Case (Dis)Closed: When a seller’s liability is limited beyond the Disclosure Letter

19 January 2022

Author: Helena Park
Practice Area: Corporate - M&A

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The disclosure letter has long acted as the “ace up the sleeve” for prospective sellers in a share sale. Its main purpose is to identify and make known to the buyer any exceptions to the warranties that are given by the seller in the share purchase agreement (“SPA”). Therefore, provided the disclosure is made in sufficient detail in the disclosure letter, the seller will be protected against breach of warranty claims arising from such disclosure.

With the recent decision of Butcher v Pike [2021] EWCA Civ 1407, the Court of Appeal has held that sellers can in some circumstances also rely on information disclosed to the buyer outside of the formal mechanism of the disclosure letter.

Background

The target company’s main business was as an online lettings agency for companies such as Rightmove and Zoopla.

The buyer claimed damages allegedly due to them for a breach of warranty. The warranty in question stated that the target company had not defaulted under any agreement to which it was a party. However, the buyer claimed that the company was in breach of contractual restrictions in its agreements with two online platforms, which, on the buyer’s interpretation, prohibited it from advertising lettings on behalf of other agencies.

As is often the case in share sale transactions, the SPA stated that the sellers’ warranties were “subject only to any matter which is fully, fairly and specifically disclosed in the Disclosure Letter”.

The SPA also specified certain specified limitations on the sellers’ liability, including a requirement that any claim for breach of warranty should be notified to the sellers within six months of completion, unless it related to fraud, negligent non-disclosure, or certain taxation matters.

Whilst the buyer accepted that it had not given the sellers notice of its warranty claim within the six-month time limit imposed by the SPA, it argued that this did not matter, because clause 6.2 of the SPA disapplied the limitation in relation to any warranty claim involving "negligent non-disclosure".

  • The buyer therefore sought summary judgment on the question of whether or not there had been such a non-negligent non-disclosure, on the basis that the target company’s activities on behalf of other agencies were not mentioned in the Disclosure Letter.
  • The sellers contended that they could rely upon disclosures made outside the disclosure letter, and as the buyer was made aware of the platforms' terms before entering into the SPA, it could not argue there had been a non-disclosure.

First Instance decision

At first instance, the court rejected the buyer’s argument, holding that the sellers could rely on disclosures made outside the Disclosure Letter. The judge acknowledged that the provision setting out the time limit made no reference to the Disclosure Letter, although it could have done so if this was the parties’ intention, as they had done when setting out the qualification to the warranties. Furthermore, the two clauses served different purposes. One excepted certain matters from the scope of the warranties given by the sellers, while the other defined exceptions to their limitation of liability.

The judge held that “it is not for the court to re-write contracts or impose on parties to them what the court may think would have been a reasonable contract.”

The summary judgment was refused. The buyer appealed.

The decision on appeal

The Court of Appeal upheld the decision at first instance. Arnold LJ agreed with the decision, adding that:

  • In this instance, it was agreed that the sellers were under no duty to make any disclosure to the buyer; any disclosure was for their own benefit, serving to limit the scope of the warranties they were giving. “Negligent non-disclosure” was able to be construed widely and the court had to assume that the failure to define it by reference to the Disclosure Letter was intentional.
  • The general rule that a limitation of liability will be narrowly construed did not apply in this instance because the court was called upon to construe an exception to the limitation rather than the limitation itself.
  • If, in fact, the relevant information had been disclosed elsewhere, it would not make sense to ask whether or not there was a negligent non-disclosure in the Disclosure Letter, especially given that the qualification to the warranties (which referred to the Disclosure Letter) was intended to benefit the sellers, whereas the exception to the limitation provisions (which did not) was intended to benefit the buyer.

Conclusion

This decision raises some uncertainties regarding whether or not a buyer can claim for a breach of warranty when disclosures are made outside the Disclosure Letter, particularly where the SPA contains general references to non-disclosure.

Buyers should therefore carefully review references to disclosure in the SPA to ensure that the wording is specific as to how a valid disclosure can be made, as ambiguity on this issue may be decided in favour of the seller. For sellers the golden rule in preparing the Disclosure Letter remains to ensure that everything that is relevant is disclosed in as much detail as possible, even if the buyer is already aware of a particular matter.

If you have any questions on how this might affect your business or if you want more information, please do not hesitate to get in touch with our Corporate team.

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