Litigation and Dispute Resolution

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1 Litigation and Dispute Resolution Review November 2017 Contents Company 2 UK parent company liability to parties affected by operations of a UK or foreign subsidiary: Dominic Liswaniso Lungowe & ors v Vedanta Resources Plc and Konkola Copper Mines Plc Contract 4 No contractual recourse against issuer for investor in bearer notes: Secure Capital SA v Credit Suisse AG Bank failed to exercise discretion properly when setting collection fees: BHL v Leumi ABL Ltd Limitation of liability wasted expenditure or loss of profits?: Royal Devon & Exeter NHS Foundation Trust v ATOS IT Services UK Ltd Identification of Third Party Beneficiaries under the Contracts (Rights of Third Parties) Act 1999 a broader approach?: Chudley & ors v Clydesdale Bank PLC (t/a Yorkshire Bank) Crime 12 Redefining the test for dishonesty why does it matter?: Ivey v Genting Casinos Enforcement 15 Third party debt orders and letters of credit: Taurus Petroleum Ltd v State Oil Marketing Company of the Ministry of Oil, Republic of Iraq Editor: Amy Edwards Litigation Senior Professional Support Lawyer London Contact Tel amy.edwards@allenovery.com allenovery.com 1

2 Company UK PARENT COMPANY LIABILITY TO PARTIES AFFECTED BY OPERATIONS OF A UK OR FOREIGN SUBSIDIARY Dominic Liswaniso Lungowe & ors v Vedanta Resources Plc and Konkola Copper Mines Plc [2017] EWCA Civ 1528, 13 October 2017 The Court of Appeal confirmed that a UK parent company s duty of care may, in certain circumstances, extend to employees of a subsidiary and it was arguable that such a duty could also be owed to third parties affected by a subsidiary s operations. This includes subsidiaries which are not wholly owned. The Court of Appeal confirmed that England is an appropriate jurisdiction for claims by a group of Zambian citizens against a Zambian company and its English majority parent company. It also confirmed that the English courts cannot decline jurisdiction over a claim against a defendant company domiciled in England and Wales, on the basis of forum non conveniens. Konkola Copper Mines Plc (KCM) was a Zambian company which owned and operated the Nchanga copper mine in Zambia. KCM s majority (79.42%) parent company is UK registered Vedanta Resources Plc (Vedanta). In July 2015, a group of Zambian citizens (claimants) started English proceedings against Vedanta and KCM (defendants), alleging personal injury, loss and damage due to alleged pollution and environmental damage caused by the copper mine. The defendants challenged the English court s jurisdiction. The claimants argued that, following the ECJ decision in Owusu v Jackson, 1 the English courts cannot decline jurisdiction conferred by domicile under Article 4 of the Recast Brussels Regulation on forum non conveniens grounds. The English court, therefore, had to take jurisdiction, the claimants argued, against Vedanta (a company domiciled in England Wales) and KCM (as a necessary and proper party to that claim). Vedanta argued that Owusu v Jackson did not apply and should not be followed. Owusu does not preclude merits based dismissal of claim The Court of Appeal confirmed the effect of Owusu v Jackson was that Article 4 of the Recast Brussels Regulation prevents the English courts from declining its mandatory jurisdiction where the defendant is a company domiciled in England and Wales. Nevertheless, the English courts may dismiss the claim on the merits. The Court of Appeal acknowledged that a party may, in principle, argue that the invocation of the jurisdictional rules in the Recast Brussels Regulation amounts to an abuse of EU law. Vedanta had argued that the sole purpose of the claim against it was to bring the claim against KCM within the jurisdiction of the English courts. However, the Court of Appeal warned that this would require sufficient evidence to show that the invoking party had acted to distort the true purpose of that rule of jurisdiction. In this case, that high threshold was not met. Parent company may owe duty to employees of subsidiary In establishing whether there was a real issue to be tried between the claimants and Vedanta and a necessary or proper party jurisdiction gateway against KCM, the Court of Appeal had to consider whether it was arguable that a duty of care was owed by Vedanta to KCM s employees and third parties. allenovery.com 2

