Cream Holdings Ltd & Ors v Davenport

This appeal is from an order dated 14 March 2008 made by Ms Susan Prevezer QC sitting as a Deputy High Court Judge of the Chancery Division. She granted permission to appeal.

The parties are a private company and the shareholders in it. The point in dispute is whether an independent firm of accountants was duly appointed as the “Third Party Accountant” ( the TPA) under the Articles of Association of the company for the purposes of valuing shares in the company. The share valuation is required for the purposes of the compulsory transfer provisions in the Articles.

The appeal turns on the construction of the Articles of Association of Cream Holdings Limited (the Company). The context is the valuation of the shares held by the respondent, Mr Stuart Davenport. He holds just over 25% of the issued shares. The appellants are the Company and the other shareholders, Mr James Barton and Ingenious Ventures Limited (Ingenious). In September 2001 Ingenious acquired 48% of the issued share capital.

Mr Davenport claimed a declaration that the valuation of his shares by BDO Stoy Hayward (BDO) dated 18 December 2006 was not a binding valuation. This was met by a counterclaim for an order that Mr Davenport complete the transfer of his shares pursuant to the Articles and for declarations regarding the rights of the Company or its directors to complete such transfer in the event of his continued default.

The Deputy Judge held that BDO had not been appointed by Mr Davenport and the Company as the TPA for the purposes of the expert valuation provisions; that there was no “agreement upon such appointment” by Mr Davenport and the Company, as they had not both agreed the terms of engagement with BDO and BDO had not agreed with both of them to act on such terms; and that Mr Davenport was not estopped from denying that BDO was the TPA.

The declaration under appeal was in these terms-

“ …the valuation contained in the letter dated 18 December 2006 from BDO Stoy Hayward was not a Fair Value valuation by a Third Party Accountant within the meaning of the Articles of the First Defendant [the Company] and is accordingly not binding on the Claimant [Mr Davenport].”

The counterclaim was dismissed. The Company and the other defendants were ordered to pay 70% of the costs of the action.

The Company carries on an entertainment, electronic music, club and dance events business. Mr Davenport joined the Company in 1995. He became a shareholder, director and employee. In 2001 he became a non-executive director. He was formally removed as a director on 13 August 2004. Unsuccessful efforts were made to reach an agreement on a sum to buy him out.

His removal triggered the share transfer and valuation provisions in the Articles. These included the deemed service on 24 September 2004 of a Transfer Notice offering his shares to the other members of the Company at the “Sale Price.” The Company is constituted the agent of the Transferor for the purposes of the sale. In the case of a non-co-operative member of the Company there are common form provisions empowering the Company to effect the transfer of the shares. It was common ground that, for the purposes of these provisions, Mr Davenport was “a Good Leaver” entitling him to be paid the “Fair Value” of his shares.

Article 11.14 defines “Fair Value” as meaning

“ …. the price per Share as agreed by the Board and the Transferor or failing such agreement as determined by the Third Party Accountant and certified in writing by the Third Party Accountant as being the price which, in their opinion, represents a fair value for such Share as between a willing vendor and purchaser of the same as at the date the Transfer Notice is given or is deemed to have been given in respect of such Share…. The Third Party Accountant shall act as experts and not as arbitrators and, in the absence of manifest error, their decision shall be final and binding on the Company and its members… ”

It was also provided that the costs of the TPA certifying the Fair Value were to be borne as the TPA determined.

In Article 2.1 “Third Party Accountant” is defined as

“…an independent firm of accountants chosen by the Transferor and the Board or failing agreement on such appointment within 7 days as chosen by the president from time to time of the Institute of Chartered Accountants.”

It is agreed that 24 September 2004 is the date at which the shares are to be valued. No agreement was reached on what was a “Fair Value” of his shares.

Following the failure of the parties to reach agreement on the “Sale Price” events unfolded at a leisurely pace. On 1 April 2005 the Company wrote to Mr Davenport informing him that it would proceed with the appointment of the TPA in accordance with the provisions of Article 11.14. He was asked for a list of the firms of accountants that he would be happy to be appointed as the TPA. Mr Davenport’s accountants replied on 12 April identifying 3 firms and stating that he was willing to accept any of them to act in the role of the TPA. BDO was one of the firms. Mr Davenport’s accountants said that they trusted that on appointment of the TPA they would be given the opportunity to present their views on the basis of valuation and draw to their attention the inherent value in the Intellectual Property Rights and Brand of the Company name.

