Key Things To Know About Business Sales Contracts and Sellers Warranties
Business sales contracts usually contain warranties by a Seller on a wide range of matters concerning the business sold, including as clear title to all of the assets sold and to the truth and accuracy of financial records. It is frequently the case that buyers and sellers will negotiate on the terms of such warranties. A buyer will want all encompassing broad warranties, while a seller will want to confine and narrow the warranty terms to matters that they absolutely know to be true and correct.
Careful drafting of business contracts reduces risk
Careful consideration must be given to the drafting of a sale of business agreement. For vendors in particular, there are a number of contractual terms and conditions by which potential liability can be reduced, (but not fully eliminated) including:
• Avoiding representations about the future performance of the business;
• Limiting warranties to matters that the vendor knows to be true and correct and can control;
• Capping any amount that can be claimed as damages;
• Providing a minimum threshold of damages before a warranty claim can proceed;
• Impose responsibility on the buyer to do their own feasibility on future performance;
• If there is a due diligence period, the buyer should confirm full satisfaction with their enquiries on giving notice to proceed.
For a buyer, any clauses which try to restrict or reduce the Seller’s liability are undesirable. Care should be taken to ensure that there will be appropriate recourse against the vendor for undisclosed issues arising post-completion.
A buyer has a number of remedies available to them if they subsequently find that the warranties are breached, including an action for breach of warranty and action under the Australian Consumer Law (ACL).
Usually, an action for damages will rely on both causes of action, and the making of misleading and deceptive representations which is prohibited by s18 of the Australian Consumer Law (ACL), cannot be excluded by contract. Vendors should be aware that s4(2) of the ACL deems a representation about any future matter to be misleading, where there were no reasonable grounds for making the representation.
Sellers should also be aware that failing to disclose any significant facts or information may well be in itself misleading and deceptive conduct, even in a due diligence process where the buyer will conduct its own investigations. Silence on any material issue can give rise to a liability in damages, or allow a rescission of the contract.
A recent example of these issues was in the decision of Evolution Traffic Control v Skerratt
 NSWSC 49 (ETC).
The key facts of that case were:
• The buyer entered into a share purchase agreement for business for $10 million.
• The price was based on a multiple of 5 times the EBIT of the business.
• The seller provided future financial forecasts upon which the buyer relied in
determining the price paid.
• In calculating the EBIT, reliance was placed by the purchaser on financial forecasts
provided by the vendors.
• The financial forecasts relied upon a specific government funding program, which was
provided based upon the achievement of conditions which were in fact, unachievable
in the future.
• The sellers did not disclose that specific condition during negotiations.
On discovery of the conditions of funding, after completion, the purchaser issued proceedings
to recover the difference between the purchase price and the actual value of the business at
the time of the sale, and pleaded a case based on:
1. misleading and deceptive conduct under the ACL, and
2. for breach of the warranties.
The share purchase agreement contained two specific broad warranties:
(i) the accuracy and completeness of all information disclosed in due diligence
materials during the course of negotiations leading up to the sale; and
(ii) that all information that would be material for disclosure to a prudent purchaser had
The vendors failed to show that they had a reasonable basis for making representations about the business’ future financial performance. The Court ordered damages of around $4 million representing the loss suffered on a re-sale of the business for $6 million.
The key facts of the ETC case are not unusual in the sale and purchase of businesses, and illustrates the risk of a seller making representations about the business sold based on inaccurate and incomplete information.
Selling a business can be a rewarding and profitable experience, and the reward for many years of hard work, capital and effort. Don’t risk losing that with a poorly drafted or inappropriate contract.
Consult an experienced and knowledgeable lawyer on the terms and conditions of a contract before signing. It can make a huge difference to the outcome.
For further information and assistance on any matters relating to the sale and purchase of a business, call us. Our knowledge and experience will help you make good decisions.
We were recently successful for a client in a fierce contest in the Supreme Court in enforcing a 12 month restraint on a shareholder working for a direct competitor contrary to the provisions in a shareholders agreement (LCR Group v Bell (2016) QSC 130).
