Financial Services and Markets Dispute Resolution Quarterly Update: April 2018
In this edition, we consider developments including: the significant fines issued by the FCA for Principle 3 (management and control) breaches, shining a spotlight on senior management oversight and effective risk management systems; and recently published consultation papers which show that the regulator remains eager to maintain a proactive approach to supervision and enforcement in the industry.
The courts have also considered a number of issues of direct relevance to banks and financial institutions in recent months. We review the way in which courts have continued to grapple with the scope and application of privilege in a variety of contexts, and examine the recent "test case" in swaps mis-selling (which likely paves the way for an appeal to the Supreme Court). We also consider the calculation of close-out amounts pursuant to the 2002 ISDA Master Agreement, a bank’s Quincecare duty, and termination notices.
Finally, there are updates on: the CPS’s "test case" in relation to the corporate defence to bribery and the existence of adequate procedures; the new and extensive power of UK Enforcement Authorities to seek Unexplained Wealth Orders; and the progression of the Sanctions and Anti-Money Laundering Bill through Parliament, all of which indicate that seeking to combat financial crime remains an active priority for the government.
- New FCA Mission Statements – approaches to Enforcement and Supervision
- Conflicts of Interest - FCA fines broker £4m for misleading customers
- Brokers fined £1.05m for poor market abuse controls and failure to report suspicious client transactions
- Amendments to FCA’s Financial Crime Guide
- FCA proposal to extend FOS protection to small businesses: another example of increasing regulation
- Putting privilege to the test
- PAG v RBS: the swaps mis-selling "test case" – RBS wins the second round
- Calculation of Close-out Amount under 2002 ISDA Master Agreement
- Court of Appeal upholds the meaning of "fair market value" under the GMRA 2000
- Risk of substantial loss where banks fail to make inquiry into potentially fraudulent instructions
- The dangers of unclear communication when exercising termination rights
Developments in financial crime
- Adequate Procedures as corporate defence to bribery - CPS "test case"
- Unexplained Wealth Orders: an extensive new power for UK Enforcement Authorities
- The Sanctions and Anti-Money Laundering Bill
New FCA Mission Statements – approaches to Enforcement and Supervision
The FCA has published two short "Mission" documents, setting out its approaches towards both Supervision and Enforcement.
The "Approach to Supervision" defines the FCA’s overall approach as "continuing oversight of firms and of individuals controlling firms to reduce actual and potential harm to consumers and markets". The business models, culture and prudential soundness of regulated firms are confirmed as being key areas of supervisory focus. Of particular interest (and overlapping with the key focus areas) are eight "supervisory principles", which are stated to guide the FCA’s work:
- forward-looking, pre-emptive identification of harm;
- focus on strategy and business models;
- focus on culture and governance;
- focus on individual as well as firm accountability;
- proportionate and risk-based supervision;
- two-way communication with market participants;
- co-ordination with other regulators; and
- correcting systemic harm to prevent recurrence.
The "Approach to Enforcement" describes the FCA’s "overriding principle" for enforcement as being "a commitment to achieve fair and just outcomes in response to misconduct". The paper goes on to summarise the approach and to identify various diagnostic tools, sanctions, remedies and self-evaluation processes employed by the FCA. We note, in particular, the following factors considered in the FCA’s assessment of suspected misconduct: (i) the nature and severity of actual or potential harm; (ii) the extent of potential risk to market participants; (iii) any potential broader implications; (iv) whether there is any lack of fitness or integrity; (v) the availability of evidence; and (vi) whether an investigation is in the public interest.
Both documents are published for consultation; feedback is sought by 21 June 2018 as to whether they clearly set out the FCA’s approach in these areas.
Conflicts of Interest - FCA fines broker £4m for misleading customers
Bluefin Insurance Services Limited (B), an insurance broker, has been fined £4.02m for breaches of Principle 3 (management and control) and Principle 7 (communication with customers).
