Sandbagging: It's Not Just For Floods (Podcast)

In this episode, Anna Tang, Nathan Guttman and Kimberly Kamkar tackle one of the most hotly negotiated provisions in M&A: sandbagging – what happens when a buyer closes a deal knowing that a seller’s representation is false, then sues over it. They break down the three competing legal philosophies that courts apply and take listeners on a state-by-state “legal road trip” through Delaware, California, New York, Texas and Nevada to explore how each jurisdiction handles sandbagging. Along the way, the conversation unpacks the critical contract drafting strategies that buyers and sellers should deploy, from defining "knowledge" to choosing governing law, and explains why silence on sandbagging is an invitation to expensive litigation. Whether you are a buyer or seller, negotiate deals, litigate post-closing disputes or simply want to understand the provision that can make or break an M&A transaction, this episode is well worth a listen.

Transcript for Sandbagging: It's Not Just for Floods

0:00:00.6 There's a fine line between fair play and aggressive tactics when it comes to risks, promises, and surprises in mergers and acquisitions. Should a buyer be allowed to close a deal despite knowing a seller's representation is inaccurate and later sue for damages? Or is the buyer effectively waiving recourse by moving forward with eyes wide open? These are the pivotal questions that sandbagging raises, and state laws, differing judicial philosophies, and contract language all impact the answer.

0:00:31.4 Welcome to Nossaman's Corporate Conversations podcast, where our corporate attorneys bring practical insights into the deals, disputes, and legal decisions shaping today's corporate world.

0:00:44.4 Welcome to Corporate Conversations, where we break down the most important and sometimes the most contentious issues in today's corporate landscape. I'm your host, Nathan Guttman, a litigator here at Nossaman, and I'm joined by two of my corporate transactional colleagues. First up is Anna Tang, a leading corporate and M&A lawyer and co-chair of Nossaman's corporate group.

0:01:06.3 Thanks, Nathan. Happy to be here.

0:01:08.8 And Kimberly Kamkar, who specializes in for and nonprofit formation and governance and commercial transactions. Kimberly, great to have you.

0:01:17.5 Thanks, Nathan. Really excited about this one.

0:01:20.6 Okay, so today we're tackling a topic that comes up in virtually every M&A transaction, but it's something that even experienced dealmakers might not fully appreciate until it bites them. We're talking about sandbagging. And no, this has nothing to do with floods.

0:01:35.2 Although, Nathan, there is a certain flood of litigation that can come from getting this wrong. Right?

0:01:40.6 Very true. So, Kimberly, let's start with the basics. What is sandbagging in the M&A context?

0:01:47.4 Sure. So "sandbagging," in M&A, is when a buyer closes a transaction even when they know or have really good reason to think that some of the seller's promises about the business, which we call in legal jargon, reps and warranties, and we'll use that term throughout, aren't accurate. Then after closing, the buyer turns around and sues the seller over those broken promises.

0:02:13.4 So the buyer knows there's a problem, closes the deal anyways, and then sues?

0:02:18.1 Yeah, exactly. Sandbagging gets its name from the idea that the buyer is hiding a weapon, like a giant bag of sand, and really only pulls it out and hits the seller on the head with it after the deal closes.

0:02:31.3 Nathan, I think the best way to make this relatable for our listeners is the termite example, which I really love and I think is very appropriate. So imagine you're buying a house, you do the inspection, and the inspector finds termites. The seller had represented the property was free of termites. But you see the termites, you know that there are termites, and you even have an inspection report noting all the termite damage. But you love the house and you close on it anyway. And then after you have the keys, you turn around and sue the seller over the termites.

0:03:06.0 As a litigator, I can appreciate that dispute. On one hand, the seller's representation was false, but on the other hand, the buyer saw the termites and went ahead anyways. Should the buyer be able to recover? Is the seller being ambushed?

0:03:19.1 Yeah, and that's the million dollar question or billion dollar question, depending on the deal. The answer really depends though, on what approach you take and which state's law governs.

0:03:32.3 Right. I think people sometimes underestimate how much this issue matters. So this is one of the most heavily negotiated provisions in any M&A purchase agreement. Entire deals can swing depending on how this issue gets resolved.