It is commonly the case that shareholders in a company enter into written agreements which set out their rights and obligations. Shareholders agreements of this nature are designed to achieve a harmonious and profitable business operational environment with cooperation between the shareholders.
A well drafted shareholders agreement should, particularly where the shareholders are of a management or executive level contain restraints of trade, drafted to strike a balance between achieving a harmonious and profitable business operational environment with cooperation between the shareholders, protection of the company interests, and protection of individual rights.
Recent decisions on the enforcement of restraints of trade in shareholders agreements point to a more commercial and contractual approach rather than the approach generally accepted by the courts when considering restraint of trade in an employment contract.
Restraints of trade in employment contracts are said to be void being contrary to public policy.
A well drafted restraint clause in an employment agreement will typically contain non-competition provisions, geographical and temporal restrictions.
The starting point as observed by McMurdo J in AGA Assistance Australia Pty Ltd v Tokody  QSC 176 at 25 is that:
“A restraint of trade is void as contrary to public policy unless it is reasonable in the interests of the parties and by reference to the interest of the public: see Nordenfelt v Maxim Nordenfelt Guns & Ammunition Co Ltd, Amaco Australia Pty Ltd v Rocca Bros Motor Engineering Co Pty Ltd. As to the interests of the public, the onus is on the party which is subject to the restraint to establish that the restraint is harmful to the public: Herbert Morris Ltd v Saxelby.”
Restraints on post-employment activity contained in shareholders agreements indicate a different approach. Issues such as mutuality of obligations, legitimate business interests of the company, acknowledgements of independent legal and accounting advice, the risk of loss of client and customer connections and relationship, confidential information and reasonableness of the restraints are all relevant considerations.
In BDO Group Holdings (Qld) Limited & Anor v Sully  QSC 166, Flanagan J considered and enforced a restraint imposed upon an accountant who became a party to a shareholders agreement and a party to an employment agreement when he sold his business into the applicants.
The restraint of trade in the shareholders agreement provided a non-competition restraint of trade which purported to restrain the respondent from engaging in any activity during the restraint period and within the restraint area which essentially competed with the business activity of the company, provision of similar services, inducing, soliciting staff or clients.
In dealing with the shareholders agreement, and Flanagan J observed that the respondent agreed to:-
- Diligently and faithfully devote…attention to the business
- To cooperate and use…best endeavours to ensure that the group successfully conducted the business
- To give approval to make decisions that were required of it in good faith and in the best interests of the group and the conduct of the business as a commercial venture
Relevantly, the shareholders agreement contained an acknowledgment that the terms of the restraint were reasonable considering the interests of each party and went no further than was reasonably necessary to protect the interests of the other shareholders, the group and the business.
In the decision of Seven Network (Operations) Limited & Ors v Warburton (No 2)  NSWSC 386, Pembroke J dealt with a restraint of trade involving a senior executive of the Seven Network in the context of restraints imposed under an employment contract and a management equity participation deed.
In a decision notable for its clarity and analysis of both factual and legal issues, Pembroke J found that the restraints imposed in the management equity participation deed should be enforced. In analysing the circumstances relating to entry into the management equity participation deed, the commercial background and experience was detailed exhaustively. In that case Mr Warburton was a person of considerable commercial experience, knowledge and acumen. His Honour also considered that the entry into the management equity participation deed by senior executives such as the respondent was an important factor in the venture capital company’s decision to invest in the company (an investment of approximately $690 million for a 50% economic interest). The transaction involved, through an equity participation plan, senior management being given a financial incentive to strive to maximise the value of the business. By this means, the interest of the investors and senior management were aligned. In an effective practical sense, they became “owners of the enterprise”.
The commercial rationale for the deed was also analysed and His Honour commented:
“It resulted in the participating executives becoming the holders of shares and options in SMG. By this means, they acquired a shared financial interest in the enterprise with KKR and Seven Network Limited. The MEP Deed was designed, amongst other things, to enhance the prospect of senior management staying together as a team. It provided each of them with an opportunity to achieve a generous return on investment that was disproportionate to the risk being undertaken. From the perspective of KKR and Seven Network Limited, the restraints on competition served to protect their investment. But they also served to ensure that the investment of each of the senior management participants was not undermined or devalued. The object of the restraints on competition was to reduce the risk of devaluation of the business by the departure of any executives to work for competitors: to reduce the risk of the misuse of confidential information by its provision to competitors: and to reduce the risk of dissipation or reduction in the customer connection of the business”.
