Analysis of a Confidentiality Agreement

The guide below will walk through the most common clauses in a confidentiality agreement and common issues that may arise in drafting and negotiating the agreement.

Warning: The content below is dangerously exciting. If you think most Stephen King books are thrilling, then buckle up. Just kidding – the content below is highly detailed and excessively dry for most. If you’re particularly concerned about the exhaustive language contained in a non-disclosure agreement, then read on. Otherwise, feel free to skip the remainder of this chapter.

Introductory Paragraph

Most confidentiality agreements open with an introductory paragraph. It’s important not to skip this paragraph as several important points are covered. Keywords here have been bolded for emphasis:

“This Agreement is made and entered into between the undersigned, both individually and on behalf of undersigned’s business entity, its officers, directors, partners, shareholders, employees, brokers, agents and advisors (collectively “Buyer”), and Seller. Buyer has requested certain information for purposes of evaluating and investigating a possible acquisition through transfer of assets, stock, partnership interests, or otherwise, merger or joint venture involving all or part of the interests of the Seller (“Transaction”). Therefore, parties agree as follows: Buyer shall not disclose any information concerning the Seller, [other than as legally required] whether provided by Seller or by any third parties on behalf of Seller, and whether provided before, during, or after the effective period of this Agreement, except to Buyer’s employees, officers, advisors or other associated persons for the sole purpose of evaluating the Transaction, and only provided that such persons have agreed in writing to be bound by this Agreement.”

What the Introductory Paragraph Really Means 

• In the language above, the buyer is signing the NDA both individually and on behalf of the entity they’re representing. Some buyers may strike “individually,” thereby attempting to limit their personal liability, which is a reasonable request if the buyer is a financial buyer, such as a PE firm. However, this may be unreasonable if the buyer is a small, private business with a sole owner. In this case, it’s wise to ensure the buyer signs the NDA both on behalf of their entity and individually. 
• The NDA limits the buyer to using the information for the sole purpose of evaluating the possible transaction. 
• “Possible” is included to avoid implying any agreement between the parties until such an agreement is in writing. 
• The introductory paragraph also expands the scope of the NDA: 1) by people involved – to include reference to “third parties,” and 2) in time – to include information disclosed before execution of the NDA.

Definition of Confidential Information

The definition of confidential information is customarily one of the first paragraphs in an NDA and includes a general introductory paragraph, such as the one above. It’s sometimes also called “Definition of Evaluation Material,” “Confidential Information,” or simply “Information.” 

The seller’s goal is to define confidential information as broadly as possible and then explicitly list exclusions in a separate paragraph, which is typically called “Exclusions from Confidential Information.” Sellers attempt to broaden the scope by expanding the definition to include information that’s conveyed orally regardless of who disclosed it and in whatever form at any time (before or after executing the agreement). The seller will also attempt to include information “derived” from the “confidential information,” such as analyses, forecasts, or other compilations.

Buyers narrow the scope of the definition by including the phrase “to the extent” to prevent entire documents from being characterized as “confidential information” just because they contain one singular piece of confidential information. Alternatively, buyers prefer to use a narrow definition, attempting to exclude information conveyed orally or from third parties, information obtained before execution of the agreement, or requiring you to stamp information “confidential.”

The risk to the buyer of an expansive definition of “confidential information” is minimal due to the limited requirements of the agreement – to keep the information confidential. The potential for you to allege a breach and prove damages is minimal, and the evidentiary burden is on you to prove that the buyer disclosed confidential information. Therefore, in most cases, the parties agree to an expansive definition and then limit the definition by way of explicit exclusions. 

The type of information that can be included under the umbrella of confidential information is broad in scope. Confidential information doesn’t have to be limited to written information – it can also include information that’s transmitted orally. Any information that flows between the parties can be considered confidential. While this isn’t an exhaustive list, here are some common examples of confidential information passed between parties:

• Data
• Know-how
• Prototypes
• Engineering drawings
• Computer software
• Test results
• Tools
• Systems
• Specifications

This information can even range from schematics and photographs to strategic plans, customer lists, and financial data. It’s collectively referred to as “confidential information” or “proprietary information” throughout the agreement. 

The definition of confidential information is sometimes subject to negotiation. The seller often seeks a broader definition, such as “all information relating to the seller, which is disclosed to the buyer.” The buyer may seek to narrow the definition or require that “confidential information” be stamped by the seller. 

You may also want third-party confidential information to be deemed confidential. The buyer will want to narrow the definition of confidential information in order to avoid being “tainted” by the information. The definition can be narrowed by:

• Limiting it to information disclosed in writing, or oral disclosures reduced to writing within a specific time frame
• Specifically marking the information confidential
• Defining the information that is deemed confidential 
• Detailing the dates of disclosure

In reviewing the confidential information, the buyer may produce reports or summaries derived from the confidential information. The definition of “confidential information” should include these studies and analyses – often referred to as “derived information.”

As a result of the limited requirements of the agreement on the buyer and the fact that the evidentiary burden is on you, confidentiality and NDAs are rarely negotiated in practice. This is in direct opposition to the letter of intent (LOI) and the definitive agreement, which are heavily negotiated documents.

Examples of definitions of confidential information: 

“Evaluation Material includes, without limitation, the Transaction and the Seller’s intellectual property, products, services, technical and business information, and contact lists, together with all analyses, compilations, summaries, notes and data [derived information], and information conveyed in any form whether oral, visual, written, or electronic, and whether provided to Buyer before or after the date of this agreement.”

