Frequency of M&A disputes
In 2019, there was an estimated US$3.33 trillion in global M&A activity. Virtually all of this deal activity involves negotiated contracts in which the parties may choose to include agreements to arbitrate. It is not surprising, therefore, that M&A transactions represent a very significant source for disputes referred to arbitration in England or under English law. M&A disputes rank alongside those relating to other high-value energy and resources contracts, banking and financial services and construction.
Almost half of global M&A activity in 2019 occurred in Europe (including the UK), the Middle East, Africa and the Asia Pacific region. In all these regions, there remains a significant predilection among parties to negotiate English law-governed agreements, even where neither party has a link to England and where the chosen seat of arbitration is located elsewhere. As a result, a disproportionately large number of M&A arbitration claims arise under English law agreements.
Concrete data on the prevalence of M&A disputes in commercial arbitration is elusive. Consideration of arbitration-related litigation in the English courts (including enforcement actions, challenges to awards and jurisdictional disputes) demonstrates a very steady flow of M&A arbitration matters. A cursory examination of cases in the English Commercial Court over the past five years shows that when the Court deals with disputes arising under high-value sale and purchase agreements, it is as likely to be addressing arbitration-related matters as resolving disputes that have been referred to litigation by the parties. This data supports our experience and anecdotal evidence.
Naturally, the prevalence of M&A disputes is driven by market conditions. We anticipate that the financial dislocation caused by covid-19 will result in a marked increase in cases referred to arbitration. We know from direct experience that there has been a substantial increase in disputes and pre-closing disputes between parties to active sale and purchase agreements. These trends include buyers seeking to avoid completion, collapse of intended financing and a range of disputes over the underlying circumstances of the target asset or company, including warranty claims, misrepresentation claims, increased disputes over calculation of deferred consideration and (in the relatively rare cases where they are used) disputed interpretations of material adverse change clauses. In time, we also anticipate growth in post-closing disputes, as parties look to the deal fundamentals and seek to recover value where they can.
Form of dispute resolution
In our experience, there is a marked preference for parties to include agreements to arbitrate in very high-value, cross-border M&A transactions. Based on our discussions with dealmakers, there appear to be three key drivers behind this. First, in cross-border transactions, international arbitration is viewed (rightly or wrongly) as a more neutral forum than choosing the national courts of either buyer or seller. Second, depending on the jurisdictions involved, an arbitral award is perceived as more valuable on enforcement, with very strong preferences for arbitration clauses in connection with inbound M&A in Russia, other CIS states and several Middle Eastern and sub-Saharan jurisdictions. Third, many parties value the confidentiality that comes with commercial arbitration (although this can also be a deterrent, as discussed below).
The picture is more mixed in respect of domestic M&A among UK counterparties and in lower value transactions. Some of the factors that weigh in favour of commercial arbitration may fall away in the context of a sale and purchase agreement concluded between two UK entities, with little international component to their transaction. Further, in less complex deals, the greater capacity of the English courts to make orders for summary judgment in straightforward cases may be attractive.
Ultimately, of course, the choice of forum is a matter of negotiation and party preference. Arbitration has been embraced more fully in certain sectors than others. In our experience, for example, private equity firms often have strong familiarity and comfort with arbitration as a means of dispute resolution. Some corporates, especially some banks and other financial institutions, continue to believe that litigation in the English courts offers greater predictability and certainty of outcome.
We also perceive some divergence between private and public companies. For the latter, the confidentiality of commercial arbitration can present challenges with respect to public reporting and market compliance. Although such challenges can be (and routinely are) overcome, such companies may nevertheless regard confidentiality as a burden rather than a benefit.
Finally, expert determination remains a popular choice among parties for certain limited categories of dispute. The classic role for expert determination is with respect to disputes arising over earn-out calculations, purchase price adjustments and matters relating to completion accounts. Such disputes often invite a single answer that can be supplied to the parties by a suitably qualified independent accounting professional. The scope for expert determination in other forms of M&A dispute is more limited, although we occasionally see provision for phased dispute resolution on matters such as IP or licensing.
