A such uncertainty when an open stances. The most common situation - - PDF document

Reprinted with permission of The Marvland Bar Journal, published by the Maryland Bar Association

Do Your Best with "Best Efforts:" Using Open

Contract Terms

A

s the Court of Special Appeals recently noted in 8621 Limited Partnership v. LDG, Inc., 169 Md. App. 214, 228 (20061, there is a class of "open" con- tract terms that leave much in the way of interpretation before those terms can be applied. Such terms are used or implied where one party promises to try to achieve a certain result but will not or cannot guaran- tee success, or where the steps need- ed to obtain the result cannot be detailed precisely in advance. Promises to use "best efforts" or to make "reasonable efforts" to accom- plish a stated gda~ are common examples of such an open contract

• term. Because these terms have no

precise definition, however, an unwitting party may bind itself to more work than it planned, or could pay for less "effort" from the other party than it expected. The result, for the unwary, may be a trial before a judge or jury over the meaning of an amorphous contract provision, with any ambiguities only com- pounded where the contract's sub- ject matter is particularly specialized

• r technical.

This article briefly discusses the Maryland courts' efforts to apply such contract provisions, and sets out some considerations that might reduce such uncertainty when an open contract term is necessary or useful. Giving Content To "Best" or "Reasonable" Efforts. Maryland courts have encountered express contractual terms such as "best efforts" or "reasonable efforts" in a number of contexts. In the earliest, Ralph Cover v. Iohn C. Taliaferro, 142

• Md. 586 (1923), a business promoter

promised to use "reasonable efforts" to obtain investors in a new compa- ny to sell improved canning machin- ery. More recently, Schackow v. Medical-Legal Consulting Serv., Inc., 46

• Md. App. 179 (1980), considered

whether a consulting service had used "best efforts" in assisting an attorney to prepare a medical mal- practice case. In G. Heileman Brewing

• Co. v. Stroh Brewery Co., 308 Md. 746

(1987), a distributor promised to use its best efforts to comply with mar- keting plans to distribute beer. Most recently, the Court of Special Appeals applied a "best efforts" clause in First Union Nat'l Bank v. Steele Software Sys., Inc., 154 Md.

• App. 97,175 (2003), in which a bank

promised to use its "best efforts" in referring business to a company pro- viding loan settlement services. The Maryland courts have also found implied duties to use "reason- able efforts" in several circum-

• stances. The most common situation

is where performance of a contract is preconditioned upon one party's efforts to seek a government approval or obtain appropriate financing. See, e.g., Informed Physician Servs. v. Blue Cross & Blue Shield of Maryland, Inc., 350 Md. 308, 332-33 (1998). A homeowner, for example, may be required to use "reasonable efforts" to obtain a loan, if the contract is conditioned upon

• btaining financing, or a seller may

be required to use reasonable efforts . to seek a zoning change if that is required before a sale may close. In terms of content, the Maryland courts have found that a promise to exercise best or reasonable efforts, whether express or implied, contains two separate requirements of "good faith" and "reasonable diligence" in pursuing the stated goal. These two aspects were developed by drawing analogies to the law of negligence. See 8621 Limited Partnership v. LDG, Inc., supra. This formulation, howev- er, may not get one very far. A lack

• f good faith is a subjective issue that

can be very difficult to prove, and substituting "reasonable diligence" for "reasonable effort" does not bring one any closer to determining either the quality or quantity of effort necessary to be "reasonable."

