One of the most difficult areas of contract law concerns the enforceability of letters of intent and other preliminary agreements, and in particular the subset of such agreements that consists of agreements to negotiate toward a final contract.[1]

-Richard Posner

It is axiomatic that the judicial colloquy regarding preliminary agreements is fraught with unanswered questions and controversy.[2] The tendency for the enforcement of such agreements to be disputed in complex, high-stakes mergers and acquisitions litigation only exacerbates the problem.[3] Though legal commentators have offered solutions for nearly forty years,[4] the courts remain sharply divided on the issue. Indeed, courts even disagree on which way the "overwhelming authority" leans.[5]

This Article focuses on the enforcement of what have been called "agreements to negotiate," and argues, from a practical perspective, that scholars have had it wrong for a very long time. The terms coined by the leading commentators-"contracts to bargain," or more frequently, "agreements to negotiate"-are too close in form and function to "agreements to agree." The current form-an agreement to negotiate-and the current function-consisting of a large enforceable scope of the duty and allowing expectation damages for breach-lead to uncertainty and unpredictable outcomes in the courts, and leave companies and practitioners unsure how to protect themselves when negotiating deals. To address these concerns, this Article proposes a two part solution: (1) It develops a new theoretical framework for these agreements including a new form and function-the "good faith reliance contract"-and (2) it advocates the use of separate and distinct agreements tailored to counteract court reluctance. This solution resolves several issues that have developed regarding precontractual liability and agreements to negotiate.

Commentators who advocate expanding the scope of such agreements and who attempt to enlarge the remedy for breach exacerbate the current confusion surrounding preliminary agreements. Indeed, the current form and function have led many courts to argue that an agreement to negotiate is the same as an agreement to agree.[6] Specifically, I take exception to the notion that the courts should enforce an agreement with open terms or infer a separate duty of good faith in the absence of an explicit writing. The regime of good faith reliance contract assails this problem as these agreements have a much more limited scope. Further, the difficulty in calculating damages is assuaged as the remedy for breach under the new framework is, in all cases, a confined form of reliance-limited to a party's expenditures.

This new framework, providing a limited scope and limited damages, is both timely and important. A new solution is imperative as the uncertainty in these agreements' enforceability has negative real world implications-namely, huge economic losses for companies in failed deals.[7] A new framework is required that provides better insight to the courts in jurisprudential development of the permissible scope of the duty and damages for breach. In addition, a new framework is crucial to inform practitioners of what will and will not be enforced. Lastly, a new framework is necessary to put the parties on notice as to what constitutes breach and what remedy will be available when deals fall through due to bad faith in negotiations.

This Article proceeds in six parts. Part II begins with a synopsis of the current environment of mergers and acquisitions and introduces two hypothetical companies wishing to negotiate a merger. In Part III, I survey various arguments for enforcement of preliminary agreements according to leading scholars and outline where the scholars erred, emphasizing the disparity in enforcement.[8] Part IV outlines the constructs of the good faith reliance contract regime and emphasizes the advantages of its limited scope and damages. Part V proceeds where most scholarship would terminate, offering the corporate practitioner suggestions on how to draft a separate good faith reliance contract tailored to counteract court reluctance to enforcement. In Part VI, this Article concludes that the good faith reliance contract framework, with a limited scope and limited damages, combined with the use of separate agreements, provides certainty in the courts, aids practitioners in advising clients, and affords parties better protection when negotiating deals.

II. The World of Deals

In 1987, Professor Farnsworth wrote that "[o]urs is an era of 'deals.'"[9] As time has passed, Professor Farnsworth's assessment has only become more apt.[10] Today, newspapers abound with stories of large corporations merging to become ever larger.[11] These deals increasingly involve billions of dollars and legions of attorneys.[12] When a story appears in the papers, the reporter will usually refer to the fact that the parties have reached an "agreement in principle."[13] However, in modern times, these agreements tend to state specifically that the agreement is non-binding,[14] except for a small clause relating to good faith, best efforts, and the like.[15] Thus, the agreement in principle becomes a largely symbolic act, drafted to make the parties feel good.[16] It also provides the press with something to write about,[17] and Wall Street bankers and lawyers with something to rely on to drive profits.[18] However, such agreements can be problematic as a party will, at times, believe that this agreement actually means that both sides are bound to go through with the deal.[19] If not legally bound, the parties tend to feel at least morally bound to do so.[20]

A. The Impact of Failed Deals

When negotiations fail, the economic impact can be dramatic.[21] Often, the failed merger will leave a party with large legal expenses and "exposed to reductions in stock value."[22] The failed merger negotiations of Glaxo Wellcome and SmithKline Beecham-where the companies lost $21 billion in share value-offers an extreme illustration of these adverse effects.[23] The combination of these adverse effects and the extant merger boom has large economic implications for companies across a wide range of sectors.

Faced with large costs, decreasing share value, and lost opportunities, it is not surprising, therefore, that a party would argue that the other side cannot withdraw from the failed deal.[24] If for some reason the merger does not consummate-due to lack of shareholder approval, inability to agree on unsettled terms, or one party receiving a better offer-the party left waiting at the table will often search for a way to hold the other party responsible for its lost expectation of profits.[25] Historically, parties have sought to accomplish this goal by claiming that the letter of intent or agreement in principle was a binding agreement.[26] However, recently claimants have encountered resistance as a result of explicit non-binding language in these agreements.[27] Thus, the party turns to what may be the only binding clause in the agreement-namely, the good faith clause or best efforts provision.[28]

B. A Co. & B Co.: Two Hypothetical Companies Wishing to Negotiate a Merger

For the purposes of illustration, this Article introduces a hypothetical that will be used throughout. Meet Company A ("A Co."). A Co. is a multimillion dollar telecommunications company. Over the past several years, A Co. has sat on the sidelines and watched as several competitors have merged into multibillion dollar telecommunications giants. Those companies now offer a wider array of products to consumers at lower rates, and A Co. is finding it harder and harder to compete. After several years of stagnant profits, A Co.'s analysts have concluded that the company must merge with another of the smaller telecommunications companies in order to survive. In addition, analysts have concluded that the other company should currently offer products and services that A Co. does not presently provide. A Co. finds only a handful of companies that fall into this category.

