Infiniteland Ltd & Anor v Artisan Contracting Ltd & Anor

This is an appeal from an order made on 28 May 2004 by Mr Justice Park in proceedings arising from a share sale agreement dated 24 May 2001 and made between the first respondent, Artisan Contracting Limited (as Vendor), and Mea Corporation Limited (as Purchaser). The second respondent, Artisan (UK) Limited was made a party to that agreement in order that it could join with the Vendor in giving the warranties contained in clause 7 – and for other purposes which are not material in the context of this appeal. On 24 July 2001 the Purchaser’s rights and obligations under the agreement were assigned by Mea Corporation, with the consent of the Vendor and Artisan UK, to the first appellant, Infiniteland Limited, a company wholly owned by the second appellant, Mr John Aviss. On the same day Mr Aviss guaranteed to the Vendor the due payment by Infiniteland of the deferred consideration payable under the agreement.

The agreement was for the sale of the whole of the issued capital of three companies, Bickerton Construction Limited (“Bickerton”), Driver Construction Limited and Yeadon Air Structures Limited. The purchase consideration was stated in the agreement, as made on 24 May 2001, to be £1,233,411. But, as appears from a variation agreement made on 14 June 2001 between the same parties (the Vendor, Mea Corporation and Artisan UK), that figure reflected their intention that the price for the shares in the three companies (“the Shares”) was to be £1 million “plus the aggregate value of the net assets of the Group Companies as at 31 March 2001”. In that context “the Group Companies” means Bickerton, Driver Construction and Yeadon Air Structures and their subsidiaries (if any) for the time being – clause 1.1.1 of the agreement. 31 March 2001 was the “Last Accounts Date” for the purposes of the agreement. In the variation agreement the parties increased the purchase price to £1,402,948. The date of the variation agreement, 14 June 2001, was the date upon which completion took place – recital B to the variation agreement.

Clause 3.1 of the agreement of 24 May 2001, as varied by the agreement of 14 June 2001, was in these terms (so far as material):

“The purchase consideration for the Shares shall (subject to adjustment pursuant to the provisions of clause 4) be the sum of [£1,402,948] which shall be paid or satisfied by:

3.1.1.

a deposit of £90,000 to be paid in cash to the Vendor’s Solicitors on the date of this agreement and to be held by the Vendor’s Solicitors as stakeholder pending Completion;

3.1.2

the sum of £810,000 [to be paid in cash on 29 June 2001 . . . ]

3.1.3

the balance of [£502,948], subject to any adjustment, being paid in cash on the first anniversary of Completion;”

Clause 4.1 of the agreement provided for an adjustment to the purchase price if the aggregate value of the net assets of the Group Companies proved to be substantially more or less than the estimate which the parties had made. The clause, as varied on 14 June 2001, was in these terms:

“The Vendor agrees that, subject to clause 4.2, if the Net Asset Value is lower than [£402,948] by £50,000 or more then the Vendor shall reimburse to the Purchaser the total of such shortfall (including, for the avoidance of doubt, the £50,000) and the Purchaser agrees that, subject to clause 4.2, if the Net Asset Value is greater than [£402,948] by £50,000 or more then the amount of such excess (including, for the avoidance of doubt, the £50,000) shall be added to the balance of the consideration payable under clause 3.1.3.”

Net Asset Value is a defined term. It means:

“. . . in relation to the Group Companies the aggregate value of their fixed assets plus their current assets less the aggregate of their liabilities at 31^st May 2001 such value to be calculated consistently with and on the same basis and accounting policies as were applied in the Principal Accounts”

And, in that context, the Principal Accounts means:

“. . . the audited balance sheet as at the Last Accounts Date and the audited profit and loss account for the year ended on the Last Accounts date of each Group Company including the directors’ report and notes”

As I have said, the Last Accounts Date was 31 March 2001. Clause 4.2 provided that certain items – goodwill, adjustments made by the Purchaser on acquisition and any asset revaluation - should be disregarded when calculating Net Asset Value for the purposes of adjustment to the purchase price under clause 4.1.

Clause 4.3 required the Purchaser to prepare a calculation of the Net Asset Value before 1 September 2001 and contained provisions for verification of that calculation by the Vendor. Clause 4.4 provided for certification of the Net Asset Value, in default of agreement, by an independent accountant. Clause 4.7 was in these terms:

“The calculation of the Net Asset Value shall be without prejudice to any Warranty Claim provided that the Warrantors shall not be liable to the extent that the Purchaser has been compensated by any adjustment under this clause.”

A Warranty Claim was any claim for breach of the warranties and undertakings given by the Vendor and Artisan UK (“the Warrantors”) in clause 7 and schedule 3.

Clause 5.1 of the agreement provided that completion should take place on 8 June 2001 provided that a number of conditions precedent were satisfied. Those conditions included, at clause 5.2.6:

“The purchaser not having discovered before Completion through reasonable and proper due diligence (with which the Vendor and Artisan will give reasonable and proper co-operation) any facts or circumstances which would or might have a material adverse effect on the value of the Group Companies (material in this context meaning £75,000 or more) unless the Vendor makes good to the Purchaser such adverse effect prior to Completion.”

Clause 5.6.11 required that the documents to be delivered by the Vendor to the Purchaser upon completion included “the Principal Accounts of each Group Company”.

Clause 7 set out warranties and undertakings given by the Vendor and Artisan UK. Clause 7.1.8 was in these terms (so far as material):

“The Warrantors warrant to the Purchaser that . . . save as set out in the Disclosure Letter, the Warranties in Schedule 3 are true and accurate in all respects; . . . ”

Paragraph 1.1.2 in schedule 3 contained a warranty that:

“The Principal Accounts (a) give a true and fair view of the assets and liabilities of each Group Company at the Last Accounts Date and its profits for the financial period ended on that date; . . . ”

By clause 7.1.9 the Vendor and Artisan UK warranted that the contents of the Disclosure Letter and of all accompanying documents were true and accurate in all respects and fully, clearly and accurately disclosed every matter to which they related.

At clause 7.7 the parties acknowledged that the Purchaser had entered into the agreement on the basis of and in reliance upon the truth and accuracy of the Warranties – that is to say, the warranties set out in clause 7.1 and in schedule 3 (subject to the Disclosure Letter); and the Purchaser acknowledged that it had not been induced to enter into the agreement by any representation or warranty other than those warranties. Clause 7.4 provided that the rights and remedies of the Purchaser in respect of any breach of the Warranties should not be affected by completion; and it went on to provide (so far as material) that the Purchaser’s rights in respect of breach of warranty should not be affected:

“. . . by any investigation made by it or on its behalf into the affairs of any Group Company (except to the extent that such investigation gives the Purchaser actual knowledge of the relevant facts or circumstances) . . .”

The Disclosure Letter bears the same date as the agreement, 24 May 2001: it refers to the agreement “to be entered into today” and was addressed to Mea Corporation by the Vendor and Artisan UK. It includes both general and specific disclosure.

General disclosure is made in a paragraph which includes the following:

“This letter shall be deemed to include, and there are hereby incorporated into it by reference and generally disclosed, the following matters:

. . .

4.

all matters from the documents and written information supplied by us to your reporting accountants, Pridie Brewster;

5.

all matters contained or referred to in the following documents supplied by us to you in the green lever arch files

. . .

(b)

Bickerton – board meeting packs for 30^th January 2001, 27^th February 2001 and 27^th March 2001

. . .

and from the board meeting pack[s] for Bickerton for 30^th April 2001 . . .

. . .

7.

all matters contained or referred to in the documents contained in the Disclosure Bundle, a list of which documents is attached to this letter.”

It is common ground that there was a Disclosure Bundle, which included documents to which I shall refer later in this judgment.

Specific disclosure was introduced with the sentence:

“The following specific disclosures are made, the paragraph numbers quoted below referring for convenience only to the corresponding paragraph numbers in Schedule 3 to the Agreement.”

There followed several pages of detailed and specific disclosure; but for the purposes of this appeal it is necessary only to refer to two items:

“1.1.2

In the year ended 31^st March 2001, a management charge paid by Bickerton was reversed.

. . .

3.1.1

In the year ending 31^st March 2001, Bickerton and Driver made no payments on account of corporation tax because they were not expected to show a profit, but management charges were credited by Artisan, so showing a profit . . . . ”

The first, plainly, was a qualification to the warranties as to the principal accounts contained in paragraph 1.1.2 of schedule 3 to the agreement; including the warranty that those accounts give a true and fair view of the profits of Bickerton for the financial year ended on the Last Accounts Date (31 March 2001). The second – which is related to the first, because the profit and loss account of Bickerton for the financial year ended on 31 March 2001 does show an operating profit on ordinary activities - was by way of elaboration of the warranty contained in paragraph 3.1.1 of schedule 3 that all payments which should have been made in respect of taxation had been made. It explains why, notwithstanding the apparent operating profit shown in the profit and loss account, no tax was payable. The reason given is that the apparent operating profit is the result of crediting of management charges in the profit and loss account.

