BOUCHARD, C.J.
This action involves a dispute over whether earn-out payments are owed to the former equityholders of iWatt, Inc. ("iWatt") resulting from the sale of iWatt to Dialog Semiconductor PLC ("Dialog") through a merger transaction that closed in 2013. The gravamen of the case is whether Dialog breached the provision of the merger agreement obligating it to use "commercially reasonable best efforts" to achieve and pay the earn-out payments in full. That claim is not the subject of the present dismissal motion and is proceeding through discovery.
As seems all too common in disputes over earn-out payments, the complaint in this action asserts, in the alternative to the breach of contract claim, a claim for breach of the implied covenant of good faith and fair dealing. Notably, plaintiff admits it does not believe that any gaps exist in the merger agreement from which to imply an additional contractual term, but it nonetheless seeks to maintain the implied covenant claim as an alternative legal theory in case the Court may disagree in the future. I reject this approach to pleading, and conclude that the failure to identify any gap in the merger agreement in which the implied covenant would operate warrants dismissal of that claim.
I also conclude that plaintiff's claims for fraud and negligent misrepresentation must be dismissed. Among other things, the allegations of the complaint fail to satisfy the particularity requirement of Court of Chancery Rule 9(b) because the complaint does not identify the time or place of the false representations or specifically who made them.
Plaintiff Fortis Advisors LLC ("Fortis") is a Delaware limited liability corporation with its principal place of business in La Jolla, California. Under the terms of an Agreement and Plan of Merger dated as of July 1, 2013 (the "Merger Agreement"), Fortis was appointed as the representative of the former equityholders of iWatt.
Non-party iWatt, formerly a Delaware corporation, was a provider of digital power management circuits. Before its sale to Dialog, iWatt designed, developed, and marketed digital-centric power management integrated circuits for AC/DC power conversion, LED solid-state lighting, and LED display backlighting markets. After the merger closed, iWatt was operated as a separate, stand-alone business unit of Dialog known as the Power Conversion Business Group.
Defendant Dialog Semiconductor PLC is incorporated in England and Wales with its principal place of business in Green Park, United Kingdom. Dialog is a provider of highly integrated power management, audio and short-range wireless technologies.
In the Merger Agreement, which is governed by Delaware law, Dialog agreed to acquire iWatt for $310 million plus earn-out payments of up to $35 million depending on the post-merger revenues of Dialog's Power Conversion Business Group. Specifically, earn-out payments would be triggered if the revenues of the Power Conversion Business Group exceeded: (1) $51.3 million during the six months ended December 31, 2013 (the "First Earn-Out Period") and/or (2) $99.9 million during the nine months ended September 30, 2014 (the "Second Earn-Out Period").
Aware that Dialog would take control of iWatt's operations after the merger, the parties agreed to specific contractual provisions regarding the earn-out payments and Dialog's ability to manage the business post-closing. In particular, Section 3.04 of the Merger Agreement provides, in general terms, that Dialog (referred to as "Parent") was required to use its commercially reasonable best efforts to achieve and pay the earn-out payments in full:
The next sentence of Section 3.04 goes on to impose a number of specific obligations and prohibitions concerning Dialog's operation of the business:
On July 16, 2013, Dialog completed its acquisition of iWatt. On January 28, 2014, Dialog notified Fortis that the Power Conversion Business Group indicated revenues of $35.355 million during the First Earn-Out Period, well short of the $51.3 million revenue threshold to trigger an earn-out payment for this period under the Merger Agreement. Based on information it obtained from Dialog after the First Earn-Out Period ended, Fortis contends that the Power Conversion Business Group "had three key revenue shortfalls, all of which could have been easily avoided if Dialog had used commercially reasonable best efforts . . . to achieve and pay the Earn-Out Payments in full," relating to "lower than anticipated sales involving the (1) the LED lighting business; (2) Samsung; and (3) Apple."
According to the Amended Verified Complaint, which was filed on July 24, 2014, before the end of the Second Earn-Out Period, certain actions taken by Dialog also made it apparent that iWatt would not achieve sufficient revenues to trigger an earn-out payment for the Second Earn-Out Period. Dialog later confirmed that its Power Conversion Business Group did not achieve sufficient revenues during the Second Earn-Out Period to trigger an earn-out payment for this period.