Company B ("B Co.") now enters the picture. Though past years have been better for B Co., the company continues to make decent profits. This is largely because B Co. is one of only a few companies that have created services and products that other smaller companies have been unable to implement profitably. As a result, B Co. has focused on these services and products; however, more and more customers of B Co. would like other services that B Co. does not provide.

Representatives from A Co. contact B Co. to see if the companies can work out a deal. The proposed merger would create a large telecommunications company that would offer a wide variety of products. Moreover, combining the two companies would make it feasible to offer bundled telecommunications services to consumers at attractive prices. The companies predict that the merger will allow them to compete with other telecommunications giants.

After a month of negotiations, the companies draft and sign a letter of intent ("LOI"). The LOI specifically states that it is non-binding, except for two provisions. The first provision contains several price terms that the companies have agreed upon. The second provision states that both parties agree to conduct themselves in good faith and use best efforts to negotiate a final agreement.

Two weeks after the LOI is signed, B Co. gains knowledge that several more profitable companies would like to merge with B Co. B Co. begins to put feelers out and eventually realizes that another company, Company C ("C Co."), offers a much more profitable deal to B Co. than A Co. does. B Co. never informs A Co. that it is shopping for a better deal. B Co. now realizes that it does not intend to finalize the deal with A Co. Nevertheless, B Co. continues negotiations with A Co. Then, one week before the final closing of the A-B merger, B Co. announces that it is no longer interested in merging with A Co.

A Co. is left at the table with no completed merger. Even worse, A Co. has spent considerable time and expense and has accrued over $1.5 million in attorney's fees. The question arises: Can A Co. use the good faith provision to recover money from B Co.? If so, how much can A Co. recover? These are the questions that scholars have struggled with for nearly forty years, though the latter has encountered the most diverse positions.

III. The Survey of Precontractual Liability

Early contract law rejected a duty to negotiate in good faith. "An agreement to enter into an agreement upon terms to be afterwards settled between the parties is a contradiction in terms. It is absurd to say that a man enters into an agreement till the terms of that agreement are settled."[29] However, with the increased influence of the Uniform Commercial Code ("UCC") and the Restatement, that view has been almost universally rejected by many contract law scholars.[30]

This Part explores the ideas of prominent scholars on agreements to negotiate. Subpart A describes various approaches to the general enforceability of these agreements and explores cases in which these agreements have been disputed. The analysis reveals that current scholarship has been met by court resistance. Subpart B explores several approaches to determining the scope of an agreement to negotiate in good faith. The case law in this area reveals that courts who first accept that such a duty can be enforceable have little problem interpreting the scope of the duty. Lastly, subpart C discusses the thoughts of commentators as to the measure of damages that should be awarded in the event of breach. In contrast to the commentators, the cases in this area disclose that the measure of damages should be limited to what can be reasonably calculated-namely, a limited form of reliance should be rewarded and not more.

A. General Enforceability of Precontractual Agreements

1. Knapp & Temkin

One approach holds that a duty of good faith can arise in negotiations in the absence of an explicit writing of the parties. However, analysis reveals that applying this approach leads to greater uncertainty in negotiations and is at odds with well recognized theories of contract.

The idea that courts should enforce precontractual agreements was first espoused by Professor Charles Knapp in 1969.[31] Knapp offers his approach as a middle ground that is not satisfied by traditional contract law.[32] Knapp argues that certain agreements, called "contracts to bargain," appear in the intermediate stage of contract negotiation between preliminary negotiation and final contract formation.[33] According to Knapp, courts should enforce these intermediate agreements based on the parties' expectations that they are bound in at least a moral or ethical way.[34] Specifically, Knapp argues that the parties' expectations create a binding duty to bargain in good faith.[35] He offers that this duty should be enforced by the courts, even though enforcement would not fit within the contours of traditional contract law's strict requirement of offer and acceptance.[36]

Drawing from the thoughts of Knapp, Harvey Temkin criticized what he termed the "all or nothing" approach to enforcement of preliminary agreements taken by many courts.[37] Temkin advocates court recognition of three separate categories of situations, specific to corporate acquisitions, in order to accurately determine the relationship of the parties.[38] Temkin's first category occurs where the parties do not intend to have any contractual relationship but have merely entered into negotiations, and each is free to walk away for no reason.[39] In the second category, the parties have entered into a definitive agreement where both feel that they have entered into a binding contract.[40] In the third category, negotiations have proceeded beyond the preliminary stage, but have not yet been concluded.[41] In this situation, parties have typically entered into an agreement in principle.[42]

Temkin's work focuses on the third category, where he argues that the parties are aware that a definitive agreement must be reached, but each party feels that the other would need a good faith reason to walk away from the table.[43] In this category, Temkin advocates that courts should infer a separate binding agreement which obligates each party to negotiate in good faith to arrive at a definitive contract.[44]

Returning to the hypothetical, according to the arguments of Knapp and Temkin, B Co. would be liable to A Co. for breach of the duty of good faith by entering into an LOI and conducting itself in the described manner.[45] This would be true regardless of whether the parties included a good faith reliance contract provision.[46] This is where the arguments of Knapp and Temkin fall outside the permissible bounds of contract law, which encourages the parties to negotiate freely.[47] In the absence of the good faith provision in the A-B merger LOI, a court-created duty of good faith would seem to create uncertainty where before there was none. The ability to negotiate freely allows bargainers to allocate certain risks between themselves by opting for a regime of non-enforcement.[48] Indeed, the "[f]reedom not to contract is an integral part of the common law freedom to contract."[49] Thus, court-created obligations of good faith in negotiations, absent an explicit writing of the parties, would violate this right.