3 Litigation and Dispute Resolution November 2017 The Court of Appeal clarified that a duty of care may be owed under English law by a parent company to the employees of a subsidiary in certain circumstances, subject to the three-part Caparo test 2 (requiring foreseeability, proximity and reasonableness). Such circumstances may arise if, for example, the parent company has taken direct responsibility for devising the subsidiary s health and safety policy and it is the adequacy of that policy which is the subject of the claim, or controls the operations which give rise to the claim. Following Chandler v Cape Plc and Thompson v The Renwick Group Plc, 3 circumstances which may meet this test include the following: The business of the parent and subsidiary are, in a relevant respect, the same, and the parent is well placed, because of knowledge or expertise, to protect the subsidiary s employees. If both companies have similar knowledge and expertise, and jointly take decisions which the subsidiary implements, both may owe a duty of care to those affected by those decisions. The parent has, or ought to have, superior knowledge of some relevant aspect of health and safety in the particular industry. The subsidiary s system of work is unsafe as the parent company knew, or ought to have known. The parent knew or ought to have foreseen that the subsidiary or its employees would rely on the parent company using that superior knowledge for the employees protection, eg where the parent has a practice of intervening in the trading operations of the subsidiary. The parent company does not need to have absolute control over the subsidiary for a duty of care to arise. This was argued for, and specifically rejected by the Court of Appeal, in Chandler v Cape Plc. Vedanta owned 79.42% of KCM, the rest was owned by a Zambian state-owned company. Parent company may also owe duty to third parties affected by subsidiary The Court of Appeal concluded that such a duty may be owed in analogous situations, not only to employees of the subsidiary but to those affected by the operations of the subsidiary. The court said that the fact that there had never been a reported case in which a parent company had been held to owe a duty of care to a person (not an employee) affected by the operations of a subsidiary did not make such a claim unarguable. On this basis, it accepted that the claim against Vedanta was properly arguable. There was a serious question to be tried and, although it related to jurisdiction, the Court considered that it should not be summarily dismissed. It was reasonable for the English court to try the issue between the claimants and Vedanta: not only was it subject to the mandatory jurisdiction rule, but the claimants had a clear interest in suing Vedanta as a company with sufficient funds to meet an English order (rather than merely as a hook to pursue KCM in England). Jurisdiction of English courts over foreign subsidiary The Court of Appeal ruled that Coulson J was entitled to conclude that KCM was a necessary and proper party to the claim against Vedanta, and that parallel proceedings based on the same facts, witnesses and documents would be inappropriate (given that the claim against Vedanta would continue in England, it was the most appropriate place for the claim against KCM). Coulson J was entitled to find that there was a real risk, which was almost certain, that the claimants would not obtain justice in Zambia. Accordingly, the Court of Appeal dismissed the jurisdictional challenges, finding no proper grounds for re-opening Coulson J s decision. COMMENT Businesses using an English-incorporated holding company to conduct their foreign operations may subject the actions of both holding company and foreign subsidiary to the jurisdiction of the English courts. In this case, it means that the English courts can determine whether the UK parent company s tortious duties could extend potentially to employees of a Zambian subsidiary and also those affected by the Zambian operations. This provides a stark contrast to the High Court s refusal, earlier this year, of jurisdiction over claims brought allenovery.com 3

4 against Royal Dutch Shell and its Nigerian subsidiary, by claimants affected by oil pollution in the Niger delta, discussed here which is due to be heard on appeal on 21 November It remains to be seen how these claims will be determined on the merits, a matter which the Court of Appeal took great care not to assess. Remember that the Court of Appeal s finding on whether a parent company could owe tortious duties to third parties affected by a subsidiary s operations (not just employees) was simply that it was arguable. This is very different from a finding that such a duty was owed. Any claim will also be very fact dependent, particularly as regards the intricacies of the relationship between a parent and subsidiary, and the resultant extent of duties owed by the parent. However, against a backdrop of heightened public attention on parent company responsibility, and anti-globalisation sentiment, these proceedings will no doubt be closely scrutinised both by those in UK parent companies who assess risk (and insurers) and those who are affected by the operations of subsidiaries owned by UK companies. For advice on the factors to consider when assessing risk in this area please contact your normal Allen & Overy contact or: Olga Owczarek Associate Litigation Arbitration London Contact Tel olga.owczarek@allenovery.com Katie Sharkey Trainee Litigation Arbitration London Contact Tel okatie.sharkey@allenovery.com Owusu v Jackson (Case C-281/02) [2005] QB 801. Caparo Industries Plc v Dickman [1990] 2 AC 605. Chandler v Cape Plc [2012] EWCA Civ 525; Thompson v The Renwick Group Plc [2014] EWCA Civ 635. Contract NO CONTRACTUAL RECOURSE AGAINST ISSUER FOR INVESTOR IN BEARER NOTES Secure Capital SA v Credit Suisse AG [2015] EWHC 388 (Comm), 24 February 2015 and [2017] EWCA Civ 1486, 6 October 2017 An investor in longevity notes had no right of recourse against the issuer for breach of contract as the notes were in bearer form and were held by a common depositary. The Court of Appeal confirmed that the claim was of a purely contractual nature and, therefore, English law, not Luxembourg law, governed whether or not there was a right of action against the issuer. The investor had no contractual relationship with the issuer and its claim therefore failed. The claim related to eight longevity notes (the Notes) issued by Credit Suisse in The Notes were linked to life insurance policies, which meant that the prospect of the holder receiving payments for the Notes depended on mortality rates among a set of reference lives. Secure Capital contended that Credit Suisse failed to disclose that the mortality tables used to generate the estimated life expectancies were shortly to be updated in a way that would significantly increase life expectancies rendering the Notes effectively worthless. allenovery.com 4