“Any information concerning Seller, regardless of form, manner or nature of information, which is provided to Buyer, and any notes, summaries, compilations, analyses or other documents prepared by Buyer to the extent that they contain or are based on, in whole or part, information provided to Buyer.”

“All of the Disclosing Party’s (i.e., Seller) business plans, present or future, or potential customers (including the names, addresses, needs and/or any other information concerning any customer or consumer), marketing, marketing strategies, pricing and financial information, research, training, know-how, operations, processes, products, inventions, business practices, databases and information contained therein, its wage rates, margins, mark-ups, finances, banking, books, records, contracts, agreements, principals, vendors, suppliers, contractors, employees, applicants, skill sets of applicants, sales methods, marketing methods, costs, prices, price structures, methods for calculating and/or determining prices, contractual relationships, business relationships, compensation paid to employees and/or contractors, and/or other terms of employment, employee evaluations, and/or employee skill sets.”

Common Issues in Defining Confidential Information

Here’s a summary of the most common issues you may encounter when defining confidential information:

• Derived Information: “Derived Information” is sometimes treated separately with its own restrictions. In reality, the buyers’ analyses of the business may be inseparably fused with their own proprietary models, and buyers may therefore want to ensure that you don’t obtain rights to the buyer’s proprietary formulas, methods, forecasts, or other intellectual property. A happy medium is often achieved by defining confidential information to the extent that it explicitly includes your confidential information.
• Labeling: A “labeling” or “legending” requirement demands that you label any information that’s confidential. In reality, this is an impractical administrative burden due to the high volume of information exchanged in a transaction, as well as how much of the information is electronic or oral, such as management discussions or customer interviews. You should vehemently resist any legending requirements. Requiring you to stamp documents in the information age can drastically slow down due diligence and potentially kill the deal due to the burden this causes the parties, which results in a significantly slower process. 
• Oral Information: Most of the information provided to buyers in an M&A transaction is oral, such as interviews with managers or negotiations with key stakeholders. For this reason, any definition of “confidential information” should include information that’s conveyed orally.
• Obligation to Provide Information: The agreement shouldn’t obligate you to provide any information if you don’t want to. In certain cases, a sophisticated buyer may include language that requires you to provide the buyer with any information you have offered to other buyers. But, such an obligation may be unreasonable in the case of a requirement to disclose sensitive information to a direct competitor. For example, it’s riskier to share customer information with a direct competitor than with a private equity firm that doesn’t directly compete with you. In general, contracts include an implied duty of good faith, which can be argued to negate the need for an explicit duty for you to provide information. Additionally, different information is customarily shared with different groups of buyers, and such an obligation to provide information would greatly restrict your strategy regarding what, when, and to whom the specifics should be released.

Example: “Seller has no obligation to provide Buyer any confidential information, and Seller retains the right, in its sole discretion, to determine what information to provide to Buyer.”

• Time Frame: The buyer might attempt to exclude information that wasn’t obtained in connection with the possible acquisition or information that was obtained before execution of the NDA, such as a teaser profile or financial details. A well-drafted NDA should cover the time period before the execution of the NDA. Even with a clause covering before the execution of the NDA, the time frame would still exclude information listed in the “Exclusions” section, such as facts that are “generally known or available to the public.”

Exclusions From the Definition of Confidential Information

Immediately after the “Definition of Confidential Information” there’s normally a paragraph listing specific exclusions to the definition. Your definition of confidential information should be as broad as possible in scope, and then you should list any exclusions separately.

The buyer will want broad exceptions to the definition of confidential information. Typical exclusions include information: 

• Publicly known or in the public domain prior to the time of disclosure.
• Publicly known and made generally available after disclosure through no action or inaction of the buyer.
• Already in possession of the buyer.
• Obtained by the buyer from a third party. 
• Independently developed by the buyer.

Disclosure Period

Information not provided during the disclosure period is also sometimes excluded from the definition of confidential information. You should include language that covers information disclosed prior to the execution of the agreement to ensure that all information is protected, regardless of when it was disclosed.

Sample Language and Commentary

• “Information already in the buyer’s possession provided the information is not subject to another confidentiality agreement.”
  • Comments: Buyers may try to add a “knowledge qualifier” here regarding the existence of a confidentiality agreement, such as “to buyer’s knowledge,” “to the best of buyer’s knowledge,” “to buyer’s actual knowledge,” or “to buyer’s constructive knowledge,” to protect themselves in the event of an unknown confidentiality agreement that may address the information. Another more restrictive definition designed to shift the burden of proof from you to the buyer could include “ … as established by documentary evidence … .”
• “Information available or generally known to the public, [other than as a result of disclosure of Buyer] [other than through the fault of the Buyer] [other than through a breach of this Agreement].”
  • Comments: Striking “generally” lessens the burden of proof on you. Information “known to the public” could also potentially include information that becomes available to the buyer on a non-confidential basis from a third party.
• “Information Buyer develops without the aid of the confidential information,” or “Information that is independently developed by Buyer without the use of Confidential Information.”
  • Comments: Most attorneys representing the seller will have an issue with this clause because the burden of proof rests on the seller. It may be difficult for you to prove that the buyer’s summaries or analyses were provided by you if the buyer reconstructs the information in a different form. Additionally, once the buyer develops an understanding of the information, it may be possible for the buyer to reconstruct the information in such a manner as to intentionally recharacterize it so it would be excluded from the definition of “Confidential Information,” and the buyer could then use the information as they please, even competitively.
• “Buyer shall be free to use the residuals resulting from any Confidential Information provided hereunder for any purpose. “Residuals” means information in non‑tangible form, which may be remembered with access to the Confidential Information, including ideas, concepts, know‑how or techniques, in their unaided memories.”
  • Comments: Confidential information exists not only in writing but also in the mind of the buyer. It would be difficult for a buyer to “forget” or “destroy” the collective information when making key strategic decisions. The “residuals” clause addresses this concern by excluding information the buyer retains in their unaided memory from the definition of confidential information, though this depends on the definition of “residual information” in the agreement. 
  • In reality, if the NDA includes a “residual clause,” a buyer may use any information the buyer retains in their “unaided memory” (“residual information”) without violating the terms of the NDA. This allows a buyer to use the “general knowledge” acquired. But, the buyer couldn’t use specific information, such as software code. The argument advanced by proponents of the residual clause reasons that people acquire information holistically over time, and it would be difficult to consciously separate generalized information from their thought processes. While this may be true in the case of those who negotiate transactions for a living, such as private equity firms, careful consideration should be given when drafting this language if you’re negotiating with a direct competitor and sharing highly confidential information. 
  • Work with your counsel to restrict the scope of the clause in such a case, such as excluding rights to intellectual property or stating that no license is being granted to the buyer to use such information. Finally, consider employing additional strategies, including restricting highly sensitive information to select individuals or releasing this information only at later stages in the transaction once critical milestones are reached, such as signing a definitive agreement. 

