EU Advocate General considers interpretation of Prospectus Directive in relation to an issuer’s liability for a prospectus marketed to both retail and qualified investors

The Advocate General (AG) of the Court of Justice of the European Union (CJEU) has handed down an unsurprising opinion on the interpretation of Directive 2003/71/EC (the Prospectus Directive), considering the liability of issuers to qualified investors in respect of inaccuracies in a prospectus: Bankia SA v UMAS (Case C-910/19) EU:C:2021:119 (11 February 2021), (Advocate General Richard de la Tour).

The referral was made by the Spanish Supreme Court on the interpretation of Article 3(2)(a) and Article 6 of the Prospective Directive, which (before its repeal – as discussed further below) provided the framework for a “single passport” for prospectuses throughout the EU. As an EU Directive, it required further implementation measures by EU Member States to be effective. In the UK, the relevant provisions considered by the AG are found at s.90 of the Financial Services and Markets Act 2000 (FSMA).

The context for the referral was the relatively commonplace scenario in a securities issuance, where an issuer publishes a prospectus to the public at large, and as a consequence it is received by qualified investors as well as retail investors (e.g. where there is a combined offer). The question for the AG was whether the issuer could be liable (under Article 6 of the Prospectus Directive) to qualified investors (as well as retail investors) for any inaccuracies in the prospectus in circumstances where, if the offer had been directed solely at qualified investors, the issuer would have been exempt from publishing the prospectus under Article 3(2)(a) of the Prospectus Directive. If the qualified investor is entitled to bring a claim in these circumstances, the AG was asked if the qualified investor’s awareness of the true situation of the issuer could be taken into consideration.

In response to these questions, the AG’s opinion (which is non-binding but influential on the CJEU) concluded as follows:

  1. Article 6 of the Prospectus Directive, in light of Article 3(2)(a), must be interpreted as meaning that where an offer of shares to the public for subscription is directed at both retail and qualified investors, and a prospectus is issued, an action for damages arising from the prospectus may be brought by qualified investors; although it is not necessary to publish such a document where the offer concerns exclusively such investors.
  2. Article 6(2) of the Prospectus Directive must be interpreted as not precluding, in the event of an action in damages being brought by a qualified investor on grounds of an inaccurate prospectus, that investor’s awareness of the true situation of the issuer being taken into consideration besides the inaccurate or incomplete terms of the prospectus, since such awareness may also be taken into account in similar actions for damages and taking it into account does not in practice have the effect of making it impossible or excessively difficult to bring that action, which is a matter for the referring court to determine.

From a UK perspective (and as prefaced above), this is an unsurprising outcome in the context of s.90 FSMA. In particular, because the second point (awareness of the true position of the issuer) is expressly included in the Schedule 10 defences to a s.90 claim.

Securities lawyers will immediately question the impact of the AG’s opinion in the light of the Prospectus Regulation (EU) 2017/1129 and Brexit.  Although the Prospectus Regulation repealed and replaced the Prospectus Directive (see our banking litigation blog post), the substance of the Articles considered by the AG have been carried forward into the equivalent Prospectus Regulation provisions.

As to Brexit, although the UK is no longer a member of the EU (following the end of the Brexit transition period on 31 December 2020), the AG’s opinion may still be of relevance to the interpretation of s.90 FSMA claims. S.90 FSMA represents “retained EU law” post-Brexit because it is derived from an EU Directive. In interpreting retained EU law, CJEU decisions post-dating the end of the transition period are not binding on UK courts, although the courts may have regard to them so far as relevant (see our litigation blog post on the practical implications of Brexit for disputes). As noted above, AG opinions are not binding in any event, but this will be the status of the CJEU decision when finally handed down.

The AG’s opinion is considered in more detail below.

Background

In 2011, the appellant Spanish bank (Bank) issued an offer of shares to the public, for the purpose of becoming listed on the Spanish stock exchange. The offer consisted of two tranches: one for retail investors and the other for qualified investors. A book-building period, in which potential qualified investors could submit subscription bids, took place between June and July 2011. As part of the subscription offer, the Bank contacted the respondent (UMAS), a mutual insurance entity and therefore a qualified investor. UMAS agreed to purchase 160,000 shares at a cost of EUR 600,000. The Bank’s annual financial statements were subsequently revised. This led to the shares losing almost all their value on the secondary market and being suspended from trading.

UMAS issued proceedings in the Spanish court against the Bank seeking to annul the share purchase order, on the grounds that the consent was vitiated by error; or alternatively for a declaration that the Bank was liable on the grounds that the prospectus was misleading. Having lost at first instance, the Bank appealed to the Spanish Provincial Court, which dismissed the action for annulment but upheld the alternative action for damages brought against the Bank on the grounds that the prospectus was inaccurate.

On the Bank’s appeal to the Spanish Supreme Court, the court held that neither the Prospectus Directive nor Spanish law expressly provided that it is possible for qualified investors to hold the issuer liable for an inaccurate prospectus where the offer made to the public to subscribe for securities is addressed to both retail and qualified investors.

The Spanish Supreme Court decided to stay the proceedings and referred two key questions to the ECJ for a preliminary ruling:

  • When an offer of shares to the public for subscription is directed at both retail and qualified investors, and a prospectus is issued for the retail investors, is an action for damages arising from the prospectus available to both kinds of investor or only to retail investors?
  • In the event that an action for damages arising from the prospectus is also available to qualified investors, is it possible to assess the extent to which they were aware of the economic situation of the issuer of the offer of shares to the public for subscription otherwise than through the prospectus, on the basis of their legal and commercial relations with that issuer (e.g. being shareholders of the issuer or members of its management bodies etc)?

Decision

We consider below each of the issues addressed by the AG in his opinion.

Issue 1: Inaccurate prospectus as the basis for a qualified investor’s action for damages

The AG concluded that Article 6 of the Prospectus Directive, in the light of Article 3(2)(a), must be interpreted as meaning that, where an offer of shares to the public for subscription is directed at both retail and qualified investors, and a prospectus is issued, an action for damages arising from the prospectus may be brought by qualified investors, although it is not necessary to publish such a document where the offer concerns exclusively such investors.

In the AG’s view, this interpretation was supported by both a literal/systematic interpretation of the Prospectus Directive, and a teleological interpretation (paying attention to the aim and purpose of EU law).

Before considering each approach to interpretation below, and by way of reminder, Article 3(2)(a) of the Prospectus Directive contains an exemption from the obligation to publish a prospectus where the offer is limited to qualified investors. However, the publication of a prospectus is mandatory where there is a combined offer to the public (i.e. both non-qualified and qualified investors) (Article 3(1)); or in the event of an issue of shares for trading on a regulated market (Article 3(3)).

Literal/systematic interpretation

Considering first the linguistic interpretation of the words used, the AG noted that Article 6 establishes a principle of liability in respect of inaccurate/incomplete prospectuses, but does not provide for an exception to that principle based on the nature of the combined offer, whether it is offered solely to the public or is intended for trading on a regulated market.

The AG contrasted the approach in other provisions of the Prospectus Directive, which do provide for exemptions from the obligation to publish a prospectus, based either on the person to whom the offer is addressed (Article 3(2)(a)), the number of shares or total offer issues (Article 3(2)), or on the nature of the shares issued (Article 4). However, those exemptions from the publication obligation do not prohibit voluntary publication of a prospectus by an issuer who will then benefit from the “single passport” if the shares are issued on a regulated market.

From a systematic perspective, the AG pointed out that the effect of the exemptions was to create circumstances in which qualified investors will receive a prospectus, even if they would not have received one if the offer had been directed solely at qualified investors. For example, where there is a combined offer (as in the present case) or where the prospectus is published voluntarily to benefit from the “single passport”.

The AG commented that the referring court appeared to start from the premise that, since the prospectus was intended solely to protect and inform retail investors, qualified investors could not rely on the inaccuracy of the prospectus in order to bring an action for damages. In the AG’s view, a literal and systematic interpretation of the Prospectus Directive cast doubt on the idea that a prospectus is produced merely in order to protect non-qualified investors.

Teleological interpretation (looking at the aim and purpose of EU law)

The AG said the interpretation of Article 6 of the Prospectus Directive must have regard to and balance two objectives: (i) the completion of a single securities market through the development of access to financial markets; and (ii) the protection of investors whilst taking account of the different requirements for the protection of the various categories of investors and their level of expertise.

