When selling your business, it is of utmost importance to ensure that the information you provide to a potential buyer is both truthful and accurate. Providing false or misleading data can be construed as engaging in deceitful and fraudulent conduct. This can, and often does, lead to severe legal repercussions! In this article, we will delve into some crucial considerations that must be taken into account before you sell your business. Furthermore, we shall examine a real life case from 2022 where a business owner was charged with fraudulent and deceitful conduct in the context of a business sale agreement.
When preparing your business for sale, it is critical to provide the purchaser with precise and accurate information. This allows the buyer to assess the true value of the business, enabling them to determine whether they wish to proceed with the acquisition. The importance of this can be seen by looking at a 2022 case heard in the Supreme Court of NSW Australia:
The seller presented the buyer with documents and financial statements relating to the operation of the business. Based on this confidential information, the purchaser sought an appraisal of the business and subsequently made an offer to acquire it. However, upon operating the business for some time, the purchaser discovered that the business did not perform at the level that the financial statements had suggested. As a result, the purchaser filed a claim against the seller for engaging in deceitful and fraudulent conduct. Furthermore, the purchaser argued that had they known the true financial position of the business, they would have never entered into the transaction.
In order to establish whether someone has engaged in deceitful and fraudulent conduct, a specific process must be followed.
First, it must be established that the conduct occurred.
Second, it must be considered whether there is a 'real and not remote' chance that this conduct will mislead or deceive. The intention behind the conduct is irrelevant
Third, it must be determined whether the conduct occurred 'in trade or commerce'. This is a broad concept that is likely to include a business sale transaction.
In the case described above, the purchaser proved that the financial statements were inaccurate. In response, the seller claimed that they had relied on their accountant to prepare the financial statements. Furthermore, the seller claimed that as far as they were aware, the accountant had prepared the financial statements using the same process as usual, which always produced correct documentation. The Court determined that this was not a valid defense, and that the vendor had engaged in deceitful and fraudulent conduct. Had the vendor disclosed the actual figures in the financial statements, the value of the business would have been much lower, and the purchase price correspondingly reduced.
In nearly all business sale agreements, the vendor and purchaser provide some form of representation and warranties. This can be as early on as when the MEMORANDUM OF UNDERSTANDING is provided. For instance, as a vendor, you might ask the purchaser to provide a warranty stating that they will not rely solely on the information you provide them. Instead, they will need to conduct their investigations into the business. Additionally, it is common for the vendor to try and limit their liability to the representations and warranties within the contract alone.
In the aforementioned case from 2022 that was ruled by the Supreme Court of NSW, the purchaser provided a warranty that their decision to purchase the business was based on their own investigations. Further, the warranty stated that the purchaser was not induced to enter into the sale agreement by any representations or warranties other than as set out in the sale agreement. So the seller got off "scot-free", yes? No. In this case, the court did not find this warranty to be a suitable defence to the vendor's conduct, nor did it limit the seller's liability.
If you are selling the business with an existing lease in place, the terms and conditions of the lease must be taken into consideration. Make sure you do not warrant anything regarding a leased premises, that will be outside your ability to control.
Here are some strategies you can follow to ensure your representations are accurate:
Outcome of the NSW Case
In the aforementioned case from 2022, the Supreme Court of NSW held that the purchaser was entitled to damages payable by the vendor due to the following:
Firstly, the interest incurred by the buyer on the sale amount since the date of purchase.
And secondly, the reduced value of the business based on accurate trading information.
In the end, the seller had to pay over $1 million in damages to the buyer, as well as the buyer's legal costs.
Conclusion
Fools rush in. If you're looking to sell your business, first ensure that regardless of who is preparing your financials, that they are 100% accurate. Even if a third-party accountant or solicitor is preparing this for you, as the seller you are ultimately liable for any representations made to the buyer. If you'd like to speak with an experienced business broker, our team would be glad to have confidential and obligation free discussions with you about selling your business.
A court could determine that you have engaged in deceitful or fraudulent conduct if you have provided false data to a buyer that materially impacts the sale price of the business. So before you share data with prospective buyers ensure your financials, representations or warranties are accurate and can be substantiated with data.