2. Agreements to Negotiate and Agreements with Open Terms

A second approach advocates that agreements termed "agreements to negotiate" and "agreements with open terms" should be enforced. However, this section reveals that this approach, though sound in theory, is susceptible to criticism in practice. The case law shows that the name and function of an "agreement to negotiate" is too close in form and function to an "agreement to agree."[50] Moreover, an "agreement with open terms" is quite like an "agreement to agree" as it requires the parties to enter into a final agreement.

a. Farnsworth

Nearly a decade after Knapp's thoughts were put to paper, Professor E. Allen Farnsworth published his innovative and thorough work on precontractual liability, offering a quite different perspective.[51] Farnsworth takes exception to Knapp's argument that existing contract doctrines are inadequate to protect the interests of each party.[52] Specifically, he argues that traditional contract doctrines, imaginatively applied, "are both all that are needed and all that are desirable."[53] Farnsworth frames his argument by outlining four regimes: the two polar regimes-negotiation and ultimate agreement―and the two intermediate regimes that may result from preliminary agreements-agreement with open terms and agreement to negotiate.[54] Farnsworth offers that each regime should be recognized as an independent agreement and, as such, should be analyzed by courts under existing contract doctrines.[55] Further, he notes that the intermediate regimes of agreement with open terms and agreement to negotiate impose the traditional duty of fair dealing between the parties.[56]

The troublesome part of Farnsworth's work is his stance regarding agreements with open terms. According to Farnsworth, under our hypothetical LOI, A Co. and B Co. have entered into a contract with open terms.[57] This contract would obligate A Co. and B Co. to negotiate toward a final agreement.[58] If negotiations should fail, however, the parties would be bound to put the matter before a court.[59] The court would then supply the missing terms or award damages to the injured party.[60] However, it is unclear from the agreement whether the parties intended this to be the case. Indeed, Farnsworth points out that much of the litigation on this issue has involved whether the parties intended to be bound.[61]

The better view, diverging from Farnsworth, is that an agreement with open terms is binding only as to that particular negotiation.[62] Under this regime, A Co. and B Co. would be bound to the agreed upon terms, but only for the purposes of these negotiations.[63] The presence of a good faith clause requires companies to use best efforts to reach an agreement.[64] However, inability to reach a final agreement in good faith should not amount to breach, nor should it bind the parties to submit the open terms to be supplied by the court.[65] If the parties intend for this to be the case, they may do so through more explicit writing.

In addition, it is difficult to see how Farnsworth's agreements to negotiate and agreements with open terms differ from agreements to agree. A line of cases from one jurisdiction illustrates how courts find it difficult to separate these agreements from agreements to agree.

b. Agreements to Negotiate as Agreements to Agree

Texas case law provides an example of how courts resist Farnsworth's approach since these courts argue that agreements to negotiate are no different from agreements to agree.

Radford v. McNehy is often cited for the proposition that agreements to negotiate in the future are unenforceable.[66] In Radford, the Texas Supreme Court declared that the "… general rule is unless an agreement to make a future contract be definite and certain upon all the subjects to be embraced, it is nugatory."[67] The court noted that "[a] contract between two persons, upon a valid consideration, that they will, at some specified time in the future, at the election of one of them, enter into a particular contract, specifying its terms, is undoubtedly binding …."[68] Further, "upon breach thereof, the party having the election or option may recover as damages what such particular contract to be entered into would have been worth to him, if made."[69] However, the court cautioned that "an agreement that they will in the future make such contract as they may then agree upon amounts to nothing."[70] The court stated that the reason for this rule is that there would be "… no way by which the court could determine what sort of contract the negotiations would result in, no rule by which the court could ascertain whether any, or, if so, what damages might follow a refusal to enter into such future contract."[71]

Later, in Maranatha Temple, Inc. v. Enter. Prods. Co.,an appellate court relied on Radford and several other appellate decisions, stating that "[c]ourts have long held that an agreement to enter into negotiations in the future is unenforceable." [72] Moreover, the court held that the words "good faith effort" or "best effort" are not talismanic; their presence in an agreement does not automatically mean that the provision which contains them is enforceable.[73] The court concluded that the fact that a particular agreement to negotiate in the future includes a term calling for the parties to put forth a "good faith effort" in the negotiations does not remove the agreement from the rule against the enforceability of such agreements.[74] As this line of cases reveals, calling these agreements to negotiate," and failing to erect recognizable distinctions between these and agreements to agree weakens their enforceability.

3. Agreements to Use Best Efforts

A third approach advocates that an agreement to use best efforts in negotiations, standing alone, is unenforceable. However, this view is susceptible to criticism, as many courts in fact find such agreements to be enforceable.[75]

a. Burton & Andersen

More recently, Professors Steven Burton and Eric Andersen published their thoughtful work on contractual good faith and outlined three types of duties that parties can contractually form during negotiations.[76] The first consists of specific, often procedural duties intended to govern the conduct of negotiations.[77] The second consists of a promise to make efforts to agree-the parties commit themselves to attempt to reach a final contract using phrases such as "best efforts" and "due diligence."[78] The third is a commitment to some terms in the final contract, which can be made only for purposes of negotiation or to bind the parties even if no contract is reached, with open terms left for a court to supply.[79]

Burton argues that courts should enforce specific procedural duties and contracts with open terms when the parties manifest an intention to be bound.[80] However, Burton stresses that a promise to make efforts to agree, without more, is too indefinite to be enforced.[81]