0:03:47.9 Let's get into that. What are the main ways that courts resolve the issue?

0:03:52.5 Nathan, there are essentially three main schools of thought on sandbagging. And to make this a little bit more memorable, we've given some of them fun nicknames. So the first philosophy is the pro-sandbagging philosophy. And if we were to choose an animal mascot for this philosophy, then it would be our friend the shark. So under this view, reps and warranties serve as a risk allocation mechanism between buyer and seller. So the buyer's job in negotiating the deal is to allocate risk, and the seller's job is to stand behind its reps and warranties. If the seller makes a promise and breaks that promise, then the seller pays. End of story. So it doesn't matter whether the buyer knew or relied on that particular promise before closing.

0:04:39.5 So the shark just wants to eat. A deal is a deal?

0:04:42.7 Exactly. The shark says you made a rep, you broke that rep, you pay for it, period.

0:04:50.6 Number two is the anti-sandbagging approach. The animal mascot here would be the big protective mama bear. And this is the complete opposite to the shark that Anna was talking about. Under this approach, the buyer has to show they actually trusted and relied on the seller's promises in order to recover damages. So going back to Anna's example, if the buyer saw those termites and knew the seller's promise wasn't true, then the buyer can't also claim it relied on the rep and recover damages.

0:05:23.7 The mama bear is protecting the seller from a buyer who knew exactly what it was getting into?

0:05:28.6 Yeah, the mama bear says you can't come crying to me about termites when you watched them eat through the floorboards and you still bought the house.

0:05:36.6 And the final philosophy or the third philosophy is the contract-first approach, which, if we were to choose another animal mascot, it would be the wise old owl. So the owl doesn't start with a philosophical presumption. Instead, it looks at the express terms of the purchase agreement to work out whether the buyer's knowledge affects its rights to recover. So if the contract addresses sandbagging, then the owl would follow the contract. If it doesn't, then that's where things get complicated, and we'll talk about that later on in this podcast.

0:06:08.7 So the owl always reads the fine print?

0:06:11.0 Yeah, the owl always reads the fine print.

0:06:15.0 Always. Okay, so we have the shark, the mama bear, and the owl. These different approaches must show up in the language of your contracts, right?

0:06:23.3 Yeah, absolutely. And let's walk through what that looks like.

0:06:28.0 So let's start with a pro-sandbagging provision. I like to call this provision the buyer-wins-all clause.

0:06:33.1 Subtle name.

0:06:38.2 Very subtle, but very apt. So what does this clause do? It does three things. First, it explicitly preserves the buyer's indemnification rights regardless of what is discovered during due diligence. So basically, it says it doesn't matter what you found in the data room or during your investigations, you still get your indemnification rights.

0:07:00.3 So even if the buyer's army of accountants and lawyers found the problem...

0:07:04.6 Doesn't matter. Second thing that the clause establishes is that the reps and warranties in the agreement are all about risk allocation and not reliance. This is key because it takes the reliance argument completely off the table. The final thing that it does is it closes the loophole where a seller could argue that by proceeding with the closing, the buyer waived its right to seek recovery. So a good pro-sandbagging clause says the buyer is not waiving anything by closing on the deal.

0:07:36.5 That does sound like a pretty good day for the buyer. So what about the other side? What does an anti-sandbagging provision look like?

0:07:45.6 An anti-sandbagging provision, which we like to call the buyer-knew-is-the-buyer's-problem clause, this one flat out says the buyer is not entitled to indemnification if the buyer knew at or before closing that one of the seller's promises was inaccurate. It's a straightforward concept, but the drafting is where all the action is.

0:08:10.5 What do you mean?

0:08:12.0 Well, how you define knowledge in the contract is critical. So if you're the seller, you want knowledge to be defined as broadly as possible. You don't just want it to cover what the buyer actually knew. You want it to include what the buyer should have known. So basically, things they would have found or known if they had done their homework during the diligence process.

0:08:35.2 And on the flip side, if you're the buyer, you're gonna fight tooth and nail to narrow that definition. So, Nathan, you want knowledge to mean only what specific named individuals on the buyer's deal team actually knew about, and that's with specificity. So you don't want constructive knowledge anywhere near that provision.

