David Freud Ltd & Anor v Vickbar Ltd

This is an appeal by David Freud Ltd (DFL) and Freud Lemos Ltd (FLL), the defendants in the action, from an order made by HHJ Cowell on 10 June 2005 in the Central London County Court in an action brought by Vickbar Ltd (“VL”). In the action, VL seeks to enforce a term of a schedule to a Tomlin order made on 29 October 2003 on a petition presented by VL against DFL and FLL under section 459 of the Companies Act 1985 relating to the affairs of FLL (the shares in FLL being held as to 50 per cent by VL and as to the remaining 50 per cent by DFL).

The Tomlin order was in the usual form, the schedule to it setting out the terms on which the proceedings were compromised. The schedule provided (by clause 1) for DFL to buy out VL for £1.1625M, and (by clause 2) for DFL to pay VL £100,000 on account of its costs. Payment of those sums was to be made by midday on 21 November 2003 and on such payment VL was to execute transfers of its shares (clause 3). In the event, completion of those arrangements took place on 5 December 2003.

The clause which has given rise to the present dispute is clause 4 of the schedule, which is in the following terms (VL being defined in the schedule as “P”, for petitioner):

The parties are at odds as to the true construction of that clause. On the construction advanced by VL, the amount payable under the clause is in excess of £21,000; on the construction advanced by DFL and FLL, nothing at all is payable.

After a four-day hearing on the issue of construction only, Judge Cowell held in favour of VL. By his order (the order under appeal) he declared a sum of £21,945.71 to be payable to VL pursuant to the clause and ordered payment of that sum.

Permission to appeal was granted by Jacob LJ on the papers on 17 October 2005. He expressed himself as granting permission “with considerable reluctance, for this is a dispute which ought to be resolved by agreement”.

The factual background is, in summary, as follows.

FLL was established in 1982 as a joint venture company by George Lemos and David Freud. FLL and its subsidiaries carried on business in the financial services sector. The shareholdings in FLL were split 50/50 between Mr Freud and Mr Lemos, but each held his shares through the medium of a company which he controlled. Thus Mr Freud’s shares were held initially by a company called Notbard Ltd, and Mr Lemos’ shares were held by VL. In 1986 Mr Freud’s shares were transferred from Notbard Ltd to DFL, which he also controls.

Initially neither of the two protagonists had a contract of employment with FLL: they drew their remuneration in the form of management fees paid by FLL to their respective companies. However, from February 1987 onwards Mr Freud was employed directly by FLL, which paid him a salary. Mr Lemos, on the other hand, continued to draw his remuneration in the form of management fees paid to VL.

Invoices were rendered periodically by VL to FLL in respect of management fees (plus VAT). The invoices were in differing amounts, and it was not clear on the face of the invoices to what period they related. In the course of argument, Mr Marc Dight (for DFL and FLL) submitted that, for a reason which I shall explain later, it is to be inferred that invoices were rendered by VL wholly or partly in advance rather than arrears. In my judgment, however, the contrary inference is to be drawn. Had the invoices been rendered wholly or partly in advance of the provision by VL of the management services to which they related, FLL’s accounts should have reflected that. As it is, the accounts of FLL for the financial year ending on 31 July 2001 (which were the last accounts to be agreed by Mr Freud and Mr Lemos) treat the full amount of the invoices rendered during that year as attributable to management services rendered during that year. I return to this point later in this judgment.

In due course disputes arose between Mr Freud and Mr Lemos which led to the presentation of the section 459 petition by VL on 28 March 2002. The pleadings in the section 459 proceedings (which were typically wide-ranging) raised a number of disputes between the parties, including a dispute as to the amounts due to VL for management fees. From the inception of FLL Mr Freud and Mr Lemos were agreed that there should, in principle, be overall parity as between them so far as receipt of benefits derived from FLL was concerned. However, as time passed they found themselves unable to agree how such parity should be achieved. They disagreed, for example, as to whether and if so to what extent FLL’s liability to make employer’s national insurance payments in respect of Mr Freud’s salary should be reflected in the levels of management fees charged by VL.

