England and Wales Court of Appeal (Civil Division) Decisions

IN THE COURT OF APPEAL (CIVIL DIVISION)
ON APPEAL FROM THE UPPER TRIBUNAL (Tax and Chancery Chamber)
The Hon Mr Justice Newey and Judge Sinfield
[2012] UKUT 274 (TCC)

		Royal Courts of Justice Strand, London, WC2A 2LL
		9th July 2013

Lord Justice Patten :

Introduction

1. Mertrux Limited ("Mertrux") appeals with the leave of this Court against a decision of the Upper Tribunal (Tax and Chancery Chamber) (Newey J. and Judge Sinfield) released on 30^th July 2012. The Upper Tribunal allowed an appeal by HM Revenue and Customs ("HMRC") against the decision of the First-tier Tribunal (Tax) ("the FTT") that Mertrux is entitled to roll-over relief under s.152 of the Taxation of Chargeable Gains Act 1992 ("TCGA") in respect of the sum of £1,705,502 paid to it on the termination of a Mercedes car dealership with Daimler-Chrysler (UK) Limited ("DCUK"). HMRC had accepted that 50 per cent of the payment was attributable to a disposal of goodwill which therefore qualified for roll-over relief. But it maintained (and the Upper Tribunal accepted) that the remaining 50 per cent of the payment represented compensation for the early termination of the dealership itself which constituted the disposal of an asset (the dealership contract) that did not qualify for relief.
2. Mertrux contends that the FTT was entitled to find as a fact that the whole of the £1,705,502 related to a disposal of goodwill. In the alternative it submits that even if that sum falls to be treated as compensation for the loss of the franchise it still qualifies for roll-over relief as a disposal of goodwill because the two are inseparable.

Facts

3. The tax appeal was conducted in both the FTT and the Upper Tribunal by reference to an agreed statement of facts which was incorporated into the FTT decision. It is convenient to set out the summary of these facts which is contained in paragraph 2 of the decision of the Upper Tribunal:

"(1) DCUK operated the Mercedes-Benz dealer network in the UK and had agreements with a number of dealers, including Mertrux. The Dealer Agreements contained provisions granting exclusivity to dealers to sell Mercedes cars in certain geographical areas. The Dealer Agreements could be terminated by either party giving the other 24 months' notice. However, DCUK could terminate the Dealer Agreement on 12 months' notice if it were necessary to reorganise the distribution system. In 2000, DCUK decided to reorganise the dealership network. DCUK purported to terminate all the Dealer Agreements on 12 months' notice.

(2) A number of dealers, including Mertrux, began proceedings to challenge the purported termination. The proceedings were settled by agreement. Under 3 the terms of the settlement, Mertrux's Dealer Agreement was amended by a Deed of Variation and Termination ("DoVT") dated 13 July 2001. Under the DoVT, the earlier notices of termination were cancelled and it was agreed that Mertrux's dealership would end on 30 June 2003 (ie on just less than 24 months' notice) unless Mertrux opted for an earlier termination date. The DoVT provided that the dealership would be taken over either by a dealer nominated by DCUK or by DCUK itself if no other dealer had been found to take over the business by the termination date.

(3) Clause 4 of the DoVT provided that Mertrux was entitled to a Territory Release Payment ("the TRP") calculated in accordance with the terms of Schedule 2 to the DoVT. The TRP would be adjusted depending on the period for which it was payable. By clause 4 of the DoVT, the TRP could be a "12 month TRP", an "18 month TRP" or a "24-month TRP". A 12 month TRP was an amount equal to Mertrux's profit for a prior year, less certain deductions, and was payable if the dealer chose to continue for the full 2 years to 30 June 2003. An 18 month TRP was payable if the dealer elected to terminate on 31 December 2002. A 24 month TRP (ie twice the 12 month TRP) was payable if the dealer elected to terminate on either 30 June 2002 or 1 January 2002. Mertrux elected for a cessation date of 30 June 2002 and thus became entitled to the 24 month TRP.

(4) Clause 5 of the DoVT provided for the maintenance by the dealer of "Revised Core Standards" until termination of the dealership. By clause 5.3, the dealer acknowledged that failure to adhere to the Revised Core Standards was likely to have an adverse effect on the business and might lead to a challenge by DCUK to the amount of the TRP.

(5) Clause 8.1 of the DoVT stated that it was assumed that, before the termination of the dealership, an incoming dealer (or DCUK if there was no incoming dealer) would have entered into a transfer agreement ("the Transfer Agreement") by virtue of which it would buy Mertrux's business. Clause 8.1 further provided that, on termination, the incoming dealer (or DCUK if there was no incoming dealer) would pay Mertrux

(a) the TRP;

(b) a contribution to Mertrux's transaction costs;

(c) in certain circumstances, a reimbursement of certain investment costs incurred by Mertrux; and

(d) the price of assets to be transferred pursuant to the Transfer Agreement.

(6) Clause 9.4 of the DoVT provided that the terms of the Transfer Agreement were to be agreed between Mertrux and the incoming dealer (or DCUK, as appropriate). The clause specified that the Transfer Agreement was to provide, among other things, that the incoming dealer (or DCUK) would buy tools and parts from Mertrux. Clause 10 of the DoVT provided for the transfer of staff to the incoming dealer (or DCUK).

