- By this application
the defendants (KPMG) apply for an order that part of the re-amended Statement
of Claim be struck out and/or summarily disposed of pursuant to the CPR Rules
3.4 and/or 24.2 and for an order that certain issues relating to loss be tried
as preliminary issues.
Background
- The claimant
("SFL") was a member of the Sasea group of companies, which was based in Switzerland,
and was the wholly owned subsidiary of Sasea Holding SA ("Holding"), a publicly
listed Swiss company. SFL itself is a company registered in England under
the Companies Act 1985. KPMG were at all material times SFL's auditors. The
group collapsed with a large deficiency in 1992. SFL went into creditors'
voluntary liquidation on 14 October 1992 and liquidators were appointed on
18 November 1992. Dominant figures in the group prior to its collapse were
Florio Fiorini and his business partner Giancarlo Parretti. The affairs of
the group have been the subject of criminal investigations in a number of
jurisdictions. In June 1995 Fiorini pleaded guilty to certain charges of fraud
in connection with the affairs of the group before the Criminal Court in Geneva
and was sentenced to a term of 6 years imprisonment. Extradition proceedings
at the instance of the French prosecuting authorities are pending against
Parretti in the USA.
- These proceedings
were commenced by a writ issued on the 26 June 1996 and relate primarily to
KPMG's audit of SFL's accounts for the year ended 31 December 1989 ("the 1989
Accounts"). The audit of the 1989 Accounts was completed on or about 15 January
1991.
- The essence
of SFL's case against KPMG is that:
(1) KPMG discovered
or ought to have discovered in the course of the audit of the 1989 Accounts
that those accounts did not give a true and fair view of SFL's affairs in
that various transactions were recorded in the 1989 accounts which were fictitious
and/or had the effect of falsely inflating SFL's profits or its assets;
(2) KPMG ought
by 28 September 1990 (the date of the first of the separate allegedly loss
making transactions on which SFL rely in support of their damages claim) or
by 15 January 1991 (the date of completion of the audit of the 1989 accounts)
to have reported their concerns or they ought at the conclusion of the audit
to have ensured that appropriate provisions were included in the 1989 accounts
and that appropriate qualifications were included in their report on the 1989
accounts;
(3) but for
the negligence of KPMG the Sasea Group would have collapsed by 28 September
1990 or alternatively by no later than about January 1991, and the losses
which were allegedly suffered by SFL on or after the postulated date of collapse
would not have been sustained. It is also alleged (in the Reply) that but
for that negligence those losses would have been recovered.
- Following service
of the Statement of Claim on the 16 January 1998 KPMG applied to strike it
out on the basis that it failed to disclose a reasonable cause of action.
The focus of that strike-out application was SFL's claim for loss. The most
substantial head of loss related to an alleged £24m dividend by SFL. KPMG
contended that there was no evidence that any dividend was ever paid. On 9
July 1998 Andrew Collins J acceded to the application in relation to that
element of loss, and SFL did not appeal that part of Collins J's Order. KPMG
were also successful before Collins J in striking out two of the three remaining
heads of loss alleged to have been caused by their alleged negligence. Each
of these claims founded on the alleged non-receipt or non-retention by SFL
of the proceeds of sales (1) of shares in companies in the Rivaud Group ("the
Rivaud loss") and (2) of shares in a company called Renta SA ("the Renta loss").
KPMG's application in relation to the Renta and Rivaud losses was primarily
based on the contention that there was no sufficient causative link between
the alleged negligence and the alleged losses, relying on the decision in
Galoo Limited in liquidation and others v Bright Grahame Murray [1994]
1 WLR l360. Although Collins J acceded to KPMG's application, his judgment
was reversed by the Court of Appeal on 2 December 1999. It held that the pleading
that those losses had been caused by the alleged negligence was maintainable.
The pleading had by that time been formally amended to allege that the proceeds
of sale of the Rivaud and Renta shares had been "improperly diverted".
The strike-out/summary
judgment application
- The strike-out/summary
judgment part of the application before me (which for convenience I will call
the "strike-out application") relates to the Renta loss. In essence KPMG's
case is that SFL did receive value for the proceeds of the Renta shares because
the proceeds of sale of the Renta shares (which in fact found their way directly
or indirectly to Holding) had been credited to SFL on an inter-company account
between SFL and Holding, reducing the indebtedness of SFL to Holding on that
inter-company account. Following further amendment of its case by SFL, it
has become apparent that SFL's case is that that credit on the inter-company
account was illusory, since SFL had no indebtedness to Holding on that account.
There was therefore nothing against which to set off Holding's liability to
SFL in respect of the proceeds of the Renta shares.
- On the face
of the inter-company account SFL at the material time had an indebtedness
to Holding of some £75m (sterling equivalent). SFL has, in its re-amended
pleading, identified three transactions accounted for through the inter-company
account, which (taken together) account for more than £75m indebtedness of
SFL to Holding, and which SFL claims ought not to have been so accounted for
on the ground that those transactions were "sham transactions". The transactions
consist, as to £24m in respect of the dividend declared by the board of SFL
on 27 June 1990 (but which was never paid), as to £11.9m in respect of dividends
similarly declared in 1988 and 1989, and as to some £45m a liability said
to arise as a result of a loan by Holding to SFL made on or about the 31 May
1989 in the sum of SF 115m.
- The proceeds
of the Renta shares were (sterling equivalent) some £7.95m. Accordingly, if
KPMG can show that SFL was genuinely indebted to Holding on the inter-company
account in a sum in excess of £7.95m, it will have succeeded in showing that
SFL received value for the Renta shares and did not, accordingly, suffer any
loss in relation thereto whether as a result of KPMG's negligence or otherwise.
