Guarantees have been under the spotlight
recently, with the decision in Prudential Assurance
Company Ltd and others v PRG Powerhouse Group
Ltd and another. Provision of a third-party
guarantee, or indemnity, is often the key to enabling
a property transaction where weak tenant
covenant, for example, would otherwise make it
impossible. Landlords in particular need to be aware
of their characteristics and limitations. A recent
case serves as reminder of where the dividing line
lies between guarantee and indemnity, and the
required formalities which apply.
ANTHONY PITTS AND OTHERS V ANDREW JONES
This was not a property dispute, but one concerning
sale and purchase of shares. Mr Jones was
managing director and majority shareholder of a
company, and the claimants were employees and
minority shareholders. Mr Jones reached an
agreement to sell his shares to a company called
Birch. This required the claimants to waive their
rights of pre-emption, which they agreed to do on
the basis that Birch had offered to buy their shares
at the same price.
A meeting was called in January 2003 to pass the
required resolutions, which required the claimants’
agreement to short notice. The option agreements
for the purchase of their shares would not be
exercisable until June 2003, and they were advised
that this left them exposed, should Birch become
insolvent in the meantime. Mr Jones undertook that
if Birch did not pay them for their shares, he would
do so; this undertaking was not put in writing. The
claimants co-operated in the transaction in reliance
on the undertaking.
The inevitable happened: Birch went into insolvency
and did not pay the claimants, who called on Mr
Jones’ undertaking.
GUARANTEE OR INDEMNITY?
The enforceability of the undertaking ultimately
turned on whether it was a guarantee or indemnity:
if a guarantee, it was unenforceable under s4 of
the Statute of Frauds 1677 because it was not
in writing.
The court held that in order to be an indemnity,
Mr Jones should have a real interest in the subject
matter of the transaction. That in turn begged the
question of which was the relevant transaction.
There were two: the sale of Mr Jones’ shares and
the share options entered into by the claimants.
Mr Jones’ undertaking related to the latter, and the
court concluded that he had no interest in them.
Clearly, he had a motive in giving the undertaking, in
that he required the claimants’ co-operation, but he
could not derive any benefit from the share options.
ENQUIRY INTO MOTIVES
So, deciding whether a third-party obligation of this
sort is enforceable may depend on establishing
whether it is a guarantee or an indemnity, and this
in turn may depend on making a distinction between
a mere motive for entering into it, and a real interest
in the transaction. Furthermore, that may depend
on identifying which precisely was the relevant
transaction.
It’s a can of worms, and can be avoided by insisting
upon a written agreement expressed to include
both a guarantee and indemnity. This is standard in
guarantees of lease obligations, but it is important
to be alert to these issues in the many other
situations in which they may crop up. © In-House Lawyer
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