The Company, which was also happy for BDO to act in the role of the TPA, informed Mr Davenport’s accountants that it would proceed to appoint a TPA and would inform them when the appointment had been made in due course. The Company’s case is that BDO was accordingly “chosen” by the Company and Mr Davenport as the TPA for the purposes of the Articles and that its share valuation is binding on him.

On 16 May 2005 the Company wrote to Mr Davenport’s accountants informing them that it had asked BDO to act in the role of the TPA. It enclosed the draft of the engagement letter for them to review and comment upon. In July 2005 BDO wrote both to the Company and to Mr Davenport indicating the terms upon which they were prepared to provide their services. The terms included a cap on their liability at £500,000 or, if greater, 10 times the total of the fees invoiced issued under the engagement letter. BDO stated that they did not expect their fees to exceed £10,000 (excluding VAT and disbursements) and that such should be met in equal shares by the Company and Mr Davenport. BDO asked for signature and return of an enclosed engagement letter, adding that they could not commence work until they had received the signed copy from each party.

The Company signed BDO’s engagement letter on 27 July 2005. Mr Davenport refused to sign it. He never did sign it. Instead, he instructed solicitors, who wrote to the Company on 15 August reserving fully his rights to raise all relevant matters at the appropriate date. In a further letter on 10 October 2005, responding to the Company’s assertion that BDO had been “chosen” to act as the TPA, Mr Davenport’s solicitors (Ricksons) stated that he reserved his position concerning the instruction of BDO. On 11 November 2005 Ricksons wrote to BDO stating that Mr Davenport would sign an engagement letter once certain issues regarding the shareholdings had been resolved. They requested a fresh engagement letter to reflect that fact that BDO’s retainer ought to be with both parties, the company and their client.

BDO issued another engagement letter to the Company, which signed a further copy on 19 December 2005. It was not signed by Mr Davenport. On 25 January 2006 Ricksons confirmed that they could agree the outstanding issues on BDO’s terms of engagement. Ricksons re-iterated that the information sought from the Company had to be provided to BDO and to Mr Davenport in order that the proposed valuation could be made fairly and properly. The delays carried on well into the year. BDO wrote to the Company’s solicitors on 26 October 2006 saying that they were unable to value the shares as a joint expert for the Company and Mr Davenport, as the engagement letter had not been agreed or signed by Mr Davenport and they did not therefore have joint instructions. They were prepared to value the shares on the instructions of the Company alone, but that would have no status as a joint valuation report.

In their reply of 2 November 2006 the Company’s solicitors explained that, as far as the Company was concerned, BDO were the chosen TPA within Article 11.14, that they were instructed by the Company to carry out the valuation exercise and that, if they did so, their certificate would be effective pursuant to the provisions of the Articles. BDO proceeded on the basis that they would be providing professional services to the Company and to value the shares as if there were no doubt as to their appointment as the TPA. They wrote to Mr Davenport’s solicitors to inform them of the appointment and inviting them to forward representations from Mr Davenport. No such representations were made.

The engagement letter dated 9 November 2006 sent by BDO to the Company referred only to their appointment by the Company as the TPA. It contained a cap on liability to the Company “or any third party” for loss over £500,000 or 10 times the total fees invoiced under the engagement letter.

On 18 December 2006 BDO certified the value of a penny ordinary share in the Company to be £59 as at 23 September 2004 that being the agreed valuation date. This would produce a total value of £295,000. The Company’s case is that Mr Davenport became bound to transfer his shares on payment of the Fair Value. Mr Davenport considers that his shares are worth very much more than that on the “Fair Value” basis.

The issues in the action were (1) whether a Fair Value had been fixed by a duly appointed TPA; alternatively (2) whether Mr Davenport was estopped from disputing that BDO was so appointed. There were interlocutory skirmishes, including the grant of an interim injunction restraining the transfer of Mr Davenport’s shares pursuant to the Articles. The injunction was continued following a judgment by Mr Alan Steinfeld QC on 11 June 2007.

