In Vercoe v Rutland Fund Management Limited the judge held for the claimants, Mr Vercoe and Mr Pratt, against Rutland Fund Management Limited (RFML), a venture capital company that had proceeded with a management buy-in deal which the two men had introduced, but without including them.
Perhaps unsurprisingly, given that Vercoe and Pratt had modelled their confi dentiality agreement on the standard form provided by the British Venture Capital Association, the judge supported their claim - in the face of a variety of arguments from RFML - that RFML was bound by its terms. Vercoe was awarded over £1.75m and Pratt over £860k in damages for breach of contract and breach of confi dence.
The judge referred to the Wrotham Park line of cases in relation to the assessment of damages for breach of contract, made observations concerning the overlap with the fi eld of breach of confi dence and discussed the parameters of the equitable remedy for an account of profi ts, which the claimants had pleaded in the alternative, but which he rejected.
Vercoe and Pratt had been professional racing drivers and fi rst worked together in 2001 on a business plan for a motor racing school. During this period, Vercoe began to take an interest in the pawnbroking industry, in which his father was involved.
He identified Harvey & Thompson Ltd, owned by Cash America and the largest pawn broker in the United Kingdom, as a ripe target for acquisition. He developed a business plan with Pratt which included:
- the possibility of amalgamating Harvey & Thompson and Albemarle and Bond, the second-largest company in the industry
- the purchase of Svensk Pantbelaning, its Swedish arm
- ideas for enlarging Harvey & Thompson’s business by turning it into a “neighbourhood community fi nance house/bank” with 100 UK branches; and rebranding the stores with the name ‘People’s Cash’ to reduce the stigma associated with pawnbroking.
Recognizing that they lacked experience and credibility in the fi nance sector, Pratt and Vercoe involved Peter Middleton, who had previously worked for Barclays Capital and had an interest in the subprime sector. Although their business plan left many details to be added later, it identifi ed the management team as including Middleton as chairman, Vercoe as chief executive offi cer and Pratt as commercial director, and described the functions of these roles. This proved crucial to Pratt and Vercoe’s eventual success in this case.
In September 2003, before the business plan was presented to fi ve venture capital companies, draft confi dentiality agreements - in relatively general and vague terms - were circulated and signed. They included the provision that “confi dential Information [would only be used] for the permitted purpose”. The term ‘confi dential information’ included the business plan and fi nancial model prepared by Vercoe and Pratt; the ‘permitted purpose’ was the possible management buy-in of the company or companies associated with the project. Shortly afterwards, Vercoe and Pratt made a presentation to RFML and later agreed to work with the company, which was to fund the project. A second, similar confi dentiality agreement was signed in November 2003.
Although the point was disputed, the judge largely accepted that while RFML was attracted by the proposal, it was concerned even at this stage about Pratt and Vercoe’s inexperience. However, rather than making this clear, RFML allowed negotiations with Cash America and the potential management team (both external and internal) to continue for many months before telling Pratt (in March 2004) and Vercoe (in July 2004) that they were surplus to requirements. The judge clearly disapproved of this behaviour, which he described as “shabby”.
RFML went on to purchase Harvey & Thompson and a majority shareholding in Svensk Pantbelaning in September 2004. Middleton became chairman and some members of the incumbent management were retained. RFML piloted a small-scale scheme for a new type of one-stop credit shop along the lines suggested by Vercoe and Pratt in their business plan, but this was unsuccessful and was quickly abandoned. RFML subsequently preferred to concentrate on the core pawnbroking business and their own proposed programme of cost savings and expansion, which resulted in Harvey & Thompson being fl oated on AIM in 2006 at a profi t of around £29m. Svensk Pantbelaning was sold in 2007 for a further profi t of £2.8m.
Breach of contract
The judge rejected RFML’s argument that Vercoe and Pratt could not rely on the September 2003 contract because it did not identify the members of the proposed management team by name; it was suffi cient that it referred to “the proposed MBI team” and that it looked forward to the provision of the business plan in the near future, which would disclose the identity of the individuals who would comprise the MBI team.