The accounts of Bickerton for the year ended 31 March 2001 were signed off by the Board of Directors (acting by Artisan (UK) as secretary of the company) and by the auditors, Spokes & Co, on 8 June 2001. Those were the Principal Accounts of Bickerton for the purposes of the share sale agreement – clause 1.1.1 of the agreement. The profit and loss account for the year included an item “Cost of Sales - £18,440,556”. After deduction of the cost of sales, in that amount, from the item “Turnover - £20,948,233”, gross profit was shown as £2,507,677. The deduction of “Administrative Expenses - £1,929,166” from gross profit gave a figure for operating profit of £578,511. After adjustment for interest, the operating profit on ordinary activities before taxation was shown as £596,609. So, on the face of the audited accounts, Bickerton had made an operating profit before tax of almost £600,000. After crediting retained profit for the year against a retained loss as at 1 April 2000 – note 15 to the accounts - the balance sheet showed net current assets of £1,167,005; and net assets of £1,154,332.

The judge found – indeed, it was common ground at the trial before him – that the Principal Accounts did not show a true and fair view of the profits of Bickerton for the financial period ended on 31 March 2001 (the Last Accounts Date). The reason is that, in reaching the figure of £18,440,556 in respect of “Cost of Sales” shown in the profit and loss account, there had been off-set against the true cost of sales an exceptional item in the amount of £1,081,000. The result was that the figure for Cost of Sales in the profit and loss account was understated by that amount. The true figure for cost of sales in the year to 31 March 2001 was £19,521,556. This would have the effect of eliminating the operating profit. The true position was that Bickerton had made an operating loss of £502,489; or, after making an adjustment for interest, an operating loss on ordinary activities of £484,391.

I have described the £1,081,000 as an exceptional item. That is an apt description in the context of financial statements and accounts. The £1,081,000 was an amount which had been credited to Bickerton by its ultimate parent, Artisan UK. The judge described it as a “gratuitous transfer”. A more complete description of the circumstances in which the credit came to be made is set out in paragraphs 31 and 32 of his judgment, [2004] EWHC 955 (Ch):

“31.

In the first year after [its] acquisition [of Bickerton in March 2000] Artisan formed the view that Bickerton had not previously made adequate provisions in its accounts for prospective losses on contracts. In the period to 31 March 2000 Bickerton, under the influence of its new parent company [Artisan UK – “AUK”], wrote off a further £1.436m from the value of contracts in its accounts. Further, in the consolidated group accounts Artisan took the view that an additional provision needed to be made. The write down of the contracts in Bickerton’s own accounts came through automatically into the consolidated group accounts, but Artisan made a further provision at group level. A further provision of this nature, made only at the consolidated group level, is known as a ‘fair value adjustment’. . . . At 31 March 2000 (the end of the first year in which Artisan owned Bickerton) AUK made a true fair value adjustment in its consolidated group accounts of £2.25m. The amount of the provision moved downwards as the next accounting year, 2000/2001, continued (reflecting some of the old contracts being finalised within Bickerton), but the fair value provision at 31 March 2001 [in AUK’s consolidated group accounts] was still over £1m

32.

To be precise, it was £1,081,000, which was of course the exact amount which Artisan injected into Bickerton . . . It seems to me that Artisan wished to inject an amount into Bickerton, and, on the question of how much it should be, chose that it should be an amount equal to what was at the accounting year end the balance of the fair value adjustment in its own consolidated group accounts. It could have injected a larger or smaller sum than the fair value adjustment, but in fact it chose the £1,081,000. Some of the documents in the case are expressed in terms of the credit of £1,081,000 being a fair value adjustment in the hands of Bickerton, or of the fair value adjustment being transferred from Artisan to Bickerton. I do not think that those ways of putting it were strictly correct. The correct way, or at least a correct way, would have been to say that Artisan transferred to Bickerton, or injected into Bickerton, an amount equal to the former fair value adjustment in the consolidated group accounts. . . . ”

There was, plainly, a need for some entry in the accounts of Bickerton to reflect what had been done. Expert opinion differed as to what the most appropriate accounting treatment would have been; but there was no dispute that to take the £1,081,000 as a credit against costs of sales in the profit and loss account was not appropriate. The credit of £1,081,000 by Artisan UK could not properly be treated as a reduction in the cost to Bickerton of sales made in the course of its trading activities.

Whatever the correct treatment of the £1,081,000 in relation to the profit and loss account would have been – and whether or not it should have appeared in the profit and loss account at all – the credit of £1,081,000 by Artisan UK had to be reflected in the balance sheet of Bickerton. It was included within the item “Debtors - £6,550,592”. More specifically, it was included within the item “Amounts owed by Group Undertakings - £2,094,035)” shown under “Debtors” in Note 9 to the accounts. That, of course, reflected the fact that, although credited by way of book entry, the sum of £1,081,000 had not been transferred by way of payment by Artisan UK to Bickerton. The net assets of Bickerton as at 31 March 2001 were shown in its balance sheet as £1,154,332. There is no suggestion that the treatment of the exceptional item (£1,081,000) in this way had the effect that the balance sheet of Bickerton as at 31 March 2001 did not show a true and fair view of its assets and liabilities.

The variation agreement was made on 14 June 2001 – that is to say, after the date (8 June 2001) on which the Principal Accounts had been signed off. By clause 6 of the variation agreement the parties expressly confirmed the terms of the share sale agreement (save as then varied).

As I have already indicated, the purchase consideration payable under the sale and purchase agreement was revised upward between the date when the agreement was made (24 May 2001) and the date of completion (14 June 2001). The variation agreement of 14 June 2001 itself recorded that the parties intended that the price was be “£1,000,000 plus the aggregate value of the net assets of the Group Companies as at 31^st March 2001”. At 24 May 2001 the aggregate value of the net assets had been estimated (in the absence of audited accounts) at £233,411 – of which the proportion attributable to the net asset value of Bickerton was £222,731. That figure was based on pro-forma accounts in which the balance sheet showed net assets of £1,002,731; and took account of adjustments in respect of tax losses (£200,000, credit) and a management charge (£980,000, debit). The difference between the estimated figure (£233,411) and the figure which was substituted by the variation agreement (£402,948) is wholly attributable to the differences between the figures for net assets (or net liabilities, in the case of Yeadon Air Structures) shown in the pro-forma balance sheets and the audited balance sheets. In the case of Bickerton, the increase in net assets, as shown in the audited balance sheet, was £151,601 (£1,154,332 - £1,002,731).

It is important to keep three points in mind. First, the inclusion of the exceptional item, £1,081,000, in the profit and loss account of Bickerton, had no effect on that element of the purchase price which was attributable to net asset value. That item was included in the computation of the net asset value element – because it was included within debtors as an amount owed by a group company - but there is no suggestion on this appeal that it was wrong to take the £1,081,000 into account in that context. Second, the improvement in Bickerton’s balance sheet as at 31 March 2001 – effected by the injection of £1,081,000 in the year ended 31 March 2001 by way of a gratuitous credit by Artisan UK to Bickerton – would be reversed in large measure by the management charge (£980,000) which was to be made against Bickerton by Artisan following the year end. But that was known and had been taken into account in computing the net asset element of the purchase consideration. Third, the other element of the purchase consideration payable under the share sale agreement (£1,000,000) was, in effect, a payment for goodwill. And in that context, the inclusion of the exceptional item as a credit within cost of sales in the profit and loss account was very material. It had had the effect of turning a true operating loss of £1/2 million for the year ended 31 March 2001 into an apparent operating profit of the same amount.

The share sale agreement, as varied on 24 June 2001, provided for payment of the balance of the purchase consideration (after taking account of the £90,000 already paid by way of deposit) by two instalments: £810,000 on 29 June 2001 and £502,948 on the first anniversary of completion. The date for payment of the £810,000 was extended to 24 July 2001, at the time when the first appellant, Infiniteland, took over the Purchaser’s obligations under the share sale agreement. That sum was then paid.

On 17 January 2002 Infiniteland put Bickerton into creditors’ voluntary liquidation, on the grounds that it was insolvent and had no realistic prospect of being able to continue to trade. On 11 June 2002 - a month or so before the final payment was due – solicitors for Infiniteland wrote to the Vendor to give notice of claims to be made under the warranties and of the intention to withhold the final payment pending resolution of those claims. After some further correspondence between solicitors, these proceedings were commenced on 2 December 2002.

The claims in the proceedings – following amendment and re-amendment of the particulars of claim – included a claim for damages for breach of warranty, a claim for damages for breach of clause 7.1.9 of the share sale agreement, a claim in debt under clause 4 of the agreement (in respect of an alleged shortfall in the Net Asset Value), claims for damages (alternatively rescission) for misrepresentation and a claim that Infiniteland was no longer liable for the final payment of £502,948. Further, Mr Aviss joined as claimant to seek rescission of the guarantee into which he had entered on 24 July 2001; alternatively, a declaration that he was under no liability under that guarantee.

The breaches of warranty relied upon were set out at length in schedules to the amended particulars of claim. For the purposes of this appeal it is sufficient to refer to paragraphs B2 and B3 in schedule B – described by the judge as “the £1,081,000 issue”:

“B2 The accounts reversed a previous fair value adjustment in relation to the valuation of long term contracts of £1,081,000. . . .

B3 . . . the reversal of the fair value adjustment was wrongly characterised as ordinary trading profit when it was a non-recurring profit. This had the effect that the accounts ought to have recorded a trading loss before exceptional items of £489,391 (£595,609 - £1,081,000) (sic). ”

The defence to the claim based on the breach of warranty alleged under paragraphs B2 and B3 in schedule B to the amended particulars of claim is found at paragraph 6 of the re-amended schedule to the re-amended defence and counterclaim. So far as material it is said that:

“6.3

. . . the adjustments [in respect of the £1,081,000] were disclosed pursuant to Clauses 7.1.8 and 7.1.9 of the Share Sale Agreement in paragraphs 1.1.2 . . . and 3.1.1 of the Disclosure Letter and in the documents referred to in the Disclosure Letter so that ACL [the Vendor] and AUK [Artisan UK] cannot therefore be liable for any breach of warranty in this regard. . .

