CONTENTS
One often encounters the requirement for consent to be given before certain actions can be taken in shipping and offshore contracts, for example, in respect of sale of the vessel by the owners under a time charter or a change in the management of the vessel. This consent is often subject to the proviso that it shall not be unreasonably withheld but without any further explanation as to what circumstances might be considered unreasonable.
In a recent non-shipping case, Porton Capital Technology Funds and other companies v 3M UK Holdings Ltd and another company [2011] EWHC 2895 (Comm), the Commercial Court considered the meaning of “such consent not to be unreasonably withheld” and clarified and re-affirmed the principles for interpreting this expression, which had previously been established in landlord and tenant law. It is submitted that, whilst the case before the Commercial Court was a dispute arising out of the sale and purchase of a medical development company, these guidelines are likely be followed by the courts when having to consider this expression in all types of contract. This makes them relevant to the shipping and offshore community not only in respect of the sale and purchase of ships, rigs and other marine equipment, but also charterparties.
As set out above, the dispute arose out of a sale and purchase agreement (the “SPA”), pursuant to which the entire shareholding of Acolyte Biomedica Limited (“Acolyte”) was sold to an investment company (“3M”) in 2007. The only asset of Acolyte was a commercial product called BacLite MRSA (“BacLite”) – a product which was designed to be a faster and more accurate test for MRSA (a deadly super bug found in UK hospitals and easily transmitted between patients).
The consideration for the shares was a partial cash payment combined with an earn-out payment (i.e. a future payment) based on the net sales of BacLite for 2009 (“Earn-Out Payment”). The Earn-Out Payment was contemplated by the parties to be the principal return to be made to the sellers. The long-term plan was for BacLite to be developed and sold to hospitals in the EU, USA and Australia. This required approval and licences to be obtained from the relevant medical authorities and then marketing in each of the sales regions to effect the sales. Some of the key personnel involved in the development of BacLite were kept on as part of the sale. At the time of the sale, the latest version of BacLite had been approved for use in the EU and a couple of orders had been received from hospitals.
Clause 4 of the SPA set out the details of the Earn-Out Payment and the respective obligations relating thereto. The following two clauses are relevant to this article:
“Except as expressly set forth in Clause 14.4, the Vendors acknowledge that the [3M] is under no obligation or duty to conduct its business in a manner that increases the amount payable under this Clause 4. Each Vendor hereby acknowledges and agrees that the Earn-Out Payment is contingent on [Acolyte’s] future performance and is not guaranteed.”
By clause 4.14(i), 3M undertook:
“without the written consent of the vendors, which shall not be unreasonably withheld, [Acolyte] shall not… cease to carry on its business or the business of the development and marketing of [BacLite]…”
Whilst the sequence of events between the sale and December 2008 are detailed and complicated, it is sufficient for the present purposes to know that (i) the approval to sell BacLite in the US and Australia was not received, such that the product was not capable of being properly marketed and sold in these regions, and (ii) sales of BacLite in the EU never reached the numbers projected. As a result, the business was terminated in December 2008 such that there were no net sales in 2009.
The claimants (who were some of the shareholders who made up the sellers) brought their claim on a number of bases, one of which was that the failure and termination of the business involved breaches of contract on the part of 3M which caused the claimants to suffer losses of approximately USD 56.45 million (which was what the claimants alleged was their share of the net sales for 2009 would have been).
3M’s case was that they always acted in good faith and in accordance with the SPA and that they were entitled to terminate the business in circumstances where they had requested consent and offered compensation and the claimants had reacted unreasonably. The sequence of events was as follows:
In August 2008, in light of the failures of the BacLite product set out above (i.e. failure to obtain approval and failure to reach projected sales figures), 3M invited the vendors by letter to consent to the termination of the development and marketing of the product in return for a compensation payment of USD 1.07 million. The sellers refused to provide their consent.
3M’s case was that this consent was unreasonably withheld such that they were either entitled to terminate the business or, alternatively, the refusal amounted to a repudiation of the SPA by the vendors. Furthermore, 3M maintained that the reason for the failure of the BacLite product to achieve the projections in the long-term plan was down to the failings of the product itself and that the market had moved against it between the date of the sale and the date of 3M’s offer. As regards this latter point, it is sufficient to know that in the meantime a new product had been released into the market which was almost as quick and as accurate as BacLite, but which was considerably cheaper. As such, 3M’s final defence was that even if they had not terminated the SPA, the earnings for 2009 would have been minimal. The claimants’ case was that they were entitled to withhold their consent such that they did not repudiate the SPA and that it was repudiated by 3M.
In light of the above, one of the key issues before the court was whether the vendors acted unreasonably in withholding their consent in late 2008. As set out above, the principles relating to the issue of withholding consent have been mainly developed in landlord and tenant cases. In British Gas Trading Limited v Eastern Electricity, however, the commercial court held that these principles should also be applicable to commercial contracts (in that case in the context of a contract for the commercial supply of gas and electricity) and the court in the present case agreed. The principles which the court held were relevant in this context are as follows:
It is perhaps the last two principles that could have the most significant consequences for parties to shipping and offshore contracts. In the BacLite case, the court was persuaded by the claimants’ arguments that they were entitled to take into account their own interest in earning as large an Earn-Out Payment as possible (especially as this was contemplated to be the principal return), and that the fact that keeping the development and marketing of BacLite alive would likely cause 3M to incur significant costs was irrelevant. In considering the factual situation, the court was further clearly influenced by the fact that the request for consent made by 3M was against a background where, in November 2006, mutual sales projections for 2009 were around GBP 22 million and, in January 2007, 3M’s estimate of sales was USD 28 million (this was communicated to the vendors at the time). However, these projections aside, the sellers had little knowledge and no involvement in the business from the date of sale onwards. It would therefore have been a surprise to the sellers to receive the information from 3M that the business had effectively failed and that the Earn-Out Payment was only worth USD 1.07 million and this would have been viewed with scepticism. The court concluded that the reasonableness of the sellers’ refusal was borne out by the fact that there were a number of estimates at the time which exceeded the figure offered and that the figure offered was accepted to be on the conservative side. It therefore concluded that the sellers’ consent was reasonably withheld.
This case is interesting as the conclusion of the court is perhaps surprising given its analysis of the facts of the case and its basic agreement with 3M’s position that it was the inherent issues with the BacLite product and the fact that the market turned against the product that ultimately caused its failure. Notwithstanding these findings, the court still considered that the sellers were reasonable in withholding their consent, although its views on the failure were reflected in the amount of damages awarded. The court awarded USD 1.29 million, which was what it concluded, on the basis of the evidence put before it, would have been the claimants’ share of the projected net sales for 2009 – not much more than the original offer by 3M.
Whilst the outcome of each case will of course be dependent on the facts, what the court’s decision highlights is that the insertion of “such consent not to be unreasonably withheld” with regard to the giving of consent may not have the effect desired. We therefore recommend that, when drafting a contract, careful thought is given to whether the expression “such consent not to be unreasonably withheld” is appropriate or whether other wording should be used, for example, if possible, the parties could specify in the clause the circumstances in which refusal is deemed to be unreasonable or consent is deemed given.
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