M&A Insights: Comparing Delaware and Texas Governing Law for M&A Agreement Provisions
Client Alert | May 6, 2025
In the context of M&A agreements, the choice-of-law decision between Delaware and Texas could impact the interpretation and applicability of several common provisions. Below is a brief overview of distinctions and similarities that sellers and buyers should consider when negotiating the governing law provision.
Introduction
In large M&A transactions, sophisticated parties historically default to Delaware law to govern M&A agreements. This default treatment stems from more than just habit; it also applies in light of Delaware’s specialized business court – the Court of Chancery – decades of legal precedent, a sophisticated, business-minded judicial bench, and business-favorable statutory law, all of which combine to provide greater predictability regarding how M&A provisions will be interpreted in the event of a dispute.
However, several other states have recently renewed efforts to lure entities to incorporate in their states. In particular, Texas has created a new business court and is reforming its statutory law in an effort to encourage more companies to be formed in Texas and adjudicate their business disputes in specialized Texas business courts. If more companies choose to incorporate in Texas, and a fulsome, more predictable body of case law develops in respect of M&A disputes adjudicated in Texas, M&A counterparties may seek to supplant the standard Delaware governing law provision in their M&A agreements with a Texas governing law provision.
Below is a summary of the treatment of common M&A provisions under Delaware and Texas law and considerations for deal participants in selecting the governing law to apply to their M&A agreements.
Non-Reliance
In negotiating a non-reliance provision in an M&A agreement, the question is whether a seller can be liable for fraud for representations made outside of the transaction agreement. In Delaware, parties cannot contractually limit liability for fraud contained within the transaction agreement. However, parties can include a clear and specific non-reliance provision in the transaction agreement wherein the buyer agrees that it is not relying on representations made outside the transaction agreement. Such provisions effectively waive an essential element of a fraud claim, reliance, as it pertains to representations outside the M&A agreement, such as the confidential information memorandum.
In Texas, courts will similarly uphold clear non-reliance provisions to limit a seller’s liability for statements made outside the M&A agreement; similar to Delaware, a merger clause or a provision that states that the parties have not made representations outside the M&A agreement are insufficient to foreclose fraud liability. Consequently, carefully crafted non-reliance provisions should operate to eliminate liability for fraud outside the four corners of the M&A agreement under both Delaware and Texas law.
Sandbagging
“Sandbagging” refers to a buyer seeking indemnification for breaches of representations and warranties that it knew to be false prior to closing. Under Delaware law, if the contract is silent with respect to the ability of the buyer to recover for breaches of which it had pre-closing knowledge, a buyer can recover damages for breach of a representation even if the buyer had knowledge pre-closing that the representation was false. In other words, the buyer’s pre-closing knowledge of the breach does not matter. The policy behind this approach is that the parties negotiated for the specific terms of the contract, including the division of risk between the buyer and seller, and knowledge of the buyer should not undermine this allocation of risk.
In Texas, practitioners commonly state that reliance on the seller’s representations is required for a buyer to bring a claim for indemnification. In other words, the buyer’s knowledge does matter if the contract is silent with respect to the buyer’s ability to recover for breaches of which it had pre-closing knowledge. The policy behind this approach is that the buyer did not rely on the representation to its detriment by closing the transaction if the buyer knew the representation was false prior to closing. However, the case law in Texas addressing sandbagging is less than clear. While there is nothing in the case law suggesting that Texas follows Delaware’s view, there is not a modern case specifically accepting the proposition that the “default” in Texas is that pre-closing knowledge matters in the context of sandbagging.
Parties to agreements governed by either Delaware or Texas law can include contractual provisions specifically allowing or disallowing sandbagging. But if Texas governing law applies, it would be particularly advisable to allow or disallow sandbagging explicitly rather than remaining silent because there is some uncertainty in how Texas courts would address the issue.
Statute of Limitations
In the context of an M&A agreement, a state’s statute of limitations governs the deadline by which a party must bring a claim for breach of contract. In Delaware, the statute of limitations for non-Article 2 claims is three years. However, parties can contractually agree to lengthen the statute of limitations to up to twenty years so long as the contract is in writing and involves at least $100,000. The statute of limitations in Texas for non-Article 2 transactions is four years. In contrast to Delaware, parties may not contractually agree to lengthen the statute of limitations beyond the four-year statutory period. As a result, Delaware affords parties more flexibility than Texas to negotiate a longer contractual survival period for breach claims.
Material Adverse Effect
An M&A agreement will often allow a buyer to walk away from a deal in the interim period between signing and closing if the seller’s business suffers a significant negative impact. This concept is contained within a material adverse effect (MAE) closing condition. Whether a particular occurrence constitutes an MAE can be a source of negotiation and disagreement.
There is a long line of Delaware cases interpreting the meaning of MAE clauses. In general, under this line of cases, the buyer must show that the negative change is long-term, unforeseen, and will have a substantial impact on the seller’s business. The negative impact must be seller-specific; industry-wide downturns are generally insufficient even if the impact on the seller’s business is severe. Even in Delaware courts, where MAE cases are commonly litigated, judicial determinations that an event constituted an MAE are extremely rare. A commonly repeated industry rule-of-thumb is that the seller’s financial results must decline at least 20% to trigger an MAE walk-away right.