The criticism of enforcing agreements with open terms that bind the parties to ultimate agreement has already been addressed and need only be stated again in short form. First, courts will likely interpret these agreements as agreements to agree as they require the parties to reach ultimate agreement.[82] Second, it is likely that the parties do not intend to be bound to negotiate the agreement to completion.[83]

However, Burton's argument regarding promises to make efforts to agree deserves attention and criticism. Let's change our hypothetical for the purposes of this discussion by removing the agreement as to settled terms. This would leave the LOI with the good faith best efforts clause as the only enforceable provision in the agreement. According to Professor Burton, this clause alone would be too indefinite to be enforced.[84] However, this view appears to be inconsistent with current precedent. Several cases are illustrative of this argument.

b. Case Law Favoring Enforcement

The case law reveals that, quite contrary to the view of Burton, several courts are ready and willing to enforce such agreements. Itek Corp. v. Chicago Aerial Industries is a seminal case favoring enforceability.[85] In Itek, the parties executed an LOI after entering negotiations for Itek to purchase Chicago Aerial Industries's ("CAI") assets.[86] The LOI confirmed the terms of the sale and stated that each party "shall make every reasonable effort to agree upon and have prepared as quickly as possible a contract … embodying the above terms and such other terms and conditions as the parties shall agree upon."[87] However, the agreement also stated that "[i]f the parties fail to agree upon and execute such a contract they shall be under no further obligation to one another."[88] Shortly after the LOI was commenced, CAI received a better offer and informed Itek that it was not going ahead with the transaction.[89]

Itek brought suit against CAI for breach of contract.[90] Itek argued that CAI had breached its duty to negotiate in good faith by willfully refusing to negotiate toward the completion of the deal.[91] After the trial court granted summary judgment in favor of CAI, the Supreme Court of Delaware reversed, stating that the "parties obligated themselves to 'make every reasonable effort' to agree upon a formal contract."[92] Further, the court stated that "CAI willfully failed to negotiate in good faith and to make 'every reasonable effort' to agree upon a formal contract, as it was required to do."[93]

Channel Home Centers v. Grossman ("CHC") offers a similar example.[94] The Third Circuit held that a duty to negotiate in good faith is enforceable when it satisfies the other requirements of a contract in the jurisdiction.[95] In CHC, the plaintiff entered into a letter of intent with the defendant regarding the lease of commercial property in a shopping mall.[96] The letter of intent stated that the property owner agreed to take the subject property off the market during the negotiation process and agreed to negotiate the lease to completion.[97] The defendant, Grossman, subsequently entered into negotiations with a competitor of CHC.[98] Grossman ceased negotiations with CHC after receiving a better offer from the competitor.[99] CHC brought suit for breach of the good faith clause in the letter of intent, stating that Grossman breached the clause by entering into negotiations with a third party.[100]

Grossman argued that the clause was too vague to be enforced and that the parties did not intend to be bound by it.[101] However, the court held that these issues presented a jury question because they were not clear as a matter of law.[102] The court noted that the language and context of the entire negotiation process provided evidence of the parties' intentions to be bound.[103] The court referred to the LOI, which stated "to induce the Tenant to proceed with the leasing of the Store, you will withdraw the Store from the rental market …."[104] The court also noted that the promise to withdraw the store from the rental market, along with the promise to negotiate the transaction to completion, could provide sufficient evidence for a jury to conclude that the parties bound themselves to negotiate in good faith.[105] The court concluded that this language, along with the context of the negotiations, provided sufficient evidence to submit the question to a jury.[106] Several other courts have resolved similar claims for breach of good faith regarding the conduct of the parties during negotiations.[107]

Thompson v. Liquichimica of America Inc. offers an example of courts enforcing specific best efforts language.[108] In Thompson, the plaintiff argued that a clause in an LOI that bound both parties to use best efforts to reach an agreement was enforceable if the parties intended for the clause to impose a binding obligation.[109] The court held that the clause could be enforced.[110] The court reasoned that there is nothing illogical about permitting suit on the basis of an agreement to use best efforts to conclude an agreement.[111] The court noted that unlike an "agreement to agree," which does not constitute a closed proposition, and consequently is not an agreement at all, an agreement to use best efforts is a closed proposition, discrete and actionable.[112] Further, the court stated that such an agreement does not require that the agreement sought be achieved, but does require that the parties work to achieve it actively and in good faith.[113] Several other courts have found that a preliminary agreement to use best efforts or reasonable efforts to reach an agreement can be enforceable.[114]

In this regard, Burton's argument fails the test of empirical proof, with several courts accepting that an agreement to negotiate does satisfy the requirements of definiteness when it requires best efforts by both parties to reach a final contract.

B. Defining Good Faith and Conduct Constituting Breach

This subpart explores the scope of the duty of good faith when contracted for by the parties. The case law reveals that many, though not all, courts find that the scope of the duty is defined enough to be actionable and enforceable. This Article advocates that once a jurisdiction accepts that these agreements are actionable, the scope of the duty becomes clear through jurisprudential development.