. . .

6.5

. . . sufficient disclosure was made of the fair value adjustment such that both the Claimants, represented by Mr Berry and their reporting accountants, Pridie Brewster, had actual knowledge of the fair value adjustment. . . . ”

In relation to each of those assertions, the defendants relied upon particulars of knowledge set out in a further schedule to the re-amended defence and counterclaim. Put shortly, it is said that the treatment of the exceptional item – described there (wrongly, as the judge thought) as the fair value adjustment - was there to be seen in the documents disclosed to the Purchaser’s reporting accounts, Pridie Brewster; and had, in fact, been discussed in some detail between the finance director of Artisan UK, Mr Chris Musselle, and Mr Richard Jones, the salaried partner at Pridie Brewster who had charge of the due diligence exercise which that firm carried out on behalf of the Purchaser in April and May 2001.

The judge found as a fact that Mr Jones “. . . discovered the exact position as respects the £1,081,000 and its treatment in the accounts . . .”: paragraph 68 of his judgment. At paragraph 67 he had said this:

“My conclusions in relation to Mr Jones are that he was the accountant at Pridie Brewster who did the due diligence work on the financial position of Bickerton; in the course of doing that he investigated the £1,081,000; it was not a common type of transaction or accounting entry, and it required quite detailed inquiry by Mr Jones before he believed that he understood the nature of it and how it was treated in the accounts (as a credit to cost of sales); however, having had full access to all the accounting papers at Spokes & Co [the auditors to Artisan UK], having had a discussion with Mr Nicholls [the audit partner at Spokes & Co], and having received an explanation from Mr Musselle, he did understand the nature of the credit and how it had affected the accounts. . . . ”

The appellants challenge the judge’s finding of fact that Mr Jones understood the nature of the exceptional item, its treatment in the Principal Accounts and how that treatment affected the operational profit shown in the profit and loss account. It is said, correctly in my view, that it was necessary for the judge to find that Mr Jones knew that the treatment of the exceptional item in the accounts had the effect that an actual operational loss was shown as an apparent operational profit. But it is clear that the judge’s finding does go that far. At paragraph 117 of his judgment he said this:

“. . . Mr Jones, did know about the £1,081,000. He knew that it was in the nature of a gratuitous one-off injection of funds by the ultimate parent company, AUK, into its sub-subsidiary Bickerton, and he knew that in the profit and loss account it had been netted off against the cost of sales. He therefore knew that, in so far as the accounts gave the impression that the normal trading profit of Bickerton had been £596,609, the impression was misleading and needed to be adjusted to remove the distorting effect of the way that the £1,081,000 had been treated.”

It is necessary, therefore, to examine the evidence which was before the judge and on which he relied. A substantial section in the skeleton argument prepared on behalf of the appellants (sections 34 to 61) is addressed to this issue. But it is important to keep in mind that Mr Jones gave oral evidence before the judge – evidence which the judge described as “helpful” - and that Mr Jones was a chartered accountant whose task it was to report on Bickerton’s accounts. He was engaged in a due diligence exercise; and it would have been surprising if he had not made it his business to understand the nature and effect of the £1,081,000 credit – in relation to which he had sought an explanation from Mr Musselle. It is important to keep in mind, also, that the judge rejected the suggestion, made on behalf of Infiniteland and Mr Aviss, that Artisan - and Mr Musselle, in particular - had set out to conceal the true nature of the £1,081,000 credit from the Purchaser. At paragraph 25 of his judgment he said this:

“On the contrary, I accept Mr Musselle’s evidence that, being aware that an unusual adjustment was being made to Bickerton’s profit and loss account, he wanted to ensure that the purchaser was aware of it. I agree that in general the explanations did not succeed in making the matter as clear as Mr Musselle believed that they did, but that was not because he wanted it to be that way. He summed up his attitude as follows: ‘It was in my mind that we were going to be putting through an adjustment that was unusual, and I wanted to ensure that the purchaser was aware, and I on more than one occasion made efforts to try and make sure’. (Day 8 page 40.) I accept what he said.”

And it is important to keep in mind that an appellate court should be cautious before reaching the conclusion that the judge was wrong in a finding of fact made after hearing oral evidence at a trial – Assicurazioni Generali SpA v Arab Insurance Group [2002] EWCA Civ 1642, [15]-[23], [195]-197], [2003] 1 WLR 577, 580H-583C, 584B-585B.

A convenient starting point from which to examine the evidence which was before the judge is a list of queries made by Mr Jones, in manuscript, in connection with a visit to the offices of Spokes & Co on 15 May 2001. It is clear that Mr Jones saw documents supplied by Artisan (or the auditors) which included (i) a Work in Progress Summary in respect of the preparation of Bickerton’s accounts to 31 March 2001 which indicated that the gross margin for the year (Turnover less cost of sales) was to be inflated by “Fair value adjustments” which included the amount of £1,081,000, (ii) an auditors’ note headed “BCL Analytical review” which included the comment “Gross margin has been altered by – Release of fair value adjustments – 1081000” and (iii) an auditors’ note headed “BCL Intercompany debtors, on which the first item was “Artisan UK – 1081000”. His own list of queries, headed “Audit File review – 15.5.01”, included as query 2: “Explanation of ‘release of fair value adjustments’ (£1.081m) needed. Where is this in P+L?”. So there can be no doubt that, by 15 May 2001, Mr Jones was aware that that there was to be an adjustment in respect of the £1,081,000 credit and that he needed to understand what the effect of that adjustment would be on Bickerton’s profit and loss account.

The judge’s findings in relation to Mr Jones’s visit to the auditors on 15 May 2001 is at paragraphs 64 and 65 of his judgment:

“64.

On 15 May 2001 he went by prior arrangement to the offices of Artisan’s auditors, Spokes & Co. They had audited Bickerton’s accounts to 31 March 2000, and they were working on the audit of the accounts to 31 March 2001. Consistently with Mr Dean’s instruction that the proposed acquisition of Bickerton and Driver was to be an ‘open books transaction’, Mr Jones was given full access to the complete audit file and was supplied with any information which he asked for. The visit to the offices, after Mr Jones had looked through the files, included a discussion with Mr Nicholls, the audit partner.

65.

Mr Jones had previously made a manuscript list of queries which he wished to resolve on his visit. There were 20 of them in total. One of them related to the £1,081,000: Mr Jones had obviously seen it referred to in the documents which he had read, and wanted to explore it further. He had received from Mr Berry [a financial adviser to Mr Aviss and the Purchaser] the two binders of documents which had been handed to Mr Berry by Mr Musselle on (probably) 20 April. He had also received copies of CC1 and CC10. His manuscript note read: ‘Explanation of release of fair value adjustment (£1,081m) needed. Where is this in P&L?’ After his visit, or possibly in the course of his discussion with Mr Nicholls, he wrote, as his note of the answer, this: ‘Cr [credit] re fair value prov. on acqn. – probably in c.o.s. [cost of sales]’. In his helpful oral evidence Mr Jones recalled that Mr Nicholls was not able to give an entirely clear explanation of the £1,081,000. As to where it was in the accounts, the two of them surmised that it must be in cost of sales ‘because that was the only cost heading big enough to accommodate it’. Mr Jones suspected that Mr Nicholls said that he should get a full explanation from Mr Musselle”.

We were taken through the transcripts of Mr Jones’ evidence in relation to these entries. It is not, I think, necessary to rehearse that evidence in this judgment. It is sufficient to say that the judge was plainly entitled to make the findings of fact which I have just set out.

The importance of the visit on 15 May 2001 is that, as a result of that visit and the discussion with Mr Nicholls, Mr Jones knew that what had been described as a fair value adjustment – in the amount of £1,081,000 – had probably been included as a credit against cost of sales in Bickerton’s profit and loss Account. And, if he knew that, he knew that gross margin was inflated by that amount.

The judge found that, following the visit to Spokes & Co on 15 May 2001, Mr Jones did obtain a full explanation of the £1,081,000 credit from Mr Musselle. The judge was entitled to make that finding – or, at the least, a finding that Mr Jones thought that the explanation which he had obtained was a full explanation - on the basis of the evidence (transcript, day 6, pages 66-67) which he set out at paragraph 67 of his judgment:

“Q The fair value adjustment was, in effect, a cash injection by the parent to the subsidiary.

A. In effect, yes, yes. I think a good description of it is a kind of reverse management charge. Sort of credit to the subsidiary.

Q And you appreciated that at the time.

A. I didn’t fully appreciate that until I got the full explanation from Chris Musselle.

Q But you knew that there was that item in the inter-company debtors.

A. I did, yes. As I say, it was just the full explanation of the rationale behind it that I was missing at that stage.”

It is plain from those answers (i) that Mr Jones did receive some explanation from Mr Musselle as to the £1,081,000 credit, (ii) that he, Mr Jones, thought that the explanation which he did receive was a full explanation – that is to say, that it was an explanation with which he could be satisfied – and (iii) that he understood that the ‘fair value adjustment’ was “in effect, a cash injection by the parent to the subsidiary”.