(7) By agreement, the termination of Mertrux's dealership was postponed beyond 30 June 2002, without prejudice to its entitlement to the 24 month TRP, because there were difficulties in finding an incoming dealer. On 31 July 2003, Mertrux entered into the Transfer Agreement with Leadley. Clause 3 of the Transfer Agreement set out the purchase consideration for the sale of the business and assets, as defined. That consideration was the aggregate of the values attributed to the assets. Under clause 3, the value attributed to the TRP, which had the same meaning as in the DoVT, was expressed separately from the purchase consideration for the business and assets.

(8) On the transfer, some employees transferred to Leadley but Mertrux retained its premises and the business name. DCUK appointed Leadley as a Mercedes dealer in place of Mertrux. Leadley paid Mertrux £1,752,698. In its corporation tax return for the year ended 31 December 2003, Mertrux treated £1,705,502 of the payment as having been paid entirely on account of goodwill.

(9) HMRC considered that part of the TRP (the "basic" 12 month TRP) was for goodwill and the balance (the "enhanced" TRP ie the amount in addition to the 12 month TRP) was to compensate Mertrux for the early termination of its dealership and did not qualify for roll-over relief. Accordingly, HMRC amended Mertrux's corporation tax return for the period ended 31 December 2003 to show gross capital gains of £852,751 on which corporation tax was chargeable."

The agreements

4. There are a number of provisions in the relevant agreements which need to be highlighted. Under clause 6 of the original dealer agreement (dated 22^nd January 1999) Mertrux covenanted with DCUK to promote the sale of the products (as defined), and to enhance their reputation and that of the goodwill of the dealer and DCUK. For this purpose the dealer was to display the Mercedes-Benz name and mark at the dealership premises and in its sales literature (clause 7) but the exclusive use of the mark remained vested in Daimler-Benz AG (the manufacturer) and in DCUK who retained complete control over the use of the name and mark (clause 8).
5. Clause 3.1 of the DoVT (which was a bipartite agreement between DCUK and Mertrux) specified 30^th June 2003 as the longstop date for the termination of the dealer agreement subject to the right of Mertrux (under clause 3.1(1)) (or DCUK in default) to specify an earlier cessation date. Clause 3.2 provided that:

"The Dealer shall by notice in writing to DCUK ("Dealer's Election Notice") specify the period by which the Dealer wishes to extend the term of the Dealer Agreement so that it expires on a specified date ("Cessation Date") provided that:

(a) the latest possible Cessation Date is 30^th June 2003; and

(b) the only possible Cessation Dates are: 1 January 2002, 30 June 2002, 31 December 2002 or 30 June 2003

and shall specify which of its accounts it wishes to be treated as the Accounts to be used for the purposes of calculating the Territory Release Payment (provided that if the Dealer shall fail so to specify, the Dealer's audited accounts for the Accounting Period ended on the date nearest 31^st December 2000 shall be the Accounts used for such purposes)."

6. The Territory Release Payment ("TRP"), which is the sum in issue on this appeal, was calculated in accordance with clause 4 of the DoVT which provided:

"4. TERRITORY RELEASE PAYMENT

4.1 The Dealer shall be entitled to a Territory Release Payment of the following period (provided that the maximum period of any Territory Release Payment shall be 24 months):

(a) if the Dealer has elected for a Cessation Date of 30 June 2003, the Dealer shall be entitled to a 12 month Territory Release Payment;

(b) if the Dealer has elected for a Cessation Date of 31 December 2002, the Dealer shall be entitled to an 18 month Territory Release Payment;

(c) if the Dealer has elected for a Cessation Date of 30 June 2002, the Dealer shall be entitled to a 24 month Territory Release Payment; and

(d) if the Dealer has elected for a Cessation Date of 1 January 2002, the Dealer shall be entitled to a 24 month Territory Release Payment.

4.2 The Dealer shall be entitled to the Territory Release Payment irrespective of whether the Dealer's Business Premises are to be acquired by the Incoming Dealer (or DCUK, as the case may be).

4.3 The Territory Release Payment shall be calculated in accordance with the TRP Calculation set out in Schedule 2, and paid in accordance with clause 8.1."

7. Schedule 2 calculated the TRP using an adjusted profit figure based on the relevant set of audited accounts specified for this purpose under clause 3.2. The dealer could choose the accounts for the nearest accounting period to calendar years 1999 or 2000 but the final figure was subject to further adjustment under clause 2.3 of Schedule 2 by an expert panel if the dealer had failed (in accordance with clause 5 of the DoVT) to adhere to the Revised Core Standards as defined and had thereby caused a reduction in the value of the business to be transferred to the new dealer.
8. The Revised Core Standards are set out in Schedule 3 and govern all aspects of the conduct of the dealership under the DoVT. In this particular case, there was a complaint by Leadley Limited, the incoming franchisee, that Mertrux had transferred some of its personnel from the car sale and workshop operations to its Mercedes van and truck franchise (which it retained) which had to be referred to the expert panel for determination.
9. The TRP is payable in accordance with clause 8 of the DoVT which provides that:

"8.1 For the purposes of this clause it is assumed that on or before the Cessation Date the Dealer and the Incoming Dealer (or DCUK as the case may be) shall have entered into a Transfer Agreement which provides for completion of the sale and purchase and transfer of the items dealt with therein to take place on the Cessation Date. The Incoming Dealer (or DCUK, as the case may be) shall on the Cessation Date pay to the Dealer (without deduction, save (i) as provided in clause 8.3; or (ii) pursuant to an Expert Determination as to a reduction of the Territory Release Payment; or (iii) pursuant to an Escrow Account Direction):

(a) the Territory Release Payment (calculated by the Territory Release Calculation); and

(b) a contribution to the Dealer's transaction costs of £10,000 (the "Contribution");

(c) where a reimbursement is required under clause 5.9, the amount of the Investment Reimbursement; and

(d) the price for the assets to be transferred pursuant to the Transfer Agreement, as specified in the Transfer Agreement."

10. The TRP is therefore payable regardless of which of the various possible cessation dates is chosen. But it varies in amount according to how early before 30^th June 2003 the dealership is to end. The dealer is never entitled to less than 12 months' TRP but this can double in amount if (as in this case) the dealer opts for a cessation date of either 1^st January or 30^th June 2002. Although any reduction in this sum for breach of the obligation to maintain the Revised Core Standards up to the cessation date does not affect the basis of computation, Mr Bramwell QC for Mertrux relies upon clause 2.3 of Schedule 2 as a recognition that the TRP represents a payment or compensation for the value of the business comprised in the dealership and not for its fixed assets.
11. Although the DoVT is a contract between DCUK and Mertrux, it was always contemplated that the TRP would be paid by the incoming franchisee. Clause 4.2 and clause 8 of the DoVT created an entitlement on the part of Mertrux to the payment regardless of whether, on the cessation date, it was the new dealer or DCUK itself who took over the franchise. The obligation therefore rested on DCUK to secure payment in one of these ways. The payment was made in this case by Leadley Limited under the terms of the Transfer Agreement ("TA") dated 31^st July 2003 to which only it and Mertrux were parties. But the recitals to the TA make it clear that the TRP was the payment calculated in accordance with the DoVT subject to any adjustment by the expert panel for the reasons I have mentioned. Recital (c) stated that:

"The Parties have agreed that without prejudice to the Exiting Dealer's rights under the Deed of Termination or the Dealer Agreement the Exiting Dealer will accept payment of the Territory Release Payment from the Incoming Dealer and sell to the Incoming Dealer the Business and Assets described in this agreement."

12. The TA therefore distinguishes between the sale to the incoming dealer of the Business and Assets and the TRP which the new dealer has to pay in satisfaction of DCUK's liabilities under clause 4.2 of the DoVT. The Assets are spelt out in clause 2.1 as follows:

"Subject to the terms and conditions of this agreement, the Exiting Dealer with full title guarantee shall sell to the Incoming Dealer which shall purchase with effect from the Transfer Date free from all liens, charges, claims, equities, encumbrances and third party rights the Business as a going concern together with the Assets listed below:

2.1.1 the Special Tools;

2.1.2 the Demonstrator and Courtesy Vehicles;

2.1.3 the Stock;

2.1.4 the benefit (as far as it can lawfully be assigned or transferred to or held in trust for the Incoming Dealer) of the Customer Contracts (subject to the burden attaching to such contracts); and

2.1.5 the Records."

13. "Business" is defined in clause 1.1 as meaning:

"… the business carried on by the Exiting Dealer pursuant to the Dealer Agreement (excluding the existing commercial and light commercial vehicle business carried on by the Exiting Dealer);"

14. Clause 3.1 specifies that the purchase consideration:

"for the sale of the Business and the Assets (exclusive of VAT) shall be an amount equal to the aggregate of the values attributed to the Assets in clause 3.2."

15. Clause 3.2 proceeds to attribute values to the Assets as defined and then separately (by reference to clause 3.3) estimates an initial amount of £875,104 as payable by way of the TRP subject to adjustment up or down depending upon the outcome of the expert panel determination. In the end, the sum payable by way of TRP was £1,705,502.
16. Clause 3.14.1 provides:

"the Territory Release Payment shall be calculated exclusively pursuant to the terms of the Deed of Termination and that no provision of this agreement shall affect the calculation of the Territory Release Payment;"

TCGA

17. It is common ground that the termination of the franchise on 30^th June 2002 by the service of the clause 3.1 notice and the subsequent transfer of the business and assets under the TA constituted a chargeable disposal for CGT purposes either because there was a disposal of assets within the meaning of s.21 TCGA or because the sums payable to Mertrux were derived from assets. Section 22 (1) provides:

"Subject to sections 23 and 26(1), and to any other exceptions in this Act, there is for the purposes of this Act a disposal of assets by their owner where any capital sum is derived from assets notwithstanding that no asset is acquired by the person paying the capital sum, and this subsection applies in particular to—

(a) capital sums received by way of compensation for any kind of damage or injury to assets or for the loss, destruction or dissipation of assets or for any depreciation or risk of depreciation of an asset,

(b) capital sums received under a policy of insurance of the risk of any kind of damage or injury to, or the loss or depreciation of, assets,

(c) capital sums received in return for forfeiture or surrender of rights, or for refraining from exercising rights, and

(d) capital sums received as consideration for use or exploitation of assets…."