March 2007 MARYLAND BAR JOURNAL

49

This leaves the factual problem of determining what level of effort is "reasonable" in a given context. "What will constitute reasonable efforts under a contract expressly or impliedly calling for them is largely a question of fact in each particular case and entails a showing by the party required to make them

• f activity reasonably calculated

to obtain the approval by action

• r expenditure not disproportionate

in the circumstances." Allview Acres, Inc. v Howard Investment Corp., 229 Md. 238,244 (1961). Where a dis- pute arises, and barring settlement, it will likely be resolved only after a trial, with the determination as to the meaning of "best"

• r

"reasonable" efforts within the factfinder's discretion. The Maryland cases do give some guidelines with respect to the outer boundaries of such disputes. For example, at the lower boundary, a complete failure to file an applica- tion for a needed government approval, a failure to follow up by providing needed documentation, or a failure to engage in other reason- able follow-up activities may show a lack of reasonable diligence. See Informed Physician Servs., supra. Where there is evidence thaka party desires to get out of a contract, such evidence has been used to find either a lack of diligence or a lack of good faith by that party in exercising best

• r reasonable efforts. See Bushmiller
• v. Schiller, 35 Md. App. 1,9

(1977). At the upper boundary, the Maryland courts have held that a party need not "incur extraordinary expense simply to establish reason- ableness or good faith." Informed ~ h ~ s i c i a i Servs.,

• supra. For example,

where a party is required to seek a government approval, and vigorously does so at the administrative or trial court level, the courts have found it unreasonable to require such parties to pursue appellate litigation. One Maryland case went so far as to find that no action was required to constitute reasonable efforts. In Cover v. Talinferro, supra, a business promoter promised to use "reason- able efforts" to secure investments in improved machinery for manufac- turing canned goods. When patents were not obtained on the equipment, however, the Court of Appeals found that the promoter could properly conclude that no efforts would be reasonable, based on a good-faith judgment that the promoter should not be required to impair his reputa- tion in selling stock in a company based upon equipment that was, essentially, valueless. Id. While this was certainly a unique circumstance, the decision in Cover might be more generally applied as a rule that one need not harm one's own business interests or reputation in order to exercise reasonable diligence. The Maryland courts have not drawn a distinction between "best efforts," "reasonable efforts" and any other variant of the term, such as "commercially reasonable efforts." As a matter of logic, such a distinc- tion could be possible. One common definition of "best," from the American Heritage Dictionary, is "[s]urpassing all others in excellence, achievement, or quality." The same dictionary defines "reasonable" in less exemplary and more pedestrian terms as "[nlot excessive or extreme, fair." Thus, certainly one could argue that "best efforts" requires

• ne to do one's best, not simply to

do something reasonable. Some non-Maryland decisions may support drawing such a distinc- tion in an appropriate case. As defined in one Delaware federal decision, "best efforts" requires a party to "do their best to accomplish the conditions necessary to complete the contract." Conley v. Dan- Webforming I~zt'l AIS, Ltd., 1992 W.L. 401628 (D. Del. 1992). In Bloor v. Falstaff Brewing Coup., 454 F. Supp. 258 (S.D.N.Y. 1978)) aff'd, 601 F.2d 609 (2d. Cir. 1979), which may be the most frequently cited single case on "best efforts,'' the New York federal court found that a "best efforts" pro- vision required a party not only to act in good faith but also to attempt to achieve the desired result "to the extent of its own total capabilities." Parallels have also been drawn between "best efforts" provisions and the duties of fiduciaries. See Daniel J. Coplan, When is "Best Efforts" Really " ~ e s t Efforts," 31 Sw.

• U. L. Rev. 725, 730-31, 734 (2002)

(stating that a "best efforts" clause "gives rise to a near fiduciary level of

• bligation"). One argument could be

that "reasonable efforts" requires the use of some reasonable approach, while "best efforts" requires one to do everything reasonable. See Kroboth

• v. Brent, 625 N.Y.S.2d 748, 749 (N.Y.
• App. Div. 1995) (finding that best

efforts requires pursuit of "all rea- sonable methods"). The merits of such arguments, however, will nec- essarily be bound up with the specif- ic contractual term, and the courts' evaluation of the expectations of the parties with respect to that contract. Minimizing Uncertainty. Given that a contractual promise to use "best" or /'reasonableN efforts is not amenable to precise definition, it would make sense for the parties drafting a contract to take some steps to ensure that their expectations for contractual performance will be met. There are several strategies that may assist in reducing the uncertainty associated with an open contract term such as "best efforts."