0:08:53.0 So the battle over the sandbagging provision isn't just about whether to include one. It's also about how certain keywords in the provision are defined.

0:09:01.8 Oh, absolutely, 'cause I've seen deals where the sandbagging clause was the last item negotiated that the parties agreed on. So it was after purchase price, after indemnification cap, after literally everything, 'cause that's how heated it can be.

0:09:17.5 All right, so now we understand what these provisions look like on paper, but how are they treated in different jurisdictions? States don't necessarily see eye to eye on this, right?

0:09:28.1 Not even close, Nate. I think the best way to illustrate how far apart some of these states are is to take a legal road trip across America.

0:09:36.1 Great. First stop on our legal road trip: Delaware.

0:09:39.6 Delaware, the first state, the corporate capital of America. And for our purposes, Delaware is the pro-sandbagging capital. Delaware has earned its reputation as Disneyland for corporate lawyers for a reason. And when it comes to sandbagging, the rides are definitely built for the buyer.

0:09:56.5 What makes Delaware so buyer-friendly on this issue?

0:10:00.5 Well, Nate, it really comes down to one core principle, and that's freedom of contract. Delaware courts have consistently taken the view that sophisticated commercial parties can allocate risks and remedies however way they see fit, and the courts respect that bargain. So if the parties agreed that the buyer's knowledge of a breach doesn't preclude recovery, then Delaware will honor that. There's only one major exception, though, and this is very, very important. Delaware will not allow you to contractually limit liability for fraud. So fraud is always off the table when it comes to sandbagging, even in Delaware. But anything short of fraud, the parties can write their own rules, essentially. This is probably best explained using an example. So let's say you are a buyer, and you're buying a medical equipment company. The purchase agreement contains your typical reps and warranties that you would typically see in a medical company deal. So there will be your typical reps and warranties that the company has complied with all applicable healthcare laws. And other than as set out in the seller's disclosure schedules, the company has not received any written notice of any alleged non-compliance from any government authority in, say, the last three years prior to closing.

0:11:20.5 Let's say the seller discloses one notice of non-compliance, but post-closing, the company performs really, really badly. And it comes to your attention, Nate, that there have actually been other notices of non-compliance that the sellers have failed to disclose. And one of those notices actually results in significant expense to you as a buyer. This is exactly what happened in the Delaware case of Akorn v. Fresenius, except it wasn't in the context of a sale, but a merger. So in that case, the buyers sued the sellers for breach of rep. The sellers argued that the buyer's claim should fail because the sellers had told the buyer about the other notices in a conference call during due diligence.

0:12:06.0 So they claimed it was disclosed just informally?

0:12:09.2 Exactly. The Delaware court said, too bad, that doesn't matter. So for purposes of a representation in the merger agreement, whether the sellers disclose the notices outside of the agreement doesn't matter in terms of the legal analysis here. So a breach of contract claim based on misrepresentation doesn't depend on showing any form of reliance. As you recall, in Delaware, the reps serve as a risk allocation function. So effectively the seller is estopped from claiming that information outside of the transaction documents, such as during due diligence, during its employee interviews, in emails or during calls, that really doesn't have any bearing and does not operate to change the seller's reps.

0:12:54.8 And I think what's so powerful about that decision is how clear-cut the reasoning is. The court didn't spend a lot of time agonizing over whether it was "fair." It basically said, this is what you agreed to. You're experienced business people with experienced lawyers. We're gonna hold you to your deal.

0:13:15.9 Which is brutal for the seller's counsel.

0:13:18.8 That's right. And the key takeaway here is that when you're dealing with a matter that's governed by Delaware law, you're essentially swimming in a shark tank. And if the buyer has negotiated a pro-sandbagging clause, then in Delaware, that provision is most certainly going to be enforced by the courts.

0:13:37.7 And even if the agreement doesn't say anything on sandbagging, which we'll get to a little later, Delaware courts are still generally going to side with the buyer. Again, we'll come back to that in a second.

0:13:50.9 All right, let's head west to sunny California. Kimberly, what's the vibe in California?

0:13:56.4 The vibe is anxiety, at least for M&A lawyers trying to draft pro-sandbagging clauses because California takes a more old-school approach, which emphasizes good faith dealing and reliance. The approach to sandbagging in California is more restrictive than Delaware, and it just comes down to state law.

