Why are NDAs so significant?

Confidentiality or non-disclosure agreements (NDAs) are regularly used in business to keep matters such as financial information and sensitive trading data out of the public domain.

In most M&A transactions the parties will enter into an NDA so that information on a target company can be shared with potential buyers without the worry that it may be misused or fall into the wrong hands.

But NDAs, and how they are being used, have been in the media spotlight following the revelations about their use in sexual harassment claims across many industries. The widespread nature of harassment claims, and social media movements such as #MeToo, have given victims the confidence to come forward and speak out despite these ‘gagging clauses’.

Warning to lawyers preparing NDAs

There is very little regulation governing the use of NDAs and the Solicitors Regulation Authority (SRA) is concerned that they may be being used to silence victims and prevent them from reporting harassment to the relevant authorities. A prime example of this is an agreement entered into by Zelda Perkins. Perkins left her role at entertainment company Miramax after she claimed Harvey Weinstein had sexually harassed a colleague of hers. She was required to sign an NDA produced by a law firm which, amongst other things, required her to use her “best endeavours” to limit what she said in any criminal case involving Weinstein. (It should be noted that Weinstein has denied the allegations made against him).

The law firm behind the NDA has been heavily criticised. When evidence on the subject was given to the Women and Equalities Committee the chair, Maria Miller, suggested that “they might not have been working within legal constraints”. Miller also claimed that the way the NDA limited Perkins’ disclosure “might be perverting the course of justice”.

This alleged misuse of NDAs has prompted the SRA to issue a warning notice highlighting a number of concerns around their use and how this could be a breach of the principles in the SRA’s Code of Conduct by the lawyers preparing them.

The warning notice reminds lawyers that they must not use NDAs to try and deter someone from reporting sexual harassment to the proper authorities or from co-operating with a criminal investigation. In addition, NDAs should not be used as a way of improperly threatening litigation against someone (Perkins said she thought she would go to jail if she breached the NDA) and anyone who signs an NDA should not be prevented from keeping a copy (Perkins was not allowed to keep a copy of the NDA she signed with Miramax).

The importance of NDAs in M&A transactions

Although the SRA and others are concerned about the ethics of using NDAs in sexual harassment claims, there are no such concerns around their use on corporate M&A transactions. NDAs play an important role in facilitating any deal but the parties should still be aware of their potential limitations.

An NDA will usually be drawn up at an early stage of the transaction and will seek to ensure that information about the target disclosed by the seller during negotiations remains confidential and is not used by the buyer other than for the agreed purpose of evaluating the target.

So if the buyer does breach the NDA, what can the seller do about it? It doesn’t matter how strict the NDA is, it is no guarantee that the information disclosed will remain confidential and an NDA will have significant limitations, particularly where the buyer has no intention of complying with it. Once confidential information has been released into the public domain, there is no way to make it secret again. The seller may be able to apply for an injunction to prevent the information from being released but only if it is aware a breach is about to occur which is unlikely. Once the information is released, the seller’s main remedy will be damages which may not cover the true value of what has been lost.

Prevention is better than cure!

So the seller needs to view an NDA as part of a package of measures aimed at protecting its confidential information throughout the transaction. The disclosure process needs to be properly managed and controlled with a contingency plan in place in case of a breach.

Other measures could include:

• making the information available in an online secure data room so access can be controlled and monitored more easily;
• limiting disclosure to non-sensitive information;
• clearly marking information as ‘Confidential’;
• keeping track of all the data disclosed as evidence in case of future litigation; and
• seeding traceable information in the disclosed information – include the seller’s granny in customer lists: if the deal aborts but she starts getting mailings from the prospective buyer this will provide strong evidence that the data has been used for an improper purpose!

Ethical lawyers (not an oxymoron)

NDAs are an essential tool in many legal transactions. But it is clear that they are also being deployed in situations where their use raises serious ethical concerns. Clients, and the lawyers who advise them, need to ensure that their use is legitimate and does not cross any ethical, regulatory or legal line.