Again, in the AG’s view, the presence of exemptions in Articles 3 and 4 versus the lack of any exemptions in Article 6, must lead to an interpretation that where a prospectus exists it must be possible to bring an action for damages on the basis of the inaccuracy of that prospectus irrespective of the type of investor.

The AG also commented that if it were accepted that each Member State could determine itself whether or not qualified investors may bring an action for damages in the event of an inaccurate prospectus, that would lead to possible distortions occurring among Member States that would undermine, disproportionately, the objective of completing the single securities market. A uniform interpretation of Article 6 is required, therefore, concerning persons who may bring proceedings against the issuer in connection with an offer.

Issue 2: Qualified investor’s awareness of the true situation of the issuer

The AG concluded that a Member State has the discretion to provide in its legislation or regulations that awareness by a qualified investor of the true situation of the issuer should be taken into account, in the event of an action for damages being brought by a qualified investor on the grounds of an inaccurate prospectus (i.e. that Article 6(2) does not preclude this principle). However, this is subject to the condition that the principles of effectiveness and equivalence are observed.

The AG said that the extent of liability for inaccuracies in a prospectus is a matter for Member States (in terms of whether to take account of the contributory fault of the investor and questions of causation). Accepting that Member States may factor in the awareness of a qualified investor in their legislation, the AG drew an analogy with the reasoning of the CJEU’s decision in Hirmann C‑174/12, EU:C:2013:856. In Hirmann, the court accepted that a Member State may limit the civil liability of the issuer by limiting the amount of compensation by reference to the date on which the share price is determined for the compensation (although again, the Member State must observe the principles of equivalence and effectiveness).

In terms of observing those principles of equivalence and effectiveness, the AG emphasised the need to take the investor’s awareness into consideration specifically in a given situation, which will require the courts of Member States to assess the evidence of such awareness and of the extent to which that awareness has been taken into consideration.

Harry Edwards
Harry Edwards
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Sarah Hawes
Sarah Hawes
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Ceri Morgan
Ceri Morgan
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Nihar Lovell
Nihar Lovell
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Climate-related disclosures for issuers: further steps towards mandatory requirements?

In November 2020, the UK Joint Government Regulator TCFD Taskforce published its “roadmap towards mandatory climate-related disclosures”, which set out a vision for the next five years. As an initial step towards fulfilling that vision, in January 2021, the new Listing Rule 9.8.6(8) (LR) came into force. The LR requires premium-listed issuers, in their periodic reporting, to publish disclosures in line with the Task Force on Climate-Related Financial Disclosures (TCFD) recommendations on a ‘comply or explain’ basis. However, the Financial Conduct Authority (FCA) has recognised that some issuers may need more time to deal with modelling, analytical, metric or data-based challenges.

This flexibility in the new LR’s compliance basis reflects the challenges and evolving experiences with working on data and metrics in the context of climate risk. Key stakeholders should now be redoubling their efforts to meet the challenges and with the promise of further TCFD guidance on data and metrics later this year and the recent launch of a Department for Business, Energy and Industrial Strategy (BEIS) consultation seeking views on proposals to mandate climate-related financial disclosures in line with the TCFD recommendations from 6 April 2022, the step to a mandatory climate-related disclosure regime may be closer than initially envisaged.

In light of the ever-evolving regulatory landscape, it is important issuers continue to monitor the impact of any changes to their disclosure requirements and to consider what, if any, litigation risks may arise (particularly, under s90 FSMA, s90A FSMA, or in common law or equity) in connection with their climate-related disclosures.

The key developments on data and metrics, as well as the key proposals from the BEIS consultation, are examined below. We also consider what these developments and proposals mean for issuers in terms of regulatory reporting requirements.

Climate Financial Risk Forum

Following its fifth quarterly meeting in November 2020, the Climate Financial Risk Forum (CFRF) noted the importance of progress in the development and understanding of climate data and metrics. In light of this, the CFRF announced that all of its working groups will focus on climate data and metrics in the next phase of work. This is a shift from the CFRF’s previous approach of allocating different focus areas to its working groups.

TCFD Financial Metrics Consultation

The TCFD has this month published a summary of the responses to its ‘Forward-looking Financial Metrics’ Consultation, which was conducted between October 2020 and January 2021. The consultation aimed to collect feedback on decision-useful, forward-looking metrics to be disclosed by financial institutions. The TCFD solicited feedback on specific metrics and views on the shift to, and usefulness of, forward-looking metrics more broadly.

46% of the 209 respondents were financial services firms from around the world, and over half of the respondents were EMEA based, with just over a quarter from North America.

These findings will inform the work on metrics and targets which the TCFD plans to tackle in 2021. The TCFD announced that it will publish broader, additional draft guidance for market review and consideration later this year.

BEIS Consultation

BEIS launched a consultation this month on mandating climate-related disclosures by publicly quoted companies, large private companies and LLPs. The consultation proposes that, for financial periods starting on or after 6 April 2022, certain UK companies with more than 500 employees (including premium-listed companies) be required to report climate-related financial disclosures in the non-financial information statement which forms part of the Strategic Report. Such disclosures are required to be in line with the four overarching pillars of the TCFD recommendations (Governance, Strategy, Risk Management, Metrics & Targets).

BEIS has stated that the proposed rules are intended to be complementary to the FCA’s requirement that premium-listed companies make disclosures in line with the four pillars and 11 recommended disclosures of the TCFD. BEIS proposes to introduce the new rules via secondary legislation which will amend the Companies Act 2006.

The Financial Reporting Council will be responsible for monitoring and enforcing the proposed rules, while the FCA will supervise and enforce disclosures within the scope of the LR.

The consultation is open until 5 May 2021.

Regulatory reporting requirements

The new TCFD guidance, once published, is likely to feed into the LR requirements. The new LR expressly refers to the TCFD Guidance on Risk Management Integration and Disclosure and the TCFD Guidance on Scenario Analysis for Non-Financial Companies published in October 2020. Additionally, the FCA’s Policy Statement dated December 2020, which accompanied the new LR, stated that the FCA would be considering how best to include references to any further TCFD guidance in the FCA Handbook Guidance. This is likely to be achieved through the use of the FCA Quarterly Consultation Papers.

The new LR is not a mandatory disclosure requirement and the new rules proposed by the BEIS consultation are yet to have legislative force. However, we are getting a clearer picture of the likely disclosure regime in the UK and in particular: the regulatory guidance around the compliance basis; the clear anticipated milestones this year relating to data and metrics guidance and best practice; and the forthcoming Consultation Paper by the FCA on the scope expansion (including compliance basis) of the new LR. That picture suggests the transition to mandatory climate-related disclosure requirements may well be a small step, rather than a giant leap.

Simon Clarke
Simon Clarke
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Nihar Lovell
Nihar Lovell
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Sousan Gorji
Sousan Gorji
Senior Associate
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Court of Appeal clarifies requirements for establishing deliberate concealment to postpone limitation period

The Court of Appeal has found that a defendant creditor could not rely on a limitation defence to a borrower’s claim that its non-disclosure of a very high rate of commission rendered the relationship “unfair” within the meaning of s.140A of the Consumer Credit Act 1974, as the borrower could establish deliberate concealment to postpone limitation under s.32 of the Limitation Act 1980: Canada Square Operations Ltd v Potter [2021] EWCA Civ 339.

Section 32(1)(b) of the Act provides that, where any fact relevant to a claimant’s right of action has been deliberately concealed by the defendant, limitation does not begin to run until the claimant has discovered the concealment (or could with reasonable diligence have discovered it). Section 32(2) provides that, for these purposes, deliberate commission of a breach of duty in circumstances where it is unlikely to be discovered for some time amounts to deliberate concealment of the facts involved in that breach of duty.

The Court of Appeal’s decision is of interest in confirming that s.32 does not require “active concealment”. It may apply to cases of non-disclosure and, in such cases, there is no need for the court to consider whether there was a pre-existing contractual, tortious or fiduciary duty to disclose. Precisely when the court will find there was a sufficient duty is not altogether clear, however. The decision suggests that the obligation may arise from “a combination of utility and morality”, which is not the most straightforward of benchmarks. The upshot is that claimants may be able to postpone the limitation period due to (deliberate) non-disclosure, even where the non-disclosure is not actionable in itself.

