Barclays Trust Company (Jersey) Ltd as trustee for the Ironzar III Trust and Others v Ernst & Young Llp
| Jurisdiction | England & Wales |
| Judge | Mr Justice Phillips |
| Judgment Date | 20 April 2016 |
| Neutral Citation | [2016] EWHC 869 (Comm) |
| Docket Number | Case No: 2012 Folio 1609 |
| Court | Queen's Bench Division (Commercial Court) |
| Date | 20 April 2016 |
[2016] EWHC 869 (Comm)
IN THE HIGH COURT OF JUSTICE
QUEEN'S BENCH DIVISION
COMMERCIAL COURT
Royal Courts of Justice, Rolls Building
Fetter Lane, London, EC4A 1NL
Mr Justice Phillips
Case No: 2012 Folio 1609
Roger Stewart QC and Richard O'Brien (instructed by Grosvenor Law LLP) for the Claimants
Daniel Toledano QC, Nehali Shah & Henry Hoskins (instructed by RPC LLP) for the Defendant
Hearing dates: 10–11, 15–18, 22–25 June, 1–2 July 2015
Approved Judgment
The claimants seek damages for the alleged professional negligence of the defendant ('EY') in providing due diligence services in relation to the claimants' acquisition in February 2007 of the Esporta health and fitness business ('Esporta').
The second to seventh claimants are companies in the Bell Leisure Group ('the Group'), formed for the purpose of effecting the acquisition of Esporta on behalf of their ultimate owner, the Ironzar III Trust ('the Trust'), of which the first claimant is the trustee ('the Trustee'). EY is one of the four largest professional services organisations in the world, delivering assurance, tax, advisory and transaction advisory services.
An unusual aspect of the claim is that, by the time EY was engaged by the second claimant ('BLG') to provide 'top-up' due diligence in December 2006, the third and fourth claimants (' BLH' and ' BLI') had already agreed to purchase Esporta (or arrange for other companies in the Group to do so), having executed a Sale and Purchase Agreement on 16 November 2006 in respect of the entire shareholding in Esporta Group Limited and preference shares in New Esporta Holdings Limited ("the SPA'). On execution of the SPA, and pursuant to its terms, BLH and BLI paid a non-refundable deposit of £23,386,250.
EY produced its final Financial Due Diligence Report ('the FDD Report'), its Commercial Due Diligence Report ('the CDD Report') and a Prospective Comfort Letter ('the PCR') on 21 February 2007 1 and formally released them on completion of the transactions the following day. The FDD Report and CDD Report each included EY's view as to what alterations should be made to Esporta's management's forecasts in its Business Plan to reflect the most likely outcome, referred to as 'sensitivities'. The Business Plan, in forecasting Esporta's revenue, had assumed that the number of people joining Esporta's mature clubs (as opposed to newly opened clubs) would grow by 2.73% in 2007. EY's revenue sensitivity took a more conservative approach, reducing that assumed growth to 0.80%. The claimants' central contention by the end of trial was that, given the information available to EY as to Esporta's membership numbers as at the end of 2006 and other surrounding circumstances, EY should have produced an even more negative sensitivity and should accordingly have reduced the estimate of Esporta's likely EBITDA 2 for that year by about £1m.
The purchase of Esporta was completed on 22 February 2007 by the seventh claimant (BAUK) and by two other companies in the Group ( BLI1UK and BLI2UK 3) for a total consideration of £474.3 million. The claimants assert that, but for the alleged negligence of EY, the claimants would not have completed the transaction, but would have withdrawn and forfeited the deposit (unless they had been offered a significant price reduction). They claim the difference between the £474.3 million paid for Esporta and £433 million, the sum the claimants allege was its actual value on 22 February 2007, but give credit for the amount of the deposit which would have been lost had they withdrawn. The total claimed is therefore £17,913,750, plus interest.
These proceedings were commenced in December 2012, towards the end of the relevant limitation period. EY denies the alleged breaches of duty, denies that the breaches alleged would in any event have caused any loss and further disputes the alleged quantum of the claim.
The background facts
(a) The Trust
The Trust is one of a number of 'Ironzar' trusts established by Madame Intezar Nouri ('the Settlor') for the benefit of her family, the principal assets of the trusts consisting of substantial real estate. The Settlor's son, Simon Halabi, has been the exclusive adviser to the Ironzar trusts since their creation. During the relevant period Mr Halabi provided his advice through Buckingham Securities Holdings plc ('Buckingham').
