In Exercising Contractual Rights Can Be Risky If It Is for an Ulterior Purpose, I discussed how a business can subject itself to multiple damages and attorneys’ fees under Mass. General Laws, Chapter 93A if it attempts to enforce its contractual rights maliciously. In a recent, parallel decision, Robert and Ardis James Foundation v. Meyers, the Supreme Judicial Court held that a party can be liable for contract damages – even if it does not breach the terms of the agreement – if it acts in bad faith and deals unfairly towards its business partner.
In 1991, Daniel Meyers and Stephen Anbinder started First Marblehead Corporation. In 2001, after a private equity firm had invested in First Marblehead, the company offered its shareholders the right to purchase additional equity on a pro rata basis tied to their existing percentage ownership. Meyers and Anbinder wanted to purchase the additional equity to avoid being diluted, but they did not have the cash necessary to do so. At this point, Meyers turned to Robert James for help, and James, through the Ardis James Foundation, agreed to loan Meyers and Anbinder the necessary funds. Their agreement was set out in the following letter drafted on Meyers’ behalf:
This letter will confirm our agreement regarding the purchase of common stock of The First Marblehead Corporation in the current rights offering by Steve Anbinder and me.
We have agreed that Steve and I will exercise our rights to purchase 18,627 and 13,161 shares, respectively, of stock @ $20.00 per share and that you will advance the funds to each of us in return for the right to participate in the proceeds of sales. … The advances will be without recourse and will be repaid solely out of proceeds when the stock is sold.
Steve and I will take title to the stock in our own names. Each of us will deliver the newly-issued share certificate[s] to you, and you will retain the certificates in your possession until the stock is sold. You may also vote the stock as you see fit.
Upon the sale of the stock, you will be entitled to the sale proceeds up to a sale price of $30 per share. The balance of the sale proceeds, if any, will be divided 50% to you and 50% to either Steve or me. …
If this letter accurately reflects the terms of our agreement, I ask that you sign the duplicate copy of the letter and return it to me.
James executed the letter, delivered the funds to Meyers and Anbinder, and they purchased the stock.
In 2004, the Foundation began approaching Meyers about selling the First Marblehead stock the Foundation had enabled him to buy, but Meyers refused to respond to this or similar requests made throughout the next two years. After the last such entreaty by the Foundation, Meyers sent a letter, stating that:
[A]s the owner of the stock, [he] retain[e]d full discretion as to when it will be sold … [but he] would welcome any specific proposal by the foundation that would make him reasonably whole in exchange for surrendering control of a portion of his stock and forgoing future dividends on it, taking into account [First Marblehead’s] apparently healthy prospects for continued growth.
While the letter agreement did not have a set date by which Meyers was required to sell the stock, the trial court held, and the SJC affirmed, that:
[I]t was part of Meyers'[s] duty of good faith and fair dealing implied in the Agreements with James to, upon reasonable request, engage in reasonable efforts to arrive at a reasonable time for sale and thus resolve the contracts, rather than continuing to assert his right to delay sale and collect dividends indefinitely.
The court went on to hold that Meyers breached that duty when, by July 31, 2006, he had not engaged in such reasonable efforts. Thus, the Foundation was awarded damages based on what it would have obtained had the stock been sold at that time – a whopping $45 million.
The big takeaway for in-house counsel here is pretty straightforward. Make sure your internal clients know that they can be liable for the harm they cause to their business partners by unfair and bad faith conduct – even if such conduct is not prohibited by the terms of their agreement.