A law firm's broad retainer agreement has come back to haunt them. A seller of a business purchased for $7.5 million ($5 million of which was collateralized by the buyer's restricted common stock) hired Seward & Kissel as "lead transaction counsel". As per a letter of intent concerning the sale, each party was allowed but not required, to conduct a due diligence exam of the other. There was no discussion between the seller and its law firm as to who should or would undertake the due diligence exam of the buyer. It was a big mistake not to carve out any duty to perform the due diligence exam from the retainer agreement if that was the understanding between the attorney's and client.
Days before the closing the buyer reported it was $1.5 million short on the cash requirement resulting in a closing with only $1 million of the $7.5 million sale in cash. Shortly after the closing the buyer's principal was arrested for securities fraud, the buyer was served with a securities fraud class action and was thereafter delisted from public trading. The buyer's collateral was worthless. The law firm claims that it was not retained to perform due diligence and filed a motion to dismiss. Last week, the Federal Court Judge in Manhattan denied the law firm's motion and stated it: "may have had a duty to conduct due diligence." Based on the client's claim that it relied on the law firm in all respect's to the sale, this case may be decided by a jury.