By: Michael Mentzel and Gwenn Barney
Over the years, contract drafters have been relatively imprecise in describing the efforts required of contracting parties in performance of their obligations. Among contract drafters, it is generally believed that “best efforts” is a much more stringent and onerous standard than many of the other variations such as “commercially reasonable efforts” or “reasonable best efforts,” but is less than an absolute duty to perform the obligation at any cost. However, there is no legal dictionary or treatise that provides a generally accepted definition of the term, or for the numerous other variations that drafters often include in contracts, under the perhaps misguided assumption that they will result in application of a less stringent standard. Rather, the gradations of effort required when using these terms often ends up leading to disputes. If contracting parties agree to use “best efforts” or “reasonable efforts” or “diligent efforts” to perform an obligation under a contract and a dispute arises concerning performance, the parties are essentially asking for a court to tell them what level of effort is actually required to meet the standard and then to decide whether the standard is met. Given that courts both in Delaware and other jurisdictions will then evaluate the standard, applying their own views of the facts and circumstances and applicable industry custom and usage, contracting parties would be well advised to avoid this uncertainty.
Delaware law is frequently chosen by parties to commercial contracts, and two recent Delaware court cases showcase the Delaware courts’ differing approach to determining the meaning of such standards in a situation where the parties have provided for a definition of the chosen standard versus when the parties do not include such a definition.
The inclusion of a definition for diligent efforts in an agreement was a key factor in the recent Delaware Chancery Court decision in BTG International Inc. v. Wellstat Therapeutics Corporation, C.A. No. 12562-VCL (Del. Ch. Sept. 19, 2017). In Wellstat Therapeutics, the parties entered into a distribution agreement to use “diligent efforts” to develop, promote, and market a pharmaceutical product. The parties included a paragraph in the agreement that defined “diligent efforts” to mean the use of “efforts and resources, including reasonably necessary personnel and financial resources that specialty pharmaceutical companies typically devote to their own internally discovered compounds or products.” The court used the parties’ definition as the benchmark to determine whether the diligent efforts covenant was breached (finding that it was).
Compare the Chancery Court’s approach in Wellstat Therapeutics with the approach the Delaware Supreme Court took in Williams Companies, Inc. v. Energy Transfer Equity, L.P., 159 A.3d 264 (Del. 2017). In Williams, two natural gas pipeline companies agreed to a merger, the consummation of which hinged on the parties using “commercially reasonable efforts” to obtain a tax opinion from the acquiring company’s tax counsel. The parties also agreed to use “reasonable best efforts” to complete the merger. When the market for natural gas suffered, the acquirer wished to abandon the merger and informed the acquirer’s tax counsel that there may be a tax issue, which led the tax counsel to notify all parties involved that it could not issue the tax opinion. The acquired entity sued for a breach of the best efforts covenants.
Since the standards for “commercially reasonable efforts” and “reasonable best efforts” were not spelled out, the Delaware Supreme Court offered its own definitions for the phrases. The court recognized that a requirement to take commercially reasonable efforts in completing a task requires a party “take all reasonable steps” to accomplish that task. The court made clear that refraining from interfering with the completion of the task will not be enough and found that the party had an affirmative duty to aid in obtaining the desired result and could not merely sit back and wait to see if the result was obtained. The court found that the acquirer breached the reasonable efforts covenant based on the facts, as the company did not put in enough efforts to facilitate the achievement of the desired result.
Notably, in the Williams majority opinion, the court indicated that it does not recognize a different standard for “commercially reasonable efforts” and “reasonable best efforts.” However, in a dissenting opinion, Chief Justice Leo E. Strine, Jr. left the door open for a potential future shift to different levels of “best efforts” in Delaware. Chief Justice Strine attempted to distinguish “commercially reasonable efforts” from other levels of best efforts, stating that “commercially reasonable efforts” is slightly more limited than “best efforts.”
It is important in contract negotiations to ensure that the agreement clearly reflects the intent and understanding of both parties as to the meaning of performance standards such as “best efforts,” “commercially reasonable efforts” and other variations on this theme. Given the lack of clear guidance in case law or otherwise, parties should take the time during negotiations to discuss and develop more precisely the types of efforts that are expected in order to avoid the ambiguity inherent in the use of these phrases. Further, parties should consider inclusion of a specific definition that reflects such intent and expectations and should be very careful when using differing standards within the same contract as to different performance obligations as this will further complicate the interpretation of such standards.