Scottish Court of Session Decisions

Pursuers: Johnston, Q.C., Bowen; Balfour + Manson LLP

Defenders: Clark, Q.C.; Harper Macleod

6 May 2009

[1] On 25 April 2007, the pursuers (as sellers) and the defenders (as purchasers) entered into a Share Purchase Agreement ("SPA") for the purchase and sale of the whole issued share capital of Scottish Motor Auctions Limited ("the Company") for a consideration of £15 million. Of that sum, £14.5 million was to be paid in cash on Completion and the remaining £500,000 ("the Retention Amount"), plus any interest accruing thereon from time to time, was to be paid into a Retention Account in the joint names of the parties' solicitors.

[2] The SPA also provided, by clause 3.4.1, that prior to Completion the sellers should procure the declaration of a dividend by the Company (the "Completion Dividend") in their favour, in an amount calculated in accordance with that clause. The Completion Dividend, thus ascertained, was to be payable within 10 Business Days of finalisation of the Completion Accounts, subject to the provisions of clause 3.8 to which I shall refer in more detail. Pending ascertainment of the Completion Dividend, clause 3.4.2 provided that the sum of £642,000, being the agreed estimate thereof, should be paid into the Retention Account at Completion. Although not spelled out in detail, it appears that this estimated amount held in the Retention Account, or at least the difference between the estimated amount and the Completion Dividend as ultimately ascertained, would then be repaid to the Company.

[3] The SPA contained a large number of Warranties. These are provided for in clause 5 of the SPA; and the Warranties themselves are set out in Part 6 of the Schedule to the SPA, which runs to some 70 pages.

[4] It is agreed on Record that Completion took place on 25 April 2007 and that, on Completion, the Company transferred the sum of £642,000, being the agreed estimate of the Completion Dividend, to the Retention Account. The Completion Accounts were finalised on 31 August 2007, and the Completion Dividend was ascertained to be £566,681. Subject to the provisions of clause 3.8, that amount fell to be paid to the pursuers by 17 September 2007, that date being 10 Business Days after finalisation of the Completion Accounts on 31 August 2007.

[5] In circumstances defined in the SPA, the purchasers are entitled to deduct from the sums in the Retention Account the amount of their claims against the sellers under the SPA. The defenders have intimated claims against the pursuers and seek payment of those amounts from the Retention Account. For their part, the pursuers contend that no valid claims have been made by the defenders sufficient to trigger the release of those sums to the defenders. They say that the sums in the Retention Account should be released to them.

[6] The matter came before the court at debate on pleas-in-law for both parties. The underlying merits of the defenders' claims for breach of warranty, or at least the quantification of such claims, could not be determined at debate. The argument at debate turned around the question of whether the claims as intimated entitled the defenders to payment from the Retention Account (or, more precisely, payment of the Retention Amount, with the Completion Dividend remaining in the Retention Account pending further procedure); or whether, on the other hand, the pursuers were entitled immediately to the release of both sums to them.

[7] The SPA makes different provision as regards claims made against the Retention Amount and those made against the Completion Dividend. As regards the Retention Amount, clause 4.5 of the SPA provides that:

"The Retention Amount and the Retention Account shall be dealt with in accordance with the provisions of Part 12 of the Schedule."

Part 12 of the Schedule, which is headed "Retention", provides, so far as material, as follows:

"1. Deduction

The Purchaser shall for a period of one year commencing on the Business Day after Completion be entitled to deduct in accordance with the provisions of this Part of the Schedule from the Retention Amount the amount of any proper claim in respect of a breach of the Warranties or any claim that the Purchaser may have under the terms of the Tax Deed subject to the provisions of Part 10 of the Schedule (a

'Claim').

2. Purchaser's notice

In settling a Claim the Purchaser shall give the Sellers notice of the Claim stating the nature of the Claim, the amount claimed and a reasonable estimate of the Purchaser's costs in connection with enforcing the Claim (together an 'Amount Claimed').

3. Seller's notice

Within 30 days starting on the Business Day after receipt of notice of the Claim the Sellers or the Sellers' Solicitors shall give the Purchaser notice stating:

3.1 whether or not the Sellers accept liability for the Claim; and

3.2 whether or not the Sellers accept the Amount Claimed, and if they do not accept the whole of the Amount Claimed that part (if any) of the Amount Claimed that it does accept.

4. Failure to give notice

If the Sellers or the Sellers' Solicitors fail to give notice in accordance with paragraph 3 the Amount Claimed shall be paid to the Purchaser out of the Retention Amount.

