A contribution agreement is a legally binding document that allows individuals or firms to share the burden of a liability. The agreement provides assurance that if they are sued, they would be able to seek a pre-determined proportion of the liability from fellow members of the agreement. Contribution agreements are often used by shareholders during the sale of a company.
Shareholders A, B and C are selling their Company and hold 20%, 40% and 40% of the shares respectively. As part of the sale agreement, they are asked to provide a number of warranties to the buyer. Warranties are statements that inform the buyer that the company they are purchasing meets a certain standard. In this example, the sellers ‘warrant’that all the company’s financial books and records are accurate and up to date, however, once the deal as completed it transpires that this is untrue, and the buyer suffers a financial loss of £100,000. As a result, the buyer decides to sue.
As part of the sale agreement, A, B and C are held liable on a ‘joint and several’ basis meaning that the buyer can sue any of the shareholders for the full £100,000. Therefore, the buyer (in the knowledge that Shareholder A has the most available cash) decides to sue A for the full £100,000. Shareholder A accordingly settles the debt and seeks a contribution from Shareholders B and C who refuse or dispute the level of their contribution.
Without a contribution agreement, shareholder A would have to pursue a claim under the Civil Liability (Contribution) Act 1978. The claim would be stressful, expensive and would still not guarantee that B and C repay Shareholder A the correct proportion of the liability. This stress and uncertainty could have been prevented if the shareholders entered into a contribution agreement.
Had a contribution agreement been entered into, A, B and C could have sold their company in the knowledge and comfort that if any claim did arise, they would share the cost on the basis set out in the contribution agreement.
If you would like more information on contribution agreements, please contact our Corporate Team.
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