Sale agreements will usually contain a range of warranties by the vendor in favour of the purchaser in relation to the company or business being sold. These warranties are usually subject to a range of limitations (e.g. minimum and maximum claim thresholds and time limitations) and qualifications. One of the common qualifications is to the effect that the purchaser cannot claim a breach of warranty if the vendor disclosed the true state of affairs to the purchaser prior to signing the sale agreement. A recent UK case considers how overtly a vendor needs to disclose matters in order to excuse liability on this basis.
Who needs to know?
Vendors and purchasers who have or are considering entering into any sale agreements with disclosures against warranties.
Recent Case
The recent decision of the UK High Court in Triumph Controls UK Limited v Primus International Holding Company[2019] EWHC 565 arose from Triumph’s purchase of Primus in 2013.
The purchase occurred pursuant to a share purchase agreement. The purchase price paid by Triumph was about US$76 million.
Primus was a manufacturer of composite materials for the aerospace industry. It had been incurring losses, although its forecasts predicted a significant return to profitability over the coming years. As it turned out, Primus suffered a range of operational and other issues. Its performance was significantly worse than expected. Within the first year following the acquisition, Primus even lost a key industry accreditation as a result of poor quality / operational issues and this further contributed to its woes.
Triumph considered the acquisition of Primus to be a disaster, requiring substantial cash injections and ongoing management input to turn it around and avoid complete collapse. Despite the support, it claimed Primus’ debt had blown out to US$120 million and that the shares it purchased were worthless.
Primus on the other hand viewed Triumph’s claims as essentially a case of ‘buyer’s remorse’. According to Primus, Triumph knew it was buying a loss making business and yet proceeded with the purchase even after it had been told about serious operational and quality issues.
Fully and Clearly Disclosed
The sale agreement stated that Primus was not liable for a warranty claim “to the extent that the matter the subject of the claim is Disclosed”.
The term “Disclosed” was defined to mean “fairly and clearly disclosed in writing in or under the Disclosure Letter (with sufficient detail to identify the nature of the matter disclosed)”.
The Disclosure Letter was given by Primus to Triumph at the same time that the sale agreement was entered into. The Disclosure Letter made a range of general and specific disclosures. The general disclosures included all of the documents in the online data room. The data room index was attached to the Disclosure Letter.
Triumph claimed that several of the warranties relating to quality and operational matters had been breached. Primus argued that it was not liable because it had adequately disclosed the true situation.
For the sake of brevity, an analysis of the warranty claims and the disclosures that were made is beyond the scope of this article. It is nevertheless noted that the trial lasted for about 5 weeks and involved several hundred thousand documents.
Decision
On the facts of this case, the Court held that Primus had made adequate disclosure.
After reviewing the judicial authorities in this area, the Court focused on the disclosure standard agreed by the parties, as set out by the wording in the sale agreement. In this case, Primus wasn’t liable if “the matter” the subject of the claim was “Disclosed”. This meant the matter needed to be “fairly and clearly” disclosed in writing “in or under” the Disclosure Letter.
The Court noted that the “in or under” wording meant that the matter didn’t actually have to be set out as a specific disclosure “in” the Disclosure Letter itself. Hence, the Court considered it permissible for the Disclosure Letter to incorporate matters by cross-reference and thereby disclose the entire contents of the data room.
The question then became whether the specific disclosures in the Disclosure Letter, together with the documents generally disclosed in the data room, “fairly and clearly” disclosed the matter.
Some of the disclosures could perhaps have been made more overtly. Some of the disclosures also required further information or a degree of deduction, inference or piecing together to understand the true picture. A reasonable person undertaking due diligence may well have understood the matter or at least been sufficiently alerted to issues so as to ask for more information, if desired.
Again, the Court focused on the disclosure standard agreed by the parties. In particular, the requirement that the matter be fairly and clearly disclosed “with sufficient detail to identify the nature of the matter disclosed”. On this aspect, the Court noted that the sale agreement only expressly referred to details identifying the “nature” of the matter to be disclosed. No express reference was made to disclosing other details, such as the extent or scope of the matter.
The Court held that Primus adequately disclosed the “nature” of the matter even if it may not have fully and clearly disclosed the true and full extent of the matter.
Observations
The interpretation applied by the Court may be viewed as setting the disclosure threshold relatively low. This may be surprising to practitioners having regard to previous cases in this area.
While it is true that the sale agreement in this case expressly required effective disclosures to be made “with” sufficient detail about the “nature” of the matter, the Court’s interpretation essentially means that a disclosure will be effective even if it is made without other details that perhaps would ordinarily be expected if the disclosure is any sense to be regarded as having been made “fully and clearly”.
Practical Points to Take Away
- While this is a UK case, it is likely to be of persuasive authority in Australia where there is relatively little case law on this topic.
- Purchasers should try to set the disclosure standard at a higher level and insist that the nature and the scope and extent of, and perhaps the effect of, the matter be sufficiently disclosed so that the matter is immediately obvious without the need for inference or deduction. On the other hand, vendors should try to set the disclosure standard at a level that can more easily be satisfied.
- Arguably, if the “under the Disclosure Letter” wording was not included in the definition of “Disclosed”, the general disclosure by incorporating the entire data room may not have been effective.
- If a Disclosure Letter is to be used, carefully consider whether a general disclosure for the entire data room should be allowed. This approach is relatively common in Australia, but it is not always applied. It is also an uncommon approach in other jurisdictions such as the US where the usual practice is to allow specific disclosures only.