02 Dec 2004

Nothing to hide: disclosures against warranties

by Andrew Walker

Warranty disclosure is a balancing act, and courts are not backward in finding faults in the way information has been disclosed.

"But you found the notice, didn't you?"

"Yes," said Arthur, "yes I did. It was on display in the bottom of a locked filing cabinet stuck in a disused lavatory with a sign on the door saying 'Beware of The Leopard'.'" (The Hitchhiker's Guide To The Galaxy)

Haggling about warranties is a standard feature in sale of shares/business negotiations.

Sellers often try to mitigate the effect of warranties by making disclosures. The sale agreement usually contains a clause saying that the buyer cannot claim that a warranty is false, misleading or breached if the relevant fact, matter or circumstance has been disclosed by the seller.

Disclosure clauses have the potential to be a double-edged sword for sellers. While they may prevent the buyer from claiming a breach of warranty, they do so at the cost of revealing information that the seller may regard as adverse to its interests in the sale negotiations. Sellers may attempt to overcome this problem by ensuring that the information is available without going out of their way to draw the buyer's attention to it.

Recent English court decisions show that presenting information in this way may not have any benefits for the seller. The warranty will only be limited by information disclosures if there has been relatively fulsome, explicit and overt disclosure.

It is likely that Australian courts would have a similar view (reinforced, in all likelihood, by reference to the "misleading or deceptive conduct" provisions of the Trade Practices Act).

Agreed level of disclosure

The seller and the buyer will usually agree on what type or level of disclosure is required. Common formulations are:

  • "save as disclosed";
  • "fairly disclosed (with sufficient details to identify the nature and scope of the matter disclosed)":
  • "properly and fairly disclosed":
  • "fully, clearly and accurately disclosed".

In reality, the key word here is "disclose": the English courts do have regard to the terms of the sale agreement, but it seems that not much significance is attached by the courts to subtle differences in the meaning of words such as "fairly", "properly" or "clearly". While each case is different, the following general points can be made.

A bundle of facts is not disclosure

From the seller's perspective, the greater the disclosures the more qualified the warranties. Hence, it is common for a disclosure letter to not only itself contain specific disclosures, but also to cross-refer to other documents and information. This so called "omnibus approach" may cover all bases, but it is also open to the criticism that it obscures the relevant information.

This criticism is most succinctly stated in New Hearts v Cosmopolitan Investments [1997] 2 BCLC 249:

"Mere reference to a source of information, which is in itself a complex document, within which the diligent enquirer might find relevant information will not satisfy the requirements of a clause providing for fair disclosure with sufficient details to identify the nature and scope of the matter disclosed."

The Court there was referring to a disclosure letter that was, in its words, "distinguished by the obscurity of its language".

But even a relatively clearly-written document may fail this test, as happened earlier this year, in Infiniteland v Artisan Contracting 2004 WL 1060638.

In Infiniteland, the sale agreement contained a warranty that the accounts of the business gave a "true and fair view" of its assets, liabilities and profits - "save as set out in the Disclosure Letter". In fact, the business's latest year profit was more than accounted for by an injection of over £1 million by its owner. This £1 million "management charge" was referred to in the documents attached to the disclosure letter and in other documents supplied to the buyer's advisers.

The Court said that the seller was clearly not trying to hide the £1 million injection. The problem lay in its explanation of the accounting treatment of the money. Although it was referred to in the accounts as a "management charge", no-one (on either side of the transaction) could come up with an explanation of what exactly it was. (At one stage, an accountant who was doing due diligence described it as "a kind of reverse management charge" - by which he meant that it flowed in the opposite direction to that in which management charges would normally flow.)

For this reason, the Court held that the disclosure of the £1 million was not sufficiently full, accurate or clear to be relied upon by the seller.[1]

Work it out for yourself

Another tactic frowned upon by the Courts is the disclosure of information from which a warranty disclosure needs to be deduced. Levinson v Farin [1978] 2 All ER 1149 involved the sale of a fashion company. The key designer of the company had become ill and this was having a detrimental impact on the company's business.

This was all disclosed to the buyer (including the fact that no spring/summer collection had been prepared and that the company was in a lossmaking situation). However, the warranty relied on by the buyer was that, "save as disclosed", there would be no material adverse change in the overall value of the net assets of the company between balance sheet date and completion of sale. The Court said that the "disclosure" of the designer's illness didn't constitute disclosure of such a material adverse change for the purposes of the warranty. Rather, it was merely the disclosure of a "means of knowledge" or a "possible cause" from which the buyer might be able to work out that there had been a material adverse change. Overall, the Court concluded that the seller's disclosure merely constituted:

"a general disclosure of the causes of probable future losses and was not disclosure of a quantified reduction in the net assets or the actual rate of the continuing losses".

In other words, the relevance of the disclosure to the warranty must be reasonably apparent. This issue can even impact on what might appear to be low level drafting issues. For example, in Infiniteland, the seller tried to rely on the fact that a paragraph in the disclosure letter clearly referred to the controversial £1 million "management charge" and spelt out the fact that the business had only made a profit because of that charge.

The Court agreed that the paragraph had been clear in this regard. The problem, unfortunately, was that the paragraph in question related to provisions for tax in the business's accounts. It did not purport to be a disclosure relating to the warranty that the accounts would give a true and fair view.

Not black and white

These war stories show that courts will tend to prefer a high degree of transparency in warranty disclosures. For that reason, spelling out the disclosures will usually provide the seller with a reasonable degree of protection.

There is, of course, another side of the coin. While the courts require transparency on the part of sellers, they will not necessarily treat buyers as complete babes in the wood.

Cypher Holdings v Bertram 2001 WL 753375 was a case in which omnibus disclosure was held to be effective.

There, the disclosure letter incorporated a set of the company's management accounts and a due diligence report in respect of the company that had been prepared by PriceWaterhouseCoopers at the request of the seller. Importantly, the PWC report identified weaknesses in the accounting practices used by the company. The report also stated the effects of these weaknesses on the company's profit and loss account and both the closing stock and creditors balances in the company's balance sheet. The sale agreement contained a warranty that the management accounts "in all material respects reflect the assets and liabilities of the company".

The Court held that the warranty was not breached, because the relevant facts had been "properly and fairly" disclosed in the Disclosure Letter (ie. the PWC report). The Court considered that the PWC report "explained" the basis of the relevant figures contained in the management accounts and that this was "expressly drawn to the claimant's attention".


In order to avoid potentially surprising outcomes, it is prudent for a seller to ensure that its sale agreement clearly prescribes the standard of disclosure. This requires substantially more than a mere statement such as "fairly disclosed" or the like. Even if a seller is successful in getting key disclosure provisions into its sale agreement, a prudent seller should still ensure that any matter causing concern is specifically disclosed to the buyer - don’t expect the buyer to find out or infer matters from the disclosures. Sellers should also not assume that their disclosures will be 100% effective. Hence, if there is a matter of significance, consideration should be given to side-stepping the disclosure risks by instead dealing with the matter head-on by an express carve-out or exception in the warranties.


[1] Luckily for the seller, it escaped liability for breach of warranty via a separate limitation based on the buyer's actual knowledge


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Clayton Utz communications are intended to provide commentary and general information. They should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this communication. Persons listed may not be admitted in all States and Territories.