What a Confidential Settlement Agreement Is
A confidential settlement agreement prohibits the disclosure of the terms and conditions of that particular settlement. Many confidential settlement agreements include an expansive definition of the word "confidential" – which often includes any term or condition of the settlement agreement (including its mere existence), the identity of the parties, all communications with the other side, and anything else that might be purportedly confidential to the disclosing party). These clauses are generally intended to protect against release of what is perceived as confidential in order to prevent one side from being disadvantaged as the result of public disclosure .
As a result, a confidential settlement agreement usually will not be read into the public record in the event of a breach of its terms (as opposed to the breach, for example, of an intellectual property agreement or a supplier agreement).
However, it is important to note that neither the alleged existence nor the terms of a confidential settlement agreement are themselves confidential. For example, if an employee who has signed a confidential settlement agreement with his or her former employer brings legal action against that employer, any evidence of the confidential settlement agreement that is presented to the court will be on the public record.
The Crucial Components of a Confidential Settlement Agreement
Common key elements of a confidential settlement agreement include:
Parties and Definitions: Clearly identifying the parties involved in the settlement is an important first step. Also, include any other key parties by identifying them with specific names or references to their roles in the underlying legal action, and define how they will be referred to throughout the agreement.
Recitals, Background, and Rationale: A brief recitation of the facts and circumstances leading up to the settlement is a standard part of a settlement agreement, along with a statement on whether that recitation is an integral part of the agreement or merely a preamble.
Mutual Unconditional Release: In addition to any unlimited release of future claims within the scope of the confidentiality, a broad and unconditional release is also often included to cover all claims, known or unknown, which could be based on the facts or circumstances underlying the legal action.
Confidentiality Obligations of the Parties: Agreements frequently specify the obligations of each party regarding the confidentiality of the settlement. In addition to a straightforward statement that the terms of the agreement cannot be disclosed, the agreement sometimes identifies specific recipients who may be given knowledge of the terms, conditions, or circumstances of the settlement or a copy of the settlement agreement, such as principals and employees, counsel and counsel staff, accountants and accountant staff, and family members.
Permitted Disclosure: The agreement sometimes includes an express carve-out for disclosure to the extent required by SEC rules, securities exchange regulations, business practices, accounting rules, or an order, subpoena, or other similar requirement.
Permitted Disclosure in Court Cases: While agreeing to keep the settlement confidential, the parties often agree to waive their right to seek a protective order or to oppose an application for a protective order in connection with a court proceeding in which the settlement terms are offered, or where statements by one of the parties amount to a waiver of the confidentiality of the settlement.
Permitted Disclosure to the SEC or Other Financial Institutions: The standard agreement sometimes includes an exception to the confidentiality obligation under the agreement for disclosure of the settlement terms to the U.S. Securities and Exchange Commission, to a financial institution, or pursuant to the terms of a loan or similar agreement.
Permitted Disclosure in Arbitration: A common approach to confidentiality in settlement agreements involving arbitration is to provide that the parties may disclose the terms and conditions of the settlement if the settlement is in connection with a dispute that would be subject to arbitration by the American Arbitration Association, JAMS, or another body and would be subject to the confidentiality policies of those entities.
Permitted Disclosure to Employees of Permitted Disclosures: In some cases, as a practical matter, it’s important that a party be able to share the terms and conditions of the settlement with certain employees of a permitted discloser, such as counsel staff or an accountant, and that those employees understand the limits of disclosure.
Permitted Disclosure Where Confidentiality Requirements Are Wrongly Faced with Disclosure Requirements: If a party is approached to disclose settlement terms pursuant to a third-party request, including an order or subpoena, failure to respond could result in sanctions for failure to obey the order. The other party should not object to a compelled disclosure of the terms of the settlement in compliance with such an order, but the order should be the least disruptive to the confidentiality obligations as possible.
Legal Advantages of Confidential Settlement Agreements
California law provides various mechanisms to protect the confidentiality of a settlement agreement. California Evidence Code section 1119 states, "as a general rule, there shall be no disclosure of any statement made in the course of a mediation or to a mediator" except for enumerated exceptions that do not apply to settlement agreements. This Evidence Code section has been used to prevent disclosure of settlement agreements in criminal actions as well as civil actions.
In addition to protecting the contents of settlement agreements, California law provides protection to those who sign the agreement. A party who signs a settlement agreement must await the expiration of forty five days and the filing of a satisfaction of judgment before considering the issue settled. This provides a level of privacy protection in that no one will assume that the matter has actually been resolved until the passage of some time. Formal dismissal papers can be filed at Court to make it appear that a case has been resolved when in fact a monetary sum is still required to effectuate the deal. Thus, the terms of settlement can be kept confidential until the settlement agreement is fulfilled.
