When it comes to selling your business the buyer will want you to give warranties and indemnities.  A case decided last month in the High Court of Justice (IPSOS S.A. -v- Dentsu Aegis Network Ltd) shows the importance of expert legal advice when claims under a Share Purchase Agreement are to be made.

The devil is in the detail.  So for those with an appetite for the legal detail please read on :).

 Warranties are very different from indemnities.  With a warranty the Buyer must prove its loss:  this can be very difficult.  Astute Buyers will often seek indemnities and these may well cover the same areas of risk as the warranties.  This gives the Buyer an alternative and easier claim.  The key feature of an indemnity is that if the facts are established then the Buyer can claim £ for £ without proving its loss.

The well-advised Seller will be wary of the risk of an open ended liability on an indemnity where the Buyer can simply ask him to pay up:  there is no duty to mitigate the loss with an indemnity claim.  So to avoid the risk of claims that are not effectively defended the well-advised Seller who gives an indemnity will invariably make the indemnity dependent on him having the conduct of the relevant legal claim against the third party claimant.

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To make such a legal framework effective the Share Purchase Agreement will need to include a provision under which the Buyer must give written notice to the seller of a proposed legal claim when it becomes aware of a claim.  The Seller can then decide if he wants to invoke the conduct of the claim clause to avoid the Buyer defending and, if unsuccessful, seeking the £ for £ indemnity.

These notice provisions (to flag the right to have conduct of the claim) are separate from those that govern notices of claim themselves:  on the latter front the limitation period under the general law is six years for breach of contract.  In a Share Purchase Agreement warranty claims (other than for tax) may be limited to two or three years.  A claim must often be brought within that timescale with legal proceedings required to be issued six months thereafter.  Failure to do so means the right to bring a legal claim is lost.

So what went wrong in this case?

The in-house lawyer seems to have got himself in a muddle over the two different notices:  the notice to make the Seller aware that he could take conduct of a claim and the one that must be given if the claim is not to be time-barred.

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Facts

The company being sold here was a market research company that had a large business in Brazil.  The Brazilian company was already in dispute with 62 allegedly self-employed contractors.  They were claiming that they were in fact employees entitled to paid holiday, pension contributions and other benefits.

In the brave new world in which we live of flexible working forces, workers claiming employment status is an increasing risk area for all businesses.  When you come to sell your business the astute buyer will focus due diligence on this area.

 The Seller’s solicitors disclosed the 62 claims under the Share Purchase Agreement against the relevant warranties that Brazilian employment laws had been complied with.  The effect of a disclosure is to shift the risk back to the Buyer.  Not though if the Buyer asks for an indemnity.  He may of course simply ask for a price reduction to reflect the risk.

The hapless in-house lawyer would have done himself a favour had he just asked for the price to be reduced.  Instead an indemnity was included to protect the Buyer against the claims.  That way (it will have been agreed) the price could be accurately adjusted after the event when the extent of the claims was known.

Or so the in-house lawyer supposed.

In fact over the next two years things became more complex still.  A further 132 claims were brought over and above the 62 disclosed claims.  Damages and legal costs of up to £2million were in prospect.

The in-house lawyer had made a notification (of sorts) 12 months after the deal was signed.  He expressly stated in that notification that it was for the purpose of the clause that gave the Seller opportunity to take conduct of the claim.  The Seller (using skilled legal advice) disputed the rather ill‑considered form of notification that lacked clarity.

It might have been thought that the Seller’s response would have made the Buyer more circumspect going forward.  Not so it transpired.  One year on and with just two days to go before the deadline for notifying a claim, the in-house lawyer hurriedly drafted and sent what he believed to be a form of notification of claim.

Mr Justice Simon in the Commercial Court at the High Courts of Justice, disagreed.  The Buyer had failed to follow the requirements of the Share Purchase Agreement he judged.  The notification he decided did not even make clear a claim was being notified let alone did it particularise the claim.

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The Judge likely concluded that a comprehensive set of arrangements had been negotiated in painstaking fashion over many months when the company was sold.

The fact that the Buyer chose not to engage a skilled legal adviser to formulate and present the warranty claim cost the Buyer dear.

Having chosen not to use an external law firm the Buyer did not have the benefit of a professional indemnity insurance policy to fall back on either.

The well-advised Seller of his business avoided a potential warranty claim of £2million.

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The moral of this story:  when the time comes to sell your business make sure you too use a lawyer experienced in the field.

You are likely to sell your company only once.  So make sure you give yourself the best possible protection.

If you would like further information on selling your business, or a Share Purchase Agreement, please contact us by phone on 0845 686 0960 or by email: james.hunt@everymanlegal.com.