Much has been written on what constitutes a breach of good faith.[115] Knapp suggests that courts should focus on a central question: "Why has the defendant refused to go through with the sale?"[116] Knapp offers certain examples of conduct that constitute breach such as a party simply changing its mind, searching for a better offer, or withdrawing after receiving a better offer.[117] However, Knapp specifically argues that walking away after negotiations have broken down does not amount to bad faith.[118]

A different approach is offered by Professor Summers, who defines good faith as an excluder, specifically listing what constitutes bad faith conduct.[119] Thus, for Summers, the central question is not whether a party has conducted itself in good faith, but whether the party has avoided conduct that constitutes bad faith.[120]

Temkin believes that courts should focus on the subjective intent of the defendant in walking away from the deal.[121] Drawing on the ideas of Professor Burton, Temkin argues that parties entering into preliminary agreements agree to forgo certain opportunities by entering into the agreements.[122] The central inquiry is whether the defendant had a subjective intent to recapture the foregone interest when the defendant withdrew.[123]

Farnsworth outlines good faith by turning to fair dealing and infers by analogy from court treatment of fair dealing in other areas.[124] However, the focus of Farnsworth's definition of breach of good faith is in seven contexts: refusal to negotiate, improper tactics, unreasonable proposals, nondisclosure, negotiation with others, reneging, and breaking of negotiations.[125] According to Farnsworth, breach can be found in any of these areas, but the actions of the parties and the surrounding circumstances determine whether breach has in fact occurred.[126]

Despite commentators' urgings, several courts have justified refusal to enforce good faith negotiation agreements by stating that the scope of the duty of good faith is vague. The Seventh Circuit stated:

How could [a party] know what terms and conditions the other side would demand? "Good faith" is no guide. In a business transaction both sides presumably try to get the best of the deal … So one cannot characterize self-interest as bad faith. No particular demand in negotiations could be termed dishonest, even if it seemed outrageous to the other party. The proper recourse is to walk away from the bargaining table, not to sue for "bad faith" in negotiations.[127]

A New York court has stated that "[a]n agreement to negotiate in good faith is amorphous and nebulous, since it implicates so many factors that are themselves indefinite and uncertain that the intent of the parties can only be fathomed by conjecture or surmise."[128] Similar arguments have been offered by other courts.[129]

The best argument for defining the parameters of what constitutes breach is first accepting that the duty of good faith actually exists when explicitly contracted for by the parties. This acceptance will allow increased jurisprudential development of what constitutes good faith, and in turn breach of the duty. In addition, judicial claims that the duty cannot be defined or enforced are undermined by the fact that many courts find the duty discrete and actionable.

Copeland v. Baskin Robbins U.S.A. offers an example of a court defining the contours of the contractual duty of good faith in negotiations.[130] In Copeland, the terms of an LOI for the purchase of a Baskin Robbins ice cream manufacturing plant specifically provided that "Baskin Robbins would agree, subject to a separate co-packaging agreement and negotiated pricing, to provide Copeland a three year co-packaging agreement."[131] Acknowledging that "a variety of complex terms remained for agreement," Baskin Robbins suddenly abandoned negotiations based on certain "strategic business decisions."[132] These decisions were largely based on a better offer received from another party.[133] Copeland subsequently filed suit alleging that the letter agreement "… constituted a contract to negotiate the remaining terms of the co-packaging agreement," which Baskin Robbins breached by "refusing without excuse to continue negotiations or, alternatively, by failing to negotiate in good faith."[134]

Baskin Robbins claimed that the clause was unenforceable as a matter of law.[135] The court stated it could see no principled reason why the parties could not enter into a valid, enforceable contract to negotiate the terms of a co-packaging agreement.[136] A contract, after all, is an agreement to do or not to do a certain thing.[137] Persons are free to contract to do just about anything that is not illegal or immoral.[138] Conducting negotiations to buy and sell ice cream is neither.[139]

The Copeland court also discussed the distinction between an agreement to negotiate in good faith and an agreement to agree. The court noted that a contract to negotiate the terms of an agreement is not, in form or substance, an agreement to agree.[140] If, despite their good faith efforts, the parties fail to reach ultimate agreement on the terms in issue, the contract to negotiate is deemed performed and the parties are discharged from their obligations.[141] Failure to agree is not, itself, a breach of the contract to negotiate.[142] A party will be liable only if a failure to reach ultimate agreement resulted from a breach of that party's obligation to negotiate in good faith.[143] For these reasons, criticisms of an "agreement to agree" as "absurd" and a "contradiction in terms" do not apply to a contract to negotiate an agreement.[144]

The Ninth Circuit has also found these provisions to be actionable and attempted to clarify the nature and character of an agreement to negotiate in good faith in Vestar Dev. II. v. General Dynamics Corp.[145] The court noted that the fact that parties commence negotiations with the intention of forming or amending a contract does not by itself impose any duty on either party not to be unreasonable or not to break off negotiations for any reason or no reason.[146] During the course of negotiations, however, things may be done which do then impose a "duty of continued bargaining only in good faith … For instance … in anticipation of an agreement the parties may, by letter of intent or otherwise, agree that they will bargain in good faith for the purpose of reaching an agreement."[147] Many other courts have held similar preliminary agreements enforceable.[148]

Thus, those courts who first accept that an enforceable duty can exist when specifically contracted for have little problem determining the scope of this duty.

C. Measure of Damages for Breach

Legal scholars also disagree on the measure of damages that should be awarded for breach of a duty to negotiate in good faith in a preliminary agreement. Indeed, Knapp actually predicted this split in the late 1960s when he wrote "[t]he harder question is whether the plaintiff's remedy should always be confined to reliance, or in some cases extend to full compensation for lost expectation."[149] For Knapp, the answer to the question of what remedy should be available was one that he would not even attempt.[150]

This subpart explores three views on the measure of damages for breach. Section 1 investigates the availability of the expectation measure for breach of the duty of good faith in negotiations. However, as the case law reveals, this measure is inappropriate as there is no way for a court to calculate the amount that should be awarded. Section 2 explores the view that the reliance interest should be awarded; however, this view also holds that this measure of reliance would include a party's lost opportunities. I argue that this measure of reliance is susceptible to the same criticism as it expands the scope of reliance to equal that of expectation. Lastly, Section 3 reveals an alternative view which advocates that the award should be equal to the harm suffered by a party including loss in share value. However, I argue that this approach is equally flawed due to problems in determining causation for decreases in share value.

