A comprehensive disclosure exercise is in both the buyer’s and seller’s interests in company share sales. A share purchase agreement will more often than not include an extensive warranties schedule that the seller gives to the buyer.
Warranties are statements of fact given by the seller to the buyer about the state of affairs of the target company which the buyer relies on in making a decision as to whether to acquire the target company. The sellers may be liable for a breach of warranty if the warranty given is inaccurate or false.
Where warranties are given, the seller can protect themselves from a breach of warranty claim by making disclosures of information to the buyer, which is usually done by way of a disclosure letter.
The seller will want protection from a breach of warranty claim and the buyer will want a complete picture of the target company. Accordingly, it will always be better for both parties to understand and identify the target company’s issues prior to the acquisition to avoid having to litigate afterwards, which is costly and timely.
Ultimately, warranties force the seller to disclose all matters and issues in order to qualify the warranties and ensure the buyer is aware of the matters/issues.
Disclosure letters will usually be divided into general disclosures and specific disclosures and will have annexed to it a bundle of documents being disclosed by the seller to the buyer.
General Disclosures
General disclosures cover matters which appear in public records such as Companies House or HM Land Registry. The buyer will usually be aware of these disclosures since the buyer would usually carry out general pre-contract enquiries and searches as part of its due diligence process.
General disclosures are often the subject to negotiations since the seller will want to ensure the general disclosures are as comprehensive as possible and the buyer will want to limit these disclosures.
Specific Disclosures
Specific disclosures are actual matters which, if not disclosed, would or might constitute a breach of warranty. The specific disclosures are made by reference to the warranties themselves and are tailored to the warranties in the share purchase agreement as opposed to the sweeping general disclosures.
Standard of Disclosure
It is important for the seller to ensure that all relevant and material facts about the affairs of the target company are disclosed in as much detail as possible.
In Infiniteland v Artisan Contracting [2005], the Court stated that the buyer should clearly set out in the share purchase agreement what is meant by fair disclosure. A disclosure is fair if it puts the buyer in a position to be able to recognise or identify the issue.
If the disclosures are fairly disclosed in the disclosure letter, then there will be no breach of warranty. However, if the seller fails to disclose or makes inadequate disclosures, then this may give rise to a breach of warranty claim.
5 Tips for buyers and sellers on disclosure letters:
- The seller should produce to the buyer as soon as practicable a draft disclosure letter since undiscovered issues will often arise. This will allow the parties to deal with any issues that may arise early on. Such issues may cause the buyer to reconsider whether it wishes to proceed with the acquisition at all.
- The seller should ensure that the disclosure letter and disclosure bundle allows the buyer to be able to recognise and identify issues and gives as much detail as possible. The buyer should flag any issues to the seller rather than having to deal with issues post completion.
- If the seller is unsure whether something should be disclosed, the best approach is to disclose it. Conversely, the buyer should question the seller if something is not clear or further information is required.
- It is very likely that the disclosure bundle will contain commercially sensitive information. Therefore, it is very important that the seller has a confidentiality agreement in place with the buyer.
- The buyer should carefully review the disclosure letter and disclosure bundle to ensure it has not failed to consider important disclosed information which may be detrimental to the buyer after the acquisition since the buyer will not have recourse if the information was fairly disclosed to it.
Conclusion
Disclosure letters are a key document in any share sale and its contents can be crucial to the negotiation of the terms of the share sale. Sellers want to ensure they do not expose themselves to a potential claim for a breach of warranty and buyers want to ensure they have a clear understanding of the affairs of the company and recourse for a breach of warranty. A well drafted disclosure letter is therefore crucial for buyers and sellers.
Speak with our expert Aaron Kapoor or our Corporate team here.
This article is part of our share sale series. Read our previous article in our series here.