”
No formal agreement subsequently was made. Guo alleged that following the meeting Time reneged on the agreement and attempted to renegotiate it by asking Guo to accept less than the $1.25 million on which they agreed. Guo then turned to the court to enforce the Agreement in Principle.
In support of his application, Guo alleged, among other things:
- The May 2012 settlement meeting took place “at the behest of, and with the approval and encouragement of our respective counsel.”
- Guo had authority to represent his co-defendants and understood that Time similarly had authority to represent all parties on his side.
- “To leave no doubt as to our intentions we repeated the first such provision in Chinese, the English translation of which reads: ‘The two sides will no long[er] pursue the other side for the past claims, and all the claims are written off.'”
- The agreement “embodied all of the material terms that we agreed upon, so that we did not state in it that we required further negotiations or reserved any rights.”
Time opposed the application, denying that it was intended to settle the lawsuits and alleging:
- Prior to their meeting, the parties signed a confidentiality agreement prepared by Guo’s lawyer providing that no communications made by the parties during the meeting would be admissions in the litigation.
- The meeting’s “focus” was a buy-out of Guo’s minority shares as to which they reached only a “conceptual” agreement, with no agreement reached as to adjustments to reflect damages from Guo’s and his wife’s misappropriation of company assets.
- Time explained to Guo at the meeting that they would need a “more complete non-compete agreement.”
- Guo lacked authority to bind the non-family member defendants who were not named in the Agreement in Principle.
- Time and Guo never discussed who the “parties” were who would “cancel” the legal proceedings, and the Agreement in Principle did not define who those parties are, as further evidenced by a subsequent request by Guo to “expand” the agreement to include a release against a certain named defendant.
Justice Driscoll’s Ruling
Justice Driscoll began his analysis at page 14 of the decision with a statement of the general principles governing stipulations of settlement:
Stipulations of settlement are favored by the courts, and will not lightly be cast aside. In determining whether the settlement agreement here was enforceable, the Court turns first to CPLR § 2104, titled “Stipulations.” That statute provides as follows:
An agreement between parties or their attorneys relating to any matter in an action, other than one made between counsel in open court, is not binding upon a party unless it is in a writing subscribed by him or his attorney or reduced to the form of an order and entered. With respect to stipulations of settlement and notwithstanding the form of the stipulation of settlement, the terms of such stipulation shall be filed by the defendant with the county clerk.
Because a stipulation of settlement is a contract, the question whether such a contract is formed, as well as the interpretation of that contract, are determined by reference to principles of contract law. Among these principles are that an enforceable stipulation must be definite, and not leave open essential terms. [Case citations omitted.]
Applying these principles, Justice Driscoll granted enforcement of the Agreement in Principle. As to Time’s contention that the agreement did not include all parties to the litigation, Justice Driscoll commented that
[i]t strains credulity to conclude that these individuals, who have a comprehensive knowledge of the relevant facts, are related to certain other parties and are in positions of control of relevant entities, would meet for 14 hours solely to resolve a single issue between the two of them. By contrast, the only reasonable inference, and the one the Court thus draws, is that these individuals had the actual and apparent authority to represent the other [parties].
As to the agreement itself, Justice Driscoll concluded that it met the requirements for a binding settlement agreement, explaining as follows:
It is in writing and signed by the parties who, the Court has concluded, had the authority to act for the other affected parties. Moreover, it addresses all relevant terms, including the buyout price, payment terms, the redemption of De Well’s shares, a covenant that neither Peter Guo nor his family would use the De Well name in their competing freight forwarding business, and a resolution and release of all of the claims that the parties have against each other in the Instant and Related Actions. In light of the public policy favoring the enforcement of settlement agreements, and in consideration of the language of the Agreement in Principle which contains no limiting language or reference to future negotiations, the Court concludes that the fact that the parties left open the drafting of a formal agreement by counsel does not render the Agreement in Principle invalid.
I’m in no position to comment whether the negotiating parties in De Well subjectively understood, when they placed their signatures on the Agreement in Principle, that it represented a binding agreement settling all claims in the pending litigation. I’m also in no position to comment on the reasonableness of, and relative advantages conveyed by, the agreement. What I can say without reservation is that a lawyer who’s aware that his or her client is engaging in direct negotiations with the adverse party to settle a complex litigation involving a stock buy-out, should strongly counsel the client not to sign any form of agreement without first showing it to the lawyer or at least reading it to the lawyer over the telephone. There are too many important terms that ought to be addressed in any final agreement apart from price, including indemnities, restrictive covenants, non-disclosure provisions, scope of releases and dispute resolution, to name just a few. Non-lawyer clients cannot be expected to understand and address all these issues.
That is not to say clients should never be permitted or encouraged to discuss settlement with the opposing party. Such direct contact can lead to a breakthrough not otherwise attainable through the lawyers. But if it’s going to happen, and if the parties are going to express their accord in any form of a signed writing, be very sure that the writing includes a statement that the terms are non-binding and that only a comprehensive, formal agreement prepared by counsel, when executed, will be enforceable and binding on the parties.
Update September 26, 2015: Time appealed from Justice Driscoll’s order enforcing the Agreement in Principle. In a decision dated March 18, 2015 (read here), the Appellate Division, Second Department, disagreed that it was a binding agreement, noting that it was not signed by all the parties to the litigation and did not state that the two signatories intended to bind all the parties to the agreement’s terms. In a subsequent decision upon remand dated September 9, 2015 (read here), Justice Driscoll ordered a hearing to determine the fair value of Guo’s shares based upon the court’s finding that the respondent, in December 2011 (i.e., half a year before the Agreement in Principle), had made a valid election to purchase Guo’s shares under BCL § 1118.