The Real Impact of “Knowledge” in a Purchase Agreement

When two parties enter into a stock or asset purchase agreement, clearly outlining their understanding of the transaction is essential in order to make the deal work. Properly defining “knowledge” in a purchase agreement is one way to accomplish this. By defining terms and providing an understanding of the subject matter of the contract, the parties can garner a better understanding of what to expect in their agreement. When it comes to knowledge, the party that has the least knowledge of the particular matter is typically the party to make a claim if there is a dispute regarding that particular matter.

For example, in a stock sale, despite due diligence (which may not uncover everything), the buyer has to rely on the knowledge that the selling corporation is complying with all laws. Similarly, the seller is really the only person that has knowledge of any pending legal claims. These knowledge qualifications are important because they help to ensure that the parties understand what is required of them under the terms of the contract and how they will be held accountable if any lawsuits or legal claims are asserted after the closing. As the saying goes, the devil is in the details – and this is especially true when it comes to understanding the terms and conditions of a purchase agreement. 

Where things get tricky is when you begin to blur the line between what the buyer or seller “actually” knew versus what they “should have known.” How much investigating had the seller done prior to the sale and what did the investigation uncover (or would have uncovered if the seller completed the investigation). 

For example, let’s say that the seller vaguely remembered a report from a supervisor noting that a specific aspect of the asset of the company, or aspect of the business, may not be compliant with the laws. Technically, the seller doesn’t know of any actual noncompliance – this was just a report from a supervisor alerting the potential of noncompliance. However, if the seller is held to a “should have known” standard, then the law would have required an investigation into this report, which could have uncovered a violation of the law. You can see how muddy the waters can get with this small, but consequential detail. 

In order to ensure that you have a thorough understanding of the obligations that you are entering into, it is extremely important that you carefully review the information contained in the purchase agreement and understand the risks that are being taken on by each of the parties involved. Knowledge, and other definitions and other clauses in the contract, serve to define key terms of the agreement and provide important information about the transaction to the parties and allow for a clear understanding of their obligations and risk under the contract. As such, it is important to have a thorough understanding of all of the terms included in the agreement and to fully comprehend all of the implications that it may have on your business operations going forward. 

The Law Offices of Tyler Q. Dahl can provide an expert assessment of your contract agreements and provide valuable insight into potential issues with an agreement before you sign. Don’t wait until you’re waist-deep in a bad deal; contact us today to schedule your consultation.

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