Plaintiff v Defendants

Plaintiff v Defendants - [2009] VSC 235 - VSC 2009 case summary — Zoe

[26]

19 At the very least there was imposed upon Network an obligation to act in its own interest by reference to a standard of reasonableness.[10] In that regard I draw attention to a number of matters in the definition of the words "Material Adverse Effect" in clause 1.18 which was incorporated into clause 5.4.2. First, that the definition of "Material Adverse Effect" was not expressed to be inclusive with its meaning at large. Secondly, and significantly, that a necessary condition to the existence of a material adverse effect (as defined) was an hypothesis of what Network "would have" sought to do presupposing Network "acting reasonably".[11] The need to determine the existence of a material adverse effect by reference to a standard of reasonableness suggests an objective standard,[12] and, at very least, prevented Network's reliance upon a contractual hypothesis that was not reasonable. Thirdly, that the definition of a material adverse effect depended upon the predication or prediction that Network (upon the test of reasonableness just described) "would have sought" to reduce the relevant price. The use of the words "would have" may be usefully contrasted with such other words as could have been, but were not, used like "might have sought" or "could have sought". The words "would have" are words requiring a confident prediction about what Network would have done in the circumstances approximating certainty and not mere possibility.[13] Fourthly, that the definition contemplated the prediction that Network would have sought a reduction of the purchase price of an amount capable of calculation to some degree of precision; that is to say, the definition contemplated that it would be possible to predict that Network would have sought a reduction of "the amount" of the purchase price, if not by an exact figure (as the use of the definite article might ordinarily suggest), but at least by some amount capable of calculation in excess of $500,000. Fifthly, that the result that Network would have sought to reduce the purchase price was a result caused by objective information, namely that "disclosed by or identified during the due diligence process"; that is to say, that the occasion of the awareness of a material adverse effect had to be found in objective facts and circumstances capable of identification. Sixthly, that the adverse effect which permitted Network to give a notice under the clause was both described as "material" and specifically defined as being "more than $500,000".

[31]

22 It is arguable that clause 5.4.2 permitted the giving of notice of a material adverse effect from information disclosed or revealed only in the final due diligence. That may be so because the further written notice contemplated in clause 5.4.2 was expressed as an obligation upon Network to give notice as to whether or not the final due diligence had revealed a material adverse effect. In other words, the clause is expressed to require notification of a narrower and more specific matter than the definition of Material Adverse Effect that clause 1.18 contemplated. The definition in clause 1.18 was not limited to Network becoming aware of matters only by or from "the Final Due Diligence" but, rather, from cumulative information disclosed by or identified during both the initial due diligence and the final due diligence. It is not entirely clear whether the drafting of clause 5.4.2 was intended to restrict Network in giving a notice under clause 5.4.2 solely to what may have been revealed by the final due diligence. If so, there might be a mismatch between the occasion for the further notice under clause 5.4.2 and the broader inquiry permitted by the definition of material adverse effect in clause 1.18. For present purposes, however, one may accept a construction favourable to Network namely that the obligation in clause 5.4.2 adopted fully the definition of Material Adverse Effect in clause 1.18 such that the further notice under clause 5.4.2 permitted revelation of a material adverse effect, not only from what had been revealed by the final due diligence, but more broadly, from information disclosed by or identified during the initial due diligence and the final due diligence process. I take this approach because counsel for the defendants appeared to accept that construction in oral submissions and because the point was not otherwise addressed by the parties. I should say, however, that if I am wrong in that approach then the case for the defendants is appreciably stronger; that is, that the reasons which led me to conclude against Network have greater force if the proper construction of clause 5.4.2 limited the further notice "to whether or not [only] the Final Due Diligence [had] revealed a Material Adverse Effect" without regard to what might have been revealed by or through the initial due diligence. I should add, however, that although the construction is not one which I adopt, it is one which has much to commend it, especially in light of the pre-contractual evidence before the MOU was executed that Network would not seek to reduce the purchase by reason of information supplied and obtained through the initial due diligence.

[37]

28 Whether Network would have sought to reduce the amount of the defined purchase price by more than $500,000 "acting reasonably" also requires a consideration of all of the facts and circumstances within which the MOU was entered into. The agreement reflected in clause 1.18 was not designed as an abstract exercise in accounting but was the result of commercial parties striking a bargain to secure their respective interests. Network, and Mr Cook in particular, was always aware that Mr Speck and Mr Jarick were keen to sell the shares and interests in the Adspace business and that they were not prepared to deal exclusively with Network. The essence of the MOU was to give to Network an entitlement to purchase the business and assets at an agreed price subject, of course, to due diligence. The MOU, therefore, secured for Network a bargaining position that gave it an entitlement over and above any other potential purchaser by being able, provided the terms of the MOU were complied with, to require a sale to itself at an agreed price. For its part, however, Network needed to secure the funds that would permit it to complete the proposed purchase. The fulcrum to the deal (and the balance of the competing interests struck) was that the agreed purchase price would be within a range of $500,000 after completion of the due diligence process. Each party assumed its risk through the definition of material adverse effect in clause 1.18 upon the assumption that all parties were otherwise ready, willing and able to perform. The evidence, however, reveals that Network was not able to perform because it did not have in place the financial accommodation from financiers needed to complete the transaction. It is that inability which led Network to give notice of a material adverse effect. Network was obliged by clause 5.6 to provide the Finance Warrant and Supporting Verification (as defined) within one day of giving notice under clause 5.4.1 that the process of Final Due Diligence had been completed. Network was not able to do so.