• 1. Limit

The . Scope With

SO

MARYLAND BAR JOURNAL March 2007

Additional, Definite Terms. If pos- sible, one can attempt to narrow the scope of the "best efforts" obliga- tions by providing additional con- tract terms that are more specific and that define the outer bounds of acceptable performance. In G. Heileman Brewing Co., supra, for example, the parties set out a specific list of elements that must be addressed in developing a marketing plan for beer, while the open term was limited to using best efforts to comply with the detailed plan. In First Union Nat'l Bank, supra, a bank promised to use its "best efforts" to refer settlement business to the plaintiff, but the open term was also

• coupled with a minimum amount of

monthly referrals. In the context of

• btaining a government approval,

the parties may consider limiting the

• pen term by setting out some detail

as to the procedural avenues that must be followed to obtain the desired approval. Other elements to consider in narrowing the range of acceptable "efforts" could include deadlines

• r

time limitations, minimum or maximum quantities

• f sales, or specific milestones.

2.

Pexformqnce Incentives. Performance incentives also may provide a means for reducing the uncertainty in a "best efforts" or "reasonable efforts"

• bligation.

Such performance incentives, for example, could include increasing royalty rates for distributing greater amounts of product, or an increased payment at closing if a necessary permit or approval is obtained by an earlier date. In such a case, the range

• f discretionary activity would not

be narrowed, as would be true if lim- iting terms were used. The incen- tive, however, could provide extra assurance that the party exercising the necessary efforts applies the appropriate diligence.

• 3. External Standards. Frequently,

a "best efforts" clause may appear where one party has expertise or resources in carrying out an activity, and agrees to use "best efforts" in pursuing that activity. An agreement to use "best efforts" to obtain approval from the Food and

Drug Administration, for example,

would require the party undertaking to

• btain

such approval to devote sufficient resources to the project and approach it with suffi- cient expertise in the pharmaceutical

• profession. In some cases, there may

be external codes of conduct or "best practices" that would provide some definition to how a task should be accomplished.

• 4. Expert Evaluation of Disputes.

Where an open contract term addresses a complicated or technical field of endeavor, the draftsman should address the concern that the standards that should apply may be difficult to explain to a jury, or per- haps even to a judge without prior expertise in that particular field. After a dispute arises, this problem would only be exacerbated by litiga- tion, in which one of the parties would have an incentive to make the steps required under the contract look as complicated as possible. To mitigate this risk, the parties may wish tb consider contracting to have disputes resolved in an alternative forum, such as arbitration. Selection

• f an arbitrator with appropriate

experience in or knowledge of the relevant industry or standards may provide a more reliable, and potentially less expensive, result if a dispute does arise.

• 5. Build A Record of Contract
• Negotiations. Because the meaning
• f a "best efforts" or "reasonable

efforts" clause is going to depend heavily upon the context and the parties' intent in drafting the clause, the contractual history may have more relevance in the case of an open contractual term,than in other con-

• texts. If, going into negotiations over

an open term, a party has defined or definite expectations as fo what should be required, it would make sense to document those expecta- tions, and inform the other party of them, at the time of drafting. Such discussions, along with language that was proposed and rejected, may be relevant to later interpretations of the final contractual term. By definition, parties use an open contract term such as best efforts or reasonable efforts in situations where the outcome of their endeavor is not certain and where the actions needed to achieve the desired result are not amenable to precise

• definition. Indeed, in such a context
• ver-specification of details could,

in fact, simply make it more burden- some to comply with the contract without adding any certainty to application of the open term. That said, however, appropriate limitations, incentives, references to external standards, and other such steps may help to assure that, if it does come to a dispute, your client is able to get the result for which it thought it was bargaining. By Randolph Stuart Sergent

• Mr. Sergent, a partner at Venable LLf:

handles commercial litigation. He may be reached af: rssergentQvenab1e.com.

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