What is a Warranty?
A warranty is a contractual statement of fact or assurance given by a seller to a buyer that a certain state of affairs exists. The contractual statement is often drafted along the lines of, “save as disclosed, a warranty is true, accurate and not misleading at the date of this agreement”.
A warranty may give rise to damages if it transpires that the warranty is untrue. Warranties differ from indemnities. Typically, you will see the inclusion of both in commercial contracts. In contrast to a warranty, an indemnity is an enforceable promise and generally relates to losses suffered following completion of an agreement.
In the context of a sale of a business or shares and commercial agreements, there are various types of warranties including those relating to ownership of company assets, compliance with relevant laws, the accuracy of accounting records, environmental matters, tax matters, legal disputes and employment issues.
The purpose of Warranties
Warranties can have considerable commercial value and give buyers important assurance and comfort regarding the due diligence exercise and the ability to claim for breach of contract if a warranty turns out to be untrue. Additionally, warranties can often have the effect of forcing a seller to give further disclosure.
When negotiating a contract, risk is apportioned between a buyer and seller. The buyer will inevitably seek to incorporate warranties and indemnities into the sale agreement to shift risk to the seller to secure protection and security for the future.
Sellers will strive for certainty. They will be interested in limiting the warranties and disclosing items to protect against the risk of breach of warranty claims and will seek to avoid a situation where there is a breach that could reduce the consideration received for the sale. Another means by which a seller might impose a contractual limitation on a warranty is to include a notice of claim clause requiring a buyer to notify the seller of a potential breach of warranty claim and stipulate what that notice must cover, for example, details of loss.
In the event that a dispute arises between parties to a sale agreement, the Court will focus on the specific provisions agreed between the parties.
The role of disclosure
A disclosure letter acts as shield to a breach of warranty claim and is a mechanism that allows the seller to disclose qualifications to the warranties to limit their scope. Disclosure letters are often a feature of business sales used by the seller to give formal disclosure to a buyer of circumstances which are or may be inconsistent with representation and warranties contained within the sale agreement and therefore qualify those representations and warranties. For example, a disclosure letter may state that all matters which would be apparent from an inspection of the business premises are deemed disclosed to the buyer.
We often see cases where the party alleging that there has been a breach of warranty fails to give proper consideration to the disclosure letter and the party who purportedly committed the breach is able to defend a claim by arguing that the disclosure prohibits the buyer from bringing a claim.
To avoid claims, sellers should be cognisant of the importance of providing accurate responses as part of the disclosure exercise.
Notification requirements
Ordinarily, a sale agreement will specify how a warranty claim is to be notified and the time within which notification must take place. Strict timeframes dictate the period of time within which to notify of a claim (typically 1 or 2 years) and is commonly shorter than the statutory limitation for bringing a claim for breach of warranty (6 years from the date of the contract in the case of a simple contract i.e. not a deed).
It is also usual for a notice of claim clause to specify what is to be included and the method of service. For example, requiring the buyer to specify the type of claim and the provisions upon which it relies, and providing details of the alleged breach. Careful scrutiny should be applied to ensure that a buyer is not precluded from bringing a claim due to a failure to properly comply with the notice of claim provisions. In such cases, it is possible that a seller could well succeed in having a claim struck out on the basis that the notice is defective, insufficient and / or invalid.
Liability and Damages
Liability for a breach of warranty can be joint (each warrantor is fully liable for the performance of the relevant obligation), several (each warrantor is liable only for its own specified obligations) or joint and several (giving the claimant the ability to recover the whole liability from any one of the warrantors). A buyer will often insist on joint and several liability in the contract. It is not uncommon for warrantors to have a separate contribution agreement between themselves.
The calculation of damages in a breach of warranty claim can sometimes be complex. The general principle is that the buyer is to be placed in the position it would have been in had the warranties been true. In the case of a share sale, for example, the measure of damages would be the difference between the open market value of shares on a sale if the statement were true and the actual value of the shares because the statement was not true.
An assessment should be undertaken as to what the buyer would have done had they been made aware of the true position through full disclosure. This is typically a matter for witness evidence and cross examination. The seller might argue that the buyer would have proceeded with the sale at the same value regardless of whether the warranty was true or not.
A defendant to a breach of warranty claim may also be able to rely on a contractual cap limiting their liabilities.
The Approach of the Courts
In a recent Court of Appeal case (Drax Smart Generation Holdco Ltd v Scottish Power Retail Holdings Ltd [2024] EWCA Civ 477), the Court held that a buyer’s warranty claim under a share purchase agreement satisfied the contractual requirements in the notice of claim clause. In that case, the notice of claim required the buyer to specify its loss in a particular way. While the notice did not do this, it did identify the alleged loss suffered. The takeaway from that case is that the Court adopted a pragmatic approach and held that the commercial purpose of the notice was for the buyer to give sufficient information to the seller in order for it to investigate the potential liability.
How can Wedlake Bell help?
Careful consideration must be given to contractual clauses concerning warranties, such as the contractual provisions on notification, to avoid a situation where a party is prevented from bringing a claim because it has failed to comply with such provisions and the time for doing so has passed. Our experienced Commercial Disputes team can advise on your rights to enforce a warranty (including assisting you with complying with any contractual notification obligations) or your ability to defend a claim (including by reference to the disclosure exercise and / or cap on liability). We can advise on liability apportionment, agreements for contributions, caps and indemnities.