The decision also clarifies what is meant by “deliberate”, for both deliberate concealment under s.32(1)(b) and deliberate commission of a breach of duty under s.32(2). It shows there is no need for the claimant to establish actual knowledge or wilful blindness on the part of the defendant. Recklessness is sufficient, in the sense that: (a) the defendant realised there was a risk (that they ought to disclose the information, or that their conduct amounted to a breach of duty); and (b) it was objectively unreasonable to take that risk. Again, this may make it easier for claimants to postpone time running, as there is no need to show a defendant was aware of its wrongdoing so long as it took an unreasonable risk that what it was doing was wrong.

For more information, please see this post on our Litigation blog.

Court of Appeal rejects all claims relating to transfer of property portfolio to lender’s restructuring unit following borrower default

The Court of Appeal has upheld the High Court’s decision to reject all claims arising from the transfer of a defaulting borrower’s property portfolio to his lending bank’s restructuring unit during the global financial crisis. Dismissing the appeal in full, the Court of Appeal refused to imply any contractual terms into the mortgage, and did not accept claims that the bank owed a general duty to act in good faith in relation to the negotiation of the restructuring, or that the bank’s actions amounted to intimidation or economic duress: Morley (t/a Morley Estates) v The Royal Bank of Scotland plc [2021] EWCA Civ 338.

This decision is a reassuring one for financial institutions where borrower default has led to a restructuring and the bank is faced with attempts to rescind, especially where there has been significant market turmoil (such as the global financial crisis or the current COVID-19 pandemic). It highlights the difficulties for claimants bringing claims of this nature in circumstances where the bank’s exercise of its powers under a facility agreement are in line with its commercial interests and the negotiation of the relevant restructuring is between commercial parties with the benefit of legal advice.

The key points decided by the Court of Appeal that are likely to be of broader interest are as follows:

  • Duty to provide services with reasonable skill and care. The Court of Appeal rejected the implication of a contractual term into the original loan agreement under section 13 of the Supply of Goods and Services Act 1982 (the Act). It did not accept that the bank was under any implied contractual duty to exercise reasonable skill and care in negotiating the restructuring with the claimant after his default on the original loan; by then the parties’ relationship was governed by the express terms of the loan and the equitable principles applicable to that relationship. Even if owed, the Court of Appeal commented that this duty was not breached on the facts.
  • Duty to act in good faith. The Court of Appeal did not accept that the bank was subject to an implied contractual duty under the loan to act in good faith in its negotiations with the claimant. All the bank’s actions in any case, in the court’s view, were rationally connected to its commercial interests.  
  • Intimidation and economic duress. The Court of Appeal underlined that the bank had not committed the tort of intimidation and that the restructuring agreement between the bank and claimant was therefore not voidable for economic duress. In its view, the restructuring agreement concluded was the result of a robust negotiation between commercial parties, each of which had legal advice and was well able to look after itself in that negotiation. Also, it was notable that the restructuring agreement concluded was one that the claimant had wanted and had originally proposed.

The decision is considered in further detail below.

Background

The claimant was a commercial property developer with a portfolio in the north of England. In December 2006, he entered into a three year, £75 million loan (the Loan Agreement) with the defendant bank (the Bank). The Bank took legal charges over all 21 properties in the claimant’s portfolio, but had no recourse to the claimant personally. During 2008 the parties discussed restructuring the loan, after the claimant failed to make interest payments, but did not reach agreement. In January 2009, the Bank obtained an updated valuation valuing the portfolio at approximately £59 million. On the basis of the valuation, the Bank: 1) notified the claimant of a breach of a loan to value ratio covenant; and 2) served a separate notice exercising its right to charge interest at an increased default rate of 3%.

In mid-2009, the Bank’s Global Restructuring Group (the GRG) took over the relationship with the claimant. Negotiations continued between the GRG and the claimant into 2010 (primarily focused on a discounted redemption of the loan by the claimant, on the basis that the value of the portfolio had dropped sharply in turbulent times) and the loan expiry date was extended several times, but the claimant was unable to raise sufficient funds.

At a meeting on Thursday 8 July 2010, the GRG sought the claimant’s consent to transfer the entire portfolio voluntarily to the Bank’s subsidiary, West Register (Property Investments) Limited (West Register). The GRG’s representative warned that if the claimant refused, the Bank would do a pre-pack insolvency and appoint a receiver on Monday 12 July 2010. The claimant did not agree to transfer his portfolio, but continued to negotiate. A few weeks later, the claimant’s solicitors wrote to the GRG threatening injunction proceedings if the appointment of a receiver went ahead. In August 2010, the parties executed an agreement  under which the claimant repurchased five of the properties for £20.5 million and surrendered the rest to West Register and in return the Bank released its security and the claimant was released from his obligations under the loan (the Restructuring Agreement).

The claimant brought proceedings against the Bank on the basis that in concluding this Restructuring Agreement, the Bank acted in breach of a duty owed to him pursuant to section 13 of the Act to provide banking services with reasonable care and skill and in breach of a duty of good faith, and seeking damages for breach of these duties. The claimant also contended that he was coerced into concluding the Restructuring Agreement by unlawful pressure placed upon him by the Bank, and that as a result of this coercion, the Bank committed the tort of intimidation and the Restructuring Agreement was voidable for economic duress.

High Court decision

The High Court dismissed the claim in full. The High Court’s reasoning is summarised in our previous blog post here. The claimant appealed.

Court of Appeal decision

The Court of Appeal found in favour of the Bank and upheld the High Court’s decision to dismiss the claimant’s claim. We consider below some of key issues considered by the court.

Issue 1: Duty to exercise reasonable skill and care in providing lending services

The claimant argued that the Bank was: (i) subject to a duty under the Act to provide lending services with reasonable care and skill (such a duty operated as an implied term of the original Loan Agreement); and (ii) in breach of duty because, in negotiating for the transfer of the properties to West Register, the Bank was acting as a buyer (i.e. seeking to obtain the properties with a view to medium or long term capital gain) rather than as a lender (i.e. seeking to recover the money which it had lent).

The Court of Appeal did not accept that the Bank was under any implied contractual duty to exercise reasonable skill and care in negotiating the Restructuring Agreement with the claimant after his default on the original Loan Agreement in December 2009. The Court of Appeal underlined that by then the parties’ relationship was governed by the express terms of the Loan Agreement and the equitable principles applicable to that relationship; an implied term in the original Loan Agreement therefore did not have any part to play in the parties’ relationship in the circumstances.

The Court of Appeal commented that even if the Bank did owe a relevant duty under the Act, it had committed no breach of duty; throughout the Bank’s only objective was to recover as much as possible of the amount which it had loaned to the claimant, but even if the Bank had mixed motives that would have made no difference – it was unnecessary that a mortgagee should have “purity of purpose”, i.e. that its only motive is to recover in whole or part the debt secured by the mortgage.

Issue 2: Duty to act in good faith

The claimant argued that the Bank was under an implied contractual duty under the original Loan Agreement to act in good faith, or not to act vexatiously or contrary to its “legitimate commercial interests”.

The Court of Appeal did not accept that the Bank was subject to such a duty in its negotiations with the claimant and noted that all the Bank’s actions in any case were rationally connected to its commercial interests.

The Court of Appeal highlighted that the High Court had already made a factual finding rejecting that the manner in which the negotiations were conducted were acts done in order to vex the claimant maliciously.

Issue 3: Intimidation and economic duress

The claimant argued that the High Court’s finding that he had not been coerced was wrong.

The Court of Appeal disagreed and highlighted that, on the facts of the case, there had been no coercion. The Court of Appeal said that the Restructuring Agreement concluded was the result of a robust negotiation between commercial parties, each of which had legal advice and was well able to look after itself in that negotiation. The Court of Appeal noted that the claimant: (a) was not above making threats (such as walking away from the properties to cause serious damage to the Bank’s security); (b) was prepared to exert political and public relations pressure on the Bank (by enlisting his MP and by engaging public relations consultations); and (c) was prepared to threaten an emergency application to a court for an injunction.