1. The Expectation Measure

Farnsworth and Burton offer similar approaches in certain circumstances on the measure of damages. Farnsworth advocates that expectation damages can be most appropriate in certain situations for breach of an agreement with open terms.[151] Professor Burton goes beyond Farnsworth's theory and advocates that the expectation interest should be awarded in many cases. Burton provides:

Often … it is practical and appropriate to allow expectation damages based on the potential, but unrealized, final contract. That is so even when the parties are not bound to perform the settled terms. The key is whether the court can determine what the economic benefit of the final contract would have been to the injured party. Thus, when the parties have worked out many of the principal economic terms of their final contract in detail, there is no obstacle to allowing expectation damages based on the bargain tentatively agreed to, but never consummated.[152]

Returning again to our hypothetical, according to Farnsworth and Burton, A Co. should be able to sue B Co. for A Co.'s entire expectation measure, including expected profits, for breaching the agreement with open terms. However, the arguments of Farnsworth and Burton on the measure of damages have several problems. First, the courts are particularly reluctant to enforce expectation damages in these situations.[153] Accordingly, the Eighth Circuit argued that such agreements are invalid under Minnesota law due to the impossibility of calculating damages.[154] A federal court in West Virginia argued that "any amount of compensatory damages … would be pure conjecture."[155] More recently, a Virginia state court was faced with a suit alleging breach of good faith in negotiations of a corporate merger.[156] The court stated that "[i]t would be rank conjecture to assess damages as no one could predict what, if anything, further negotiations would accomplish." [157]

The argument that a court is unable to predict what further negotiations will accomplish is extremely useful in this context. Importantly, the new good faith reliance contract framework advocated by this Article does not bind the parties to reach final agreement even if certain terms have been agreed upon.[158] Rather, the agreement makes the parties conduct themselves in a prescribed manner during negotiations. As there is no final contract, there can be no award of breach of that final contract. Though there have been anomalies-a handful of courts have been willing to award the expectation measure in very limited circumstances[159]-a new damage theory is needed to provide uniformity in the law.

2. The Expanded Reliance Approach

Farnsworth diverts from Burton on the measure of damages for breach of an agreement to negotiate. Farnsworth believes that reliance is the appropriate measure of damages for breach of these agreements.[160] However, Farnsworth offers that the reliance measure should include lost opportunities in most cases.[161] Thus, Farnsworth would expand the reliance interest in an attempt to more closely put the party back in the situation it would have been in had the parties never entered into an agreement.[162]

According to Farnsworth, A Co. should be able to sue B Co. for breach of the agreement to negotiate and recover its reliance damages.[163] Farnsworth's argument that reliance damages are most appropriate is, on its face, correct.[164] However, Farnsworth's push to include lost opportunities in that measure increases uncertainty and expands the reliance measure to the expectation measure.[165] For example, A Co. will argue that it lost the opportunity to merge with another company. Moreover, A Co. will claim that this lost opportunity cost the company millions of dollars. A court faced with this argument would likely reject it for the same reasons that it rejects the expectation measure.[166]

3. Loss in Share Value

Temkin offers a third approach, stating that the "non-breaching party's damages can be measured by the extent that it has been harmed by its withdrawal from the market between the time when the parties entered into the 'agreement in principle' and when the withdrawing party terminated the negotiations in bad faith."[167] Though, like Farnsworth, Temkin rejects the benefit of the bargain measure of recovery in these situations, he argues that the measure of recovery should be limited to any changes in the valuation of the company between the time that the agreement is made and the other party breaches.[168]

Though Temkin offers a more limited scope of damages, it is likely that courts will resist his measure of reliance. Temkin does not contemplate that the valuation of the company can change because of outside factors that have nothing to do with the proposed merger.[169] For example, in the A-B hypothetical, any number of market changes could cause A Co.'s stock valuation to change. Nevertheless, according to Temkin, B Co. would be liable to A Co. for any loss in share value that has occurred.[170] Under this theory, courts would be challenged with the nearly impossible task of determining the cause of the loss in share value. Therefore, courts facing this argument should be reluctant to adopt this measure of damages as well.

IV. A New Approach: Shaping the Constructs of the Good Faith Reliance Contract Regime

As the cases above illustrate, good faith preliminary agreements have encountered mixed results when put to the test in the courts. In attempting to propose a new solution, a proper question to ask is "Why do we need these agreements in the first place?" The Seventh Circuit articulated the answer to this question well when it stated:

A complex business transaction such as the purchase of five companies requires a significant expenditure of time, effort, research and finances simply to arrive at its terms. The books of the companies must be carefully reviewed, difficult judgments of valuation must be made, financing must be secured, new corporations may have to be formed, and various timing and risk allocation issues must be spelled out in detail in the purchase and sale contract, obviously incurring substantial legal fees. Depending upon the specifics of the deal, other professional services such as accounting and financing may have to be commissioned as well. Together, all these costs in executing a complex transaction may consume more than a trivial portion of the benefit the parties hope to realize. This cost may be too high if it need be borne without some assurance that it will culminate in a sale.[171]

Thus, the parties wish to enter into these agreements to better allocate the risk each takes on during the course of negotiations.

The focus of this Article now turns to creating a framework that allows most, and not just a few, courts to recognize these agreements and uphold parties' intentions. In this Part, I outline the contours of the good faith reliance contract regime, advocating a limited scope and limited damages. In subpart A, I discuss how this framework, unlike an agreement with open terms, only contemplates closed terms for the purposes of that particular negotiation, thereby distancing the provisions from agreements to agree. Further, I reveal that this regime does not allow for a contractual duty to be inferred by the conduct of the parties, thus attempting to further prevent uncertainty. In subpart B, I discuss the appropriate measure of damages for breach of these agreements and explore the justifications for awarding only limited reliance damages. Lastly, subpart C advocates that the language used in defining the agreements-i.e. good faith reliance contract-will help the courts to recognize the difference between these agreements and agreements to agree.