On April 9, 2014, Fortis filed its initial complaint in this action on behalf of iWatt's former equityholders. On July 25, 2014, Fortis amended its complaint. As amended, the complaint contains five counts: (1) breach of Section 3.04 of the Merger Agreement; (2) specific performance relating to the Second Earn-Out Payment (the time period for which had not yet ended when the amended complaint was filed); (3) in the alternative to Count I, breach of the implied covenant of good faith and fair dealing; (4) fraudulent inducement; and (5) in the alternative to Count IV, negligent misrepresentation. Dialog filed an answer in response to Counts I and II.
On August 8, 2014, Dialog moved to dismiss Counts III, IV, and V for failure to state a claim for relief under Court of Chancery Rule 12(b)(6) and, for the fraud-based claims, for failure to satisfy the particularity requirement of Court of Chancery Rule 9(b). I heard oral argument on this motion on November 19, 2014.
Under Court of Chancery Rule 12(b)(6), a motion to dismiss for failure to state a claim for relief must be denied unless, assuming the well-pled allegations to be true and viewing all reasonable inferences from those allegations in the plaintiff's favor, there is no "reasonably conceivable set of circumstances susceptible of proof" in which the plaintiff could recover.
Under Delaware law, the implied covenant of good faith and fair dealing attaches to every contract by operation of law and "requires `a party in a contractual relationship to refrain from arbitrary or unreasonable conduct which has the effect of preventing the other party to the contract from receiving the fruits' of the bargain."
To place the implied covenant claim in context, it is important to first review Count I of the complaint, which is not the subject of the motion to dismiss. In Count I, Fortis contends that Dialog breached Section 3.04 of the Merger Agreement by failing to "use its commercially reasonable best efforts . . . to achieve and pay the earn-out payments in full."
In Count III of its complaint, Fortis pleads, as an alternative to Count I, that Dialog breached the implied covenant of good faith and fair dealing by taking or failing to take these same six actions.
In opposition, Dialog contends that Count III should be dismissed because it is duplicative of Fortis's breach of contract claim. According to Dialog, Fortis's claim for breach of the implied covenant fails because "there is no implied obligation at issue."
In my opinion, the allegations of the complaint fail to state a claim for breach of the implied covenant because Fortis has not identified, as it must,
Instead of identifying any contractual gap or term to be implied, Fortis mimicks the language of its contract claim to argue that the same six alleged actions and failures cited as evidence of Dialog's alleged breach of Section 3.04 of the Merger Agreement were contrary to the parties' intent in the Merger Agreement because "Fortis reasonably expected that Dialog would use its best efforts to achieve and pay the earn-out payments in full during both the First and Second Earn-Out Periods," but Dialog did not.
My conclusion is consistent with this Court's decision in Matthew v. Laudamiel.
In this case, it is equally evident from the Merger Agreement that the parties carefully negotiated the contours of Dialog's obligations to achieve and pay the earn-out payments — hence, Fortis's acknowledgement that it does not believe any gaps exist in Section 3.04. Thus, Dialog's failure to achieve the earn-out revenue thresholds must be analyzed within the confines of the express contractual obligations set forth in that provision and any other applicable provision of the Merger Agreement.
Finally, I reject Fortis's argument that its implied covenant claim should survive despite its failure to identify any gap in the Merger Agreement, simply because it has pled its implied covenant claim in the alternative. Fortis cites two cases in which the Court has permitted breach of contract and implied covenant claims to survive a motion to dismiss when pled as alternative theories for recovery. In both cases, unlike here, the plaintiff had identified an ambiguity or potential gap in a contract that could be filled by the implied covenant.
"In order for a fraud claim to survive a motion to dismiss, a plaintiff needs to allege: (1) that defendant made a false representation, usually one of fact; (2) with the knowledge or belief that the representation was false, or with reckless indifference to the truth; (3) with an intent to induce the plaintiff to act or refrain from acting; (4) that plaintiff's action or inaction was taken in justifiable reliance upon the representation; and (5) damage to the plaintiff as a result of her reliance on the representation."