This much is common ground. What KPMG seeks to establish by the strike-out
application is that, on a consideration of the whole of SFL's re-amended Statement
of Claim and Reply, SFL has no real prospect of succeeding in showing that
it was not at the material time indebted to Holding in respect of the loan
of SFR 115m. If KPMG are right about that, they will be left facing only the
much smaller claims in respect of the Rivaud loss (some £2.3m) and the Fiorini
losses (some £573,000). KPMG argue, and I accept, that if the point is determined
in their favour the prospects of being able to dispose of the whole litigation
by agreement will be materially improved.
- The test to
be applied under Part 24.2 of the CPR is whether the claimant has a real prospect
of succeeding on the claim or issue. As Lord Woolf MR said in Swain v Hillman
[2001] 2 AER 91 "The words "no real prospect of being successful or succeeding"
do not need any amplification, they speak for themselves. The word "real"
distinguishes fanciful prospects of success or, as [Counsel] submits, they
direct the Court to the need to see whether there is a "realistic" as opposed
to a "fanciful" prospect of success". Under CPR Part 3.4 (1) (A) the Court
has power to strike out a Statement of Case (in whole or in part) if it "discloses
no reasonable grounds for bringing ..... the claim". So far as the present
application is concerned I do not consider that there is any practical difference
whether it is viewed as an application under Part 3.4 or under Part 24. I
remind myself also of what Lord Woolf MR said in Swain v Hillman, ibid
at in the following passage:
"It is important
that a judge in appropriate cases should make use of the powers contained
in Part 24. In doing so he or she gives effect to the overriding objectives
contained in Part 1. It saves expense; it achieves expedition; it avoids the
Courts' resources being used up on cases where this serves no purpose, and
I would add, generally, that it is in the interests of justice. If a claimant
has a case which is bound to fail, then it is in the claimant's interests
to know as soon as possible that that is the position".
- The critical
passage in the re-amended Statement of Claim is to be found in paragraph 166
(4) (ii) to the end of paragraph 166 which, I set out in full below:
"(ii) The
said proceeds of sale, of which the total sterling equivalent was approximately
£7,950,000, were not received by SFL but instead were received by, respectively,
Pan Ass Holding BV and Sasea Holding. The proceeds received by Pan Ass Holding
BV were paid on to Sasea Holding, with the relevant movement of funds being
reflected by accounting entries to the inter-company accounts of Pan Ass Holding
BV, SFL and Sasea Holding such that at the end of the day the inter-company
account between SFL and Sasea Holding recorded that the purported balance
in Sasea Holding's favour had been reduced by an equivalent amount.
(iii) Such
proceeds in both cases were improperly diverted away from SFL to Sasea Holding
in that such proceeds were diverted by or at the direction of Mr. Fiorini
(who had no authority to deal with the same) to Pan Ass Holding BV and/or
Sasea Holding for no valid commercial reason and without the authority of
a resolution of SFL's board of directors.
(iv) To the
extent that KPMG may seek to place reliance on the fact that such improper
diversion of the proceeds of sale was categorised as loans and/or reflected
in accounting terms by entries on inter-company accounts with Sasea Holding
in purported reduction of amounts purportedly owing by SFL to Sasea Holding:
(A) such
loans were never authorised by SFL's board;
(B) such
entries on the accounts were never authorised by SFL's board; and
(C) SFL received
no benefit in respect of such entries, because there were no corresponding
entries from Sasea Holding which could be set off against the entries.
(v) As to
(iv)(C) above:
(A) Although
immediately prior to the proceeds of the Renta SA shares received by Sasea
Holding being credited to the inter-company account between SFL and Sasea
Holding in February 1991, the net inter-company balance between SFL and Sasea
Holding (taking into account the various balances denominated in a number
of currencies) purported to be (sterling equivalent) some £75m owed by SFL
to Sasea Holding, in fact the true net inter-company position was that SFL
did not owe anything to Sasea Holding, as more than £75m of that purported
indebtedness had arisen as a result of sham transactions. In this regard:
(a) £24m
of the amount purportedly owed by SFL to Sasea Holding was in respect of the
June 1990 purported dividend referred to in paragraphs 144 to 160 above. As
pleaded therein, such purported dividend could not lawfully have been declared
and paid and hence could not have given rise to any genuine or enforceable
indebtedness owing by SFL to Sasea Holding.
(b) £11.9m
of the amount purportedly owed by SFL to Sasea Holding was in respect of a
purported interim dividend of £1.4m declared by SFL in 1988 and a purported
final dividend of £10.5m declared by SFL in June 1989 in respect of its financial
year ended 31 December 1988. Although SFL's accounts for the year ended 31
December 1988 purported to show a total accumulated profit of £12,447,425
available for distribution, such purported dividends could not lawfully have
been declared and paid, in that:
(1) by reason
of the matters pleaded in paragraph 41(2) above, a purported profit of £8m
in relation to an investment in La Semaroise had been anticipated and should
instead have been recorded (if at all) in the accounts for the following year;
and
(2) by reason
of the matters pleaded in paragraphs 90 to 93 above, a provision should have
been made in respect of a debt of £8,131,307 purportedly due from Comfinance
Panama and which KPMG knew had been "window-dressed" at the year end.
Accordingly
such accounts ought to have shown an accumulated loss, with the consequence
that no dividend could lawfully have been declared and paid and hence no such
genuine or enforceable indebtedness owing by SFL to Sasea Holding could have
arisen.