A. Limiting the Scope of Good Faith Reliance Contracts

The current expanded scope of preliminary agreements creates uncertainty and provokes judicial hostility.[172] I argue that two changes are needed to resolve this problem: (1) recognition that an agreement with open terms that binds the parties to reach ultimate agreement is not contemplated by the good faith reliance contract framework and should not be enforced without extensive manifestation on behalf of the parties to be bound, and (2) insistence that a contractual duty of good faith will not be enforced in the absence of an explicit writing.

The fact that courts struggle to differentiate an agreement with open terms from an agreement to agree is not surprising.[173] According to Farnsworth and Knapp, both agreements would require the courts to enforce future agreements with terms that have not been agreed upon.[174] In the event that the court is unable to fill in the gaps and order the contract to be enforced, scholars suggest that expectation damages can be appropriate.[175] However, the courts generally appear to be unwilling to stretch traditional contract doctrines this far.[176] If, however, it is found that agreements with open terms are unenforceable, I argue that a new avenue can be created for the enforcement of good faith reliance contracts.

The good faith reliance contract, quite different from the agreement with open terms, does not require that the deal go through. Thus, the courts would not be called upon to supply missing terms or stretch traditional contract doctrines. Indeed, as the Copeland court explained, "[a] contract, after all, is an agreement to do or not to do a certain thing."[177] An agreement to negotiate satisfies this requirement by requiring the parties not to engage in conduct that constitutes bad faith.[178] Furthermore, a jury is just as capable of determining what constitutes bad faith under the circumstances as it is of determining what is reasonable under the circumstances. If the parties manifest an intention to require a heightened standard of conduct during negotiations, the courts should not refuse to enforce the agreement in the absence of immoral conduct.[179]

It is important to note that the manifestation of an intention to be bound evidenced by an explicit writing is an integral part of the new framework. As discussed, allowing a duty of good faith to be inferred in the absence of a writing falls outside the permissible bounds of contract law.[180] Thus, the exclusion of an artificial duty obviates problems encountered when attempting to discern the parties' intentions. For this reason, the good faith reliance contract regime will not enforce a contractual duty of good faith in negotiations in the absence of a writing.

B. Measuring Damages: Holding Back Expectation and Advocating Reliance

As discussed, courts have shown much hostility toward awarding expectation damages for breach of agreements to negotiate.[181] Further, analysis reveals how Farnsworth's push to expand reliance toward expectation does little to aid the enforcement of these agreements.[182] I argue that, in all cases, the award should be limited to the expenditures of the party harmed by breach of the agreement. The reasons for this are many.

First, limiting reliance to one party's expenditures provides the court with a concrete way to measure damages. Indeed, the information would be easily ascertainable in the company's tax records and books.[183] Second, it avoids triggering the court's bias against agreements to agree as the party harmed is not pointing to any ultimate agreement. The party only wishes to recover the losses it suffered by negotiating with a party that conducted itself in bad faith. Moreover, it does not require the court to gaze in a crystal ball and predict what lost opportunities the company suffered.

Third, and importantly, it encourages efficient breach of contract.[184] A party will breach the agreement only when it is economically prudent to do so.[185] For example, B Co. will only breach the good faith reliance contract with A Co. if the deal with C Co. will cover A Co.'s reliance expenditures and produce profit in excess of that amount. In doing so, A Co. will recoup its expenditures and search for another company with which to merge.[186] In addition, B Co. will be better off by making more profits in the B-C deal.

C. Getting Around Courts' Fixation on Agreements to Agree

As Texas cases show, courts struggle with distinguishing agreements to agree from agreements to negotiate.[187] Though Farnsworth and Knapp have attempted to steer the courts in the right direction by calling these agreements "contracts to bargain" and "agreements to negotiate,"[188] the phrases used are too close in form and function to agreements to agree.[189] I propose that these agreements should be given the more helpful title of "good faith reliance contract."

This title helps the courts in many ways. First, it puts the court on notice as to what the subject matter of the provision is: good faith. Second, it notifies the court that the parties have not contemplated the award of expectation damages for breach. Indeed, the inclusion of the term "reliance" suggests that each party is relying on the other to conduct itself in a certain manner. One party's deviation from the agreed-upon mode of conduct should entitle the other party to a limited recovery of expenditures. Last, calling the agreement a contract reflects the parties' intention to be bound. It also would tend to disassociate the agreement from the misconceptions of precontractual liability and agreements to agree in the mind of the courts. Instead, it would shift the courts' attention to the more familiar area of contract law. Indeed, a good faith reliance contract does not contemplate precontractual liability, but is based on contractual liability. Moreover, as the court in CHC suggests, the contract should be honored when it satisfies the other requirements of a contract in the jurisdiction.[190]

It is also important to note that the change in terminology is not just a game of semantics. The new terminology reflects the differences between agreements to negotiate and good faith reliance contracts. Under the framework of a good faith reliance contract, the parties are not bound to reach an ultimate agreement, a duty of good faith may not be inferred in the absence of an explicit writing, and the remedy for breach is a limited form of reliance. Further, the new framework encourages parties to explicitly set out the scope of the duty in each particular good faith reliance contract.[191]

V. Drafting Provisions of a Good Faith Reliance Contract

The time to win a suit for breach of a good faith reliance contract is at the time the document is drafted.[192] In subpart A, I outline a method to overcome some of the obstacles the contracts might face in the courts. In subpart B, I return one final time to the A-B hypothetical, and analyze what would happen under the new regime if the parties had entered into a good faith reliance contract.

