Sycamore Bidco Ltd v Breslin & Anor

This judgment deals with a point which is foreshadowed in paragraph 465 of my judgment of 30th November 2012, namely the relevant “upper figure” to be taken as the value of GAS as warranted. In that paragraph I observed that there was some uncertainty as to what the relevant figure should be. That paragraph suggests that the three candidates were the stated contractual consideration, the figure of £16.75 million or a figure of £17.25m. I heard further argument on the point, and it appeared that the first of those figures is not a candidate. The choice is between the other two. Mr Neish contended for the lower figure and Miss Newman for the higher.

In order to determine this point it is necessary to remind oneself of the relevance of the figure. The purpose of the overall enquiry is to ascertain the value of the company as warranted, the actual value of the company at the date of the agreement, and find the recoverable loss by subtracting the latter from the former. That is common ground. The parties were also agreed that, since there was no evidence that Dunedin overpaid for GAS, the amount that it paid should stand as a proxy for the warranted value. The trouble is that the parties were not agreed on the amount that Dunedin should be treated as having paid. The simplistic view that one simply looks at the contract price is not one espoused by either party, because of the manner in which that stated consideration was arrived at. It is agreed that Dunedin should be treated as paying a higher figure than that because of the nature and history of the negotiations. What that higher figure is, however, is not agreed.

The difference between the parties turns out to turn on the effect of £500,000 left in the company as cash at the date of the agreement as a result of the final negotiation between the parties. In order to ascertain this each of the parties retraced some of the history of the negotiations between the parties and some of the modelling done by Dunedin.

Miss Newman pointed out that, prior to the renegotiation brought about as a result of the VT disclosure, Dunedin had made an offer of £18m for a company which was debt free and cash free but which had “normalised working capital”. The £18m was the headline consideration. The renegotiation then happened and a price of £17.25m was agreed. As my first judgment points out, that was treated as the headline price. As reflected in paragraph 168 of my first judgment, that would not be the actual stated consideration. It is the amount which would have been paid had the company been debt free and empty of cash. The company was not, however, debt free and empty of cash. It had limited cash (see paragraph 168) and it had significant debts in the form of the LTIPs payments. Those needed to be taken into account in order to arrive at the sum paid so that the sum paid represented what would have been paid had the company actually been debt free with no cash. The cash gets added and the LTIPs payments get deducted. Thus one arrives at the stated consideration. That is reflected in the completion model. Accordingly, if one is looking to value the company debt free and cash free, the figure is £17.25m.

However, into that mix there needs to be introduced a sum of £500,000 (not identified in the extract from the email of 30th October set out in paragraph 168) which was in fact left in the company at the end of the negotiation and at the date of completion.

Miss Newman says that in the circumstances this sum falls to be treated as the normalised working capital which it was agreed would be left in the company. It therefore does not affect the true value of the company if one is looking at it on a debt free/cash free basis, which remains at £17.25m. She says that in the light of the approach of the experts in valuing the company in its actual state, one has to take the above approach in relation to assessing its value as warranted (and the price paid by Dunedin) because otherwise there is an inconsistency of approach and a false comparison. When Mr Hine set about his valuation exercise which resulted in a figure of about £11m he started with Dunedin’s model. If one looks at that model one can see that it treated the price being paid by Dunedin as £17.25m, albeit on the footing that the £500,000 of cash was being left in (whether as working capital or otherwise). His exercise then set about producing a figure which replaces that figure of £17.25m with a true figure, which he arrives at by varying the assumptions as to growth and other matters referred to in my earlier judgment. However, it is only those particular adjustments which were carried out. Otherwise Mr Hine was valuing the same “debt free/cash free plus £500,000” company as appeared in the model he was using. He came up with his figure of £11m. Miss Newman says that what Mr Hine was effectively doing was producing a differential, and one therefore had to have the same sort of company on each side of the calculation in order to produce a proper differential, and in order to compare apples with apples and not with pears. Alternatively, if, as Mr Neish would have me do, one removes £500,000 from the price paid by Dunedin (and therefore from the valuation of GAS in its as-warranted state), then one similarly has to take it out of Mr Hine’s model and calculation, reducing his £11m to £10.5m. On the assumption that a haggle would have increased that by £1m as per my judgment, one arrives at the same sum of damages, being the difference between £11.5m and £16.75m, namely £5.25m.

