The Survival Clause, Claims Notices, And The Law's Abhorrence Of Forfeitures

On April 28, 2025, the Delaware Supreme Court decided Thompson Street Capital Partners IV, L.P. v. Sonova U.S. Hearing Instruments LLC.¹ Thompson Street Capital involved a run-of-the-mill dispute over the sufficiency of a claims notice that was sent before the end of the survival period, but which was alleged to have failed to include the "specificity" regarding the claim as required by the merger agreement and which was sent more than 30 days after the Purchaser Indemnified Party became aware of the claim. While the nature of the dispute was pedestrian, the court's holding was anything but. Indeed, Thompson Street Capital may have exposed a potentially worrisome crack in Delaware's otherwise solid and reliable contractarianism.

The Dispute and the Court of Chancery Decision

The Plaintiff, a sell-side private equity firm acting as the "Members Representative," filed a declaratory judgment action in the Delaware Court of Chancery seeking "an order declaring that the Purported Claim Notice did not meet the contractual requirements with which [the buyer] had to comply and, as such, could not serve as a basis to withhold the escrow funds." Additionally, the Plaintiff's complaint "sought a mandatory injunction requiring [the buyer] to execute a Joint Instruction letter directing the Escrow Agent to release the contents of the Indemnity Escrow Fund to the Plaintiff." Anyone involved in private company M&A is well familiar with this scenario—i.e., a limited survival period coupled with an escrow fund that serves as the sole recourse for any rights to indemnification that may arise during that survival period, followed by a dispute over the timeliness or sufficiency of the notice of claim.

In response to the Plaintiff's complaint, the buyer made a motion to dismiss, which the Delaware Court of Chancery granted "after concluding that '[t]he notice provisions at issue here are unambiguous and [Plaintiff's] prayers for relief are fatally lacking.'" However, in reaching that holding, the Delaware Court of Chancery focused almost exclusively on the notice provisions of the Escrow Agreement and failed to recognize that compliance with the notice provisions of the Merger Agreement was a condition precedent to the buyer's rights to obtain indemnification.

Because there was both a merger agreement and a separate escrow agreement, which do not always mesh, it was understandable that some confusion might arise over which notice requirements were applicable. The Delaware Court of Chancery focused on the Escrow Agreement rather than the Merger Agreement, concluding that the notice was valid under the Escrow Agreement.

The Delaware Supreme Court's Decision

On appeal, the Delaware Supreme Court determined that the requirements of the Merger Agreement were unequivocal and should have been the focus of the Court of Chancery's decision. Section 9.3.2 of the Merger Agreement provided:

"Any claim by a Purchaser Indemnified Party on account of Damages under this Article IX (a "Claim"), including those resulting from the assertion of a claim by any Person who is not a Party to this Agreement (a "ThirdParty Claim"), will be asserted by giving the Members' Representative reasonably prompt written notice thereof, but in any event not later than 30 days after the Purchaser Indemnified Party becomes actually aware of such Claim, provided that no delay on the part of the Purchaser Indemnified Party in notifying the Members Representative will relieve the Merger Parties from any obligation under this Article IX, except to the extent such delay actually and materially prejudices the Merger Party. Such notice by the Purchaser Indemnified Party will describe the Claim in reasonable detail, will include the justification for the demand under this Agreement with reasonable specificity, will include copies of all available material written evidence thereof, and will indicate the estimated amount, if reasonably practicable, of Damages that has been or may be sustained by the Purchaser Indemnified Party. The Purchaser Indemnified Parties shall have no right to recover any amounts pursuant to Section 9.2 unless the Purchaser notifies the Members' Representative in writing of such Claim pursuant to Section 9.3 on or before the Survival Date."