A. Preventing Enforceability Problems

The first hurdle is proving intent. Many LOIs and agreements in principle will contain specific language stating that the agreement is non-binding.[193] The presence of this language invites uncertainty as to whether the parties intend to be bound by a duty of good faith in negotiations.[194] For this reason, I suggest that the parties reference a separate binding good faith reliance contract in the LOI. The parties should then execute the separate good faith reliance contract. The purpose of this is two-fold. First, since the parties will be signing a completely separate document, it puts the parties on notice that there is a separate agreement which mandates that the parties conduct themselves in a certain manner. Second, the fact that the good faith reliance contract itself does not contain any non-binding provisions will make it extremely difficult for a court to find that the parties did not intend to be bound. Indeed, it will make it difficult for either party to attempt to insert uncertainty at trial.[195]

The second hurdle is defining the duty of good faith to which the parties are agreeing. For this reason, the parties should clearly define the negotiation framework.[196] Specifically, the parties should list conduct that constitutes bad faith.[197] This will provide a court with the proper framework for determining breach of the agreement.[198] It will also put the parties on notice as to the conduct that is expected during the process of negotiations. In addition, a good faith reliance contract can be specifically tailored by the parties to prohibit certain conduct, including shopping for a better deal and enforcing confidentiality terms, and can state the expected scope of disclosure.[199]

The last troubled area to avoid is the measure of damages for breach of the agreement. The good faith reliance contract should specifically indicate what costs should be borne by the party breaching the agreement in bad faith.[200] This would include defining the measure of reliance. It would also allow the parties to provide a liquidated damages provision drafted to approximate a party's lost opportunities in the event of breach.[201] Thus, this provision would not require a court to predict what the lost opportunities would be. Indeed, it would be an instance where the use of a liquidated damages provision would be most appropriate.[202] Moreover, the use of liquidated damages provisions has been found to be particularly appropriate for breach of a consummated merger agreement.[203] The same logic holds true for breach of a good faith reliance contract, as both agreements are susceptible to inherent problems in calculating damages.

B. A-B Hypothetical Under the New Regime

It is important to address what would happen under the A-B hypothetical if the case were to come up under the regime of a good faith reliance contract. For the purposes of illustration, I will assume two different scenarios. First, I will explore the scenario where the original agreement of the hypothetical is put before a court that accepts the contours of the new good faith reliance contract framework. Then I will discuss what would happen if A Co. and B Co. had entered into a separate good faith reliance contract specifying the scope of the duty and stating the damages contemplated for breach.

1. A&B Under the Original Hypo

Under this scenario, A Co. and B Co. have entered into an LOI with a good faith clause. A court faced with deciding this case under the new regime would first look to see if the clause satisfies the requirements of a contract in its jurisdiction.[204] The court would analyze whether the parties expressed a mutual intention to be bound and whether there was bargained for consideration. As discussed above, it would appear that a litigable issue exists as to the parties' intent.[205]

The jury would be asked to determine whether B Co. engaged in bad faith by negotiating with another party. As some of the cases above show, if a binding duty of good faith is agreed to by the parties, another party shopping for a better offer appears to be per se bad faith. However, if A Co. is able to succeed on these arguments, the court will only award A Co. its reliance expenditures in working up the deal.

It might be argued that this would be an unjust result as A Co. has not been put back in the same position as it would have been had the merger actually gone through. However, the new regime does not contemplate a final agreement. Moreover, as argued above, awarding A Co. its expectation or lost opportunities would be nearly impossible due to the court's inability to predict the outcome of a future agreement.

2. A&B Hypo with a Good Faith Reliance Contract

The foreseeability of the result of actions taken by B Co. under the second scenario changes drastically. Under the scenario where A Co. and B Co. have entered into a separate binding good faith reliance contract, the outcome is fairly clear in a court following the new regime. Indeed, it could be argued that the issue probably would not even make it to the courts.

Under this scenario, B Co. will probably have contemplated the amount it would be liable to A Co. for breach of the good faith reliance contract. B Co. would not have entertained the deal from C Co. unless the expected profits absorbed the liability it owed to A Co. under the contract.

If the issue made it to the courts, the result would be clear. The contract manifests a mutual intention to be bound and is backed by bargained for consideration. By entertaining other offers, B Co. engaged in a specifically listed type of bad faith. A Co. would be awarded its reliance expenditures plus any liquidated damages that were set to reasonably approximate its losses and were not set to be punitive.

Under either scenario, however, the result becomes increasingly clear and allows the courts to further develop this area of the law using traditional contract doctrines. Further, the new regime allows practitioners to better predict outcomes and, in turn, better advise their clients.

VI. Conclusion

This Article reveals the complex nature of agreements to negotiate and the wide variation in their enforcement. This wide variation leads to disparate results for harmed parties and increases confusion for courts and practitioners alike. The case law reveals that, according to many courts, the current approaches are too close in form and function to agreements to agree. Quite unlike the old approaches, the good faith reliance contract framework is tailored to bring unity in the law and provide for predictability.

Under the proposed regime, courts will be empowered to better define what constitutes bad faith in negotiations. Moreover, the increased use of good faith reliance contracts will make it easier for courts to determine breach under each individual contract. Under the proposed regime, closed terms are only used for the purposes of negotiations and the parties are not bound to reach final agreement. Further, courts should not allow a party to expand the measure of damages past reliance. If the parties wish to protect their possible lost opportunities, they may do so through a liquidated damages provision in the good faith reliance contract. Lastly, a good faith reliance contract will only be enforced in the presence of a writing by the parties. A separate duty of good faith in negotiations inferred without a writing violates traditional contract law and is not contemplated under this new framework.

This new regime comes at a time when it is most needed. With the current merger boom, more and more deals are likely to fail. This new framework balances the competing interests and advocates a middle ground. Good faith reliance contracts, if implemented, will serve an important role in protecting each party in the high-stakes world of billion dollar merger negotiations.