His Honour found that on the facts of the case, there was no logical reason for denying the existence of a legitimate financial interest to support the restraints imposed.
His Honour also dealt with the provisions in the MEP Deed which contained an acknowledgement of reasonableness of the restraints imposed. His Honour said “this is possibly the most important single factor in determining whether the restraint period was reasonable at the time it was entered into. It does not of course absolve the court from reaching its own conclusion, but as Emmett J observed in Synavant Australia Pty Ltd v Harris (2001) FCA 1517 at 85:
“The matter involves the exercise of business judgment. For that reason, considerable weight should be attached to the period the parties themselves have selected.”
His Honour further pointed to the fact that in this case, Mr Warburton had obtained legal and taxation advice at the time of entry into the deed, had been to a presentation at which attention was drawn to it and the commercial rationale and purpose behind the restraint was explained to him and he obtained written legal advice which specifically addressed the clause. Those factors reinforced the appropriateness of placing weight on his agreement as to the reasonableness of the restraint.
In LCR Group v Bell (2016) QSC 130, Byrne J enforced a 12 months restraint on a manager and shareholder, after analysing the scope of duties of the shareholder and the business interests of the company, finding that the restraint was reasonable and valid where the company and the prospective employer were direct competitors, and “there was a significant risk of appreciable detriment to LCR’s commercial interests through misuse of LCR’s confidential information.”
Enforcing restraints of trade, whether in employment contracts, business sale agreements or Shareholders Agreements is never simple and usually involves complex and contested, factual and legal issues. Where there are significant risks of serious loss and damage occurring if the restraints are not enforced ,protective and urgent injunctions are well warranted.
If you have any reason to consider action on a restraint of trade, and require urgent advice, contact us for assistance.
Answer: Not very hard!
A party who is claiming a debt from a company will often want to consider the quickest and most cost-effective way for recovery. A drawn out court case over many months can often lead to a very unsatisfactory result, including lost time and legal fees. For these reasons, many will consider the use of a Statutory Demand under Section 459 of the Corporations Act 2001 which basically entails making a demand in a prescribed form and which allows 21 days to resolve the matter of the debt, or face a winding up on the grounds of insolvency. Properly used, it can be a fast and effective way to recover debts.
However, this process is often misused by parties particularly where the issue is not solvency of the company, but a genuine dispute as to the existence of the debt claimed.
The recent decision of ABC Constructions No 1 Pty Ltd v. Bonelli Constructions Pty Ltd  QSC 35 (4 March 2016) is an illustration of this point.
Bonelli issued a statutory demand against ABC for monies it claimed were due and payable as a consequence of a payment claim made under a building contract. ABC applied to the Court to set the Demand aside. At issue was whether there was a genuine dispute about the existence or amount of the debt that was the subject of the demand, and whether there was a genuine off-setting claim.
ABC claimed that the debt claimed under the statutory demand was genuinely in dispute. Bonelli had failed to submit documentary evidence supporting its progress claim; the debt has been the subject of a Principal’s Notice to Show Cause with a subsequent termination of the building contract by the applicant; and there are differences between separate progress claims issued by the respondent, at a relevant point in time.
ABC also contended that under the building contract it had a right to claim delay costs subject to a specified procedure, which had not been followed by ABC. ABC expressly disputed Bonelli’s right to make any claim for delay costs prior to service of the statutory demand.
Finally, ABC claimed that the statutory demand was issued in circumstances where there was a pre-existing dispute between the parties resulting in a termination of the contract by it.
On all of its arguments, ABC asserted a genuine dispute existed and that the Statutory Demand should be set aside with costs.
The Court agreed and set aside the Statutory Demand and ordered that Bonelli pay the costs of the application.
