Corporate Law Update

In this week’s update: the court examines the post-completion accounts mechanism on a share sale, a BVCA poll on government coronavirus initiatives, and further FCA measures to support listed companies.

This week:

Covid-19 is affecting the way people conduct their business, retain their staff, engage with clients, comply with regulations and the list goes on. Read our thoughts on these issues and many others on our dedicated Covid-19 page.

Court interprets when post-completion accounts due on share sale

The High Court interpreted a share sale agreement to decide when post-completion transaction accounts were due to be delivered and reached a conclusion some may find surprising.

What happened?

Damoco (Bermuda) Limited v Atlanta Bidco Limited [2020] EWHC 501 (Comm) concerned the sale and purchase of shares in a private company.

The sale agreement (SPA) required the buyer to pay the sellers “deferred consideration” if the pro forma audited EBITDA for the target company’s most recent financial year exceeded a specified figure.

As part of this, the buyer was required to draw up “Deferred Consideration Accounts” under a mechanism set out in the SPA. The SPA required the buyer to deliver a draft of those accounts:

… within 30 days after the date upon which the audited financial statements of the Company … are in such condition as could be formally signed off by the Auditors and in any case no later than 30 June 2019.

The sellers would then have an opportunity to contest those accounts. If they did not, the accounts would become final and binding and the deferred consideration would become payable.

After several requests by the sellers, the buyer delivered draft accounts on 5 August 2019. In its email, the buyer stated that “the figures contained in the draft Deferred Consideration Accounts are not yet final and are provided in draft form only” and that “the clear effect of the SPA is that the draft Deferred Consideration Accounts are to be provided after completion of the Company's audit”.

Three days later, the principal seller purported to accept the draft accounts as the draft Deferred Consideration Accounts, converting them into a final and binding basis for calculating the deferred consideration. It then demanded the buyer pay that deferred consideration within ten business days.

The buyer disagreed, arguing that it had not been required to deliver the draft Deferred Consideration Accounts to the sellers until the company’s audit had been completed, and that the accounts it had sent in August 2019 were therefore not capable of being accepted.

The sellers brought proceedings to recover the deferred consideration. Alternatively, they said that the SPA had imposed a deadline of 30 June 2019 for the buyer to deliver the accounts, and so, if the August 2019 accounts did not amount to the draft Deferred Consideration Accounts, the buyer had breached the SPA and owed the sellers damages.

What did the court say?

The court agreed with the buyer. The judge said that the whole thrust of the mechanism in the SPA was that the deferred consideration would be determined on the basis of audited financials. This was evident from various provisions in the SPA, including the facts that:

  • the SPA specifically referred to audited Deferred Consideration Accounts;
  • the accounts were to be prepared by reference to pro forma audited IFRS EBITDA; and
  • the SPA specifically prohibited the buyer from removing its incumbent auditor while the deferred consideration was being determined.

The judge also noted that the audit for the target company’s accounts for the previous year (2018) had been completed in June 2018. This, she said, strongly suggested that the 30 June 2019 date was predicated on the parties anticipating a similar timescale for the financial year just ended, and not as imposing an absolute deadline for delivering the draft Deferred Consideration Accounts.

It was clear that the parties had placed crucial value on the audit process as a means of providing independent oversight of the target company’s financial statements.

Finally, the judge said that the buyer had provided the accounts in August 2019 not because it was satisfied that they were ready, but in response to the sellers’ repeated requests and in an effort to be co-operative. The buyer had made it clear that the draft accounts were subject to future adjustment and did not amount to the “draft Deferred Consideration Accounts” required by the SPA.

What does this mean for me?

This is, of course, another case of ensuring that contractual drafting is a clear as possible. It can be easy to view this kind of case with hindsight. Without the context, it does not seem unreasonable for the sellers to have interpreted the words “in any case no later than 30 June 2019” as imposing a hard deadline for delivering the accounts.

But context is important. In this case, the court found the wording sufficiently ambiguous to enable it to take the surrounding circumstances, including the commercial background, into account. To minimise the possibility of contractual disputes, consider the following:

  • If you are intending to impose a deadline for some action under a contract, make it clear that the deadline is not subsidiary to or dependent on some other action. Set the deadline out in a free-standing clause to reduce the chance of it being seen as merely illustrative.
  • State the consequences of failing to comply with the deadline. By doing so, the parties will be clear as to status and effect of the deadline, rather than having to appeal to the court in the hope that the court will regard the deadline as binding and award damages.
  • And, above all, avoid ambiguity. This is especially important for key provisions that depend on the action of a third party (in this case, the auditor) or are outside the parties’ control. A court will try to reach the conclusion it thinks is the right one and interpret the language though that lens.