The Court of Appeal also commented that the claimant did not submit to the Bank’s demand and that the Restructuring Agreement concluded was one that the claimant had wanted and had originally proposed; it was the claimant’s successful persistence in the negotiations (e.g. in not being coerced) which enabled him to achieve his object and he therefore had entered into the Restructuring Agreement with the Bank of his own free will. The Court of Appeal said the fact that claimant did not take any steps to set the Restructuring Agreement aside until 5 years later was significant, as it not only demonstrated his affirmation of the Restructuring Agreement but also negated any finding of coercion. The Court of Appeal underlined that any doubt was dispelled by a submission document prepared by the claimant or on his behalf in August 2010 for a separate bank, in which the virtues of the deal with the Bank was extolled and described as a consensual deal which was driven by the claimant.

Accordingly, the Court of Appeal dismissed the appeal in full.

Natasha Johnson
Natasha Johnson
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Ceri Morgan
Ceri Morgan
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Nihar Lovell
Nihar Lovell
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Interesting New York court decision provides warning for financial institutions in relation to possible retention by recipients of mistaken payments

On 16 February 2021, Judge Jesse Furman of the United States District Court for the Southern District of New York ruled, in a 105-page decision, that recipients of erroneous transfers made by Citibank N.A. of its own money to creditors of Revlon, Inc. were entitled to retain the sums totaling more than $500 million: In re Citibank August 11, 2020 Wire Transfers.

While the court applied a well-established exception under New York law, known as the “discharge-for-value defense”, to the general rule that failure to return money wired by mistake constitutes unjust enrichment or conversion, this decision – notable not least for the large amounts in dispute (Citibank mistakenly transferred almost $900 million in all, but some of the recipients voluntarily returned the money upon realizing the error) – underscores the competing policy considerations of the defense and raises questions of its own.

This outcome contrasts with the legal position on mistaken payments in the UK, under which there is no equivalent discharge-for-value defence. The overall statutory regime governing this situation is the Payment Services Regulations 2017. In the UK, the recipient must instead rely on general restitutionary defences in particular the change of position defence. This sets a far higher bar for recipients to meet; they will be required to prove that their circumstances changed detrimentally as a result of the receipt of the enrichment and that they are not disqualified from relying on the defence.

Amal Bouchenaki, Christian Leathley, Liang-Ying Tan and Alisha Mathew from our New York office consider the decision further below.

Factual background

The relevant facts were largely undisputed: in 2016, Revlon took out a term loan set to mature on the earlier of 7 September 2023, or, if certain notes remained outstanding, 16 November 2020. Citibank was the administrative agent for the loan. On 11 August 2020 Citibank sought to make certain payments under a roll-up transaction aimed at facilitating the exit of five lenders from the original term loan. The easiest way for Citibank to pay the five lenders their share of the principal and interest and to reconstitute the loan with the remaining lenders using Citibank’s software, was for Citibank to input in the system that it was paying off the loan in its entirety, but to direct the principal portion of the payment into a Citibank internal “wash account”. The persons carrying out the transaction mistakenly believed they had assigned the principal to go to the wash account, as did the three people who reviewed the transaction under Citibank’s “six-eye” approval procedure. Instead, all the outstanding money on the loan – principal and interest – was distributed to the lenders.

When the error was discovered the next day, Citibank issued Recall Notices to the lenders explaining that the funds had been transferred in error, and asking for the principal to be returned. While some lenders returned the money, others withheld, leading Citibank to file lawsuits against the defendants – 10 investment advisory firms – claiming unjust enrichment, conversion, money had and received, and payment by mistake.

Issues

The primary issue in the proceedings was whether the defendants had established the elements of the discharge-for-value defense under New York law, which would be a complete defense to Citibank’s claims. In essence, this defense relieves a creditor from a duty to make restitution after a mistaken payment, provided the creditor made no misrepresentation, and did not have notice of the transferor’s mistake. Noting that the discharge-for-value defense was well established following the New York Court of Appeals’ 1991 decision in Banque Worms v. BankAmerica Int’l, 570 N.E.2d 192 (N.Y. 1991) (Banque Worms), Judge Furman first considered the relevant standards for invoking this defense.

Must the debt be due?

The first issue was whether the debt must be due at the time of discharge, rather than simply outstanding – with Citibank contending the former. Judge Furman considered the language in the Restatement (First) of Restitution, the decision by the Second Circuit and Court of Appeals in Banque Worms, and subsequent jurisprudence to conclude that there was no “present entitlement” element to the defense, i.e. the recipient did not need to show that an outstanding debt was due in order to rely on the defense.

When should notice be assessed?

Citibank then contended that the relevant time for assessing notice was at the moment payment is formally credited to the creditor, rather than when payment is received. Judge Furman disagreed, finding that the issue had already been decided in Banque Worms, and that notice is to be assessed at the time the money is received. Judge Furman also noted that the alternative would run contrary to the principle of finality, as it is difficult to pinpoint exactly when funds are formally credited. Rather than promoting finality, Judge Furman stated that this would be a “recipe for litigation.”

Actual or constructive notice?

Finally, at issue was whether the discharge-for-value defense could only be defeated if the recipient had actual notice, as opposed to constructive notice, with the defendants contending the former. On this point, Judge Furman agreed with Citibank, relying on earlier jurisprudence and drawing parallels to the bona fide purchaser rule. Additionally, Judge Furman noted that applying an actual notice standard would be impracticable, as it would only apply if the transferor in effect submitted notice that the payment was in error either before or when making the payment – a scenario that is unlikely to arise.

Analysis

It was undisputed that the defendants were bona fide creditors, and that they made no misrepresentations to induce the mistaken wire transfer. The issue therefore was whether the defendants had constructive notice of Citibank’s mistake at the time the wire transfer was received. Judge Furman found they did not.

First, Judge Furman found that the defendants had provided credible testamentary and documentary evidence that they reasonably believed the payments to be intentional prepayments of the original term loan. He noted the fact that the amounts received matched “to the penny” the amounts outstanding, as well as the fact that Citibank is one of the most sophisticated financial institutions. This, he said, made it plausible for the defendants to believe that the payments were prepayments rather than an error: “Put simply, where, as here, a lender is minding her own business, and receives an unexpected and unscheduled payment from a borrower that matches exactly the amount of the borrower’s outstanding debt, it is reasonable to assume that the borrower has intentionally paid off the debt. In fact, it might even be unreasonable to assume otherwise.” Judge Furman therefore dismissed Citibank’s argument that the size of the transfer should have led defendants to conclude that the payments had been made in error.

To the extent that the defendants had any duty to inquire (which the court left open), Judge Furman held that this was satisfied by the defendants having taken a closer look at the payment, confirming that they were made with respect to the original term loan, and consulting third-party market data.

Citibank also argued that the defendants should have realized that the payments were in error as they knew Revlon was insolvent and facing a severe liquidity crisis – in other words, Revlon could not have repaid its loan. Judge Furman dismissed this argument, noting that Revlon was known to have strong financial backing from its 85% equity holder and had paid off loans in May 2020.

Finally, Judge Furman also dismissed Citibank’s argument that allowing the defendants to retain the money would be bad policy, as it would chill the practice of wire transfers, and force banks to insure against errors thereby increasing costs for borrowers and lenders. Judge Furman noted that similar arguments had been made in Banque Worms, and that the significant time that has passed since that decision “casts considerable doubt on [Citibank’s] assertion that the sky will fall for the New York banking industry if the defendants here prevail.” Rather, Judge Furman noted that there are various steps that banks can take to mitigate against a similar situation recurring – such as implementing a practice of providing notice of a payment prior to sending the payment, such that any discrepancy in the payment amount would put the recipient on notice.

Judge Furman accordingly found that the defendants had established the discharge-for-value defense and were entitled to retain the money transferred. Anticipating that Citibank would appeal the decision, Judge Furman ordered that the temporary restraining orders placed over the money remain in place. The parties have since agreed to a timetable for a motion on the injunctions – with the motion to be filed by 2 March 2021.

Conclusion

In applying established principles of New York law on the discharge-for-value defense, this case underscores that a mistaken wire transfer to a creditor may not be recoverable. Crucially, in determining whether the recipient was on constructive notice of the mistake at the time of the transfer, witness testimony may be significant in establishing the reasonableness of a recipient’s belief that payment was intentional. Judge Furman’s decision is also notable for its attention to the underlying policy considerations, which might assuage concerns of unfairness in the outcome of this case.