(c) As to
some £45m, being the sterling equivalent of SFR 115m, which was reflected
on the inter-company account as a loan from Sasea Holding to SFL made on or
about 31 May 1989:
(1) A loan
in that amount was not in fact required by SFL and the purported borrowing
was not authorised by SFL's board.
(2) The purported
loan was used by SFL to pay (also on or about 31 May 1989):
(I) 3 sums
of SFR 18.8m, SFR 12.3m and SFR 23m respectively to Transmarine;
(II) SFR
32.8m to Comfinance Luxembourg; and
(III) SFR
34m to L&Z.
(3) None
of the above payments was authorised by SFL's board and SFL received no value
or benefit in respect of the same. Rather, the payments were used in a circular
transaction via Transmarine, Comfinance Luxembourg and L&Z to seek to
create the illusion that Transmarine (a shareholder in Sasea Holding) had
properly subscribed and paid for shares in Sasea Holding and hence contributed
real capital to the Sasea group when this was not in fact the case.
(4) Immediately
following the payments by SFL to Transmarine, Comfinance Luxembourg and L&Z
(that is, also on or about 31 May 1989):
(I) Comfinance
Luxembourg paid on to Transmarine the SFR 32.8m it had received from SFL (ostensibly
as the purchase price of some 2,761,627 shares in PCC then held by Transmarine);
(II) L&Z
paid on to Transmarine the SFR 34m it had received from SFL; and
(III) Transmarine
paid some SFR 113.7m to its bank to repay a loan it had taken out on or about
25 May 1989 for the purpose of subscribing for shares of that amount in a
capital issue by Sasea Holding.
(5) Hence
the net effect of the aforementioned transactions beginning with the loan
of SFR 115m by Sasea Holding to SFL and ending with the repayment by Transmarine
of the aforementioned bank loan was that Sasea Holding had paid for its own
share capital.
(6) Various
expedients were devised in order to create the false impression that the payments
made by SFL on or about 31 May 1989 and set out in sub-paragraph (2) above
were ones for which SFL received value, when this was not in fact the case:
(I) The payment
of SFR 18.8m to Transmarine purported to be in respect of a purchase by SFL
of 140,000 shares in Sasea Holding. In fact such shares were received by Sasea
Industrial Holding NV rather than SFL and in any event such shares were worthless
and/or subject to liens or charges (as to which SFL refers to paragraphs 122,
133(3) and 140(4) above).
(II) The
payment of SFR 12.3m to Transmarine on or about 31 May 1989 was purportedly
justified by reference to a purported loan agreement purportedly dated 18
March 1988 between SFL and Hawkins & Mills Holding SA (a company associated
with Transmarine) under which SFL had purportedly agreed to lend Hawkins &
Mills Holding SA LIT 10 billion without security for a period of 6 months
in order to enable it to finance the construction of a ship. This "loan" was
never repaid. Indeed, in the context of the 1989 Audit KPMG questioned the
recoverability of the "loan".
(III) The
payment of SFR 23m to Transmarine on or about 31 May 1989 was effected pursuant
to instructions to Credit Lyonnais Rotterdam contained in a telex dated 26
May 1989 which stated that the payment was by order of Sasea Industrial Holding.
SFL received no benefit from that payment.
(IV) The
payment of SFR 32.8m to Comfinance Luxembourg purported to be in respect of
a purchase of 2,761,627 shares in PCC, which Comfinance Luxembourg in turn
had purportedly purchased from Transmarine the same day (as pleaded in sub-paragraph
(4)(I) above). In fact SFL did not receive such shares. In any event, the
price purportedly paid by SFL for the shares was some $8.1 per share whereas
the quoted market price at that time fluctuated between some $3.2 and $4.6
per share (which would not in fact have been achievable in an arm's length
sale for a block of shares of that size).
(V) The payment
of SFR 34m to L&Z was purportedly justified by the agreement of 31 May
1989 referred to in paragraph 137(4) above. In fact there was no valid reason
why SFL should have agreed to reimburse L&Z with any part of the purported
profit of SFR 51m ostensibly made by SFL on the disposal of the shares in
Prefim SpA on 25 November 1988 referred to in paragraph 137(2) above.
(B) There
were no genuine transactions between SFL and Sasea Holding after 1 February
1991 by which any part of the amount due to SFL by Sasea Holding in respect
of the proceeds of the Renta shares was repaid.
(C) Although
at the time of the liquidation of SFL there was still a net balance purportedly
owing by SFL to Sasea Holding on the various inter-company accounts, the liquidator
of Sasea Holding withdrew the proof of debt lodged in SFL's liquidation in
respect of such amount, as a result of the absence of evidence to suggest
that the purported indebtedness had arisen as a result of genuine transactions
leading to a real debt."
- Stripped to
the bare essentials there are two claims being made. The first is that the
payment of SF 115m made by Holding to SFL was employed by SFL to make various
payments which were of no benefit to SFL but which were in fact used in a
circular transaction the object of which was to create the illusion that there
had been a genuine subscription for cash for new shares issued by Holding.
The second claim is that all of this took place without the authority of the
Board of SFL.
- The players
in the circular transaction were the companies defined in the pleading as
Transmarine, Comfinance Luxembourg, L&Z, SFL and Holding, all of them
part of the Sasea Group. The steps taken by the players can be summarised
for the purposes of this judgment as follows:
(1) 22-25.5.89.
