INSIGHT: Sale and purchase agreements: be careful what you agree to…

When contracting parties reach an agreement to buy or sell a business, but one party later realises that the terms are not ideal, the court will, generally speaking, hold the parties to the contract: it will not try to improve the bargain they have made retrospectively.

In a recent High Court case, Bir Holdings v Mehta [2014] EWHC 3903, the court held that there was no implied term to calculate accurately and to substantiate an indemnity claim under a share purchase agreement.

In deals involving the sale and purchase of assets or shares, the parties will sometimes agree that on completion a proportion of the purchase monies will be retained for an agreed period in a retention account. This practice is designed to ensure that there are funds readily available should the buyer later have any post-completion warranty or indemnity claims against the seller. Clearly, it is in the buyer’s interests to negotiate the use of a retention account.

If the buyer makes no claims during the agreed retention period, the retained sum and all accrued interest will be paid to the seller. If claims are made during such period, but the value of such claims does not exhaust the amount in the retention account, the relevant proportion will be paid to the buyer and the balance will be returned to the seller.

On deals involving a retention account, a well drafted sale and purchase agreement will clearly define the circumstances in which the buyer may be entitled to set-off the value of any substantiated warranty or indemnity claim against the monies in the retention account. In this case, “substantiated” tends (broadly) to mean a claim in respect of which the seller admits liability or where a court has ruled in favour of the buyer.

In the above case, the agreement between the parties did not require the buyer to substantiate any claims and contained no mechanism for determining disputes over claims before monies could be paid out of the retention account. When the buyer made a claim for breach of warranties and indemnities, the whole amount of the retention account was therefore paid to the buyer.

The seller contested the amount of the claims and sought restitution of the withdrawn money. The seller argued that there was an implied term that any relevant claim needed to be accurately calculated and based on factual substance.

The court held in favour of the buyer and refused to imply a term that there was a requirement for the claims to be accurately calculated and supported by facts. The court did not have the power to either improve the bargain the parties made, nor to decide what would have been reasonable to agree in the circumstances. Here, the terms allowed the buyer to deduct amounts from the retention account without justification or consent from the seller.

This is an important decision for corporate buyers and sellers and is a reminder of the need for parties to agree proper provisions for set-off in the sale and purchase agreement – or risk consequences such as those suffered by the seller in this case.

Pearson’s corporate team is experienced in negotiating set-off provisions from the point of view of both buyer and seller. If you want more information or to discuss rights of set-off and retention accounts in sale and purchase agreements, please contact Keith Kennedy (a partner in the Corporate and Commercial Department) at keith.kennedy@pearsonlegal.co.uk or telephone 0161 684 6942.

Subscribe to our newsletter

Please note that the information and opinions contained in this article are not intended to be comprehensive, nor to provide legal advice. No responsibility for its accuracy or correctness is assumed by Pearson Solicitors and Financial Advisers Ltd or any of its members or employees. Professional legal advice should be obtained before taking, or refraining from taking, any action as a result of this article.

This blog was posted some time ago and its contents may now be out of date. For the latest legal position relating to these issues, get in touch with the author - or make an enquiry now.