In cases where you’re approaching direct competitors and must share highly sensitive information, preparing your business for sale is of paramount importance to ensure a brisk, problem-free sale, which thereby minimizes the possibility of damage. As a final note, disclosing sensitive information is a necessary evil when selling your business and is sometimes unavoidable, especially when selling to a competitor. 

Include language that covers information disclosed prior to the execution of the agreement to ensure that all information is protected, regardless of when it was disclosed.

Permitted Uses 

Also called “Restrictions on Use.” This section determines what the buyer can do with the information and ordinarily restricts the buyer to using the information solely for evaluating the transaction.

“Confidential Information will be used solely for the purpose of evaluating a possible acquisition and for no other purpose, including in any way detrimental to Seller.”

Buyers sometimes object to the phrase “in any way detrimental to Seller” and contest that such language could be broadly characterized to prohibit the buyer from using the information to compete with you, given that such competition would be “detrimental to Seller.” 

Financial buyers who own a portfolio company in your industry may also consider this language overly restrictive due to the difficulty of separating the buyer’s understanding of the industry from their knowledge. This issue is exacerbated by the fact that private equity firms and other financial buyers may evaluate hundreds or thousands of transactions per year. It may become an administrative impossibility to track thousands of NDAs across hundreds of portfolio companies in dozens of industries in which they may operate. 

In practice, the risk of damage is far less when disclosing information to a private equity firm than to a competitor, unless you’re dealing with an executive at one of the private equity firm’s portfolio companies. The executives you will deal with at a private equity firm are normally located at the corporate office and aren’t involved in the operations of their portfolio companies. 

For this reason, most investment bankers prioritize their buyer list according to risk and normally contact financial buyers first in the process due to the lower amount of risk involved. They will only contact direct competitors if they’re likely to pay a premium price. They will also contact direct competitors later in the process once the positioning and messaging are tightened up from feedback from the initial round of buyers. The initial conversations with buyers will highlight problems in your information memorandum so that these can be addressed and strengthened as the sales process unfolds.

Definition of Representatives

Confidentiality agreements restrict the buyer from disclosing confidential information to third parties, though an exception is often granted that allows the buyer to disclose confidential information to the buyer’s “Representatives” for purposes of evaluating the transaction. 

Most NDAs include a reference to the buyer’s employees, officers, advisors, and affiliates in the “Definition of Representatives” section. Buyers prefer an expansive definition, but such a provision can expose the buyer to increased liability if they retain liability for breaches made by their “Representatives.” 

Read this section diligently before signing. For example, the language may include “financing sources” without a clear definition of what the “financing sources” actually are. This could be extended to include any party that’s providing “financing,” whether debt or equity, and in any amount. With some creative thought, this could be used as a tool to vastly expand the scope of the NDA to include third parties without your explicit consent. 

“Representatives shall include the directors, officers, employees, agents, affiliates, [potential] financing sources, or third-party advisors.”

At a minimum, any third parties should be bound by the terms of the NDA, and the buyer should remain liable for any breaches made by third parties and bear responsibility for ensuring their representatives comply with the terms of the agreement. 

A possible exception exists for professionals who have an implied duty of confidentiality, such as attorneys and accountants. Additionally, use by any third parties should be explicitly limited to evaluating the transaction and for no other purpose – also covered in “Permitted Uses.” The following is sample language addressing the buyer’s liability toward their “Representatives”:

“Buyer will ensure its Representatives comply with the terms of this agreement and will be responsible for any breach of this agreement by its Representatives.” (Liability will be imposed on Buyer for breaches caused by Representatives.)

“Buyer shall keep all Confidential Information received by it confidential and shall not disclose Confidential Information, in whole or part, to any person, except to Buyer’s Representatives who need to know the Confidential Information for purposes of evaluating the Potential Transaction, provided that such Representatives are informed by Buyer of the confidential nature of the information and comply with the terms of this Agreement.” (No explicit liability imposed on Buyer for breaches caused by Representatives.)

In some cases, buyers will agree to take measures to ensure compliance with the confidentiality agreement by its representatives but absolve themselves from strict liability from doing so, with the exception of insiders, such as directors, officers, or employees. 