In reviewing the well-established principles and cases, the Court had no hesitation in finding a genuine dispute existed. Importantly, the court emphasised the relatively low threshold required to show a “genuine dispute”:
“No in-depth examination or determination of the merits of the alleged dispute is necessary, or indeed appropriate, as the application is akin to one for an interlocutory injunction. Moreover, the determination of the “ultimate question” of the existence of the debt should not be compromised.”
The Court quoted with approval the decision of TR Administration Pty Ltd v Frank Marchetti & Sons Pty Ltd in which Dodds-Stretton J said:
“As the terms of s 459H of the Corporations Act 2001 and the authorities make clear, the company is required, in this context, only to establish a genuine dispute or off-setting claim. It is required to evidence the assertions relevant to the alleged dispute or off-setting claim only to the extent necessary for that primary task. The dispute or off-setting claim should have a sufficient objective existence and prima facie plausibility to distinguish it from a merely spurious claim, bluster or assertion, and sufficient factual particularity to exclude the merely fanciful or futile… it is not necessary for the company to advance, at this stage, a fully evidenced claim. Something “between mere assertion and the proof that would be necessary in a court of law” may suffice. A selective focus on a part of the formulation in South Australia v Wall, divorced from its overall context, may obscure the flexibility of judicial approach appropriate in the present context if it suggests that the company must formally or comprehensively evidence the basis of its dispute or off-setting claim. The legislation requires something less.”
In other words, a party does not need to actually prove their case to show that a “genuine dispute” exists, but it should show the basis or grounds do actually exist. This usually requires the presentation of an affidavit that exhibits relevant correspondence and documents, and setting out of relevant facts to show a credible basis for a genuine dispute.
This recent decision is another of many examples where a party has been punished with a costs order for issuance of a statutory demand where a clear genuine dispute existed.
It illustrates the need to have good legal advice and to choose an appropriate way to resolve disputes, and particularly those which may involve the Court having to decide questions of fact and the meaning and effect of contracts and credit of witnesses. Such disputes are clearly not able to be decided under a Statutory Demand process.
If you have any reason to consider recovery of a debt or have received a statutory demand, and require urgent advice, contact us for assistance.
An Employer’s Liability as an accessory for misuse of confidential information by its own employees.
It is commonly the case that executives and senior managers seeking to jump ship from one employer to another either by themselves or through recruitment agents, actively promote themselves with promises that they can bring significant business with them thereby adding to their value and increasing their worth to a prospective employer.
The recent decision of Lifeplan Australia Friendly Society Limited v Ancient Order of Foresters in Victoria Friendly Society Limited  FCAFC 74 is a stark reminder of the risk to not just those employees who take and purport to misuse confidential information of former employers but also to the new employer.
In the Foresters decision, the court ordered that the new employer (Forester) should account for profits generated by business developed and managed by two former employees of Lifeplan.
The former employees of Lifeplan that joined Foresters in senior roles implemented business plans and drew clients away from their former employer. The court found that they did so whilst still employed by Lifeplan and had used and misused highly confidential information to do so.
On appeal, the court found that there was a causal relationship between the breach of the employee’s duties and the profits generated in their new employer. Further, the court found that Forrester’s as the second employer had knowingly acted upon the information, were implicated in the steps taken by the employees before jumping ship to join their company. As a consequence, the profits made by Forrester’s relied entirely upon the employees misusing the confidential information taken from their former employer and with the assistance and complacency of the new employer. Accordingly, the court ordered that Forrester’s pay damages in the sum of $6,200,000.00 representing profits made from the breaches of their employees against the former employer.
The court also discussed the provisions of section 79 of the Corporations Act 2001 (Cth) (“the Corporations Act”) which provides that a person may be involved in a contravention if and only if the person:
a) has aided, abetted, counselled or procured the contravention; or
b) has induced, whether by threats or promises or otherwise, the contravention; or
c) has been in any way, by act or omission, directly or indirectly, knowingly concerned in, or party to, the contravention; or
d) has conspired with others to effect the contravention.
