In Wood v Sureterm Direct Ltd  & Capita Insurance Services Ltd [2015] EWCA Civ 839, Capita purchased the entire issued share capital in Sureterm from Wood and others (the “Sellers”).   Sureterm was an insurance broker, primarily in the classic cars market. Under clause 7.11 of the sale and purchase agreement (“SPA”) the Sellers agreed to indemnify Capita against:

“all actions, proceedings, losses, claims, damages, costs, charges, expenses and liabilities suffered or incurred, and all fines, compensation or remedial action or payments imposed on or required to be made by [Sureterm] following and arising out of claims or complaints registered with the FSA, the Financial Services Ombudsman or any other Authority against [Sureterm], the Sellers or any Relevant Person and which relate to the period prior to the Completion Date pertaining to any mis-selling or suspected mis-selling of any insurance or insurance related product of service.”

The SPA also contained the following warranties:

• that Sureterm conducts, and had conducted, its business in accordance with all applicable financial services laws; and
• that Sureterm had no reason to believe that any action would be taken against it in relation to any of its current or past activities based on any alleged non-compliance or infringement of any applicable financial services laws.

After completion of the acquisition, various employees of Sureterm raised concerns about Sureterm’s sales processes; specifically, that some customers had paid considerably more than what they were quoted with no change in risk or underwriting premium.  In response to these concerns, Sureterm carried out a review of its sales, and reported its findings to the FSA in accordance with its regulatory obligations.  The FSA found, amongst other things, that Sureterm had taken unfair advantage of customers by misleading them, by manipulation of risk data, by taking advantage of vulnerable customers and through undertaking pressurised selling techniques.  The FSA concluded that customers had been treated unfairly, that detriment occurred and redress was due. As a result, Sureterm was required to undertake a customer remediation exercise, which included paying approximately £1.35 million in compensation.  Capita sought to claim this amount, together with costs relating to the remediation scheme and interest, from the Sellers under the indemnity.

The Sellers disputed Capita’s claim, arguing that the indemnity should be construed so that the words “following and arising out of claims or complaints registered with the FSA, the Financial Services Ombudsman or any other Authority against [Sureterm], the Sellers or any Relevant Person” limited each of the preceding categories of loss listed before them.  In other words, the indemnity only applied to losses arising out “claims or complaints”, and not where Sureterm itself had reported mis-selling, as had occurred on the facts of the case.

Capita contended that the words relating to “claims or complaints” should be construed as only applying to the second part of the indemnity, so that it should be read as follows:

“The Sellers undertake to pay to the Buyer an amount equal to the amount which would be required to indemnify the Buyer and each member of the Buyer’s Group against

1. all actions, proceedings, losses, claims, damages, costs, charges, expenses and liabilities suffered or incurred, an
2. all fines, compensation or remedial action or payments imposed on or required to be made by [Sureterm] following and arising out of claims or complaints registered with the FSA, the Financial Services Ombudsman or any other Authority against [Sureterm], the Sellers or any Relevant Person
3. and [in each case] which relate to the period prior to the Completion Date pertaining to any mis-selling or suspected mis-selling of any insurance or insurance related product or service.”

The High Court agreed with Capita’s construction, on the basis that:

• the structure of the clause suggested that part (2) of clause 7.11 was merely illustrative of the scope of part (1);
• there was no good reason why the “happenstance” of what triggered an FSA investigation should be determinative of whether the Sellers were obliged to indemnify Capita in respect of a claim; and
• there were a number of more minor linguistic and syntactical points which supported Capita’s construction, including the comma after “incurred” at the end of (1), the absence of any such comma after “Company” in (2) and the fact that the Sellers’ construction would lead to tautologous cover for “claims…arising out of claims”.

In a unanimous judgement, the Court of Appeal reversed the High Court’s decision, preferring the Sellers’ construction of the indemnity.  The Court interpreted clause 7.11 as only giving rise to a liability of the Sellers where there was a “claim or complaint registered with the FSA, the Financial Services Ombudsman or any other Authority against [Sureterm], the Sellers or any Relevant Person”.  The Court of Appeal reasons for its decision are set out below.

• The indemnity was supposed to cover two categories of loss or event, namely, (1) “all actions, proceedings …suffered or incurred” and (2) “all fines, compensation or remedial action …required to be made by [Sureterm]“.  The subject matters of the indemnity were then qualified by the requirement that they must be: (a) “following and arising out of claims or complaints registered with the FSA etc. against [Sureterm], the Sellers or any Relevant Person“; (b) and “which relate to the period prior to the Completion Date“; and (c) “pertaining to any mis-selling of any insurance or insurance related product or service“.  Therefore, on the Court’s interpretation of the drafting, both categories of loss/event were subject to the three conditions which followed.
• The Capia construction had the effect that, if there was an action by a customer which did not involve a claim or complaint registered with the FSA or any other Authority, and in relation to which they have played no part, then there was no part of the clause which specified which entity that action had to be brought against. This would render the indemnity incoherent;
• The tautology in the Sellers’ construction did not, as the High Court had found, question its validity.  Tautology in commercial contracts is not unknown and inherently more likely when there is a degree of “verbal exuberance”.  There could be a claim arising out of a complaint registered with the FSA if the necessary causal connection was established – for example, if the client complains to the FSA and is told that his remedy is to bring a legal claim.  Further, there could be a claim arising out of a prior claim against Sureterm for legal redress.  The Court also opined that the “erratic” use of commas in the indemnity clause was not determinative as to its meaning.
• The buyer had other potential courses of action open to it in relation to mis-selling, namely a claim for breach of warranty.  A warranty claim would have been available to Capita provided that it gave notice of such a claim within two years following completion.  The indemnity in clause 7.11 was not subject to any time or monetary limit and therefore it was unsurprising that the parties would restrict recovery under that clause to claims brought by a client and exclude other claims.   The fact that the deal may have been, in this respect from Capita’s view, a poor one, should not dictate a different interpretation from that which the Court had derived from the words used.

The Court also emphasised that care must be taken in using “business common sense” as a determinant of construction.  The Court will not be aware of the negotiations between the parties.  What may appear, at least from one side’s point of view, as lacking in business common sense, may be the product of a compromise which was the only means of reaching agreement.  In addition, a Court should be slow to re-write a contract to assist a party who made a poor bargain.  Business common sense and surrounding circumstances should not be invoked to undervalue the importance of the language of the clause which is to be construed.

Comment

This case is a stark reminder that, when construing a contract, the Court will look first and foremost to the ordinary meaning of the words used.

A Court will only invoke “business common sense” as an aid to construction where the words are sufficiently ambiguous, and will certainly not do so in order to re-write a poor bargain. In addition, although one senses a degree of contra proferentem (interpretation against the person who suggested the wording) in the Court of Appeal’s judgement, the case illustrates that Courts are likely to interpret indemnities narrowly (particularly where there is parallel warranty cover in the parties’ agreement).

This means that it is crucial that the drafting of all indemnity clauses, which are typically inserted to address key risks, is as clear as possible.  When such clauses are in draft form, they should be fully considered and read “in the round” to ensure that they capture all relevant losses in context of how those losses are likely to arise.  Where a clause is intended to capture a range of types of losses, which in turn may arise from a variety of different events, it may be preferable to break down the clause into a number of separate sub-clauses for clarity.

For more information, please contact Adam Kuan, Corporate associate

• Share this blog

• Twitter
• Facebook
• Linkedin