Grounds for M&A arbitrations
In an M&A bull market, disputes over price adjustment and earn-out are proportionately more common. Such claims are usually more limited in both value and complexity, and represent a willing buyer and a willing seller acting robustly to ensure that they extract full value from the transaction.
As noted above, in current market conditions we are witnessing a surge in disputes that could be characterised as ‘deal breakers’. These include buyers bringing claims for failure by a seller to complete. And, in return, claims by buyers seeking to rescind or avoid agreements, with claims for misrepresentation and disputes around satisfaction of conditions precedent. These claims are growing, both because there are now parties that want to avoid bargains that have become overpriced, and because there are buyers that simply cannot afford to complete and are truly faced with bet-the-company disputes.
Because English law gives primacy to the parties’ written contract and provides comparatively less scope for concepts of good faith than rival legal systems, we perceive that parties are more likely to arbitrate to avoid bad bargains than might be the case in other jurisdictions. English law will readily permit a party to walk away from a bargain that has become unattractive, provided it can establish a black letter entitlement to do so under the parties’ sale and purchase agreement. There are therefore clear incentives for parties to devise coherent legal strategies to maximise their position.
That said, fraud claims remain comparatively unusual in English law disputes, because of the high bar to advancing a claim in fraud, as discussed below.
Fraud and failure to disclose
Under English law, a claim for fraudulent misrepresentation is founded in the tort of deceit. A fraudulent misrepresentation takes place where a false representation has been made knowingly, or without belief in its truth, or recklessly as to its truth. In Eco 3 Capital Ltd and others v. Ludsin Overseas Ltd, the Court of Appeal confirmed the four constitutive ingredients of the tort of deceit.
- ‘The defendant makes a false representation to the claimant.’
- ‘The defendant knows that the representation is false, alternatively he is reckless as to whether it is true or false.’
- ‘The defendant intends that the claimant should act in reliance on it.’
- ‘The claimant does act in reliance on the representation and in consequence suffers loss.’
There are several key benefits to pleading fraud. First, as a matter of public policy, liabilities for fraud cannot be excluded under English law. Consequently, a claim for fraud is not barred by any exclusion clause. Second, a fraud claim allows for greater scope of recoverable damages. In particular, there is no requirement for the relevant loss to have been foreseeable.
An allegation of fraud must not be advanced without a proper basis. Any lawyer admitted to practise in England has a strict professional conduct obligation not to allege fraud unless there is reasonably credible material to support the allegation. The allegation of fraud must also be made in a clear and precise manner, with proper details of the alleged dishonesty.
In relation to pre-contractual failure to disclose information, it is important to note that English law does not recognise a general concept of ‘good faith’; consequently, parties are often under no obligation to voluntarily disclose information about the target company or assets in an M&A context. In this regard, the old Latin saying ‘caveat emptor’ (‘buyer beware’) still largely applies to contracts of sale governed by English law. However, in Yam Seng Pte Limited v. International Trade Corporation Limited, English courts recognise that in certain ‘relational contracts’ where parties have a longer term relationship and make a substantial commitment, a duty of good faith can be implied in the performance of the contract. The content of that duty is sensitive to context, but the court recognises that ‘[i]n some contractual contexts the relevant background expectations may extend further to an expectation that the parties will share information relevant to the performance of the contract such that a deliberate omission to disclose such information may amount to bad faith’. This is a developing area of law, but we anticipate that typical arm’s-length buyers and sellers under a sale and purchase agreement are unlikely to be treated as being in a relational agreement, in the Yam Seng sense. But the analysis may change depending on the particular facts.
Burden of proof
Under English law, the standard of proof for civil fraud is the same as for other civil claims and needs to be established on the balance of probability. English courts take the view that ‘there is no necessary logical connection between seriousness of the allegation and the likelihood of its having occurred, nor should the court talk about more serious allegations requiring more cogent evidence’.
