In an acquisition it is standard practice for a buyer to require warranties from the seller in respect of the audited and management accounts of the target. The case of Macquarie Internationale Investments Ltd v Glencore Uk Ltd concerned a claim by the buyer (Macquarie) for breach of warranty by the sellers (Glencore and others) relating to the audited and management accounts of the target.

Background

● In September 2006 Macquarie acquired Corona Energy Holdings a leading supplier of natural gas to the UK commercial sector for c. £5.5m. The agreement contained a number of typical accounting warranties in relation to the draft audited accounts of the various group subsidiaries and management accounts of the target. Specifically the draft audited accounts “had been prepared in accordance with accounting standards …. gave a true and fair view of the assets and liabilities and profits and losses [for those companies] and the management accounts “fairly reflect the financial position of the target …. and were not misleading”.

● Unknown to the parties one of the target group companies had incurred a liability (in the form of a balancing meter charge) of some £2.4m to the agent (Xoserve) used by the group in the transportation of its gas. The liability was the result of an error made by Xoserve in the inputting of information into its system – resulting in an undercharge by it. Glencore had embarked on the sale process in ignorance of this fact.

● The issue came to light in November 2006 (a couple of months after completion) and Macquarie duly settled the liability in January 2007. The cost of the deal to Macquarie was now close to £8m whereas it might have expected the figure to be c.£3m.

Claim

● Unsurprisingly Macquarie was of the view that the undisclosed liability was a breach of the accounting warranties and sued on the bases that (i) the liability should have been recognised for the accounts to comply with accounting standards and (ii)  that the accounts did not show a true and fair view (how could the accounts have shown a true and fair view whilst omitting such a material liability?).

● The implicit point argued by Macquarie was that there is a distinction between compliance with accounting standards and whether those accounts show a true and fair view - that compliance with the former does not necessarily mean satisfaction of the latter.

Decision

● There was no breach of the accounting warranties. The first instance decision went against Macquarie with the judge concluding that as the target board was unaware of the liability the company was not able to recognise the charges as a liability in its accounts (Macquarie had argued that knowledge of the liability was irrelevant). 

● The Court Appeal confirmed this position deciding against Macquarie stating that (i) the fact that both sets of accounts had been prepared in accordance with accounting standards was strong evidence (though not necessarily definitive) that they gave a  true and fair view and (ii) the management accounts were not misleading as they contained the information one would normally expect to see in such accounts (management accounts being prepared with a lesser degree of accuracy than audited accounts). 

Lessons

● At first glance it is difficult to see what Macquarie could have done differently. The courts have merely confirmed their position that compliance with published accounting standards is strong evidence that the accounts in question do represent a true and fair view.

● The buyer might have insisted that the warranty extend to unknown liabilities but that argument would doubtless have met strong resistance from the seller.

● Alternatively the Court of Appeal indicated that if the agreement had contained a net asset warranty (which by definition would have had to extend to unknown and reasonably discoverable liabilities)  then the matter might have been different. Again such a warranty is likely to be resisted fiercely by a seller.

● In short buyers need to be aware of the limitations of typical accounting warranties and  the importance of choosing language carefully.