0:14:20.2 And that's a public policy statute?

0:14:22.3 Yeah, correct. There is a California law, California Civil Code Section 1668, which says essentially that you cannot contract away liability for certain types of misconduct. And the kicker is that bar in California is lower than in Delaware, which is fraud. So 1668 covers not just fraud but fraudulent misrepresentation, willful injury, violations of law, all the way down to negligence. So while Delaware says you can contract around almost anything short of fraud, California draws the line a lot earlier.

0:14:57.5 So what does that mean for sandbagging provisions in California?

0:15:01.6 Well, the practical implication is significant here, Nate. It creates a lot of uncertainty. So a California court could look at a pro-sandbagging provision and say, this clause is effectively shielding a seller from liability for fraudulent misrepresentation. And under Section 1668, you can't do that. And so the court will just strike the provision and say that it's unenforceable.

0:15:25.2 So even if you've got this beautifully crafted pro-sandbagging clause, the California court could still take a red pen to it?

0:15:31.9 That's right, Nathan. To be clear, it's not really that pro-sandbagging clauses are automatically unenforceable in California. They just need to be written a lot more carefully because you need to make sure the clause can't be read as protecting someone from the consequences of their own actions, basically if they're making any kinds of fraudulent statements or lying to the buyers.

0:15:58.3 And this is why we chose the mama bear as a mascot for California. The courts are actually pretty protective, so they're looking out for potential abuses, and they're willing to step in if they think that a contract goes too far.

0:16:11.4 So what's the takeaway here for our listeners doing deals that are governed by California law?

0:16:16.1 Draft carefully. Test your provisions against 1668. Don't assume that what works in Delaware will fly in California. It's a different state, different rules, different risk profile. And when the anxiety hits, just remember to go outside and get a little bit of sun, because it will help.

0:16:33.7 All right, let's head back across the country to New York. Anna, how does New York handle sandbagging?

0:16:40.3 Well, Nate, the animal mascot for New York, I would say, is the wise old owl. And this is because New York takes a contract-first approach. So the courts will look at the express language of the purchase agreement to work out what the rights of the parties are and what they intended. New York courts have said that if a buyer closes on a deal knowing that a rep is inaccurate, then the buyer should be prevented from asserting a breach unless the buyer expressly preserves that right in the agreement. So if the agreement contains an express pro-sandbagging clause, then a New York court is likely going to enforce it as it's written.

0:17:20.8 Is there a good example for our listeners?

0:17:23.2 I think the best example is what happened in CBS Inc. v. Ziff-Davis Publishing Co. So this is a New York Court of Appeals case. So as you know, New York Court of Appeals is the highest court in the state. So it's really the cornerstone of New York law on sandbagging. So in that case, CBS acquired publishing assets from Ziff-Davis. Ziff-Davis made reps about the financial condition of the business that was being sold, and CBS learned before closing that some of those reps may not be accurate. And as we've all discussed along, CBS proceeds to close anyway and then brings a claim for breach of warranty.

0:18:06.2 And the court still sided with CBS?

0:18:08.2 Yeah, the court sided with CBS. So the court said that a seller is not estopped from bringing a breach of warranty claim just because the buyer knew prior to closing that the warranty was false. So in that case, the court differentiated between a breach of contract claim from a claim for fraud. And that distinction is critical. So the court said if you're suing for a breach of contract claim, you don't need to prove reliance. So reliance is not an element. But if you're suing for fraud, then you need to prove that you relied on that and incurred damages as a result.

0:18:43.3 Yeah, and that distinction, Nathan, is what makes New York a contract-first jurisdiction, because the court is saying we will enforce the deal as written. If the contract gives you warranty protection, you get warranty protection.

0:18:58.6 Got it. Okay, let's head down to Texas. Kimberly, what's the Texas approach?

0:19:03.8 Texas is straightforward, which is fitting. Texas courts keep it really simple. If you want something, you need to clearly say it in the agreement. And if it's clearly written, the courts will back you up, because the thinking is if you made a deal, you should stick to it. But don't expect a Texas court to rewrite your deal for you.