However, in practice, the more serious the allegations, the more exacting English courts tend to be in assessing the evidence in support of such allegations. In cases where an allegation of corrupt intent was advanced by the Financial Conduct Authority (FCA) against an individual, the Court of Appeal stated that ‘the more serious the allegation, the more cogent the evidence must be to overcome the inherent improbability that it occurred. Where, as here, the allegation is of a particularly serious nature, the FCA must well know that it will require evidence of commensurate cogency to make it good. It should consider with great care whether it is appropriate to advance such an allegation . . . ’. Therefore, allegations of fraud are often in practice subject to a heightened level of scrutiny under English law.
A company is only capable of acting through its human agents and primarily its directors. English law has therefore developed a complex regime of attribution of individual knowledge to companies for the purposes of determining whether a company has incurred rights and obligations as a result of actions of the relevant individual.
As noted in Meridian Global Funds Management Asia Ltd v. Securities Commission, ‘the company’s primary rules of attribution will generally be found in its constitution, typically the articles of association.’ In addition, general principles of agency and vicarious liability also function to attribute to a company knowledge of individual actors. Moreover, English courts or a tribunal applying English law can fashion ‘a special rule of attribution’ and decide, as a matter of interpreting a substantive rule, whose act (or knowledge, or state of mind) is for the purpose of applying that substantive rule intended to count as the act of the company. Consequently, the rules on knowledge attribution will inevitably depend on the specific legal issue in question.
In an M&A context, if members of the board of the seller also constitute the majority of the board of the target company and collectively make decisions on behalf of the company, it is possible (if not likely) that the knowledge of the seller will be attributable to that of the target company (and vice versa).
The remedies available under English law largely depend on the nature of the claims advanced. The most common form of remedy sought in an M&A arbitration is monetary damages. Under English law-governed M&A contracts, it is common for a claimant to advance different claims concurrently and seek damages (e.g., a contractual claim for breach of representations and warranties and a tortious claim for fraudulent misrepresentation that induces the claimant to enter into the contract).
In addition to monetary damages, other specific remedies are available under English law as well. If a party is successful in establishing a claim for misrepresentation, it is able to claim rescission and seek to unwind the M&A contract unless a recognised bar to rescission applies. The common forms of bar to rescission include:
- the claimant has expressly affirmed the contract or performs some act inconsistent with an intention to rescind the contract;
- the claimant has delayed in seeking rescission after discovery that there has been a misrepresentation; and
- a bona fide third party for consideration acquired rights in the subject matter of the contract.
In M&A contracts, parties sometimes also use exclusion clauses to preclude rescission as a remedy for misrepresentations. Under the Misrepresentation Act 1967, a court or tribunal applying substantive English law also has a discretion to award damages in lieu of rescission for innocent or negligent misrepresentations even if rescission is otherwise available.
Other specific forms of remedies in M&A arbitration include the following.
- Termination: parties often include in their sales purchase agreement express rights for a buyer to terminate the contract in certain circumstances (e.g., when a seller breaches representations and warranties prior to closing).
- Specific performance: under English law, specific performance is an equitable remedy available if the court or tribunal considers that damages are inadequate to compensate a claimant. In practice, this is likely to only apply when the subject matter of the contract is unique.
When a party is electing to exercise a contractual right or remedy, it is important to consider an evolving body of jurisprudence under English law that imposes restrictions upon a party’s discretion to exercise such contractual rights. In Braganza v. BP Shipping Ltd and Another, the UK Supreme Court held that in some contractual contexts, a party has a duty to exercise its discretion when deciding whether to pursue a contractual right in a way that is not arbitrary, irrational or capricious. In other words, just because the contract provides a right (e.g., a right to termination) does not necessarily mean that such a right is absolute – a party’s ability to exercise that right may be fettered by requirements of reasonableness. Whether such a duty arises in any given contract (including M&A contracts) inevitably depends on all the circumstances and in particular, ‘the characteristics of the parties, the terms of the contract as a whole and the contractual context’. Parties are therefore advised to consider available options and document such considerations before electing to exercise contractual remedies to avoid litigation in this regard.
