Key issues:
- In the process of enticing a buyer, sellers will always be eager to present their business in the best possible light.
- There is of course a line in the sand where promotion becomes deception, and where a seller makes assertions that are not founded in fact, this line can be easily crossed. But while a seller is frequently held accountable for what they say, it is easy to assume that the task of discovering skeletons in the closet falls squarely on the shoulders of the buyer.
- A seller’s disclosure obligations can extend well beyond the express warranties that they make in the sale agreement. As the case of Porges v Adcock Private Equity Pty Ltd [2019] NSWCA 79 shows, a failure to disclose relevant information can constitute misleading and deceptive conduct even where that information was never requested. This case serves as an important warning to sellers, and gives merit to the old saying that, when the truth is replaced by silence, silence is a lie.
In a nutshell: Misleading and deceptive conduct in share sales
According to section 1041H(1) of the Corporations Act 2001 (Cth), a person must not engage in conduct in relation to a financial product (which includes shares) that is likely to mislead or deceive. This includes representations about future matters which are made without reasonable grounds (s769C).
While doing so is not an offence, a person who suffers loss or damage by conduct in breach of this section may make a claim for loss or damage that they suffer as a result of that contravention (s1041I(1)).
The facts
Mr Porges was approached by Adcock Private Equity (APE) to take up the position of chairman in a related company. Mr Porges agreed to do so, but said he would first need to liquidate some of his assets to keep his wife ‘comfortable’ and prevent her from ‘eating into other capital’.
To do this, he suggested that APE buy some of his shares in ‘SecureOne’, a company incorporated in the British Virgin Islands. APE agreed to do so, and SecureOne subsequently collapsed leaving APE’s shares worthless.
APE commenced proceedings against Mr Porges, arguing that he had portrayed himself as a reluctant seller who was only selling his shares to fuel his wife’s accustomed lifestyle. The Court disagreed with this approach, characterising Mr Porges as a willing seller. However, the Court identifying other factors motivating Mr Porges’ willingness to sell which had not been disclosed, including that:
(a) the company was in a lawsuit which, if successful, would cause the company to collapse;
(b) the company would be crippled by the cost of defending the lawsuit in any event;
(c) the ATO was considering an audit of the company and its investors; and
(d) he had ceased to have trust in the company’s management.
The Court held that the Mr Porges had engaged in misleading and deceptive conduct in failing to disclose these circumstances.
While the court ordered Mr Porges to pay damages for causing APE’s losses, the damages payable were reduced as a result of APE’s own conduct, which was viewed as contributing to the magnitude of the loss. This demonstrates that due diligence by a buyer remains critically important to any acquisition and that while silence gives a seller little safety, it should also give a buyer little comfort.
If you need advice on buying or selling shares, please don't hesitate to contact a member of our Private Enterprise team.