0:19:24.4 Texas and New York are actually pretty similar in this respect, Nate. Both are saying put it in the contract, make it clear, and we'll respect it. The difference with Texas is it doesn't quite have as much of a developed body of case law on sandbagging as New York does. So there's a little less predictability there.

0:19:45.8 Last stop on the road trip, Nevada. What's the story there?

0:19:50.8 Well, Nevada is a bit of a gamble, pun intended. So here's the thing about Nevada. Everything about Nevada suggests that it should follow Delaware. It's an increasingly business-friendly jurisdiction. The courts believe in freedom of contract. Nevada's statutes are becoming among the most flexible in the country. They let the parties customize pretty much everything. So you'd think Nevada would be solidly in the pro-sandbagging camp.

0:20:22.2 The problem is there's basically no case law in Nevada specifically addressing sandbagging. There's no controlling precedent. And in law, no precedent means no certainty.

0:20:34.2 Exactly, Kimberly. So while we can make educated predictions about how a Nevada court would likely rule, and most lawyers that you speak to would say Nevada should follow the Delaware model, but there's no guarantee. And when you're dealing with a deal that's worth tens or maybe even hundreds of millions of dollars, "probably" isn't the most comforting word in the English dictionary.

0:20:59.2 So Nevada is the jurisdiction where you might win, but you're rolling the dice to find out.

0:21:04.5 And that uncertainty is itself a risk factor both parties need to account for when choosing governing law.

0:21:13.4 Okay, we've talked about what happens when you have an express sandbagging provision, but what happens when the purchase agreement is completely silent on sandbagging and the silence is not deliberate? So let's say you've negotiated a 400-page agreement and nobody thought to address sandbagging. Kimberly, how bad is that?

0:21:32.6 It's not great. Leaving a sandbagging clause out of an agreement is the kind of nightmare that keeps M&A lawyers up at night, because silence on sandbagging is essentially an invitation for a really expensive lawsuit. And again, the outcome is really gonna depend entirely on which state's laws apply.

0:21:56.0 Let's run through the states we've been talking about. Delaware first.

0:22:00.4 So in Delaware, even without an express provision, the buyer likely will prevail. So as we discussed, Delaware's default position is that reps and warranties are risk allocation tools. So if there's no anti-sandbagging clause and if the seller didn't negotiate one expressly, then the court is gonna treat the reps and warranties as what they are: contractual promises that the seller is on the hook for. And that's regardless of buyer's knowledge.

0:22:16.6 How about California?

0:22:32.7 In California, the seller might actually win. California courts are much more likely to read in a requirement that the buyer actually relied on the seller's promises, even if the contract is silent on the matter. 'Cause California's focus is on fairness, and its protective state laws create an environment where courts might be skeptical of a buyer who knew about a breach and closed anyways.

0:22:46.8 New York?

0:23:01.0 New York is a coin toss, and I don't say that lightly. There's genuinely conflicting precedent in New York on what the default rule would be if the contract is silent. So there are some decisions that have supported a pro-sandbagging default, and then there are others where they say that you need to prove a reliance element. So in New York, sandbagging genuinely means uncertainty. So if there's silence, it generally creates uncertainty, and that's not a very good position for either party to be in.

0:23:18.6 What about Texas?

0:23:36.2 I'm gonna steal Anna's phrase. It's also a coin toss, but for slightly different reasons. Similar to Nevada, Texas just doesn't have controlling precedent on this specific issue. So you're asking a judge to figure it out for the first time, and that's always unpredictable.

0:23:54.1 What about Nevada then?

0:23:56.3 Probably the buyer, because Nevada should theoretically follow Delaware. But as we discussed, there's no direct precedent, so it's an educated guess but not a certainty.

0:24:08.6 So to me, the moral of this story is clear: never leave the contract silent on sandbagging.

0:24:14.6 That's exactly it. Even if you're doing a deal governed by Delaware law where the default is favorable to the buyer, you should still include an express provision, because why would you leave anything to chance when you could just address it in the agreement?

0:24:30.8 And Nate, from a seller's perspective, this is much, much more critical. So if you're a seller and you don't negotiate an express anti-sandbagging provision, you could find yourself on the wrong end of an indemnification claim that you thought you were protected against. So silence is not your friend.