Transmarine borrows SFR 113.7m from its bank and subscribes for SFR 115m worth
of shares in Holding, paying Holding accordingly;
(2) 26.5.89
SFL instructs its bank to make the payments at (4) below;
(3) 31.5.89
Holding pays SFR 115m into SFL's bank account;
(4) 31.5.89
Payments are made out of SFL's bank as follows:
(i) Three sums
totalling SFR 54.1m paid to Transmarine;
(ii) SFR 32.8m
is paid to Comfinance Luxembourg. That sum is then paid on by Comfinance Luxembourg
to Transmarine;
(iii) SFR 34m
is paid to L&Z. That sum is paid on by L&Z to Transmarine.
(5) Circa 31.5.89:
Transmarine (which as a result of the above payments has now received SFR
120.9m directly or indirectly from SFL) repays the bank borrowing at Step
(1).
Each of the
payments at Step (3) above was, according to the tested telex instructions
pursuant to which it was made, made for some ostensible purpose as listed
(6) (I) - (V) of the pleading. It is unnecessary for me to consider these
in detail. It is accepted by Mr Vos QC on behalf of KPMG that he must accept
for the purpose of the strike-out application that the allegation that SFL
received no benefit from these payments might be made good at the trial.
- The claim that
all this happened without the authority of SFL's board is made in (5) (A)
(c) (1) in relation to the loan and in (5) (c) (3) in relation to the payments.
The pleading does not in terms explain either who caused the payments at Step
3 to be made out of SFL's bank account, or how that was done without SFL's
authority. All that the available documentation shows is that instructions
were given for each of the payments to SFL's bankers by tested telex, and
that bank statements recording the payments were sent by those bankers to
SFL "Attention Mr Jean Bellemans at SFL's offices in Geneva". Mr Bellemans
was at the material times a director of SFL. Nor does the pleading tell us
who is alleged to have made the relevant entries on the inter-company account
with Holding. What is clear, and is common ground, is that the sum of SF 115m
(sterling equivalent £45m) was included in the sum of £63.9m (creditors) shown
in SFL's audited accounts for the year ended 31 December 1989 as owing to
Holding. Those accounts were approved by SFL's board of directors on 19 November
1990.
- One infers that
the case which SFL will seek to make at trial is that all the steps in the
circular transaction were orchestrated by Mr Fiorini without the authority
of the board of SFL. Mr Fiorini's involvement is expressly pleaded at the
later stage, in 1991, in relation to the proceeds of sale of the Renta shares
(see paragraph 166 (4) (iii) of the re-amended Statement of Claim). The allegation
(or inference) that it was Mr Fiorini who orchestrated the circular transaction
comes as no surprise in the light of what had earlier been pleaded in the
re-amended statement of claim. That pleads (by paragraph 5) that the management
and control of SFL was exercised abroad, principally in Switzerland and (by
paragraph 11) that SFL (in common with other companies in the Sasea group)
was at all material times controlled by Mr Fiorini, either alone or jointly
with Mr Parretti. Specifically in relation to SFL, it is pleaded that KPMG
knew that the company was at all material times controlled by Mr Fiorini not
withstanding his resignation as a recorded director on 18 April 1988: see
paragraph 12. There is, however, a considerable degree of tension between
that part of the pleading which alleges in terms that SFL's affairs were controlled
by Mr Fiorini, and that part of the pleading which seeks to assert that particular
transactions effected on behalf of SFL by Mr Fiorini were done without the
authority of SFL. This is a point to which I shall have to return.
- The tension
is in no way lessened by the fact that, so far as the payment of SF 115m is
concerned (step (3) above), no claim is made against KPMG as the auditors
of the 1989 Accounts for having reported without qualification on this aspect
of those accounts which, of course, were drawn on the assumption that SFL
was under a liability to pay Holding that sum.
- One additional
feature of the claim remains to be mentioned. That is the allegation, made
for the first time in the Reply, that
"SFL was at
the material times insolvent and neither [Holding] nor Mr Fiorini purportedly
on behalf of [Holding] could properly consent to such transactions." (See
para. 106 of the Reply)
- That allegation
was made in response to allegations in the Defence that the entries in the
accounting records (semble in respect of the Renta share proceeds),
the "borrowing" at step (3) above, and the payments at step (4) above, were
made with the consent of Holding, the sole shareholder in SFL. In the course
of argument, Mr Brisby QC submitted that the allegation should be read also
as saying, or as being capable of reasonable amendment so as to say, that
the board of SFL was also not in a position properly to consent to the transactions.
He also indicated a desire, if necessary, to amend the reply so as to add
the allegation that the board knew, or ought to have known, that SFL was insolvent.
These additional allegations in relation to the insolvency of SFL assumed
an importance in Mr Brisby's oral argument which had not been immediately
apparent either from the pleadings or from his skeleton argument.
- In outline Mr
Vos argued in his opening that there was no basis for SFL's assertion that
the transaction at step (3) was a sham; that it had plainly been authorised
by SFL; that the payments at step (4) had equally plainly been authorised
by SFL, and that even if they had not been, they were irrelevant to the question
of the enforceability of the loan at step (3); and that there was no warrant
on the pleadings, on the evidence or as a matter of legal principle for saying
that the loan was irrecoverable on grounds of illegality under Swiss law or
English law or as a matter of public policy. SFL's claim was, he submitted,
counter-intuitive in two respects. First, in so far as it rested on the allegation
that the purpose of the transaction as a whole had been to create the illusion
that Transmarine's subscription for new shares in Holding had been for cash,
it would be bizarre for the court to penalise Holding (and its creditors)
by depriving Holding of its right to the return of the subscription monies.