[38]

29 The MOU had imposed a tight timetable for the parties to undertake due diligence in anticipation of final contracts and sale. The process of information gathering, however, had begun several months previously. Indeed, it is important to bear in mind that the proposed purchaser (Network) was experienced and established in the same industry as the business and assets it sought to acquire. Network was not a novice entering into an unknown market or a new business operation. Rather, it knew full well the nature and basis upon which the Adspace business was conducted. Mr Speck gave evidence that he had sent Mr Cook an information pack containing colour photographs of all the Adspace advertising sites with their location, details and sizes, as early as July 2005. Further site information was provided to Mr Cook by Mr Speck on 22 July 2005. This information bore upon the risks of the sites at least in relation to such matters as any redevelopment risks which figured so largely in the notes upon which Mr Cook subsequently relied and the evidence he gave in his witness statement. Two witnesses, proffered by the parties as expert witnesses, each gave evidence that risks of redevelopment should have been identified early in Network's consideration. Indeed, one might think it curious that so much emphasis could have been placed by Mr Cook so late in the contractual process upon redevelopment risks since, of their nature, they were the kind of risks which to some extent would depend upon matters capable of being inquired into by Network making its own enquiries at an early stage. Indeed, the initial due diligence team assembled by Network around 19 October 2005 had included Mr Hart to assist Network with questions about Melbourne metropolitan sites. In that regard I note that Mr Hart was not called by Network to give evidence although he was still employed by Network, lived in Melbourne, and was thought by Mr Cook (on his own evidence) to be sufficiently important to participate in the initial due diligence because of his knowledge of the Melbourne metropolitan sites of Adspace.

[39]

30 The way in which the redevelopment risks were subsequently dealt with in the report by Mr Tembel of the final due diligence, and by Mr Cook, tells against the reasonableness of Network's behaviour (both the hypothetical behaviour contemplated by clause 1.18 and in fact) in a variety of ways. In that regard it may be useful to draw attention to one of the sites by way of illustration. Site numbered "M45" was described as "Southbank, 31-49 Queensbridge Street" in the spreadsheet prepared by Network as the basis upon which to strike the purchase price. It was identified both in Mr Cook's notes and in his witness statement as one of those he purported to identify for his conclusion that at least a quarter of the sites had a redevelopment risk. His notes identified the value ascribed to that site as $985,558. That appears in his notes under the heading "Reference 1.3.11", being a reference to the paragraph of that number in the report provided by Mr Tembel. The paragraph in Mr Tembel's report does identify "M45" as "not secure because the sites are subject to early termination for redevelopment purposes". In fact, however, "M45" had not been valued for $985,558 but for $317,097. It is "M44" (described in the spreadsheet as "Melbourne, 474 Flinders Street") which was valued at $985,558, although it was not identified as at redevelopment risk. Indeed, the lease summary for site "M44" specifically identified no redevelopment risk for that site. The redevelopment risk identified for site "M45" in the legal due diligence report of Mr Tembel was, consistent with an analysis of leases, merely a reference to a clause in the relevant lease that the entitlement to use the space might cease if for any reason the lessee was unable or not permitted to erect or exhibit illuminated advertisement at all on the sign or was required by law to remove the structure. In other words, the risk stated in the report was a potential risk that could occur if another circumstance were to arise. There was, so far as I am able to discern, no evaluation whatsoever undertaken on behalf of Network of any actual risk of redevelopment.

[52]

37 I do not consider it strictly necessary to consider whether Mr Cook, or anyone else at Network, actually did turn his mind or their minds to whether the purchase price ought to have been reduced by more than $500,000. That is because the view I take of the construction of clause 1.18 is that the test is to be determined objectively by seeking to hypothesise what Network would have done (rather than what it did) based upon the information of which it became aware during the due diligence process. However, I would not accept the evidence of Mr Cook if I were required to consider the matter from the point of view of whether he, or anyone else at Network, actually had taken the view that Network would actually have sought to reduce the amount of the contracted price by more than $500,000. In that regard I find it unlikely that Mr Cook would have formed the view which he asserted to have formed, in the context of such eagerness by Network to secure the Adspace assets based upon information which had been available to Network before entering into the MOU and which by 25 October 2005 Network had indicated would not be relied upon to reduce the purchase price. Furthermore, I formed the view that Mr Cook's evidence was generally unreliable. On a number of occasions the evidence in his witness statement was couched in terms to convey assertion or inference which I found was not borne out by contemporaneous or other evidence. In that regard I note that on at least two occasions Mr Cook's witness statement purported to convey the inference that the dealings between Network and the defendants had agreed to be on the basis of exclusivity of dealings between them. The evidence does not bear that out and, rather, is clearly to the contrary. It was always clear to Network (and in particular to Mr Cook) that the defendants were not willing to negotiate for a sale with Network to the exclusion of other potential purchasers. It is also clear that it was known to Network (and in particular to Mr Cook) that the defendants had been dealing with other potential purchasers. What Network had secured was an entitlement to purchase at an agreed price provided that the terms of the MOU were complied with (including the results of the due diligence). That gave Network a measure of contractual comfort and certainty as against any other potential purchaser who might well have offered more but who did not have the right to compel performance on the MOU. Network's right was, however, conditional upon the terms of the MOU which, as events turned out, it was not able to satisfy.

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Judgment (96 paragraphs)

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Cases Cited (7)