Of particular relevance to the present action, however, is a dispute between Mr Freud and Mr Lemos as to whether VL was entitled, in setting the level of its management fees from year to year, to have regard to the extent (if any) to which Mr Lemos had fallen behind Mr Freud in terms of benefits received from FLL: as it was termed in argument (and in Judge Cowell’s judgment), an entitlement on the part of Mr Lemos/VL to “catch up”. Thus Mr Lemos contended that, in invoicing FLL for management fees, VL was entitled to “catch up” if, in terms of overall parity, he had fallen behind Mr Freud. Mr Freud contested that. He contended that from 1997 onwards VL was entitled to charge management fees only at a fixed rate of £80,000 per annum (a level which he and Mr Lemos had agreed for that year), without regard to any suggested lack of parity in earlier years.

During the interlocutory stages of the section 459 proceedings both sides (i.e. Mr Freud/DFL and Mr Lemos/Vickbar) instructed Ms Anne Worlledge of Ernst and Young to act as the single joint expert in valuing the share capital of FLL (i.e. its entire share capital).

To enable her to carry out that task, Ms Worlledge was provided with (among other things) copies of the statutory accounts of FLL from its inception up to and including the year 2000/1 (the last agreed accounts), draft accounts for 2001/2 (unagreed), and what were described in the solicitors’ correspondence as management accounts for 2002/3 – in fact what was provided was a trial balance as at 31 July 2003 (also unagreed). Those documents showed, in respect of each year, the total amount of the invoices raised by VL in the course of that year in respect of management fees. For 2000/1 the figure was £67,000; for 2001/2, £119,500; and for 2002/3, £92,793. They also showed an outstanding balance owed to VL at each year end in respect of management fees after bringing into account payments made to VL or to Mr Lemos during that year. For 2000/1 the outstanding balance was £4,426; for 2001/2, £35,117; and for 2002/3, £23,956.

Ms Worlledge’s valuation is dated 20 October 2003. In the course of the introduction to the valuation, she said this:

Taking into account the value of FLL’s subsidiaries, Ms Worlledge concluded that the market value of FLL’s entire share capital as at 12 September 2003 was £2.325M. However, Ms Worlledge’s valuation was not agreed by Mr Freud. He did not accept her valuation figure or the underlying material on which it was based. Had the section 459 proceedings been fought to a conclusion, Ms Worllege would no doubt have been extensively cross-examined. In the event, that stage was never reached.

The petition was listed for hearing before Peter Smith J, commencing on 28 October 2003. At the start of the hearing the judge, quite rightly, urged the parties to settle the case. That led to the negotiation of terms of settlement which were duly set out in the schedule to the Tomlin order which the judge made the following day, 29 October 2003.

As noted earlier, by clause 1 of the schedule DFL agreed to buy VL’s 50 per cent shareholding in FLL for £1.1625M – that is to say, for precisely 50 per cent of the market value attributed to the entire share capital of FLL by Ms Worlledge. I have already referred to clauses 2 and 3 of the schedule, and I have already quoted clause 4 (the crucial clause for present purposes). Clause 5 of the schedule provided that “the above payments” should be in full and final settlement of all claims whatsoever between Mr Freud, Mr Lemos and any of the companies involved (including FLL’s subsidiaries) whether or not such claims were known to the parties. The only other clause in the schedule to which I need refer is clause 9, which is in the following terms:

In his witness statement, Mr Lemos states that clause 4 was inserted in the schedule at the instigation of VL’s counsel, who proposed to the solicitor acting for DFL that it be included; and that DFL’s solicitor, having taken instructions, agreed to its inclusion. There is, however, no evidence before the court of any discussion between the parties or their respective advisers as to what they meant by the expression “outstanding accruals”.