Nonetheless, it appears likely that this case will be appealed, and the decision leaves open a number of questions (not before Judge Furman). For example, given the focus of the decision was on the defendants’ entitlement to retain the funds, the issue of how Citibank’s payments should be characterized remains unanswered, particularly given that the debt was not Citibank’s. Further, it remains to be seen whether Citibank could have any recourse against Revlon, if an eventual appeal against Judge Furman’s decision is dismissed.

Amal Bouchenaki
Amal Bouchenaki
Partner
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Christian Leathley
Christian Leathley
Partner
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Liang-Ying Tan
Liang-Ying Tan
Senior Associate
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Supreme Court allows appeal in jurisdictional challenge relating to parent company duty of care

On 12 February, the Supreme Court handed down its judgment in a high profile jurisdictional challenge relating to group claims brought against Royal Dutch Shell plc and its Nigerian subsidiary in connection with alleged pollution in the Niger Delta: Okpabi and others v Royal Dutch Shell plc and Shell Petroleum Development Company of Nigeria Ltd [2021] UKSC 3.

While set in a non-financial context, this decision will be of great interest – and potential concern – to all UK-domiciled financial institutions who might be considered to be at risk of claims being brought which allege a duty of care in relation to the actions of their foreign subsidiaries or branches.

The Supreme Court unanimously allowed the claimants’ appeal, finding that the English court does have jurisdiction over the claims. It held that (1) the Court of Appeal materially erred in law by conducting a mini-trial in relation to the arguability of the claim at the jurisdiction stage, and (2) it was reasonably arguable that the UK domiciled Shell parent company owed a duty of care to the claimants.

The decision provides further consideration of the circumstances in which a parent company may owe a duty of care to those affected by the acts or omissions of its foreign subsidiary, an issue that the Supreme Court considered in its recent judgment in Vedanta Resources PLC and another (Appellants) v Lungowe and others (Respondents) [2019] UKSC 20 (which was heavily relied upon by the Supreme Court in this case).

The latest Supreme Court judgment on this question will not provide comfort to UK financial institutions exposed to such parent liability claims. In particular, the decision is likely to constrain defendants (as part of a jurisdictional challenge) from seeking to challenge the factual basis on which claims are advanced. As a result, many defendants will be concerned that they are more vulnerable to weak and speculative claims being allowed to proceed in the English courts.

For a more detailed analysis of the decision, see our litigation blog post.

High Court confirms current scope of Quincecare duty is limited to protecting corporate customers and does not extend to individuals

In a recent decision, the High Court has granted reverse summary judgment in favour of a defendant bank on the basis that the so-called Quincecare duty of care did not operate in the context of an authorised push payment (APP) fraud, where a third party fraudster tricked the bank’s customer willingly to instruct the bank to transfer large sums out of her account, which were then misappropriated: Philipp v Barclays Bank UK plc [2021] EWHC 10 (Comm).

The judgment is the latest in a line of judgments concerning the parameters of the Quincecare duty, which arises where a bank has received a payment mandate from an authorised signatory of its customer, and executed the order, in circumstances where (allegedly) there were red flags to suggest that the order was an attempt to misappropriate the funds of the customer. This recent decision is important and helpful for financial institutions, because it confirms that existing authorities limit the Quincecare duty to protect corporate customers or unincorporated associations such as partnerships (i.e. where the instruction to the bank has been given by a trusted agent of the customer). The decision confirms that the Quincecare duty does not currently extend to individual customers. On the facts of the present case, the court was not persuaded to extend the Quincecare duty to protect an individual customer in the context of an APP fraud, saying to do so would be contrary to the principles underpinning the duty.

There has been an unfortunate proliferation of APP frauds over recent years which has seen a staggering increase in the accompanying sums that individuals are therefore out of pocket. While this decision closes one avenue by which banks were said to be liable for compensating victims, it will only be of relevance when the circumstances of the fraud cause it to fall outside of the voluntary Contingent Reimbursement Model Code, which seeks to compensate victims of APP frauds and is funded by banks for this purpose.

Background

In March 2018, the claimant was the victim of an APP fraud. As part of an elaborate deception by a third party fraudster, the claimant transferred £700,000 in two separate tranches from her account with the defendant bank (Bank) to international bank accounts, in the belief that the money would be safe and that she was assisting an investigation by the Financial Conduct Authority (FCA) and the National Crime Agency (NCA).

The claimant brought a claim against the Bank to recover damages for the loss she suffered by making the two payments, alleging that the Bank owed and breached a duty of care to protect her from the consequences of the payments. In this context, the claimant relied upon the Quincecare duty of care (first established in Barclays Bank plc v Quincecare Ltd [1992] 4 All ER 343), saying that the extent of protection afforded to a customer through a bank’s observance of the Quincecare duty, required the Bank to have certain policies and procedures in place by March 2018 for the purpose of:

  • Detecting potential APP fraud;
  • Preventing potential APP fraud;
  • Stopping potential APP fraud; and
  • Stopping or reversing or reclaiming monies the subject of a potential APP fraud.

The claimant brought an alternative case based upon loss of a chance, on the basis that if the international transfers had at least been delayed by the Bank, she would have had the chance of recovering the monies before they reached the hands of the fraudster.

The Bank denied the claim and brought an application for strike out / reverse summary judgment, arguing that it did not owe a legal duty of the kind alleged by the claimant and that (even if such a duty was owed and breached) the claimant’s case on causation was fanciful.

Decision

The court held that that Bank did not owe the claimant a duty of care in respect of the APP fraud and granted summary judgment in favour of the Bank.

Suitability for summary judgment

The application turned upon the interpretation of the Bank’s alleged duty of care, i.e. whether or not the Bank should, in March 2018, have had in place a system for detecting and preventing the APP fraud perpetrated upon the claimant. The court was satisfied that this was a case giving rise to a short point of law or construction, and that the factual platform was sufficiently clear and stable, to enable it to grasp the nettle and decide the matter before the costs of the litigation increased further (applying the seventh proposition in EasyAir Ltd v Opal Telecom Ltd [2009] EWHC 339 (Ch)).

Scope and nature of the Quincecare duty of care

The difference between the parties arose from the extent of protection afforded to a customer through a bank’s observance of the Quincecare duty. This duty was first encapsulated in the decision from Steyn J in the case of the same name, in which he said as follows:

“…a banker must refrain from executing an order if and for so long as the banker is “put on inquiry” in the sense that he has reasonable grounds (although not necessarily proof) for believing that the order is an attempt to misappropriate funds of the company…And the external standard of the likely perception of the ordinary prudent banker is the governing one.”

The question for the court was whether or not the Quincecare duty owed by the Bank required it to have in place the policies and procedures alleged in the particulars of claim, for the purpose of detecting and preventing the APP fraud or for recovering any monies transferred by the claimant as a result of it.

In this context, the court made three important observations about the nature of the Quincecare duty from previous authorities including Quincecare itself, Lipkin Gorman v Karpnale Ltd  [1987] 1 WLR 987 and Singularis Holdings Ltd (In Official Liquidation) v Daiwa Capital Markets Europe Ltd [2019] UKSC 50, as follows:

  1. The purpose of the Quincecare duty is to protect a bank’s customer from the misappropriation of funds, carried out by a trusted agent of the customer who is authorised to withdraw its money from the account.
  2. The Quincecare duty is subordinate to the bank’s contractual duty to act upon a valid instruction (whether the payment of cheques, acting on oral/written instructions to transfer monies, or automated bank payment methods). The Quincecare duty is both ancillary and subject to that primary duty.
  3. The operative standard of the ordinary prudent banker enables a claimant customer to hold a defendant bank to objective (or industry) standards of honesty; it is not a test based on subjective dishonesty or “lack of probity” on the bank’s part (see Singularis).

The court found that it was clear from all three previous authorities that the particulars of claim amounted to an invitation to the court to extend the scope of the Quincecare duty beyond its established boundaries. Central to this conclusion was the court’s acceptance that the existing authorities limited the Quincecare duty to cases of attempted misappropriation by an agent of the customer. It emphasised that the present case concerned an authorised push payment fraud, i.e. the claimant herself gave authorisation for the international payments to be made and so there was no agent involved.

