The decision in Francoeur v. 4417186 Canada Inc., 2013 QCCA 191 demonstrates the dangers of a share purchase agreement without due diligence and with acceptance of non-disclosure of employee bonuses.

The case arose in the context of the purchase of shares of one company by a business competitor. The Share Purchase Agreement expressly stated that the purchasers would undertake no due diligence and would have no access to material under seal until closing, including a list of employee change-of-control bonuses. The purchasers expressly assumed the risks resulting from these circumstances. In addition, the Share Purchase Agreement permitted the then-current president of the target company, SNF, to continue in that capacity with the power to make decisions in the ordinary course of business including reasonable measures to ensure that employees would remain with the company. By contrast, the Share Purchase Agreement precluded the president from signing contracts in excess of $100,000. The Share Purchase Agreement limited the representations and warranties to those expressly stipulated in the contract and provided for limited indemnification rights to the purchasers in the case of misrepresentations by the sellers.

Subsequent to the Share Purchase Agreement, the vice-president and SNF represented by its president entered into a contract of transactions or settlement to specify the conditions of the vice-president’s employment termination. The agreement indicated that the vice-president would take-on a new position as advisor to the president for a reduced salary for 12 months. The former vice-president waived all recourses against his employer in relation to the termination. While the former vice-president was available to the president for consultations, in fact the former did relatively little work prior to the closing of the share purchase.

At the closing, the purchasers of the shares learned of the change of control bonus and termination settlement agreement in favour of the former vice-president. The purchasers informed him that they would not honour the settlement agreement or pay the change-of-control bonus. They argued that he was not a legitimate employee at the time of the change of control because the settlement transaction was a sham intended to provide a gratuity to the former vice-president and was not a true contract of transaction or settlement of a dispute. The former vice-president initiated proceedings to homologate the transaction agreement and to claim the change-of-control bonus.

The Superior Court dismissed both actions. The CS decision held that the transaction agreement was a sham in that its object was not the prevention of a dispute between the parties. The transaction agreement was viewed as a new contract of employment prohibited by the terms of the Share Purchase Agreement because its value exceeded $100,000. The contract of employment was characterized as a “pure fiction” because the former vice-president was paid $200,000 merely to “sit at home”. Accordingly, the former vice-president did not have the status of an employee necessary to benefit from the change-of-control bonus. The trial judge also held that the bonus was not enforceable because it had been hidden from the purchasers.

The Court of Appeal reversed the first instance judgment on all of these points. The appeal decision stated that the purchasers, under the express terms of the Share Purchase Agreement, accepted the risks of non-disclosure of employee bonuses and of the absence of due diligence. These explicit contractual provisions were justified and enforceable given the competitive status of the two businesses, particularly given that the purchase was conditional upon regulatory approval. The president of SNF had the authority to bind the company to the termination settlement agreement. In fact, the settlement agreement was consistent with the terms of the vice-president’s employment contract and with his right to the reasonable notice of termination. The Court of Appeal decided that the termination settlement agreement was a valid contract of transaction under which the employee waived his recourses for termination and essentially was prevented from working for a competitor for the duration of the working notice.

The Court of Appeal rejected a counter-claim by the purchaser against the seller of the shares based on misrepresentation by a representative of the seller as to the absence of any bonuses. The court stated that the contract expressly indicated that the representations and warranties were only those provided in it. Further, the purchasers’ recourses under the Share Purchase Agreement were limited to indemnification provisions which were not invoked by them. Accordingly, even if there had been a verbal misrepresentation by a representative of the seller, the terms of the Share Purchase Agreement do not permit a claim on this basis.

The Francoeur decision raises serious issues as to the sale of a business from one competitor to another. Where the purchase is conditional on regulatory approval or otherwise, the seller will want to protect itself by not disclosing confidential information and by taking measures to ensure that employees are not “raided” by the purchaser. On the other hand, as indicated by the Francoeur decision, the purchase of a business without due diligence and subject to undisclosed employee bonuses creates a serious risk of unpleasant surprises for the purchaser. Some of these could be avoided through a due diligence process combined with a confidentiality agreement. However, it appears that the purchasers and seller in the Francoeur decision did not trust each other enough to avoid a serious conflict subsequent to the closing.