Warranties and Disclosure: Interesting UK case providing valuable lessons for negotiating warranties and limitations in Share Purchase Agreements, by Neil Millar
On 15 May 2019, the High Court in England gave an interesting ruling with respect to the breach of warranties in a Share Purchase Agreement and the assessment of damages arising from this breach.
In the case of Cardamon Limited v MacAlister (116 Cardamon Limited v MacAlister and another 2019 EWHC 1200), the English High Court held that the sellers of all the shares in a private company were in breach of accounts warranties given by them in a Share Purchase Agreement by reason of an underprovision of the target company’s liabilities in its most recent annual accounts. The court ordered the sellers to pay damages to the buyer in an amount equal to the entire purchase price of £2,386,247.50.
The target company was an insurance sales business dealing with “added on” costs to existing policies. The sellers were absentee owners living in Australia and the target company was operated by a local management team. A heavily discounted purchase price was agreed on the basis that (1) the buyer was doing no due diligence (in part so as not to tip off the local management team who were understood to be working on a possible management buy-out), and (2) the seller was prepared to give the warranties “blind” (as an absentee owner, his role had largely been confined to reviewing accounting information).
The share purchase agreement contained warranties from the sellers to the buyer as to the truth, fairness, accuracy and proper preparation of the target company’s statutory accounts for the year ended 31 August 2013. It also contained provisions qualifying these warranties, including a cap on the sellers’ liability at the purchase price and a de minimus providing that the first £500,000 of any claim was to be irrecoverable.
Upon completion it became immediately clear that cashflow was a major concern. The buyer had to inject cash to maintain regulatory compliance and also to pay claims as they fell due. The buyer then conducted an audit which revealed the 2013 accounts to contain material inaccuracies. The buyer took the view that the target company had effectively been insolvent at the time of purchase and the buyer commenced proceedings for breach of warranty claims in respect of three matters, contending that £2,386,247.50 was recoverable since the damage it had suffered was £500,000 or more in excess of the £2,386,247.50 purchase price.
Two of these warranty claims were ultimately dismissed, one as the court found that the subject matter had been “fairly disclosed” within the meaning of the share purchase agreement and the other because the notice of claim served had failed to “summarise the nature” of the claim later relied on.
One claim, the “underprovision claim” succeeded and the judge found that there was a very significant underprovision in the 2013 accounts placing the sellers in breach of warranty, that the damages that on the face of it flowed from the proven breach of warranty exceeded the £2.3m purchase price by more than the £500k de minimis amount and that the recoverable damages were subject to the cap on liability but were not further reduced by the de minimis amount.
Lessons to learn
Although the facts in this case were unusual and perhaps relatively extreme, it would be of persuasive precedent in the Irish courts and there are interesting lessons to be learned for negotiating share purchase agreements:-
- A seller of shares should not give warranties such as the accounting warranties given in this case, simply relying on managers and auditors; if they do, they run the risk of a potential successful warranty claim by a buyer;
- Not undertaking a thorough due diligence exercise could prove costly for a buyer;
- Care should always be taken in preparing disclosure letters; and
- If a buyer is notifying a warranty claim, the notice must satisfy the share purchase agreement requirements and be served by the contractual cut-off date.
Neil Millar, Solicitor, Corporate Department (firstname.lastname@example.org)
Crowley Millar Disclaimer: This is a general information note and is intended for information only. It does not constitute legal advice and should not be regarded as a substitute for legal or other professional advices. Such advice should always be taken before acting on any of the matters referenced in this information note.