That left open two questions. First, when did Mr Jones receive the explanation from Mr Musselle to which he referred in those answers. Neither Mr Jones nor Mr Musselle could be specific as to when or in what circumstances they had spoken; but it was plain that they had spoken. The judge thought that they had spoken on the telephone – perhaps on more than one occasion – before exchange of contracts on 24 May 2001. In reaching that conclusion he referred to Mr Muselle’s comment, in his evidence, that he “could not believe that Mr Jones would have left the detailed explanation of the £1,081,000 to be ascertained after exchange of contracts, given that he had picked up the point at Stokes & Co some time before”. The judge described that comment as ‘convincing’. I agree. It seems to me that there is a very strong inference that Mr Jones satisfied himself that he had understood what had happened in respect of the £1,081,000 before his client committed itself to the purchase. That, after all, was the object of the due diligence exercise which his firm was engaged to carry out.

Second, what explanation did Mr Jones receive from Mr Musselle. The appellants make the powerful point that the best evidence of that is to be found in an addition to Mr Jones’s first draft due diligence report, at paragraph 9.3: “Cost of sales and gross profit”. The addition is in these terms:

“A provision of £1.081m was added to cost of sales in 2000, being a charge from Artisan in respect of fair value adjustments on its acquisition of the company. This was credited back by Artisan in 2001”.

Those two additional sentences suggest that the writer appreciated that there had been a credit of £1,081,000 against cost of sales in the 2001 profit and loss account but thought that this was to reverse a charge of the same amount in the 2000 accounts. And it could, perhaps, be what Mr Jones had in mind when, in the answers which the judge had set out in his judgment, he referred to the credit as “a kind of reverse management charge”.

Support for that view is found in a later passage in Mr Jones’s evidence (transcript, day 7, page 20), in which he was responding to questions put by the judge:

“Q. I am looking at the text of the short paragraph which you added . . . I think as I understand your evidence you believe that you in all probability added this paragraph after you had received an explanation from Mr Musselle.

A. That’s correct.

Q. There are two sentences. The first is a provision of 1081 was added to cost of sales in 2000, being a charge from Artisan in respect of fair value adjustments on its acquisition of the company. Can I just pause there? Putting out of my mind everything that I have learned over the last few days, I would have read that sentence as saying that in 2000 the costs which would be debit items in the profit and loss account had been increased by 1081.

A. Yes I believe the provision was made in the previous year, I believe, and it was effectively reversed.

Q. I have picked up the impression that there was no provision made in the separate accounts of Bickerton in the year 2000. I think the experts’ reports explain that it was a provision made solely in the consolidated accounts of Artisan.

A. Right. Well, it’s my understanding it wasn’t exactly the same thing. The provisions against contract losses were made in the individual company and they were also made at consolidation. Actually, I think they were made at consolidation level first.

Q. So your understanding of the explanation which Mr Musselle gave was that the 1081 million was some sort of neutralisation in year two of provisions which had previously been made in year one within the accounts of Bickerton itself.

A. Yes.

Q. My only comment is that that is not what I have understood hitherto, but we are probably getting into very deep waters here. Anyway, this was your understanding derived from the explanation which Mr Musselle gave to you.

A. Yes, in general terms, yes, it was my understanding that provisions had passed through Bickerton’s profit and loss account.

Q. In the previous year.

A. Yes.

Q. And those provisions were being in a sense reversed by . . .

A.

It wasn’t a direct reversal of those provisions but effectively it was a credit from the holding company in respect of those provisions.”

The judge did not refer to that evidence – and may not have had it mind - when he said this, at paragraph 69 of his judgment:

“It does appear that at some stage, probably a rather late one, a reference to the £1,081,000 was added to the draft uncompleted due diligence report. In a section describing the draft accounts of Bickerton to 31 March 2001 the first version of the draft report merely set out the figures in the accounts for sales and total costs. For total costs the figure was £18.441m. . . . In a later version . . . there was added the following: ‘A provision of £1.081m was added to cost of sales in 2000, being a charge from Artisan in respect of fair value adjustments on its acquisition of the company. This was credited back by Artisan in 2001.’ This is rather curious: it is a totally inaccurate account of the £1,081,000 adjustment made in the 2000/2001 accounts, yet I am quite satisfied from Mr Jones’s oral evidence that he did fully and accurately understand the nature of the adjustment. I cannot help wondering whether the passage was added, not by Mr Jones personally, but by one of his colleagues who had spoken to him and failed fully to grasp what he had explained – understandably so, since everyone agrees that the concept was difficult and unfamiliar. . . . I think I am right that Mr Jones had no recollection of having himself added the passage to the previous version of the draft report.”

It is said on behalf of the appellants that, in “wondering whether the passage was added . . . by one of [Mr Jones’s] colleagues” the judge was indulging in speculation. There was no evidence to support a finding to that effect and it was contrary to Mr Jones’s own belief. Further, that if Mr Jones did add the explanation to paragraph 9.3 of the draft due diligence report – an addition which the judge described as “a totally inaccurate account of the £1,081,000 adjustment made in the 2000/2001 accounts” - it is very difficult to see how the judge could have been satisfied that Mr Jones did “fully and accurately understand the nature of the adjustment”. There is, I think, force in both of those points. Indeed, it is clear that the judge, himself, recognised the force of the second; in that he sought to avoid confronting that point by the speculation that Mr Jones had not been the author of the additional sentences.

But, although it may be that the judge’s conclusion that Mr Jones did “fully and accurately understand the nature of the adjustment” cannot be supported, success on that point is not enough to carry the appellants home. The important finding is that in paragraph 117 of the judgment, which I have already set out:

“[Mr Jones] knew that, in so far as the accounts gave the impression that the normal trading profit of Bickerton had been £596,609, the impression was misleading and needed to be adjusted to remove the distorting effect of the way that the £1,081,000 had been treated.”

There was ample evidence to support that finding. Even if Mr Jones’s understanding of the underlying reason why £1,081,000 had been credited in the accounts of Bickerton 2001 was less complete than the judge thought, there can be no doubt that he did know that “the fair value adjustment was, in effect, a cash injection by the parent to the subsidiary” – as he had accepted in the earlier passage of his evidence to which the judge referred; and he knew that “the explanation was, to cut a long story short, to improve the balance sheet of Bickerton Construction Ltd” – (transcript, day 7, page 4).

Further confirmation that Mr Jones knew of the distorting effect of the treatment of the credit of £1,081,000 in Bickerton’s 2001 accounts is found in his acceptance that the description of the position in a news release, issued by Artisan at the time of the share sale agreement, came as no surprise to him. The release included the sentence:

“ In the year to March 2001, both Bickerton and Driver achieved operating profits of £862,000, including £1.34m non-recurring income.”

As the judge pointed out, at paragraph 71 of his judgment:

“Bickerton’s contribution to the £1.34m of non-recurring income was the £1,081,000. Mr Jones did not see the news release, but he said in evidence that, on the face of it, it appeared that there was not anything in the release which would have come as any surprise to him. The relevant point is that it would have been no surprise to him that, taking Bickerton and Driver together, there was in the year to 31 March 2001 an item of non-recurring income which exceeded the profits for the year.”

For those reasons I am not persuaded that this Court should overturn the judge’s finding of fact that Mr Jones knew that the Principal Accounts were misleading in so far as they gave the impression that the normal trading profit of Bickerton for the year ended 31 March 2001 had been £596,609. He knew that the profit and loss account required adjustment – by an increase of £1,081,000 in the item Cost of Sales and a corresponding reduction in the net operating profit from ordinary activities – so as to remove the distorting effect of the way that the exceptional item (£1,081,000) had been treated.

The judge went on to find – also at paragraph 68 of his judgment – that Mr Jones did not pass on the information which he had discovered as to the treatment of the exceptional item to Mr Aviss or to Mr Berry, on whom Mr Aviss relied as a trusted and valued adviser. That further finding – which has not been challenged by the respondents – gave rise to the question whether the Artisan companies could rely on Mr Jones’s knowledge as a defence to the warranty claim.

The judge held that they could; by reason of the words in parenthesis which had been included in clause 7.4 of the share sale agreement. It is convenient to set out, again, the part of that clause on which the judge relied:

“The rights and remedies of the Purchaser in respect of any breach of the Warranties shall not be affected … by any investigation made by it or on its behalf into the affairs of any Group Company (except to the extent that such investigation gives the Purchaser actual knowledge of the relevant facts and circumstances) . . .

The judge observed, at paragraph 116 of his judgment:

“It is true that in express terms that sub-clause only identifies something by which the purchaser’s rights and remedies will not be affected, but in my view by plain and inescapable implication it also indicates something by which the purchaser’s rights and remedies will be affected.”

So he reformulated the clause, and held that it was to be applied as if it included the words:

“. . . but the rights and remedies of the Purchaser in respect of any breach of the Warranties shall be affected by any investigation made by it or on its behalf into the affairs of any Group Company to the extent that such investigation does give the Purchaser actual knowledge of the relevant facts and circumstances.”

That, of course, required the judge to decide whether the Purchaser was to be treated as having actual knowledge of what Mr Jones knew as a result of his due diligence investigation. The judge held that it did. He said this, at paragraph 118 of his judgment:

“Where the purchaser chooses to act through an agent for any specific purpose of the acquisition, the actual knowledge of the agent, so far as it is knowledge within the aspect for the purpose of which the agent is acting, must be treated as the knowledge of the purchaser. The reference in the sub-clause to ‘actual knowledge’ prevents the purchaser being fixed with constructive knowledge of something which it or its agent ought to have known but somehow failed to know. It does not mean that the actual knowledge of the purchaser’s agent is not regarded as the knowledge of the purchaser itself.”