As mentioned earlier, completion of the sale of VL’s shareholding to DFL took place on 5 December 2003.

Following completion of the sale, a dispute arose between the parties as to the true construction of clause 4 of the schedule: i.e. as to what is meant by “outstanding accruals”, and as to whether the reference to “the sum of approximately £10,000” has the effect of limiting any amount payable under the clause. That dispute led to the commencement of the present action on 2 February 2004, in which VL seeks to enforce clause 4.

Mr Lemos contends (through VL) that the expression “outstanding accruals” in clause 4 refers to outstanding liabilities of FLL for management fees as shown in the accounting records submitted to Ms Worlledge, and that the words “the sum of approximately £10,000” are words of description not limitation. On that basis, VL claims £24,658.42, representing the sum of £23,956.58 shown in the trial balance referred to earlier as outstanding as at 31 July 2003 (see paragraph 14 above), plus the sum of £701.84 in respect of the period from 1 August 2003 to 29 October 2003 (representing outstanding management fees in respect of that period of £25,701.84, less drawings during that period of £25,000).

Mr Freud, on the other hand, contends (through DFL) that the word “accruals” in clause 4 bears its accepted accountancy meaning, in that it refers to the provision which requires to be made at the end of an accounting period where goods or services have been provided during that period but are as yet uninvoiced. In the context of the instant case it means, he submits, management services rendered by VL to FLL prior to the settlement date but uninvoiced as at that date. On that construction, DFL contends (in paragraph 7 of its Amended Defence) that nothing at all is owing under paragraph 4.

Paragraph 7 of the Amended Defence goes on to set out the position as disclosed by FLL’s financial records in respect of its financial years 2001/2002, 2002/3 and 2003/4. In respect of financial years 2001/2 and 2002/3 it is alleged that no accruals were recorded in FLL’s financial records in respect of management fees for those years. In relation to the period from 1 August 2003 to the settlement date it alleges that management fees due in respect of that period amounted to £19,565.22 plus VAT of £3,423.91, making a total of £22,989.13. From that sum are then deducted drawings by VL during the period in question totalling £25,000 (see paragraph 22 above), leaving a nil balance due from FLL to VL in respect of uninvoiced management fees.

In paragraph 16 of his judgment, Judge Cowell explained that the case had taken so long to hear because it was necessary to go back through the history of the matter to establish the factual background. He went on to set that history out in considerable detail, and to explain how VL calculated its claim. In paragraph 61 of his judgment he described the issue which fell for decision as follows:

He went on to state his conclusions as follows:

As noted earlier, by his order the judge declared that (omitting pence) £21,945 is payable under clause 4 of the schedule, and he ordered payment of that sum. Since it may not be immediately apparent on the face of the judgment how the judge arrived at that figure, I should at this stage explain how it is calculated.

In relation to the period from 31 July 2001 (the 2000/1 accounts being the last accounts which were agreed between the parties) to 31 July 2003, the judge started, as the opening balance, with the figure of £4,426 shown as outstanding in the 2000/2001 accounts. For the next two financial years (i.e. the two-year period from 1 August 2001 to 31 July 2003) he took the equivalent figures in the accounts for those two years (£35,117 and £23,956 respectively). That produced a sum due as at 31 July 2003 of £23,956. In relation to the period from 1 August 2003 to the settlement date, in place of VL’s pleaded figure he took the figure of £19,565 pleaded in paragraph 7 of DFL’s Amended Defence (see paragraph 24 above), to which he added VAT of £3,424, making a total of £22,989. That made a grand total of £46,945 for the period from 1 August 2001 to the date of settlement, from which he deducted the drawings of £25,000 made by Mr Lemos during the final period from 1 August 2003 to the date of settlement. He thus arrived at a net figure of £21,945 as the sum due to VL under paragraph 4 of the schedule: a reduction of £2,713 on the sum claimed by VL (£24,658).