0:24:48.4 Right. Silence is not golden. Silence is actually expensive.

0:24:52.7 Exactly. And that might, Nathan, work out for you if they come to you to do the litigating, but silence is very expensive, and we want to avoid that for our clients as much as possible.

0:25:04.1 Yeah. Well, we're done with the theory. We've done the state-by-state tour. Now let's get practical. If you are sitting on a Zoom call negotiating an M&A deal, what should you actually do? Let's start with buyers. Anna, if you're advising a buyer, what's the main playbook?

0:25:24.2 Okay, so if I'm advising the buyer, my number one tip would be to negotiate an express pro-sandbagging provision. So this is non-negotiable, pun intended. So you want a clause that clearly states that your indemnification rights are not affected by any due diligence or anything that you acquired knowledge of before or after closing. So you need to spell it out and you need to make it absolutely clear so that there is no room for ambiguity.

0:25:38.7 What else?

0:25:53.3 Tip number two is to make sure that the clause expressly disclaims any reliance requirement for contract-based claims. So remember the distinction that we talked about between a breach of contract claim versus a fraud claim. So you want the contract to be crystal clear that indemnification claims are contract-based claims and that you do not need to prove reliance as a result.

0:26:18.8 And I'll take tip number three. Think carefully about governing law. We've talked about it a lot today, but if you have the leverage to choose, Delaware and to some extent Nevada are a buyer's best bets. Delaware because the law is well developed and clearly pro-sandbagging, and Nevada because it's business-friendly generally and theoretically should follow Delaware, even though there's a lot less case law.

0:26:46.7 Based on that, some listeners might be wondering, isn't this kind of sneaky? You're deliberately setting up a situation where you can close the deal as a buyer knowing about problems and then sue.

0:26:59.3 That's a really good question, Nate, and I'm glad you raised it because I think there's a misconception here. This is not about being sneaky or acting in bad faith. So this is sophisticated risk allocation, and that is what M&A is all about. So when a buyer negotiates a pro-sandbagging clause, the buyer is essentially saying the seller made specific promises about this business. If those promises are wrong, then the seller has to bear the financial risk of getting that wrong. The buyer's due diligence shouldn't change who bears that risk. So it's a negotiated allocation of risk between sophisticated parties. And look, there's nothing shady about doing that.

0:27:40.0 It's right in the contract. Fair enough. Okay, let's flip to the seller's side. Kimberly, if you're advising a seller, how do you protect your client?

0:27:49.4 Well, tip number one, negotiate an express anti-sandbagging provision. You want a clause that clearly says the buyer cannot seek indemnification for breaches the buyer knew about before closing.

0:28:03.0 And the knowledge definition that we talked about earlier?

0:28:06.3 Exactly. Tip number two. Define knowledge as broadly as you possibly can. You want knowledge to include not just what the buyer's deal team actually knew, but what the buyer should have known if they had done their homework through reasonable due diligence. Because the broader the definition, the more protection the seller has.

0:28:26.7 I can take the last tip, and that's to include a disclosure schedule update mechanism. So this lets the seller cure any breaches of reps and warranties between signing and closing. If the seller discovers that a rep has become inaccurate after signing but before closing, this mechanism will allow the seller to then go back in and update its disclosure schedules to correct that. This gives the opportunity to address the problem before it becomes an indemnification claim.

0:28:57.4 Are there any final tips for sellers?

0:29:00.5 Yeah, I've got one. And just imagine it's a flashing neon sign when I say it. Do not commit fraud. I know that sounds really obvious, but it needs to be said explicitly. Disclose what you need to disclose in your disclosure schedules. Be honest, be thorough, because even in Delaware, which is the most buyer-friendly jurisdiction in the country, the contractual protections we've been talking about only work for honest sellers. You cannot contract away liability for fraud. No state is going to allow that. So an anti-sandbagging provision protects you from a buyer who knew about a legitimate breach. It does not protect you from your own misconduct.

0:29:46.3 Which is a great point to underscore. The entire framework we've been discussing assumes good faith dealing on both sides, and fraud changes all of that.

0:29:51.6 That's absolutely correct.

0:29:56.8 Given the stakes here, I can see why this issue is so heavily litigated. How does it actually play out in practice? Are we seeing more pro-sandbagging provisions or more anti-sandbagging provisions?

