Court Of Chancery Finds CalPERS Breached Implied Covenant Of Good Faith And Fair Dealing
In a 108-page post-trial order issued a few weeks ago, Vice Chancellor Leo E. Strine, Jr. dealt a major blow to the California Public Employees Retirement System (CalPERS), Senior Housing Capital, LLC v. SHP Senior Housing Fund LLC, C.A. No. 4586-CS (Del. Ch. May 13, 2013) Without getting into the specifics, the Vice Chancellor framed the issue as follows:
Where, as here, (i) a contract written by one party (ii) says that that party will make a payment based on a formula, (iii) the formula says that an input into the formula will be determined by an appraiser, and (iv) the party making the payment gets the contractual right to select the appraiser, the parties have clearly agreed to be bound by that appraiser‘s professional judgment. Unless the party unhappy with the appraiser‘s judgment can show that the appraised market value resulted from a concerted course of bad faith action between the appraiser and the other party—i.e., a breach of contract by a party—or that the appraiser‘s result was otherwise tainted by the contractually improper conduct of the other party (such as intentionally providing the appraiser with false information to taint the valuation), the parties are stuck with what they bargained for. The lack of room for law-trained judicial second-guessing makes sense because such unschooled second-guessing undercuts the parties‘ choice to have an expert on the relevant property type perform the task.
The party making the payment in this case was CalPERS and Vice Chancellor Strine found that it had improperly pressured appraisal firms from its “spring-fed pool”. Thus, he found CalPERS had breached its implied covenant of good faith and fair dealing. He rejected all of CalPERS counterclaims.
The order is not only costly to CalPERS, it shines an embarrassing light on CalPERS’ strong-arm business tactics. Vice Chancellor Strine repeatedly referred to CalPERS’ “spring-fed pool”, a group of selected appraisers who benefit from repeat CalPERS business. Because CalPERS had the unilateral right under the LLC agreement to select an appraiser from its own pool, it was in a good position to exercise pressure. By not acting in good faith and pursuing this litigation, CalPERS has incurred not only the costs of its own private counsel, but those of the plaintiff as well.