5. Partial acceptance

If the Sellers accept liability in respect of the Claim but accepts (sic) only part of the Amount Claimed that part of the Amount Claimed that is accepted shall be paid to the Purchaser out of the Retention Amount.

6. Acceptance

If the Sellers accept the Amount Claimed, or there is a determination of the amount payable in respect of the Claim by a court of competent jurisdiction, the amount so accepted or determined (less any amount previously paid under paragraph 6 for such a Claim) shall be paid to the Purchaser.

7. Payment of account

To the extent that a payment to the Purchaser out of the Retention Amount in respect of a Claim is less than the Amount Claimed it shall be a payment on account of the amount agreed or determined to be payable in respect of that Claim.

...

11. Release

Upon the expiry of the period referred to in paragraph 1 and at any time thereafter the amount then standing to the credit of the Retention Account (less the total of the outstanding amounts claimed in respect of which payment has not been made) shall be released to the Seller."

The other paragraphs of Part 12 are not material for present purposes.

[8] The provisions of the SPA concerning the purchaser's right to deduct from the Completion Dividend are set out in clause 3.8, entitled "Set Off". This provides as follows:

"3.8 Set Off

3.8.1 If on the date the Completion Dividend, or any part thereof, is to be released from the Retention Account, the Purchaser has a bona fide claim against the Sellers under the terms of this Agreement which claim exceeds the Retention Amount the Purchaser shall be entitled to apply all or any part of the Completion Dividend in settlement of the amount by which such claim exceeds the Retention Amount and any amount so applied shall satisfy the liability concerned (to such extent only). The provisions of this Clause shall operate without prejudice to any other rights or remedies of the Purchaser in respect of such claim.

3.8.2 Where in accordance with Clause 3.8.1 the Purchaser intends to apply all or part of the Completion Dividend in settlement of a claim it shall notify the Sellers of such intention. If the Sellers dispute the bona fides of the claim, the claim shall be referred to counsel of at least 10 years experience for review, such counsel to be nominated by agreement between the parties or failing such agreement nominated by the President of the Law Society of Scotland. If counsel determines that the claim has more than 50% chance of succeeding then all or such part of the Completion Dividend as is necessary to settle the claim may be withheld by the Purchaser pending resolution of the claim. If counsel determines the claim has a less than 50% change of success then all of the Completion Dividend shall be paid to the Sellers. Counsel's costs shall be paid as counsel directs or, failing any such direction, equally by the parties."

[9] On 8 August 2007 the defenders notified the pursuers of a claim for breach of certain of the warranties in the SPA. The amount claimed by way of damages is quantified at a sum in excess of £3.5 million. It is accepted by the pursuers that they did not serve in response a "Sellers' notice" as referred to in para.3 of Part 12 of the Schedule to the SPA.

[10] There is in fact no real dispute that the pursuers were in breach of warranty, though the pursuers deny the defenders' allegations of causation and quantum. However, the pursuers contend that the claim for damages for breach of warranty, intimated in the letter of 8 August 2007, does not trigger an entitlement on the part of the defenders to deduct from the Retention Amount in terms of the provisions of Part 12 of the Schedule to the SPA. Their argument is that Part 12, on its proper construction, only applies to claims which are liquid, i.e. agreed or determined, and not to illiquid claims of the kind put forward by the defenders in their letter. Similarly, under reference to the provisions of clause 3.8 of the SPA, the pursuers contend that the defenders' right to apply all or part of the Completion Dividend in settlement of the amount by which their claim exceeds the Retention Amount, applies only where the claim is liquid in the sense of being agreed or determined. It does not apply to illiquid claims.

[11] I see no basis for that contention. It is agreed that the issue turns entirely on the construction of the contract, and not on the common law of retention. However, neither the provisions of Part 12 of the Schedule, nor those of clause 3.8 of the SPA, suggest any such distinction between liquid and illiquid claims. Nor is there any need for such a distinction. These provisions do not determine ultimate liability. They deal with two matters: cash flow; and the provision of security for the purchasers' claims. All that is needed to make Part 12 work is that the amount of the claim be identified; and there is no difficulty in identifying the amount of the claim, or the "amount claimed" to use the language of para.2 of Part 12 - it is the amount which the purchaser puts forward in his claim. Nor would it make much sense if the claims had to be agreed or determined before Part 12 could be operated. Part 12 is dealing mainly with claims for breach of warranty. Most of those claims will be for unliquidated damages. Yet the entitlement to deduct lasts for one year from Completion. It seems most unlikely that the purchasers' claims for breach of warranty would be agreed or otherwise determined within this period - so the pursuers' argument, if correct, would significantly reduce the scope of the retention apparently given by Part 12.

