Business sale agreement: assignment of contract

15/03/2010

The Court of Appeal had to decide whether a contract providing an indemnity clause had been validly assigned to the purchaser of a business under a business sale agreement, and if so, whether the purchaser could claim repayment by way of indemnity from the other party to the contract.

Facts

Shaw, the appellant, was an independent financial adviser (an "IFA"). Prior to 1999 he had a standard form contract in place (an Appointed Representative Contract, "ARC") with a partnership, Berkeley Wodehouse Associates, BWA, which operated through a network of IFAs.

During his time as an IFA for BWA, Shaw advised a Mrs Lalaz in relation to an investment. The Financial Services Ombudsman later ruled that Mrs Lalaz had been mis-advised and, accordingly, that she was due compensation. The compensation was duly paid by BWA's successor in title, a company called Lighthouseexpress Ltd (the "Company").

Shaw resigned from his position with BWA in 1999. The BWA partnership sold its business to the Company in 2001.

The court had to decide whether the Company could claim repayment from Shaw by way of indemnity of the compensation payable to Mrs Lalaz.

Various points were raised in court including, for example, whether the terms of the ARC were fully proved, (a number of documents referred to in the ARC were unavailable). In this instance, however, we will concentrate on the question as to whether there had been a valid assignment of the right of indemnity to the Company under the ARC.

Assignment

When a business is sold, its existing contracts need to be vested in the new owner. The general principle is that the benefit of an agreement is freely assignable, provided the rights are proprietary (i.e. not personal to the parties concerned) and assignment is not prohibited by statute or public policy. (Publishing and recording contracts would be obvious examples of personal contracts.)

To assign a contract under statute (section 136 of the Law of Property Act 1925), the assignment must be in writing and of the entire benefit, and written notice must be given to the other contracting party. If any of those conditions is missing, it may be that it is still a valid "equitable" assignment. (If so, the assignee would usually be required to join the assignor as a party to any action under the contract.)

(The burden of a contract cannot, on the other hand, be assigned. Hence the use of novation to ensure a purchaser can still perform a contract. One contract is effectively rescinded and is substituted by a new contract with a change in parties.)

The ruling

The Court of Appeal held that the terms of the Business Sale Agreement did operate to assign the right of indemnity. There were three main reasons for this:

1) Identification of the right to be assigned

Since an equitable assignment was relied upon, the specific right being assigned had to be clearly identified. The Business Sale Agreement of 2001 between BWA and the Company stated that "the Vendor shall sell and the Purchaser shall purchase the Business as a going concern comprising the Intellectual Property and the Goodwill and the benefit (so far as the Vendor can assign the same) of the Contracts at the Purchase Price". The definition of "Contracts" included "current contracts [...] of the Vendor at the Completion Date relating to the Business". The judge rejected the submission that the ARC was not a "current contract" because Shaw had resigned over a year before the BSA was entered into. On the contrary, the indemnity clause continued in effect following the termination of the "active aspects" of the contract. There was no reason to construe "current contracts" narrowly as to exclude live contractual obligations owed to or by the partnership. "On the contrary, there [was] every reason to construe the phrase widely" in order to achieve the parties' obvious intention to transfer everything over to the Company. Clearly, it was not intended that the right of indemnity be "left behind".

2) Not a personal right

The right of indemnity was not purely personal to BWA. There was always the possibility that the partnership would change or that the business would be sold. There was no reason for the indemnity to remain frozen to the partnership as it existed at the time the contract was entered into.

3) Certainty

The indemnity clause was not void for uncertainty. In order to be binding the words had to be "sufficiently definite to enable the court to give it a practical meaning" (Scammell v Ouston [1941] AC 251 at p.268). It is not enough for a clause to be difficult to construe, the judge pointed out. Furthermore, courts are very reluctant to hold a contract void for uncertainty, particularly business contracts.

Whilst the court held that the indemnity had been validly assigned, it allowed the appeal on a couple of grounds: (i) the Company could not prove that the relevant sum paid fell within the scope of the indemnity clause and (ii) Shaw was protected by a limitation clause. (Liability was to end after a six year period and the Company had not made any claim, contingent or otherwise, before the expiry of the six year period following Shaw's resignation.)

Comment

Parties should exercise caution when negotiating a business sale agreement and, in particular, the provisions relating to transfer of the business contracts. A purchaser will be anxious to agree as wide a definition as possible in order to ensure that it obtains all necessary contracts but should be careful not to unwittingly acquire unknown contracts which may have substantial liabilities attached. Thought should be given by both parties as to whether provisions will operate to transfer contingent assets and liabilities, (such as indemnities, guarantees and warranties), which may remain current despite the completion or termination of other obligations under those contracts.

Shaw v. Lighthouseexpress Ltd [2010] EWCA Civ 161 dated 10 March 2010, Sedley, Jacob and Patten LLJ.

Contact: maustin@city-law.net

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