Unilateral Mistake Coupled With the Counter Party’s Knowing Silence Permits Reformation

Chief Justice Steele, writing for the Court En Banc, has clarified Delaware’s law on unilateral mistake. The Court held that in cases of unilateral mistake, where the counter party has knowledge of the mistake yet remains silent, a Delaware Court may reform the contract. The Court specifically adopted Restatement (Second) of Contacts, § 157 (1981). Neither exceptional circumstances, fraud nor trickery are required to reform a contract.

Scion Breckenridge Managing Member LLC v. ASB Allegiance Real Estate Fund, No. 437, 2012 (Del.)Scion v ASB is a case involving multiple real estate investments. Scion was the sponsor of the investments, it found and managed the properties, and ASB was the promoter which provided 99% of the capital. In their first transaction the joint venture agreement properly reflected the waterfall of funds from the project. In the second and subsequent investment the attorney who drafted the agreement, who admittedly lacked experience in such matters, copied the first agreement, made deal specific changes, but revered a significant term in the waterfall so that Scion would receive its “promote” return before ASB had received back its negotiated return and capital investment. The Court below found that Scion was aware of the mistake, but remained silent. In one of the transactions the parties amended their joint venture agreement and the amendment contained standard ratification language. Notwithstanding the ratification language the Court below found that Scion was not aware of the drafting mistake and ASB again remained silent.

Scion sought reformation. ASB defended on various grounds. ASB argued that Scion had not read the second and subsequent agreements, and was barred by its negligence in seeking reformation. Second they argued that the ratification barred reformation.

This case caused the Supreme Court to review, clarify and in some instances overrule existing Delaware precedent. The Court clarified its ruling in Cerberus International, Ltd. v. Apollo Management, L.P. 794 A.2d 1141 (Del. 2002) wherein it had taken “no position upon whether, under certain circumstances, a party’s misconduct could bar a reformation claim.” The Court went on to state “[i]t is unclear whether “misconduct” mean simple negligence, gross negligence, or something more. To resolve the confusion surrounding our use of the word ‘misconduct’ we now adopt the standard in Restatement (Second) of Contracts §157: for purposes of a reformation claim ‘[a] mistaken party’s fault in failing to know or discover the facts before making the contract’ does not bar a reformation claim ‘unless his fault amounts to a failure to act in good faith and in accordance with reasonable standards of fair dealing.’ To the extent existing Delaware case law is inconsistent with this standard, we expressly overrule it.”

Later in the decision the Court held: “We hold that Cerberus accurately states Delaware law: reformation based on unilateral mistake is available where a party can ‘show that it was mistaken and that the other party knew of the mistake but remained silent.’ To the extent our case law otherwise or imposes additional requirements, we expressly overrule them.”

The Court went on to clarify the distinction between reformation and rescission. “This standard is limited to reformation claims and does not affect our existing rule in cases that a failure to read bars a party from seeking to avoid or rescind a contract. Avoidance and reformation are fundamentally different remedies. Avoiding or rescinding a contract essentially ‘results in [the] abrogation or ‘unmaking’ of an agreement, and attempts to return the parties to the status quo [ante].’ In contrast, reformation does not ‘unmake’ an agreement’ it corrects an enforceable agreement’s written embodiment to ‘reflect the parties’ true agreement.’ We adhere to our case law holding that a party cannot seek avoidance of a contract he never read. In contrast, we will permit a party to seek reformation of a written agreement that incorrectly transcribes the parties’ agreement, so long as the party’s conduct does not amount to a failure to act in good faith and in accordance with reasonable standards of fair dealing.”

Upon the issue of ratification the Court Stated:

“The Vice Chancellor appropriately noted that ‘[r]atification requires ‘[k]knowledge, actual or imputed, of all material facts’ and knowledge ‘may be implied from conduct, as well as expressed by words.’ He also correctly concluded that ratification of a document subject to reformation requires actual knowledge of the mistake. As we commented in Cerberus, a party seeking reformation by definition admits that had he read the document more carefully, he would have noticed and corrected the mistake. The Vice Chancellor reasoned that requiring actual knowledge ‘recognizes that a party otherwise entitled to equitable reformation based upon mistake nearly always could have discovered the erroneous provisions. The problem in these cases arise because ‘[t]he mistaken party unwillingly believes, however, that the provision is accurate. That is the point of the mistake. Accordingly, ratification does not preclude reformation unless the ratifying party actually knew of the error.'”

The Joint venture agreement contained a cost shifting provision with respect to attorneys’ fees. The provision used the term “incurred” in connection with reimbursement of attorney fees. In this case counsel for Scion was prosecuting the case with outcost to Scion based upon a malpractice claim. Consequently Scion had not “incurred” any attorneys fees. The Court did remand the case to determine whether under the Court of Chancery’s equitable powers Scion was entitled to an award of counsel fees.





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