I Didn't Know About Debtors: FT Q&A

The following question was published in the Financial Times on 14th May and answered by Melanie Wadsworth a partner in the London office of Faegre & Benson LLP.

I run a company providing IT support to businesses.  After getting started five years ago, everything went very well.  I merged with another firm 18 months ago.  During the due diligence stage the (then) owner of the other firm stipulated he would like to leave immediately, which I thought was a little unusual but didn't think more of it.  It turns out that a number of his clients owed large sums to the company which are now in turn affecting my profits as I had taken over the contracts with the firms in question.  Am I in a position to make a claim against the previous owner or am I liable for not picking this up at the due diligence stage?

The principal caveat emptor or "buyer beware" applies to an acquisition of this nature and the law provides little protection for a buyer in relation to the assets and liabilities it is acquiring.  It is for this reason that the information gathering process known as due diligence is so essential. 

I am sure you asked searching questions of the former owner and relied on his answers when deciding to proceed with the deal.  If those answers were untrue, whether deliberately or not, you may have a claim against him for misrepresentation, but this can be difficult to prove.

To improve the buyer's position, it is usual to include extensive statements or "warranties" about the business in the written agreement recording the deal's terms.

If your contract with the former owner included warranties relating to matters such as the content of management accounts and the status of debtors, you may be able to bring a contractual claim against him.

Typically, limitation will apply (for example, a time limit for bringing such a claim), so you should look carefully at the small print and move quickly.