He found support for that proposition in the judgment of Sir Nicolas Browne-Wilkinson, Vice-Chancellor, in Strover v Harrington [1988] Ch 390.

The judge’s finding that Mr Jones knew that the Principal Accounts were misleading in so far as they gave the impression that the normal trading profit of Bickerton for the year ended 31 March 2001 had been £596,609, coupled with the effect which he gave to clause 7.4 and his view that, for the purposes of that clause, the actual knowledge of Mr Jones was to be treated as the actual knowledge of the Purchaser, led him to dismiss the warranty claims.

I shall need to return to the effect to be given to clause 7.4 of the share sale agreement and to the question of imputed knowledge in the context of that clause. But, before I do so, I should address the other reason which led the judge to dismiss the warranty claims. I can do so shortly.

The judge described his other reason for dismissing the warranty claims as “the no Principal Accounts answer”. He explained the point at paragraph 102 of his judgment:

“The point taken in this answer is that the warranties were given by reference to the ‘Principal Accounts’, but no Principal Accounts existed at the time when the warranties were given. The share sale agreement was entered into between the Artisan companies and Mea on 24 May 2001. By clause 7.1.8 the Artisan company warrant that the Warranties in Schedule 3 are true and accurate and ‘will continue’ to be true until completion. Schedule 3 paragraph 1.1.2 warrants that the Principal Accounts give a true and fair view, etc. ‘The Principal Accounts’ means the audited balance sheet and profit and loss account as at 31 March 2001. But on 24 May 2001 there were no audited accounts. There were draft accounts, but they had not been signed off by the auditors with an audit certificate. They were close to their final form, but they were still subject to the possibility of changes. In the event they were signed off with an audit certificate on 8 June 2001, and there had been some changes in the meantime (although not changes which affected the treatment of the £1,081,000).”

So, it was submitted and the judge accepted, the warranty given on 24 May 2001 that the Principal Accounts showed a true and fair view of Bickerton’s affairs was given on the basis that there were audited accounts for the year ended 31 March 2001 then in existence; in fact, there were no such accounts then in existence; and so there was nothing to which that warranty could relate. In particular, it was impossible to construe the warranty as given in respect of the draft accounts (which were then in existence) or in respect of the audited accounts (when they came into existence on 8 June 2001).

It seems to me that, in accepting that the “no Principal Accounts” point provided a short answer to the warranty claims, the judge may have overlooked the variation agreement of 14 June 2001. As I have said, by clause 6 of the variation agreement the parties confirmed the terms of the share sale agreement – subject, of course, to the variations which they had then made. The effect is that the warranties in the share sale agreement of 24 May 2001 have to be construed as if given – or renewed – on 14 June 2001. And, at that later date, there were Principal Accounts in existence.

It follows that I would hold that the judge was wrong to rely on the “no Principal Accounts” point as an answer to the warranty claims.

The claims in the action were more extensive than the warranty claims which I have addressed so far. They included a claim under clause 4 of the agreement (in respect of an alleged shortfall in the Net Asset Value) and claims for damages (alternatively rescission) for misrepresentation. The judge dismissed the misrepresentation claims and refused permission to appeal on the issues raised by those claims, which he had addressed at paragraphs 84 to 97 of his judgment. Permission to appeal in respect of the misrepresentation claims was granted on 21 June 2004 by this Court (Lord Justice Peter Gibson and Lord Justice Sedley). But the basis upon which the Court was persuaded to grant that permission was that Infiniteland had been induced to enter into the deed of 24 July 2004 by representations in Bickerton’s Principal Accounts; which (on the judge’s finding on the ‘No Principal Accounts Issue’) were not within the warranty claim. That basis falls away once (as I would hold) the judge’s finding on the ‘No Principal Accounts’ issue is reversed. In so far as it is said that the warranties themselves stand as representations, the answer to a claim based on misrepresentation (as distinct from breach of warranty) is provided by clause 7.7 of the share sale agreement, read with the deed of 24 July 2001, as the judge explained at paragraph 93 of his judgment. And, in any event, it is unnecessary to consider further the misrepresentation claim, in so far as it is based on the allegation that there was a breach of warranty if (as I would hold) there was no breach. The appeal from the judge’s finding (at paragraph 89 of his judgment) that no express representation was made to Mr Berry (or, through him, to Mr Aviss) as to the level of profits made by Bickerton and Driver Construction Limited was not pursued at the hearing before this Court. There is no evidential basis for a claim that Mr Aviss was induced to give his guarantee by misrepresentations in the Principal Accounts. His evidence was that he never saw the accounts. He relied upon what he was told by Mr Berry.

The claim under clause 4 of the share sale agreement was based on alleged overvaluation in the accounts of construction contracts which Bickerton was undertaking in May 2001. The judge dismissed that claim, not (as he made clear at paragraph 10 of his judgment) because he reached the conclusion that the contracts had not been overvalued (he thought that they had been overvalued by about £300,000 – paragraph 191 of his judgment), but because Infiniteland had failed to invoke the net asset value adjustment procedure in accordance with its terms. It is convenient to address that point – which is the subject of appeal – before returning to the warranty claims.

The contracts valuation issue (as the judge described it) turned on the provisions of clause 4 of the share sale agreement, as varied by the variation agreement. I have already set out clauses 4.1. Read with clause 4.2 it provided, in principle, for the adjustment of the purchase consideration payable under the share sale agreement; or, at the least the adjustment of so much of that consideration as was based on the aggregation of the values of the net assets of three Group Companies as they appeared from the balance sheets as at 31 March 2001. For that purpose it was necessary to determine the Net Asset Value – that is to say, the aggregate value of net assets as at 31 May 2001. Clauses 4.3 and 4.4 provided the means by which that was to be done. Those clauses were in these terms, so far as material:

“4.3

The Purchaser shall prepare a calculation of Net Asset Value before 1^st September 2001, and shall submit a copy of its calculation to the Vendor. The Purchaser shall allow the Vendor or its duly appointed representatives full access . . . to all books and records of the Group Companies and to the senior managers of the Group Companies, to enable the Vendor to verify the Purchaser’s calculation of the Net Asset Value.

4.4

If the parties are unable to reach agreement on the Net Asset Value within 56 days of delivery of the Purchaser’s calculation under clause 4.3 an independent accountant (who shall be a chartered accountant, and an experienced auditor of building contracting companies) shall be appointed . . . to certify in writing the sum that in his opinion represents the Net Asset Value. . . . The certificate of the Nominated Accountant (who shall act as an expert and not as an arbitrator) shall be binding on both parties.”

The clauses are to be read with clause 10.6:

“10.6

Time shall be of the essence of this agreement, both as regards the dates and periods specifically mentioned and as to any dates and periods which may be substituted by agreement . . .”

Clauses 4.3 and 4.4 provide for five steps: (i) the Purchaser (who, following completion, is in possession of the necessary information) is to prepare its calculation of the Net Asset Value, (ii) the Purchaser is to submit its calculation to the Vendor, (iii) the Vendor is to be given access to the information on which the Purchaser’s calculation is based, so as to enable it to verify that calculation, (iv) if the parties do not agree, the determination of Net Asset is to be referred to an independent expert and (v) the certificate of the expert as to Net Asset Value is to be binding on both Vendor and Purchaser. But the process is to be initiated by the Purchaser, who must take the first step by 1 September 2001. And, it should be noted, that is an obligation (unless the Vendor agrees otherwise), not an option; for the process may lead to an adjustment up as well as down. Once initiated, the process is intended to lead to the appointment of an expert (if necessary) within 56 days thereafter. So, if there is to be an adjustment to the purchase consideration, that – and the amount of the adjustment – should be known within, say, six months of completion.

In the present case the Purchaser did not initiate the process for which the share sale agreement provided. The first indication that there would be a claim to adjustment of the purchase consideration was in the letter before action of 11 June 2002, to which I have already referred. And that letter did not seek to invoke the clause 4 machinery.

The judge thought that the Purchaser’s failure to initiate and carry though the clause 4 machinery, timeously or at all, was fatal to its claim for price adjustment. He said this, at paragraphs 149 and 157 of his judgment:

“149

Artisan’s argument on this aspect of the case is that Infiniteland cannot now in the present High Court proceedings claim a price adjustment under clause 4.1 of the share sale agreement, because the clause laid down its own procedure for the determination of Net Asset Value and for the determination of disputes about it. Infiniteland has failed to follow that procedure, and in the particular circumstances it cannot now raise before me in the High Court the issues which it should have raised in the manner provided for by the clause. I agree with Artisan.

. . .

157.

. . . I agree . . . that, because of Infiniteland’s failure (for which it has to take the responsibility itself) to operate the machinery for a price adjustment under clause 4, it cannot now successfully claim in this court that it is entitled to have such an adjustment made in its favour. ”

The judge reached that conclusion for the reasons which he had set out at paragraphs 150 to 154 of his judgment. Put shortly, he rejected the submission, advanced on behalf of Infiniteland, that the present case fell within the class of cases, recognised by the House of Lords in Sudbrook Trading Estate Ltd v Eggleton [1983] 1 AC 444, in which – if non-essential contractual machinery for fixing a price had broken down - the court could substitute its own machinery and direct an inquiry. He took the view that the machinery for which clauses 4.3 and 4.4 was an essential element in the bargain which the parties had made. He relied on the decision of this Court in Gillatt v Sky Television Ltd [2000] 2 BCLC 103. At paragraph 153 of his judgment he said this:

“The present case is in my opinion even clearer than Gillatt v Sky. Accounting for the long term contracts of construction companies like Bickerton is a particularly specialised exercise and skill. The parties to the share sale agreement expressly recognised as much by providing that any dispute about the Net Asset Value was to be certified by a chartered accountant who was ‘an experienced auditor of building construction companies’. The valuer under the machinery which the share sale agreement prescribed was to have particular characteristics which, in my view, meant that it was even less suitable for him to be replaced by a judge of the ordinary civil courts than was so in the case of the independent chartered accountant provided for in Gillatt v Sky. . . .”