Mr Neish pointed to a little more history. He started by drawing attention to the proper measure of damages in cases such as this as set out in the Senate Electrical case (referred to in my first judgment) at paragraphs 30–32. It was, he said, important that the actual claimant, not a hypothetical claimant, should be looked at. He pointed out that what I should be looking for is what this claimant paid for the company in reality. It is plain that Dunedin in fact paid £16.75m. In order to arrive at the correct figure one has to take off the £500,000 cash left in the company from the headline price of £17.25m, because Dunedin had the benefit of that, and so was, in effect, not paying the full £17.25m headline price.

Mr Neish went back to the original Dunedin model which justified their first indicative bid of £16m. He pointed out that that model assumed that Dunedin would have to provide something like £500,000 as working capital as part of its overall funding of the operation. It was an additional sum which it would have to find in addition to the £16m headline price which it had offered. Dunedin’s model at that time was operated on the assumption that Dunedin regarded £16m as the true consideration. Working capital contingency was not taken into account in looking to that price. Like all other offers, that offer was made for a debt free/cash free company. Accordingly, when one looks at how the £18m offer was modelled, one sees the same. Dunedin modelled on the basis that it was paying £18m (the headline price).

Then one comes to the effect of the VT re-negotiation. At around this time Mr Brooks prepared a calculation showing the cash actually in the company and allocating it to various matters such as liabilities. In this context he came up with a balance which would be excess to requirements and which would be paid out to Mr Breslin (so that the company was, in that sense, without cash). However, as one of his elements he then allowed for £500,000 of the cash to stay in as working capital. This also became part of the horse-trade in the final negotiation. Mr Breslin agreed to take a £750,000 reduction in respect of the loss of VT, and made a further concession in leaving £500,000 of cash. Mr Neish says that this was left in as working capital even though it was not required for working capital and even though Dunedin’s models show that an additional £500,000 was still left in the funding model as being part of the funding that it would have to provide for the company after the purchase.

Mr Neish then points out that Dunedin’s completion model treats the consideration that it was paying as being £16.75m, not £17.25m. In a box headed “Purchase Multiple Calculations” it sets out:

“Consideration – 17, 250”, “Existing debt – (500)”

and below that:

“Total consideration – 16, 750”.

Thus the headline consideration is reduced by the £500,000 to produce a lower total consideration which was then the subject of the modelling in order to test that as the price. Previous incarnations of the model testing £16m and £18m did not have that deduction of £500,000, because at that stage this particular £500,000 was not part of the offer. The Investment Paper which went to the Investment Committee shows the “cash on completion” of £500,000 as part of the financing of the funding required for the purchase.

All this is said to demonstrate that Dunedin treated itself as paying £16.75m not £17.25m. The lower figure was its net outlay (subject to the other adjustments referred to above). In fact no one is said to have regarded the £500,000 as being working capital. Mr Neish pointed to various parts of Mr Derry’s cross-examination in which he accepted that the modelled price was £16.75m not £17.25m.

According to Mr Neish it therefore follows that the price which Dunedin should be treated as having paid for the company, and therefore the company’s value, should be taken to be £16.75m. Nothing that Mr Hine did affects this conclusion. He was trying to reach a figure for the value of the company on the footing that the effects of the breaches were reflected in the accounts. He did not accept Mr Hine was conducting a comparison on a like for like basis. Mr Hine arrived at his figure, and the appropriate comparator in order to arrive at measure of damages is the value of the company as attributed to it by Dunedin, which is £16.75m.