There is no cross-appeal by VL in respect of the judge’s reduction of the sum claimed.

By their grounds of appeal, DFL and FLL contend that the judge erred in his construction of the expression “outstanding accruals” in clause 4 of the schedule, and that on its true construction that expression has the narrow accountancy meaning to which I referred earlier: that is to say, that in the context of the instant case it refers to management services provided to FLL by VL but remaining uninvoiced as at the settlement date.

They further contend that the judge erred in law in taking account, as part of the factual background relevant to the issue of construction, matters which were in dispute between the parties. In particular, they contend that the judge proceeded on the basis that there was some kind of agreed “catch up” arrangement in place. They contend that if the judge considered it necessary to refer to such matters, he should have resolved the disputes relating to them: a process which would have required oral evidence.

The judge’s reliance on the valuation report is also challenged. It is pointed out that its contents were not agreed and that it was not binding on the parties.

As to the words “in the sum of approximately £10,000” in clause 4, it is contended that the judge misapplied the maxim falsa demonstration non nocet and that the reference to £10,000 limits the amount recoverable under the clause.

Lastly, it is contended that the judge was wrong to take VAT into account in calculating the sum payable under clause 4.

For DFL and FLL, Mr Dight repeats the submission which he made unsuccessfully to Judge Cowell that the word “accruals” in paragraph 4 of the schedule means “uninvoiced liabilities of [FLL] in respect of management fees to [VL]”. He submits that the word “accruals” is only to be found in the context of accounting practice; and that it has no accepted general meaning. He points out that a requirement to maintain a separate accruals account is to be found in Schedule 4 to the Companies Act 1985.

He points out that Mr Freud and Mr Lemos are experienced financiers who may be expected to know the true meaning of the word “accruals”, and that in her witness statement Mrs Rosanna Bellingham, FLL’s book-keeper, uses the word in that sense. Thus, in paragraph 31 of her witness statement she says this:

Mr Dight submits that clause 4 does not identify either a form of calculation or a starting point from which a calculation could be made. He submits that, on the evidence of the witness statements, the basic rate for management fees chargeable by VL was £80,000 per annum (that being the rate which was agreed between the parties in 1997). Accordingly, he submits, it must be inferred that in describing the “outstanding accruals” as amounting to “the sum of approximately £10,000” VL must have had in mind the period of some 46 days (one eighth of a year) immediately prior to the settlement date. Given that the last invoice rendered by VL prior to the settlement date is dated 31 July 2003, it is to be inferred, he submits, that VL’s invoices must have been rendered in advance (a contention to which I referred earlier: see paragraph 10 above).

Next, Mr Dight submits that there was no factual basis on which the judge could infer an agreement for “catch up” (in the sense explained earlier). He further points out (correctly) that no accounts were agreed by Mr Freud for any year after 2000/1. On instructions, he went further. He told us that Mr Freud had not seen the invoices rendered by VL to FLL after 31 July 2001, and that he had had little to do with the running of FLL during that period.

As to the valuation, Mr Dight submits that the judge’s reliance on it was flawed, since it was not agreed by Mr Freud and was not binding on him or on DFL or FLL. Further, he submits that although, as a matter of arithmetic, the price for the buy out was exactly one half of the valuation figure, the valuation itself and the underlying documentary material furnished to Ms Worlledge are of no materiality to the issue of construction of clause 4 of the schedule.

As to the words “in the sum of approximately £10,000”, Mr Dight points out that in the action VL claimed a sum of almost £25,000, a sum which cannot on any basis, he submits, be described as “approximately £10,000”. He submits that the judge misapplied the maxim falsa demonstration non nocet, since the maxim applies only where the meaning of the substantive words (i.e. the subject-matter of the description) is clear. That is not the case here, he submits, since on any footing the words “outstanding accruals” are ambiguous. Accordingly he submits that the words in question are, in context, words of limitation and not words of mere description.