And, at paragraph 154, he went on to observe that:

“Another point which Mummery LJ made in Gillatt v Sky was that it was not a case to which Lord Fraser’s concept (in Sudbrook v Eggleton) of the machinery having ‘broken down’ could be applied. Mummery LJ said: ‘There is no question in this case of the ‘breakdown’ of machinery for the determination of value … . [I]t is a case of a failure by the party claiming payment to take the necessary contractual steps to ascertain entitlement to payment.’ In my opinion exactly the same is true in this case.”

In my view the judge was right to reach the conclusion which he did on the contracts valuation issue. In this Court the appellants sought to distinguish the decision in Gillatt v Sky Television on the ground that, in that case – where the sum to be paid was a percentage of ‘the open market value’ of certain shares – the contract provided no guide as to the criteria by reference to which that value was to be ascertained. Its determination was left to be certified by an independent chartered accountant. As Lord Justice Mummery observed ([2000] 2 BCLC 103, 112 f-g):

“I recognise that the concept of open market value is objective in the sense that expert valuers called by the parties would be able to offer to the court reasoned opinions on the value of the TAS shares. The real difficulty for the experts and the court, however, would be that the TAS agreement does not contain any definition of ‘open market value’ or any indication of the basis on which it is to be ascertained, otherwise than by reference to the opinion of the independent accountant. . . . The fact is that in this case the parties expressly recognised that such a valuation is pre-eminently a matter of judgment for the independent accountant entrusted with the task by the parties.”

By contrast, it is said, the objective criteria to determine Net Asset Value are fully set out in clause 4.2 of the share sale agreement. The provisions of clauses 4.3 and 4.4 should be regarded as no more than inessential machinery for determining what the price adjustment should be. The case falls within the class recognised by the House of Lords in Sudbrook v Eggleton.

For my part, I would accept that, if this were truly a case in which the machinery for the determination of Net Asset Value had broken down – if, for example, no chartered accountant who was an experienced auditor of building contracting companies could be found who was willing to accept appointment – there would be force in appellants’ submission that the court could and should substitute its own machinery. There would be force in the submission that the definition of Net Asset Value – and, in particular the requirement that it be calculated “consistently with and on the same bases and accounting policies as were applied in the Principal Accounts” - coupled with the provisions in clause 4.2 as to matters which are to be excluded, and matters which are to be included in making the calculation made the provisions in clauses 4.3 and 4.4 inessential machinery. And I would be reluctant to accept the conclusion to which the judge’s analysis leads: that a claim by the Vendor to an upward adjustment in the purchase consideration – based upon an increase in the Net Asset Value over the contract figure (£402,948) - could be defeated by the Purchaser’s failure to initiate the adjustment process by failing to perform its obligations under clause 4.3.

But, as the judge pointed out, this was not a case in which the contractual machinery could fairly be said to have broken down. It was a case in which the party claiming payment had failed to take the steps which it was required to take under the contract in order to establish its entitlement to payment of an increased purchase consideration. As Lord Justice Mummery observed, in Gillatt v Sky (ibid, 113c-d)

“There is . . . no question of the court becoming entitled in these circumstances to substitute something different (ie its own opinion on open market value) in place of what was contractually agreed between the parties (ie the opinion of the accountant) for the determination of Mr Gillatt’s entitlement, but which Mr Gillatt has simply disregarded.”

In that context it is important to keep in mind that, in Sudbrook v Eggleton, it was the party who was resisting performance of the contract (the landlord) who had caused the contractual machinery to break down by refusing to appoint a valuer. Lord Diplock explained, (ibid,479C-D):

“. . . the only thing that has prevented the machinery provided by the option clause for ascertaining a fair and reasonable price from operating is the lessors’ own breach of contract in refusing to appoint their valuer. So if the synallagmatic contract created by the exercise of the option were allowed to be treated by the lessors as frustrated the frustration would be self-induced, a circumstance which English law does not allow a party to a contract to rely on to his own advantage.”

It is, I think, clear that, had it been the landlord who was seeking to enforce the option against the tenant – relying on his own failure to operate the contractual machinery in order to impose on the tenant a valuation process to which the tenant had not agreed – the claim would have failed. And, in my view, a court should keep that in mind when invited to apply the general principle formulated by Lord Fraser of Tullybelton, on which the appellant places such reliance in the present case. When Lord Fraser said (ibid, 484C) that:

“In the present case the machinery provided for in the clause has broken down because the respondents have declined to appoint their valuer. In that sense the breakdown has been caused by their fault, in failing to implement an implied obligation to co-operate in making the machinery work. The case might be distinguishable in that respect from cases where the breakdown had occurred for some reason outside the control of either party, such as the death of the umpire, or his failure to complete his valuation by a specified date. But I do not rely on any such distinction. I prefer to rest my decision on the general principle that, where the machinery is not essential, if it breaks down for any reason the court will substitute its own machinery.”

he was not addressing – and cannot be taken to have had in mind - a case in which the party seeking to enforce the contract with the assistance of the court has, himself, chosen not to invoke the contractual machinery.

I can see no reason, in principle, why a party, say ‘A’, who chooses not to allow the contractual machinery to operate should be able to ask the court, nevertheless, to enforce the contract against the other party, say ‘B’. It is no answer, in such a case, to say that the machinery is non-essential. It is the machinery upon which the parties agreed when they made their bargain. A cannot be heard to insist on the agreed machinery – as a defence to a claim made against him - if it is he who has not allowed it to operate. But, equally, as it seems to me, in such a case A cannot insist on imposing on B other machinery to which B has never agreed. B is not to be denied the benefit of the machinery to which he has agreed – in resisting a claim made against him – by A’s unilateral refusal to allow that machinery to operate.

For those reasons I would dismiss the appeal on the contracts valuation issue.

I return, therefore, to what may be seen as the most substantial issue on this appeal: whether the judge was right to hold that his finding that Mr Jones knew that the Principal Accounts were misleading in so far as they gave the impression that the normal trading profit of Bickerton for the year ended 31 March 2001 had been £596,609 provided an answer to the warranty claims.

The judge reached that conclusion on the basis of (i) the effect that he held should be given to clause 7.4 of the share sale agreement and (ii) his view that, for the purposes of that clause, the actual knowledge of Mr Jones was to be treated as the actual knowledge of the Purchaser. But, before considering what effect should be given to clause 7.4, there is, of course, a prior question.

Clause 7.4 is, in substance, a saving provision for the benefit of the Purchaser:

“The rights and remedies of the Purchaser in respect of any breach of the Warranties shall not be affected by Completion, by any investigation made by it or on its behalf into the affairs of any Group Company (. . . . . . .) by its rescinding or failing to rescind this agreement, or failing to exercise or delaying the exercise of any right or remedy, or by any other event or matter . . .”

The prior question is whether, independently of clause 7.4 – and, in particular, whether independently of the words which appear in parenthesis in that clause “. . . (except to the extent that such investigation gives the Purchaser actual knowledge of the relevant facts or circumstances) . . .” which I have omitted from the text as it is set out above – there has been a breach of warranty on which the Purchaser could otherwise rely.

The warranty on which the Purchaser relies in the present case is that contained in paragraph 1.1.2 of schedule 3 to the agreement –– “The Principal Accounts give a true and fair view of . . . [Bickerton’s] profits for the financial year ended on [the Last Accounts date].” But that warranty is subject to the qualification in clause 7.1.8 – “. . . save as set out in the Disclosure Letter the Warranties in Schedule 3 are true and accurate in all respects .. . .” . And the Disclosure Letter was written on the basis that, as was the case, in advance of that letter there had been an investigation into the affairs of Bickerton made on behalf of the Purchaser by its reporting accountants, Pridie Brewster. The Disclosure Letter sought to make general disclosure of “all matters from the documents and written information supplied” to Pridie Brewster; of “all matters contained or referred to in” six green lever arch files (including ‘board meeting packs’ in respect of Bickerton); and of “all matters contained or referred to in the documents contained in the Disclosure Bundle”. And it made specific disclosure in relation to the treatment of operating profits in Bickerton’s accounts – by reference to paragraphs 1.1.2 and 3.1.1 in schedule 3 to the agreement. The first question, therefore, is whether – in the light of the disclosure that was made in the Disclosure Letter - there was a breach of the warranty contained in paragraph 1.1.2 in schedule 3.

The judge held that there was. He addressed the question at paragraphs 110 to 112 of his judgment, in a section headed: “The disclosure answer”. At paragraph 111 he said this:

“. . . if what would otherwise be a breach of warranty is to be prevented from being such because of something said in the Disclosure Letter, the disclosure in the letter must be full, clear and accurate.”

