If the parties can agree upon a settlement in mediation, it is essential that they put their agreement in writing, even if the mediation extends well into the night. Waiting until the next day can be dangerous since parties often change their minds about the deal after sleeping on it. The best way to memorialize the settlement is to prepare a formal settlement agreement as soon as a meeting of the minds has been reached. However, in most cases, because the parties are exhausted after many hours of mediation and many agreements, such as a patent license agreement, may contain detailed terms which need to be spelled out in a formal document, most parties and counsel are only willing to prepare a term sheet to memorialize their agreement. Term sheets present many potential pitfalls and these are some best practices to avoid them.
The Parties Should Sign the Term Sheet. In most states where counsel have apparent authority to bind their clients to the provisions of a settlement agreement or term sheet, it is unwise for counsel to rely upon this apparent authority. Even after a term sheet has been signed by counsel, a client can seek to disown it and claim that it did not give counsel express authority to sign. The client may even retain new counsel to attack the deal, which may lead to litigation over the enforceability of the term sheet, including the prospects of a trial on whether the client consented to the settlement. The best way to avoid this potential problem is to have the parties themselves execute the term sheet. For any avoidance of doubt, the mediator could witness the signatures.
The Term Sheet Should Clearly Set Out the Persons and Entities Covered and the Scope of the Releases. Often term sheets simply recite that the parties will “exchange mutual releases” without specifying which parties (and any potential third parties) will be included in the releases and what the scope of the releases will be. For example, the releases may be general, including all claims between the parties even if they have not been asserted in the underlying litigation or arbitration or they may be limited to the issues raised in the pleadings. It is not advisable to defer these issues until a more detailed settlement agreement has been prepared. The persons and entities included in the releases and the substantive scope of the releases should be included in the term sheet.
If a Formal Settlement Agreement Is Contemplated, the Term Sheet Should Be Enforceable, Even If the Formal Settlement Is Not Consummated. As noted above, the parties often enter into a term sheet anticipating that they will prepare and execute a more formal settlement agreement in the future. This common practice is fraught with danger. If the formal settlement agreement is not consummated or signed, one or more of the parties may contend that the mediation term sheet is not enforceable because the parties intended to enter into a more formal document. There are several ways that this problem can be avoided. The term sheet should set a very short deadline for the preparation and execution of the formal settlement agreement, no more than seven days. The term sheet should clearly state that, if a formal settlement agreement is not reached, the term sheet will be fully enforceable on its own terms, which should be clear and specific enough to render enforcement feasible. The term sheet should provide that, if there is a dispute about language in the proposed settlement agreement, the mediator is appointed as the arbiter of any such dispute, and the mediator’s ruling will be final.
The Term Sheet Should Contain a Dispute Resolution Clause. Even though the parties have completed a successful mediation, they often ignore the desirability of inserting a dispute resolution clause in the term sheet or in their settlement agreement. It is essential that they do so, particularly if mediation arises in the context of settling an arbitration. If the parties had initially agreed in their contract to arbitrate, the mediation term sheet should not be silent on whether any dispute in the future should also be governed by arbitration and/or mediation. The means of resolving any disputes about the term sheet should be clearly expressed.
If the Settlement Involves the Payment of Installments, the Term Sheet Should Clearly Spell Out the Security Provided for Non-Payment. Many mediation settlements involve the payment of the settlement amount over time, often as long as six months to one year. Obviously, it is better if the settlement can be paid in full at the closing, but this is not always possible. It is essential that the term sheet set forth in detail the security provided by the payor to the payee if installments are contemplated and the payor defaults. The forms of security can include: (1) an acceleration of the full amount due, (2) a confession of judgment for the full amount due less what has been paid, (3) personal guarantees by the principals, or (4) deposits of assets into escrow. As noted above, if the parties’ efforts to complete a formal settlement agreement are unsuccessful, the term sheet should be enforceable on its own terms and the security provisions are critical to that effort.
Before the Term Sheet Is Prepared, Do Not Send Written Proposals to the Other Parties. Occasionally, a party will bypass the mediator and send a written settlement proposal to the other parties with no conditions or caveats. Unless the party is absolutely sure that the terms in its proposal are acceptable, this can be a dangerous practice. It gives the other parties the option to accept the proposal as written and contend that an enforceable deal has been reached. It is much safer to channel all demands and offers orally through the mediator during caucus. If the terms are complex, the parties can write them out for the mediator, but they should not be presented in writing directly to the other parties. If the mediator can achieve a meeting of the minds, these terms can be incorporated into a term sheet. If it is not possible to have the parties execute a formal settlement agreement at the conclusion of the mediation, the preparation and signing of a term sheet which follows the above best practices is an acceptable alternative. If the term sheet contains all of the material terms of the parties’ agreement and is expressly made enforceable in the absence of a more formal agreement, it should be sufficient to withstand collateral attack and end litigation over the underlying dispute.
John M. Delehanty is an experienced litigator and arbitrator with FedArb and Delehanty Resolutions. He has decades of experience resolving intellectual property and commercial litigation (including computer software and patent), biotech, pharmaceutical contracts and licensing, employment, entertainment and other commercial disputes.