Measure of damages
In an M&A context, damages are intended to compensate a claimant for the loss suffered rather than punish a defendant. The measure of damages depends on the nature of the claim. Contractual damages are designed to put a claimant in a position he or she would have been in had the contract been performed correctly. Tortious damages, on the other hand, are designed to put a claimant in the position he or she would have been in had the wrong not occurred.
To illustrate the difference in principle in an M&A context: if the claim is for a breach of warranty and representation in the contract, the measure of damages is the difference between the true value of the asset and its value with the quality as warranted in the contract. In contrast, if the claim is for a misrepresentation, the measure of damage is the difference between the true value of the asset and the price paid. As explained above, a claimant is permitted under English law to elect whichever cause of action gives him or her greater recovery of damages.
The extent to which a claimant is able to recover damages under English law is limited by rules of causation, remoteness and mitigation. Generally, the claimant can only recover losses that would not have resulted but for the defendant’s breach or wrong. The claimant is also responsible for taking reasonable steps to mitigate the losses.
The remoteness requirement for tortious damages is less exacting than that of contract. Hadley v. Baxendale provided that heads of loss would only be permitted if they were ‘in the contemplation of the parties’ at the time the contract was made (a subjective test). In contrast, for tort claims the remoteness requirement is satisfied if the loss is ‘reasonably foreseeable’ (an objective test). Consequently, it is sometimes preferable for a claimant to pursue a tortious claim as opposed to a contractual one.
 William Hooker is a partner and Irene Ding is an associate at Boies Schiller Flexner (UK) LLP.
 See Mergermarket’s Global & Regional M&A Report 2019: www.mergermarket.com/info/2019-global-ma-report-financial-league-tables.
 Derry v. Peek (1889) App Case 337.
  EWCA Civ 413 at .
 HIH Casualty General Insurance v. Chase Manhattan  UKHL 6.
 Smith New Court Securities Ltd v. Scrimegour Vickers (Asset Management) Ltd  AC 254.
 Sykes v. Taylor Rose  EWCA Civ 299.
  EWHC 111 (QB) at .
 Vald. Nielsen Holding A/S v. Mr Victor Baldorino  EWHC 1926 (Comm) at .
 ibid. Also see Re B  1 AC 11 at  and .
 Burns v. Financial Conduct Authority  EWCA Civ 2140 at .
  2 AC 500.
Rescission is also available in other circumstances such as when a claimant enters into a contract under duress or undue influence. However, these circumstances are unlikely to exist in complex M&A transactions.
 Sharpley v. Louth and East Coast Ry (1876) 2 Ch. D. 663.
 Clough v. London and Northern Western Railway Co (1871) LR 7 Ex 26 at : ‘When the lapse of time is great it probably would be treated in practice as conclusive evidence of [a decision to affirm the contract].’
 Scholefield v. Templer (1859) 4 De G. & J. 429.
 Section 2(2) of the Misrepresentation Act 1967.
 Rainbow Estates Ltd v. Tokenhold Ltd  Ch 64.
  UKSC 17 1661.
 Equitas Insurance Limited v. Municipal Insurance Limited EWCA Civ 718 at .
 Wemyss v. Karim  EWCA Civ 27 at  demonstrates how the contractual and tortious measures of damages may differ in reality: ‘Suppose that A owns a painting that he tells B was painted by a famous artist. If it had been, it would be worth £10,000. B pays £8, 000 for it. It was not in fact painted by the famous artist and was only worth £100. If B can establish that what A said was a contractual warranty, then he is entitled to £10,000 – £100 = £9,900. But if he can only establish that the statement was an actionable misrepresentation, then he is entitled to £8,000 – £100 = £7,900, although if the misrepresentation was (or is treated as) fraudulent he may be entitled to consequential losses as well. Changing the facts, perhaps unrealistically, if the painting as warranted would have been worth £10, 000 but is in fact worth £8,000, then on the contractual measure the buyer who paid £8,000 will recover £2,000; but on the tortious measure will recovernothing.’
 See John Mowlem Construction plc v. Neil F Jones & Co  EWCA Civ 768.
 (1854) 9 Ex341.
 Wagon Mound (No 1)  AC 388.