The importance of this section lies in the fact that the former employees were claimed to have breached various provisions of the Corporations Act as officers of their former employer and they had been obliged in their capacity to exercise their powers and discharge their duties with a reasonable degree of care and diligence in good faith and in the best interests of the corporation and for proper purposes without improperly using their position to gain advantage or cause the corporation detriment and as officers they had obtained information that they were obliged not to use improperly or to gain advantage or to cause the corporation detriment. Those were civil penalty provisions of the Corporations Act section 180, 181, 182 and 183 and by section 79 of the Corporations Act, accessorial liability was established.
In fact, the court found that on the facts before it, “there was no doubt that the board of Forrester’s was actually aware, had actual knowledge, of the taking and using in breach of duty of confidential information. The board was not a passive observer of this; it did not prepare it but it used it in its decision-making process and after employing FPA in the governance process of checking performance. Likewise, Mr … knew of the clearly wrongful solicitations of funeral directors as the business venture was being agreed”. The court found that given the actual knowledge of the Forrester’s board in its participation of breached of the Corporations Act by the former employees, it would “not draw back from a conclusion that Forrester’s was knowingly concerned in those breaches”.
The decision is a stark and practical reminder of the risk in taking on new employees who promise to bring business and work from their former employer. Often, the promise of such new work proves irresistible to the new prospective employer, and the risks are either overlooked or ignored. The decision dealt with above clearly shows that the risk of damages are real.
If you have any queries in respect of these matters please do not hesitate to contact us for timely advice which may save expensive and troublesome litigation.
The introduction of the Australian Consumer Law (ACL) was meant to have the desired effect of delivering balance in the market place. To a certain extent, that may be true. However, there is one provision of the ACL in which it appeared to be the case that we found little guidance from court authorities, namely the question of re-supply under section 3(2) of the ACL. Or so we thought…
Recently this office defended a summary judgment application filed by a third party in our client’s case. The case involves the provision of managed services to customers by an IT company being our client’s company. The third party is alleged to have provided defective computer software to our client, which in turn allegedly caused problems in relation to our client’s provision of services to its customers. The third party brought its application for summary judgment on the basis that our client was not a consumer as defined in the ACL, and, accordingly the provisions of the ACL did not apply.
Section 2 of the ACL includes computer software in the definition of “goods”. To qualify as a consumer under section 3(1) of the ACL the goods have to be acquired for an amount less than $40,000.00 or alternatively the goods are acquired for personal, domestic or household use or consumption (the other provision pursuant to section 3(1)(c) of the goods consisting of a vehicle or trailer is irrelevant for the purpose of this discussion). These provisions are clear enough and on their own would not cause any confusion.
However, the difficulty of statutory interpretation of section 3 of the ACL in its application to the IT services industry arises due to the provisions of section 3(2) of the ACL, in particular section 3(2)(a) regarding the exclusion of the application of section 3 if the acquisition of the goods was for the purpose of re-supply. Our client had acquired goods from a major computer software provider for the purpose of performing its role as a managed service provider to its customers. In providing the managed services to its customer, our client would install the software but not provide the license key to the customer. The customer did not have any control over the computer software and they were never given access to the license key. Due to an alleged defect within the programming of the computer software issues allegedly arose for our client’s customers regarding their computers and eventually the business relationship was terminated causing our client loss.
The principal dispute in the proceeding lay between our client and its customer in relation to the customer repudiating the contract entered into with our client. Nevertheless, the issue regarding the alleged defect in the computer software which our client acquired from the computer software provider meant that it was necessary to bring in that software provider as a third party. In adding the third party, our client relied upon the provisions of the ACL. The software provider argued that the provisions of the ACL regarding consumers and the protections provided under the guarantees relating to goods did not apply to our client.
The Supreme Court of Queensland heard the third party’s application for summary judgment. As discussed herein, there was little previous court authority which applied to the question of re-supply under section 3(2) in relation to computer software. In particular, there was very little authority which applied to the unusual factual circumstances of this case. Notwithstanding the paucity of authority to guide the parties and the court, the Supreme Court of Queensland nevertheless agreed with our client’s argument there was a triable issue which necessitated our client’s case against the third party being heard, namely the fact that the exclusion under section 3(2) may not apply as the license key for the computer software was not provided by our client to its customers. The Supreme Court considered that based on the fact that the license key had not been provided the goods (in this case the computer software) had not been re-supplied.