0:30:09.2 Actually, there is a growing trend for deliberate silence, which I admit is contrary to what we're saying buyers and sellers should do here. But if you look at recent M&A deal studies, the number of deals with pro-sandbagging provisions is starting to decline. So for example, in 2022, 49% of deals covered in the study included a pro-sandbagging provision. That's down from 52% in 2018, and only 2% included an anti-sandbagging provision. So essentially what's happening is that we're seeing more than half of these deals that are deliberately silent on the issue.

0:30:47.7 That's striking for such a contentious and potentially expensive issue.

0:30:52.0 Yeah, but I think it's worth emphasizing that the silence here is deliberate rather than accidental, like we talked about earlier. And this trend reflects compromise between the parties. So they can't agree whether to include an express pro-sandbagging provision or an anti-sandbagging provision. So they both agree to deliberately omit any sort of sandbagging language and leave it up to the governing law to work out what the buyer's rights are in that situation. And as we discussed, that can be a gamble. And this is why buyers tend to push very hard for a Delaware governing law from the outset of a deal, because they know that if they end up losing the fight to include a pro-sandbagging clause, then they can settle with silence, and the outcome will still essentially be in their favor.

0:31:43.8 All right, we're coming up on time, so let's wrap up with our key takeaways. I'll go around the table and have each of you give us the headlines. Kimberly, kick us off.

0:31:52.7 Takeaway number one. Always address sandbagging expressly in your purchase agreement. I know we've said this multiple times and we've also said contrary, but it bears repeating. Silence is not golden. Silence is an invitation to expensive litigation. Whether you're a buyer or a seller, you are much better off having this conversation during negotiations than having it in front of a judge.

0:32:17.2 Takeaway number two is to choose your governing law wisely. Each state has very different approaches to sandbagging, and so whatever state whose law governs your agreement will have an enormous impact on how these provisions are interpreted and enforced. So Delaware's the most favorable jurisdiction for pro-sandbagging. California has statutory provisions that limit sandbagging enforceability, making it a little bit more seller-friendly. And New York and Texas will enforce the language in the contract so long as it's clear and the contract is not silent on this issue. And as we discussed, Nevada probably leans more towards Delaware, but it's uncertain. So governing law isn't just a boilerplate issue for an M&A deal. It's a strategic decision.

0:33:10.8 And takeaway number three. Define knowledge really carefully. Whether you're drafting a pro or anti-sandbagging provision, the definition of knowledge is where the rubber is going to meet the road. This is as practical as it gets. The distinction between actual knowledge and constructive knowledge is gonna mean the difference between a successful indemnification claim and a dismissed lawsuit. So know which side of the line that you need to be on and draft and negotiate accordingly.

0:33:41.1 Number four is something that we've harped on a lot during this podcast, and that's you can't contract away from fraud liability. And this is the case in every single jurisdiction that we discussed, even in Delaware. So if you're a seller, the best anti-sandbagging provision in the world will not save you from your own dishonesty. And if you're a buyer, you need to know that fraud claims are still open to you regardless of what sandbagging position is taken in the contract.

0:34:11.6 Last but not least, takeaway number five: the sandbagging provision in a purchase agreement reflects bargaining power. So at the end of the day, which provision you end up with pro, anti, or deliberate silence is gonna come down to who has more leverage at the negotiating table.

0:34:29.6 Beautiful summary. Anna, Kimberly, thank you both so much for walking our listeners through this. I think we've taken what can be a pretty dense topic and made it accessible and hopefully a bit fun along the way. I'd also like to thank our listeners for joining us on this episode of Corporate Conversations. For additional information on this topic or other corporate transactional or litigation matters, please visit our website at nossaman.com. And don't forget to subscribe to Corporate Conversations wherever you listen to podcasts so that you don't miss an episode. Until next time.

0:35:02.2 Corporate Conversations is presented by Nossaman LLP and may not be copied or rebroadcast without consent. Content reflects the personal views and opinions of the participants. Statements provided in this podcast are for informational purposes only, are not intended as legal advice, and do not create an attorney-client relationship. Listeners should not act solely upon this information without seeking professional legal counsel.

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