On a textbook examination of contract law - or even on a more practical analysis - it may seem harsh to have bound RFML in this way, with an interpretation that forced it to offer lucrative employment positions to individuals before knowing their identity, particularly as the success of the entire project might well depend on these unknown individuals. However, the judge interpreted the contract in its context. He maintained that in this area, where Vercoe and Pratt had carried out and funded all the research, protection of this kind was “of necessity” for the MBI team. He countered this by noting that the September 2003 contract also provided “important protections” for RFML, which could decide at any stage not to proceed with the project. However, RFML could not use the confi dential information outside the permitted purpose, and abandoning Vercoe and Pratt was an illegitimate purpose. Vercoe and Pratt had done nothing subsequently to waive their contractual rights and had not, as RFML had argued, acquiesced in RFML’s use of the confi dential information.
Damages for breach of contract are assessed to place the innocent party in the position in which it would have been had the breach not occurred. However, in this situation there were various different theoretical outcomes, the consideration of which was thankfully circumvented by the parties agreeing that the appropriate basis was the cost of purchasing consent from Vercoe and Pratt to use the confi dential information for a non-permitted purpose. Therefore, the judge relied on Wrotham Park and subsequent authorities in determining how to assess damages for breach of a negative covenant (ie, an agreement not to use the information). He held that the court must award a fair price based on a number of factors. He then had to decide whether - hypothetically, in 2004 - Vercoe and Pratt would have settled for a cash payout from RFML in return for a release from the negative covenant, or would have held out for an equity stake in Harvey & Thompson’s business.
Assessing them as natural risk-takers, and considering that venture capital companies are generally reluctant to part with cash until a deal is completed, the judge assessed that Vercoe would have been satisfi ed with 5% of the realized value of the sale of Harvey & Thompson and Svensk Pantbelaning, and Pratt with 2.5%. These evaluations equate to the sums awarded.
Confi dential information
The judge held that Vercoe and Pratt had provided valuable confi dential information to RFML, despite RFML having used its own expertise in the development of the business after acquisition. The confi dentiality obligations also bound various closely related parties who had not signed the agreements because they were aware of the obligations.
However, these obligations of confi dentiality merged into the September and November 2003 contracts and became governed by them, rather than by a separate law of confi dence. The judge rejected the submission that Vercoe and Pratt therefore had an absolute right to choose between compensation for breach of contract and an account of profi ts, but went on to consider whether such a remedy might be appropriate in this case.
He followed the Court of Appeal in Seager v Copydex and held, citing the judgment of Lord Nicholls in Blake, that the question of whether an equitable remedy or a legal remedy was sought was unimportant. The key was “whether the claimant’s interest in performance of the obligation... makes it just and equitable that the defendant should retain no benefi t from his breach of that obligation.” A signifi cant factor in this case must have been that RFML had expended considerable sums, taken substantial risks and used its own expertise in order to realize such large profi ts. It should not be deprived of the “fruits of its labours” in the manner proposed by the claimants.
The judge suggested that an account of profi ts may be ordered more readily in cases involving infringement of property rights. This analysis, he said, was consistent with the lesser protection usually provided in an ordinary commercial context - because of the “degree of self-seeking and ruthless behaviour” which might be expected from the parties - and the greater protection normally provided to parties in a fi duciary relationship. The damages for breach of confi dence were, therefore, identical to those for breach of contract.
Breach of fi duciary duty
The judge accepted that a fi duciary relationship could arise where the fi duciary (allegedly RFML, in this case) had regard, at least in part, to its own interests. However, in the absence of special circumstances imposing “additional fi duciary obligations on top of the ordinary contractual rights” of the parties, no such relationship had been established. Such obligations might arise in joint ventures on the creation of a partnership between the parties.
This case emphasizes how seriously the court takes obligations of confi dentiality in the context of proposed acquisitions of companies, despite its understanding - as set out in a lengthy preamble - of the risks for funders and the fundamental need, which the judge mentioned on a number of occasions, to install the right management team in the target company. The court held that when faced with these unwanted prospective managers, RFML should have negotiated to buy them out, accepted them as managers with reservations and provided additional management assistance to support and monitor them, or simply walked away from the project.