Secondly, the claim sought to "rewrite history" on the false premise that
SFL was not Holding's group finance company, and that all inter-company transactions
were invalid.
- Mr Brisby, on
behalf of SFL, emphasised that it was only necessary for him to demonstrate
that, on the pleadings and on the evidence, there was a triable issue that
SFL had suffered loss. He submitted, first, that there was a triable issue
as to whether there had ever been a contract of loan between Holding and SFL,
and that any purported ratification of such a contract by the board of SFL
in approving the accounts could not be, or have been, relied on by Holding.
This was either because it had not been demonstrated that the SFL board had
sufficient knowledge of its rights to make such a ratification effective,
or because any such ratification was plainly improper having regard to SFL's
insolvency. Secondly, he submitted that any such contract of loan would have
been unenforceable because of the improper or illegal purpose for which it
had been made (creating a false market in Holding's shares), or, alternatively,
because the underlying transactions were in fact "sham" transactions. Thirdly,
he submitted that there was no basis on which Holding could assert that it
had a restitutionary claim to the monies advanced to SFL since SFL had not
been unjustly enriched by the transaction (having derived no benefit from
it), alternatively because SFL had changed its position by paying the money
away..
- These submissions
did not, in contrast to the pleadings, give a central importance to the allegation
that the transactions were shams. That allegation itself appeared to assume
that the transactions had been effected by SFL but to assert that they
did not in reality have the character which they ostensibly bore. The principal
focus of Mr Brisby's oral submissions, however, was that the transactions
were not binding on SFL at all. The picture which Mr Brisby sought to paint
was that SFL had never intended to borrow the SF 115m at all. It had derived
no benefit from the supposed borrowing: the monies had simply been routed
through its bank account. There was, he submitted, no evidence that the board
of SFL had any contemporary knowledge of the transaction, or had authorised
or approved of it. The only evidence of the board's knowledge of the transaction
consisted of evidence that Mr Bellemans had received a bank statement which
showed the credit. However, since he was also a director of Holding, this
did not suffice to show that the SFL board had intended to bind SFL to the
transaction.
- On this question,
Mr Vos' submissions were that the suggestion that the SFL board had not approved
the transaction was fanciful. The evidence is that the transaction had been
orchestrated by Fiorini, and it was a premise of SFL's case that Fiorini controlled
both SFL and Holding, scilicet with the knowledge and approval of their
respective boards. Moreover, the tested telexes instructing the bank as to
the onward transmission of the monies had undoubtedly emanated from SFL, and
Mr Bellemans at least had been aware of the receipt of the payment. Mr Vos
submitted that it was unrealistic for me to suppose that at trial SFL would
seek to lead any evidence from board members of SFL as to their ignorance,
or non-approval, of the transaction or of their not having authorised Fiorini
to act in SFL's name in relation to such a transaction. There was, in any
event, the undoubted fact that the board had approved SFL's accounts which
had reflected the financial consequences of the transaction.
- All these points
seem to me to be powerful ones. I do not, however, consider that they go so
far as to enable me to say that the prospects of Mr Brisby succeeding against
them at trial are merely fanciful. I cannot exclude the possibility that at
trial SFL will succeed in showing that its bank account was used by Holding
for the purposes of this transaction without it having, by any of its proper
organs, participated in any way in the transaction. It seems to me that in
relation to this there is, just, a triable issue.
- That remains
the case notwithstanding the alleged ratification of the transaction by the
approval of the accounts. For ratification to be effective, the party ratifying
must have "full knowledge of all the essential facts": see Halsbury's Laws,
4th edition Re-issue, Vol 1(2) at para 81. Mr Vos argued that, having regard
to the duties of company directors in preparing and signing accounts under
Section 226 of the Companies Act 1985, the directors simply could not be heard
to say that they lacked the requisite knowledge as to the nature of the underlying
transactions reflected in those accounts. He did not, however, succeed in
persuading me that any such general principle, for which no authority was
cited, exists in English law. The mere fact that directors approve accounts
which are drawn so as to reflect the existence of a contract with another
party does not, without more, amount to a ratification of that contract quoad
the other party. It is not, in any event, clear from the accounts themselves
that the relevant liability was recognised as having its source in a contractual
obligation to repay. If, as Mr Vos alternatively argued, the basis of liability
being recognised was purely restitutionary, the board's approval of the accounts
on that basis would not, ex hypothesi, have been of a ratificatory nature.
- I acknowledge
that all this may be thought somewhat theoretical. The probability is that,
at trial, the circumstances will be seen to be such that the transaction was
indeed contemporaneously authorised by the SFL board and, if not then authorised,
subsequently ratified by it. If that does turn out to be the case, the important
question will arise as to the extent to which it was ever or is now open to
SFL to disown the transaction on the ground that it was manifestly improper.
Mr Brisby's grounds for alleging that it was improper were that the transaction
was one under which SFL obtained no benefit, and that SFL was, to the knowledge
of Holding (and its own board of directors), insolvent at all material times.
Holding must, therefore, have known that, in accepting the loan and immediately
applying it in transactions for which there was no commercial justification,
the SFL directors were acting in breach of their duties to SFL. The same analysis
held good if SFL was in fact under no apparent liability prior to the approval
of the accounts, and that approval amounted to ratification: the "ratification"
would equally have been, to the knowledge of Holding, a breach by the SFL
directors of their duties.