5 Litigation and Dispute Resolution November 2017 Secure Capital relied on a term in the issuance documentation that stated that Credit Suisse had taken all reasonable care to ensure that information provided in such documentation was accurate and that there were no material facts the omission of which would make any statements contained in those documents misleading (referred to as the Misleading Statements Term). Note issuance structure The Notes were issued by Credit Suisse s Nassau branch. Under the terms of the transaction documents, the Notes were deposited with the common depositary, Bank of New York Mellon, which held the securities on behalf of the clearing system, in this case Clearstream. The Notes were governed by English law and issued in bearer form. This meant that the common depositary, as bearer of the physical Notes, was the only contractual counterparty of Credit Suisse. In addition, the Notes were issued under a fiscal agency structure which meant that there was no trustee, and the ultimate investor, the noteholder, was only afforded direct rights against the issuer (pursuant to a deed of covenant) in certain limited circumstances which were not present in this case. The Notes were purchased from Credit Suisse by a third party which then on-sold them to Secure Capital. Secure Capital s claim Secure Capital alleged (after first discontinuing a claim in which it incorrectly pleaded it was the bearer of the Notes) that the provisions of a 2001 Luxembourg law on the Circulation of Securities, being the law that governed the operation of Clearstream through which the Notes were held, gave it an entitlement to exercise the right of the bearer to bring an action for breach of a term of the Notes. In order to succeed, Secure Capital would have to circumvent English law privity of contract in respect of a transaction governed by English law. A contractual claim Hamblen J accepted Credit Suisse s submission that the existence of contractual duties and the right of a party to sue upon a contract are contractual questions, and accordingly characterised the issue to be determined as contractual. The issue was whether Secure Capital could claim damages against Credit Suisse for breach of the Misleading Statements Term. This was a contractual term and Secure Capital s entitlement to claim damages for breach of the term involved the assertion of contractual rights. Secure Capital would have to show that Credit Suisse owed it a contractual duty. Applicable law for a contractual claim the chosen governing law (English) Under both the Rome Convention (and Rome I which applies to contracts concluded on or after 17 December 2009) and English common law principles, contractual issues are to be determined by the governing law chosen by the parties, in this case English law. Hamblen J found that, under English law, the obligations of Credit Suisse were owed only to the bearer of the Notes. As there was no contractual relationship between Secure Capital and Credit Suisse, and Luxembourg law was irrelevant, the claim failed. Hamblen J noted that a foreign law cannot (even if purported to do so) create new contractual obligations in an English law contract. Hamblen J rejected Secure Capital s arguments that its entitlement to be treated as the bearer was neither contractual nor possessory but rather sui generis. It had argued that its entitlement to enforce such right should be distinguished from the content of the right and should be governed by the lex situs. In rejecting this argument, Hamblen J stated that the lex situs was not relevant as the dispute before him was not one between two parties claiming entitlement to be the bearer. Court of Appeal The Court of Appeal agreed with Hamblen J s characterisation of the issue as contractual in nature -the claim involved the assertion of contractual rights and the alleged breach of a contractual term. The existence of contractual duties and the right of the party to sue on a contract are contractual questions. Under English law, the issuer owed obligations to the bearer and the bearer alone. Accordingly, the court confirmed that the only party with the right to sue Credit Suisse was the custodian. allenovery.com 5

6 Among Secure Capital s additional arguments was the suggestion that there would be a lacuna if an ultimate investor could not sue the issuer. The court maintained that there could be no such lacuna if it was precisely the consequence of the express terms of the notes and ancillary documents. Secure Capital s case could produce an incoherent, if not chaotic, result. COMMENT The decision of both courts represents a common-sense approach to a note issuance structure that is commonly used in the debt capital markets. It will provide comfort to issuers who actively adopt such structures rather than forging a contractual link between themselves and the ultimate investor, a market practice both Hamblen J and the Court of Appeal were alive to after considering numerous leading commentaries on the operation of the capital markets. The decision shows that the courts will take a dim view of claimants trying to circumvent express contractual provisions, however creative their attempts to characterise a claim in a manner that purports to let them do so. Nevertheless, for transactional lawyers, it highlights the importance of structuring a transaction in a way which makes clear the scope of the parties obligations to contractual counterparties or otherwise. In Secure Capital, the courts have been robust in their approach towards characterisation, preserving the certainty generated by the conflicts of law principles, even though this meant that the only party who had allegedly suffered loss, Secure Capital, could not bring a claim. Allen & Overy LLP acted for Credit Suisse in this matter. Nitish Upadhyaya Associate UK London Contact Tel nitish.upadhyaya@allenovery.com BANK FAILED TO EXERCISE DISCRETION PROPERLY WHEN SETTING COLLECTION FEES BHL v Leumi ABL Ltd [2017] EWHC 1871 (QB), 28 July 2017 A lender failed to exercise a contractual discretion properly when deciding on what collection fees to charge under a receivables finance agreement which allowed collection fees of up to 15%. The court held that the bank should have only charged 4%, not 15%, and had to repay the difference. The case is a good reminder of how to exercise a contractual discretion properly. In 2008, Cobra Beer Limited (Cobra) entered into a receivables finance agreement (RFA) with Leumi ABL Limited (Leumi). Under the RFA, outstanding receivables owed by Cobra s customers were used as collateral against the sums that Leumi lent to Cobra. The RFA allowed Leumi to charge a collection fee in certain circumstances of up to 15% of amounts collected by Leumi. Cobra went into administration in Shortly before Cobra went into administration, Leumi began collecting the debts itself and charging the collection fee at the maximum rate of 15%. A dispute subsequently arose about the amount of the collection fees that Leumi charged. The collection fees were covered by an indemnity from an associated company of Cobra, BHL. BHL paid a total of GBP950,000 to Leumi in relation to the outstanding collection fees. By May 2012, Leumi contended that it was still owed GBP490,000 and demanded further payment. BHL commenced a claim seeking return of the GBP950,000 on the grounds that it had made the payments in the mistaken belief that the sums were payable. Was Leumi able to charge the collection fee? allenovery.com 6