The breaches relate to a period when B was wholly owned by the AXA Insurance Group (AXA), during which B adopted a business strategy which included: (i) increasing the volume of business placed with AXA; and (ii) favouring the placement of business with a list of pre-selected "preferred facilities" (one of the two preferred facilities for small and medium enterprise commercial cover being with AXA). Despite the inherent conflict of interest in being owned by an insurer, B held itself out to its customers as being a "truly independent" broker and did not disclose its business strategy of directing business towards AXA, its sole shareholder. Accordingly, the FCA found that B had failed to communicate with its customers in a way that was "clear, fair and not misleading" as required by Principle 7.
To manage conflicts of interest, the FCA requires insurance brokers to: (i) have a comprehensive, written conflicts of interest policy; (ii) train staff on how to manage conflicts of interest fairly; and (iii) put in place an adequate review system to monitor controls. Whilst B did have a conflicts of interest policy, it was too high level and not sufficiently tailored to B’s business, and so did not provide the necessary practical guidance to B’s brokers on how to identify and manage the inherent conflict of interest. This failure to provide its customer-facing brokers with the necessary tools to handle the risks of a conflict arising contributed to the breach of Principle 3, which required B to organise its affairs "responsibly and effectively" and with "adequate risk management systems".
B’s senior management was also criticised for fostering a culture that exacerbated the risks around its conflict of interest concerning AXA and contributed to its breach of Principle 3. The business strategy of increasing business with AXA was widely communicated to staff, and branches that succeeded in placing high volumes of business with AXA were singled out for praise. Senior management discouraged brokers from "trawl[ing] the whole market" and instead encouraged them to rely on the preferred facilities.
B had been on notice of the FCA’s concerns during the relevant period, and therefore the fine levied included a 10 per cent increase to the revenue-based element (also 10 per cent). It did benefit from a 30 per cent discount as a result of reaching an early agreement with the FCA.
Brokers fined £1.05m for poor market abuse controls and failure to report suspicious client transactions
The FCA has published a Final Notice in respect of Interactive Brokers (UK) Limited (IB), which it fined £1.05m for breaches of Principle 3 and SUP 15.10.2R. The case demonstrates the FCA’s commitment to ensuring that firms have appropriate systems and controls in place to properly identify and help prevent financial crime.
In the period 6 February 2014 to 28 February 2015, three transactions were entered into by two clients of IB, in relation to which no suspicious transaction reports (STR) were submitted to the FCA despite there being reasonable grounds to suspect that the transactions constituted market abuse / insider dealing. All three transactions resulted in significant profits for the clients and were carried out in close proximity to market announcements which led to significant and rapid changes in the underlying share price.
The FCA was critical of IB’s reliance upon "post-trade" surveillance systems, which were designed for its entire global Group. The UK-specific business had no bespoke system and the conduct of post-trade surveillance was delegated to the compliance team of a US-based Group company.
The FCA determined that: (i) IB’s monitoring and oversight of the trade surveillance systems was inadequate and meant that it had been unable to identify the potentially suspicious transactions; (ii) IB failed to participate in the design and calibration of the post-trade monitoring systems adequately, or test their operation, to ensure that potential market abuse by its clients would be captured; and (iii) IB failed to provide effective oversight of the US-based compliance team’s review of the reports produced. In particular, IB carried out no quality assurance or monitoring of the review of the reports, and undue reliance was placed on the US compliance team being appropriately trained experts in the work they carried out.
Amendments to FCA’s Financial Crime Guide
On a related matter, on 27 March 2018 the FCA published a guidance consultation on amending its Financial Crime Guide for firms (GC18/1) which includes a proposal for a new chapter on insider dealing and market manipulation. The deadline for comments is 28 June 2018 and it is proposed that the guidance will come into effect on 1 October 2018.
FCA proposal to extend FOS protection to small businesses: another example of increasing regulation
The FCA has recently published a consultation (CP18/3) on widening access to the Financial Ombudsman Service (FOS) to include small businesses.
If implemented, the proposed changes would mean that smaller businesses, which typically do not have the resources to commence legal proceedings against a financial services firm, will be able to refer their dispute to the FOS. With an estimated additional 160,000 small and medium sized enterprises (SMEs) that could potentially fall within the jurisdiction of the FOS under this proposal, there is likely to be a significant increase in the number of FOS complaints and, consequently, the amount of redress that financial services firms may be required to pay. The increased workload of the FOS will also lead to an increase in the regulatory fees and levies charged to firms.
