Company Update – Share purchase agreement : construction of indemnity (Court of Appeal)
The Court of Appeal has reversed the High Court’s decision finding that a buyer of shares in a professional football club was not entitled to payment under an indemnity in the share purchase agreement (SPA) against all losses arising in connection with the club’s aggregate “Liabilities” exceeding £6.6m as at 31 December 2016.
The SPA defined the club’s “Liabilities” for the purposes of the indemnity as the “aggregate amount of all liabilities….on or prior to [31 December 2016] (and only to the extent that such liabilities relate to such period)” The court found that the judge had erred in construing the definition so that it captured only those liabilities that “related to” the period up to 31 December 2016, and excluded any accrued liability where the benefit in respect of which the liability had been incurred was provided after that date. The judge’s construction of the definition, and in particular the words in parenthesis, was based on the commercial rationale for the exclusion of part of the club’s accrued liabilities as being to ensure that the seller did not have to account for the cost of benefits accruing to the buyer after it purchased the club, but this misunderstood the purpose of the indemnity and the terms on which the buyer had agreed to take over the club.
The court considered that the indemnity sought to strike a balance as at 31 December 2016 in terms of the amount of disclosed debts and other liabilities of the club the buyer was prepared to accept without any further adjustment to the sums payable to the seller. The £6.6 million referenced in the indemnity was based on the computation of the club’s liabilities in its January 2017 management accounts, which had been prepared on an accruals basis in accordance with accounting standard FRS 102 (the Trial Balance). For the indemnity to perform its intended function of compensating the buyer for additional liabilities which existed at 31 December 2016 but were not included in the Trial Balance, it was necessary to calculate “the aggregate of the Liabilities” as at 31 December 2016 and for the resulting figure to be compared with the £6.6m calculated on an accruals basis using the Trial Balance figures. It followed that, for the provisions to be operable, calculation of the club’s actual “Liabilities” as at 31 December 2016 had to be carried out in the same way as in the Trial Balance. The words in parenthesis in the SPA definition of “Liabilities” did nothing more than emphasise that such liabilities were those that should be recognised as such within the meaning of FRS 102 in respect of the reporting period ending on 31 December 2016.
The court did, however, uphold the judge’s finding that the buyer could not recover under a separate indemnity against losses incurred due to the inaccuracy of the seller’s statement in the SPA that all the club’s material contracts had been disclosed in the transaction data room, as the buyer had failed to establish that any loss was caused by the non-disclosure of certain contracts.
Author: Robin Bain