The conclusion of the Deputy Judge was that it was not sufficient, for the purposes of constituting a TPA, for the two parties merely to identify a valuer. They must go further and enter into a tripartite agreement as to the valuer’s appointment. There must have been a formal offer and acceptance by the valuer of the role of TPA. Both parties must have agreed terms of engagement with the valuer. The valuer must have agreed with both parties to act on such terms. As Mr Davenport never agreed to the terms of BDO’s appointment, BDO was never validly appointed as TPA and their valuation did not bind him.

In reaching that conclusion the Deputy Judge considered the relevant provisions in the Articles, the key events in 2005 and 2006 and the rival submissions on the construction of the Articles. The language of Article 2.1 was analysed in detail. Account was taken of practical considerations. It is unnecessary to repeat in this judgment what can be read in full in [2008] EWHC 298 Ch.

Mr Andrew Clutterbuck, who appeared for the appellants, launched a spirited attack on the judgment. He argued that the Deputy Judge had misconstrued the definition of the TPA in Article 2.1. Her construction was uncommercial and unrealistic. It gave the transferor a veto over the transfer or the right to force litigation over the valuation. The provisions were intended to provide a workable, quick and effective expert determination procedure and to avoid litigation.

The Deputy Judge erred in concluding that “chosen” in Article 2.1 meant “appoint” rather than, as the appellants contend, “select.” As soon as the parties had “chosen” a valuer in the sense of agreeing who it should be, there was a TPA for the purposes of the Article. It was then open to one of the parties to proceed unilaterally to agree and sign up to the terms of engagement with the valuer. The ultimate valuation made by the valuer would be binding on the non-signing party so long as that chosen valuer had conducted the valuation in accordance with the expert determination provisions in Article 11.14.

Mr Clutterbuck recommended this analysis to the court as the commercial and reasonable construction. The Deputy Judge’s construction, he said, was neither and it was arrived at by reasoning that was flawed by internal contradictions.

Mr Clutterbuck argued in the alternative that the judge wrongly rejected the Company’s estoppel point. In his communications and by his conduct over a period of 19 months Mr Davenport had made express or implicit representations that he accepted that BDO was the TPA, that he himself had chosen them as such and that he agreed to be bound by their valuation. The Company was led to believe and did believe his acceptance and commitment to the choice of BDO and his agreement to BDO as the TPA and had acted in reliance on that understanding in proceeding with the BDO valuation. He was thereby estopped from contending that BDO was not the TPA, that he had not himself chosen BDO as such and that he was not bound by the BDO valuation. Mr Davenport’s reservation of his position had not rendered the reliance of the appellants on his participation in the BDO valuation unreasonable.

I begin with three preliminary comments.

First, a point worth noting for the future, especially by people with no ambition to become litigants. The dispute whether BDO is or is not the TPA would not have arisen if the Articles had contained the provision commonly included in the Articles of Association, in the context of invoking the compulsory transfer provisions, that the value of the shares is to be determined by the auditors of the company. The auditors of the company are already in office. The issue of a disputed appointment would not arise.

Secondly, the loose drafting of the definition of the TPA increased the risk of a dispute. In the same provision in the Articles, the draughtsman refers (1) to the independent firm of accountants being “chosen”; (2) to the eventuality of “failing agreement on such appointment” by the Transferor and the Company; and (3) to a default situation in which a firm of accountants is “as chosen” by the President of the Institute of Chartered Accountants. This slack drafting and the omission of any express requirement of a formal appointment have contributed to the uncertainty that breeds contention on a matter in which certainty is highly desirable and can easily be achieved by stipulating elementary formalities. There were arguments that delight lawyers: whether “chosen” and “appointment” mean the same thing or different things; and whether “chosen” by the Transferor and the Board meant the same thing as “as chosen” by the President later in the same sentence.

