To print this article, all you need is to be registered or login on Mondaq.com.
June saw the second-ever reported judgment in a claim under a
Warranty & Indemnity (W&I) insurance policy handed down by
the English Courts: Finsbury Foods Plc v Axis Corporate Capital Ltd
& Ors [2023] EWHC 1559 (Comm) (the first being Ageas (UK) Ltd v Kwik-Fit (GB) Ltd [2014]
EWHC 2178 (QB)).
Given the lack of judgments in this area, it is disappointing to
see the insured failing to recover under the policy. However, there
appear to have been various particular issues at play here:
- A claim under a W&I policy will only succeed where the
insured can establish a breach of the warranties covered by the
policy. In this case the fundamental problem for the insured was
that it could not establish that the warranties, as properly
construed, had been breached. - The standard for a knowledge exclusion in a W&I policy is
usually (as in this case) a high one requiring actual knowledge.
However, in this case this was accepted to include “wilful
blindness” and this was not a high hurdle given the relativity
simple nature of the underlying facts and a number of
contemporaneous emails and presentations establishing that relevant
individuals were aware of these facts. In addition, much of the
claimants’ witness evidence was not considered helpful by the
court. - On causation and valuation, the underlying facts were again
unusual in that the target was a family-owned business where (as
the court found) the seller was only willing to sell at the price
agreed at the outset. It was also unusual to see the court reject a
submission that the business should be valued on the basis of
EBITDA multiples, but again this appears to have been because the
parties to the transaction had used a sales-based value at the
transaction stage.
BACKGROUND
The case arose from Finsbury’s acquisition of a gluten-free
bakery called Ultrapharm, a family business, for £20 million
in 2018. Finsbury brought a claim for just over £3 million
under a W&I policy issued in connection with the acquisition,
alleging that Ultrapharm breached warranties in the SPA and that
these breaches were covered by the terms of the policy.
The alleged breaches related to a trading conditions warranty
and price reduction warranty that, since the Accounts Date (31
December 2017):
- “there has been no material adverse change in the trading
position of any of the Group Companies or their financial position,
prospects or turnover and no Group Company has had its business,
profitability or prospects adversely affected by the loss of any
customer representing more than 20% of the total sales of the Group
Companies…” - “no Group Company has offered or agreed to offer ongoing
price reductions or discounts or allowances on sales of goods
relating to its business or any such reductions, discounts or
allowances that would result in an aggregate reduction in turnover
of more than £100,000 or would otherwise be reasonably
expected to materially effect [sic] the relevant Group
Company’s profitability”
Finsbury alleged that these warranties were breached as a result
of a recipe change agreed with, and price reductions offered to,
Ultrapharm’s chief customer M&S.
The warranties were subject to a “Knowledge Exception”
which provided that there would be no liability where Finsbury had
“actual knowledge of the circumstances of” the relevant
warranty claim and was “actually aware that such circumstances
would be reasonably likely to give rise to” a warranty
claim.
The W&I policy also excluded liability where individuals in
Finsbury’s deal team had “Actual Knowledge” of a
breach, with Actual Knowledge defined as “actual personal
knowledge” which did not include “constructive or imputed
knowledge”.
DECISION
The High Court dismissed Finsbury’s claims.
Breach
To determine the exact meaning of the warranties in question,
the court applied (as one might expect) the leading Supreme Court
decisions on contractual construction, Rainy Sky v Kookmin,
Arnold v Britton and Wood v Capita (see for example
this blog post). Applying the relevant
principles:
- The trading conditions warranty was found to comprise (a) a
warranty that there had been no material adverse change (MAC) in
Ultrapharm’s trading position and (separately) (b) a warranty
that there had been no loss of a customer representing more than
20% of total sales. The court rejected insurers’ argument that
a MAC required a reduction in turnover of at least 20%: the 20%
threshold specified for the second warranty (relating to loss of a
customer) could not be read across to the first warranty. However,
to be a sufficiently significant or substantial change to qualify
as a MAC, the change must exceed 10% of group sales. - The price reduction warranty was found to relate to price
reductions offered after the Accounts Date, rejecting
Finsbury’s argument that the warranty applied to price
reductions effected after that date, even if they were agreed
before it. That construction gave effect to the ordinary and
natural meaning of the words.
On the facts, therefore, there was no breach of either warranty.
The recipe change was agreed and took effect before the Accounts
Date, was not in the nature of a MAC (as recipe changes were part
of the ordinary course of a bakery business), and did not hit the
10% threshold, so it did not breach the trading conditions
warranty. The price reduction was offered prior to the Accounts
Date, so did not breach the price reduction warranty.
Actual knowledge exclusion
Notwithstanding the above, the court also found that any breach
(had it been established) would have been excluded under the
W&I policy on account of Finsbury’s deal team’s Actual
Knowledge of the breach.
The court found that the relevant individual at Finsbury was
told of the price reductions and knew that they would reduce
revenues in absolute terms and would reduce the margin of the
relevant products, and so he had actual knowledge of the
circumstances of the warranty claim. He was not expressly aware
that these circumstances were likely to give rise to a warranty
claim (as per the Knowledge Exception) or amounted to a breach (as
per the Knowledge Exclusion in the W&I policy), since he did
not give these questions any particular thought at the time. But if
he had done so he would, or at least should, have reached those
conclusions.
As noted above, the Actual Knowledge exclusion was not triggered
by constructive or imputed knowledge, but Finbury’s conceded
that it included “Nelsonian knowledge”, or wilful
blindness. The court regarded this concession as
“realistic” and concluded that, in light of it, the
relevant individual had sufficient information for the Knowledge
Exception to apply.
Causation and valuation
Notwithstanding the above conclusions, the court went on to
consider the parties’ submissions in relation to causation and
valuation (assuming that a covered breach of warranty had been
established):
- First the court looked at what would have happened from a
causation perspective. It found that Finsbury would not have been
entitled to damages for any breach since it would in any event have
purchased the business for £20 million (the price originally
calculated as 1x annual sales). The deal was important to Finsbury
and that was the price that Ultrapharm demanded. Ultrapharm was not
at any stage enthusiastic about the sale and there was no basis for
it to accept less. The court found that Finsbury would have done
all it could to keep Ultrapharm interested, and would not have
walked away. This was supported by the fact that on the transaction
itself the offer price of £20 million had been maintained
even in the face of a reduced EBITDA. - Finally the court briefly considered valuation. Here the court
rejected both parties’ experts’ assessment on the basis of
EBITDA multiples. Instead the court favoured valuing damages on the
basis of the reduction in the annual value of sales (being
£300,000) since this was the basis on which the purchase
price had initially be set.
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
POPULAR ARTICLES ON: Insurance from UK
