In the corporate world, Sale and Purchase Agreement (“SPA”) is typically used to effect and govern mergers and acquisitions. The SPA will lay down the structure of the deal and state in detail many crucial details of the transaction – for example, the purchase price, warranties, condition precedents and governing law. It is crucial that the SPA is well drafted so as to serve the role as a reliable and viable instrument through which either party to the transaction may rely on to seek legal redress should the need arises.

What are Warranties?

A typical sale and purchase agreement would contain multiple warranties which serves as contractual assurances or promises.  Warranties given by the seller are statements about the particular state of affairs of the target company.

Consequences for Breaching Warranties

The breach of warranties may give rise to a claim for damages to restore the claimant into a position it would have been if the warranty had not been breached. In Columbia Asia Healthcare Sdn Bhd v Hong Kin Kit Edward and another, the Columbia purchased a hospital through the use of a share purchase agreement.  The agreement warranted the hospital and land to be “free of all and any Encumbrances”. However, it turns out that there remained a charge on the land title by a third party and accordingly, a breach of the warranty. Court held that the sellers were to pay damages for the costs incurred by the buyer to remove this charge. Further, the sellers were also made liable to indemnify the buyers for costs for tax authority investigations following more breaches in a number of tax warranties in the sale and purchase agreement by under-declaring and under-paying taxes while in control of the hospital.

Disclosure and Due Diligence

For the Buyer, due diligence is critical in allowing him to gain the most accurate picture of the target’s business and financial position and uncover hidden liabilities before he commits to the transaction.

Due diligence and warranty clauses work hand in hand and complement each other. From the buyer’s point of view, due diligence process will alert himself to areas where a specific warranty may not be sufficient.  Thereafter, a more specific and customised warranty may be drafted into the SPA. From the seller’s point of view, it will also be in their interest to support the buyer’s due diligence by furnishing as much relevant information; clear and fair disclosure will remove ambiguities and uncertainty and potentially avoid any breach of warranties.

The duty to carry out the due diligence lies on the buyer. Failure to identify weaknesses in the business or financial records disclosed by the seller then becomes a legal liability the buyer inherits when he acquires the target.

In Infiniteland & Anor v Artisan Contracting Limited & Anor, an English Court of Appeal decision, the Buyer claimed that there was a breach of warranty in the sale and purchase agreement by the Seller for massaging accounts to inflate profits. Ultimately, the Court ruled against the buyers because the Seller’s disclosure letter, bundle and agreement were found to give adequate disclosure of the company’s accounts. It was to be fairly expected that the overstatement of operating profit could be identified from an examination of the documents in the ordinary course of carrying out due diligence.

Disclosure and due diligence exercises hence help to allocate risk fairly between the parties to a sale and purchase.

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Samuel Yuen

Author Samuel Yuen

Samuel has a strong reputation for being able to proficiently straddle the complexities of commercial transaction and the intricacies of intellectual property laws. His sharp business acumen allows him to provide innovative legal solutions. Samuel is a firm supporter of start-ups with disruptive potential. Samuel’s idea of fun is playing with his baby girl.

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