Court of Appeal: Disclosure outside the Disclosure Letter can restrict warranty claims

In the case of Butcher and another v Pike and others [2020] EWHC 3362 (QB), in which Flint Bishop acted for the successful claimants, the High Court determined that disclosures outside of the disclosure letter could be relevant for the purposes of warranty limitations. The Court of Appeal has now upheld this decision in Butcher & Anor v Pike & Ors [2021] EWCA Civ 1407.

Flint Bishop partner and head of commercial litigation Nick Wells and solicitor Kelly Savage, who acted for the successful claimants in the High Court and Court of Appeal, discuss the impact of this decision on corporate transactions and warranty claims arising out of such transactions.

Warranties and disclosures – conventional wisdom and context

Most corporate transactional lawyers subscribe to the view that the disclosure letter is the only place relevant for disclosures against warranties in a corporate transaction. That is often the case, but contractual limitations on warranty claims can also affect the protection afforded to buyers and sellers under sale and purchase agreement terms.

As with any matters of contractual interpretation, context and the wording of the clauses in question are crucial. Here, the relevant clauses on the warranties were:

“5.1. The Warrantors warrant and represent to the Purchasers that (subject to clause 5.2) each Warranty is true, complete and accurate and not misleading at the date of this Agreement.

5.2. The Warranties are subject only to:

5.2.1. any matter which is fully, fairly and specifically disclosed in the Disclosure Letter; and

5.2.2. the provisions of clause 6.”

Clause 6 contained several common limitation of liability clauses, including aggregate liability provisions and a contractual time limit of 6 months for notification of warranty claims. Clause 6.2 then set out an exclusion to the warranty limitations, including the following:

“6.2 None of the limitations contained in clause 6.1 apply to any claim under the Warranties where there has been fraud or negligent non-disclosure…”

Issues before the court

The sellers claimed for unpaid deferred consideration. The buyers counterclaimed for alleged breaches of warranty, accepting that they had not notified of the relevant claim within the 6-month time limit, but arguing negligent non-disclosure as allowing the warranty claim regardless. The sellers accepted that disclosure had not been made in the disclosure letter, but argued that for the purposes of clause 6.2, disclosures could be outside of the disclosure letter. The sellers sought a declaration from the High Court to this effect as part of a summary judgment application within the wider litigation.

The arguments before the court highlighted the problems caused by ill-thought-out drafting[1]. In legal context, negligence requires a failure of a party to comply with a duty on that party. There was no duty on the sellers to disclose against any warranties; it was a matter for them as to what they disclosed against the warranties in order to reduce the scope of any warranty claims that could be brought against them.

The court’s decisions

At first instance, the High Court recognised that there could be a distinction between the relevance of, and form of, disclosure for the purposes of disclosures against the warranties (clause 5.2.1) and the operation of the limitations to claims on those warranties (clause 6.2, which was referred to as the Proviso), finding at paras 71 to 73 of the judgment as follows:

“71. There was no disagreement before me that… it is not possible to point to any duty (as might be relevant to an assertion of negligence) on any party to disclose anything: all that can be said that if a Warranty claim is to be avoided, facts and matters must be disclosed in the [Disclosure Letter] to the requisite standard. The operation of the Proviso is a different matter altogether.

72. What it seems to me cannot be argued is that if the purchasers did know perfectly well of a matter, albeit that it was not in the [Disclosure Letter], that in regard to the Proviso, the matters had not been disclosed to them. In reaching this view, I rely upon the fact that when in the Proviso the concept of disclosure is raised, no reference is made to any standard of disclosure; nor is reference made to the [Disclosure Letter].

73. …I am satisfied that non-disclosure as it is used in clause 6 did not mean only the facts and matters disclosed in the [Disclosure Letter].”

The Court of Appeal upheld this conclusion, Lord Justice Arnold adding at paras 62 and 63 of the leading judgment as follows:

“6.2. …Given that the Disclosure Letter is referred to elsewhere in the SPA, it is to be inferred that the absence of reference to it in clause 6.2 was intentional.

6.3. Secondly, I agree with the Claimants that it would make little sense to ask whether there was negligent non-disclosure by reference to the Disclosure Letter if in fact that there was disclosure in another communication. That would seem to involve an inquiry as to whether it was negligent for the Claimants not to include the information in the Disclosure Letter even though they had disclosed it elsewhere. But what would be point of that enquiry given that the purpose of the Disclosure Letter is to limit the scope of the Warranties for the benefit of the Claimants, whereas the purpose of clause 6.2 is to provide an exception to the limitations in clause 6.1 for the benefit of the Defendants?”

Both courts therefore endorsed the principle that disclosure outside of the disclosure letter was relevant and could be considered for the purposes of the limitations to warranty claims and exclusions to those limitations.

Comment

Whilst the court was principally concerned with whether or not disclosure (or non-disclosure) was only to be considered by reference to the disclosure letter, much of the ambiguity stemmed from the use of a term with a legal meaning that was largely redundant in the context in which it was used – namely “negligent”. When coupled with use of a word that was not defined adequately – namely “disclosure” – this created ambiguity that has had to be resolved by the Court of Appeal.

When one considers that the purposes of warranties, limitations and exclusions are to provide clear and adequate protections and/or remedies for buyers and sellers, this demonstrates the pitfalls of ill-thought-out drafting. From the sellers’ point of view, the inclusion of “negligent” could widen the scope of potential claims against them. From the buyers’ point of view, the lack of defining important terms could take away certainty of what disclosure is relevant to warranty claims and where it can be found.

Those involved in drafting warranties and terms relating to their operation should take extra care to consider the meaning and relevance of the terms they choose to employ and/or define. From a buyer’s perspective, the court’s decision demonstrates that the disclosure letter will not be the solely determinative of the ability to bring a warranty claim unless that is made expressly clear. From a seller’s perspective, exclusions for non-disclosure should avoid nebulous concepts such as “negligence”.

On either side, clients will not thank their advisers if it takes the costs associated with taking a case to the Court of Appeal in order to resolve the meaning of poorly chosen words.

[1] It is important to flag that neither of the firms representing the parties in the litigation, Flint Bishop and Eversheds, were the solicitors on the underlying transaction that gave rise to the dispute.