I start by reminding myself of the nature of the exercise which is being conducted. The exercise involves ascertaining the value of the company as warranted and the value of the company in its actual state. The price paid by Dunedin was taken at the trial to reflect the value of the company at the time, and therefore the value as warranted, without reflecting on the difficulties in working out what Dunedin should actually be taken to have paid. It is apparent that some adjustments have to be carried out to what Dunedin actually paid, because what Dunedin actually paid (according to the SPA) was only about £16.2m. If one is really looking for the value of the company at the time, then it seems to me that in some senses that is the best figure. That is what the company was thought to be worth, subject to its debts and liabilities. However, that is not the basis on which the parties negotiated. They were negotiating on the footing of a different value – the value of the company on the assumption that there were no liabilities (and no cash). This shows, with hindsight, the dangers of simply assuming that the price paid equals the as-warranted value. One has to work out what one means by the price paid, and be aware of the underlying assumptions about the nature of what is really being paid for.

It seems to me that the answer to the present difficulty lies in identifying the fact that the enquiry that is being carried out is an enquiry about a difference – the difference between the value of the company in an as-warranted state and its actual value. In identifying precisely what one is valuing, one must carry out both limbs of the assessment exercise on the same footing. If one is treating the warranted value as being the value of the company debt free/cash free, then one has to assess the actual value on the same basis. If one is treating the warranted value as being the value of the company debt free/cash free apart from £500,000 of cash left in, then the actual value of the company has to be assessed on the same basis. Otherwise one is not producing the correct difference. Miss Newman is right to rely on this factor.

In the light of the manner in which this case developed, a philosophical debate as to what Dunedin paid becomes somewhat arid. What was actually paid was some £16.2m (the actual restated consideration). What it treated itself as having to find in terms of consideration was £16.75m (see the completion model). Its rationalisation of its offer as between itself and the sellers was that it was paying £17.25m for a company in which £500,000 of cash was being left behind. Any of those figures could probably be taken as the value of the company on the various underlying hypotheses on which each figure is based. For present purposes it does not matter which figure one takes provided that when one comes to value the company in an as-was state one adopts the same hypotheses and assumptions.

Normally one might expect a comparative valuation exercise to start with a determination of the upper value (particularly if that is thought to be easy because it is simply represented by the price paid) and then to model the lower price on the same basis. That is, in essence, what Mr Hine has done. He has taken Dunedin’s completion model, and carried out certain substitutions. His model, like Dunedin’s, has within it the fact of the £500,000 left in the company. The crucial point is that his £11m figure is his assessed alternative to Dunedin's £17.25m figure, not its £16.75m figure. He therefore concludes that the sort of purchaser who would pay £17.25m for GAS in an as-warranted state (with £500,000 left within it) would pay £11m, for that company its actual state (with the £500,000 left within it). I think it likely that if he had been asked to assume an as-warranted value of £16.75m (effectively treating the £500,000 as a reduction of the consideration), then his £11m figure would come down by the same amount.

This focuses the relevant inquiry on the “upper figure” in a different way. The inquiry need not be what the real price should be treated as being in some abstract, detached way. What the inquiry has become is the view that should be taken as to the as-warranted price for the purposes of calculating the differential. What is important is consistency on both sides of the calculation. Mr Hine’s logic, effectively adopted by Mr Cottle, and mine by extension, assumes a comparison between two prices, calculated on the same assumptions as to what is being paid for, and then correcting the accounts and tweaking certain variables as to growth and the like. That leads him to his lower figure of £11m, adjusted by me to £12m. So far as the upper figure of the calculation is concerned, this has to be the £17.25m because that was, at least implicitly, Mr Hine's assumption about what was being paid for the company before he carried out his adjustments. To assume any other upper figure would be to falsify the basis of the calculation of the lower figure and therefore to falsify the calculation.

I therefore determine that for the purposes of the calculation, and in order to produce consistency on both sides, the relevant upper figure, being that which Dunedin should be treated as paying and which, for these purposes, represents the value of GAS at the date of the transaction, should be the £17.25m. This is not so much because that is the preferred analysis of what Dunedin was actually paying; it is because that is the assumption on which the calculation of the lower figure is based, and it does not matter which upper figure one takes provided that the lower one is assessed on the same basis. The real question is the difference in value, and that difference in value is, in the light of my findings, £5.25m. As I have already indicated, that would be the result even if one took £16.75 million as being the price, and therefore the value, of the as-warranted company, because one would have to move down the true value accordingly in order to produce consistency.

I therefore find that the basic measure of loss flowing from the breach of warranty is £5.25m.