7 Litigation and Dispute Resolution November 2017 BHL argued that Leumi was not entitled to charge the full 15% collection fee on the basis that: Leumi was only entitled to charge its actual costs and expenses of collection, and the reference to up to 15% of the amounts collected in the RFA was to a ceiling on the amounts that could be charged; the collection fee was an unenforceable penalty; or the discretion to charge up to 15% of the amounts collected had either not been exercised or, if it had, then it had been exercised improperly. In the High Court, HH Judge Waksman QC rejected the first two arguments and held that Leumi was entitled to charge for its estimated costs of collecting the receivables. The fee was to be calculated at the outset as a percentage of up to 15% of the collected receivables going forward. Discretion must be exercised properly The judge, however, held that Leumi s discretion to determine the fee amount must be exercised in a way which was not arbitrary, capricious or irrational in the public law sense, citing the Supreme Court s decision in Braganza v BP Shipping [2015] 1 WLR 1661 (known as the Braganza duty). Discharging the Braganza duty means the following: There must be a proper process for arriving at a decision, including taking into account the material points and not taking into account irrelevant ones. Not reaching an outcome which is outside what any reasonable decision-maker could decide, regardless of the process adopted. Bank had failed to consider charging less The judge found that Leumi had charged 15% without considering what the actual or likely costs of collection would be, and without even considering charging less than the maximum amount. Leumi had, therefore, failed to take into account important relevant factors, which meant that it was in breach of its Braganza duty. On the facts, the judge concluded that 4% (or GBP320,000) was the absolute maximum that Leumi could have charged in order to remain in compliance with its duty. BHL had overpaid Leumi and the judge found that BHL s overpayment was a mistake in law. Accordingly, BHL was entitled to recover the amount paid to Leumi in excess of the amount that Leumi could properly charge for the collection fee. Penalty clause Was the collection fee an unenforceable penalty? The judge thought not because: the collection fee clause was a primary, not a secondary obligation, and it was not akin to a sum payable instead of damages; even if the obligation to pay the fee was secondary, it was not a fixed sum or formula, but a fee to be arrived at through exercise of discretion by applying the Braganza duty. The fee was not penal nor extortionate and Leumi had a legitimate commercial interest in being compensated for its costs of the collect-out; and Cobra was a large commercial entity and negotiated the RFA on an arms-length basis. COMMENT The case is a reminder to banks and other financial providers that decisions about fees, particularly in circumstances where the bank or financial provider has an element of discretion, may be subject to challenge in the courts. In this case, the bank had a contractual discretion to set the level of a collection fee up to X amount. In order to minimise the risk of a challenge in cases such as these, it is important that banks (when deciding on the level of fees to be charged) give proper consideration to the reason why fees ought to be set at that level and to document the basis for that decision. The bank must be able to demonstrate that charges have been properly considered in the relevant context and are not arbitrary amounts. Interestingly, HH Judge Waksman QC has issued several recent decisions relating to the obligation in a commercial contract to exercise a discretion rationally and in a way that is consistent with the Braganza duty. Two other decisions are Watson & ors v Watchfinder.co.uk Ltd [2017] EWHC 1275 (Comm) allenovery.com 7

8 and Shurbanova v Forex Capital Markets Ltd [2017] EWHC Notwithstanding the foregoing, the case is helpful to banks or financial institutions with similar fee arrangements in place on the basis that the relevant clause did not fall foul of the rule against penalties. In fact, the bank s contractual discretion to set the collection fee (applying the Braganza duty) was a point that was relevant to the judge finding that the clause was not an unenforceable penalty, on the basis that: (i) it was not a penal or an extortionate provision; and (ii) Leumi had a legitimate commercial interest in being compensated for its costs. Victoria Williams Associate Litigation London Contact Tel victoria.williams@allenovery.com LIMITATION OF LIABILITY WASTED EXPENDITURE OR LOSS OF PROFITS? Royal Devon and Exeter NHS Foundation Trust v ATOS IT Services [2017] EWHC 2197 (TCC), 31 August 2017 In a recent decision on contractual interpretation of limitation of liability clauses, an ambiguous limitation of liability clause was found to be enforceable and wasted expenditure was held to be distinct from loss of profits. This meant that the claimant could recover the cost of software licences, contractors and staff which it had incurred in order to use a new information management service which the defendant had provided. Royal Devon and Exeter NHS Foundation Trust (the Trust) engaged ATOS IT Services (ATOS) to provide information management services. Unhappy with the performance of the system, the Trust sought damages to recover its wasted expenditure incurred in reliance on ATOS s promise to provide a functional system. This included the contract price paid to ATOS and the Trust s expenses incurred in order to set up and use the system (eg the cost of software licences, staff and contractors). The contract contained a limitation of liability clause which: (i) excluded liability for loss of profits; and (ii) set a cap on the level of the parties liability. Was the wasted expenditure really just loss of profits? ATOS argued that the damages for wasted expenditure should properly be characterised as compensation for loss of profit, which was excluded under the limitation of liability clause. ATOS submitted that the Trust s expenditure would have been incurred in any event if the contract had been performed; the Trust s claim for wasted expenditure was based on a rebuttable presumption that if the contract had been properly performed, the Trust would have received revenue and benefits that would have offset that expenditure. The claim was, therefore, one for loss of profits, rather than a claim to recover that expenditure itself. The court held that the Trust was entitled to recover the wasted expenditure as damages to compensate it for its loss, ie not receiving a functioning system. This was a contractual benefit to which the Trust was entitled and had been deprived by ATOS s breach. The Trust s claim was based on a rebuttable presumption that the value of receiving a functional system would be at least equal to the expenditure incurred. It did not matter that the contractual benefit lost by the Trust was non-pecuniary rather than financial; the rebuttable presumption was not allenovery.com 8

