Challenges in bringing warranty claims under Share Purchase Agreements

Bringing warranty claims under Share Purchase Agreements (SPAs) can be a hazardous process for claimants. This article explores recent cases regarding the validity of claim notices under SPAs, examines how courts interpret SPA requirements for claim notices and offers practical tips to ensure their validity.

Caselaw lottery

Deriving the applicable principles from existing caselaw on SPA claims notices is challenging. Case outcomes are often unpredictable, with each decision heavily influenced by its own facts. This unpredictability makes it difficult for lawyers to offer clients certainty about how their case might be resolved.

Claims notices in mergers & acquisitions (M&A) transactions

In M&A deals, the SPA typically contains warranties from the seller about the target company, covering aspects such as its financial performance, assets and liabilities. Breach of these warranties gives rise to a potential legal claim for damages. However, SPAs also include limitations on the seller’s liability, including monetary claim limits and time limits for different types of claim. The buyer is also often required to include a certain level of detail in its notice of claim.

Sellers frequently challenge the validity of claim notices, arguing they lack the required detail. If successful, particularly after the time limit for giving notice has expired, the claim might be excluded entirely, leaving the buyer without recourse.

Court interpretations of claim notices

Courts have increasingly adopted a pragmatic and less prescriptive approach to interpreting claims notice provisions. This approach focusses on the commercial purpose of these provisions purpose rather than favouring technical arguments which lack commercial purpose and simply act as traps to invalidate otherwise legitimate claims. Two recent cases illustrate this trend:

Drax v Scottish Power

The SPA required the claim notice to include “in reasonable detail the nature of the claim and the amount claimed (detailing the Buyer’s calculation of the Loss thereby alleged to have been suffered)”.

The High Court ruled in favour of the seller, stating that the buyer’s claim notice would have been understood by the recipient as claiming a loss suffered in the first place by the target company (and not the buyer). The buyer’s subsequent legal claim was based on the difference in the value of the target company shares and the judge ruled that this should have been notified in the claim notice. It was both part of the “nature” of the claim and also an essential part of the explanation which would be needed in order to provide the necessary “reasonable detail” of the buyer’s calculation of the claim.

The Court of Appeal overturned this decision, emphasising that the sufficiency of a claim notice must primarily depend on the language of the clause in the SPA. However, where the SPA uses broad and general terms such as “the nature of the claim” and “in reasonable detail”, these requirements should be interpreted in the light of the commercial purpose of these clauses – they “should not become a technical minefield to be navigated, divorced from the underlying merits of a buyer’s claim”.

Further, “courts should not interpret such clauses as imposing requirements which serve no real commercial purpose unless compelled to do so by the language of the clause”.

The Court of Appeal found that, to state the nature of the claim, there was nothing in the clause or its commercial purpose that required the buyer to spell out that damages claimed would be based on the difference in value of the target company’s shares. To impose such a requirement “serves no commercial purpose and merely introduces a trap to defeat what might be a valid claim”.

Regarding the amount of the claim, the claim notice specified the amount of loss claimed, albeit on two alternative bases, and included details of its calculation. Although the claim, as then presented, was not based on the difference in value of the shares, it still represented the buyer’s actual calculation of the claimed loss. Nothing more was required.

The seller had sufficient information to assess potential liability and could have sought legal advice or clarification from the buyer. Whilst the claim was ultimately pursued on a different basis, the detail in the claim notice was a genuine estimate of the loss suffered, which is all the clause required.

Onecom v Palmer

The Onecom case was clearer. It involved a contingent claim which could not be quantified when the claim notice was given, because aspects of the claim were also subject to an ongoing expert determination process under the SPA to establish the earnout consideration.

The SPA provided that a claim would be deemed withdrawn unless legal proceedings were commenced within 6 months of the claim notice. In the case of a claim which was contingent only or not capable of being quantified, the six month period for commencing proceedings was extended to commence on the date on which it became an actual liability or capable of being quantified.

The buyer served proceedings more than 6 months after the claim notice was given and later issued new proceedings with a new claim form. However, this was done within 6 months of the expert’s determination of the earnout amount.

The seller contended that the buyer was out of time, arguing that all of the various elements of the buyer’s claim were an actual claim and capable of being quantified at any relevant time.

The Court disagreed with the seller’s argument. If the buyer had succeeded in persuading the independent expert that the warranty breaches should be taken into account in the earnout consideration, this would have led to an offsetting benefit (exceeding the size of the warranty claim). This benefit would need to be factored into assessing the loss suffered from the warranty breach.

Therefore, the warranty claims were neither actual nor quantifiable until the expert determination process was completed.

The possibility of double recovery by the buyer due to the overlap between the warranty claims and the expert determination issues illustrated the purpose of the warranty claim notice provisions in adjusting the time limit for contingent or unquantifiable claims.

