By David Shine
David Shine is co-head of Fried Frank's Mergers and Acquisitions Group and based in the Firm's New York office. Mr. Shine's practice is focused on mergers and acquisitions, private equity investments, joint venture transactions and private equity fund formation. He has substantial experience in the aerospace and defense, energy, healthcare, telecom and financial services industries.
Acquisition agreements, like many other types of commercial arrangements, almost invariably require one or both parties to use “best efforts” (or “reasonable” or “commercially reasonable” “best efforts”) to obtain regulatory approvals, procure financing, obtain third-party consents or satisfy various conditions to closing. Those words, however, have spawned a long line of litigation regarding the specific actions a party must take (or the level of efforts a party must use) to satisfy such an obligation under particular circumstances. Under New York law, those cases have, until recently, primarily produced uncertainty.
This uncertainty arose from several New York state decisions. One was 1995's Kroboth v. Brent,1 which involved a contract for the sale of land. In Kroboth, the parties extended the closing date of their transaction due to unanticipated approval requirements, and agreed that they would use “best efforts” to obtain the necessary approvals. The court held that “best efforts” means something more than “good faith efforts,” but did not provide guidance as to the parameters of the “best efforts” standard. A second key New York state case dealing with a “best efforts” provision was 1999's Strauss Paper Co. v. RSA Exec. Search, Inc.,2 in which the defendant was an executive search firm that agreed to use its “best efforts” to replace any candidates it placed who were terminated within 180 days of their start date. The plaintiff hired one of the candidates referred by the defendant and that person's employment was terminated within 180 days. The plaintiff argued that it should not have to pay the defendant because there was no meaningful way to determine whether the defendant used “best efforts” to find a replacement. The court agreed, and refused to enforce the “best efforts” obligation because the contract did not contain “clear guidelines against which to measure” a party's efforts.
As a result of these cases, practitioners have been concerned that a “best efforts” obligation that does not include express language delineating what actions a party must take could be a covenant without a remedy under New York law. On the other hand, concerns about giving regulators or third parties additional leverage, confidentiality concerns in public company transactions or even an inability to agree on the outer contours of the parties' respective obligations often leads parties to intentionally exclude such explicit language from their agreements.
Recently, two cases have provided more clarity on this issue. Last year, in Maestro W. Chelsea SPE LLC v. Pradera Realty Inc.,3 a New York trial court articulated a less stringent standard for enforcing a “best efforts” clause. That case involved an agreement to transfer air rights, which was conditioned on the transferor using its “best efforts” to obtain a necessary waiver from its bank. The transferor argued that this obligation was unenforceable due to a lack of clarity in the language. The court held that such a clause, even in the absence of clear contractual guidelines, would be enforceable when “external standards or circumstances impart a reasonable degree of certainty to the meaning of the phrase 'best efforts.’”4
More recently, in Cruz v. FXDirectDealer LLC,5 the Second Circuit (applying New York law) upheld a “best efforts” obligation in the absence of clear contractual guidelines. That case involved FX Direct Dealer, a foreign exchange firm that contracted to provide a platform for customers to trade foreign currencies. The plaintiff in that case was a customer who alleged that FX Direct Dealer used unfair practices to avoid making certain trades on behalf of its clients. FX Direct Dealer argued that its contractual obligations only required it to use its “best efforts” and that customers had notice that trades may not always be properly executed. Extending the language from Maestro, the FXDirectDealer court held that the “best efforts” clause in the FX Direct Dealer contract “clearly obligated [the defendant] to attempt in good faith at least to execute customer orders at a specified level”6 and the court ruled that FX Direct Dealer's actions were incompatible with the “best efforts” provision.
Although the Maestro and FXDirectDealer decisions have been helpful steps, they do not put a full stop to concerns about interpretations of “best efforts” clauses under New York law for several reasons. First, FXDirectDealer was a Second Circuit decision and, therefore, not technically binding on New York state courts. Second, because Maestro was a lower-court decision, it is not technically binding on all New York departments. Third, FXDirectDealer suggests that a “best efforts” obligation can be satisfied merely by using “good faith efforts.” This is a significantly lower level of obligation than most practitioners associate with “best efforts.” Therefore, even if FXDirectDealer is accepted by New York courts, it may not require the level of efforts that parties expect when the contract imposes a “best efforts” standard.
As a result, practitioners should continue to carefully consider whether it is appropriate to select New York law for contracts with “best efforts” obligations. If New York law is applicable, the parties should try to include in the contract guidelines as to what specific actions may or may not be required in order to satisfy the obligation. If inclusion of specific guidelines is not practicable, the parties should, at minimum, seek to specify whether “best efforts” is to be measured based on the particular obligor's capabilities or based on what would be reasonable to impose on a party in such circumstances, irrespective of the particular obligor's capabilities.
1 94 N.Y.2d 838 (1999).
2 260 A.D.2d 570 (App. Div., 2d Dept. 1999).
3 38 Misc. 3d 522 (Sup. Ct. 2012).
4Id. at 529, quoting McDarren v. Marvel Entm't Grp., Int'l, No. 1:94-cv-00910, 1995 WL 214482, at *4, (S.D.N.Y. Apr. 7, 1995).
5 720 F.3d 115 (2d Cir. 2013).
6Id. at 125.
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