[12] The above analysis is consistent with the terms of the various paragraphs of Part 12. Thus, in their notice given under para.2 of Part 12, the purchasers must state the nature of the claim, the amount claimed "and a reasonable estimate" of their costs in connection with enforcing the claim. Together these are called the "Amount Claimed". The need for the costs in connection with enforcing the claim to be an estimate arises because any beach of warranty claim, unless accepted in full by the sellers, will require to be litigated (almost certainly after the service of the Purchaser's notice under para.2 of Part 12). The allowance of an estimate within the Amount Claimed shows that there is no overriding requirement that the claim be for a liquid amount. It was suggested by Mr Johnston, Q.C., for the pursuers, that the need to stipulate that the claim for costs could be a "reasonable estimate" suggested that all other aspects of the claim had to be liquid. I do not think that this follows. There has to be specific provision to make clear that the purchaser is able to deduct the costs of future proceedings, and such provision would naturally be couched in terms of a reasonable estimate. Para.3 of Part 12 requires the sellers, after receipt of notice of the claim, to give a "Seller's Notice" stating not only whether or not they accept liability for the claim but also whether or not they accept "the Amount Claimed". That implies that the amount of the claim is capable of dispute. If, as the pursuers argue, "claim" in Part 12 is to be read as referring only to a claim for an agreed or determined amount, there would be no scope for the sellers to challenge the amount of the claim as opposed to their liability for it. The same point applies to para.5, which provides that, in a case where the seller accepts liability for the claim "but accepts only part of the Amount Claimed", the sellers must pay the amount that is accepted; to para.6, which contemplates the subsequent judicial determination of the "amount payable" (rather than mere acceptance of the Amount Claimed); to para.7, which states that the amount paid (being less than the Amount Claimed) is to be treated as a payment on account of the amount (ultimately) agreed or determined in respect of that claim; and to para.11, which deals with release of the amount in the Retention Account, but recognises that some amounts claimed may still be unpaid. All of these provisions are, to my mind, clearly in conflict with the pursuers' argument that, for a claim to be a valid claim in terms of Part 12, the amount claimed has to be liquid in the sense of being agreed or already determined.

[13] It was, I think, accepted that the pursuers' argument, if correct, applied both to the right to deduct from the Retention Amount under Part 12 and the right under clause 3.8 of the SPA to apply any claim (in so far as it exceeds the Retention Amount) against the Completion Dividend. This must be correct, since the rights are cumulative and intended to be read together. It follows, therefore, that if I am right in my conclusion that there is no requirement under Part 12 for the claim to be liquid, then neither is there any such requirement under Clause 3.8. It is enough to say that there is nothing in clause 3.8 which adds further support to the pursuers' argument. Clause 3.8.1 is couched in terms of the Amount Claimed, i.e. the amount claimed by the purchaser, and not the amount ultimately found to be due. There is, it is true, provision in clause 3.8 for the sellers to dispute the bona fides of any claim made by the Purchaser, in which event the claim is to be referred to counsel of at least 10 years experience for review; and some direction is given as to what is to happen depending upon whether counsel determines that the claim has more or less than a 50% chance of success. The clause is not happily worded. It might be argued, and I think it was faintly argued by the pursuers, that the determination to be made by counsel appeared to be one of liability on the basis that quantum was taken as read; but, even if this were so, and I am not persuaded that it is, I do not think that it points to a requirement that the claim be liquid.

[14] In those circumstances I take the view that there is no requirement that the defenders' claim must be a liquid claim. It follows that the objection raised by the pursuers to the validity of the defenders' claims to deduct under Part 12 and clause 3.8 - and it was the only objection ultimately taken - is not well-founded. So far as concerns the Retention Amount, the defenders are entitled to deduct the whole of that amount in respect of their claim; and are therefore entitled to decree in terms of the second conclusion in the counterclaim. The pursuers' second conclusion must fail. Parties may wish to insert a plea-in-law which can be sustained or repelled to give effect to this. So far as concerns the Completion Dividend, the sellers have made it clear that they dispute the bona fides of the claim. Now that I have determined that it is in fact a claim which triggers the defenders' rights under clause 3.8, that dispute as to its bona fides means that the claim must be referred to counsel in accordance with clause 3.8.2. In the meantime, the Completion Dividend must remain within the Retention Account. In those circumstances I need make no order concerning the disposal of the Completion Dividend, but again counsel may wish to consider whether it would be appropriate to insert a plea-in-law which can be sustained or repelled.

[15] Certain other matters were discussed between the parties. Since a procedural hearing will be necessary to determine further procedure, I propose to appoint the matter to come out By Order at the same time before issuing a substantive interlocutor.