The court focused almost exclusively on the last sentence of Section 9.3.2 (defined in the case as the "Final Sentence"). Importantly, the Delaware Supreme Court held unequivocally that "the Final Sentence clearly embodies a condition precedent and potential for forfeiture because it states plainly that there is no right to indemnification unless the claim notice is provided." The court further held that the Final Sentence contained specific language creating the condition precedent of timely and compliant notice, which specific language controlled over the more general language contained in a boilerplate "no waiver" provision.² Moreover, the court held that "it was reasonably conceivable that [the buyer] failed to comply with the Specificity Requirement that [the buyer] 'include copies of all available material evidence' of its claim." Indeed, [the buyer] had apparently admitted that "it did not provide any written evidence with the Claim Notice beyond its own assertions in the Claim Notice itself." Finally, the court held that the Plaintiff had also sufficiently "alleged that [the buyer] did not comply with the Timing Requirement of Section 9.3.2." As a result, the Court of Chancery should not have granted the buyer's motion to dismiss.

So far, so good. But then comes the bombshell. According to the Delaware Supreme Court, the Final Sentence provides only the "potential" for forfeiture, not a definitive forfeiture of the indemnification right, because, notwithstanding the clear language of the contract, "our law abhors a forfeiture." As a result of that abhorrence, the Indemnified Party's "noncompliance may be excused if the timing and specificity requirements were not material to the agreement and noncompliance would result in a disproportionate forfeiture."

What? Have I entered another dimension? Did I misread the case? Is this case from California, not Delaware? Isn't Delaware the state whose courts pride themselves on saying:

Delaware courts enforce bad deals the same as good deals. The Court cannot rewrite the contracts, and it cannot ignore the plain terms of the contracts.³

But this is all too real, and it is Delaware. As a result of the Delaware Supreme Court's decision, the private equity seller will now have its day in the Delaware Court of Chancery to actually (a) prove (or fail to prove) that the notice was deficient under the Merger Agreement, and (b) if successful, thereby establish that the condition precedent to the indemnification obligation had not occurred, entitling the seller to the release of the escrowed funds as a matter of the bargained-for terms of the Merger Agreement. However, the private-equity-seller plaintiff, even if successful in proving the noncompliant notice, must now also provide evidence in the Delaware Court of Chancery that the timing and specificity requirements it proved were not met were in fact "material to the agreement," and, if not material to the agreement, that the Purchaser Indemnified Party's noncompliance would not result in a disproportionate forfeiture of the indemnity rights that were legally conditioned upon that compliance.

The Materiality of Survival and Notice of Claims Provisions

I am officially gobsmacked. It is truly hard to fathom how any private equity seller could not have considered the bargained-for length of the survival period and the bargained-for requirements for a notice of claim as material in any negotiation of a private company acquisition agreement. Limiting recourse and establishing a limited time to pursue remedies, based on real, not presumed or anticipated claims, is private equity deal-making 101.

Indeed, I was disappointed that the Delaware Supreme Court could not reach a materiality conclusion as a matter of law. The court cites cases that do so, including a non-Delaware decision that held that the notice requirements of a claims-made insurance policy were material as a matter of law, and a Delaware Court of Chancery decision involving a claim of forfeiture arising from an earnout provision.⁴ While the insurance policy example is very similar to a survival clause that conditions any indemnification rights on a compliant notice having been given before the end of the survival period, the Delaware Supreme Court noted the claimsmade insurance policy example without comment. But the court did discuss the earnout example, Obsidian Fin. Grp., LLC v. Identity Theft Guard Sols., Inc.⁵

In Obsidian, the Delaware Court of Chancery considered an argument by a disappointed seller who failed to meet the exact requirements for an earnout. Instead of the company obtaining an extension of a government contract for 6 years as required by the earnout terms, it only obtained an extension for 5 years and six months. Certainly close, but no cigar, said the Delaware Court of Chancery:

Obsidian's argument that the Court may declare immaterial the six-month difference between the 5.5-year contract and the six-year earnout condition is misplaced. Obsidian cites no authority that would support a holding that a party to a merger agreement may be excused from satisfying a condition to an earnout on grounds of forfeiture. This comes as no surprise, as an earnout provision contemplates the payout of additional, often substantial, consideration when the entity sold achieves specific, bargained-for milestones. The value of the contingent consideration is inextricably linked to the estimated probability of the contingent event's occurrence. To change the benchmark of the earnout would be to change its risk profile and, by extension, the amount that should be paid in the event of its achievement. Under Delaware law, however, "a party may not come to court to enforce a contractual right that it did not obtain for itself at the negotiating table." Unlike horseshoes or hand grenades, there is no "close enough" when it comes to earnouts negotiated by sophisticated parties based on the estimated probability that the precise measure would be hit. Any adjustment to the earnout condition, then, would be "material" as a matter of law.⁶