Whilst this will be a welcome development for SMEs that fall within the proposed eligibility criteria, it will increase the cost to financial services firms of serving their SME customers.
The FCA has asked for comments on its proposals by 22 April 2018; it intends to finalise any changes by this summer.
Putting privilege to the test
Since the landmark decision in SFO v ENRC  EWHC 1017 which considered privilege in the context of an internal investigation, the courts have continued to grapple with the scope of privilege in various fact-specific circumstances.
- In Bilta (UK) Ltd (In Liquidation) & Ors v RBS  EWHC 3535, RBS successfully claimed litigation privilege (LIP) in respect of transcripts of employee interviews conducted by the bank’s solicitors in relation to a tax investigation, despite the ruling in ENRC. The Claimants accepted that the documents had been created when adversarial litigation (an HMRC tax assessment) was in reasonable contemplation; but argued that their creation was for purposes other than litigation (i.e. to persuade HMRC not to issue an assessment). The Court found that on a "realistic" and "commercial" view of the facts, these documents were made for the sole or at least dominant purpose of conducting the expected litigation. Fending off HMRC’s assessment was (at best) a "subsidiary purpose" which was "part of the continuum that formed the road to the litigation" and not the sole purpose of those documents.
- Meanwhile, in R (For and on behalf of the Health and Safety Executive (HSE)) v Jukes  EWCA Crim 176, the Criminal Division of the Court of Appeal applied ENRC and determined that a signed statement provided by the Defendant (a transport and operations manager) to his employer’s solicitors in the context of an internal investigation into a fatal accident on its premises, was not privileged. On the facts, at the time the statement was provided, litigation had not been contemplated and no decision to prosecute had been taken by HSE. More specifically, the Court commented that an "investigation is not adversarial litigation", citing ENRC and relevant dicta about when a criminal prosecution can be said to be in reasonable contemplation. Thus the statement was disclosable in subsequent criminal proceedings brought by HSE.
- In the context of a share sale agreement, where the Sellers assumed conduct of proceedings against a third party from the Buyers, the High Court ruled that those Sellers could not later assert LIP against the Buyers in relation to documents prepared in those proceedings. In Minera Las Bambas SA and another v Glencore Queensland Limited and others  EWHC 286 (Comm), the Sellers had assumed conduct of proceedings brought by the Buyers against the tax authorities in Peru. In separate English proceedings, the Sellers were defendants in a claim by the Buyers in relation to those tax liabilities. The Defendants (i.e. the Sellers) withheld 25 documents from disclosure in the English proceedings, claiming these had been prepared in contemplation of the proceedings in Peru and therefore were protected by LIP. The Court rejected this argument, deciding that LIP could only arise in favour of a person who was a party to the litigation in question, that is, the Buyers in the Peruvian proceedings.
- In Kerman v Akhmedova  EWCA Civ 307, a case before the Family Division of the Court of Appeal, a solicitor was not able to circumvent the requirement to provide information to the Court about the whereabouts of his client’s assets on grounds of legal advice privilege. The Court concluded that: (i) at first instance, the judge’s line of questioning had been on purely "factual topics"; (ii) if these questions had been put to the client, he would not have been able to refuse to reply on grounds of privilege, therefore it made no sense for the solicitor to be able to refuse to reply on those grounds; and (iii) the documents sought from the solicitor were communications with third parties, in relation to which LIP was not asserted.
The outcome of the appeal in ENRC (to be heard later this year) is eagerly anticipated.
PAG v RBS: the swaps mis-selling "test case" – RBS wins the second round
On 2 March 2018, the Court of Appeal dismissed on the facts the appeal of Property Alliance Group (PAG) in the swaps mis-selling "test case" involving four interest rate swaps (the Swaps) referenced to sterling LIBOR (GBP LIBOR), which PAG had entered into with the Royal Bank of Scotland (RBS).