Agreed formal requirements are aimed at eliminating, or at least reducing, the risk of avoidable, time wasting and cost consuming disputes about whether or not a person has been appointed to a position and on what terms. There is, in general, more to the appointment of a person to perform any duties than simply selecting a name to fill the position. Appointment is a process which should be formal and precise.

Thirdly, the disputed definition in Article 2.1 must be read as a whole. The language chosen to express the parties’ intentions, the intended purpose of the provision and its overall context are all relevant to construction. The object of the exercise is to end up, if possible, with a reasonable result within the ambit of the parties’ probable intentions. I doubt whether prolonged linguistic debate about the meanings of “chosen” and “appointment” is of much real value in discerning the probable intentions of the parties on this point.

In my judgment, the substantial difficulty for the Company on this point is that its construction produces consequences so surprising that it must be doubtful whether they can have been within the contemplation of the parties. The TPA’s role is to produce an expert valuation of shares held in the Company by the person who is liable to be compelled to offer his shares for sale at that valuation to those who remain. The TPA also has power to decide who should bear the costs of the exercise. The firm of accountants appointed would also lay down the terms, such as limitation of liability, on which it would be prepared to act.

In those circumstances it would be very surprising if a firm of accountants could become the TPA solely as a result of nomination by the parties and without any agreement by both parties and the firm on the terms of engagement as the TPA. The constituting of the TPA, whether characterised in the Articles as being “chosen” or as “agreement on such appointment”, is more realistically analysed as a process than as an event, such as nomination. In my judgment, the TPA process is not complete unless and until all parties and the accountants have reached an agreement on the TPA’s terms of engagement. The Company and the shareholders may reach an agreement among themselves on the firm of accountants to be approached. But the selected or nominated firm may decline to act for a variety of reasons. Until a firm is found which agrees to act as the TPA there is no TPA. No firm is likely to agree to make a joint valuation without the agreement of both sides on the terms of engagement. The firm which agrees to act on the instructions of one of the parties would not be acting as the TPA.

Article 2.1 provides for what is to happen “failing agreement on such appointment”. In my view, this pivotal provision must be read in the context of the earlier reference to being “chosen” and the later reference to “as chosen” by the President. In other words the provision should be construed as a whole, not word by word or in parts. Agreement between all concerned on the terms of the appointment is what is required. In my judgment, the selection of an agreed name from a list of 3 named firms would not in itself be sufficient to constitute the TPA. Mr Davenport did no more than indicate his willingness to accept any of 3 different firms acting in the role of TPA. That was insufficient to constitute agreement on an appointment. It was not an offer which was capable of acceptance so as to create a contract for an appointment between Mr Davenport and the TPA. There was no agreement between Mr Davenport and the Board or between him and BDO to their terms of engagement. BDO were not therefore the TPA.

As pointed out by the Deputy Judge and by Mr Francis Tregear QC in his submissions, the appellants’ estoppel argument necessarily fails if, as is the case, their construction argument fails. If Mr Davenport made a representation that he had chosen BDO as the TPA that was not sufficient to satisfy the requirements of the Articles, in particular Article 11.14. The terms on which the valuation were carried out were not agreed by the parties with BDO.

I would dismiss the appeal. The Deputy Judge correctly held that Mr Davenport was not bound by BDO’s valuation of his shares, as BDO was not a Third Party Accountant within the meaning of Article 2.1.

Many law students are initially puzzled by the expression “construction of contracts”. They think it must mean the process of assembling the elements of a contract; it takes them some time to realise that it means interpreting them. The realisation, moreover, may not come rapidly because the law reports which they study are often as consistent with the first as with the second meaning of “construction”, because the courts, although mandated only to make sense of what the parties have agreed to, repeatedly find themselves repairing or rebuilding contracts which simply do not cater for the problem which has arisen.

The present is such a case. The definition of Third Party Accountant is framed in language which does not make sense. Choosing a firm of accountants is one thing; appointing it is another. But the Articles of Association treat them as if they were the same. One of them has to give way, and for the reasons given by the deputy judge and by Lord Justice Mummery it has to be choosing. The consequence is that, if an appointment is not consensually made within 7 days, the recourse is to the President of ICA for a nomination.

I too would dismiss this appeal.

I agree with both judgments.