Selling a Company? Put Lipstick on a Pig at Your Peril

When marketing a company, it may be perfectly legitimate to paint its business and prospects in the best possible light. However, as a High Court ruling showed, the thick application of lipstick to a pig may enter the realms of fraud.

The case concerned the sale of a controlling interest in a company for over £2.1 million. The purchaser later alleged that the company was, at the time of the sale, balance sheet insolvent. The purchaser, together with the company, launched proceedings against two of the latter's former directors, alleging fraud.

Ruling on the matter, the Court upheld the purchaser's case that there was, at the relevant time, an undeclared hole in excess of £3.5 million in the company's client money account. A false picture had been painted of the company's health by, amongst other things, overstating sums it was owed by debtors.

The Court accepted evidence that steps were taken to make the company look like a profitable and successful business to potential buyers and to disguise the fact that it was, in fact, balance sheet insolvent and operating at a loss. The company's stated income and balance sheet were distorted and money was wrongfully taken from its client account to fund trading expenses.

In upholding the claim, the Court found that the former directors had made fraudulent misrepresentations prior to the sale which were relied upon by the purchaser. They had engaged in an unlawful means conspiracy and breached the duties they owed to the company as directors. Warranties contained in the share purchase agreement had also been breached.

The amount of compensation payable to the purchaser and the company had yet to be finally assessed. However, given the extent of the recoverable losses sustained, the awards were bound to substantially exceed the purchase price.