Lastly, he submits that accruals should not take account of VAT, which is only payable on the issue of an invoice.

For VL, Mr Edward Sawyer submits that the judge was right to construe the expression “outstanding accruals” as meaning, in context, the amount in respect of management fees plus VAT that VL was entitled to receive from FLL as at the settlement date (whether invoiced or not). In relation to the two-year period from 1 August 2001 to 31 July 2003, he submits that the judge was right to calculate the amount due by reference to the figures shown in the material furnished to Ms Worlledge, which material formed the basis of her valuation. In relation to the period after 31 July 2003, Mr Sawyer is content to take the judge’s figures.

Mr Sawyer submits that at the very least it is clear from clauses 4 and 9 of the schedule that something was envisaged as being payable under clause 4. He submits, further, that the schedule should be construed against the following background facts: (1) that the settlement resulted from VL’s petition seeking a buy out of its 50 per cent shareholding in FLL; (2) that the parties jointly commissioned the Ernst & Young valuation, which took account of the liabilities of FLL for management fees as appearing from FLL’s financial records as supplied to Miss Worlledge; (3) that in the course of lengthy inter-party correspondence before the trial it was at no stage suggested on behalf of Mr Freud/DFL or FLL that the figures shown in those records in respect of management fees were incorrect in any way; and (4) that the agreed price for 50 per cent of FLL’s share capital represented precisely one half of the valuation figure.

Mr Sawyer further submits that clause 4 envisaged a simple calculation of the sum due thereunder, and that it was a simple task to undertake that calculation by reference to the figures on which the valuation was based. He also relies in this connection on clause 5 of the schedule.

He submits that the judge was right to characterise the words “in the sum of approximately £10,000” as descriptive only, with the consequence that the fact (which he acknowledges) that the description has turned out to be false is to be ignored. Alternatively, he submits that VL is entitled to the highest sum above £10,000 which can be said to fall within that description, or, as his bottom line, to £10,000.

Lastly, he submits that the judge was right to bring VAT into account when calculating the amount due under clause 4. He points out that it was VL’s practice throughout to charge VAT on management fees.

The first observation to be made is that the amount in issue in this action represents no more than some 2 per cent of the amount of the price paid by DFL for VL’s shares in FLL. Yet the parties have already had a four-day hearing in the Central London County Court, and the appeal before us was listed to last up to a day and a half (in the event the argument lasted less than a day). To assist us in our task, we were supplied with three bundles of documents and a bundle of authorities containing 8 reported cases, 3 citations from text books and a copy of section 226 of the Companies Act 1985 (duty to prepare company accounts) – although in the event no reference was made to the authorities bundle in the course of argument.

As noted earlier, Jacob LJ, when reluctantly granting permission to appeal, made it clear that in his view the dispute should be settled by agreement. Plainly it should have been. Quite apart from the call which the case has made on the resources of the Central London County Court and of this court, the parties’ costs of litigating this relatively insignificant dispute, which (we were told) are estimated to amount in total to some £270,000, exceed the amount at stake more than ten times over. With those considerations in mind, at the outset of the hearing this court added its voice to that of Jacob LJ in urging the parties to settle, but to no avail. I can only infer that, as unfortunately happens in all too many cases, the dispute is now essentially about who should pay the costs of litigating it.

That said, the parties seek a decision of this court; and they are entitled to one. I therefore turn to clause 4 of the schedule.

I begin with the relevant factual background, or ‘matrix’.