9 Litigation and Dispute Resolution November 2017 that the system would produce revenues, but rather that the system itself would be worth the expenditure incurred. The fact that the claim was based on this rebuttable presumption did not transform the claim into one for loss of additional benefits, such as profits, flowing from use of the system. As such, the claim was not excluded by the limitation of liability clause and the Trust was entitled to recover damages. The court noted that if ATOS could establish that the Trust s expenditure would have been wasted in any event, ie because the Trust had made a bad bargain, the wasted expenditure would not have been recoverable as damages. In order to run this argument, ATOS would have been required to show that the value of the system it provided was worth less than the expenditure incurred by the Trust an unattractive proposition. Liability cap The clause included a liability cap that purported to limit ATOS s aggregate liability for breach of contract to a figure determined by reference to whether a breach had occurred in the first 12 months of the contract or subsequently. The Trust argued that the liability cap was unenforceable for uncertainty because one of the sub-clauses included inconsistent references to claims (plural) and that claim (singular) which made it ambiguous as to whether there was a single cap for all claims arising, or a separate cap for each claim. The court disagreed and held that the clause was capable of interpretation (by reading the references to claim(s) in the singular) and was, therefore, enforceable. In reaching this decision, the court took account of the other provisions of the contract, which indicated that the parties intended to impose a financial cap on their total liability for all defaults. The court also assumed that the parties intended the provision to have a reasonable and commercially sensible effect; in favouring the interpretation that there was a single aggregate financial cap for all claims, the judge noted that the potential level of the cap in the alternative interpretation would render it devoid of any real purpose. In her judgment, O Farrell J made some helpful observations in relation to the court s approach to contractual interpretation: when interpreting limitation of liability clauses, there is no presumption against the parties having agreed to give up or limit their remedies for breach of contract; provided the words are clear, the court will give effect to the commercial allocation of risk; the courts will strive to give effect to all contractual terms agreed by the parties where possible, and will be reluctant to find that a contractual provision is void for uncertainty; and where there are competing interpretations of a provision, one of which makes commercial sense and the other which does not, it is open to the court to prefer the former. COMMENT It is a well-established principle that in seeking to establish its loss, a claimant benefits from a rebuttable presumption that, but for the defendant s breach of contract, it would have generated enough profit from the agreement to at least recoup its expenditure. 1 In Royal Devon and Exeter NHS Foundation Trust, the court found that this rebuttable presumption applies not only to future loss of profit but also to loss that had already crystallised (here the Trust s wasted expenditure). It is noteworthy that the judge was prepared to make this finding even in circumstances where the Trust was not expecting or aiming to make a profit from the system; the loss of a functional system (ie a non-pecuniary loss) was enough. Another interesting facet of the case was how the judge distinguished the Trust s claim for wasted employee costs. ATOS argued that the previous case law 2 made clear that the basis for recovery of wasted employee costs was that the damages represented a loss of revenue (ie profits) which would have been generated by those employees had they not been diverted from their normal duties by the breach. ATOS said that it was clear that these costs fell within the exclusion for loss of profits in the limitation of liability clause. The judge disagreed and found that the costs could be distinguished from the cases cited on the basis that these all related to employee costs incurred as a consequence of (and in order to remedy) the defendant s breach; the employee costs allenovery.com 9

10 claimed by the Trust formed part of the wasted expenditure incurred by the Trust in performing the contract. It therefore appears that the court has widened the application of this principle to cover circumstances where employee time is wasted in performing a contract that turns out to be worthless. The case also contains some useful comments on contractual interpretation of a limitation of liability clauses, in particular O Farrell J s recognition that the court will look at the commercial rationale behind a provision when considering difficult questions of interpretation. 1 2 Alex Mobbs Associate Litigation London Contact Tel alex.mobbs@allenovery.com See for example Yam Seng PTE Ltd v International Trade Corporation Ltd [2013] EWHC 111 (QB), paragraph 190. Aerospace Publishing Ltd v Thames Water Utilities Ltd [2007] EWCA Civ 3, Azzurri Communications Ltd v International Telecommunications Ltd [2013] EWPCC 17 and Admiral Management Services v Para-Protect Europe Ltd [2002] EWHC 233. IDENTIFICATION OF THIRD PARTY BENEFICIARIES UNDER THE CONTRACTS (RIGHTS OF THIRD PARTIES) ACT 1999 A BROADER APPROACH? Chudley & ors v Clydesdale Bank PLC (t/a Yorkshire Bank) [2017] EWHC 2177 (Comm), 24 August 2017 Reference to setting up a separate segregated client account in a letter of instruction from a customer to the bank (the terms of which envisaged that an account would be opened and operated in a particular manner) would have been sufficient to expressly identify such clients as third party beneficiaries for the purposes of the Contracts (Rights of Third Parties) Act 1999 (the judge found that there was no contract on the terms of the letter, and so this part of the decision was obiter). This case will be of interest to those considering commercial contracts which potentially benefit third parties (and to which the Act applies). This case concerned failed investments made by the claimants in a development in the Cape Verde Islands. In trying to recoup their loss, the claimants argued that they were third party beneficiaries of an agreement between the defendant bank and its customer, Arck LLP (Arck). Arck was involved with the development, and turned out to be a fraudster. The development failed. Under the terms of a Letter of Instruction (the Letter) from Arck, and countersigned by the bank, it was envisaged that the bank would open a segregated client account for investors funds, and that money would only be paid out of that account if certain conditions were met. In the event, the bank failed to set up the segregated account, and investors funds (including the claimants ), which had been paid into a different account at the bank, were paid out without prior satisfaction of the conditions and subsequently lost. The claimants sued the bank: (i) for breach of contract; (ii) in negligent misrepresentation and based on dangerous documents ; 1 (iii) for a failure to comply with a Quistclose trust; (iv) for dishonest assistance in breach of trust; and (v) for restitution on the basis of an alleged mistake of fact. Ultimately, all of these claims failed; however, the judge s obiter comments in relation to the identification of third party beneficiaries under the Contracts (Rights of Third Parties) Act 1999 (the Act) are worthy of note, and form the focus of this article. allenovery.com 10