The rationale for why this example from the realm of earnouts is not applicable in the context of bargained-for time periods for submitting compliant claims notices as a condition to a buyer's entitlement to indemnification is not explained. The Delaware Supreme Court simply notes:

We are unable on this record to resolve the materiality and disproportionate forfeiture questions. We address materiality first because excusal of the condition, according to Section 229 of the Restatement, "applies only where occurrence of the condition was not a material part of the agreed exchange." Although, [the Plaintiff] alleges that the timing and particularity requirements were material, the record has not been developed on these points, including whether the parties, in negotiating these agreements, considered these requirements to be material.

Even if we were to determine that the Notice Requirements are not material, we are still unable to determine the disproportionate forfeiture issue on this record. Accordingly, we remand to the Court of Chancery for further consideration on these points.⁷

The court then provides guidance to the Court of Chancery from Section 229 of the Restatement (Second) of Contracts. However, the Restatement's guidance is a list of factors to consider that are rather squishy. But the court then quotes from a Pennsylvania Supreme Court case to summarize what is essentially required for the materiality analysis under Section 229 of the Restatement: "materiality in the context of Section 229 'rests to a large extent on the analysis of the requirement's purpose, [but] it also involves consideration of the negotiations of the parties along with all other circumstances relevant to the formation of the contract or the requirement itself.[].'"⁸

In private equity, sellers desire certainty over the limits of recourse for, and the timing of, indemnification claims. Limiting recourse to the escrowed funds, and returning the remaining sales proceeds held in escrow to the private equity fund's limited partners after the end of the survival period, is a material part of any private company acquisition agreement. The limited additional record the Delaware Supreme Court is requiring should be straightforward, therefore, but the fact that it's necessary, in addition to the proof that the notice was in fact noncompliant, is troubling.

Contractarianism versus Equitable Principles From the Middle-Ages

Professors Jody S. Kraus and Robert E. Scott are among the leading theorists in contract law.⁹ They have expressed their dismay over the importation into contract law of equitable principles developed by the English Chancery Courts in the middle-ages, and which were intended to mitigate some of the harshness of the common law courts, where no means were available for enforcing executory contracts other than penal bonds.¹⁰ But we no longer live in that world. The common law now provides remedies for breach of executory contracts, and penal bonds have been assigned to the history books.

In addressing the interplay between the law of conditions and the equitable concepts related to forfeitures, Professors Kraus and Scott noted the following:

"The law of conditions explicitly endorses the principle of freedom of contract by committing to the strict enforcement of all express conditions. Yet, it is also home to the hoary equitable maxim that "the law abhors forfeitures." The antiforfeiture norm suffuses the law of conditions, which therefore reads like a schizophrenic text, in one sentence insisting on the sanctity of strict construction and enforcement of conditions in spite of forfeiture, while in the next admonishing courts, whenever interpretation allows, to avoid the conclusion that the promisor's obligation is subject to an enforceable condition if enforcement of the condition would raise the specter of forfeiture." ¹¹

The Professors further opine that:

"Even if the parties succeed in writing an express term that unequivocally creates a condition, the ex post form of the antiforfeiture norm strongly encourages courts to exercise their discretion to excuse the condition whenever its enforcement would create a forfeiture and the court deems the condition not to have been a material part of the agreement at the time of formation. In addition, even if a court agrees that a contract contains a material, express condition, the ex post norm encourages the court to find that the promisor has implicitly waived the condition, either retrospectively or prospectively, whenever enforcement of the condition would create a forfeiture."¹²

Accordingly, they encourage a contractarian approach that Delaware is known for generally. Specifically, in their view:

"[C]onditions are always material from the ex ante perspective because they allocate risks between the parties, the contract compensates each party for bearing those risks, and the parties inevitably rely on that allocation of risks. Since materiality is determined by the parties' intent at the time of formation, conditions will always be material."¹³

And I would add to that the following question: How can it be that a buyer, whose right to indemnification is expressly conditioned upon a compliant notice having been timely given, actually be deemed to have forfeited anything if the buyer, in fact, failed to comply with the express condition giving rise to that right? But alas, the Professors theories and my question are just that. Thompson Street Capital is the law in Delaware.