Other cases on claim notices in SPAs

Differences in SPA language have led to varying court interpretations:

Teoco v Aircom

The SPA required the claim notice to provide reasonable details, including the “grounds”, for the claim. The Court interpreted this to mean that the buyer needed to specify the particular warranties and tax covenant provisions on which the claims were based. The requirement to set out the “grounds” of a claim meant that its legal basis had to be identified.

The buyer had not done this and there was real scope for the seller to be in doubt as to which provisions of the SPA the buyer considered relevant. The buyer had kept its options open by framing its letters in a wide manner. However, as a result the buyer had not identified particular warranties or the “grounds” on which the claim was based – a general reference to “Warranty Claims or Tax Claims” was insufficient.

Dodika v United Luck

Here, the SPA required the notice to state in reasonable detail “the matter which gives rise to such Claim, the nature of such Claim and (so far as reasonably practical) the amount claimed”. The claim notice provided minimal information about the underlying facts giving rise to a potential tax liability.

The Court of Appeal, allowing the buyer’s appeal, found that the claim notice did meet the requirement for reasonable detail. What was reasonable in the circumstances of this case included information already known to the sellers as recipients of the claim notice.

They knew the details of the tax investigation which gave rise to the potential claim, including that the tax authority itself had given limited detail of its investigation. Any additional detail which the buyer might have included was already known to the sellers – including further limited and generic information which was available would not have served a commercial purpose.

Lessons to be learned

Several lessons can be drawn from these cases:

1. Follow the SPA wording: The general legal principle is that every notice clause turns on its own individual wording. If something is specifically required by the SPA, make sure that it is included.
2. Identify that the notice is a claim notice: Expressly state that the notice is a notice of claim under the SPA (so that it is not treated as notification of a potential claim) and reference specific SPA provisions relating to claim notices. Although this issue was not addressed by the Court of Appeal in the Teoco case, the High Court decision was partly based on the judge’s finding that a reasonable recipient would not have understood the claim notices as formal notices of claim (as opposed to being a notification of the existence of potential claims).
3. Over-satisfy the SPA requirements:
   • specify both the facts that give rise to the claim and, by reference to the SPA paragraphs, identify each warranty (or tax covenant provision) on which the claim is based
   • provide details of the loss suffered and the basis on which this will form the buyer’s damages claim. In the Drax case, including in the claim notice the basis on which the buyer would seek damages for breach of warranty by reference to the diminution in value of the shares could have prevented the issue which was litigated
   • avoid assuming that the seller is already aware of the facts giving rise to the claim and the associated loss
4. Adhere to time limits: Take account of and comply with time limits for sending the claim notice and initiating proceedings. It is interesting to note that, in many of the legal cases, the claims notices and the commencement of proceedings had been served on or just before the final deadline.
5. Follow notice requirements: Adhere strictly to the SPA’s requirements for serving notices.

In one case, the buyer’s claim failed because the notice was not served on one of seven sellers. The seller had relocated from the address specified in the SPA without informing the buyer of a new address. The buyer’s courier (on the final day for serving a claim notice under the SPA) attended the old address but did not leave the claim notice at that address until after the notice deadline had passed.

Consequently, the buyer’s claim failed not only against that seller but also against all of the other sellers. The SPA required notice to be given to “the Management Vendors” which was interpreted to mean all of them.

Conclusion

The evolving case law on warranty claim notices under SPAs highlights the importance of compliance with the SPA requirements when serving notices of claim. While Courts are increasingly willing to take a pragmatic approach, favouring substance over technical traps, buyers must not assume that leniency will apply in every instance.

The key takeaway is that SPA claim notice requirements must be followed strictly, with claimants taking proactive steps to ensure clarity, specificity and adherence to deadlines. Given the high stakes involved, buyers should seek legal advice early in the process to avoid inadvertent pitfalls. Ultimately, well-drafted and properly served claim notices remain the best safeguard against the litigation lottery.

By Jonathan Dawe.

Jonathan Dawe

Jonathan Dawe is a corporate partner at Punter Southall Law. Jonathan has specialised as a company and commercial lawyer for over 30 years, advising clients on corporate transactions and commercial agreements. He trained and qualified at Dentons and worked as a partner in the firm’s corporate teams in both London and Dubai.

• In 2006, Jonathan formed boutique corporate law firm Grant Dawe LLP with Tony Grant, with the aim of continuing to provide clients with a high-quality but cost-effective service.
• In 2023, Jonathan joined the corporate team at Punter Southall Law and acts for UK-based and international companies and business owners on their business-critical transactions.
• Jonathan is also co-founder of PaperRock Docs, a provider of online legal document templates for legal and business professionals, companies and business owners.