By: David L. Forney and Marissa Leon

The Delaware Court of Chancery (the “Court”) recently rejected a Purchaser’s theory of recoupment with claims of breach of contract and fraudulent inducement that were time-barred by the statute of limitations. Claros Diagnostics, Inc. Shareholders Representative Committee v. OPKO Health, Inc., C.A. No. 2019-0262-SG, 2020 WL 829361 (Del. Ch. February 19, 2020).

In 2011, OPKO Health, Inc., a public healthcare company focused on diagnostics and pharmaceuticals (the “Purchaser”) purchased Claros Diagnostics, Inc., a company that develops diagnostics technology (the “Target”) pursuant to a Merger Agreement (the “Merger Agreement”). Purchaser paid $10 million in cash and $22.5 million in shares of its common stock to Target’s shareholders. The Merger Agreement also provided for the possible payment of an additional $2.375 million in shares of Purchaser’s common stock if the Target achieved certain milestones. The first milestone was for Target to obtain FDA approval to market one of its products (the “First Milestone”), which the Target obtained in early 2019.

A committee representing the shareholders of the Target (the “Committee”) filed a lawsuit in late 2019 to enforce the earn-out provision. The Committee argued that the Target had achieved the First Milestone and thus the Purchaser was in breach of contract, had repudiated its obligations under the Merger Agreement and breached the implied covenant of good faith and fair dealing. In addition, the Committee alleged that the Purchaser had abandoned the development and commercialization of Target’s products and technology and was actively hindering the achievement of the milestones under the Merger Agreement.

The Purchaser filed a counterclaim alleging fraud in the inducement, unclean hands, breach of the representations and warranties and argued that claims for equitable relief should be barred because the Committee had an adequate remedy at law. In addition, Purchaser sought to offset the earn-out payments by arguing that it should be excused from performing under the Merger Agreement, including the requirement to pay for the earn-outs. The Purchaser argued that in any case, certain costs should be offset against an award made in favor of the Committee by the Court. The Purchaser’s efforts and costs allegedly already far exceeded the commercially reasonable efforts by Purchaser required under the Merger Agreement.

The Court recited the Delaware rule that use of recoupment, a common law equitable doctrine, to assert a stale claim is subject to a tightly constrained transactional nexus between the recoupment claim and the underlying issue. Ultimately, the Court denied Purchaser’s recoupment theory because fraud in the inducement and breach of representations and warranties did not arise out of the same transaction or occurrence as the earn-out payment claim. The Court further explained that the determination of fraud or whether there were misrepresentations had no effect on, or shared a common set of facts with, the contractual claim to receive an earn-out payment. As a result, the court refused to offset the earn-out payments.

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