H plc, a Stock Exchange listed company, wanted to sell a manufacturing subsidiary, Target. Target had around ten major customers, including C.
The board of Target included Mr W (who was also CEO of H plc) and Mr K (who was H plc's Group Finance Director). Mr K was tasked with delivering the sale of Target.
During due diligence, the buyer and its representatives were provided with detailed financial information including sales projections. These projections included predicted increases in future sales by Target to C. To test these predictions, the buyer required Target to conduct "customer surveys" by way of telephone calls with customers (including C) to which customers were informed an "external consultant" was listening in. The "external consultant" was, in fact, one of the buyer's advisers.
During the "survey" call with C, its management reported broad satisfaction with the products and services provided by Target, with some less positive comments about how Target needed to do more to help its customers with cost savings. It was confirmed that C might well ask Target to quote for additional business. There was no suggestion of anything other than cautious optimism over future growth.
Subsequently, C discovered that H plc had announced that Target might have to be sold or closed down unless further investments were made in the company. C had in fact been concerned for some time that Target was not part of H plc's core business and might be vulnerable. C had therefore taken steps to secure an alternative source of supply. On 30 April 2010, C's management informed Mr W by telephone that it wished to terminate its dealings with Target from the end of the following August. The decision was stated to be final and not open to negotiation.
Mr W later claimed that he viewed this as merely a tactic in an attempt to negotiate price cuts. He made no attempt to inform any of the other board members of Target of the conversation, least of all Mr K, who was in charge of selling the company. This was despite Mr W and Mr K travelling overseas together on business shortly after Mr W received the call from C. However, the notes made by C's management of the call recorded that Mr W had expressed the view that the loss of C's business would make Target "unsaleable" and might entail redundancies. He had also asked for C to make no public announcement for a week, so that Target's board could consider its position.
In the continuing negotiations and due diligence, the buyer was shown further financial projections, which still assumed that C would continue to deal with Target. The projections could assume nothing else, since only Mr W had knowledge of C's intention to remove its business and had not informed anyone else on the deal team.
The sale of Target to the buyer was ultimately completed in the early hours of 23 June, only days after C had emailed a letter to Target confirming that it wanted to terminate all dealings as at 31 August.
The buyer swiftly discovered the true situation. Shortly after completion, the buyer notified H plc that it intended to rescind the agreement (that is, treat the deal as never having happened) and reclaim the amount paid. The buyer's right to do this did not arise as a result of the warranties given by H plc in the sale and purchase agreement. Those warranties did not extend to customer relations and continuing sales (because the buyer had conducted its own thorough due diligence) and in any case would only entitle the buyer to damages if breached. Rescission is the remedy for misrepresentation. Where the buyer is induced to enter into the agreement in reliance on an untrue statement made by or on behalf of the seller, the buyer is entitled to treat the contract as never coming into existence.
The agreement for the sale of the shares in Target contained, as is usual, provisions excluding liability for misrepresentations which were innocent or negligent. It is generally accepted that sellers need certainty and that any information relied on by the buyer should be expressly warranted. Representations do not therefore come into play.
However, the buyer alleged that the deliberate decision by Mr W to conceal C's announcement of its intentions was fraudulent. The court agreed, and as liability for fraud cannot be excluded by contract, H plc was liable. The financial projections were only statements of opinion and were not warranted. But those acting on behalf of H plc had represented H plc to have reasonable grounds or knowledge of facts that justified the forecasts. Allowing the deal team to present financial information that Mr W knew to be based on false assumptions amounted to fraudulent misrepresentation by Mr W on behalf of H plc.
The court did not accept that Mr W genuinely believed C's announcement to be part of a price negotiation and not a serious statement of intention. His comment, recorded by C's management, that the loss of C's business would make Target "unsaleable" did not fit with such a belief.
The court speculated over Mr W's reason for keeping the information to himself. Perhaps he had wanted to protect Target's employees, believing that the sale was the best means of safeguarding their jobs. Or maybe he saw the completion of the sale as being in the best interests of H plc. However, good intentions towards H plc or Target and its workforce did not excuse fraud against the buyer.
The court granted the buyer's request for rescission. However, rescission is a difficult remedy, requiring the parties to be put back in the position they should have found themselves in had the false representation not been made. This can be practically impossible even very shortly after the event, for example if the buyer makes changes to the target company, the seller will not be able to get back exactly what it sold. In this case the parties eventually settled, with Target remaining in the buyer's ownership but with H plc paying back the majority of the announced consideration plus the buyer's legal costs.
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