Parties, usually have recourse to a contract with the aim of avoiding as much as possible litigation in the future. A head of agreement is an example of a contract commonly used by parties as a vehicle through which they agree to enter into another agreement. And as its name suggests and contrary to what some might think, it is a binding contract.
However, when a contract is poorly drafted, the potential of a dispute being litigated in court, becomes inevitable. This has certainly been the case in ASSK Investments Pty Limited v AMA Group Limited [2020] NSWSC 1756 (7 December 2020).
The facts giving rise to the dispute are as follows. A vendor has sued a purchaser for specific performance of an agreement which was executed on 31 October 2019. The written agreement was entitled “Binding Heads of Agreement” (the HOA). The Vendor also sought damages as an alternative remedy. Pursuant to the HOA, the parties agreed to enter into a Business Sale Agreement.
One clause of the HOA (Clause 7) which required that all necessary third-party consents, authorisations and approvals be obtained including the Purchaser’s Board approval, gave rise to the dispute.
It is noteworthy that Clause 7 was headed “Conditions Precedent”. However, the HOA was silent on the time within which any of the conditions in Clause 7 must be met. The HOA also fails to specify which is dependent upon the fulfilment of the conditions contained in Clause 7. Furthermore, Clause 13 which is headed ‘Definitions and interpretation’ stated that Conditions Precedent is defined in Clause 8 when in actual fact, it is not. Thus, the expression “Condition Precedent” is not defined.
On 9 January 2020, the Chief Executive Officer of the purchaser phoned the director of the Vendor and told him that the purchaser could no longer proceed with the deal. The reason provided by the purchaser is that they were not satisfied with their due diligence enquiries. Another reason provided is that the purchaser’s board has not approved the purchase and has decided not to proceed with such purchase. What happened in reality, was that the Board of the purchaser has not actually determined not to proceed with the transaction.
Findings
The Court held that a HOA is a commercial contract which is to be given a business-like interpretation. When interpreting a HOA, one must look at the language used by the parties, the commercial circumstances which it addresses and the objects which it is intended to secure.
The words used are to be interpreted objectively by reference to the text, context and purpose. The question is what a reasonable person would have understood such words to mean.
A Court will thus interpret a HOA in a way that ensures a congruent operation to the various components of the whole, and that avoids commercial inconvenience. When the language is open to more than one construction, the Court will prefer a construction which avoids capricious, unreasonable, inconvenient or unjust consequences.
The Court helpfully gave a negative definition of a HOA. Indeed, the Court held that a HOA is not an agreement under which the Vendor bounds itself to sell but the purchaser did not bind itself to buy.
The Court also stated that the object which the HOA intended to secure is the sale and purchase of the business, not the gathering of information by the purchaser for due diligence purposes to enable such purchaser to make a decision on whether or not to proceed with the acquisition of a business.
Furthermore, the Court held that the HOA in question, did provide comprehensively for the sale and purchase of the business. Indeed, the HOA contained a machinery for the ascertainment of the purchase price, a mechanism for resolving dispute on the value of work in progress, comprehensive warranties, a restraint, and the possibility for the purchaser to insert further warranties which it considers necessary. Thus, by reason of the comprehensiveness of the HOA, the Court opined that it was capable of operating as an effective sale which dispensed the need to enter into any further agreement. This, however does not sit quite comfortably with the fact that the HOA contemplated the entry into subsequent Business Sale Agreements. The Court’s decision to disregard the contemplation by the HOA of the entry into subsequent Sale Agreements, is nevertheless well founded. Indeed, the execution of those agreements is not a precondition for a binding sale.
The Court further held that if Clause 7 was a condition precedent to anything, it was to the entry into of the further Business Sale Agreements, not the sale transaction. The result of non-approval by the board is simply that there will be no further Business Sale Agreement and the sale transaction is governed by the HOA on its own.
Clause 7, among other things, required the transfer of Business names, domain names, the change of names and the transfer of key personnel. In this regard, the Court held that if these were a condition precedent to the sale, the Vendor may transfer the things alluded to in Clause 7 and if the Board did not approve the sale, the purchaser would have the vendor’s property and personnel and the vendor would have no agreement to enforce.
The Court further observed that as Clause 7 also required vendor employees to continue employment with the purchaser for a maximum period of 12 months following the completion date, this condition cannot be rationally viewed as one precedent to a sale transaction as the fulfilment of the condition would occur after the sale transaction is completed.
Another point made by the Court which is at the intersection of corporate and contract law, is that a board approval is not necessary when a HOA has been signed by a director and the company secretary with the authority of directors.
Key takeaways
A HOA cannot be used as an instrument through which a purchaser gathers information for due diligence purpose before such purchaser decides whether or not to proceed with the acquisition of a business.
In determining the effect of a HOA, the Court will take into account the level of details in such HOA. The more comprehensive a HOA, the more likely a Court will regard a HOA as sufficient on its own to effect a sale, without the need to enter into a further agreement.
If as a purchaser you enter into a HOA but wish to subject it to the entry into further agreements, it is recommended that a HOA expressly specifies the entry into subsequent agreement as being a condition precedent to the acquisition of a business.
A contractual clause which requires the obtention of a board approval of a transaction will not operate as a condition precedent if a HOA has been entered into and signed by a director and a company secretary on behalf of a company.
By Samar Ashour
Paralegal, The IP House Lawyers