Suggested extension of the Quincecare duty

The case therefore raised a novel point of law, as to whether the Quincecare duty should be extended in the context of APP fraud.

The court adopted the approach in Gorham v British Telecommunications plc [2000] 1 W.L.R 2129, considering whether the alleged duty could be established through a process of appropriate incremental development of the common law by reference to circumstances not addressed in earlier cases considering the duty. The court confirmed that it would approach the question of incremental development of the Quincecare duty as follows:

  • While expert evidence might be required to assist the court in deciding whether the Bank fell short in the performance of its duties to the claimant, the court would not be assisted by expert evidence on the question of what those duties were – expert evidence was therefore irrelevant to the Bank’s application.
  • Various materials were published in relation to APP fraud prior to March 2018, but these materials did not support the conclusion that the Bank owed the claimant the duties alleged.
  • The decision as to the true scope and nature of the Quincecare duty turned, therefore, upon an analysis of the principles underpinning it.

Accordingly, the court proceeded to consider the principles underpinning the Quincecare duty, as articulated at numbered paragraphs 1-3 in the scope of duty section above.

(i) Purpose of the duty: corporate customers vs individuals

In the court’s view, the observations of Lady Hale in Singularis (in particular on corporate attribution and causation) about the purpose of the duty, did not sit comfortably with the extension of the Quincecare duty to an individual customer. The Supreme Court said nothing about a bank protecting an individual customer (and her monies) from her own intentional decision. Considering the factual context of Singularis, the court observed that “even a sole shareholder can steal from the company for whom he is a signatory at the bank” but the claimant in this case “could not steal from herself”.

It commented that, where the bank’s customer is an individual (and not a corporation or unincorporated association which is dependent upon individual representatives and signatories who have the potential to go rogue), the customer’s authority to make the payment is not only apparent but must also be taken by the bank to be real and genuine. As between the individual and the bank, the payment instruction will be no less real and genuine in relation to the intended destination of the customer’s funds because it has been induced by deceit.

The court highlighted another contrast between the position of an individual vs corporate customer, considering the effect on how legal title passes. In the present case, the claimant gave valid instructions to the Bank to make the transfers (albeit those instructions were procured by fraud), and therefore they remained valid in legally passing title to the monies to the fraudster. In contrast, where an agent of the bank’s customer misappropriates the customer’s monies, then a constructive trust will be deemed to have arisen at the moment of receipt (provided legal title to the funds can be asserted).

(ii) Duty subordinate/ancillary to primary duty to act on customer’s instruction

Concerning the interaction between a bank’s mandate to comply with customer instructions and its Quincecare duty, the court held that it should resist the claimant’s attempt to elevate the Quincecare duty to a position where it ceased to be ancillary or subordinate to a bank’s primary duty of acting upon its customer’s instructions. To do so, would “emasculate the primary duty”, by a supposedly subordinate duty assuming a heightened set of obligations. The court said that such an outcome should be avoided as it would “involve the triumph of unduly onerous and commercially unrealistic policing obligations over the bank’s basic obligation to act upon its customer’s instructions”.

The court further noted that banks “cannot be expected to carry out such urgent detective work, or treated as a gatekeeper or guardian in relation to the commercial wisdom of the customer’s decision and the payment instructions which result”.

(iii) No clear framework for extended duty to operate within

Additionally, the court considered that no clear framework existed by which such an extended duty could in practice sensibly operate. It noted that the Quincecare duty concerns the general concept that a bank will adhere to the “standards of honest and reasonable conduct in being alive to suspected fraud”, which Steyn J himself noted was not “too high a standard”.

The court held that the Quincecare duty is inherently a creature shaped by the conception of knowledge (actual or constructive) and not a negligent failure to adhere to an amorphous “code” of which the terms are not clearly defined. If the duty was to be extended beyond that general concept, it would have to be by reference to: “industry-recognised rules from which a bank could identify the particular circumstances in which it should not act (or act immediately) upon its customer’s genuine instructions”.

Loss of a chance

Given the court’s finding that the legal duty asserted did not arise, it was not necessary to consider the claimant’s anterior arguments, including her claim for loss of a chance in recovering the monies from the UAE; one which the court accepted could not have been determined summarily.

Chris Bushell
Chris Bushell
Partner
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Ceri Morgan
Ceri Morgan
Professional Support Consultant
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Scott Warin
Scott Warin
Associate
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Climate-related disclosures for issuers: FCA publishes final rules

The Financial Conduct Authority (FCA) has published a Policy Statement (PS20/17) and final rules and guidance in relation to climate-related financial disclosures for UK premium listed companies.

Companies will be required to include a statement in their annual financial report which sets out whether their disclosures are consistent with the Task Force on Climate-related Financial Disclosures (TCFD) June 2017 recommendations, and to explain if they have not done so. The rule will apply for accounting periods beginning on or after 1 January 2021.

As well as some additional guidance, the FCA has made only one material change to the rules consulted upon in March 2020 (CP20/03) with the final LR 9.8.6(8)(b)(ii)(C) R requiring non-compliant companies to set out details of how and when they plan to be able to make TCFD-aligned disclosures in the future.

With regard to monitoring compliance with the new listing rule, the FCA confirmed in its Policy Statement that it will provide further information on its supervisory approach to the new rule in a Primary Market Bulletin later in 2021.

In light of this latest regulatory development, issuers may also want to consider what, if any, litigation risks may arise in connection with climate-related disclosures (and indeed other sustainability-related disclosures which are made in response to these regulatory developments). There may be an increased risk of litigation under s90 FSMA, s90A FSMA, or in common law or equity. This was considered in greater detail in our recent Journal of International Banking & Financial Law article (published in October 2020) in which we also examined the existing climate-related disclosure requirements, the impact of the FCA’s proposals on issuers and how issuers can mitigate against such litigation risks.

Our article can be found here: Climate-related disclosures: the new frontier?

For a more detailed analysis of the FCA’s Policy Statement, please see our Corporate Notes blog post.

Simon Clarke
Simon Clarke
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Nihar Lovell
Nihar Lovell
Professional Support Lawyer
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Sousan Gorji
Sousan Gorji
Senior Associate
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High Court provides further insights on the risks of Quincecare claims against banks

The High Court has recently handed down another interesting decision on the so-called Quincecare duty: Roberts v The Royal Bank of Scotland plc [2020] EWHC 3141 (Comm).

Quincecare duty claims typically arise where a bank received a payment mandate from an authorised signatory of its customer, and executed the order, in circumstances where (allegedly) there were red flags to suggest that the order was an attempt to misappropriate the funds of the customer. The recent uptick in Quincecare duty claims against financial institutions is striking, perhaps a culmination of years of increased regulation which has raised the expectation of firms to identify potentially fraudulent activity. Accordingly, insights from the court on the risks associated with processing client payments will be welcomed by the sector. You can find our blog posts on previous Quincecare decisions here.

Roberts involved a classic breach of Quincecare duty (and breach of mandate) claim, in respect of which the court granted the defendant bank’s application for reverse summary judgment on the basis that the claims were time-barred under the Limitation Act 1980. It highlights the court’s approach to a limitation defence to resist claims alleging breach of Quincecare duty and breach of mandate claims. The decision confirms that the court will (in appropriate cases) take a robust approach in dismissing such claims which on the facts are clearly time-barred; this will especially be the case where the necessary facts required to plead a prima facie case of breach were within the claimant’s knowledge at an earlier date than contended.

However, in doing so the court concluded that a prima facie case for breach of the Quincecare duty could be pleaded by the claimants from inference, i.e. simply being inferred from the fact of payment. While this was helpful in the context of the bank’s limitation defence, it is potentially less helpful to the extent that it suggests a low threshold applies to the pleading requirements in Quincecare cases.

We examine the decision in more detail below.

Background

In early 2006, an advertising company set up a business account with the defendant bank (Bank). The Bank was authorised to accept instructions from any two signatories as set out on the authorised signatories sheet attached to an original mandate.

In mid-2006, the company hired a temporary accounts clerk. Shortly thereafter, a form was sent to the Bank apparently authorising that clerk as a full and additional signatory of the company’s business accounts. Between 2006 and 2007 the Bank paid cheques presented to it (totalling £265,000), which had the clerk’s signature and which were in favour of the company’s majority shareholder. In 2008, the company went into administration and was subsequently placed into compulsory liquidation.