One of the family trusts ('the Income Trust') owned assets yielding very significant income. The Trust's assets, in contrast, were illiquid and produced relatively little income, consisting of property in Piccadilly in London and a golf club at Mentmore in Buckinghamshire. The Trust's plan (devised by Mr Halabi and Buckingham) was to create a 'premium brand and venture' known as the PM Club, with access to (i) a six- star private members' club, boutique hotel, restaurant and health and fitness facility developed on the site of the Piccadilly properties and (ii) a country retreat, with similar facilities, at Mentmore. The Trust's substantial outgoings were funded by non-recourse loans from the Settlor, using funds sourced from other Ironzar trusts with greater liquidity.
The fact that the Trust was illiquid also meant that it was dependent on external funding to acquire new assets such as Esporta. The Trustee, through Steve Gully (the manager of the ultra-high net worth trust client team in 2007), gave evidence confirming that the Trustee, which had only been recently appointed in October 2006, relied on Buckingham (which in turn relied on Mr Halabi) not only for commercial and strategic advice but also to procure funding from the Settlor for any equity component of an acquisition. It was common ground between the parties that the real and effective decision maker in relation to the Trust's acquisition of Esporta was Mr Halabi.
(b) Esporta
In July 2006 Esporta was a premium health and fitness business, operating at 53 sites in the United Kingdom, including 17 Racquets clubs 4, with in the region of 188,000 members. In the previous 12 months ('LTM') Esporta had generated revenue of £137.3 million and EBITDA, after central costs, of £33.3 million. It owned a substantial property portfolio (comprising 16 freehold and long leasehold sites), subsequently valued by Strutt & Parker as being worth £265m 5 as at 1 September 2006 and by Savills in February 2007 as being worth about £315m 6. It was therefore an asset-rich business, generating significant profits.
Esporta's revenue, as with most health and fitness businesses, was largely determined by membership, the factors being retention of existing members on the expiry of their contracts (gauged by the number of 'leavers'), the recruitment of new members ('joiners') and the income generated per member in terms of membership fees and ancillary charges ('membership yield'). It was common ground that Esporta's performance in the month of January (and to a lesser extent in February) was particularly important in assessing the success of the business, the New Year accounting for a significant proportion of joiners each year. In contrast the month of December, leading up to Christmas, was expected to be a poor month. Monthly management reports were usually available on the seventh working day of the following month, with management accounts produced a week later.
In about September 2006 the owners of Esporta, Duke Street Capital ("Duke Street"), offered the shares of the holding companies of the Esporta business for sale. Prospective purchasers (including Buckingham, as adviser to the Trust) were provided with a Vendor Due Diligence report prepared by PriceWaterhouseCoopers LLP ('PwC') and dated 25 September 2006 ('the VDD Report'). PwC produced an addendum to the VDD Report on 19 October 2006.
The VDD Report considered Esporta's actual results to July 2006 (with a high level review of August membership numbers) and reported as follows:
i) Esporta had brought in new management in late 2003. The new management's initiatives had improved profitability and moved Esporta ahead of its competitors on most metrics;
ii) In particular, annual retention rates had improved and membership yield had increased. In contrast, but in common with most of the industry, Esporta had experienced a decline in annual joiner levels at its established clubs since 2004;
iii) The increase in retention rates and yield more than offset declining joiners in Financial Year 2005 (FY05), resulting in an increased EBITDA after central costs of £35m (and a Group EBITDA of £39m). However, EBITDA to July 2006 was 5.6% (or £1.1m) below budget, in part due to low joiners, with an LTM EBITDA after central costs of £33.3m;
iv) Esporta's Management was now focusing more on joiners (whilst maintaining past focus on yield and retention). Joiner levels were being monitored three times a day and sales staff had daily, weekly and monthly targets. The result was that joiners in both July and August 2006 exceeded those in the equivalent months in 2006, whilst retention remained strong;
v) Management's forecast outrun for FY06 was for a group EBITDA of £36m (£32.7m for the existing estate). That was considered reasonable by PwC given the year-to-date (YTD) performance and recent improvement in joiners;
vi) Management's...
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