As an alternative, you could request that the buyer’s representatives sign a separate NDA, thereby offering you a direct remedy to the third party – for example, you could sue the third party directly, in addition to suing the buyer – or add the representative as a signatory on the NDA by way of a joinder, thereby accomplishing the same objective. 

Without a separate NDA with third parties or the buyer being liable for third-party actions, an NDA is toothless against the actions of third parties. In essence, you would lack the ability to enforce the NDA’s terms directly onto third parties, and the buyer would bear no responsibility for the third party’s actions. As a result, no one would be on the hook. 

The buyer should therefore bear responsibility for the actions of their “Representatives” in the absence of a separate NDA or joinder signed with the “Representatives.” Finally, the buyer should also be compelled to inform you in the event of a breach of confidentiality by their “Representatives,” as provided in the language below:

“Buyer agrees to promptly inform Seller in the event of a breach of confidentiality made by itself or its representatives and will assist Seller in remedying the breach.”

Many confidentiality agreements state that a breach caused by a “Representative” of the buyer will be treated the same as a breach by the buyer. If so, the buyer would have strict liability for the actions of its representatives. This helps ensure the buyer will exercise a high degree of caution in protecting your confidential information. 

Some buyers attempt to avoid strict liability for the actions of their advisors. If the advisor is playing a critical role in the sale process, it may be wise to ask the third-party advisor to sign a separate CA. This allows you to enforce the CA directly on the representative. As mentioned previously, attorneys and accountants have an implied duty of confidentiality, and their professional obligations are normally viewed as sufficient.

At a minimum, any third parties should be bound by the terms of the NDA, and the buyer should remain liable for any breaches made by third parties and bear responsibility for ensuring their representatives comply with the terms of the agreement. 

Confidentiality Regarding the Transaction

Sellers normally want to preclude the buyer from disclosing that negotiations are taking place or from disclosing specific terms of the negotiations, such as the price of the business. By the same token, buyers may also seek to prevent you from disclosing the terms of the transaction to other potential bidders, which serves to prevent you from “shopping” the buyer’s offer, or using one offer to drive up another. 

In most cases, the buyer will desire that this clause be mutual, whereby you’re also obligated to keep quiet regarding the deal. You should retain the right to disclose to other buyers that you’re in negotiations with another buyer without specifying the terms of the potential transaction. This allows you to leverage an offer without violating the terms of the NDA. Here is sample language:

“Each party agrees that it will not disclose to any person (other than its Representatives) the fact that discussions or negotiations are taking place, any terms of negotiations, or the identities of the parties thereto.”

“Without the prior written consent of the Seller, or as required by law, you will not disclose to any person: (i) the fact that investigations, discussions, or negotiations are taking place regarding a potential transaction, (ii) any of the terms, conditions or other facts regarding the potential transaction, or (iii) the existence of this Agreement.”

Standards of Care

An important point that must be covered in any confidentiality agreement is the standard of care by which the parties will be required to protect the confidential information. Most NDAs require that each party treats the confidential information in the same way it treats its own. But, this treatment should be acceptable only if the buyer has reasonably high standards for handling their own confidential information. 

Therefore, before signing a confidentiality agreement, it would be prudent to investigate the buyer’s practices regarding maintaining the secrecy of their own information. If those practices are substandard or nonexistent, the confidentiality agreement should contain specific provisions concerning limiting access to confidential information.

Permitted Disclosures 

Most confidentiality agreements allow disclosure in select circumstances, for example, when required to do so by law. The following is more information regarding the two most common types of permitted disclosures.

Disclosures to Third Parties

The agreement may either limit disclosure of the information to certain third parties, such as buyer representatives on a need-to-know basis, or prohibit disclosure to third parties entirely.

In order to evaluate the proposed transaction, the buyer may have to share the information with their advisors and employees. The buyer should inform these advisors of the confidential nature of the information and require these individuals to sign NDAs or agree to be liable for their breach.

Disclosure Required by Law

Most NDAs allow the buyer to disclose confidential information if required pursuant to a court order, but only to the extent required by law. In cases when the buyer is required by law to disclose confidential information, such as by governmental authorities, you should request advanced notice and also include language that requires disclosure only after a written opinion is obtained from their legal advisors. You can also modify the language to ensure that it’s “required” as opposed to “requested,” or attempt to limit the scope of the disclosure. This gives you an opportunity to defend the request before the information is disclosed. 

“Required” may be considered too strict by the buyer. “Requested” may be deemed a more reasonable standard so the buyer can cooperate with authorities instead of risking penalties or damaging relationships with authorities for not doing so, as shown below:

“In the event either party is required [requested] by law to disclose any of the Confidential Information, such party shall, to the extent permitted by law, provide the other party with prompt written notice and make such disclosures without liability.”

Some sellers prefer to obtain a legal opinion before granting the request to the buyer, though buyers may soften this language by modifying it to include “consulting with an attorney” or “upon the advice of outside counsel.” “Outside” is included, as the parties often prefer a neutral party’s advice, as opposed to the buyer’s or seller’s counsel. Additional modifiers may be included regarding efforts taken to obtain counsel, such as “best efforts” or “commercially reasonable efforts.” The agreement should also address who will bear the expense of obtaining a legal opinion or seeking legal counsel. A common approach to this is that the seller should bear the expense of protecting their own information.

Return of Information

Most NDAs require that at the end of the disclosing period, the buyer must return the confidential information, including copies or analyses. Given the prevalence of electronic data, the degree to which this protects you is questionable. 

