The English High Court, in Triumph Controls UK Ltd v Primus International Holding Co [2019] EWHC 565 (TCC), has found that proper, accurate financial projections by the sellers would have resulted in a lower purchase price for three companies which manufactured complex metal components for aircraft.

This case highlights the perils, when selling a business, of failing to take care when warranting in relation to forward-looking projections. Here, the sellers failed to properly or accurately take into account key operational and financial assumptions when producing projection models. The result was a reduction of the purchase price.

The judgment provides a comprehensive review of the degree of care the courts will expect from parties in preparing their forecasts in the context of share sale transactions.

Target companies should be alert to the nature and form of disclosure provided as a defence to potential claims following completion.

The facts

The claimants were subsidiaries of a multinational aerospace and defence manufacturer and service provider. They sought damages for breach of warranty under a share purchase agreement ("SPA").

In March 2013, the claimants agreed to purchase the share capital of three of the defendants' companies, one in Farnborough in the UK and two in Thailand. After completion, the claimants discovered shortfalls in expected revenues arising out of delivery and quality issues at Farnborough.

These issues also caused the Farnborough plant to lose its prized "Nadcap" accreditation (National Aerospace and Defence Contractors Accreditation Program).

Late notification

Clause 9.7 of the SPA excluded liability for claims unless written notice had been served within 18 months of completion. The Court found that the claimants had given adequate notice in the letter of claim and that the quality issues were fairly and clearly identified.

The level of detail provided was such that it was clear that the claimants were alleging that the financial projections presented a false picture of the profitability of the companies.

Faulty disclosure?

According to clause 6.1 of the SPA warranties schedule, the parties warranted they had obtained "all licences, consents, permits…necessary to the carrying on of its business". The claimants argued they would not have been interested in Primus if it did not have accreditation since this was a prerequisite to winning and performing most aerospace business.

The Court found that, whilst there was evidence of "systematic non-conformity in parts of Farnborough's quality process and policies", this did not lead to the conclusion that Farnborough must have been in breach of its Nadcap accreditation as at the date of completion.

The Court considered the claim that the defendants were also in breach of the operational warranties given. Whilst the circumstances of various customer complaints did "give rise to a real, as opposed to a fanciful, risk of claims, litigation or other proceedings", clause 9.5 of the SPA exonerated Primus from breach to the extent that the subject matter of possible claims had been "fairly and clearly disclosed in writing in or under the Disclosure letter".

Reviewing previous authority, the Court noted that the commercial purpose of such clauses was to exonerate the seller by fairly disclosing the matter giving rise to the breach. The disclosure requirements themselves should be construed applying the usual rules of contractual interpretation, by reference to the express words used, the relevant factual matrix and the commercial purpose of the transaction.

In the Court's view, Primus had fairly and clearly disclosed the delivery and quality failings at Farnborough, both through its disclosure letter, correspondence and the documents disclosed in the data room. Both the Nadcap and the operational warranties claims therefore failed.

Not forward looking enough

Of more success was the claim under clause 19.5 of the SPA that, "so far as the Sellers are aware, the forward looking projections relating to the Companies have been honestly and carefully prepared".

The Court found that these projections failed to take into account key operational and financial assumptions, including the requirement for additional stock to be built, increased labour costs and delay to the start of production in Thailand. A more comprehensive modelling of the companies' operational and financial position would have resulted in a lower purchase price.

Damages

Damages for breach of the warranty were assessed by reference to the difference between the actual worth of the companies and what they would have been worth as warranted.

The Court agreed with the defendant's submission that the appropriate basis of valuation would be the discounted cash flow approach, giving a current value of US$48.3 million (compared to the agreed price of US$76.5 million).