Damages for fraudulent misrepresentation in business assets sale
06 July 2021
When considering direct losses suffered as a result of fraudulent misrepresentations made in the course of a business assets sale, a court should determine the difference between the market value of the assets at the appropriate date, and the purchase price. The Court of Appeal held that the judge had erred in awarding damages for fraudulent misrepresentation based on what the buyers had “factored in” to their calculation of the purchase price: Glossop Cartons and Print Ltd v Contact (Print and Packaging) Ltd  EWCA Civ 639
The transaction concerned a purchase by Glossop from Contact. The agreement specified that the purchase price of GBP1.2 million comprised GBP900,000 worth of assets (plant, machinery, stock and WIP) and a sum of GBP300,000 representing goodwill. Goodwill was included notwithstanding the fact that all parties to the agreement knew that the business had been loss-making for a number of years and that the sold assets included the loss-making contracts. The buyers were willing to pay a premium over the value of the assets in the expectation that they could achieve synergies with their existing business. It subsequently turned out that they had made a bad bargain.
Following the transaction, Glossop and the other purchasers brought misrepresentation claims against the sellers. During the course of the proceedings, it was admitted that Contact and its owner made a number of fraudulent misrepresentations to secure the transaction. In his decision on quantum, the judge calculated direct losses flowing from the misrepresentations by deducting from the purchase price the ‘value’ of each flaw or defect that, in his view: (i) Glossop and the other purchasers had considered when agreeing to the final purchase price; or (ii) were the product of their commercial mistakes. The appropriateness of this approach, sometimes called the “deduction” method, was the main issue on appeal.
The deduction method was not appropriate
The measure of damages for direct loss caused by fraudulent misrepresentations is the purchase price paid, less the market value of the assets at the valuation date, as established by the House of Lords in Smith New Court Securities Ltd v Citibank NA.1This objective standard applies even in circumstances where assessing the business assets’ market value can be difficult. The deduction method is incorrect in principle because it accounts for subjective factors that the claimant “may or may not have ‘factored in’ to their calculation of the purchase price”. These subjective elements are irrelevant for the purposes of a court’s direct loss damages assessment.
After reviewing the expert evidence, the Court of Appeal was satisfied that the parties’ contractual assessment of the value of assets (at GBP900,000) was correct. The amount paid for goodwill (GBP300,000) was the difference between the value of the assets comprised in the sale and the price paid, and thus constituted the recoverable amount for direct loss.
Compensation for making a bad bargain
Another point on appeal was the judge’s opinion that the assets’ market value could not reflect the appellants’ commercial misjudgements and mistakes. This was held to be incorrect. Litigants asserting claims of fraud may recover damages despite their prior knowledge of faults affecting the purchased assets.2 A claimant is entitled to the difference between the price paid and the assessed market value, “whatever miscalculations it may have made in entering into the transaction.”
As a point of practice, this ruling highlights the need for lawyers to work closely with experts to ensure that valuations are performed within the correct damages framework. A claim for fraudulent misrepresentation will require the parties’ experts to engage in an objective valuation of the entire transaction. In this case, this exercise could be performed with relative ease. However, in a larger transaction the actual market value can be much more difficult to ascertain given that – in the words of the Court of Appeal – “valuation is never a precise science”.
This case summary is part of the Allen & Overy Litigation and Dispute Resolution Review, a monthly publication. If you wish to receive this publication, please contact Amy Edwards.
1.  AC 254. The decision on this point was reaffirmed in Butler-Creagh v Hersham  EWHC 2525 (QB).
2. In reliance upon Standard Chartered Bank v. Pakistan National Shipping Corporation (Nos. 2 & 4)  1 AC 959 and the decision in OMV Petrom SA v. Glencore International AG  EWCA Civ 778;  3 All ER 157, where Clarke LJ held that market value is to be determined objectively and without regard to “what the claimant might or might not have thought about what it was buying at the time”.