In practical terms, it’s difficult to return all confidential information, especially information provided to third parties, such as the buyer’s “Representatives.” Many buyers forget to permanently delete electronic copies, including emails. Buyers prefer to destroy information, which is simpler and less costly than returning it. Despite the fact that many NDAs include a requirement to “return” information, few parties follow through on the promise. In reality, most NDAs are only reviewed in the event of a breach. Here is some sample language addressing “return of information”:

“At Seller’s request for any reason, Buyer will promptly return to Seller or destroy all Confidential Information … ”

“Buyer shall use commercially reasonable efforts to return or destroy Confidential Information stored electronically.”

An exception exists for buyers in regulated industries that are required by law to retain copies of certain information to comply with regulatory requirements. In these cases, buyers draft exceptions to their obligation to return or destroy information. This allows them to comply with document retention or other compliance policies or to address electronic information, which is often archived but difficult to destroy. As a safeguard in these cases, you may wish to retain certain precautions to ensure the request is legitimate by offering you the opportunity to review, approve, or be immediately informed of the request before any confidential information is shared, as in this example:

“Buyer may retain a copy of Confidential Information in the offices of its outside counsel, to the extent required to defend any litigation relating to this Agreement, or to comply with any legal or regulatory requirements or document retention policies.”

In most cases, the “Definition of Confidential Information” also includes the buyer’s analyses, compilations, and other models (i.e., “derived information”). The seller usually agrees that derived information will be destroyed, as opposed to returned, as buyers seldom desire to share their own analyses, since they may contain proprietary information.

Finally, a differentiation may be made between “certify” vs. “notify,” the latter being less restrictive on the buyer. 

Communications

Most sellers desire all communications to be funneled through them and wish to prevent the buyer from talking to third parties, such as employees, customers, or vendors. Exceptionally punctilious buyers will modify the language to ensure this does not serve as a backdoor non-compete by excluding “contacts made in the ordinary course of business.” Here’s a common clause I see regarding communications:

“Without the prior written consent of the Seller, you will not initiate any communications with the Seller’s employees, officer, director, agent, affiliate, supplier, distributor, or customer of the Seller regarding the Transaction and Confidential Information, except in the ordinary course of business.”

Non-Solicitation

You may wish to avoid having the buyer poach your employees, and you can do so by way of a non-solicitation or no-hire agreement. A non-solicitation agreement is less restrictive on the buyer than a no-hire agreement. In most cases, “non-solicits” and “non-hires” have a limited duration or may be limited in scope to specific employees, such as managers or other key employees, as in this example:

“Buyer agrees that, for a period of two years from the execution of this Agreement, Buyer will not solicit to hire any [officer or management-level] employee of the Seller without the prior written consent of the Seller.”

Any prudent buyer will wish to minimize their concerns of having to track the activities of their HR department to comply with the terms of the confidentiality agreement, especially if they evaluate more than a few potential transactions per year. The following language is intended to limit the scope of the non-solicit:

“Provided that Buyer will not be prohibited from using non-targeted or general solicitations which are not targeted at Seller’s employees, using search firms as long as such firms do not specifically solicit Seller’s employees, or hiring anyone who contacts Buyer independently without being solicited by Buyer.”

In larger companies, there’s also an issue regarding disclosure. How would a buyer inform their HR department not to hire someone from XYZ company (i.e., the “seller”) without raising eyebrows? Wouldn’t such a request raise unnecessary suspicions? 

To soften the requirements, buyers may limit the restriction to those who have access to confidential information, limit the scope of the non-solicit to executive-level employees, or limit the scope to only those employees introduced to the buyer. Alternatively, they may replace the “no-hire” with a “no-solicit,” which would prevent the buyer from actively poaching your employees but would allow the buyer to hire them in a generalized search or through search firms.

If you’re dealing with a private equity firm, you may be worried the PE firm will offer more lucrative terms to your management team than other buyers and that the management team will form a coup to intentionally derail any deal they don’t agree with. In these cases, I recommend the following language:

“Buyer agrees it will not engage in discussions with Seller’s management regarding the terms of their employment post-closing or until the earlier of (i) seller’s written approval, or (ii) the date a definitive agreement is executed between the parties.”

Buyers may also attempt to draft the non-solicit to be “two-way” if you’ll have contact with the buyer’s employees. This mutual language is most common when the buyer is a direct competitor.

No Obligation to Proceed

Most NDAs include a statement that the mere fact the parties entered into an NDA doesn’t give rise to an obligation to sign a definitive agreement. While it’s common knowledge that a CA doesn’t bind the parties to consummate a transaction, it’s good practice to state that neither party is obligated to consummate a transaction until a written agreement has been signed, as follows:

“ … until a written agreement between Seller and Buyer has been executed, neither party shall be under any obligation to consummate a transaction.”

“Each party reserves the right, in its sole discretion, to reject any proposals made by the other party, and to terminate negotiations at any time and for any reason.”

No Grant of IP rights

NDAs should include a clause that prohibits the buyer from licensing any intellectual property contained in the confidential information. Confidentiality agreements should also contain a provision stating that no implied license to the technology or information is granted to the buyer. 

The language should further state that all tangible embodiments of the information such as models, data, and drawings be returned upon request and in no event later than the end of the agreement term, and that the buyer shall retain no copies.

Disclaimer of Accuracy and No Warranties

A “no warranty” clause is a statement by you that you make no warranty that the information is accurate or complete. Such a clause facilitates the free flow of information by limiting your liability regarding the accuracy of information until a definitive agreement is signed. If the parties then proceed to a definitive agreement, that agreement will contain reps and warranties related to your business. At that point, you’re customarily required to include extensive reps and warranties in the purchase agreement.