In relation to certain legal aspects of PAG’s case, however, the Court disagreed with Asplin J at first instance such that its judgment has left room for appeal. Indeed, it is expected that PAG will already have sought permission to appeal to the Supreme Court.
PAG’s case was presented on a broad front. In essence, it claimed to be entitled to rescind the Swaps because they had been mis-sold by RBS by means of: (i) negligent misstatement in respect of potential break costs, including a failure to provide full and proper explanations; (ii) fraudulent misrepresentation as to the true meaning of "hedge" in the context of the Swaps; and (iii) fraudulent implied representations about GBP LIBOR.
In addition, PAG alleged that RBS had not been entitled to revalue PAG’s property portfolio in 2013 (the Valuation Claim).
For the purposes of the appeal, PAG accepted that RBS was never under a general advisory duty in relation to the Swaps. Under both the ISDA standard terms and the express terms of each swap contract, PAG represented that it understood and accepted the risks of the transaction and was capable of assuming, and did assume, those risks. In addition, both parties accepted that, in explaining the terms of the proposed swaps to PAG, RBS was under a Hedley Byrne duty not to misstate.
PAG based its case on misstatement on observations made by Mance J in Bankers Trust International plc v PT Dharma Sakti Sejahtera  CLC 518 at 533, such that RBS had breached a duty to provide full, accurate and proper explanations in relation to potential break costs. PAG’s primary argument was that RBS’s failure to provide, prior to each swap transaction, explanations which included either RBS’s internal estimation on a "worst case" basis (i.e. RBS’s internal credit line utilisation figure (CLU)), or worked examples of potential break costs in different scenarios, presented an inaccurate and incomplete explanation of each proposed swap. PAG’s second and subsidiary argument was that RBS breached a "mezzanine" or "intermediate" duty, lying somewhere between the wide duty to give advice and the duty not to misstate – i.e. a common law duty to take reasonable care to ensure that information provided was both accurate and fit for the purpose for which it was provided, so as to enable an informed decision (see Crestsign Ltd v National Westminster Bank plc  EWCH 3043).
The Court rejected both arguments on the facts, in keeping with Mance J’s own qualification of his statements in Bankers Trust, namely that the extent of the duty not to misstate depends upon the precise nature of the circumstances and of the explanation or advice which is tendered. The duty is "an elastic duty that is fact sensitive". In this case, there was no error in the way that RBS had explained the terms of the Swaps, including the circumstances in which break costs might be incurred and how they would be calculated. There was no proper basis for holding that there had been an assumption of responsibility for the disclosure by RBS of its CLU (which PAG had never requested and of which disclosure was not industry practice) or any similar indication of the possible size of future break costs, or that it would be fair, just and reasonable to impose on RBS an advisory duty requiring such disclosure. As for the so-called "mezzanine" duty, the Court stated that this is best avoided, and that concentration should be on the responsibility assumed in the particular factual context as regards the particular transaction or relationship in issue.
Misrepresentation – the meaning of "hedge"
PAG’s case on misrepresentation was that the swaps did not act as a hedge against the risk of adverse movements in interest rates overall. This was because of the effect of the potentially substantial cost of breaking the Swaps if interest rates dropped, and of the right of cancellation which RBS enjoyed under terms of the Swaps.
The Court considered that there had been no misrepresentation. On the evidence and in the factual context in which the expression "hedge" was used by RBS, Asplin J had been entitled to conclude that the reasonable representee would not have understood "hedge" to mean what PAG contended. The purpose of the hedging was plainly to ensure that PAG would be protected against increases in interest rates which might otherwise undermine PAG’s ability to pay the interest due on its outstanding loans from RBS.
Implied representations – GBP LIBOR
In relation to PAG’s case on implied representation, the Court considered the test for the existence of an implied representation laid down by Colman J in Geest plc v Fyffes plc  1 All ER (Comm) 672, to be a helpful test – whether a reasonable representee would naturally assume that the true state of facts (e.g. manipulation of LIBOR) did not exist and that, if it did, he would necessarily have been informed of it. However, the Court emphasised that there was a need for clear words or conduct of the representor from which the relevant representation can be implied. The Court disagreed with Asplin J that the proffering of the Swaps was not in the context of this case conduct from which any representation could be inferred, and reformulated the "extremely complex and intricate" implied representations alleged by PAG as: "[RBS] was not itself seeking to manipulate [GBP] LIBOR and did not intend to do so in the future".