In late 2015, the liquidators assigned the company’s claims to the claimant individual who issued a claim in 2019 (more than 12 years after the last cheque had been paid), alleging that the company’s administration and compulsory liquidation was a consequence of the Bank honouring the cheques presented to it. The claimant’s case was that the Bank had breached its Quincecare duty and the mandate in place between the Bank and the company.

The bank applied for reverse summary judgment and/or strike out of the claims made against it on the basis that the claims were time-barred and that the claimant had no real prospect of establishing that the limitation period had been extended under section 32 of the Limitation Act 1980.

Decision

The court rejected the claimant’s arguments and granted the Bank’s application for reverse summary judgment.

The claimant argued that the limitation period did not start running until late 2017 as it was only then that certain facts were discovered, having been deliberately concealed by the Bank until then. The facts relied on by claimant included, in respect of the breach of the: (a) Quincecare duty claim, “the knowledge whether the defendant conducted an inquiry on any of the cheque payments and if it did not why”; and (b) mandate claim, certain paperwork such as that relating to the mandate and the authorised signatory form.

The court noted that section 32(1)(b) of the Act does allow for the postponement of the commencement of the relevant period of limitation where “any fact relevant to the plaintiff’s right of action has been deliberately concealed from him by the defendant”. That postponement will be until the time when “the plaintiff has discovered the fraud, concealment or mistake or could with reasonable diligence have discovered it”. However, the court said that (as per Arcadia Group Brands Limited and others v Visa Inc and others [2014] EWHC 3561) not every broadly relevant fact would qualify; the only facts that would count for this purpose would be those facts which the claimant would need to plead in a statement of case to plead a prima facie case.

In the present case, the court said that what really mattered was whether there was knowledge sufficient to plead that the Bank had reasonable grounds for believing that the payment was part of a scheme to defraud the company such that the Bank came under a duty to refrain from making the payment. The court concluded “without hesitation” that a prima facie case of breach could be pleaded by inference from the fact of payment, if the prior steps could be pleaded (i.e. that the company was a customer of the Bank, that the authorised signatory instructed the Bank to make payment etc.). The court noted that this was, in fact, the way the claimant had pleaded the case.

The court held that the facts giving rise to the claims were plainly within the company’s knowledge at a very early stage – far earlier than six years ago, therefore there could be no deliberate concealment which has a real as opposed to a fanciful prospect of success. The claims were therefore time-barred and the court granted reverse summary judgment in favour of the Bank.

Harry Edwards
Harry Edwards
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Chris Bushell
Chris Bushell
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Ceri Morgan
Ceri Morgan
Professional Support Consultant
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Nihar Lovell
Nihar Lovell
Senior Associate
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High Court considers First Tower judgment in the context of no-advice clauses and confirms UCTA does not apply

The High Court has dismissed the latest interest rate hedging product (IRHP) mis-selling claim to reach trial in Fine Care Homes Limited v National Westminster Bank plc & Anor [2020] EWHC 3233 (Ch).

The judgment will be welcomed by financial institutions for its general approach to claims alleging that a bank negligently advised its customer as to the suitability of a particular financial product (whether an IRHP or otherwise). While there are some aspects of the decision which hinge on the unsophisticated nature of this particular claimant, the touchstone of when it can be said that a bank owes a common law duty to advise, the content of that duty and what a claimant must prove to demonstrate that the advisory duty (if owed) has been breached, will be of relevance to similar claims faced by banks in relation to other products or services.

The aspect of the judgment likely to be of greatest and widest importance to the financial services sector, is the court’s analysis of how the doctrine of contractual estoppel should be applied in these types of mis-selling cases.

The question in this case was whether the bank was entitled to rely on its contractual terms as giving rise to a contractual estoppel, so that no duty of care to advise the customer as to the suitability of the IRHP arose. In good news for banks, the court determined that clauses stating that the bank was providing general dealing services on an execution-only basis and was not providing advice on the merits of a particular transaction (precisely the sort of clauses which are typically relied upon to trigger a contractual estoppel), were not subject to the requirement of reasonableness in the Unfair Contract Terms Act 1977 (UCTA) when relied upon in the context of a breach of advisory duty claim.

This may appear an unsurprising outcome, given the Court of Appeal’s decision Springwell Navigation Corpn v JP Morgan Chase Bank [2010] EWCA Civ 1221. However, certain obiter comments by Leggatt LJ in First Tower Trustees v CDS [2019] 1 WLR 637 could be read as conflicting with Springwell in relation to the effect of so-called no-advice clauses and the application of UCTA in relation to them.

In the present case, the court emphasised the clear distinction made in First Tower between, on the one hand, a clause that defines the party’s primary rights and obligations (such as a no-advice clause), and on the other, a clause stating that there has been no reliance on a representation (a “non-reliance” clause). It said that the Court of Appeal’s decision in First Tower was limited to the effect of non-reliance clauses given the nature of the clause at issue in that case. First Tower confirmed that where the effect of a non-reliance clause is to exclude liability for misrepresentation which would otherwise exist in the absence of the clause, section 3 of the Misrepresentation Act 1967 will be engaged and the clause will be subject to the UCTA reasonableness test. In contrast, the clauses at issue here were not non-reliance clauses, but rather clauses that set out the nature of the obligations of the bank, and therefore were not subject to section 2 of UCTA.

Contractual estoppel has regularly been relied upon by banks defending mis-selling claims to frame the obligations which they owe to customers, particularly in circumstances where claimants have sought to argue that, notwithstanding the clear terms of the contracts upon which the transactions were entered into, the banks took on advisory duties in the sale of financial products which turned out to perform poorly. The decision in Fine Care Homes will therefore be welcomed by financial institutions, particularly against the backdrop of the First Tower decision. While in many circumstances, no-advice clauses would be likely to meet the requirements of reasonableness under UCTA in any event (as was the outcome in the present case), removing a hurdle that must be cleared in order to rely on such clauses is clearly preferable from the bank’s perspective, adding certainty to the relationship.

Background

In 2006, the claimant (Fine Care Homes Limited) took out a loan with the Royal Bank of Scotland (the Bank) to finance the acquisition of a site in Harlow on which it intended to build a care home (the land loan). The claimant also intended to borrow further funds from the Bank to finance the development of the site (the development loan), although ultimately the parties were unable to reach agreement on the terms of the development loan.

In 2007, the claimant took out an IRHP with the Bank, as a condition of the anticipated development loan. The IRHP was a structured collar with a term of five years, extendable by two years at the option of the Bank (which was duly exercised).

In 2012, the IRHP was assessed by the Bank’s past business review (PBR) compensation scheme (which had been agreed with the then-Financial Services Authority (FSA)) to have been mis-sold. In 2014, the claimant was offered a redress payment by the Bank’s PBR.

The claimant did not to accept the offer under the PBR and pursued the following civil claims against the Bank at trial:

  1. Negligent advice claim: A claim that the Bank negligently advised the claimant as to the suitability of the IRHP, in particular by failing to tell the claimant that the IRHP would impede its capacity to borrow, or that novation of the IRHP might not be straightforward / might require security.
  2. Negligent mis-statement / misrepresentation claim: A claim that the information provided by the Bank regarding the IRHP contained negligent mis-statements or misrepresentations in the same two respects as the negligent advice claim.
  3. Contractual duty claim: A claim that the Bank was subject to an implied contractual duty under section 13 of the Supply of Goods and Services Act 1982 to exercise reasonable skill and care when giving advice and making recommendations, which was breached in the same two respects as the negligent advice claim.

Decision

The court held that all of the claims against the Bank failed, each of which is considered further below.

1. Negligent advice claim

The court’s analysis of the negligent advice claim was divided into three broad questions: (i) did the Bank owe a duty of care to advise the claimant as to the suitability of the IRHP; (ii) could the Bank rely upon a contractual estoppel to the effect that the relationship did not give rise to an advisory duty; (iii) if there was an advisory duty in this case, was it breached by the Bank in the two specific respects alleged by the claimant?

(i) Did the Bank owe a duty of care?

