Disclosure – Why so important?
On an acquisition or disposal, warranties will be provided by the sellers to a buyer, such warranties being incorporated into the Sale and Purchase Agreement. Warranties are statements of fact/promises given by the sellers to a buyer in relation to the state of affairs of the entity being sold. The warranties will be keenly negotiated as a buyer will seek to have as great amount of warranty protection as it can obtain; any warranted fact which turns out to be untrue or misleading following completion could potentially give the buyer a claim for breach of contract against the sellers. From the sellers' point of view it is important that they understand fully and are comfortable with the warranties being given.
A seller will have protection against a claim for breach of warranty if any facts which potentially give rise to such a claim were disclosed to the buyer prior to completion. A buyer cannot claim breach of warranty if it was aware of such breach, or potential breach, prior to entering into the documentation and chose to go ahead with the transaction anyway.
The manner in which sellers formally make the buyer aware of any facts which could amount to a breach of warranty is through a disclosure letter, sent by the sellers to the buyer immediately prior to completion. The disclosure letter is therefore a key protection for the sellers and a significant amount of time should be spent drafting and finalising this letter to ensure that appropriate disclosures are made to avoid the sellers finding themselves on the receiving end of a breach of warranty claim. Equally a buyer should ensure that the disclosure letter is fully and properly reviewed to avoid any unpleasant surprises post completion.
The process for putting together a disclosure letter is for the sellers to go through each warranty in turn (typically with their financial, legal and other appropriate professional advisers) and considering carefully whether anything needs to be brought to the attention of the buyer in relation to each warranty. At this point it is important to remember that any disclosures made have to provide the buyer will sufficient information to enable a buyer to understand the issue or matter being "disclosed". Case law confirms that if a disclosure is too vague then the sellers run the risk that a court will find such disclosure was insufficient to preclude a claim for breach of warranty.
The disclosure letter will be accompanied by the "disclosure bundle" which contains all of the documents referred to in the disclosure letter. Therefore if, for example, an employee claim is disclosed then it is likely all correspondence relating to such claim would be contained within the disclosure bundle to ensure that the buyer cannot subsequently claim to not have had such details in relation to the claim. Depending the size of a transaction, bundles can run to many folders and it is becoming increasingly common for disclosures bundles to be contained on CD rom for ease of reference at the time of the transaction, and in the future.
The disclosure process is often a very similar process to the due diligence process considered in the Spring 2015 Edition of Education Focus, however it should be approached as a new process given its crucial importance to the sellers going forward. The disclosure letter is the final opportunity for sellers to bring any specific issues to the attention of a buyer before completion takes place. It might be that a particular disclosure causes the buyer to have second thoughts, adjust the price or seek legal other protections such as additional indemnities or a retention of part of the purchase price for a period of time to cover off the value of a post completion claim which might or is likely to arise.
This article is for general guidance only. It provides useful information in a concise form. Action should not be taken without obtaining specific legal advice.