On the facts, however, since the Court considered that the scope of the implied representation should be limited to GBP LIBOR (albeit not the relevant tenor – three months), which Asplin J had found not to have been manipulated by RBS, no false representation had been made.
As a result, there was no need for the Court to consider whether Asplin J’s conclusion that fraud had not been proved by PAG, was correct. If the Court had concluded that the implied representation was false, it would have been necessary to decide how the normal rule (that, for a finding of fraud, the representor must have intended to make a representation he knew to be false) can apply to an implied representation "when the implication is not present to the representor’s mind". Although the Court suggested that an implied representation of this kind may never (or quite rarely) be fraudulent, it left open the possibility. As a further result of the Court’s decision on falsity, there was no need to consider Asplin J’s finding on reliance.
The valuation claim
In 2011, PAG had terminated the Swaps, incurring a break cost of £8.261m. At the same time, PAG entered into a new facility agreement with RBS, which included a provision at clause 21.5.1 which entitled RBS "at any time" to require a valuation of any property over which RBS had security, and stated that PAG "shall be liable to bear the cost of that valuation once in every 12-month period from the date of this Agreement or where a default is continuing". In August 2013, RBS had instructed valuers to value the properties over which PAG had granted charges to RBS. PAG argued that clause 21.5.1 was not unfettered, but was subject to a "Socimer-type" implied term (see Socimer International Bank Ltd v Standard Bank  EWCA Civ 116), whereby a decision-making party’s exercise of a discretion that will affect both parties to the contract can, in certain circumstances, be limited. As PAG pleaded, following Socimer, RBS was obliged "to act reasonably, in a commercially acceptable or rational way, in good faith, for a proper purpose, not capriciously or arbitrarily and not in a way that no reasonable lender, acting reasonably, would do".
On this claim, the Court disagreed with Asplin J’s finding that RBS had an absolute, rather than discretionary, right to call for the valuation and that, therefore, the principle in Socimer did not apply. In the Court’s judgment, the power conferred by clause 21.5.1 was not wholly unfettered and was intended to be exercised in pursuit of legitimate commercial aims rather than, for example, to vex PAG maliciously.
However, on the facts, the Court could find no reason to consider that the 2013 valuation was pointless, lacked good or rational reason or been commissioned for a purpose unrelated to RBS’s legitimate commercial interests. Therefore, the Court upheld Asplin J’s overall conclusion that RBS was entitled to commission the 2013 valuation and to recover the cost from PAG.
Calculation of Close-out Amount under 2002 ISDA Master Agreement
In Lehman Brothers Special Financing Inc. v National Power Corporation and Another  EWHC 487 (Comm), the Court has provided helpful guidance in relation to the 2002 ISDA Master (the 2002 IMA), in two respects: (1) whether a manifest mathematical or numerical error in a Close-out Amount entitles the Determining Party to make a fresh Close-out determination; and (2) the standards (subjective or objective) by which the Court will assess the determination.
Following the Claimant (LBSF) filing for Chapter 11 relief in the US in 2008, the Defendant (NPC) as a non-defaulting counterparty under a forward currency swap, served notice of Early Termination, and proceeded to determine the Close-out Amount, acting "in good faith and us[ing] commercially reasonable procedures in order to produce a commercially reasonable result" (Section 14, 2002 IMA).
Having received indicative quotations for a replacement swap from various banks on the Early Termination Date, NPC then requested and received firm quotations four days later. Subsequently, NPC entered into a replacement swap with UBS and demanded a Close-out Amount of c.US$3.46m from LBSF, being the cost of the replacement swap (the 2009 Determination).
