Anonymised, illustrative composite. A buyer's own site visit turned up an inventory problem before closing. It closed anyway, then sued for the shortfall. The agreement never said whether knowing about a breach in advance changes anything — and neither does any settled Canadian appellate rule.
At a glance
A buyer acquired the shares of a distribution company for $6,400,000. The purchase agreement included a standard representation that the target's inventory was accurately reflected in its books and records. During due diligence, the buyer's operations team visited a warehouse and personally observed physical inventory levels that did not match the seller's perpetual inventory system by a wide margin — the kind of discrepancy that, followed up on, would ordinarily point toward a false representation at closing.
The buyer said nothing about what its team had seen. A competing buyer had shown interest earlier in the process, and the buyer wanted the deal closed before that changed. It closed on schedule, with the inventory representation repeated as true. Four months later, a physical count confirmed the shortfall the site visit had already suggested, and the buyer claimed indemnification for a breach of the inventory representation. The seller's defence was that the buyer had known about the problem before closing — its own site-visit notes proved it — and that a party cannot claim indemnification for a breach it walked into with its eyes open. The purchase agreement was silent on the point: it contained neither a pro-sandbagging clause (preserving the right to claim regardless of the buyer's knowledge) nor an anti-sandbagging clause (barring a claim on a rep the buyer knew was false).
The buyer claimed $780,000 for the inventory shortfall, against a $6,400,000 purchase price. The parties ultimately settled at $310,000 — roughly 40% of the amount claimed.
No statute addresses whether a buyer's actual knowledge of a breach before closing affects its right to indemnification for that breach afterward, and this is not a gap nobody has litigated — it is a point a Canadian appellate court has looked at directly and left open. In Transamerica Life Canada Inc. v. ING Canada Inc., 2003 CanLII 9923 (ON CA), a motion judge struck a seller's pleading that the buyer owed an implied duty of good faith to disclose problems it had found before closing rather than stay silent and sue afterward. The Ontario Court of Appeal reinstated the pleading, holding that the state of the law on an implied duty of good faith in that setting was unsettled enough to require a full trial record rather than a decision on the pleadings. Twenty years on, no Canadian appellate court has resolved the question the Court of Appeal sent back for trial.
The Supreme Court of Canada's recognition, in Bhasin v. Hrynew, 2014 SCC 71, of an organizing principle of good faith contractual performance — including a duty of honest performance — gives the buyer-knowledge argument a doctrinal home it did not clearly have in 2003, without settling which way it cuts here. It could support the seller's position (closing silently on a known problem is dishonest performance) or the buyer's (a representation is a bargained-for risk allocation regardless of what either side privately knew, and good faith does not override an express term the parties chose not to include). Both readings have real support in the commentary that followed Bhasin, and neither has been tested to a result on facts like these.
Read the unit. Silence in the purchase agreement does not avoid this question — it just defers it to litigation, on an issue where the outcome cannot be predicted with any confidence in advance. That uncertainty is not a gap that resolves in either party's favour by default; it is a live risk both sides carry into any dispute, which is precisely what drives settlement on files like this one rather than a resolved judgment either party can point to.
Both sides' counsel recognized that litigating an unsettled question carried real risk regardless of which side had the better underlying facts. Rather than litigate whether the buyer's knowledge barred the claim, the parties settled at $310,000 — a figure that reflected the litigation risk on the sandbagging question itself, not just the size of the inventory shortfall.
An anti-sandbagging clause, negotiated at signing, would likely have barred the $780,000 claim outright once the buyer's own site-visit notes surfaced in discovery. A pro-sandbagging clause would likely have preserved the full claim regardless of what the buyer knew. Either clause would have replaced a $310,000 settlement, driven by litigation risk on an open legal question, with a result the parties could have priced at signing.
The tell was procedural, inside the buyer's own diligence process: the operations team's site-visit notes went into a file that nobody circulated to the deal lawyers negotiating the representations, so the discrepancy never became a question about what the purchase agreement should say about it.
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