- This provoked
a contest of rival propositions on the part of Mr Vos and Mr Brisby, each
characterised as elementary and axiomatic. Mr Vos submitted that there was
simply no general doctrine in English company or insolvency law which enabled
an attack to be made on a transaction simply because it was disadvantageous
to the company or its creditors - where there is an admitted transaction by
a company, it can only be set aside, rescinded, or otherwise ignored by invoking
the relevant statutory jurisdiction. Mr Vos argued that to posit the existence
of a general doctrine invalidating transactions entered into by a limited
company which are actually or potentially detrimental to the interests of
its creditors is to render otiose and unnecessary the elaborate statutory
machinery which exists to deal with such situations, in particular Section
423 (with its long history) and Sections 238 and 239 Insolvency Act 1986.
In the present case, he argued, the borrowing of the SF 115m was clearly within
SFL's corporate capacity and was done with the full consent of Holding its
only shareholder. The transaction was, therefore, binding on SFL unless and
until it was set aside by the invocation of the specialist insolvency machinery.
- In my judgment
these propositions are too sweeping. It is true that "the clear general principle
is that any act which falls within the corporate capacity of a company will
bind if it is done with the unanimous consent of all shareholders or is subsequently
ratified by such consent": see per Slade LJ in Rolled Steel Products (Holdings)
Ltd v British Steel Corporation & Ors [1986] 1 Ch 246 at 296. The
principle does, however, require some qualification. In particular, as Slade
LJ pointed out in the immediately following sentence:
"it will not
enable the shareholders of a company to bind the company itself to a transaction
which constitutes a fraud on its creditors: see, for example In re-Halt
Garage (1964) Ltd [1982] 3 All ER 1016, 1037, per Oliver J."
That was a reference
to Oliver J's citation in the latter case of In Re George Newman [1895] 1 Ch 674. Both cases are instructive, but the analysis by Oliver J in Re
Halt Garage (1964) Ltd of the intervening case law is particularly helpful.
- Re Halt Garage
concerned a claim by a liquidator to recover from former directors remuneration
which had been paid to the directors under the authority of the company in
general meeting under an express power to award directors' remuneration. The
remuneration had allegedly been paid at a time when the company was known
by its directors to be making losses and to be unable to pay its debts without
forbearance from its creditors, but there was no allegation of fraud. The
claim advanced by the liquidator was simply that, in the circumstances, the
company had no power to award the remuneration. The proposition was that,
where there were no profits available for distribution as dividends, the power
of the company to award remuneration could not be validly exercised unless
it fulfilled the three tests set out in the judgment of Eve J in Re Lee,
Behrens & Co Ltd [1932] 2 Ch 46 at 51-52 ("(i) is the transaction
reasonably incidental to the carrying on of the company's business? (ii) is
it a bona fide transaction? and (iii) is it done for the benefit and to promote
the prosperity of the company?"). Oliver J (at [1982] 3 AER p. 1034) rejected
that proposition. He held that the second and third tests were appropriate,
not for testing the capacity of the company, but only to the question of the
propriety of a particular exercise. He held further that it was necessary
to distinguish cases where the issue was the power of a majority to bind a
dissentient minority from those where the question was the validity of an
exercise by the directors of their powers (ibid at p 1035). Having reviewed
the cases, he asked (at p 1036):
"On what ground,
in the absence of fraud or any consideration of minority interests, are the
votes of shareholders in general meeting to be treated as if they were, like
the powers of directors, exercisable in a fiduciary capacity? The shareholder
is under no fiduciary duty to the company as to the manner in which he exercises
his vote ......"
The limitations
on the shareholders' powers were only, he concluded, that they must act honestly
("shareholders are required to be honest but ... there is no requirement that
they must be wise" (see p 1039c)), and that they must not use an admitted
power (such as voting remuneration) as a cloak for doing that which they have
no power to do (e.g. returning money to shareholders out of capital). So far
as the latter was concerned he concluded that the "real test must, I think,
be whether the transaction in question was a genuine exercise of the power.
The motive is more important than the label" (see p 1039F). He also said,
at p 1043 d-e:
"I agree with
counsel for the liquidator that it cannot be right that shareholder directors
acting in unison can draw any sum they like out of the Company's capital and
leave the liquidator and the company's creditors without remedy in the absence
of proof of intent to defraud merely because they choose to dignify the drawing
with a particular description. The cases show, I think, that the mere fact
that the company is in low financial water does not prevent the payment of
a proper director's remuneration even though it may be technically a gratuity.
But equally, the court is not, in my judgment, precluded from examining the
true nature of the payments merely because the members choose to call them
remuneration."
- Can it be said
that here Holding, as sole shareholder in SFL, was causing it to do something
which it had no power to do under the cloak of an apparently intra vires transaction
of borrowing? I have to confess to some difficulty in the notion of a 'dressing-up'
of a transaction in this way which is not at the same time dishonest. In Halt
Garage itself Oliver J, while not finding any dishonest intent on the
part of the shareholders, in fact found that part of the remuneration paid
to one of the directors (Mrs Charlesworth) did contravene the principle which
he had enunciated. Her services to the company had been so slight that he
felt unable to hold that the whole of the remuneration could reasonably be
regarded as a genuine reward for services. "In the absence of any evidence
of actual motive, the court must, I think, look at the matter objectively
and apply the standard of reasonableness" (See p 1044 f).
- The question
of what is implied in the notion, in this context, of dishonesty or "fraud
on the creditors" is not discussed in any of the authorities which were cited
to me. It is simply accepted that 'fraud on the creditors' constitutes a general
exception to the general principle that the shareholders can bind the company
to a particular transaction. It must mean something more than the obvious
proposition that the shareholders cannot bind the company to a transaction
(such as a return of capital to themselves) which is ultra vires. But
even if that is all that it means it severely dents Mr Vos's submission that,
outside of the specialist insolvency enactments, there is no general doctrine
of fraud on creditors in English company law.