LBSF disputed the 2009 Determination and eventually issued proceedings in 2015, claiming that it was in the money on the swap and that NPC owed LBSF a Close-out Amount of c.US$13m. NPC later revised its determination and served a revised calculation statement (eight years after the Early Termination Date), claiming that LBSF owed either: (i) c.US$11m, based on the indicative quotation received from UBS on the Early Termination Date; or (ii) c.US$2m, based on the 2009 Determination less an Accrued Amount which had not been taken into account.
The Court considered two principal issues – whether a Determining Party is entitled to "remake" a determination; and the meaning of acting "in good faith and us[ing] commercially reasonable procedures etc".
In regard to the first issue, it was common ground that the Accrued Amount should have been taken into account. Therefore, the Court had to consider whether the failure to take it into account: (a) amounted to a manifest error entitling NPC to make a fresh determination; or (b) was the type of error that should simply admit a case for correction of the determination, by agreement or by court or tribunal, and only in the respect in which there was error. Knowles J considered (b) to apply.
As for the meaning of "in good faith and us[ing] commercially reasonable procedures etc", Knowles J considered that the 2002 IMA should be interpreted in light of relevant background, including the earlier 1992 IMA, the applicable User’s Guide and the fact that the ISDA Master is a standard form that is widely used in the international financial markets.
NPC argued that the references in Section 14 of the 2002 IMA to "commercially reasonable procedures" and a "commercially reasonable result" required only that the Determining Party used "reasonable", in the sense of rational, procedures, in keeping with the subjective approach to discretionary valuations considered in Socimer International Bank Ltd v Standard Bank  EWCA Civ 116. However, Knowles J disagreed, finding that the wording contained in the 2002 IMA required the Determining Party to use procedures that are objectively commercially reasonable in order to produce an objectively commercially reasonable result. The 2002 IMA wording was to be contrasted with the 1992 IMA wording which included the words "reasonably determines in good faith", and which does not require an objective standard of care, but a subjective test of rationality.
Knowles J considered that it had been commercially reasonable for NPC to make the 2009 Determination based upon the UBS replacement swap. However, since the UBS swap provided NPC with an option, which was more than under the LBSF swap, NPC could not claim the related premium of US$1m from LBSF. Therefore, the Close-out Amount in this case was the 2009 Determination of c.US$3.46m, less the Accrued Amount and less the option premium.
Court of Appeal upholds meaning of "fair market value" under the GMRA 2000
On 11 April 2018, in the case of LBI EHF v Raiffeisen Bank International AG  EWCA Civ 719, the Court of Appeal upheld the decision of Knowles J that the "fair market value" of securities under the Global Master Repurchase Agreement 2000 (GMRA 2000) could be calculated on a forced sale (i.e. distressed) basis (see our June 2017 update). The Defendant / Respondent (RZB) was entitled to sell the securities in what might have been a distressed market, and to determine the Default Market Value on the basis of prices obtained, provided always that it acted in good faith. Following the Court of Appeal's judgment in Socimer International Bank v Standard Bank  EWCA Civ 116 (as applied by Blair J in Lehman Brothers International (Europe) v Exxonmobil Financial Services BV  EWHC 2699 (Comm)), the securities should be ascribed a fair market value in accordance with the opinion which the non-Defaulting Party, RZB, acting rationally and in good faith, would have formed had it conducted the valuation exercise required by paragraph 10(e)(ii) of the GMRA at the relevant time. The Court considered that there was no justification for limiting the ambit of the discretion afforded by the GMRA by requiring the non-Defaulting Party (RZB) to disregard the evidence of the market merely because it was illiquid or distressed at the particular time. Therefore, LBI's argument on appeal that the discretion should be limited by reference to a price agreed between an unimpaired / willing buyer and an unimpaired / willing seller (neither being under a particular compulsion to trade) which was not to be found in the language of the GMRA, was rejected.
Risk of substantial loss where banks fail to make inquiry into potentially fraudulent instructions
In Singularis Holdings Ltd (In Official Liquidation) v Daiwa Capital Markets Europe Ltd,  EWCA Civ 84, the Appellant bank (the Bank) sought to overturn a decision that it was liable to the Respondent company (the Company) for having transferred funds from the Company's account, on the fraudulent instructions of the Company's director and sole shareholder.
