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Pre-contractual negotiations
  • Is there an implied duty of good faith to continue to negotiate?

    English law does not imply a duty of good faith in contractual negotiations. Pre-contractual negotiations are not normally legally binding on the parties and in general either party may terminate negotiations when it chooses.

    What are the consequences of termination of negotiations by one party unilaterally?

    In general either party may terminate negotiations when it chooses, without liability.

    In exceptional circumstances, a party may be able to claim damages if during the course of protracted discussions and negotiations (where both parties had given the impression that a deal would definitely be done) a party had started implementation work for the relevant transaction and the discussions had subsequently been terminated by the other party. However, this has only very rarely been the case in English law and generally there will be no liability for termination of pre-contractual discussions.

Confidentiality agreements
  • Is there an implied duty of confidentiality?

    Under English law, there is a general principle that a person who has received information in confidence cannot take unfair advantage of it. However, to protect the information, a person usually has to rely on a mixture of rights that do not always provide clear remedies. To avoid this uncertainty, parties will normally enter into written confidentiality agreements or undertakings.

    Written agreements

    It is important to word confidentiality agreements carefully, bearing in mind that a promise (including a promise to keep information confidential) will not be legally binding unless it is either executed as a deed or the promise is supported by consideration (something in return). For example, in return for one party agreeing to provide information the other party agrees to keep the information confidential.

    What are the consequences of breach?

    Breach of a confidentiality agreement may entitle the non breaching party to claim damages from the breaching party, to the extent that the non breaching party is able to show it has suffered loss as a result of the breach. It is possible to state in the confidentiality agreement that specific damages will be payable in the event of a breach (ie liquidated damages). But, any liquidated damages must not be extravagant or unconscionable otherwise the may constitute a penalty and be unenforceable.

Exclusivity arrangements
  • English law does not imply exclusivity in negotiations and therefore parties seeking exclusivity would normally enter into an exclusivity agreement. Such an agreement is not legally binding unless it is either executed as a deed or is supported by consideration (eg mutual exclusivity obligations or the payment of consideration). As for confidentiality agreements, breach of an exclusivity agreement may entitle the non breaching party to damages, to the extent that the non breaching party is able to show loss caused by the breach. Again, the parties may choose to insert a liquidated damages clause in the exclusivity agreement but should take care to ensure that it does not constitute a penalty to avoid it being unenforceable.

    It is important to ensure that any exclusivity agreement is expressed as a “lock out”, namely that the party concerned will not negotiate with any third party for a specified period, rather than a “lock in”, where there is a positive duty to negotiate, as a lock is generally not enforceable under English law.

    The agreement should also not be for an indefinite period, or until signature of a transaction (as this will effectively be a lock in); but should be limited to a short period, for example, two to three months, depending on the circumstances.

Heads of agreement
  • Are they legally binding?

    For a document to be legally binding in English law it must be sufficiently ‘certain’ (ie clearly set out the key intentions of the parties, eg the object of the transaction, price, term etc), and it must not merely be an "agreement to agree".

    Heads of agreement would not normally be legally binding as they would usually not be sufficiently "certain". This is because in general a heads of agreement will not set out in full all the terms of the transaction, will state items that require further discussion and will not contain sufficient agreement or precise terms to be considered certain. However, it should be borne in mind that a document which contains extensive detail as to a transaction and its terms may (at least in the absence of specific provisions stating its non legally binding status) constitute a legally binding agreement.

    There are also circumstances where an agreement to agree can be enforceable, at least in so far as requiring the parties to it to use their best endeavours to come to an agreement (although they would not actually be required to enter into a specific agreement).

    Therefore, in order to reduce the possibility of a heads of agreement being held to be binding, it should clearly state that it is subject to contract and include a clause which states that it is not intended to be legally binding.

    In rare cases the courts have found Heads of Terms to be legally binding. In order to mitigate the risk of binding agreements arising out of pre-contractual negotiations, the parties are advised to ensure that (a) the Heads of Terms do not include the final or material terms, but contain a clear statement that the parties do not intend to be legally bound (except where expressly provided) and (b) neither party says or does anything during the course of negotiations that could be construed as demonstrating an intention to create legal relations eg performance of their obligations prior to execution of the full agreement.

    Where heads of agreement contain confidentiality and/or exclusivity arrangements or arrangements with respect to costs (eg break fees), it is usual to state that only these particular clauses (and any governing law/jurisdiction clause) are intended to be legally binding.

    Impact on third party rights

    Heads of agreement may in some instances provide a useful statement to third parties of the key terms of the proposed deal. If the terms of the heads of agreement are certain and held to be legally binding, then under the Contracts (Rights of Third Parties) Act 1999, if a term expressly provides that a third party has the right to enforce the term, or if such term purports to confer a benefit on a third party, then the third party may have a right to enforce the term.

    If the parties do not intent to grant a right to any third parties, then they should expressly exclude this Act. 

    What are the consequences of breach?

    In the event that a party breaches the terms of a legally binding heads of agreement, the other party may be entitled to damages to compensate him, provided he can show loss caused by the breach, in the same way as for any other breach of contract.

    Can heads of agreement have any tax implications?

    Heads of agreement serve a valuable purpose of setting out the commercial reasons for the transaction, especially those that are tax driven. This might assist the parties in avoiding any potential tax avoidance challenges.

    The signing of heads of agreement may sometimes be considered as amounting to an "arrangement" for the disposal of the target company under the UK tax laws. This would prevent the seller from taking advantage of relieving the tax losses by surrendering such losses to or from the seller’s group companies.

Break fees
  • Are break fees usually payable?

    While there are exceptions, break fee arrangements are generally prohibited in takeovers of public companies to which the UK Takeover Code applies. However, they are seen on a range of private acquisitions and acquisitions to which the Code does not apply. A break fee will usually be payable on the occurrence of one or more specified events which prevents the transaction from proceeding. Target companies can also be asked to give exclusive break fee arrangements which prevent them from entering into any other break fee arrangement or inducement with another party.

    As a break free is payable on the happening of a specified event (rather than for a breach of contract) there should be no need to ensure that the amount payable is a genuine pre estimate of the loss.

    What are the main legal issues to be considered?

    There are various legal requirements that have to be considered before a break fee can be paid. Directors of the company paying the fee have to be satisfied that the payment of such a fee will promote the success of the company for the benefit of its members as a whole, taking into account various factors.

    A break fee has to be structured so that it does not constitute unlawful financial assistance under the Companies Act 2006 if it is payable in connection with the acquisition of shares in a public company.

    If a break fee is permitted under the code, the break fee has to comply with the takeover rules on frustrating action and on inducement fees which generally limit the amount payable to no more than 1% of the value of the company.

    Shareholder approval may also be required in certain circumstances under the Listing Rules.

This document (and any information accessed through links in this document) is provided for information purposes only and does not constitute legal advice. Professional legal advice should be obtained before taking or refraining from any action as a result of the contents of this document.