Here’s seller-friendly language regarding the accuracy of the information:

“Seller makes no representation or warranty, express or implied, as to the accuracy or completeness of the information … ”

“Buyer agrees that Seller shall have no liability to Buyer resulting from the use of Confidential Information or any errors or omissions.”

Reps and warranties are heavily negotiated in NDAs, but can only be negotiated in the context of tradeoffs and specific contexts. In practice, sellers are more comfortable making certain representations once they understand the specific concerns and objectives of the other party. For example, you may be more comfortable making a representation regarding the accuracy of your financials once you’ve built a strong, personal relationship with the buyer. This may only come after you understand the buyer’s concerns regarding your financial statements and their reasoning behind the desired representation. It’s sensible that the NDA include language that limits representations to those made at later stages, such as those included in a definitive agreement. It’s common for the buyer to request language that you have a “good faith belief” that the information is accurate, despite any of your implied duties. Many sellers resist this language by striking it entirely or adding a modifier.

A “no warranty” clause is a statement you make that the information is accurate or complete. Such a clause facilitates the free flow of information by limiting your liability regarding the accuracy of information until a definitive agreement is signed.

Dispute Resolution, Enforcement, Remedies, and Relief

The agreement should include a statement about breaches made by the buyer so as to entitle you to equitable – and legal – remedies. CAs are hard to enforce, and money damages are hard to prove or may not sufficiently compensate you. You will want to retain the right to equitable relief and to seek an injunction. 

The most common legal remedy for breach of an NDA is to sue for money damages. The parties may agree to certain damages in advance of a dispute by including a liquidated damages clause that contains agreed-upon damages for breaches. But, given the nature of secrets, it can be difficult to determine reasonable damages. A common approach is to acknowledge that breaches can’t be cured by monetary damages alone. The NDA may also provide equitable relief – remedies that require a party to act or refrain from certain actions – in the form of temporary restraining orders and court-ordered injunctions that bar the breaching party from using or disclosing confidential information. 

Money damages may not be an adequate remedy for most sellers, so it may be necessary to include the ability to obtain equitable relief. Arguably, you may have the right to pursue an injunction even if the agreement lacks this language. The agreement should also require the buyer to disclose any breaches or violations of the NDA.

The forum selection and choice of law clauses are usually written separately, but they also impact how a dispute is resolved. Most parties agree in advance that in the event of a dispute, they will submit to the jurisdiction and laws of a particular state. This means that if either party wants to bring a claim, it must do so in the state named in the agreement and that state’s laws will govern the decision of the court or arbitrator.

Most buyers agree to some version of equitable and injunctive relief, as in this example:

“You agree that the Seller would be irreparably harmed by a breach of this Agreement and that money damages are not an adequate remedy. You, therefore, agree to grant specific performance of this Agreement and injunctive or other equitable relief in favor of the Seller as a remedy for such breach, without proof of actual damages, and you further waive any requirement for the securing/depositing of any bond in connection with such remedy. Such remedy shall not be deemed to be the exclusive remedy for a breach of this Agreement, but shall be in addition to all other remedies available by law.”

Injunctive relief can’t be obtained through arbitration, which is why few NDAs include an option for arbitrating any claims. Here’s a relatively standard clause:

“Money damages would not be sufficient remedy for any breach of this Agreement, and the Seller [both parties] shall be entitled to seek equitable relief, including, without limitation, injunction and specific performance, as a remedy for such a breach. Such remedies shall not be deemed to be the exclusive remedies for a breach of this Agreement, but shall be in addition to all other remedies available by law.”

Indemnification and Legal Costs

In the absence of an indemnification, each party shall be responsible for its own attorney’s fees in the United States, with the possible exception of Alaska. The “loser pays” rule prevails in Canada, the United Kingdom, and most European countries, but not in the United States as a matter of statute (i.e., the parties must agree contractually). Buyers may agree to a “loser-pays” clause but may resist signing a “one-way attorney fees” provision, as in this example:

“Buyer agrees to indemnify and hold harmless Seller from any loss arising out of a breach of this Agreement.”

Term

NDAs commonly have terms of two to three years. The period of time depends on the strategic value of the information to you and how quickly the information may become obsolete. The term of the NDA will depend on what kind of information is being disclosed and is usually tied to the economic life of the confidential information. 

Buyers require termination of the CA to avoid any ongoing administrative obligations of ensuring compliance and monitoring the terms of the agreement. Buyers normally prefer to limit the term as much as possible.

Some sellers push for an absence of a termination date, arguing that the confidential information remains valuable for a longer period. This could be persuasively argued in the case of IP that may have a longer life than the term of the CA, and separate terms can be drafted to address specific categories of information. Other provisions may contain different terms, such as a non-solicitation agreement.

You should avoid ending the term when a definitive agreement is signed because many transactions fail to close, as this clause addresses:

“This Agreement shall expire upon the earlier of five years from the execution of this Agreement, execution of a Definitive Purchase Agreement between the parties, or upon the consummation of a Transaction between the parties.”

[Modified] “This Agreement shall expire upon the earlier of five years from the execution of this Agreement or upon the consummation of a Transaction between the parties.”

Assignment

Thought should be given to whether the CA could be assigned to a new buyer or successor. In the absence of such an assignment, it may be impractical for a retired seller who no longer has a vested interest in the business to enforce the CA on the buyer. In the case of a stock sale, such an assignment may be unnecessary. Here is an example of common language addressing the issue of assignment: 

“This Agreement shall be binding upon and inure to the benefit of the parties hereto and their respective successors. Any assignment of this Agreement without the prior written consent of the other party shall be void.”