It was common ground that the sale of the IRHP was ostensibly made on a non-advisory rather than advisory basis, but the claimant alleged that the facts nevertheless gave rise to an advisory relationship in which a personal recommendation was expressly or implicitly made. In this regard, the claimant relied on the salesperson at the Bank being held out as being an “expert” (as an approved person under FSMA); that he advised the claimant to buy the particular IRHP and that the Bank therefore assumed a duty of care which required it to ensure that the IRHP was indeed suitable.

As to whether the Bank owed an advisory duty on the facts of this particular case, the court referred in particular to two substantive trial decisions considering a claim for breach of an advisory duty in the context of selling an IRHP: Property Alliance Group v RBS [2018] 1 WLR 3529 and LEA v RBS [2018] EWHC 1387 (Ch). The court highlighted the following key points from these cases:

  • A bank negotiating and contracting with another party owes in the first instance no duty to explain the nature or effect of the proposed arrangement to the other party.
  • As a point of general principle, an assumption of responsibility by a defendant may give rise to duty of care, although this will depend on the particular facts (applying Hedley Byrne v Heller [1964] AC 465).
  • In the context of a bank selling financial products, in “some exceptional cases” the circumstances of the case might mean that the bank owed a duty to provide its customer with an explanation of the nature and effect of a particular transaction.
  • There are a number of principles emerging from the cases as to the way in which the court should approach this fact-sensitive question. In particular, the court must analyse the dealings between the bank and the customer in a “pragmatic and commercially sensible way” to determine whether the bank has crossed the line which separates the activity of giving information about and selling a product, and the activity of giving advice.
  • However, there is no “continuous spectrum of duty, stretching from not misleading, at one end, to full advice, at the other end”. Rather, the question should be the responsibility assumed in the particular factual context, as regards the particular transaction in dispute.
  • Assessing whether the facts give rise to a duty of care is an objective test.

On the facts, the court did not consider that this was to the sort of “exceptional case” where the bank assumed an advisory duty towards its customer. The court highlighted the following factual points in particular, which are likely to be of broader relevance to mis-selling disputes of this nature:

  • The court noted that it is quite obviously not the case that in every case in which an IRHP is sold by an approved person (as it will inevitably be) a duty of care arises to ensure the suitability of the product.
  • The claimant was unable to point to anything at all in the exchanges between the Bank and the claimant which contained advice to buy the IRHP. The court rejected the claimant’s argument that the Bank’s presentation of the benefits of IRHP products in general could amount to advice to buy any specific product. Referring to the decision in Parmar v Barclays Bank [2018] EWHC 1027 (Ch), the court confirmed that if a recommendation is to give rise to an advised sale, it must be made in respect of a particular product and not IRHPs in general. Although Parmar was decided in the context of a statutory claim under s.138D FSMA, the court found that the principle applied equally to a mis-selling claim of this type (see our blog post on the Parmar decision).

Accordingly, the court found that the Bank did not owe an advisory duty in relation to the sale of the IRHP.

In reaching this conclusion, the court rejected any suggestion that the rules and guidance set out in the FSA/FCA Handbook could create a tortious duty of care where one did not exist on the basis of the common law principles (applying Green & Rowley v RBS [2013] EWCA Civ 1197). The relevant context in Green & Rowley was whether the (then-applicable) Conduct of Business rules and guidance (COB) could create a concurrent tortious duty of care, but the court in this case extended the same reasoning to the Statements of Principle and Code of Practice for Approved Persons (APER). The court stated that APER code could not carry any greater weight in relation to the content of the common law duties of care than the COB rules.

(ii) Could the Bank rely upon a contractual estoppel?

The court found that the Bank was entitled to rely on its contractual terms as confirming that the relationship between the Bank and the claimant did not give rise to a duty of care to advise the claimant as to the suitability of the IRHP, and that the claimant was estopped from arguing to the contrary by those contractual terms.

The terms of business included the following material clauses:

“3.2 We will provide you with general dealing services on an execution-only basis in relation to…contracts for differences…

3.3 We will not provide you with advice on the merits of a particular transaction or the composition of any account…You should obtain your own independent financial, legal and tax advice. Opinions, research or analysis expressed or published by us or our affiliates are for your information only and do not amount to advice, an assurance or a guarantee. The content is based on information that we believe to be reliable but we do not represent that it is accurate or complete…”

The court rejected the claimant’s argument that these clauses were subject to the requirement of reasonableness under UCTA.

In reaching this conclusion, the court referred to the decision in First Tower Trustees v CDS [2019] 1 WLR 637, which considered the effect of a “non-reliance” clause (a clause providing that the parties did not enter into the agreement in reliance on a statement or representation made by the other contracting party). First Tower confirmed that, where the effect of a non-reliance clause is to exclude liability for misrepresentation which would otherwise exist in the absence of the clause, section 3 of the Misrepresentation Act will be engaged and the clause will be subject to the UCTA reasonableness test.

However, the court in Fine Care Homes found that clauses 3.2 and 3.3 in the present case were different from non-reliance clauses, being clauses that set out the nature of the obligations of the Bank. The court highlighted that the judgments of both Lewison LJ and Leggatt LJ in First Tower, clearly distinguished between a clause that defines the party’s primary rights and obligations, and a clause stating that there has been no reliance on a representation. In respect of the former, First Tower provided the following articulation of the position:

“Thus terms which simply define the basis upon which services will be rendered and confirm the basis upon which parties are transacting business are not subject to section 2 of [the 1977 Act]. Otherwise, every contract which contains contractual terms defining the extent of each party’s obligations would have to satisfy the requirement of reasonableness.”

In First Tower, Lewison LJ had gone on to refer to Thornbridge v Barclays Bank [2015] EWHC 3430 (a swaps case) which considered a clause stating that the buyer was not relying on any communication “as investment advice or as a recommendation to enter into” the transaction. In First Tower, Lewison LJ explained that this clause defined the party’s primary rights and obligations, and was not a clause stating that there had been no reliance on a representation.

Applying this reasoning to the present case, the court found that clauses 3.2 and 3.3 (stating that the Bank was providing general dealing services on an execution-only basis and was not providing advice on the merits of a particular transaction), were primary obligation clauses that were not subject to the requirement of reasonableness in UCTA (or, by parity of reasoning, COB 5.2.3 and 5.2.4).

Had UCTA applied, the court said that it would in any event have found the clauses reasonable, noting that some of the claimant’s objections effectively asserted that it could never be reasonable for a bank selling an IRHP to a private customer to specify that it was doing so on a non-advisory basis – which the court did not accept.

(iii) If an advisory duty was owed, was it breached by the Bank?

Although it was not necessary for the court to consider the specific breaches of duty alleged by the claimant (given its findings above), the court proceeded to do so for the sake of completeness.

The court applied Green & Rowley, confirming that the content of the advisory duty (if owed) “might” be informed by the COB that applied at the time of the sale (here COB 2.1.3R and COB 5.4.3R) and the APER code. However, the claimant did not in fact identify any specific respect in which the FCA framework had a material impact on the claimant’s case.

By the time of the trial, the claimant’s case was narrowed to two quite specific allegations concerning what it should have been told by the Bank in relation to two key issues: (1) that the Bank negligently failed to explain to the claimant that the Bank’s internal credit limit utilisation (CLU) figure for the IRHP, would affect the claimant’s ability to refinance existing borrowings / borrow further sums (from the Bank or another lender); and (2) that the Bank should have warned the claimant that novation of the IRHP might require external security to be provided.

The arguments on these allegations were fact-specific, and ultimately the court found that there was no evidence to support them.

2. Negligent mis-statement / misrepresentation claim and contractual claim

The claims on these alternative grounds also failed, given the court’s finding that what the Bank told the claimants was correct, in respect of the two complaints identified.

Consistent with the position found in Green & Rowley, the court noted that the content of the Bank’s common law duty in relation to the accuracy of its statements was not informed by the content of the COB rules or APER code (in contrast with the advisory duty, where the content of the duty might be informed by the FCA framework).

Accordingly, the claim was dismissed.

John Corrie
John Corrie
Partner
+44 20 7466 2763
Harry Edwards
Harry Edwards
Partner
+61 3 9288 1821
Ceri Morgan
Ceri Morgan
Professional Support Consultant
+44 20 7466 2948
Nic Patmore
Nic Patmore
Senior Associate
+44 20 7466 2298