Court of Appeal upholds High Court’s decision on the preferred contractual construction of a term in an exclusion clause

The Court of Appeal has upheld the High Court’s decision on a claim involving the legal meaning of ‘goodwill’ and the contractual construction of an exclusion clause excluding liability for lost goodwill: Primus International Holding Co & Ors v Triumph Controls – UK Ltd & Anor [2020] EWCA Civ 1228.

In doing so, the Court of Appeal has confirmed that (unless there are clear words to the contrary in a contract) the ordinary legal meaning of a particular term will be preferred to an unusual, technical or non-legal meaning. The Court of Appeal agreed, in this case, that the ordinary legal meaning of ‘goodwill’ applied to the exclusion clause under consideration as opposed to the technical accounting definition advanced by the defendants; there were no indications otherwise to suggest that the technical definition should be preferred.

This decision will be of broader interest to financial institutions as it underlines the importance of careful drafting, particularly if a contract is to refer to a financial term of art or ‘jargon’. If the parties wish for an unusual, technical or non-legal meaning to be attributed to a particular term rather than the ordinary legal meaning, the approach taken by the Court of Appeal makes it clear that it would be wise to define that particular term clearly.

Background

The Triumph companies (the claimants) entered into discussions with the Primus companies (the defendants) in relation to the potential acquisition of two aerospace manufacturing companies in 2012. As part of the discussions, the defendants provided the claimants with a set of financial forecasts for the target companies extending to 2017. These were known as the “Long Range Plan” (LRP) and predicted that the target companies would be profitable in the future. In 2013, the claimants completed their USD 76.5 million acquisition of the target companies through a SPA. Following completion, the claimants discovered significant operational and business issues at the target companies, which led to a failure to meet their forecasted earnings and their performance did not match that predicted by the LRP.

The claimants subsequently brought a USD 63.5 million damages claim against the defendants alleging that there had been a breach of the warranties given in the SPA, in particular that the LRP had not been “honestly and carefully prepared”.

The defendants sought to rely on certain exclusions of liability in the SPA to defeat that claim. The provision which was relied on and subject to the appeal was an exclusion clause which excluded liability “to the extent that…the matter to which the claim relates…is in respect of lost goodwill”. The defendants argued that the reference to ‘goodwill’ here was a reference to the accounting concept of goodwill, namely an “intangible asset recorded when a company acquires another company and the purchase price is greater than the sum of the fair value of the identifiable tangible and intangible assets acquired and the liabilities that were assumed”.

High Court decision

The High Court found that the defendants were in breach of warranty for failing to prepare the LRP with care. The High Court commented that the LRP failed to take into account key operational and financial assumptions relating to planned transfers of productions lines relating to the target companies. As a result, the LRP overestimated the rate at which production could be transferred and overstated the future profitability of the target companies. The High Court concluded that the purchase price paid by the claimants for the target companies would have been lower if they had been provided with a proper LRP and awarded the claimants damages on that basis.

The High Court rejected the suggestion that the exclusion of claims “in respect of lost goodwill” could be relied upon by the defendant to defeat the claims for breach of warranty as the claims were not for lost goodwill, but rather lost revenues and increased costs. In reaching its decision, the High Court determined that the plain and natural meaning of ‘goodwill’ in a commercial contract is business reputation.

The defendants appealed on a number of matters, but were only granted permission to appeal on the true meaning and effect of the exclusion clause that they had relied upon.

Court of Appeal decision

The Court of Appeal held that the High Court was right to prefer the claimants’ definition of ‘goodwill’ and their construction of the exclusion clause.

The Court of Appeal agreed that the ordinary legal meaning of ‘goodwill’ in a commercial context meant the good name, business reputation and connection of a business, and that the authorities overwhelmingly pointed to this conclusion. The Court of Appeal also examined other parts of the SPA to see how ‘goodwill’ was construed and found that it was used in way that was consistent with its ordinary legal meaning. In the Court of Appeal’s view, there was no reason to depart from the ordinary legal meaning of the word when construing the exclusion clause or to utilise the accounting definition of the term (as suggested by the defendants).

Furthermore, the defendant’s meaning of goodwill was also not a commercially sensible one as it would mean that any claim for breach of warranty not relating to existing assets would be covered by the all-encompassing accounting definition of ‘goodwill’ and therefore be excluded by the exclusion clause; thereby depriving the claimants of most of the force and protection of the warranties in the SPA without any clear words to that effect. In support of its reasoning on this point, the Court of Appeal relied on the view of Briggs LJ in Nobahar Cookson and Another v Hut Group Ltd [2016] EWCA Civ 128: “the parties are not likely to be taken to have intended to cut down the remedies which the law provides for breach of important contractual obligation without using clear words having that effect”.                                                                       

The Court of Appeal therefore dismissed the appeal. On the facts, this was plainly the correct decision. However, parties to financial contracts in particular will want to take note of the observation made in the Court of Appeal’s reasoning that if a contract wishes to include a term which has an unusual, technical or non-legal meaning, that must be spelt out.