It is common for a buyer, following the acquisition of a company, the acquirer—dissatisfied with the business—attempts to seek compensation for damages based on the withholding of material information or tries to have the contract rescinded on the grounds of fraud or fraudulent concealment.M&A: Attribution of Knowledge—Duty to Disclose, Fraud, and Fraudulent Withholding of Information—But Who Holds the Information?
The buyer faces two sets of problems:
- In practice, it is the target company that holds most of the information relevant to the acquirer. However, the contracting party subject to a duty to disclose information—or who may be liable for fraud—is usually the seller.
- Furthermore, if the transferor is a legal entity, the thorny question arises as to what knowledge can be attributed to a company. Since a legal entity cannot, in practical terms, possess information—as it lacks a memory—it will necessarily be necessary to attribute to it the knowledge held by natural persons, who will be either the officers or employees of the transferor or those of the target company.
From this perspective, how can we determine the scope of individuals and recording media whose knowledge and content will be attributed to the transferor—who is very often a legal entity—with legal effect during precontractual negotiations?
These issues are all the more relevant given that the recent reform of French contract law has enshrined, in Article 1112-1 of the Civil Code, the pre-contractual duty to disclose information, which has its origins in case law. According to the new provision, this obligation to disclose information is limited to information of which a party is actually aware, implicitly excluding information that is not available to that party. An obligation to make inquiries was not included in the final version of the reform.
With regard to fraud, the reform of contract law has also codified the case law concerning the exceptional attribution to the other party of fraud committed by a third party (Art. 1138 of the Civil Code).
It is interesting to examine this issue from the perspective of comparative law, and more specifically German law, which in recent years has seen several court decisions and a wealth of legal scholarship on the subject. While German law has indeed addressed the issue of the attribution of knowledge (Wissenszurechnung)—without limiting itself to the areas of precontractual disclosure or fraud—French law, for its part, has remained hesitant on this subject.
I. The Attribution of Knowledge in German Law
German case law and legal doctrine have developed two approaches to determining whether (or not) to attribute to the assignor—and more specifically to a legal entity—the knowledge of a third party with respect to that contract: first, under German law, the acts and negligence of the person whom the contracting party uses to fulfill its precontractual or contractual obligations are attributed to the latter (Erfüllungsgehilfe, agent) (a)); second, case law draws an analogy with the provisions relating to representation (b)).
a) The “agent” (Erfüllungsgehilfe)
While the actions and knowledge of its own agents are normally attributed to the legal entity, case law employs the concept of *Erfüllungsgehilfe* to attribute either fraudulent concealment or active fraud, or a breach of the duty to disclose, to the contracting party, particularly the transferor (Verhaltungszurechnung).
Thus, the seller may be held liable for the actions of its own employees whom it used, for example, to set up the data room or to conduct the negotiations. The same principle applies to the target company with respect to the bodies and employees involved in the negotiations. The question of whether the seller made use of the person in question must be analyzed on a case-by-case basis. The seller must therefore be very careful when organizing the negotiation process.
b) Representation in knowledge (Wissenzurechnung)
The second approach relies on the provisions governing representation: if the validity of consent depends on the knowledge of a party, it is the representative’s knowledge that is taken into account, not that of the represented party itself (Section 166 of the German Civil Code (Bürgerliches Gesetzbuch, “BGB”)). The knowledge of a company’s representative is therefore, in principle, attributed to that company. By applying this provision analogously, German courts have extended these provisions to other persons classified as “knowledge representatives ” (Wissensvertreter¹), particularly when a natural person is entrusted with the task of obtaining and recording information on behalf of a legal entity and, where applicable, transmitting it. This may notably be the case for individuals involved in due diligence who do not necessarily hold positions within the transferring company. This concept is also applied to the definition of “best knowledge” in liability warranty clauses.
This analogy is justified by the concept of contractual equality (Gleichstellung): its purpose is to ensure that a legal entity’s counterparty is not placed in a less favorable position than if it were negotiating with a natural person.