It is therefore better to discard phrases such as “and in any case by …” in favour of more comprehensive and explicit language that specifically sets out what should happen in different scenarios. For example, in this case, the court would have been more constrained in its decision had the SPA had stated that, if the target company’s financials had not been audited by 30 June 2019, the buyer would deliver unaudited draft Deferred Completion Accounts.

BVCA polls members on Government coronavirus initiatives

The British Private Equity and Venture Capital Association (BVCA) has conducted another coronavirus-related poll of its members, this time to gather views on the measures put in place by the Government during the outbreak. The key points arising from the report are as follows:

  • Early stage companies are not eligible for the Coronavirus Business Interruption Loan Scheme (CBILS). The BVCA is therefore recommending that the British Business Bank set up a £500 million funding facility for early stage companies in innovative sectors, such as digital/tech, biotech and life sciences.
  • Some PE/VC-backed SMEs are being denied access to CBILS. This is because, when reckoning whether the company’s turnover exceeds the £45 million threshold beyond which companies cannot qualify for the scheme, an individual portfolio company’s turnover is being aggregated with that of other, unrelated companies within the same PE/VC portfolio. The BVCA is asking for these SMEs to be included within the scheme.

    Since the date of the report, the Government has announced a new Coronavirus Large Business Interruption Loan Scheme (CLBILS), which is open to businesses with a turnover of between £45 million and £500 million.
  • Around 9,600 companies are ineligible for CBILS, the Bank of England’s Term Funding Scheme for SMEs (TFSME) or its Covid Corporate Financing Facility (CCFF) for larger organisations. This has created a “funding gap”, which the BVCA suggests plugging with a “new working capital loan guarantee scheme”.
  • The BVCA supports the Government’s proposal to suspend wrongful trading It has asked for guidance for directors and that the Government also consider amending the legislation around directors’ duties.

FCA announces further measures during coronavirus outbreak

Following its recent spate of announcements, the Financial Conduct Authority (FCA) has issued a statement of policy containing further guidance and interventions to assist listed companies during the on-going coronavirus / Covid-19 outbreak.

The key points are as follows:

  • Non-pre-emptive issues. The FCA has welcomed the recent decision by the Pre-emption Group to permit issuances of up to 20% of share capital on a non-pre-emptive basis. (See our recent Corporate Law Update for more information.) It has asked issuers to use the additional 10% (as far as possible) only for “soft pre-emptive issues” and has clarified that this refers to a placing of shares where the bookrunner allocates shares to investors under an allocation policy that seeks to replicate the issuer’s existing shareholder base.
  • Secondary issues. The FCA is encouraging companies that wish to issue shares in order to recapitalise as a result of the coronavirus outbreak to use the simplified prospectus regime.
  • Working capital statements. As a general rule, where an issuer gives a working capital statement, the statement must either be unqualified (or “clean”) or state that the issuer does not have sufficient working capital for its present purposes.

    However, during the outbreak, the FCA will allow issuers to give clean working capital statement that contains key modelling assumptions underpinning the reasonable worst-case scenario. More details can be found in a new technical supplement. Only coronavirus-related assumptions are allowed. They must be clear, concise and comprehensible, and the issuer must confirm that the statement otherwise complies with the ESMA Recommendations and the technical supplement.
  • Transaction approvals. The FCA recognises the difficulties in convening general meetings at present. Where an issuer requires shareholder approval for a class 1 or a related-party transaction, the issuer can now apply to the FCA to dispense with the need for a general meeting. To obtain the dispensation, the issuer must obtain written undertakings from shareholders holding a sufficient number of votes to approve the transaction confirming that they would have voted in favour had the meeting been held. More details can be found in a new technical supplement.

    Note that this will not allow issuers to dispense with a general meeting for resolutions required under the Companies Act 2006 (such as to amend their articles of association).

The new measures for working capital statements and transaction approvals apply from 8 April 2020 until the FCA advises otherwise.

Separately, the FCA and the Prudential Regulation Authority (PRA) have also published guidance for regulated firms in relation to the Covid-19 outbreak.  You can read more information about this in our colleagues’ update.

Also this week…

  • IA comments on dividend payments. The Investment Association has published its comments on paying dividends in the current climate. It says companies should follow guidance by regulators and decide whether paying a dividend is sustainable in light of current market conditions. It supports companies that have stopped dividends to retain needed cash, but notes that companies should not use the current circumstances to rebase or reduce dividends unnecessarily.
  • Companies House working on electronic submission. We understand from Companies House that it is currently working on a solution to allow documents to be filed on-line which can currently only be filed in paper form. We will provide a further update when we hear more.