18. In each case it is necessary to identify what the asset is which is either disposed of or for which the capital sum is received as compensation or as payment for the surrender of the right. This is because the roll-over relief provided by s.152 depends upon the assets disposed of and the assets purchased with the consideration from that disposal both falling within the classes of assets listed under s.155. Class 4 is goodwill but there is no similar exception for the contract of franchise or the business itself beyond the fixed assets (such as buildings, plant and machinery) and the goodwill on which it depends. If the consideration is payable for a disposal of assets, some of which qualify but the others do not, there can be an apportionment under s.152(11).

The FTT decision

19. In its relevant tax return Mertrux claimed roll-over relief in respect of the whole of the TRP. HMRC was prepared to accept (and still does) that one half of the payment was attributable to goodwill notwithstanding that under clause 3.1 of the TA the consideration payable for the Business as defined was included in the amount payable for the fixed assets. The entitlement of Mertrux to a 24 months' TRP through early termination could not, it reasoned, be accounted for in terms of goodwill because the amount payable was double what it would have been had the DoVT run its course to 30^th June 2003. It was not plausible, HMRC contended, that between June 2002 and June 2003 the goodwill would have halved in value to the new dealer. Any diminution in value in the goodwill attributable to the running down of the business by Mertrux would be accounted for by a specific deduction under paragraph 2.3 of Schedule 2. It can be seen from the DoVT that the sole reason for the increase in the amount of the TRP in the event of an early termination is the resultant loss in profit that would otherwise have been earned up to 30^th June 2003. This is different in kind, say HMRC, from goodwill which is a specific asset representing the value of the business to the incoming purchaser in terms of its ability to attract customers and thereby generate a profit. Although a payment for goodwill may be based as between vendor and purchaser on likely profits, in this case the calculation of the TRP derives from an agreement between Mertrux and DCUK which is compensatory in nature and whose only purpose was to encourage Mertrux to opt for early termination in return for receiving a sum in lieu of its profits in the intervening period. It was therefore of a pre-determined amount unrelated to any calculation of the value of the business made by the new franchisee.
20. Before the FTT Mr Bramwell's principal argument was that the TA was made between Mertrux and Leadleys and spoke for itself. It was for HMRC to show that the price paid was for something other than the business which (apart from the fixed assets) could not consist of anything but goodwill. He referred to the decision of the Special Commissioner in Balloon Promotions Ltd [2006] STC (SCD) 167 who said that:

"163. Goodwill should be looked at as a whole and includes whatever adds value to a business by reason of situation, name and reputation, connection, introduction to old customers and absence from competition. The precise composition of goodwill will vary in different trades and in different businesses in the same trade.

…

248. I have previously set out my conclusions on the salient features of the legal concept of goodwill. My starting point is that the consideration paid for the Appellants' business incorporated an amount representing the excess over and above the true and fair value of the tangible assets. The existence of that excess combined with the profitability of the businesses were indicative that the businesses had added value which is an essential characteristic of the legal concept of goodwill. The added value was inseparable from the businesses which were sold as going concerns. They were established businesses not new ones. The facts found demonstrated that the Appellants had made a significant contribution to the success of their businesses. They provided the start up and working capital. They developed a reputation for the businesses at a time when the brand name of PizzaExpress was not well-known. They developed a customer base through the customer service they offered, the maintenance of standards by their daily presence at the restaurants and their individual designs of their restaurants. They enjoyed considerable freedom in the way they ran their businesses. The Appellants owned the businesses. The businesses were sold with the benefit of the leasehold interests in suitably designed and equipped properties which enhanced the added value belonging to the businesses.

249. I conclude from the above analysis that the added value as represented by the excess consideration conforms with the salient features for the concept of goodwill as construed in TCGA 1992. The fact that the added value was attached to the businesses and the Appellants owned the businesses are persuasive that the Appellants had goodwill to sell to PizzaExpress. This goodwill was separate and distinct from the goodwill owned by PizzaExpress in its name and associated intellectual property rights. My conclusion is given added force when the facts found in relation to the accounting treatment of the transactions are taken into account together with the requirement for the Appellants to enter into restrictive covenants to protect the PizzaExpress' acquisition of the added value attached to the businesses."

