A recent High Court decision in Sycamore Bidco Limited v Sean Breslin and Andrew Dawson  EWHC 3443 (Ch looked at the differences between warranties and representations in a sale and purchase agreement. It determined that the warranties were not capable of supporting a claim in misrepresentation.
The Court also considered that knowledge held by target company directors part of a management buy-out (MBO) team cannot be attributed to the newco purchaser (Newco).
Facts of the case
An MBO team, backed by a private equity house, acquired an insurance broking firm through an auction process. Based on accounts provided to them, the newly-incorporated purchaser valued the target at approximately £16.75 million. After completion the purchaser discovered several accounting errors in the treatment of compensation payments in the target company accounts, meaning the turnover figure had been overstated by about £300,000. The finance director and other managers knew of the accounting treatment of the sums leading to the errors but there was nothing to suggest they had behaved dishonestly in mistakenly stating the payments as turnover.
The purchaser claimed for breach of the accounts warranties and also, as a preferred alternative, that the breached warranties were misrepresentations.
The Court found that there had been a breach of warranty but dismissed the claim of misrepresentation.
The difference and why it matters
Damages for a breach of warranty are intended to put the wronged party in the position it would have been in had the warranty been true. In this case the relevant amount would have been the reduction in price the purchaser would have expected to pay had it known the correct turnover figures. This was determined to be about £4.75 million as calculated using the financial models adopted by the private equity house in working out an initial offer price.
Damages for misrepresentation are intended to put the wronged party in the position it would have been in if the misrepresentation had not been made. In this case, the purchaser claimed that they would not have entered in the agreement at all had they known the true turnover figures, meaning the damages payment would equal the purchase price.
So the difference in this case in the amount the purchaser could expect to recover was about £12million.
Warranties only – the reasons
The Court gave their reasons for finding a breach of warranty only as follows:
- The warranties were clearly defined and described as such in the share sale and purchase agreement (SPA) and disclosure letter. The disclosure letter made a distinction between warranties and representations.
- The SPA contained significant limitations on liability under the warranties but no such protection for misrepresentation. The judge pointed out that if the warranties were capable of being representations as well then based on this wording the sellers would have left themselves deprived of a substantial part of their protection and stated that this "would be a strange and uncommercial state of affairs, and can hardly have been intended".
- Misrepresentations usually arise as a result of a representation being made prior to the contract being entered into, inducing the entry into such contract. Here the judge said "the timing does not work" as the only representation is said to be in the contract itself and therefore could not have induced the claimant to enter into the agreement.
The Court also considered whether the knowledge of the finance director who had prepared the accounts and other management members who were aware of the facts resulting in the breach of warranty could be deemed to be "actual knowledge" of Newco once they became Newco directors. The SPA provided that "there was no liability under the warranties to the extent that [Newco] ...... was actually aware of the facts which actually constituted a claim for breach of warranty...".
The Court held that the knowledge acquired whilst they were directors of the target will not "suddenly magically be treated as knowledge of [Newco] for the purposes of the SPA" once they were appointed to the Newco board. It was recognised that this was not common sense and would make warranties somewhat pointless if the point was accepted. As the judge quoted from a previous judgement, English law has never taken the view that the knowledge of a director is imputed to the company.
It is clear that certain and precise language is needed to avoid warranties leading to claims for misrepresentation. If warranties are intended to be relied upon as representations this must be clearly stated in the SPA, and appropriate limitations included. Otherwise remove all wording suggesting a representation.
The judgment referenced other cases where warranties have found to be representations, and where certain of the points raised here weren't taken up. As general uncertainty relating to the treatment of such provisions remains, unequivocal language is required.