Where Do We Go From Here?

So, what should we do in representing sellers?

My current view is that there should be a statement in the survival clause reflecting the parties' agreement that compliance with the terms of the notice provisions is not only a condition precedent to the Indemnifying Party's obligation to indemnify, but also that it was a material part of the parties' bargained-for exchange. Would that bind the court? Perhaps not, but it may be persuasive. After all, Delaware courts have ordered specific performance based on similar agreements between the parties, even though the award of specific performance is an equitable remedy.¹⁴ I also believe it might be helpful to add "time is of the essence" language to the survival clause, as those words seem have an almost talismanic effect in other contexts.¹⁵

How might these additions to a survival clause look? Well, I am still musing, but here is a quick effort at such additions (and I was up into the early am working on this, so excuse any sloppy thinking):

Notwithstanding anything herein to the contrary, the obligations to indemnify, pay, reimburse, compensate, and hold harmless a Person pursuant to this ARTICLE IX in respect of a breach of representation or warranty, covenant or agreement shall terminate on the applicable survival termination date (as set forth in Section 9.1(a)), unless an Indemnified Party shall have made a claim for indemnification pursuant to Section 9.2 or Section 9.3, prior to such survival termination date, as applicable, including by delivering an Indemnification Claim Notice or Third Party Indemnification Claim, as applicable, to the Indemnifying Party. The Parties specifically and unambiguously intend and agree that (a) the survival periods that are set forth in this Section 9.1(a) shall replace any statute of limitations that would otherwise be applicable, (b) the timely delivery of an Indemnification Claim Notice or Third Party Indemnification Claim, as applicable, to the Indemnifying Party pursuant to Section 9.2 or Section 9.3 shall be an express condition precedent to the obligations to indemnify, pay, reimburse, compensate, and hold harmless a Person pursuant to the ARTICLE IX, (c) time shall be of the essence in the delivery of an Indemnification Claim Notice or Third Party Indemnification Claim, as applicable, to the Indemnifying Party pursuant to Section 9.2 or Section 9.3, and (d) the survival periods, and the timing and content of an Indemnification Claim Notice or Third Party Indemnification Claim, as required by this ARTICLE IX, were a material part of the agreed exchange made by the Parties in entering into this Agreement.

I am not used to seeing time of the essence language as part of the boilerplate of typical private company acquisition agreements. However, I came across the following in the recently filed Membership Interest Purchase Agreement, dated April 28, 2025, regarding Astec Industries, Inc.'s acquisition of equity interests of TerraSource Holdings, LLC (please note the bolded clause):

I prefer my approach of placing the time of the essence language directly in the Survival provision rather than relying on generalized boilerplate. But if I was going to use this approach I might add something specific like "Time shall be of the essence of any notices or payments required pursuant to the terms of this Agreement." And then I would make sure I meant it by reviewing all of the places where specific time limits were mentioned.

Please note clauses (h) and (i) however. As a seller, you may not want (h) to apply to notices required by a specific date, which (h) clearly does even though it is labeled as only applying to Payment Dates (see clause (b) that makes that heading irrelevant and the italicized language in clause (h)). Clause (h) provides an additional Business Day if the date falls on a date which is not a Business Day (as a seller, when notices can be given by email do you really want to provide that extra time to the buyer –as a buyer you of course want it). And you also should note that clause (i) makes 5pm the end of a day. So any notice after that time is the next day; you may not like that as a buyer. All the more reason to make sure you are reading this stuff whichever side of the table you are on.¹⁷

Footnotes

1 2025 WL 1213667 (Del. April 28, 2025).