He took that view by reading into clause 7.1.8 the words of clause 7.1.9. And he found support in the observations of Lord Penrose in New Hearts Ltd v Cosmopolitan Investments Ltd [1997] 2 BCLC 249 at 258-9:

“Mere reference to a source of information, which is in itself a complex document, within which the diligent enquirer might find relevant information will not satisfy the requirements of a clause providing for fair disclosure with sufficient details to identify the nature and scope of the matter disclosed.”

The judge went on, at paragraph 112 of his judgment, to address the specific disclosure made in the Disclosure Letter in relation to paragraphs 1.1.2 and 3.1.1 of schedule 3 to the agreement. He pointed out that the disclosure in relation to paragraph 1.1.2

“. . . did not succeed in accurately disclosing the £1,081,000: that amount was not a reversal of an earlier management charge paid by Bickerton to ACL. . . . [A]lthough paragraph 1.1.2 of the Disclosure Letter had been intended to be a disclosure of the £1,081,000 adjustment, it did not succeed in being one. . . .”

And, in relation to paragraph 3.1.1, he said this:

“. . . it cannot possibly be said that the paragraph, which was in any event not expressed as a disclosure relating to the warranty in paragraph 1.1.2 of Schedule 3, was appropriate to make the full, accurate and clear disclosure of the £1,081,000 adjustment which would be needed if it was in itself to provide an answer to the assertion by Infiniteland that the accounts were in breach of warranty.”

The judge rejected the submission that the general disclosure made in the Disclosure Letter by reference to documents and written information supplied was sufficient. He said:

“The disclosures made in that way were not in my view sufficiently full, accurate and clear, and they would not match up to the standard expressed or implied by Lord Penrose in the passages from his judgment in the New Hearts case, which I quoted above.”

And so he concluded that the Disclosure Letter did not make “adequate disclosure of the £1,081,000 and of the respects in which, by reason of the £1,081,000, the profit and loss account did not give a true and fair view of Bickerton’s profit for the year to 31 March 2001”.

The judge’s finding that the Disclosure Letter itself, read with the documents to which it refers and which it sought to incorporate, did not make adequate disclosure of the respects in which Bickerton’s profit and loss account did not give a true and fair view of its operating profit from ordinary activities for the year to 31 March 2001 is challenged by a respondents’ notice. In my view that challenge is entitled to succeed.

The judge placed much weight on the observations of Lord Penrose in the New Hearts case. It is important, therefore, to have in mind that the warranties which were under consideration in that case were given “subject to matters fairly disclosed (with sufficient details to identify the nature and scope of the matter disclosed) in the Disclosure Letter” – clause 7.7. of the share sale agreement in that case, noted at [1997] 2 BCLC 249, 258d-e. So, when Lord Penrose held that “Mere reference to a source of information . . . will not satisfy the requirements of a clause providing for fair disclosure with sufficient details to identify the nature and scope of the matter disclosed.” he must be taken to have had in mind the particular requirement of clause 7.7 the agreement with which he was concerned. There is no comparable requirement in clause 7.1.8 of the share sale agreement in the present case. Mr Justice Park reached the conclusion that he did by reading into the qualification “save as set out in the Disclosure Letter” in clause 7.1.8 the separate (and distinct) warranty in clause 7.1.9. But the warranty in clause 7.1.9 is that “the contents of the Disclosure Letter and of all accompanying documents . . . fully, clearly and accurately disclose every matter to which they relate”. Further, “the accompanying documents” in that context refers, at the least, to the Disclosure Bundle; and the Disclosure Letter itself is deemed to incorporate all matters contained in documents supplied to the reporting accountants. There is nothing in the report of the decision in the New Hearts case to suggest any parallel, in that case, with those important features of the present case. The adequacy of the disclosure in the present case must be measured against the requirements of the share sale agreement into which these parties have entered; not against the requirements of a different agreement in another case.

As I have said the Disclosure Letter was written in the context that documents and other written material had been supplied to reporting accountants engaged by the Purchaser to carry out a due diligence exercise in advance of the proposed purchase. It would have been open to the Purchaser to refuse to accept disclosure made in general terms by reference to what had been supplied to its reporting accountants; and to insist that it would only accept disclosure which was specific to each individual warranty. But the Purchaser did not choose to take that course. It was content to rely on its reporting accountants to identify from the documents supplied to them – and to report on – the matters about which it needed to be informed. That is the effect of the terms in which disclosure was made under the Disclosure Letter; and, for whatever reason, those were the terms upon which the Purchaser was content to accept disclosure. In those circumstances, as it seems to me, the disclosure requirement was satisfied in relation to such matters as might fairly be expected to come to the knowledge of the reporting accountants from an examination (in the ordinary course of carrying out the due diligence exercise for which they were engaged) of the documents and written information supplied to them (including board meeting packs and the contents of the Disclosure Bundle).

We were taken through the documents supplied to Pridie Brewster in some detail. They are to be found in the document described as “Defendant’s Closing Argument” prepared for use at the trial. It is not necessary to set them out in this judgment. It is sufficient to say that there was ample material in those documents to satisfy the test which I have just posed. It could fairly be expected that reporting accountants would become aware, from an examination of those documents in the ordinary course of carrying out a due diligence exercise, that an exceptional item in the amount of £1,081,000 had been taken as a credit against cost of sales; and that the effect of that was to overstate the amount of operating profits from ordinary activities by that amount. Knowing that, an accountant would know that Bickerton had not made an operating profit of some £600,000 in the year ended 31 March 2001; it had made an operating loss of £1/2 million or thereabouts. He would know that the profit and loss account included in the Principal Accounts did not show a true and fair view of Bickerton’s affairs in that respect. He would be confirmed in that view by the specific disclosure made under paragraphs 1.1.2 and 3.1.1. As I have said, those paragraphs, read together, make it clear that, notwithstanding the apparent operating profit shown in Bickerton’s profit and loss account, no tax was payable; and that the reason for that conclusion was that the apparent operating profit was the result of crediting management charges.

The test which, as it seems to me, must be satisfied - could it fairly be expected that reporting accountants would become aware, from an examination of the documents in the ordinary course of carrying out a due diligence exercise, that an exceptional item in the amount of £1,081,000 had been taken as a credit against cost of sales and that the effect of that was to overstate the amount of operating profits from ordinary activities by that amount – is an objective test. In applying that test the actual knowledge of Mr Jones is, strictly, immaterial. But the fact that he, as a chartered accountant carrying out a due diligence exercise on the basis of the documents supplied to him, did become aware that the amount of the operating profits shown in Bickerton’s profit and loss account was overstated by the amount of the exceptional item – as he accepted in the course of his evidence – provides a useful check that the objective test was indeed satisfied in the present case.

I should add that, as I read his judgment, the judge is not to be taken to have held that the test – in the terms in which I think it should be posed – was not satisfied. He, I think, was judging disclosure against the test which he derived from Lord Penrose’s observations in the New Hearts case. He asked himself whether the disclosure was sufficiently full, accurate and clear to enable the Purchaser to have a complete understanding of the circumstances in which the £1,081,000 was credited to Bickerton. I would not disagree with the answer which he gave to that question. But, as I have said, I do not think it was the correct question in the circumstances of this case.

It follows that I would dismiss the appeal in relation to the warranty claims on the basis advanced in the respondents’ notice. The warranty given in paragraph 1.1.2 of schedule 3 to the share sale agreement was qualified by the disclosure made in the Disclosure Letter, read with the Disclosure Bundle and the accompanying documents. There was no breach of the warranty as so qualified.

If (as I would hold) the effect of the disclosure made in the Disclosure Letter was to qualify the warranty as to Bickerton’s profit and loss account by identifying the overstatement of operating profits from ordinary activities, then clause 7.4 of the share sale agreement has no application. There was no breach of the warranty, as qualified; and so there was no right or remedy (in respect of the alleged breach) which could be affected (or not affected) by the matters described in clause 7.4. Nevertheless, for completeness and in deference to the arguments addressed to us, I will address the point made by the appellants – that ‘actual knowledge’ in the context of that clause does not include the knowledge of Mr Jones.

As I have said, clause 7.4 of the share sale agreement is, in substance, a saving provision for the benefit of the Purchaser. It would be surprising, therefore, if the effect of the words in parenthesis – “(except to the extent that such investigation gives the Purchaser actual knowledge of the relevant facts or circumstances)” – was to impose a liability on the Vendor to which, in the absence of clause 7.4, the Vendor would not be subject. In my view the words do not have that effect. Their object is to qualify the saving provision which precedes them. The premise underlying clause 7.4 is that, but for the saving provision, the rights and remedies of the Purchaser in respect of any breach of warranty would or might be affected by knowledge acquired in the course of an investigation by it or on its behalf into the affairs of a Group Company. But, in relation to the warranties in schedule 3, that premise must be understood in the context of clause 7.1.8. There is no breach of warranty where a matter has been disclosed in the Disclosure Letter. So, on further analysis, it can be seen that the premise underlying clause 7.4 is that, but for the saving provision, the rights and remedies of the Purchaser would or might be affected by knowledge (other than knowledge of matters disclosed in the Disclosure Letter) acquired in the course of an investigation by it or on its behalf into the affairs of a Group Company. Knowledge of matters disclosed in the Disclosure Letter is outside the reach of clause 7.4; the saving provision cannot have been intended to apply to knowledge of that character; and the parenthetical qualification to the saving provision is not directed to knowledge of disclosed matters.