Choice of Law and Forum

Most sellers seek to be governed by the law of the state in which they’re incorporated. Buyers seldom refuse this request unless the buyer has significant negotiation leverage. If the parties are located in separate states, they may choose a neutral state in which neither party has a home field advantage. Clauses requiring arbitration are rare in CAs because the parties usually seek specific performance, which can’t be obtained through arbitration. The parties also sometimes include a clause waiving the right to a jury trial. Here’s a common example:

“This Agreement shall be governed by the laws of the State of Alaska. Each party hereby irrevocably concerts to submit to the exclusive jurisdiction of the courts of the State of Alaska for any action, suit, or proceeding arising out of or relating to this Agreement.”

Clauses to Consider Modifying

Here’s a detailed explanation of the specific language contained in most NDAs that you may consider modifying. 

Definition of Confidential Information: This is a commonly negotiated section. Many agreements broadly define confidential information and then make specific exclusions. This section should specifically address any confidential information you’re particularly concerned about. For example:

“Confidential Information” means information about the Company and its Customers, Customer Prospects, and/or Vendors that is not generally known outside of the Company, which you will learn of in connection with your employment with the Company. Confidential Information may include, without limitation: (1) the terms of this Agreement, except as necessary to inform a subsequent employer of the restrictive covenants contained herein and/or your attorney, spouse, or professional tax advisor only on the condition that any subsequent disclosure by any such person shall be considered a disclosure by you and a violation of this Agreement; (2) the Company’s business policies, finances, and business plans; (3) the Company’s financial projections, including but not limited to, annual sales forecasts and targets and any computation(s) of the market share of Customers and/or Customer Prospects; (4) sales information relating to the Company’s product roll-outs; (5) customized software, marketing tools, and/or supplies that you will be provided access to by the Company and/or will create; (6) the identity of the Company’s Customers, Customer Prospects, and/or Vendors (including names, addresses, and telephone numbers of Customers, Customer Prospects, and/or Vendors); (7) any list(s) of the Company’s Customers, Customer Prospects, and/or Vendors; (8) the account terms and pricing upon which the Company obtains products and services from its Vendors; (9) the account terms and pricing of sales contracts between the Company and its Customers; (10) the proposed account terms and pricing of sales contracts between the Company and its Customer Prospects; (11) the names and addresses of the Company’s employees and other business contacts of the Company; and (12) the techniques, methods, and strategies by which the Company develops, manufactures, markets, distributes, and/or sells any of the products.”

Definitions of Representatives: Many NDAs allow the buyer to share sensitive information with their “representatives” without your explicit consent, but some agreements don’t define what a representative is. I don’t recommend this. The NDA should require that the buyer obtain your consent before releasing the confidential information to third parties. The agreement should also define what a representative is. Here’s an example clause that offers a clear definition of “Representative”:

“For purposes of this agreement, the term “Representatives” shall mean your affiliates, and you and your affiliates’ respective directors, officers, employees, agents, and advisors (including you and your affiliates’ financial advisors, attorneys, accountants, and other consultants); [provided that any such advisors shall not also be, or at any time in the future become, a co-bidder or source of equity or debt financing].”

Permitted Uses: The NDA should state that confidential information can only be used for purposes of evaluating the transaction. For example: 

“The Receiving Party hereby agrees that the Evaluation Material will be used by it or its Representatives solely for the purpose of evaluating a possible Transaction and not for any other purpose, including in any way detrimental to the Disclosing Party, and will not be disclosed by the Receiving Party and its Representatives to any other person; provided, however, that any of such information may be disclosed to the Receiving Party’s Representatives who need to know such information for the purpose of evaluating any such Transaction and who agree to keep such information confidential and to be bound by this agreement to the same extent as if they were parties hereto. The Receiving Party will be responsible for any breach of this agreement by its Representatives and agrees to take at its sole expense all reasonable measures to restrain its Representatives from prohibited or unauthorized disclosure or use of the Evaluation Material.”

Disclosures Required by Law: Most NDAs allow the buyer to release confidential information if compelled to do so by law. Strongly worded – on your behalf – NDAs allow you to mediate these claims and otherwise offer you several protective mechanisms before the information is released. Here’s an example of such language:

“In the event that the Receiving Party or any of its Representatives is required, based on the written opinion of the Receiving Party’s outside legal counsel, to disclose all or any part of the information contained in the Evaluation Material under the terms of a valid and effective subpoena or order issued by a court, governmental body of competent jurisdiction or stock exchange, the Receiving Party agrees to immediately notify the Disclosing Party of the existence, terms, and circumstances surrounding such a request, so that it may seek an appropriate protective order and/or waive the Receiving Party’s compliance with the provisions of this agreement (and, if the Disclosing Party seeks such an order, to provide such cooperation as the Disclosing Party shall reasonably request at the Disclosing Party’s expense). In the event that such protective order or other protection is denied and that Receiving Party or any of its Representatives are nonetheless legally compelled to disclose such information, it or its Representatives, as the case may be, will furnish only that portion of the Evaluation Material that Receiving Party’s outside legal counsel advises it in a written opinion is legally required and will exercise all best efforts to preserve the confidentiality of the remainder of the Evaluation Material. In no event will the Receiving Party or any of its Representatives oppose action by the Disclosing Party to obtain a protective order or other relief to prevent the disclosure of the Evaluation Material or to obtain reliable assurance that confidential treatment will be afforded the Evaluation Material.”