21. The issue in that appeal was whether the sale of a restaurant business, which was long-established but which had latterly begun to operate under the PizzaExpress name and mark, qualified for rollover relief in relation to the bulk of the purchase price which was allocated under the contract to goodwill. The purchaser was PizzaExpress (Restaurants) Ltd, the owner of the mark, which had entered into the franchise agreements when its name was not well known. The Revenue had refused the claim on the basis that the consideration amounted to compensation for the early termination of the franchise rather than a payment for goodwill which largely belonged to PizzaExpress through the use of its own name. In upholding the taxpayer's appeal the Special Commissioner found that goodwill did exist in the restaurant business separate from its use of the PizzaExpress mark, having been built up prior to the commencement of the franchise. The value of the franchise itself was, he found, nominal and the payment could not be attributed to the termination of the franchise agreements because PizzaExpress already owned the mark and could use it to open competing restaurants under that name in the same locality whether or not it took over the taxpayer's own business.
22. Mr Bramwell submitted to the FTT that not only had Mertrux established goodwill in its dealership business apart from the value of the Mercedes mark but such goodwill was inseparable from its rights under the dealership agreement. The franchise was an integral part of the goodwill and no apportionment between goodwill and the value otherwise attributable to the right to carry on the business was therefore possible. The TA was simply the sale of a going concern at a price to be determined by the expert panel and the amount paid for goodwill was the amount by which the price exceeded the value placed upon the fixed assets.
23. Much of the argument for HMRC centred on what the incoming dealer was acquiring under the TA. Mr Nawbatt submitted that the goodwill enjoyed by a Mercedes dealer was (unlike in the PizzaExpress case) derived from the ability to use the Mercedes mark and to sell cars produced by that company. It was the mark which attracted custom and the right to use the mark was acquired not from the TA with the outgoing dealer (who had only the fixed assets and the benefit of any subsisting contracts to sell) but from the new dealership agreement entered into between Leadleys and DCUK. The incoming dealer was obliged to acquire the fixed assets and to pay the TRP as a condition of being granted the new dealership but the value of any goodwill thereby acquired as part of the business was very limited for the reasons just mentioned. At one point in his submissions Mr Nawbatt suggested to the FTT that there was zero goodwill attached to the business shorn of the right to use the Mercedes mark but HMRC has conceded a value equal to 50 per cent of the TRP to take account of goodwill generated by what are described as staff and customer connections which can be separated as a source of goodwill from the use of the mark. If the correct view of the TA is that the consideration was paid for both qualifying and non-qualifying disposals then there is no dispute between the parties about the apportionment. The only issue for the FTT and in the subsequent appeals has been whether any apportionment is appropriate.
24. The FTT found that the DoVT was a compromise of the dispute between Mertrux and DCUK and that it was not possible to speculate on what factors accounted for the amount payable by way of TRP:

"76. Leadleys were offered the chance to buy the business as a going concern at a certain price. The price paid exceeded the value of the tangible assets and therefore the natural conclusion is that the balance of the payment was for the goodwill absent some extrinsic evidence that it was for some other asset. We found nothing to displace the fact that the excess was for the goodwill.

77. We found that HMRC were unable to show that the transfer agreement between Leadleys and the Appellant referred to an apportionment of the payment between the payment for the business and compensation for the loss of the dealership.

78. We found that Leadleys were solely concerned with acquiring the business at the agreed price and that price was paid for the business and nothing else. Leadleys had no reason to pay compensation for the loss of the dealership.

79. We found that the whole of the goodwill was founded on the dealer agreement. A Mercedes dealer has goodwill with its customers because it has the Mercedes franchise.

80. Over time the Appellant had built up a volume of goodwill with its customers, all of whom had Mercedes cars. We found that the Appellant did have goodwill but could only exploit it through someone who held the Mercedes franchise.

81. We found that the basic flaw with HMRC's submissions was that it could not accept that as a result of the goodwill in the Appellant's business being dependent upon its dealer agreement, on the sale of its business to Leadleys its goodwill was acquired by Leadleys along with the Mercedes dealership.

82. Although HMRC queried the Appellant's submission that the goodwill was worth some £850,000 when valued a year earlier we found it very probable that over a long run-off period the goodwill would decline in value as the management lost interest and the employees became unsettled resulting in the customers becoming forced to look further afield.

83. Clause 11.2 of the DoVT expressly provided for the reduction of the TRP where the dealer had breached the Revised Core Standards and thereby caused a reduction in the value of the goodwill of the business."

25. It proceeded to hold that the whole amount by which the price received by Mertrux under the TA exceeded the value of the tangible assets was a payment in respect of goodwill which was therefore eligible for roll-over relief.

The Upper Tribunal

26. One of the difficulties about this analysis as Mr Bramwell acknowledged in his submissions to us is that it contradicts the express terms of the TA under which the consideration payable for the purchase of the Business and the Assets as defined was the aggregate value placed on the Assets in clause 3.2: (see para. 13 above). Clause 3.2 distinguishes the Asset values from the TRP which is calculated on a separate and different basis in accordance with the DoVT: see clause 3.14.1. Whatever goodwill was generated by the dealership in its own right was paid for as part of the Business for a consideration which did not include the TRP.
27. The Upper Tribunal therefore concluded that there was an error of law in the FTT's reasoning and its decision that the entire amount paid to Mertrux under the TA (including the TRP) over the value of the tangible assets was in respect of goodwill was therefore reviewable: see Edwards v Bristow [1956] AC 14. Its reasons are set out in paragraph 22 of the decision as follows:

"We disagree with that analysis for the following reasons.

(1) Section 152 TCGA refers to consideration that a person obtains for a disposal and section 22 TCGA refers to sums received. Those provisions show that the standpoint of Mertrux must be important in determining what the TRP was consideration for.

(2) Mertrux's standpoint can be inferred from the contractual documents and surrounding circumstances. As already mentioned, it seems to us that the natural inference is that Mertrux received the additional TRP in return for agreeing to early termination of the Dealer Agreement, as varied by the DoVT.