11 Litigation and Dispute Resolution November 2017 No contract Despite counter-signature of the Letter by the bank s representative, the judge (Mr Hancock QC, sitting as a judge of the High Court) held that, on an objective view of all the facts known to both parties at the relevant time, there was no binding, unconditional contract between the bank and Arck on the terms of the Letter. In his view, the parties had not in fact agreed that a new account would be opened, or operated in a particular way. Had there been a contract, the claimants would have been beneficiaries (obiter) However, the judge went on to consider whether, if there had been a contract, the claimants would have been entitled to sue on that contract under the Act. The judge first asked whether the terms of the Letter meant that it purported to confer a benefit on a third party (in accordance with s1(1)(b) Act), and concluded that it did. In his view, the entire purpose of documents such as the Letter was to provide a safeguard to third parties (ie those whose monies were to be deposited with the bank), and the Letter constituted a promise to those third parties that their monies would not be released unless specific conditions were met. The judge then considered whether the claimants were expressly identified in the contract as being a member of a class, or as answering a particular description (s1(3) Act). He held that they were. The judge accepted that only express identification was sufficient, and that there could be no implied identification. However, he found that a third party beneficiary could be expressly identified by a process of construction of the relevant term. In this regard, the reference to a client account in the Letter served to both: (i) identify the fact that clients were intended to benefit from the contract; and (ii) expressly identify such clients as the category of parties intended to benefit. 2 The judge also concluded that, had there been a binding agreement between the bank and Arck, then it would clearly have been breached (no further account was opened, and investors monies were paid out without prior satisfaction of the conditions). However, for evidentiary reasons, he found that he could not reconstruct what would have happened had the monies been kept in an account at the bank, 3 or determine whether the claimants had any chance of recovering their money (in relation to a claim based on loss of a chance). As a result, the claimants would not have been able to establish that they had suffered any loss or damage by reason of any such breach. COMMENT Express identification by a process of construction Although the comments made by the judge in respect of the Act were strictly obiter dicta, they nonetheless provide useful guidance on its interpretation and application. They will be of interest to those involved in drafting and negotiating contractual documentation in which the application of the Act is not excluded as a matter of course (for instance, in relation to certain construction projects where ancillary contracts such as collateral warranties are, for whatever reason, not utilised), and will be welcomed by potential third party beneficiaries who may wish to rely on the Act s provisions. Of particular note is the judge s conclusion that a third party beneficiary could be expressly identified for the purposes of s1(3) of the Act by a process of construction. This appears to contradict an earlier decision of the Court of Appeal in Avraamides & anr v Colwill & anr [2006] EWCA Civ 1533, in which Waller LJ held that section 1(3), by use of the word express, simply does not allow a process of construction or implication. However, the judge s view was that the Court of Appeal in Avraamides had not intended to suggest that there could be no express identification by a process of construction (although he accepted that a literal reading of that case might give this impression). Rather, in his opinion the point being made by the Court of Appeal was that a process of construction which in fact amounted to implication was not acceptable for the purposes of s1(3). The judge emphasised that the term in question in Avraamides had been a very broad one (it would have meant that the class of beneficiary encompassed anyone to whom the company in question owed money, of any sort), and could be distinguished from the more limited category or allenovery.com 11

12 class in Chudley (namely, those who had paid money into the relevant account). In addition, the judge also held that, although the requirements of s1(1)(b) (intention to benefit a third party) and s1(3) (express identification) of the Act were cumulative, it was possible for the same term to satisfy both requirements. This was a point which he anxiously considered, in light of a passage from Chitty on Contracts, 32nd ed. (cited in his judgment) in which a different view was expressed. On the facts, the judge found that the reference to a client account in the Letter served to satisfy both requirements; and, in addition, he gave the example of a term identifying a specific individual as a beneficiary which, in his view, would also have been sufficient Edward McCullagh Associate Litigation Corporate London Contact Tel edward.mccullagh@allenovery.com The judge held that the dangerous documents claim added nothing to the claim in negligent misrepresentation. The judge also considered whether there had been a variation of the contract (s2 of the Act). Ultimately, on the facts, the judge was not satisfied that there had been any such variation. The bank also put forward an alternative case, arguing that any loss suffered by the claimants was caused by the failure of the project and not any breach on the bank's part, which was rejected by the judge. Crime REDEFINING THE TEST FOR DISHONESTY WHY DOES IT MATTER? Ivey v Genting Casinos [2017] UKSC 67, 25 October 2017 In a landmark case, the Supreme Court has clarified the test for dishonesty under criminal law. This re-alignment of the criminal test for dishonesty is significant for both organisations and their employees. The court overruled the long-standing second subjective limb of the test for criminal dishonesty (as set out in R v Ghosh) in favour of the objective civil law test. This will erode the availability of subjective defences, possibly increasing the frequency of prosecutions for white collar crime offences against businesses and individuals. The house always wins even at the Supreme Court. The appellant, Mr Ivey, was a professional gambler. In August 2012, he enjoyed an enormously profitable two days at Genting s casino, playing Punto Banco a type of Baccarat. By edge sorting, a technique which helps a gambler recognise specific cards in a pack, Mr Ivey won GBP7.7 million. Genting, however, refused to pay out, taking the view that applying such a technique to a game of luck was tantamount to cheating. Cheating It was common ground between the parties that the contract for betting between Mr Ivey and Genting contained an implied term that neither party would cheat. There was no dispute that Mr Ivey had used edge sorting to gain an advantage against the casino. He viewed it as a perfectly legitimate technique and was open about having utilised it. The case therefore centred on whether Mr Ivey s actions, given his mental state, could amount to cheating. The meaning of cheating was taken to be the same under the implied term as for the criminal offence of cheating under s42 Gambling Act For this reason, the criminal law test for dishonesty came to be considered in a civil trial. allenovery.com 12

