Chancery Court Grants in Part and Denies in Part a Motion to Dismiss in Fraud and Earnout Dispute
By: Jamie Bruce and John Sun
In Haney v. Blackhawk, C.A. No. 10851-VCN (Del. Ch. Feb. 26, 2016), the Delaware Court of Chancery granted in part and denied in part Blackhawk Network Holdings, Inc.’s (“Blackhawk”) motion to dismiss certain claims brought by Greg Haney (“Haney”) in his capacity as representative of the selling stockholders of CardLab, Inc. (“CardLab”). Haney brought claims against Blackhawk in connection with Blackhawk’s acquisition of CardLab in 2014 including, inter alia, for fraudulent inducement and breach of the implied covenant of good faith and fair dealing.
In 2013, CardLab entered into negotiations with GameStop Corp. (“GameStop”) to provide GameStop with prepaid cards. The negotiations with GameStop were still ongoing when, in June 2014, Blackhawk offered to purchase CardLab. CardLab accepted Blackhawk’s offer and, during the due diligence process, Blackhawk requested and received a description of the GameStop contract terms. CardLab alleged that Interaction Communications International, Inc. (“InComm”), Blackhawk’s largest competitor, had an existing contract with GameStop that included an exclusivity clause which specifically prohibited GameStop from selling, distributing or marketing Blackhawk products (the “Exclusivity Provision”). Blackhawk did not disclose the existence of the Exclusivity Provision, and Blackhawk and CardLab entered into the Plan of Merger (the “Merger Agreement”). CardLab alleged that Blackhawk knew of InComm’s Exclusivity Provision because Blackhawk has similar clauses in its contracts and that such clauses are common in the industry. CardLab further alleged that Blackhawk not only failed to disclose the Exclusivity Provision but also took advantage of the knowledge by revising the Merger Agreement to allow Blackhawk to withhold $2.5 million from the cash payable at closing and to place that amount in escrow pending the completion of the GameStop agreement (the “Contingency Provision”). As the Exclusivity Provision prevented CardLab from completing the GameStop agreement, CardLab alleged that the failure to disclose allowed Blackhawk to gain benefits that it would otherwise not be able to get. Haney brought action against Blackhawk for, among others, fraudulent inducement and breach of the implied covenant of good faith and fair dealing.
The Court denied Blackhawk’s motion to dismiss Haney’s claim of fraudulent inducement. In order to adequately allege fraudulent inducement, Haney must plead with specificity facts that would allow the Court to infer that (1) Blackhawk falsely represented or omitted facts that it had a duty to disclose, (2) Blackhawk knew or believed that the representation was false or made the representation with a reckless indifference to the truth, (3) Blackhawk intended to induce CardLab to act or refrain from acting, (4) CardLab justifiably relied on the representation, and (5) CardLab’s reliance caused injury. The court determined that Haney plead sufficient facts to show fraudulent inducement where (i) Blackhawk’s executives were familiar with the industry, (ii) Blackhawk and InComm often compete for the same customers in the same industry, (iii) Blackhawk sought and received CardLab’s approval to include the Contingency Provision in the Merger Agreement, and (iv) the Exclusivity Provision would prevent CardLab from completing the GameStop agreement.
The Court also determined that the integration clause in the Merger Agreement does not defeat the fraudulent inducement claim. Blackhawk argued that non-disclosure of the Exclusivity Provision is an extra-contractual representation or warranty and that CardLab cannot rely on such extra-contractual representations or warranties because the integration clause in the Merger Agreement states that that no party or affiliate made any representation with respect to CardLab except those set forth in the Merger Agreement and that the Merger Agreement constitutes the entire agreement between the parties. The Court dismissed Blackhawk’s argument indicating that integration clauses under Delaware law only preclude fraud claims based on extra-contractual statements when the integration clause contains clear anti-reliance language by which the plaintiff contractually promised that it did not rely on statements outside the contract’s four corners in deciding to sign the contract.
The Court granted Blackhawk’s motion to dismiss Haney’s claim for a breach of the implied covenant of good faith and fair dealing. Haney argued that Blackhawk breached the implied covenant by deliberately acting to keep CardLab from earning payouts and by failing to disclose the Exclusivity Provision. To state a claim for breach of the implied covenant, Haney must allege (i) a specific implied contractual obligation, (ii) a breach of that obligation by Blackhawk, and (iii) resulting damage. The implied covenant, though, only applies where a contract lacks specific language governing an issue and the court is asked to imply an obligation that advances the purposes reflected in the express language of the contract. Where a contract specifically addresses the issue, the existing terms of the contract control. The Court determined that Section 5(i) of the Merger Agreement directly addressed whether CardLab was able to earn the payouts because key personnel were to dedicate a commercially reasonable amount of time to the generation of net revenues. The Court also determined that Section 5(j) of the Merger Agreement obligated Blackhawk to provide CardLab with updates regarding actual and prospective customers and that, even though CardLab alleged that Blackhawk breached Section 5(j) when it did not provide the required reports, the Merger Agreement directly addressed whether Blackhawk had an obligation to update and disclose the Exclusivity Provision. The Court added that an allegation of a breach of Section 5(j) is not sufficient to support a claim for a breach of the implied covenant because, even though Blackhawk may have breached its obligations under Section 5(j), the contract directly addressed the issue.