An increasing number of our clients are already scrutinising recently completed transactions with an intensity unseen in recent years and our litigation practice is experiencing higher-than-usual warranty related disputes.
Should this trend continue, it will lead to:
- An increase in warranty claims – this could include claims for breach of contract, relating to financial and operational performance, compliance with laws and regulations and (depending on the entity) significant employee claims, whether that bein relation to Holidays Act 2003 or a knee-jerk reaction to the recent Fair Pay Agreement legislation for deals after 1 December 2022.
- Disputes over adjustment mechanisms – we expect that purchasers will be poring over price adjustment mechanisms, wash-ups and earn outs that are intended to correct the price between signing and completion of the transaction. Given current and expected economic volatility, both purchasers and vendors may seek to rely on provisions designed to capture non- recurring or abnormal items for a range of items which were, in fact, expected or entirely ordinary in the context of the business. We have already seen a number of disputes of this nature arising due to COVID-19’s effects on profit and whether this produced a non-recurring or abnormal effect.
In reality, this also means that dissatisfied parties are likely to resort to making use of warranties and adjustment mechanisms to re-value bad deals. Where purchasers have overpaid for assets in a buoyant market, they will be incentivised to shoe- horn claims into ill-suited provisions. Even where purely speculative, such claims can lead to significant legal spend and put strain on management resource during already testing times. They may also be lodged solely in order to stop funds being released in a case of buyer’s remorse, i.e. in an attempt to hold a deferred payment or escrow to ransom.
Transactional lawyers will, rightly, tell you that the best line of defence for buyers and sellers is a thorough due diligence process conducted over the most important parts of the business (i.e. where the greatest risk exists). Where the parties have already signed, experience in navigating warranties and indemnities disputes, including familiarity with the types of claims and defences deployed in this space, is critical. Although not always possible, a well- advised vendor that acts decisively can achieve the swift resolution of spurious claims, freeing up capital and executive time (e.g. through summary judgment or strike-out proceedings).
If you are a purchaser and a potential claimant, there are a number of stumbling blocks to look out for, from limitation periods and notice requirements to a possible duty to mitigate losses in respect of certain kinds of warranties. If you suspect that you have a claim under a warranty or indemnity included in a sale and purchase agreement, it is important to check the warranty claims requirements so that you do not miss a key date or technical detail for notification.
Finally, do not forget insurance. Insurers may be brought into the equation where the vendor or purchaser has obtained warranty and indemnity insurance to cover financial losses arising from inaccuracies during the transaction. Parties should make sure to check the scope of cover available to them and consider the position of the other side to the deal (are they insured or un-insured?) when considering the strategy in relation to a warranty claim.
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