13 Litigation and Dispute Resolution November 2017 The original Ghosh criminal test for dishonesty Mr Ivey argued that cheating necessarily involves dishonesty. Dishonesty has long been recognised as a jury concept of fact. To be satisfied of dishonesty, the jury must apply the two-stage test famously set out in R v Ghosh [1982] QB 1053: the conduct in question must be dishonest by the standards of the ordinary reasonable and honest individuals (an objective limb); and the accused must have realised its conduct is dishonest by those standards (a subjective limb). Mr Ivey maintained that he genuinely had not believed edge sorting to be dishonest by ordinary standards. The Supreme Court declined to precisely define cheating. It held that cheating was a clearly understood concept which did not need to be conflated with dishonesty. On that basis alone, the Supreme Court found that Mr Ivey had indeed cheated and was not entitled to his winnings. However, no doubt seeing a generational opportunity to refine the criminal test for dishonesty, the Supreme Court went much further. The new correct test for dishonesty removing the subjective element The five Justices unanimously held R v Ghosh was an incorrect interpretation of the law. The correct test was that which applied at civil law (as set out in Royal Brunei Airlines Sdn Bhd v Tan [1995] 2 AC 378). This test is an objective one: was the accused dishonest by the standards of the ordinary reasonable individual (having the same knowledge as the accused)? Whether or not the accused viewed its actions as dishonest by those standards (ie the subjective limb of the test in R v Ghosh) is irrelevant. In making its decision, the Supreme Court was influenced by three main factors. The test in R v Ghosh was complex, combining both subjective and objective elements. This could be puzzling and difficult for juries to apply. There was no logical or principled basis to have different definitions of dishonesty in civil and criminal proceedings. R v Ghosh had the unintended consequence that the more warped a defendant s standard of honesty, the less like it was to be found criminally responsible for (objectively) dishonest behaviour. It is a crucial function of the criminal law to set acceptable standards of behaviour, notwithstanding an individual s mistake of fact as to societal standards of honesty. The Supreme Court was at pains to emphasise that the removal of the subjective limb does not mean that an individual s state of mind is disregarded entirely when considering dishonesty. A dishonest state of mind remains a subjective mental state. When considering dishonesty, the first step remains to determine what an individual subjectively knew or believed about the facts affecting the activity in which he/she was engaging. Once that state of mind is established, however, the applicable standard of behaviour is now to be judged solely on an objective basis: if an ordinary, reasonable and honest person would regard the accused s mental state as dishonest, it is irrelevant that the accused would not have judged their own mental state as dishonest, nor that they would not have recognised their conduct to be dishonest. The practical implications In practice, dishonesty has been assessed by many juries without undue difficulty on a daily basis. That is unsurprising: a thief would struggle to argue they did not know stealing was dishonest by ordinary standards. However, dishonesty is a crucial element of many complex acquisitive criminal offences. In the white collar crime context, this includes offences under the Fraud Act 2006 and conspiracy to defraud (as demonstrated with the recent prosecution of Tom Hayes), and certain failure to prevent corporate criminal offences (for example, the new tax evasion offences introduced under the Criminal Finances Act 2017 on 30 September). Dishonesty may also be included as an element of the intended general failure allenovery.com 13

14 to prevent economic crime offences currently being considered by the UK government. The impact of applying a purely objective test in more complex cases was spelt out by Lord Hughes: There is no reason why the law should excuse those who make a mistake about what contemporary standards of honesty are, whether in the context of insurance claims, high finance, market manipulation or tax evasion. Many practitioners will pause at that. To take two of Lord Hughes examples: What do contemporary standards say of a multinational company which pays virtually no UK tax due to clever corporate structuring? Does the ordinary honest individual view pre-hedging a client order as a legitimate risk management strategy? The added complexity of the Ghosh subjective test may well be blamed for difficulties in prosecuting complex acquisitive offenses. Trials may now be more straightforward because, as in Mr Ivey's case, facts are often agreed, such that the focus is solely on an accused's knowledge or belief about those facts with reference only to objective standards of honesty. This may well allow prosecutors to bypass altogether previous subjective defences such as market practice, or cultural standards, and leave the question of dishonesty to the jury within the context of their objective standards. As such, this change to the criminal test for dishonesty is significant for both organisations and their employees. In keeping with the prevailing political will, it puts even more of an onus on businesses to operate in a way that reduces the risk of their employees (and those who act on behalf of the company) engaging in dishonest conduct. This requires clear risk-based prevention policies and maintaining a keen eye on the public (and not just market) barometer of what constitutes dishonesty. Finally, from the perspective of regulatory or disciplinary proceedings, the Supreme Court s clarification that there is a single, unitary test for dishonesty across both civil and criminal spheres will offer welcome clarification to any body or entity exercising regulatory or disciplinary power (including the Financial Conduct Authority, or those responsible under the Senior Managers and Certification Regime) where the issue of an individual s honesty is called into question. Stacey McEvoy Senior Associate Litigation Banking Finance and Regulatory London Contact Tel stacey.mcevoy@allenovery.com Calum Macdonald Associate Litigation Banking Finance and Regulatory London Contact Tel calum.macdonald@allenovery.com allenovery.com 14

