Fraudulent inducement occurs when one makes material (decision influencing) false statements of fact intending the other to rely on them without knowledge of their falsity, and this reliance causes injury. Typically fraudulent inducement occurs prior to the signing of a contract. Proof of fraudulent inducement allows the defrauded party to rescind the transaction or affirm the transaction and seek monetary damages.
Proving fraud in the inducement is difficult for several reasons: 1) The statements must be of "fact" and not "opinion" 2) The reliance on the statements must be "justified" 3) An added layer of difficulty occurs if the statements contradict the terms of a subsequently written and signed contract that states that it is the entire agreement between the parties (an integrated contract) 4) What persuasive record of the statements does one have (beyond testifying to the verbal exchange) that a judge or jury will find credible?
A recent decision of the federal Court of Appeals for the Eighth Circuit, Outdoor Central Inc. v. Greatlodge.com Inc. upheld a trial judge's determination of fraud in the inducement. The case arose from a presentation that explained the "advantages" of a merger and the features of a technology system. The system was described as "scalable" and containing features that did not exist.
The acquiring party conducted an independent investigation, but failed to uncover the false statements prior to the purchase. When it sued to rescind the transaction, the seller responded that scalable was just "a marketing term devoid of technical meaning." Besides, the purchaser had conducted its own investigation before agreeing to the transaction.
The trial judge determined that in the context of the presentation "scalable" was a technical term. The seller fired individuals who knew of the system's defects and those persons were unavailable to be interviewed by the purchaser. Consequently, the defects were particularly within the seller's knowledge and there was no way to fully test the system before purchase. Specific factual statements that the seller made concerning the system were determined to be false; thus the Eighth Circuit upheld the trial judge's decision granting damages and related remedies.
This decision is unusual since commercial contracts frequently require all disputes to be arbitrated, preventing litigation before a judge. Additionally, opinions and projections are not subject to a fraud claim. Parties are expected to independently investigate claims, something that was undertaken in this situation. However, when a party makes a specific factual statement, knowing that it is false and the other party is unable to investigate or is hindered from investigating, fraud in the inducement may be proven.
Trust-but-verify; however, the verification process must not be undercut by the party making an assertion of fact. When this occurs it is easier to prove fraud in the inducement.