2 The "no waiver" provision stated that: "No failure or delay by any Party in exercising any right, power, or privilege under this Agreement will operate as a waiver thereof nor will any single or partial exercise thereof preclude any other or further exercise thereof or the exercise of any other right, power, or privilege."

3 HC Companies, Inc. v. Meyers Industries, Inc., 2017 WL 6016573, at *9 (Del. Ch. Dec. 5, 2017); see also, Nemac v. Schrader, 991 A.2d 1120, 1125 (Del. 2010) ("[W]e must assess the parties' reasonable expectations at the time of contracting and not rewrite the contract to appease a party who later wishes to rewrite a contract he now believes to have been a bad deal. Parties have a right to enter into good and bad contracts, the law enforces both."). It may also be worth mentioning that, in 2023, the Delaware Supreme Court rejected Vice Chancellor Laster's invitation to apply equitable principles of "acquiescence" to override a provision in an LLC membership agreement that declared "void" any assignment made of the anti-assignment clause. See Holified v. XRI Investments Holdings LLC, 304 A.2d 896 (Del. 2023).

4 See Thompson Street Capital, 2025 WL 1213667, at *20.

5 2021 WL 1578201 (Del. Ch. Apr. 22, 2021).

6 Id. at *8.

7 Thompson Street Capital, 2025 WL 1213667, at *20. The non-Delaware case cited with respect to a claims-made insurance policy's notice requirements was Citizen Ins. Co. of Amer. V. Assessment Sys. Corp., 2019 WL 4014955, at *5-7 (D. Minn. Aug. 26, 2019). See Thompson Street Capital, 2025 WL 1213667, at *20, n. 148.

8 Thompson Street Capital, 2025 WL 1213667, at *21, citing Acme Mkts., Inc. v. Fed. Armored Express, Inc., 648 A.2d 1218, 1222 (Pa. 1994).

9 See Robert E. Scott & Jody S. Kraus, Contract Law and Theory (Carolina Academic Press, 6th Ed. 2023).

10 See Jody S. Kraus & Robert E. Scott, The Case Against Equity in American Contract Law, 93 Cal. L. Rev. 1323 (2020); Jody S. Kraus & Robert E. Scott, Contract Design and the Structure of Contractual Intent, 84 N.Y.U. L. Rev. 1023 (2009).

11 Kraus & Scott, Contract Design and the Structure of Contractual Intent, supra note 10, at 1081-82.

12 Id. at 1084.

13 Id.

14 See e.g., Snow Phipps Gp., LLC v. KCAKE Acq., Inc., 2021 WL 1714202, at *51 (Del. Ch. Apr. 30, 2021) ("This court has not hesitated to order specific performance in cases of this nature, particularly where sophisticated parties represented by sophisticated counsel stipulate that specific performance would be an appropriate remedy in the event of breach.").

15 See HIFN, Inc. v. Intel Corp., 2007 WL 1309376, at *9 (Del Ch. May 7, 2007) ("When time is of the essence in a contract, a failure to perform by the time stated is a material breach of the contract that will discharge the nonbreaching party's obligation to perform its side of the bargain. Whether time is of the essence in a contract turns in the first instance on whether the contract explicitly states so. When the contract fails to contain a time of the essence clause, time will only be of the essence if the circumstances surrounding the contract or the parties' course of dealing clearly indicate that strict compliance with a specified timeframe was intended.").

16 See Membership Interest Purchase Agreement, dated April 28, 2025, by and among, TerraSource Holdings, Inc., as Sellers, Sellers' Representative, Astec Industries, Inc., and for limited purposes set forth therein, RLIH, LLC, https://www.sec.gov/Archives/edgar/data/792987/000110465925044104/tm2513690d1_ex2-1.htm

17 See Glenn D. West, The Perils and Delights of Contractual Boilerplate, Bus. Law Today, April 15, 2025, https://businesslawtoday.org/2025/04/perils-and-delights-of-contractualboilerplate/

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