To read into clause 7.4 – as the judge did – the additional words:

“. . . but the rights and remedies of the Purchaser in respect of any breach of the Warranties shall be affected by any investigation made by it or on its behalf into the affairs of any Group Company to the extent that such investigation does give the Purchaser actual knowledge of the relevant facts and circumstances.”

is, as it seems to me, to risk giving clause 7.4 an effect which it was not intended to have. The “actual knowledge” to which the words in parenthesis refer is knowledge which does not arise from disclosure but which would or might (if the saving provision had been included without the words in parenthesis) have had the effect of limiting (or of otherwise providing an answer to) a claim or remedy for breach of warranty.

The problem to which the relevant saving provision in clause 7.4 is directed is illustrated by the interlocutory appeal to this Court in Eurocopy plc v Teesdale and others [1992] BCLC 1067. The comparable clause in the agreement under consideration in that case (clause 3.3, noted ibid at 1069e) was in these terms:

“The Warranties are given subject to matters set out in the Disclosure Letter in accordance with clause 4 below but no other information of which the Purchaser has knowledge (actual constructive or imputed) shall preclude any claim made by the Purchaser for breach of any of the Warranties or reduce any amount recoverable.”

The pleaded allegation was that the defendants (the sellers) had failed to disclose material facts (in addition to facts which were disclosed in the disclosure letter). The defence was that (whether or not the facts were material) the plaintiff (the purchaser) had actual knowledge of them. The plaintiff countered by relying on clause 3.3 of the agreement.

The issue before this Court in Eurocopy v Teesdale (so far as material in the present context) was whether, having regard to clause 3.3, the defendants should be allowed to maintain a defence that, because the plaintiff had actual knowledge of the matters of which it complained, it could not be heard to say that it had paid too much for the shares. The Court declined to strike out that defence. Lord Justice Nourse said this (ibid, 1073a-b):

“That is certainly an argument – it may be a strong one – which will enable the plaintiff to contend at trial that whatever view a valuer might take as to the relevance of the purchaser’s knowledge of material circumstances in making his bid, the defendants are nevertheless precluded from relying on that matter by the terms of the contract. However I am far from satisfied that that point is so plainly and obviously against them that the defendants should be prevented from taking it at this stage.”

A clause in the form – or substantially in the form - of that which was before this Court in Eurocopy v Teesdale is found in the leading precedent book – see The Encyclopaedia of Forms and Precedents (Fifth Edition, editor Sir Peter Millett), volume 4(2) (1996 Re-issue) Form 25, clause 19.4, and Form 26, clause 16.4, and volume 11 (1992) Form 4, clause 9.7. In the earlier volume (volume 11, 1992) the reference is to “actual implied or constructive notice”; in the later volume (volume 4(2), 1996 Re-issue) the reference is, more simply, to “knowledge (actual or constructive)”.

One effect of clause 7.4 in the share sale agreement now before us is to put beyond argument the point raised on the strike out application in Eurocopy v Teesdale. Whatever else, the Purchaser cannot rely on the relevant saving provision in clause 7.4 if it had actual knowledge of the matter on which it seeks to base a warranty claim. That does not, of course, mean that the warranty claim would necessarily fail; only that the Purchaser cannot rely on the saving provision to counter a defence based on actual knowledge.

It is also possible to say with confidence that constructive knowledge would not prevent the Purchaser from relying on the relevant saving provision in clause 7.4. It is plain that ‘actual knowledge’ is used in contra-distinction to ‘constructive knowledge’. The more difficult question is whether, in the context of clause 7.4, ‘actual knowledge’ includes or excludes ‘imputed knowledge’ – that is to say, knowledge which the Purchaser does not actually have, but which is to be imputed to it because it is, say, the actual knowledge of its agent. I can see much force in the judge’s view that actual knowledge, in the context of “any investigation made by [the Purchaser] or on its behalf” does include the actual knowledge of the reporting accountant who is engaged to carry out the investigation – notwithstanding that the accountant does not pass on his knowledge to the Purchaser. But, on balance, I am persuaded that that view is not correct. It seems to me that the distinction between ‘actual’ and ‘imputed’ knowledge in this field is so well known – see the analysis in the judgment of Lord Justice Hoffmann in El Ajou v Dollar Land Holdings plc and another [1994] 2 All ER 685, 701h-705a – that, had the parties intended to include ‘imputed knowledge’ in the qualification by which they cut down the scope of the relevant saving provision, they would have said so. To my mind, the court should be slow, when construing a qualification which restricts a saving provision which has been introduced for the benefit of one of them, to give that qualification a larger meaning than its language necessarily requires.

It follows that, if it were necessary to decide the point (which it is not) I would hold that the judge was wrong to give to clause 7.4 of the share sale agreement the effect that he did.

For the reasons which I have set out, which differ in some respects from those which attracted the judge, I would dismiss this appeal.

I agree that the appeal should be dismissed for the reasons given by Chadwick LJ. I would add two comments.

I was initially attracted by the judge’s interpretation of the disclosure requirements under clauses 7.1.8 and 7.1.9. I share his view that Lord Penrose’s judgment, in the New Hearts case ([1972] 2 BCLC 249), provides welcome support for a realistic approach to the interpretation of such clauses, which is not necessarily confined to the particular wording under review in that case. However, in the end I am persuaded by Chadwick LJ’s detailed analysis of the two clauses that the judge’s interpretation is not open to us on the wording of this particular contract.

I also agree with Chadwick LJ’s view of clause 7.4. In simple terms, as I understand conventional legal usage, “actual knowledge” connotes a person’s own knowledge; as distinct from knowledge which the law attributes to him, either because he ought to have it (“constructive knowledge”), or because it is knowledge of his agent (“imputed knowledge”). The distinctions are well-established (see e.g. the judgments in Al Ajou v Dollar Land Holdings [1994] 2 All ER 685), even if the precise boundaries and demarcation lines may sometimes become blurred, particularly in the difficult area of corporate knowledge. (The Law Commission has discussed this subject in Part III of its Final Report of Limitation of Actions, Law Com 270.)

In my view, it is important in the interests of legal certainty that such established distinctions should be respected, both by those drafting contracts, and by the courts in their interpretation. In the context of a professionally drawn legal document such as this, the court should start from a strong presumption that such expressions are used in their ordinary legal meanings. With respect to Pill LJ, who takes a different view, I do not think the present context provides sufficient reason to displace the primary meaning of the expression “actual knowledge”.

I agree with Chadwick LJ on all points save the construction of clause 7.4. I also agree that on Chadwick LJ’s earlier findings, clause 7.4 of the share sale agreement has no application. Moreover, as he states at paragraph 76 of the judgment, knowledge of matters disclosed in the Disclosure Letter is outside the reach of clause 7.4 and the parenthetical qualification to the saving provision in that clause is not directed to knowledge of disclosed matters.

Clause 7.4 provides:

“The rights and remedies of the Purchaser in respect of any breach of the Warranties shall not be affected by Completion, by any investigation made by it or on its behalf into the affairs of any Group Company (except to the extent that such investigation gives the Purchaser actual knowledge of the relevant facts or circumstances) by its rescinding or failing to rescind this agreement, or failing to exercise or delaying the exercise of any right or remedy, or by any other event or matter … ”

As Chadwick LJ states at paragraph 82, it is plain that “actual knowledge” is used in the clause in contra-distinction to “constructive knowledge”. The issue is whether the knowledge of the accountant engaged by the purchaser to conduct the investigation into the affairs of the company contemplated by the clause is to be treated as the actual knowledge of the purchaser.

The question whether the knowledge of an agent is to be imputed to the principal may arise in a wide variety of situations, as explained by Hoffmann LJ in El Ajou v Dollar Land Holdings plc & Anr [1994] 2 All ER 685, 702 to 705. The present situation is different from any of those considered by Hoffmann LJ in that passage. Unlike the situation in Re David Payne & Co. Ltd, Young v David Payne & Co.Ltd [1904] 2 Ch 608, there was a contractual duty on the accountant to disclose relevant information to the purchaser and the accountant had no separate interest of his own. (See also Nourse LJ at p698h.) The investigation in the present case was an investigation contemplated by the parties and was conducted on behalf of the purchaser.

Hoffmann LJ stated, at page 702j, that “there may be something about a transaction by which the principal is ‘put on enquiry’. If the principal employs an agent to discharge such a duty, the knowledge of the agent will be imputed”. In the present case, there was no duty to enquire but the principal took the opportunity provided by the clause to investigate and instructed an accountant to conduct the investigation. In that context, knowledge conveyed to the accountant appears to me to amount to actual knowledge in the purchaser within the meaning of the clause. The addition of the word “imputed” after “actual” would have led only to the same debate as to whether, in context, the knowledge of the accountant was to be imputed to the purchaser.

What, in my judgment, is significant is the unlikelihood of the parties intending that the consequences of the accountant failing in his contractual duty to the purchaser should rest with the vendor. In this contractual context, the vendor was, in my view, entitled to assume that information given to the accountant was information given to the purchaser. To adopt the language of Hoffmann LJ in El Ajou when considering possible situations which may arise, communication to the agent was to be treated as communication to the principal. Strover v Harrington [1988] Ch 390, cited by Park J, is an example of a situation in which knowledge of the agent, a solicitor in a conveyancing transaction, was imputed to the principal (Sir Nicholas Browne-Wilkinson V-C at 409H to 410B).

Save that I agree with Park J on that issue, I agree with each of the conclusions of Chadwick LJ and for the reasons he gives. I agree that the appeal should be dismissed.