Letters of Intent to Develop Energy Projects
In many of my presentations to energy developers and utilities, I generally devote some time to letters of intent. They are common and sometimes necessary to begin preliminary negotiations for the development of an energy project. But when one party has incurred, or is about to incur, substantial costs, a letter of intent may be inadequate. The case discussed in this blog post is one example.
Developer is a minority-owned renewable-energy developer. Financer is in the business of developing and financing energy projects. Developer submitted a proposal to Southern California Edison (“Utility”) to develop a renewable-energy project. Though Utility did not accept the proposal, it invited Developer to participate in bilateral negotiations for a PPA. Developer began negotiations with the support of Financer to develop a renewable-energy project (“Project”).
Developer and Financer entered into a letter of intent (“LOI”) that provided: (i) Developer agreed to negotiate exclusively with Financer, (ii) Developer agreed to terminate any other discussions regarding alternative proposals regarding the Project, (iii) the LOI was “for discussion purposes only,” (iv) the LOI was not a commitment to transact by either party, and (v) any commitment must be based upon corporate approval, satisfactory due diligence, satisfactory documentation, and other conditions.
At some point after execution of the LOI, Financer informed Developer that it was fulfilling the terms of the LOI in a satisfactory manner. But thereafter, Financer believed that Developer was not satisfactorily fulfilling the terms.
Eventually, based on alleged statements made by Utility, Financer terminated the LOI. In response, Developer filed a lawsuit against Financer for (i) promissory estoppel, (ii) breach of the implied covenant of good faith and fair dealing, and (iii) negligent misrepresentation.
During the litigation, Financer filed a motion to dismiss Developer’s claims. This case is based on the court’s ruling on Financer’s motion to dismiss.
Promissory Estoppel and Breach of Implied Duty of Good Faith
First, the court considered the motion to dismiss Developer’s claims of promissory estoppel and the breach of implied duty of good faith. Developer argued that Financer promised to develop the Project with Developer, and to do so in accordance with an established timeline.
Applying the law of New York (per the terms of the LOI), the court granted Financer’s motion and dismissed these claims. The court reasoned that the LOI contained no clear and unambiguous promise by Financer because the LOI was “for discussion purposes only,” was not a commitment to transact business, and contained conditions that were not satisfied (e.g., approval by Financer’s corporate office). In addition, the LOI contemplated that the parties would execute a further agreement to contain the material terms required for development of the Project.
Because the LOI was not a real commitment to enter into the transaction, there was no binding promise upon which Developer could have relied.
The court further concluded that Financer did not breach any duty of good faith because Financer did not act inconsistently with the terms of the LOI. The express terms of the LOI stated it was not a commitment to transact, and any deal would be based on future negotiation and several conditions. “Because an implied covenant [of good faith] can only impose an obligation consistent with other mutually agreed terms of the contract, an implied covenant not to terminate the LOI . . . could not be consistent with the LOI given express language indicating that the LOI was not a commitment to transact.” As a result, the court dismissed Developer’s claim for breach of the duty of good faith.
Financer was not as successful with its motion to dismiss the negligent-misrepresentation claim. Under New York law, such a claim is based on (1) the existence of a special or privity-type relationship imposing a duty on the defendant to impart correct information to the plaintiff, (2) providing incorrect information, and (3) the plaintiff’s reasonable reliance on the incorrect information.
Based solely on Developer’s allegations, the court concluded that the claim could proceed further in the course of litigation. Because the parties entered the LOI, the court inferred that Financer was in a “special position of confidence and trust with [Developer] given the LOI required discussions to be kept in confidence.”
Developer then alleged that Financer provided incorrect information – Financer stated that Developer was performing in a satisfactory manner, when in fact Financer believed Developer’s performance was unsatisfactory. Developer alleged that its reasonable reliance on these alleged misrepresentations caused it to suffer damages by continuing to pursue development of the Project. Based on these allegations contained in Developer’s pleadings, the court denied Financer’s motion to dismiss. In effect, the court allowed Developer to continue pursuing its negligent-misrepresentation claim further in the litigation process.
This case illustrates the perils of relying on a letter of intent to a great extent. Based on the nature of preliminary negotiations, many parties to an energy project will insist on a letter of intent. While there is nothing inherently wrong about letters of intent, parties should not rely to such an extent that a formal agreement should be negotiated. In other words, if parties are at a point in negotiations where they will seek to hold each other to a transaction, a letter of intent is probably insufficient.