The obvious legal advantage in pursuing a confidential settlement agreement is cost savings. Privacy interests and concerns dictate that confidential settlement agreements are best utilized in instances where cost could be saved by avoiding (1) litigation expenses, (2) punitive damages liability, and (3) reputational interests. Litigation expenses (including trial related costs and attorney’s fees) can be avoided and thus result in a reduction and prevention of damages. Punitive damages liability could be avoided by resolving the case prior to the discovery of malice which would otherwise result in the imposition of punitive damages. Avoiding litigation and trial costs is a significant advantage.
The Downsides and Risks of Confidential Settlement Agreements
There are certain drawbacks and risks to confidential settlements that should be considered before entering into one. One of the main issues with confidential settlement agreements is enforceability. While most states recognize the validity of confidential settlements in the context of employment relationships, an increasing number of courts have held that such agreements violate public policy. Such cases have been overturned at the appellate level, and state legislatures are beginning to address the issue. In California, for example, the State Assembly recently passed a bill (AB 3080) which made it unlawful for employers to require employees to agree "to that provisions of a settlement agreement or other document that prevents the disclosure of facts related to a claim filed in the public court system."
In the context of litigation, there is also the risk that the confidential matter is inadvertently revealed through compelled disclosure. In the event of foreclosure and litigation, this could occur if the settlement is disclosed in a different action, via disclosure to a third party, through the ongoing state of affairs occurring at the underlying property (which the court can require to be disclosed), or through the filing of a second suit in a different jurisdiction (such as a foreclosure suit). Moreover, considerably more detailed risks are created if inadvertent disclosure is made. For example, in the case of an inadvertent disclosure, a party may seek to have a settlement agreement struck down citing an inability to keep the settlement confidential as a basis to revoke its agreement. In the case of a foreclosure action, a defendant may be able to oppose the foreclosure based on a violation of the settlement agreement via reliance on discovery violations, through the establishment of an equitable estoppel, or even on a theory of temporary restitution (essentially rebooting the foreclosure action adjudicating the same property). Various other risks exist if the matter becomes known to third parties (such as the press, for example), or if the situation becomes known to an administrative agency having oversight over the issue (such as alleged Fair Housing Act violations).
Enforceability of the Confidential Settlement Agreement
Confidentiality is generally afforded the greatest level of protection among all of the settlement agreement provisions. A court will almost never decline to enforce a confidentiality provision on the grounds that such provision is unreasonable. Nevertheless, there is very little case law or commentary discussing exactly what is reasonable in this context. In fact the only instances where confidentiality agreements have been voided are when such agreements intrude on the finality of a court proceeding or where enforcement will result in the enforcement of an unconscionable contract. Anderson v. City and County of San Francisco, 36 Cal. 3d 716, 725 (1984).
For example, in Anderson, the plaintiff sought to vacate a stipulation settling a lawsuit for wrongful death, which provided that details of the plaintiffs’ settlement payment would be kept secret and that neither the plaintiffs nor their attorneys would report the settlement amount to any other party. The plaintiffs contended the provisions violated public policy because they concealed the amount received by the deceased’s parents from the defendant so that the defendant could claim the money was community funds. Id. at 718. The Court disagreed:
The conduct of the parties does not come within the category of what [California Civil Code s. 1668] refer[s] to as "practices contrary to the interests of the public , to the prejudice of good morals, or that tend to discourage all wholesome course of transactions." No member of the public had an interest in knowing what portion of the settlement was paid to the estate of the deceased plaintiff. No limit was imposed on the amount of recovery available to that estate; rather, the agreement merely prohibited recovery of certain items of damages that would otherwise be legally impermissible. The remaining provisions of the agreement did not contravene any public policy. Id. at 730.
The court then considered whether the agreement was reasonable, and ultimately concluded that the agreement should be enforced.
Clearly, not all provisions contained in confidential settlement agreements are so easily enforceable. Practitioners and courts are entirely freed from precedent to determine when a specific provision of a confidential settlement agreement is against public policy or when it is not. In fact, such determinations often depend entirely on the facts and circumstances of each case.
Examples and Practical Applications
Confidential settlement agreements find application in a variety of contexts. For instance, in employment disputes, it is common for an employer to propose a separation agreement to an employee then in the course of settling a claim between the employee and the employer, an agreement to keep the terms of the settlement confidential may be important to the employer to preserve customer relationships and protect sensitive company information. An employer’s most valuable proprietary asset is a motivated workforce so having a disgruntled former employee bad-mouthing the company to its customers may be quite damaging.
