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17 March 2015
In The Hut Group Limited v Nobahar-Cookson(1) the High Court considered what was necessary to comply with a provision in a share purchase agreement requiring notice to be given of a breach of warranty claim. The court also considered the circumstances in which acts and omissions (in this case, fraud) by natural persons can be attributed to a company and how damages for breach of warranty should be calculated.
The claimant was online retailer The Hut Group Limited (THG) and the defendants were Oliver Nobahar-Cookson and Barclays Private Bank and Trust Limited, the trustee of Cookson's family trust in Jersey. In 2011 THG bought an online sports nutrition business owned by the defendants, Cend (trading as My Protein), pursuant to a May 31 2011 share purchase agreement.
In consideration for the sale of their shares in Cend to THG, the defendants received cash consideration and equity in the combined business by way of shares in THG.
THG claimed that the defendants were in breach of warranty relating to Cend's management accounts. The defendants warranted in the share purchase agreement that those accounts had been prepared in a way which was consistent with the preparation of its statutory accounts and gave a true and fair view of the company's financial position. However, THG claimed that seven adjustments to the accounts were required for them to comply with the warranty.
The defendants rejected the claim, contending as follows:
The defendants brought a counterclaim asserting that THG was in breach of the buyer warranties that it gave in the share purchase agreement relating to the value of the consideration shares in THG. THG admitted liability for the breach, which was caused by accounting fraud by its financial controller (leading to the company's earnings before interest, taxes, depreciation and amortisation (EBITDA) being overstated by £5.6 million). THG contended that the fraud could not be attributed to the company, so that a £7.24 million contractual cap on its liability under the share purchase agreement applied.
THG's breach of warranty claim and allegation of its late notification
The court held that, on the facts, the defendants had breached the warranty relating to Cend's management accounts. The court agreed with THG's contention that it only became "aware of the matter", and was so required to serve notice on the defendants, at the point at which it was "aware that there was a proper basis" for putting forward a warranty claim. This was commercial sense; without knowing that a claim has a proper basis, a party to a share purchase agreement would not expect or wish to notify the other party of it. In other words, it cannot have been the parties' intention to require notice to be given every time a party became aware of facts which might form the basis of a breach of warranty claim.
THG's notice of the nature of its claim and amount claimed
The court held that the notice given by THG contained sufficient detail of the claim and thereby complied with the share purchase agreement's requirements as to the content of the notice. The court stated that "not much was contractually required" to meet the "reasonable detail" threshold of the clause, and that THG had provided all that was practicable by way of quantification at this stage.
Quantum of THG's claim
As to the measure of damages for THG's claim for breach of warranty, it was common ground that any loss suffered by THG would be quantified as the difference between:
The parties agreed, and the court found, that Cend's warranty false value was an arithmetical exercise which should be calculated by reference to a multiple of Cend's EBITDA. THG argued that a discounted multiple should be used, because the existence of errors in the accounts called into question the accounts as a whole and further issues could arise which would lower the value of the business to the buyer. Using the reduced multiple would reduce the warranty false valuation and so increase the difference between the two values. However, the court did not accept THG's arguments on this point in light of the factual evidence. It found that a discounted multiple would produce an unrealistic valuation of THG's loss and instead applied the original transaction multiple of EBITDA.
The trust had acquired the consideration shares in THG, which represented a minority shareholding in THG. The value of the counterclaim was dependent on the same principles as applied to the claim, in relation to the THG consideration shares. The court went through the exercise of valuing the shares on a warranty false basis. One issue for determination was the extent to which the court should take account of matters following the breach in assessing loss. THG contended that:
The basic principle is that the loss is suffered and damage should be assessed at the date of breach. The court concluded that improvement in the state of the company following breach did not affect that conclusion. The court found that the present case was distinguishable from The Golden Victory,(2) in which it was held that where value depends on the outcome of a future contingency, the known outcome of that contingency may sometimes be taken into account, but only where "necessary to give effect to the overriding compensatory principle".
The attribution of acts and omissions by natural persons to a company was a matter of construction in each case. The court found that THG's financial controller had been heavily involved in the transaction. He had provided the financial information on THG which was essential to the deal proceeding. It was irrelevant that he was not a front-facing member of the deal team. Other members of the finance department were also involved in the fraud. In these circumstances, the court concluded that the fraud (the admitted breach of warranty) could be attributed to the company. As a result of this finding, THG was not afforded the protection of the £7.24 million contractual cap on liability for breach of warranty.
Finally, as to the measure of damages for the defendants' counterclaim, the court held that the defendants' loss should be assessed at the time of the breach and should not, as THG had argued, take into account the fact that the defendants stood to benefit from the future sale of THG.
Normal principles of construction apply to these types of contractual notice clause in a share purchase agreement; the clause will be given its natural and ordinary meaning. Practitioners involved in breach of warranty and other post-M&A claims will need to consider each clause on its terms. However, the wording of the clause in the present case is commonly used in share purchase agreements, so the decision provides useful guidance on the interpretation of such a contractual notice provision. In particular, it is interesting to note the judge's comment that "nothing much" was required for the purposes of providing information on the nature of the claims under the notice clause, despite the clause specifying that "reasonable detail" was required.
The case also demonstrates the potential scope for sellers to argue that a buyer's claim should fail for want of complying with a notification clause. In light of this, while commercially buyers commonly agree to a time limit on notifying claims, the particular provision should be carefully drafted to avoid any ambiguity as to when time starts to run, and also as to what exactly is required to be notified to found a claim. In the adrenalin rush of securing and signing a commercial deal, it is easy to pay less attention to what appear to be boilerplate clauses at the end of the share purchase agreement.
For further information on this topic please contact Geraldine Elliott or Sarah Trimmings at RPC by telephone (+44 20 3060 6000) or email (email@example.com or firstname.lastname@example.org). The RPC website can be accessed at www.rpc.co.uk.
(1)  EWHC 3842.
(2)  2 AC 353.
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