Cone of Silence: What’s Market (and what’s not) in Transactional Nondisclosure Agreements

May 5, 2016

L-378667_RTR23GK8Negotiating a corporate transaction means sharing secrets.  Meaningful evaluation of a proposed deal often requires revealing confidential information, and rather than rely on the other side’s rectitude, negotiating parties enter into a nondisclosure agreement (NDA) to safeguard and prevent misuse of confidential disclosures. Like the cone of silence in Get Smart!, an NDA creates a private space where forthright discussion can take place.

Because an NDA does not obligate the parties to execute the transaction proposed (most, in fact, specifically disclaim creating an obligation to enter into a definitive transaction agreement), even negotiations governed by an NDA may give rise to a situation where a thwarted suitor is left in possession of confidential information. Thus, most NDAs devote considerable thought and space to preventing a party from using information gleaned during friendly negotiations to launch a hostile transaction. But by seeking to control the aftermath of the negotiation process, the target board risks violating its fiduciary duties by blinding itself to alternative proposals from contractually bound bidders that might provide a better value for shareholders than the deal the board has reached. 

An NDA typically begins by reciting that the parties have agreed to exchange confidential information in contemplation of entering into some kind of transaction. The agreement then defines what qualifies as confidential information, establishes the duties of the party receiving the confidential information, and enumerates acceptable uses to which the information may be put.

An NDA may also contain other checks on the behavior of the parties. Common restrictions of this type include “standstill” provisions, which prevent the recipient of confidential information from initiating a hostile transaction, and “non-solicitation” provisions, which prevent the recipient from poaching the disclosing party’s personnel (see Confidentiality and Nondisclosure Agreements Toolkit).

Survey Results

To understand current market practice on these issues, we surveyed agreements dated between January 1, 2014 and December 31, 2015. We found 66 examples in Securities and Exchange Commission filings, including 31 mutual and 35 unilateral NDAs. Delaware law governed sixty-two percent of the agreements, and an additional 20% were written under New York law. The most common agreement term was two years (40%). One agreement remained in effect for five years, (the longest term), and two for only six months (the shortest).  Ten agreements (15%) did not specify a termination date, implying a perpetual term, and six others provided for presumptively perpetual survival of the agreement’s confidentiality provisions.

Use Provisions

The majority of agreements surveyed contained a statement concerning how the confidential information may be used. A few merely stated the parties’ intention to use the information to consider the proposed transaction, but most (83%) created a positive restriction, limiting the use of confidential information “only” or “solely” to evaluation of the proposed transaction. A few contained a lawyerly redundancy providing that the information could be used solely to evaluate the transaction “and for no other purpose.”

Under a recent Delaware Chancery Court decision, use provisions that do not limit the use of confidential information “solely” to consideration of the proposed deal may still act as a brake on future hostile transactions. In Martin Marietta Materials, Inc. v. Vulcan Materials Company, the court held that a provision restricting use of confidential information to a “business combination between the parties” demonstrated that the parties intended to restrict the use of the confidential information to a friendly transaction only (Martin Marietta Materials, Inc. v. Vulcan Materials Co., 56 A.3d 1072 (2012)), also see Legal Update, Martin Marietta: Delaware Court of Chancery Holds Use of Confidential Information in Hostile Bid Breaches Confidentiality Agreements).  A recent California decision reached a similar conclusion, issuing an injunction against a hostile bid on the basis of the confidentiality agreement’s use provision (Depomed, Inc. v. Horizon Pharma plc, 2015 WL 7433326 (Cal. Sup. Ct. Nov. 19, 2015)). Although we found considerable variation in the language employed, most (56%) of the agreements in our survey contained a provision limiting the use of confidential information to consideration and implementation of a “mutual,” “consensual,” or “negotiated” transaction “between” the parties.

Only three agreements contained no use provision.

Non-Solicitation Clauses

Most (80%) of the agreements surveyed had a non-solicitation clause preventing the recipient from poaching the other party’s personnel. The duration of the non-solicitation period varied from six months (InSite Vision Incorporated, SC TO-T|EX 99.D.5, Sep. 29, 2015) to three years (InterCloud Systems, Inc., 8-K|EX D-2, Feb. 19, 2016), with one year being the most common period (51%). Term length was typically set within the clause itself (74%) rather than by reference to the agreement term.