Consider also a dispute between two companies where one has been accused of infringing a patent owned by the other and the infringement allegation is considered a potential violation of federal patent law. The patent holder may find itself in a very difficult situation if the infringer is demanding that a settlement of the dispute include a written admission of liability on the part of the accused infringer. Rather than have such an admission publicly accessible via a court filing or the Freedom of Information Act, the settlement terms may require the infringer to make a non-disclosure of the settlement agreement. If there are no admission of liability provisions in the settlement agreement, neither party will be able to use its contents against the other in any future dispute between them. Accordingly, if the patent holder is concerned that the accused infringer may be hurting his business by continuing to infringe the patent, the patent holder could have a clause in the settlement agreement requiring the accused infringer to fully cease and desist infringing activities. The patent holder can then mention that the accused infringer, through the terms of the settlement agreement, has agreed to cease all infringing activities.
How to Draft a Confidential Settlement Agreement
Beyond the basic definition of a confidential settlement, many commercial litigators rely on the following drafting tips to ensure an enforceable agreement.
Mutuality is the Golden Rule. A mutual confidentiality obligation of either the disclosing or receiving party is generally required for the agreement to be enforceable. Otherwise, a court may find the agreement to be unconscionable. Courts routinely reject one-sided agreements if one party is forced to keep secret all of its financial dealings while the other party ends up on display by virtue of the exception to the general rule of confidentiality. In these circumstances, courts are inclined to rule in favor of prohibiting the benefit to the plaintiff over the harm to the defendant. Nevertheless, a court may enforce one-sided confidentiality provisions under certain circumstances, particularly if the provision is specific and tailored to protect the parties’ legitimate interests. For example, confidentiality provisions that are reasonably tailored to protect an employer’s trade secrets, goods, methods or customer lists are enforceable against employees who possess such information.
NDA Not an NDA in Settlement Cases. Parties contemplating a non-disclosure agreement should understand that a non-disclosure agreement for use in connection with settlement can differ from a NDA applicable to a commercial situation. NDAs primarily protect the confidential nature of information shared between the parties to the extent that such information must not be disclosed to third parties. However, the object of a confidential settlement agreement is often to prevent disclosure to third parties and also to the public at large. Consequently, the interests of the parties which must be protected by the agreement go beyond the confidentiality of the information per se.
No Third Parties. To avoid the ripple effect of a potentially unwarranted and far-reaching confidentiality provision, parties should consider including a provision noting that the confidentiality obligations are not intended (1) to be enforceable against or to cover third parties that are not employees, agents or representatives of the parties, (2) to run with the land and bind future owners, (3) to apply to the press or other media, (4) to bind experts or others retained for potential future litigation, including law firms hired for future lawsuits, or (5) to apply to information previously known to the receiving party prior to the execution of the agreement .
Covenants are not the same as Conditions Precedent. In settlement cases, the parties often draft a settlement agreement in a form making the agreement voluntary until certain conditions precedent to finalizing the agreement have been fulfilled. Such a condition precedent often relates to obtaining court approval in class actions. Although many litigants drop the condition precedent clause during the drafting process and ultimately incorporate a covenant clause, for the purposes obtaining an appellate decision or appeal bond, the covenant clause is not the same as a condition precedent. A condition precedent is an act that must be strictly accomplished prior to the operation of the resulting agreement. A covenant is an act that can be enforced by the promisee in the event the promisor fails to perform the act. Thus, an injured party may enforce a covenant even if the condition precedent has not been satisfied.
Be Careful of the Scope. Disclosing parties should be mindful not to include overly broad provisions, such as definitions and exclusions, because a confidentiality agreement with a broadly unspecified scope may not be enforceable. A narrowly tailored agreement that limits the disclosure of confidential information is preferable. Although the disclosure of confidential settlement information is generally broader than the broader prohibition against disclosing the underlying dispute, the order or agreement approving the settlement must specify the confidentiality restrictions. The agreement should exclude basic information found in the public domain such as information necessarily disclosed in the ordinary course of business, under threat of subpoena or applicable law. However, a court may enforce a confidentiality agreement that would otherwise prevent the disclosure of a party’s criminal acts, especially if a significant portion of the settlement proceeds will be distributed to government or charitable entities.
Beware of Unilateral Confidentiality Provisions. Litigants are cautioned that the mere inclusion of an unilateral prohibition or exclusionary clause along with a waiver of conflicts clause does not convert a unilateral agreement into a mutual one, especially in the event of a non-monetary settlement. For example, if the settlement does not include a monetary amount, the settlement cannot hide the alleged wrongdoings and still be mutual.