When you buy a business, the seller gives warranties: statements of fact about the company, its accounts, its contracts, its employees, its disputes. If a warranty turns out to be untrue the buyer can sue the seller for the loss caused. The disclosure letter is the seller’s list of exceptions. The warranty says there’s no litigation; the disclosure letter says, actually, here’s a claim from a former employee, and here’s the correspondence. Once something has been disclosed, the buyer can’t sue on it, because they knew about it.
Most disclosure letters have two parts. Specific disclosures are the ones I’ve just described: a particular fact, disclosed against a particular numbered warranty, usually with a document attached. General disclosures are the other part, and they’re the ones buyers tend to skim past because they look like boilerplate. They aren’t. A general disclosure is a set of matters deemed to have been disclosed against every warranty in the agreement, whether or not anyone has drawn them to your attention.
What general disclosures usually say
A typical set will deem disclosed the contents of the statutory books, the filed accounts, the results of public searches (Companies House, the Land Registry, sometimes the courts), everything in the data room, and everything in the disclosure bundle. More aggressive versions add anything the buyer’s advisers were told during due diligence, anything in the buyer’s own due diligence reports, and the old favourite, all matters the buyer would have discovered on reasonable enquiry. Some go further and say that any specific disclosure applies to every warranty, not just the one it was made against.
Each of these has a rationale from the seller’s side. The seller has put a great deal of information in front of the buyer, and doesn’t want to be sued over something that was there to be read. That’s not unreasonable. The problem is proportion.
Why buyers should push back
A general disclosure of the entire data room means that a single line on page 340 of a 400-page supplier contract, uploaded three weeks before completion, has qualified the warranty you negotiated for. You’ll never have read it. Your lawyers may not have read it either, because due diligence is sampled, and everyone knows it’s sampled. The warranty was supposed to cover that risk. If the data room is deemed disclosed, it doesn’t.
The “reasonable enquiry” limb is worse, because it isn’t tied to any document at all. It invites an argument, after the event, about what a diligent buyer should have found out, which is the argument warranties exist to avoid.
Cross-application is the sleeper. If a disclosure about a customer contract is deemed to apply to every warranty, then the tax warranties, the employment warranties and the IP warranties are all qualified by a document nobody thought was relevant to them. On a recent matter I reviewed a letter where the general disclosures included a cross-application clause and two sweep-up disclosures referring to a bundle that didn’t exist in any indexed form. The buyer would have been warranted against documents nobody could identify. I don’t think the seller’s side intended that; it was a precedent that hadn’t been thought about.
What the courts have said
The traditional standard is that disclosure must be fair, with sufficient detail to identify the nature and scope of the matter disclosed. That line comes from a Scottish case, New Hearts v Cosmopolitan Investments, and from Levison v Farin before it, and it’s a sensible starting point. But the Court of Appeal in Infiniteland v Artisan Contracting made the point that the standard of disclosure is whatever the contract says it is. If the agreement says the data room is disclosed, the court will give effect to that, and the buyer’s knowledge, including its advisers’ knowledge, may be enough to defeat a claim even without a formal disclosure. So the general principle helps a buyer less than people assume. The drafting is what matters.
What to ask for instead
The buyer’s position, put simply, is that anything the seller wants to rely on should be identified. So the definition of “Disclosed” should require fair disclosure with sufficient detail to identify the nature and scope of the matter. The disclosure bundle should be a physical or electronic bundle with an index, agreed and initialled at exchange, not “the data room” in the abstract. Public searches should be limited to named registers on a named date, so you can check them. The reasonable enquiry limb should go. Specific disclosures should apply to the warranties they’re made against, plus any others where the relevance is obvious from the disclosure itself, and no further. And the buyer’s own reports should never be deemed disclosed; those are your work product, not the seller’s.
I should be honest that I act for sellers more than buyers, and when I’m on the sell side I ask for most of the things I’ve just told you to refuse. The tension is real. My experience is that a seller who has done thorough specific disclosure has much less need of the sweep-up, and a buyer who insists on a proper indexed bundle usually gets a better disclosure letter as a result, because it forces the seller to actually go through things. The middle ground most deals land on is an indexed bundle with a cut-off date, a fair disclosure standard, and general disclosures limited to the accounts, the statutory books and named public searches.
I run a training course on disclosure letters for other solicitors, and the general disclosures are the section that generates the most questions, usually along the lines of “we’ve always accepted that, is it a problem?”. It’s a problem when the warranty claim arrives, and by then it’s rather late.