(3) While the TRP was paid under the Transfer Agreement, its amount was calculated in accordance with the provisions of the DoVT, to which Leadley was not even a party. The amount of the TRP was, moreover, fixed when Mertrux notified DCUK of its chosen cessation date, which was before Leadley had even been identified as the incoming dealer.

(4) In any case, it is inherently unlikely that Leadley paid the whole of the TRP for goodwill of Mertrux. The reality is surely that it paid the TRP because DCUK required it to as a condition of becoming a dealer. From Leadley's point of view, the TRP will have been the price of obtaining a dealership from DCUK.

(5) Clause 3 of the Transfer Agreement shows that the amounts paid in satisfaction of the TRP were separate from the purchase consideration for the sale of the business and the assets. Only the values attributed to the assets were consideration for the business and assets. It follows that the TRP must have been consideration for something else.

Our view is that the FTT was wrong to conclude that Leadley paid the purchase consideration under the Transfer Agreement for the business and nothing else. In any event, that does not determine what the TRP was obtained or received for by Mertrux."

This Appeal

28. Mr Bramwell sought to support the reasoning of the FTT on the basis that clause 3.1 of the TA must contain a drafting error and that the TRP was obviously intended to form part of the consideration for the disposal of the goodwill. That argument seems to me, with respect, to be quite hopeless. Although the modern authorities on the construction of contracts recognise that the court can look beyond the grammar and vocabulary of the document as executed in order to ascertain what the reasonable observer would have understood the parties to mean in the context in which the words are used, they also recognise that lawyers do not generally make mistakes and there must therefore be something in the contractual term which, when given its conventional or literal meaning, indicates an inconsistency with the obvious or ascertainable purpose which the contract seeks to achieve: see Investors Compensation Scheme Ltd v West Bromwich Building Society [1998] 1 WLR 896 at pages 912-3.
29. In this case the provisions of clause 3.1 of the TA are re-inforced by clause 3.14.1 and recital (c) which make a clear distinction between the sale of the Business and Assets and the payment by the incoming dealer of the TRP. This is no more than a recognition of the structure of the transactions under which the outgoing dealer is replaced by the new dealer and the circumstances in which the TRP comes to be payable. As explained earlier in this judgment, the TRP (regardless of how it came to be negotiated) represents agreed compensation payable to Mertrux under the DoVT in respect of the exercise by DCUK of its right to terminate the dealership. The amount of the TRP is calculated by reference to the chosen termination date in accordance with the provisions of clause 3 of the DoVT and its payment is an obligation of DCUK under clause 8 of that agreement which falls to be satisfied on the cessation date by either the incoming dealer or DCUK as the case may be.
30. Clause 8.1(d) makes it clear that its payment is therefore distinct from the purchase of the assets under the TA which reflects the fact that the outgoing dealer is entitled to the TRP upon termination of the existing dealership regardless of what arrangements are put in place thereafter. It is for the same reasons a separate disposal from the sale of the Business and Assets under the TA. The TRP became payable on termination of the existing dealership following the service by Mertrux of its election notice under the DoVT. This is a separate transaction from the TA to which Leadleys were not a party and it resulted in a freestanding disposal of assets within the meaning of s.22(1) TCGA regardless of whether (and, if so, what) terms Mertrux might thereafter agree with Leadleys for the disposal of what business assets remained in its hands following the termination of the dealership.
31. To meet these objections to the reasoning of the FTT Mr Bramwell advanced a second line of argument which recognises the points I have just made but seeks to characterise or analyse the disposal under the DoVT as also a disposal of goodwill. His argument is that even if one accepts that the TRP was paid as compensation for the loss of the dealership, the asset from which that capital sum was derived (for the purposes of applying s.22(1) TCGA) is the goodwill which subsisted in the dealership even though it is not and cannot be passed on to the incoming dealer. It is not, as HMRC contended, merely the contractual rights under the dealership agreement because the dealership and the goodwill which it generates are both interdependent and indistinguishable.
32. One attraction of this argument from the taxpayer's point of view is that it avoids the need to distinguish between goodwill which continues to subsist in the business and was therefore passed on to Leadleys under the TA, and goodwill which was enjoyed by Mertrux under its own dealership but which was generated by its use of the Mercedes mark. As I mentioned earlier, Mr Nawbatt contends that most, if not all, of the goodwill enjoyed by a franchise of this kind originates from the market strength of the Mercedes brand which, unlike the PizzaExpress mark at the time of the decision in Balloon Promotions, is treated by consumers as a badge of quality which attracts custom to its authorised dealers. The goodwill attributable to the use of the mark is not something which Mertrux could pass on to Leadleys. Its only source is the new dealership agreement which carries with it the licence to use and promote the mark. But Mr Bramwell's argument is that this does not matter for the purposes of the s.22(1) disposal under the DoVT because the TRP represents compensation derived from the loss of the old dealership under which Mertrux traded as a retailer of Mercedes cars. Indeed he relies on the dealer's right to trade as a Mercedes dealer. The compensation was payable, he emphasises, not for the loss of its fixed assets (which it could sell on to the new dealer) but for its loss of its ability to profit from the use of the Mercedes mark. Loss of profit and loss of goodwill were therefore one and the same.
33. To support this argument Mr Bramwell referred us to the decision of this Court in Kirby v Thorn EMI Plc [1988] 1 WLR 445 where the taxpayer company sold three of its subsidiaries and covenanted with the purchaser not to compete with those three companies for a period of five years. The purchaser paid the taxpayer company $575,000 for the benefit of the covenant and separate amounts for each of the three subsidiaries. The consideration for the covenant was held to be treatable as a chargeable gain because, although the giving of the covenant itself was not a disposal of a pre-existing asset, it was a disposal of goodwill since it was an agreement to restrict the taxpayer's own future trading activities which it otherwise had a right to conduct and in respect of which it had already established goodwill. Nicholls LJ (at page 456) dealt with the question whether the payment was "derived from assets" within the meaning of what is now s.22(1) as follows:

"So I come next to a submission by the taxpayer company, to the effect that the present case does not come within s 22(3) because the sum of $575,000 derived, not from the taxpayer company's goodwill, but from the giving of the covenant (which was not a pre-existing asset). In my view, this point is misconceived. If the taxpayer company owned an asset comprising relevant goodwill, by the covenant the taxpayer company turned that asset to account in a particular way: by accepting a substantial sum in return for agreeing not to use that asset, for a period, to the disadvantage of GE, the covenantee. That seems to me to fall four square within the opening words of s 22(3). It is unnecessary therefore to consider whether the case falls within the particular instances dealt with in s 22(3)(c). Nor does it matter that in this case an asset was acquired by the person paying the capital sum, because the words 'notwithstanding ...' (etc) are words of extension and not of limitation: see Marren v Ingles [1980] 1 WLR 983, 986, 989. I do not think this view of the matter is inconsistent with any of the authorities to which we were referred. Of these authorities I need mention only one, which indeed lends some support to the conclusion I have reached: O'Brien v Benson's Hosiery (Holdings) Ltd [1980] AC 562, 573-574. There the House of Lords, upholding the views of the Court of Appeal and Fox J on this point, held that a sum of money paid to a company by a director in consideration for releasing him from his obligations under a service agreement was a capital sum derived from the service agreement."

34. The outcome of this appeal turns therefore on whether one can separate what is undoubtedly a compensatory payment for the loss of the right to continue to operate the dealership from the goodwill which makes that contract a profitable one. I am not persuaded that the decision in Kirby v Thorn EMI Plc is of very much assistance on this question because in that case the only asset to which the consideration for the covenant could be attributed was the company's goodwill in its pre-existing trade. Its freedom to trade (which it also gave up under the covenant) was not property and therefore an asset for the purposes of the charge to tax. The court was not therefore required to consider alternative possible candidates.
35. Mr Nawbatt's argument for HMRC distinguishes the surrender of Mertrux's contractual dealership and the resultant loss of profits from any loss of goodwill which has, he submits, to be treated as a separate asset. Goodwill, as such, is the product of a successful business and the other assets (such as a franchise) which enable that business to operate. It may also be dependant upon those things for its continued existence in the sense that, without the business, there would be nothing for the goodwill to attach to. But once established it has a separate existence (as TCGA recognises), is separately quantifiable and can be protected in itself against unlawful competition by the tort of passing-off.
36. To illustrate these propositions, we were referred to the decision of this court in Commissioners of Inland Revenue v. Fitzwilliam [1913] 2 KB 593 which concerned the valuation of a public house for the purpose of assessing reversion duty which was payable on the value of the benefit accruing to the lessor on the determination of the lease. The Master of the Rolls (at page 600) said:

"If part of the total value of the land is attributable to goodwill or something personal to the owner, that must be because the goodwill, or that personal thing, is external to the land, and is a causa causans which may increase the value of the land although the goodwill, or personal thing, itself forms no part of the land. A licence, however, is not goodwill. It is an authority to carry on a lucrative business, with the result that a valuable goodwill may be created."

37. In Commissioner of Taxation v Murry [1998] 193 CLR 605 the High Court of Australia had to consider an assessment to capital gains tax on the sale by a taxi co-operative company of a taxi, its statutory licence and some shares in the company. The consideration was apportioned in the sale agreement between the fixed assets and goodwill which was expressed to be the value of the licence. The claim for relief based on the price paid for goodwill was rejected in the High Court on the basis that the sale of a business asset did not involve a sale of goodwill unless the asset carried with it the right to conduct the business from which it was derived. The court said:

"4. … Goodwill is inseparable from the conduct of a business. It may derive from identifiable assets of a business, but it is an indivisible item of property, and it is an asset that is legally distinct from the sources - including other assets of the business - that have created the goodwill. Because that is so, goodwill does not inhere in the identifiable assets of a business, and the sale of an asset which is a source of goodwill, separate from the business itself, does not involve any disposition of the goodwill of the business.