Court of Chancery Rule 9(b) further requires that "[i]n all averments of fraud . . ., the circumstances constituting fraud . . . be stated with particularity." "To satisfy Rule 9(b), a complaint must allege: (1) the time, place, and contents of the false representation; (2) the identity of the person making the representation; and (3) what the person intended to gain by making the representations."
In Count IV of its complaint, Fortis alleges that Dialog made four materially false statements during the parties' negotiations to induce iWatt to enter into the Merger Agreement:
Fortis alleges that Dialog "had no intention to keep these promises at the time they were made"
In seeking to dismiss Count IV, Dialog argues, among other things,
First, the complaint fails to allege in any meaningful sense when any of the alleged four misrepresentations were made. The complaint does allege that each of the misrepresentations occurred at some time during a period of approximately 3-1/2 months from when the parties began their negotiations (March 12, 2013) until the Merger Agreement was signed (July 1, 2013). This, however, is the functional equivalent to providing no time parameter at all because the misrepresentations logically could not have occurred during any other period of time. In short, contrary to the purpose of the particularity requirement in Rule 9(b), Dialog is left to guess when Fortis contends that it allegedly made any of the four false statements attributed to it.
Pleading when the alleged misrepresentations occurred is especially important where, as here, the alleged promises are of future performance. When a fraud claim is premised on promises of future performance, a plaintiff must demonstrate that the defendant had no intention of keeping its promises at the time they were made.
I am unpersuaded by Fortis's reliance on this Court's decision in Grunstein v. Silva
The underlying factual allegations in Grunstein differ from this case in two important respects that make Grunstein inapposite. The first factual allegation quoted above concerned an omission of material information. In that circumstance, it is logical to tie a misrepresentation to a period of time (even one of several months) during which the information was concealed. This case, however, does not concern an omission. As explained above, Fortis's fraud claim is premised on four affirmative misrepresentations that had to have been made at some point(s) in time, which the complaint makes no meaningful attempt to particularize. As to the second factual allegation quoted above, the plaintiffs in Grunstein had alleged that Silva made this representation on a specific date, i.e., November 4, 2005.
In addition to failing to particularize when any of the alleged misrepresentations were made, the complaint fails to identify who made any particular misrepresentation and to whom they were made.
Citing this Court's opinion in Anvil Holding Corp. v. Iron Acquisition Co.,
Finally, the complaint makes no mention of where or by what means any of the misrepresentations were made. The complaint refers generally to "discussions" or "conversations,"
In Count V of the complaint, Fortis asserts a claim for negligent misrepresentation based on the same allegations cited in support of its fraudulent inducement claim. A claim for negligent misrepresentation is often referred to interchangeably as equitable fraud,
"A claim of negligent misrepresentation, or equitable fraud, requires proof of all of the elements of common law fraud except `that plaintiff need not demonstrate that the misstatement or omission was made knowingly or recklessly.'"
Fortis's negligent misrepresentation claim fails to state a claim for a second, independent reason. This Court has held that "an equitable fraud or negligent misrepresentation claim lies only if there is either: (i) a special relationship between the parties over which equity takes jurisdiction (like a fiduciary relationship) or (ii) justification for a remedy that only equity can afford."
For the foregoing reasons, Dialog's motion to dismiss counts III, IV, and V of the complaint under Court of Chancery Rules (9)(b) and 12(b)(6) is GRANTED.
Fortis also relies on the post-trial opinion in eCommerce Industries, Inc. v. MWA Intelligence, Inc., 2013 WL 5621678 (Del. Ch. Sept. 30, 2013). There, after concluding that the ECI parties had breached an express non-compete clause through certain indirect marketing efforts, the Court found in the alternative that the same parties had breached an implied covenant. Critical to the latter holding, the Court found that the parties to the contract "could not have foreseen the corporate structure and marketing plan" that would exist after the transaction, and that "had they seen the situation that presently exists, . . . they would have proscribed it." Id. at *34, *36. Thus, the Court's alternative holding followed from identifying a gap in the parties' agreement. Here, Fortis has not pled that any of the actions or failures of Dialog challenged in this action were unforeseeable and thus not addressed in the Merger Agreement. To the contrary, as discussed above, the Merger Agreement explicitly contemplated that iWatt would be operated as a separate, stand-alone business unit and imposed both general and specific obligations on Dialog in its management of the business after the merger closed relating to the earn-out payments.