In construing the schedule to the Tomlin order, and in particular clause 4 of the schedule, I consider it both legitimate and helpful to have in mind the following background facts:

that the proceedings in which the Tomlin order was made were proceedings under section 459 of the Companies Act 1985 in which VL was seeking, among other things, an order that DFL buy out its 50 per cent shareholding in FLL;

that the pleadings in the section 459 proceedings raised a number of disputes between the parties, including, in particular, a dispute as to VL’s entitlement in respect of management fees;

that prior to trial the parties instructed a single joint expert (Ms Worlledge) to value the share capital of FLL;

that for the purposes of that valuation Ms Worlledge was provided by the parties with documentary material which included financial accounts and records of FLL;

that save for FLL’s accounts for the financial year 2000/1 the contents of such documentary material were not agreed by Mr Freud;

that the documentary material in question contained the various figures to which I referred earlier in this judgment relating to management fees invoiced by VL;

that in due course Ms Worlledge produced a valuation in which she valued the entire share capital of FLL at £2.325M;

that the valuation was neither agreed by the parties, nor was it binding on them;

that the proceedings were compromised by the Tomlin order, on the terms set out in the schedule;

that the buy out price under the compromise is equal to 50 per cent of Ms Worlledge’s valuation of the entire share capital of FLL; and

that no “accruals” (in the sense of that word for which DFL and FLL contend) were shown in the accounting records of FLL as at the date of the compromise.

Construing clause 4 of the schedule against the background of the above facts, I respectfully agree with the judge that the expression “outstanding accruals” is not intended to bear the narrow accountancy meaning which Mr Dight seeks to ascribe to it.

In the first place, the mere fact that clause 4 was included in the schedule suggests, to my mind, that the parties must have thought that something was going to be payable under the clause; whereas, as mentioned earlier, no “accruals” (in the narrow sense) were shown in the accounting records of FLL as at the date of the Tomlin order.

Secondly, it seems to me to be highly material that the settlement was based on Ms Worlledge’s valuation, in that the agreed price for the buy out of 50 per cent of the share capital of FLL is precisely equal to half the market value of its entire share capital as assessed by Ernst & Young. That cannot have been mere coincidence. I of course accept that the valuation, and the underlying material on which it was based, were never “agreed” as such on behalf of Mr Freud/DFL. Nonetheless, the fact remains that, for better or worse, and whether right or wrong, the valuation figure formed the basis of a settlement which was intended to draw a line under all past disputes. Moreover, as Mr Sawyer has demonstrated, the documentary material provided to Ms Worlledge contained all the figures on which VL relies as establishing the amount of its outstanding entitlement to management fees. Indeed, many of those figures appear in the valuation itself.

I have already rejected Mr Dight’s submission that it is to be inferred that VL invoiced FLL wholly or partly in advance (see paragraph 10 above). In the first place, his submission proceeds on the footing the words “in the sum of approximately £10,000” are words of limitation, rather than words of mere description. In my judgment, however, that is not so. I do not, for my part, consider it necessary to resolve this question by the application of any so-called maxim of construction. I read the words in question as no more than a label which Mr Lemos/VL attached to the liability intended to be imposed by the expression “outstanding accruals”. Had there been two possible meanings of “outstanding accruals”, one of which would have resulted in a liability of £10,000 and the other in a liability of £100,000, the presence of a label referring to “the sum of approximately £10,000” would doubtless be a clear pointer to the correctness of the former meaning. However, that is not the situation in the instant case. In the context of a buy out price of £1.1625M, all that the label in the instant case does, in my judgment, is to indicate (as is the fact) that the additional liability imposed by clause 4 is relatively insignificant.

In any event, as I concluded in paragraph 10 above, the clear inference from the accounting treatment of management fees in the financial records of FLL is that VL’s practice was to invoice in arrear.

As to VAT, the judge was in my judgment plainly right to bring VAT into account in calculating the amount due under clause 4. Once the conclusion is reached that the expression “outstanding accruals” has the wider meaning for which VL contends, Mr Dight’s submissions on this point become unsustainable.

It will be apparent that in reaching my conclusion as to the true construction of clause 4 I have not found it necessary to delve as deeply into the details of the background history as the judge found it necessary to do. However, for the reasons I have given I conclude that the judge was right to construe clause 4 as he did, and that he correctly calculated the sum due under it.

I would dismiss this appeal.

I agree.

I also agree.