Standstill Clauses

Standstill provisions, which prevent the recipient of confidential information from initiating a hostile transaction for the disclosing party, appeared in the majority (76%) of agreements surveyed. Most standstills (78%) were unilateral, including 11 (35%) of those contained in mutual NDAs. The length of the standstill period varied considerably, from 45 days (Cobra Electronics Corp., SC TO-T|EX 99(D)(4), Sep. 10, 2014) to three years (InterCloud Systems, Inc., 8-K|EX D-2, Feb. 19, 2016). The most common term was one year (36%), but we observed standstill periods of four, six, nine, 15, and 18 months. Term length was typically set within the clause itself (66%) rather than by reference to the agreement term.

Two agreements had standstill provisions designed to change in response to standstill provisions in other NDAs. The January 10, 2014, letter agreement between Analog Devices, Inc. and Hittite Microwave Corporation provided for termination of its standstill in the event that Hittite were to amend the standstill provision in another NDA (Hittite Microwave Corp., SC TO-T|EX 99.D.2, Jun. 23, 2014). The standstill in the August 6, 2014, letter agreement between Intermune, Inc. and Roche Holdings, Inc. provided for automatic amendment of the standstill to mirror the provisions of any Intermune agreement “similar to this agreement,” but with terms “less favorable” to Intermune (Intermune, Inc., SC TO-T|EX 99(D)(2), Aug. 29, 2014).

If You Have to Ask…

Most of the standstills in our sample (68%) contained the “don’t ask” (DA) portion of a “don’t ask, don’t waive” restriction (DADW). DA clauses forbid the party bound by the standstill from asking the counterparty to waive or amend the standstill. Potential target companies request DA provisions because they do not want to be perceived as being put in play by a request for a waiver of a standstill. However, in several recent Delaware cases, frustrated bidders argued successfully that once the target company had reached a definitive agreement with a buyer, its reasoning for maintaining a standstill fell away and the board’s failure to waive a DA provision created “a problematic ‘information vacuum’ for the board” that might violate its statutory and fiduciary obligations (see Practice Note, Standstill Agreements in Public M&A Deals). With those rulings in mind, nearly all the DA provisions (91%) in our survey were limited by either a  “carve-out” (59%) allowing the party bound by the standstill to privately communicate alternative proposals or, more commonly, by a “fall-away” (76%) automatically terminating the standstill in the event of a competing offer. Many standstills (44%) had both a carve-out and a fall-away.

Remedies & Damages

All but one of the agreements surveyed contained a clause acknowledging the inadequacy of money damages to remedy a breach of the agreement and permitting the parties to seek equitable relief in addition to available remedies at law. Many (51%) of these equitable-remedy provisions also contained commitments making it easier to obtain relief. The most common were undertakings to waive bond (42%), not seek proof of damages (23%), and to refrain from arguing that money damages would be a sufficient remedy (22%). 

Only six (10%) contained a limitation on the type of damages available to remedy a breach. The language of the January 6, 2014, Confidentiality Agreement between Accelrys, Inc. and Dassault Systemes SA is typical: “The Parties hereby waive any and all rights to any special, consequential, indirect, punitive or exemplary damages as a result of a breach of this Agreement” (Accelrys, Inc., SC 14D9 | EX-99.(E)(2), Feb. 13, 2014).

A minority (17%) of agreements contained a clause providing for indemnification upon a final and non-appealable court order.

Conclusion

NDAs tend to be brief, but it is unwise to treat them as a formality. In recent years, NDAs have frequently been the subject of litigation, particularly in Delaware courts, where such agreements have been scrutinized, dissected, and in every instance treated as serious, binding obligations. As decisions like Martin Marietta and Depomed suggest, even seemingly rote language can strictly limit a party’s strategic
options going forward.

For More Information

A detailed spreadsheet of the agreements surveyed is available to WestlawNext, Practical Law, and Practice Point subscribers, as well as those requesting a free trial of the Business Law Center on WestlawNext. For more information, please email Experts-On-Call@thomsonreuters.com.

More than two hundred examples of NDA agreements filed with the Securities and Exchange Commission may be obtained through the BLC Research Library’s NDA Search.