- Mr Vos recognised
the case he had to meet in this respect by his submission (I quote from his
opening skeleton argument) that
"The borrowing
from Holding was not a fraud on creditors and it did not entail any misappropriation
of company assets. On the contrary, it involved a payment into SFL's bank
account. Accordingly, no exception to the rule that shareholders may authorise
or ratify any act of a director within the capacity of the company has any
application. The transaction was capable of being authorised, and was validly
authorised, by Holding."
It seems to
me, however, that this is to take an altogether too narrow view of the transaction
which Holding was not only authorising, but orchestrating. It was not simply
paying money to SFL by way of a loan. It was causing that money to move in
a circle for a purpose of its own. If the factual allegations in the pleadings
are made good at trial, the purpose was to enable Holding to create the illusion
that a demand existed for its shares, and the means (or part of the means)
by which that was achieved was by lending the SF 115m to SFL on terms that
the loan would be applied by SFL in transactions which were of no commercial
benefit to SFL, but which were of commercial benefit (or at least suited the
illusionist requirements) of Holding. Once account is taken of the fact that
the transaction, taken as a whole, required the money to be spent by SFL in
a manner which was of no commercial benefit to SFL, I see no real difficulty
in concluding that SFL would have had a defence to an action by Holding for
repayment of the loan. If a 100% shareholder sells an asset to his company
at a gross overvalue, leaving the purchase price outstanding as a debt from
the company, the company can, as it seems to me, resist payment of the debt
on precisely the ground identified by Oliver J in Halt Garage. It is
not that it is not a genuine sale, in the sense that it is a sham in the Snook
sense, but that it is not a genuine exercise by the company of its admitted
power of sale. Echoing Oliver J's words, if, in the absence of evidence of
actual motive, the consideration given by the company is excessive by any
objective standard, the inference that can be drawn is that the creation of
the liability is merely a cloak for an unlawful return of capital. The shareholder
cannot simply rely on his own approval of the transaction as curing the vice.
- Analysing the
transaction in this way also, in my judgment, puts paid to any argument that
Holding has or ever had an independent restitutionary claim to the monies
advanced. Since those monies were, at Holding's behest, mis-spent by SFL it
cannot be said that SFL was in any real sense enriched by the advance: alternatively,
to the extent to which it was momentarily so enriched, the fact that Holding
caused it thereafter to impoverish itself allows SFL to assert that it has
changed its position in such a way as to debar Holding from asserting any
restitutionary claim it might otherwise have had.
- For these reasons
I conclude that SFL has an arguable case that it suffered loss as a result
of the transaction. It is therefore unnecessary for me to consider Mr Brisby's
alternative submission that any contract of loan was unenforceable because
of the improper or illegal purpose for which it had been made or because the
underlying transactions were shams in the Snook sense.
The application
for trial of preliminary issues
- KPMG seeks an
order for the trial of preliminary issues as to loss raised by paragraphs
166(1) to (4) of the re-amended Statement of Claim and paragraphs 235-237,
239 and 245-264 of the Defence. Those issues may be summarised as follows:-
(1) The Rivaud
loss. By paragraph 166(1) of the re-amended Statement of Claim it is pleaded
that on 29 September 1990 SFL sold its holding of shares in the Rivaud group
together with certain options, but that the proceeds of sale, which were either
not received by SFL or not retained, were improperly diverted to other companies
in the Sasea Group. The value of the shares and options is alleged to have
been some £2.3m. as at 31 December 1989. The Defence denies the improper diversion
alleged and asserts a positive case that, as a result of the transaction,
SFL in fact both received and retained the Fr.F. equivalent of some £19,049,805,
i.e. "far more than the alleged value of the shares and options in the Rivaud
group allegedly owned by SFL prior to the sale."
(2) The Fiorini
losses
It is alleged
that on about 25 October 1990 Mr Fiorini procured SFL to pay him LIT 253m.
(sterling equivalent £113,861) for no justification, and on 13 November 1990
LIT 1 billion. (sterling equivalent £458,715) again for no justification.
The allegation in each case is that Mr Fiorini in effect stole the monies.
The Defence alleges that the monies were paid with SFL board authority, and
were reimbursement of expenses incurred by Mr Fiorini on behalf of SFL. The
expenses are alleged to have been incurred in advancing money to Melia International
NV in order to finance an increase by Melia of its shareholding in an Italian
television network. As at 31 December 1990 LIT 153m. and the LIT 1 billion
were shown in SFL's books as part of a debt owed by Melia to SFL. A year later
SFL transferred the benefit of that debt to Holding in reduction of the balance
owing on the inter-company account. The balance of the LIT 253m. (i.e. LIT
100m.) is alleged to have been advanced by Mr Fiorini on SFL's behalf to a
consultant, one Dr. Brancaccio, partly (as to LIT 60m.) by way of fees and
as to LIT 40m. by way of loan subsequently repaid by Dr. Brancaccio to SFL.
(3) The Renta
losses.
These have already
been described in the course of dealing with the strike-out application. The
Defence raises the issues raised by that application, additionally putting
in issue all of the claims raised by the re-amended statement of claim in
relation to the genuineness of the balances shown as owing by SFL to Holding
on the inter-company account.