Return or Destruction of Information: Many NDAs require the buyer to return or destroy the information if they decide not to pursue this transaction. This clause is becoming irrelevant given how commonly information is now shared electronically and the current state of technology.

Access to Employees: This is a hotly debated topic. All NDAs should restrict access to employees in the early phases of the transaction. If you wish to grant access to your employees, I highly recommend having your attorney draft an NDA that addresses the non-solicitation of your employees before you allow the buyer to meet with your employees:

“Without the prior written consent of the Company [or the Company’s investment bank], neither you nor any of your Representatives will initiate or cause to be initiated (other than through a financial advisor designated by the Company) any (a) communication concerning the Evaluation Material; (b) requests for meetings with management in connection with a potential Transaction; or (c) communication relating to the business of the Company or any of its affiliates or a potential Transaction, in each case with any officer, director or employee of the Company or any of its affiliates.”

Non-Solicitation of Employees: This is also a hotly debated section, and some buyers refuse to sign an NDA that contains this language in the earlier stages of the transaction. You can soften the non-solicitation of employees by stating that the buyer agrees to not actively pursue your employees, but that your employees can be hired if they apply through general means (e.g., employment advertisements). Here’s an example of that softened language: 

“For a period of three years from the date hereof, the Receiving Party agrees that, without the prior written consent of the Company, it and its affiliates will not directly or indirectly hire or solicit any current employee of the Company; provided, however, that the foregoing shall not apply to generalized searches for employees by use of advertisements in the media that are not targeted at employees of Seller.”

Disclaimer Regarding Accuracy: To protect yourself, the NDA should state that you’re not making any warranties regarding the accuracy of the information, especially early in the transaction. Here’s a common example: 

“The Receiving Party understands that neither the Disclosing Party nor any of its Representatives has made or makes any express or implied representation or warranty as to the accuracy or completeness of the Evaluation Material. The Receiving Party agrees that, except for any breach of this Agreement, neither the Disclosing Party nor its Representatives shall have any liability to the Receiving Party or any of its Representatives or stockholders (or other equity holders) on any basis (including, without limitation, in contract, tort, under federal or state securities laws or otherwise), and neither the Receiving Party nor its Representatives will make any claims whatsoever against such other persons, with respect to or arising out of: a possible Transaction, as a result of this Agreement or any other written or oral expression with respect to a possible Transaction; the participation of such party and its Representatives in evaluating a possible Transaction; the review of or use of content of the Evaluation Material or any errors therein or omissions therefrom; or any action taken or any inaction occurring in reliance on the Evaluation Material, except and solely to the extent as may be included in any definitive agreement with respect to any Transaction.”

Term: All NDAs should include a term. Most NDAs contain a term of two to three years. Go for the longest term you can get.

Choice of Law: I recommend choosing your home state.

Injunctive Relief: The NDA should specifically allow you to obtain an injunction in the event of immediate damage.

Assignment: Most NDAs aren’t assignable, and the NDA should clearly state whether it is.

Conclusion

Understanding a few basic points about confidentiality agreements helps ensure they can protect you while selling your business. By examining their language and negotiating their terms, you can assure that they aren’t unnecessarily softened by ambiguities or ignorance of the meaning of terms used in the agreement.

As with any agreement, there is no “one size fits all” approach, and you should consider professional advice before taking action. The best way to make sure the NDA is enforceable is to give careful consideration to the factors outlined above – especially since the protection of ideas and trade secrets is inherently difficult.

In addition to drafting an NDA, here’s a summary of the steps you can take to help ensure confidentiality:

• Prepare in Advance: Abraham Lincoln said it best: “Give me six hours to chop down a tree and I will spend the first four sharpening the axe.” The more time you spend getting your ship in order, the quicker and smoother your sale will be, thus minimizing the possibility of a leak.
• Inform Staff: Most employees realize there’s a time for every entrepreneur to move on. Still, they may be understandably nervous about the uncertainty a change in ownership will bring. Talk to your staff about the potential benefits to them. In most cases, a new owner will be interested in growing the business, which could offer the employees opportunities for growth.
• Contact “Low Risk” Buyers First: Buyers such as private equity firms and indirect competitors typically represent the lowest risk. By dealing with these buyers first, you’ll get feedback and ideas about how to hone your presentation that you can use when it comes to pursuing high-priority buyers. Remember – a smoother transaction is a more secure transaction.
• Screen Buyers: Be sure your potential buyers are qualified before you share your confidential information. Hiring a private investigator and asking your attorney to search public records are two ways to establish their financial credibility.
• Release Information in Stages: Start with providing only general information about your company to potential buyers. Sensitive information such as customer lists and employee names should be released only in later stages of the process, as you come to know and trust the interested party.
• Mark Documents “Confidential”: This practice removes any doubts about what information is for the buyer’s eyes only.
• Use a Neutral Third Party: An independent CPA firm can perform due diligence on behalf of the buyer without disclosing your confidential information.
• Address Breaches Immediately: If you suspect your confidential information has leaked, call the offending party to get their side of the story before taking any dramatic action. In most instances, the other side will apologize and take steps to correct the action.
• Limit Access to Employees: Resist allowing potential buyers to talk to your employees. If buyers ask to speak with employees during due diligence, stand firm against their request. If they insist, allow any contacts to take place only after all other contingencies have been resolved and the sale is ready to close.

When it comes to selling a business, maintaining confidentiality is key. Paying heed to these strategies in coordination with a well-drafted confidentiality agreement will help ensure discretion is maintained throughout the process.