15 Litigation and Dispute Resolution November 2017 Enforcement THIRD PARTY DEBT ORDERS AND LETTERS OF CREDIT Taurus Petroleum Ltd v State Oil Marketing Company of the Ministry of Oil, Republic of Iraq [2017] UKSC 64, 25 October 2017 The Supreme Court decided that the legal location (situs) of a debt due under a letter of credit is the place of residence of the debtor, not where the debt is due to be paid. The decision opens the door for third party debt orders over letters of credit issued by London-based banks, even if payment is made abroad. The court also allowed a third party debt order despite a pre-existing contractual interest of a fourth party that the debt would be paid into an account of that fourth party. Only proprietary interests of fourth parties are sufficient reason not to grant a third party debt order. The decision will be of interest to those engaged in international commerce, particularly commodities trading utilising letters of credit issued by London-based banks or branches. Taurus Petroleum Ltd (Taurus) sought to enforce an arbitration award against the State Oil Marketing Co. of the Ministry of Oil, Republic of Iraq (SOMO). Taurus requested a third party debt order over letters of credit issued by Crédit Agricole SA, London branch, in payment for oil supplied by SOMO to Shell. SOMO challenged the order. Under the terms of the letters of credit, the sums were to be paid into a specific account held by the Central Bank of Iraq (CBI) at the Federal Reserve Bank in New York. This requirement stemmed originally from UN sanctions requirements imposed on the sale of oil by Iraq, namely that all proceeds from such sales had to be paid into this account and be used for specific limited purposes (95% for development in Iraq, 5% for reparations to Kuwait). Even though the sanctions had ceased to apply, Iraq opted to continue to receive all oil payments through the CBI account. On the basis of this payment structure, SOMO argued that CBI was the beneficiary of the debt under the letters of credit, not SOMO. As a result, SOMO argued, the English court could not issue a third party debt order, as the debt under the letters of credit was not due to the award debtor (here, SOMO). SOMO further argued that the debt under the letters of credit was located in New York and, therefore, the English courts did not have jurisdiction over the debt. Taurus contended that it was entitled to the third party debt order as SOMO was the beneficiary of the debt and the situs of the debt was England. The task for the court was, therefore, to determine whether CBI or SOMO was the beneficiary under the letters of credit and the situs of the debt. The court also considered whether it could issue a receivership order, an issue which is not covered in this article. State immunity, which was considered by the Court of Appeal and is covered in a previous issue, 1 was not pursued before the Supreme Court. Construction of the letters of credit In the letters of credit, SOMO was designated as the beneficiary, and there was also an undertaking by Crédit Agricole to SOMO and the CBI that the debt would be paid into the CBI account. In construing these provisions, the majority of the court decided that SOMO held the legal and beneficial interest in the debt. CBI only had, at most, a contractual right that the debt amount would be paid into the correct CBI account; therefore the debt under the letters of credit was owed to SOMO. allenovery.com 15

16 The situs of the debt under a letter of credit is the place of residence of the debtor The Supreme Court overturned the Court of Appeal decision and Power Curber International Ltd v National Bank of Kuwait SAK [1981] 1 WLR 1233, and held that the situs of a debt under a letter of credit is the place of residence of the debtor (London), not the place of payment (which was New York). The letters of credit incorporated the Uniform Customs and Practice for Documentary Credits (UCP) 600. The UCP is a set of contractual rules published by the International Chamber of Commerce aimed at standardising the terms of letters of credit. Applying UCP 600, the court held that the London branch of Crédit Agricole was to be treated as a separate bank for the purposes of the letters of credit and, therefore, the situs of the debts was London. As a result, the court found that it had jurisdiction over the debt, opening up the possibility of issuing a third party debt order. Third party debt orders can be issued unless a fourth party has a proprietary interest in the debt Although the members of the Supreme Court were in agreement that the situs of the debt was London, the court was still divided as to whether a third party debt order could be ordered. The majority found that a third party debt order could be made provided that the judgment debtor (here, SOMO) had the entire legal and equitable interest in the debt. The majority considered that CBI had a contractual interest sounding in damages only. This non-proprietary interest was insufficient to prevent a third party debt order being issued. COMMENT The decision changes English law on the situs of a debt under a letter of credit. It is now the position that the situs of the debt will be the place of residence of the debtor. This will mean that payments made under letters of credit issued by a London-based bank (or branch of a bank if using UCP 600) can be the subject of an English court third party debt order, even if the debt is to be paid outside the jurisdiction. Moreover, the majority decision on third party debt orders clarifies the circumstances in which third party debt orders are available. Only a proprietary interest of a fourth party will be sufficient reason not to grant the order. A contractual interest alone will not be enough. As a result, parties should take care that all legal and equitable interests in the debt are properly reflected in the underlying document, particularly if the amounts due are being paid into an account that is not held by the beneficiary with the intention that the beneficiary would not be able to deal with the monies after they had been paid under the letter of credit. For a judgment creditor, this decision may provide a new avenue to pursue in recouping amounts owed under a judgment or arbitration award. Parties using letters of credit frequently turn to London-based banks or branches. This decision makes it easier for third parties to intercept payments made under such letters of credit. Provided there is no proprietary interest of a fourth party in the amounts paid, a third party (for example an award creditor as in this case) can now obtain a third party debt order even if the amounts are to be paid outside of the jurisdiction and into an account held by a fourth party. Sarah Morreau Associate Litigation Arbitration London Contact Tel sarah.morreau@allenovery.com 1 allenovery.com 16