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Short answer: potentially up to £11m in this recent case! (The Sycamore Bidco case – see also other articles: ‘Knowledge and warranties – how warranty negotiations can pan out’, and ‘One of several shareholders giving warranties in a share sale? Be careful!‘)
Most share sale agreements contain a raft of warranties (statements relating to the company and the business that the sellers promise are correct) and then say that if a warranty proves to be incorrect the buyer can only make a claim for breach of contract and cannot make a claim for the tort of misrepresentation.
What’s the difference between a warranty and a representation?
· A representation is a statement of fact or opinion. It is usually pre-contractual. If the buyer has relied on it when deciding to enter into the contract, and if it proves to be false, the buyer may have a claim in tort for misrepresentation. If he does, the contract may be voidable/set aside/ rescinded – meaning it will be treated as having never been entered into and the parties will be restored as far as possible to their pre-contract positions. Often this is too difficult, and instead the court awards damages calculated to achieve the same result in money terms.
· A warranty is a contractual term. The broad principle is that contracts should be performed. The remedy is damages. The damages are broadly calculated as the loss of bargain – here, the difference in the value of the shares resulting from the fact that the warranty was wrong. (NB it’s not necessarily the difference between what the buyer paid and what it would have paid. If the buyer had made a particularly good bargain, eg agreed to buy something for £100 which is really worth £150, and it ends up being worth £60 due to the breach of contract, he can claim £90 not £40. Broadly speaking.)
How do judges interpret contracts? The importance of good drafting.
At the end of the day, when all is said and done, it is up to the parties to a contract to put in the contract whatever they want. If you are a buyer, you may well want to be able to keep the right to rescind the contract, particularly for important breaches of warranty. If you are a seller, you will not want the buyer to have this right, and you should make it clear in the contract that the warranties can only give rise to a contractual claim, and that the buyer has no rights to claim for anything else. Ideally, one way or another the contract should be made as clear as possible. Quite often the effect of what has been drafted is not very clear, and the courts have to work out (causing the parties considerable pain and expense) what a contract means based on how it is actually worded and what the parties seem to have intended. Where there is any ambiguity the judges will try to interpret things to achieve what they see as a fair result. For example a contract might state that the sellers ‘represent and warrant’ that certain facts are correct, which can make things a bit confusing as you have to look at other clauses in the contract to decide what exactly the parties meant.
Sycamore Bidco case
In this recent case (Sycamore Bidco Ltd v Sean Breslin and Another  EWHC 583), the contract contained warranties. The warranted facts which proved to be incorrect related to the company’s accounts. The target company had gone bust after the purchase, and the buyer was effectively looking to set the transaction aside and recover the £17m-odd it had paid. The damages for a contractual warranty claim would have been significantly less. The contract was actually worded quite clearly. It referred in the right places to ‘warranties’ rather than ‘representations’. It said that any pre-contract representations could not give rise to a claim. But the buyer tried to argue that the warranties in the contract were also representations, and that the contract didn’t say that representations in the contract itself couldn’t give rise to a claim for misrepresentation. Also, the standard limitation of liability clause in the contract said it was limiting the sellers’ liability for breach of ‘warranties’, not breach of ‘representations’, and the buyer was therefore hoping that the sellers’ liability for their misrepresentations wouldn’t be limited. A case of the buyer trying to have its cake and eat it.
As with lots of these cases, you can never be too sure what a court might say. After all, if you say in a contract ‘I warrant that the accounts are accurate’, why shouldn’t you also read that to say ‘I represent that the accounts are accurate’? If you really want to make clear that you don’t represent that the accounts are accurate shouldn’t you have to spell it out?
Well, the court looked at all the provisions of the contract, and decided to disagree with the buyer. The court said the drafters of the contract knew what they were doing, and if they had wanted the warranties to be treated as representations they would have said so.
It’s worth noting that this was a High Court case and the judge disagreed with the judge in a previous High Court case. As I said, judges can easily reach different decisions from previous judges – they can decide a case on its particular facts, and because they are clever (as are the lawyers representing both parties) they can come up with all sorts of arguments to back up whatever they want to decide. But in this case the judge didn’t bother – he simply stated that he disagreed with the judge in the earlier case. (If the buyer doesn’t like it, it can appeal. And if an appeal court sets out a clear ruling any future High Court judge would have to follow that ruling.)
The buyer also suffered because the court made an order of costs against it (making a slightly ground-breaking decision as regards the effect of a payment into court which had been made by the buyer – a litigation strategy issue which isn’t really my specialist field to talk about).
With many contracts, it doesn’t ultimately matter too much if the sellers are said to ‘warrant…’ or ‘warrant and represent…’ as the contract then goes on to spell out the consequences of a breach. For example:
· It might say that the buyer only ever has a remedy in damages for breach of contract; and has no right to rescind (or to repudiate).
· Or it might set out a completely different way to calculate the claim amount. For example, share sale contracts often say that damages may be calculated on an indemnity basis as opposed to a contract breach basis. It can often be very hard to work out how a buyer has worked out what it will pay for a company (was it valuing the company on some convoluted combination of a price-earnings basis and a net asset basis?), and without knowing this it can be difficult to work out the damages on a breach of warranty claim – ie how much less would the buyer have agreed to pay if it had known that the facts set out in a particular warranty were different? Many buyers like to give themselves more certainty by insisting on the choice of imposing an indemnity basis instead – ie that the damages will be calculated on a pound for pound basis based on the loss caused to the target company (ie not the buyer). This basis will not always produce the biggest recovery for the buyer. Where the warranty claim is for something which affects the profits of the company – eg an undisclosed cost which reduces the profitability of a particular contract – the buyer who has valued the company on a multiple PE basis might still prefer to bring a normal contract damages claim if this could be a multiple of the actual loss of profit to the target company.