In contrast to Delaware, very little case law in Texas exists interpreting MAE clauses. As in Delaware, whether an event is an MAE will likely depend upon the contractual language and the facts. Because the breadth of case law in Delaware provides parties a higher degree of predictability, parties signing M&A agreements governed by Texas law should be aware that in the event of future litigation, there is greater uncertainty regarding the ultimate interpretation of the MAE clause. This uncertainty may weigh in favor of including more precise contractual language in the M&A agreement describing the parties’ intent regarding what constitutes an MAE.
Lost Premium Damages
In an M&A deal where the target is a public company, the counterparties often negotiate what damages the target company can obtain in the event of a termination of the deal due to the buyer’s breach. A potential measure of damages is the diminution in the target’s share price caused by the deal failing to close, otherwise known as lost premium damages. Whether lost premium damages are an appropriate measure of damages has been hotly contested because the recovery, theoretically paid to compensate the shareholders, is retained by the target company. Some argue in favor of lost premium damages because of the practical difficulty in calculating damages without using the diminution in share price, because buyers would otherwise lack incentives to close the deal, and because the shareholders’ interests in the transaction closing closely mirror the target’s interest. Others argue against awarding lost premium damages because the shareholders, who were neither party to the M&A agreement nor third-party beneficiaries thereunder, cannot recover the damages themselves.
Following the latter reasoning, courts in Delaware historically have been reluctant to allow lost premium damages. In response to this reluctance, the Delaware General Corporation Law was amended in 2024 to specifically allow lost premium damages so long as the transaction agreement contains a provision allowing loss in shareholder value to be used as a measure of damages. Courts in Texas have not yet addressed the issue of lost premium damages. Given the debate outlined above, how Texas courts would view these provisions is uncertain.
If lost premium damages are a desired remedy, parties to M&A agreements governed by Delaware and Texas law should include a clause in the agreement specifically allowing lost premium damages. However, in the case of M&A agreements governed by Texas law, practitioners should consider additional contractual protections in the event that the lost premium provision is not upheld in court.
Successor Liability in Asset Purchases
Buyers in asset purchases typically do not inherit the seller’s obligations that are not specifically assumed liabilities in the deal. However, buyers can be liable for the seller’s debts and obligations, also termed successor liability, under several common law theories. First, the buyer expressly or impliedly assumes the liability under the transaction. Second, the transaction is a de facto merger under state law. Third, the transaction is fraudulent or was entered into to defraud creditors. Fourth, the buyer is a mere continuation of the seller.
Courts in Delaware mostly reject the traditional theories of successor liability and only impose liability on the buyer if the buyer expressly assumes the liability or if not allowing a creditor to recover from the buyer would be unjust given the circumstances. There is limited case law upholding successor liability under the traditional theories, but Delaware courts construe these narrowly. As a result, successor liability is relatively uncommon in Delaware.
In contrast, Texas’ successor liability law is governed by statute and is more restrictive than Delaware. Under the Texas Business Organizations Code, a buyer is not subject to successor liability unless required by statutory law or unless the buyer expressly assumes the liability under the transaction. This approach rejects the common law theories wholesale and provides parties with more certainty regarding whether a buyer can be held liable post-closing for a liability of the seller. In determining whether to subject the M&A agreement to Texas or Delaware governing law in the context of an asset purchase transaction, particularly in a transaction where the buyer wants to exclude particularly significant liabilities from the transaction, the buyer should weigh the treatment of successor liability issues under Delaware common law versus Texas’ statutory regime.
Conclusion
Delaware law is the default governing law for many M&A agreements due to its decades of case law, sophisticated bench, and business-friendly statutory law, which provide a high degree of certainty regarding the likely outcome of disputed matters. While Texas continues to build out its body of case law, there will be, in some respects, greater uncertainty for M&A agreements governed by Texas law. However, by being informed of the subtle differences in the relevant Delaware and Texas law, utilizing clear language that has been upheld in other jurisdictions, and contracting in the alternative so that protections are in place regardless of judicial interpretation, parties seeking to subject their M&A agreements to Texas governing law can help bridge the uncertainty gap.
Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. For further information, please contact the Gibson Dunn lawyer with whom you usually work, the authors, or the leaders or members of the firm’s Mergers & Acquisitions or Private Equity practice groups:
Mergers & Acquisitions:
Robert B. Little – Dallas (+1 214.698.3260, rlittle@gibsondunn.com)
Saee Muzumdar – New York (+1 212.351.3966, smuzumdar@gibsondunn.com)
George Sampas – New York (+1 212.351.6300, gsampas@gibsondunn.com)
Private Equity:
Richard J. Birns – New York (+1 212.351.4032, rbirns@gibsondunn.com)
Ari Lanin – Los Angeles (+1 310.552.8581, alanin@gibsondunn.com)
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