(c) Contractual Arrangements
It is important to note that under German law, the parties may modify these provisions by contract. Thus, it is possible to exclude liability for an Erfüllungsgehilfe, even in cases of intentional misconduct (outside of standard-form contracts), or to preclude the attribution of the “representative’s” knowledge.
Such clauses must be drafted very carefully and clearly in order to precisely define their scope of application. Liability for fraud, however, cannot be excluded.
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II. The Incomplete Framework for the Attribution of Knowledge in French Law
Unlike under German law, no legal provision treats the representative as an indicator of the principal’s actions or knowledge, and a fortiori, the knowledge of a natural person as an indicator of the knowledge attributed to a legal entity. Similarly, the former provisions of the Civil Code provided, without further clarification, that fraud must originate from a party to the contract, thereby generally excluding fraud committed by a third party.
With regard to a legal entity’s knowledge, the Court of Cassation had recognized only the attribution of knowledge of information to its legal representative2. Thus, in the context of an acquisition, the legal representative’s knowledge was, in principle, attributed to the transferring company, and withholding that knowledge could lead to a finding of fraud, or, a fortiori, to a simple withholding of material information.
Case law had established other exceptions to this rule regarding fraud. The reform of contract law has now enshrined these exceptions in the Civil Code (Art. 1138): fraud committed by a “representative, agent, employee, or guarantor of the contracting party,” as well as by a third party acting in “collusion,” is to be attributed to the other contracting party. The legal codification of these judicial precedents and the inclusion of “collusion” could reinforce this broad approach to fraud through the attribution of knowledge. This could provide a basis for determining which natural persons—including third parties to the contract—and which storage media possess or contain information that can be attributed to a legal entity.
On the other hand—and this would be more difficult to accept under German law—a third party (such as the target company) that commits a fraudulent act may be required to pay damages to the victim of the fraud on the basis of tort liability.
Thus, in the event of fraudulent conduct by a third party toward the transferring company, the transferee also has a claim against that third party based on tort liability3.
However, the concepts remain vague. Could the “representative of the know-how” therefore be, as in German law, a person whom the transferor has authorized to organize the data room or to negotiate the contracts? The issue is not clearly settled under general law4.
Furthermore, the question of the extent to which Article 1138 of the Civil Code can be regarded as defining the scope of persons whose knowledge should be attributed to the party subject to the duty to disclose (beyond fraudulent concealment) is not at issue. Yet it remains an important issue. Due to the difference between fraudulent concealment and the duty to disclose, Article 1138 cannot be applied by analogy from the outset. German law distinguishes in this regard between the attribution of conduct and the attribution of knowledge. However, we cannot rule out the possibility that case law may develop a new concept along these lines.
Pending further development of French law regarding the attribution of knowledge, it is up to the parties to address this issue in their contracts. From the seller’s perspective, it will be important to limit the scope of individuals whose knowledge is attributed to the seller—or even to explicitly exclude certain individuals by name, to the extent possible—since liability is not supplementary for either fraud or a breach of the duty to disclose. Conversely, it is in the buyer’s interest to define the seller’s knowledge as broadly as possible. Those drafting these clauses must take great care to clearly define the purpose for which the information providers are listed (for the liability warranty, the duty to disclose, fraud, etc.).
Dr. Antje Luke and Vincent Capelle
1 BGHZ 117, 104 (106 ff.); NJW 1992, 1099 (1100): “any person who, according to the principal’s organizational structure, is responsible for representing the principal in legal proceedings, performing certain tasks under his or her own responsibility, and reviewing the resulting information and, if necessary, passing it on.”
2 Commercial Court Decision No. 14-10.965 of March 31, 2015. “Use of false certificates of conformity by the target company—necessity of proving that the transferor’s executive was aware of the facts”
3 CCom, October 7, 2014, No. 13-19.758.
4 CCom June 13, 1995, No. 93-17.409