- The application
is made on the basis that the trial of preliminary issues as to loss is likely
to produce a very significant saving in costs and time. It is submitted on
KPMG's behalf that these loss issues are discrete, and that their determination
wholly or partially in KPMG's favour may avoid the need for a full trial on
the question of liability and causation. In approaching that submission I
have, of course, in mind paragraph 3.10 of the Chancery Guide (described by
Morritt LJ in Morris v. Bank of America [2000] 1 AER 954 at 972a as
being of "great importance") which provides:-
"Costs can sometimes
be saved by identifying decisive issues, and ordering that they are tried
first. The decision of one issue, although not itself decisive in law of the
whole case, may enable parties to settle the remainder of the dispute. In
such cases a preliminary issue may be appropriate."
- Mr Brisby opposed
the application on the following grounds. He asserted, first, that the full
trial was likely to last from two to three months of which 75% was likely
to be occupied by the loss issues (i.e. 6 to 9 weeks). This should be contrasted
with Mr Vos' estimate of four to 6 months for the full trial and some 4 weeks
for the loss issues if tried as preliminary issues. Secondly Mr Brisby submitted
that there was no clear demarcation between the issues of liability and the
loss issues: there were significant overlaps, particularly in relation to
the general question of SFL's solvency at material times, to certain aspects
of the Rivaud loss, and to the question (relevant to the Renta losses) of
whether the £24m. dividend was properly shown as a debt to Holding on the
inter-company account. As to the last issue, Mr Vos indicated that he was
content to accept that that question should not be tried as part of the preliminary
issues as to loss. Thirdly, Mr Brisby submitted that there was the danger
that recollections would deteriorate if a full trial were delayed. Fourthly,
he submitted that, if a split trial were to be ordered at all, the horse of
liability should come before the cart of loss (and that the Galoo causation
issue might then conveniently be hived off to the loss section of the split
trial). Finally he pointed out that KPMG's position on costs was protected
since security had been given.
- Subject to one
important qualification it does not seem to me that the degree of overlap
between the questions of liability and loss is sufficient to rule out of court
the possible advantages of the suggested preliminary issue. The allegations
of negligence are founded on six specific sets of transactions (numbered IX
to XIV in the re-amended Statement of Claim) alleged to have been wrongful,
and the true nature of which allegedly should have been but was not appreciated
and reported on by KPMG. Had that been appreciated, the 1989 Accounts ought
to have shown a loss of some £130,899,878 instead of a profit of some £24.7m.
(see XV paragraphs 142 to 143). On the basis of draft accounts showing a profit
of £24.7m. SFL had on 27 June 1990 resolved to pay a dividend of £24m. to
Holding (see XVI paragraphs 144 - 160) which, it is alleged, KPMG ought to
have known was unlawful. The overlap consists principally of (1) in relation
to the Rivaud loss, and the matters pleaded in defence to that allegation,
an overlap with matters pleaded in paragraphs 79 to 83 of the Statement of
Claim (X the Rivaud profit), (2) in relation to the Renta loss a number of
matters relevant to the state of the Holding - SFL inter-company account,
namely (i) the Comfinance Panama transactions (XII paragraphs 110 - 135) (ii)
the L&Z transactions (XI paragraphs 90-93), (iii) the Mountleigh transactions
(XIV paragraphs 136 - 141) and (iv) the 1990 dividend. The significance of
the 1990 dividend is that investigation of its lawfulness requires in theory
investigation of all six of the impugned transactions, thus making the transactional
overlap total. It was to avoid this overlap that Mr Vos made the suggestion
which I have recorded at paragraph 35 above that the question of whether the
dividend was properly credited to Holding on the inter-company account should
be excluded from the proposed preliminary issue. With that concession I was
satisfied that the other matters which I have mentioned would not themselves
so overload the preliminary issue as to make it pointless.
- The important
qualification relates to Mr. Brisby's case on insolvency. This was a somewhat
late starter both on the pleadings, and in argument on this application. Nevertheless
there did seem to me force in his argument that, in relation to the Renta
loss, it would be at the least open to him (if not strictly necessary) to
lead evidence as to the true financial state of SFL both at the time the Renta
loss transactions took place and when the 1989 accounts were approved. It
is not strictly necessary since, on my analysis of the decision in Re Halt
Garage, it is unnecessary to show insolvency in order to impugn the particular
exercise by the company of its powers in accepting, and then dissipating,
the proceeds of the SF 115m. loan. However, I do not think that there is any
basis on which the court should prevent SFL from adducing such evidence in
support of its case that no genuine exercise of a borrowing power took place.
Accordingly, as it seems to me, there is a distinct possibility that, if the
proposed preliminary issue is ordered, it will involve an examination of all
six of the transactions.
- That would not
mean that a preliminary issue would make no sense at all. It would remain
the case that large numbers of witnesses relevant to the question of liability
could be dispensed with at the first stage of the trial and might never be
required. It would also mean that potentially difficult questions of audit
law and practice could be deferred and possibly avoided altogether. But it
would mean that there would be little room for economy at the putative preliminary
stage in terms of the documentation (which is threatened to be massive); and
it would also mean that in terms of timing Mr Brisby's gloomy prediction for
the loss issues might prove to be nearer the mark than that of Mr Vos. In
addition, while initially inclined to discount Mr Brisby's invocation of the
risks of deteriorating memory on the assumption that the gap between the trial
of the preliminary issue and the trial (if any) of liability and causation
would be a relatively short one, allowance must be made for the possibility
of the preliminary issue going to appeal. For all these reasons I have come
to the conclusion that the attractive course of a preliminary issue might
prove to be a dangerous short cut. With some reluctance, therefore, I refuse
the application. I should add that the picture would look very different had
I decided (or should the Court of Appeal decide) the strike-out application
differently.
