Scottish ruling a reminder to include essential clauses in heads of terms

• Administrators need to ensure that heads of terms are clear, precise and include any unusual terms
• The ruling will be welcomed by purchasers of insolvent companies who seek to recover deposits where a final deal cannot be agreed
• ATE Farms Limited v AW Estates Scotland Limited [2023] CSOH 73

Where insolvency practitioners intend to enter into exclusivity agreements to allow sales to be further negotiated, it is important to ensure that the parties’ expectations of the key terms of those agreements are aligned and documented. Whilst commercially a balance needs to be struck between not getting bogged down in the terms of exclusivity agreements to the detriment of allowing the sale to proceed, particularly in an insolvency situation where sales often need to be completed quickly, this ruling, although specific to its facts, shows that administrators need to take care in agreeing key terms up-front.

Stoneywood Mill, a papermill in Scotland, has had various owners in the past who have struggled to operate it profitably. Its latest owners, AW Estates Scotland Limited (AWESL), fell into administration in September 2022. The administrators of AWESL negotiated a potential sale of the mill site, its machinery and assets (AWESL’s only assets) to ATE Farms Limited (ATE). ATE entered into a deposit and exclusivity agreement (DEA) with the administrators.  

Under the DEA, ATE paid a deposit of £300,000 to the administrators’ solicitors, and it was granted a period of exclusivity during which the administrators agreed not to negotiate with any other potential buyers. Both parties agreed to act in good faith, and diligently and expeditiously conclude the contract based upon heads of terms previously agreed between the parties. The parties agreed that if the sale of the mill completed by an agreed date, then the deposit would be applied towards the purchase price, and if the sale did not complete by this agreed date, then the deposit was to be forfeited by ATE unless the sale had not concluded because of a breach of the DEA by the administrators.

Unable to agree the terms, the sale fell through and ATE sought to recover the deposit on the basis that the administrators had acted in breach of the terms of the DEA.

A sticking point in concluding the sale negotiations was the scope of the indemnities required by the administrators from ATE in relation to environmental liabilities and the transfer of environmental permits. The administrators insisted upon environmental indemnities from ATE covering all liabilities under the Environmental Protection Act 1990. In practice, this meant that the indemnity from ATE would cover both the mill, which ATE agreed to, and liabilities in relation to a second site where the mill dumped its waste. ATE was not intending to purchase the second site and refused to grant the indemnity, leaving the parties at a stalemate in negotiations.

Environmental indemnities were included in the heads of terms document originally agreed, but there was disagreement between the parties on the scope of that agreement.

ATE considered that the indemnities it would be providing would be limited to the mill site, as this was the only asset ATE was purchasing. The administrators argued that ATE had verbally agreed to take on all environmental liabilities and since ATE had agreed to take on the mill’s waste management licences, which included those in relation to dumping at the second site, ATE was aware of this liability. It further argued that this was reflected in the reduced purchase price.

Moreover, it was argued by the administrators that it is standard practice in insolvency sales for the purchaser to buy property “as seen” and grant indemnities in relation to environmental liabilities. Otherwise, it claimed, if such liabilities remained with the company in administration, this could delay dividends being paid to creditors and require the insolvency process to remain open for an extended period.

ATE’s solicitors notified the administrators that the contract would not be settled, stating that the administrators’ lack of willingness to agree that certain environmental liabilities were not covered by the indemnity put them in breach of their duty to act in good faith towards ATE under the DEA. ATE consequently issued proceedings against the administrators requiring the return of its deposit.

The Court of Session concluded that the administrators’ duty to act in good faith had not been breached. It determined that the administrators had acted honestly and wished for the deal to proceed just as much as ATE. However, the court concluded that the scope of the environmental indemnity pursued by the administrators was not included in the heads of terms and, therefore, the insistence of the administrators to pursue such an indemnity throughout the course of negotiations, causing delay, put them in breach of their obligation to “diligently and expeditiously conclude the contract on the basis of the heads of terms”. The Court of Session found that this amounted to a repudiatory breach of the terms of the DEA and ordered the administrators to refund ATE’S deposit.