…

30. Care must be taken to distinguish the sources of the goodwill of a business from the goodwill itself. Goodwill is an item of property and an asset in its own right. For legal and accounting purposes, it must be separated from those assets and revenue expenditures of a business that can be individually identified and quantified in the accounts of a business. Goodwill, as property, is "inherently inseverable from the business to which it relates". That which can be assigned and transferred from the business may, while it is connected to the business, be a source of the goodwill of the business but cannot logically constitute any part of the goodwill of the business. To the extent that the law provides remedies for the protection of a severable asset of a business which is also a source of its goodwill, the right to the remedies arises from the legal properties of the asset and not from the existence of goodwill in the business. If the building from which a business is conducted is destroyed, the owner of the business will be able to exercise all the rights that inhere in the owner of a building that has been damaged by the conduct of a third person. In such a case, the owner will probably also have a right to damages for the injury to the goodwill of the business. But injury to the goodwill of the business is not to be confused with injury to the building."

38. In O'Brien v Benson's Hosiery (Holdings) Ltd [1980] 53 TC 241 the sales and marketing director of the company paid it £50,000 to be released from his obligations under a service agreement. It was assessed to corporation tax on the sum on the basis that it was a chargeable gain. The company appealed contending that its rights under the contract were not a chargeable asset. The House of Lords held that the employer's right to obtain a substantial sum for the release of its rights under the agreement indicated that it was an asset. Lord Russell of Killowen (at page 270) said:

"It was contended for the taxpayer that the rights of an employer under a contract of service were not 'property' or an 'asset' of the employer, because they cannot be turned to account by transfer or assignment to another. But in my opinion this contention supposes a restricted view of the scheme of the imposition of the capital gains tax which the statutory language does not permit. If, as here, the employer is able to exact from the employee a substantial sum as a term of releasing him from his obligations to serve, the rights of the employer appear to me to bear quite sufficiently the mark of an asset of the employer, something which he can turn to account, notwithstanding that his ability to turn it to account is by a type of disposal limited by the nature of the asset."

39. It is therefore said that the charge under s.22(1) applied to the TRP following the termination of Mertrux's dealership simply on the basis that Mertrux was thereby receiving a payment for ("derived from") the termination of its contractual rights under the dealership agreement which were separate from any goodwill which the operation of the dealership may have generated in Mertrux's hands. Whilst it might be said that the loss of goodwill was an inevitable consequence of the termination of the agreement, it cannot be said that the agreement and the goodwill it created could be treated as a single asset. Nor can it be said that the only purpose of the TRP was to compensate Mertrux for the loss of goodwill. That would be to ignore the terms and structure of the DoVT which are clearly designed to provide for the termination of the dealer agreement as such and to do so by compensating Mertrux in sums which increase the earlier that the termination takes place. These are unrelated to the residual value of any goodwill in the dealership and can only be attributed to goodwill by equating the value of that asset to the capitalised profits of the business for the reduced period of the dealership.

Discussion

40. One of the difficulties about analysing the TRP as compensation for the loss of goodwill belonging to Mertrux is that it became payable under a variation of the franchise agreement which reserves the right to control the use of the Mercedes mark to DCUK and its German parent who are the owners of the relevant trade marks. Although the dealership may build up goodwill from the way in which it operates independently of its use of the mark (e.g. by the quality of its customer handling or servicing), any such goodwill will subsist beyond the termination of the franchise and was paid for as part of the consideration for the Business under the TA. The goodwill generated by the use of the Mercedes mark during the currency of the dealership agreement could only enure for the benefit of DCUK and Daimler-Benz as the continuing owners of the mark and never became the property of Mertrux: see Article 10.3 of the Trade Mark Directive 89/104 of December 21, 1988. It could not therefore have been the subject of a claim for compensation by Mertrux as a result of the termination of the franchise and, for that reason, the TRP cannot be treated as a payment derived from an asset belonging to Mertrux. The case is therefore the opposite of the position in Balloon Promotions where the goodwill continued to be generated by the restaurant's existing reputation and not by the use of the PizzaExpress mark. What Mertrux could seek compensation for, and in my judgment received under clause 4 of the DoVT, was compensation for early termination of the dealership which could include the value of being able to trade on the goodwill enjoyed by the Mercedes mark under its trade mark licence. But that was no more than the product of its trade mark licence under the dealership agreement and, for tax purposes, falls to be treated as part of the contractual rights enjoyed under the agreement. What Mertrux could not assert was an interest of its own in the goodwill which it was surrendering on the termination of the agreement. The compensation for both aspects of the dealership was therefore, on the face of the agreement, calculated as the amount of lost profit attributable to the period in question. The TRP was thus, on any view, compensation for the loss of the right to trade under the dealership agreement which is sufficient to bring it into charge under s.22(1) TCGA.
41. Mr Bramwell's argument depends, as I have explained, on equating compensation for the loss or surrender of a contractual right with a payment for loss of a different type of interest which his client never had. Quite apart from this, it is also difficult to see how this can be accepted consistently with the way in which the authorities treat goodwill as separate from the underlying contracts and other assets which give rise to it. Even if it were possible to regard Mertrux as having obtained some goodwill in its own right out of its use of the Mercedes mark, that would be in addition to, rather than in substitution for, the rights which it enjoyed under the contract.
42. The TRP was therefore, at the very least, paid for the release of both rights and that is decisive of the appeal.

Conclusion

43. For those reasons I would therefore dismiss the appeal.

Lady Justice Rafferty :

44. I agree.

Lord Justice Maurice Kay :

45. I also agree.