The director, MS, had instructed the Bank to transfer the funds to accounts of other entities, which he controlled. As the Company was then on the verge of insolvency, MS had been duty bound to act in the best interests of the Company's creditors, such that he could not validly ratify the transfers as a shareholder. It was common ground that he had been fraudulent in doing so. Moreover, in the circumstances, the Bank had clearly been "put on inquiry" in relation to the potential fraud but had negligently failed to make any inquiry before transferring the funds. It was this breach of the "Quincecare duty" (see Barclays Bank plc v Quincecare Ltd  4 All ER 363 – failure to make proper inquiry where there are reasonable grounds for fraud), which had given rise to the Bank's liability.
On appeal, the Bank raised various arguments as to why it should not have been held liable for executing the fraudulent instructions. Most of these arguments required MS’s fraud to be attributed to the Company itself - hence this was a key preliminary issue. The Court of Appeal held that a "one man company", to which the knowledge and conduct of its controlling manager can be attributed, was "a company in which, whether there was one or more controller, there were no innocent directors or shareholders". Beyond that, whether the Court would find in favour of attribution depended on: (i) the factual context; (ii) the nature of the legal claim; and (iii) the purposes for which attribution was sought. In this case, it had been found on the facts that the Company had "a functioning (albeit negligent) and innocent board, even if [MS] could be regarded as its directing mind and will". As to the additional factors, the Company had been carrying on a legitimate business, and allowing the Bank's attribution argument would effectively (and wrongly) eliminate the Quincecare duty, since that duty would always arise in circumstances where a trusted individual was giving a properly authorised, but potentially fraudulent, instruction.
It followed from this that: (i) the Company's claim was not barred for illegality (as MS’s fraud was not to be attributed to it); and (ii) the test for illegality set out Patel v Mirza  UKSC 42 did not arise (but would not have barred the claim anyway).
Furthermore, the claim did not fail for lack of causation (as the proximate cause of loss had been the Bank's breach of its Quincecare duty, rather than MS’s fraud); the Bank had no equal and opposite tortious claim against the Company for deceit (as the Bank would then evade its Quincecare duty by means of the very fraud from which that duty arose); and the fact that only the Company's creditors would now benefit from the claim was irrelevant and did not negate the Quincecare duty. A further challenge concerning contributory negligence was also rejected.
Therefore, before executing a client instruction, financial institutions must independently satisfy themselves, not only that the instruction is properly authorised, but also that the surrounding circumstances do not indicate potential fraud. If there are reasonable grounds to suspect fraud, the bank will be under a Quincecare duty to make proper inquiry before acting, and the Court will be reluctant to allow any avoidance of that duty by pointing to the fraud of the customer’s own officer. In this case, failing to discharge that duty resulted in a judgment against the Bank of c.US$153m.
The dangers of unclear communication when exercising termination rights
In Phones 4U Limited (in administration) v EE Ltd  EWHC 49 (Comm), the Defendant had termination rights both in contract (irrespective of breach) and at common law. The parties’ primary relationship was governed by a trading agreement (the Agreement). Clause 14.1.2 of the Agreement entitled the Defendant to terminate on the appointment of Administrators. The Claimant went into administration in September 2014, prior to which it had sold products and services on behalf of the Defendant. The Defendant therefore served a notice, which stated "[i]n accordance with clause 14.1.2 of the Agreement, we hereby terminate the Agreement with immediate effect" and contained general reservation of rights wording.
The Claimant commenced an action to recover revenues generated from contracts it had sold on behalf of the Defendant which survived termination of the Agreement. The Defendant subsequently sought to claim damages (by way of a counterclaim) for loss of bargain, resulting from termination of the Agreement. The total damages claimed (c.£200m) were considerably greater than damages recoverable for breach of contract.
The Claimant successfully applied for summary judgment in respect of the Defendant’s counterclaim for loss of bargain damages, arising from the Claimant’s alleged repudiatory breach. The Court held that, as construed, the Defendant’s notice of termination made clear that the Defendant was exercising only a contractual right to terminate. This right was irrespective of any alleged repudiatory breach by the Claimant. Therefore, the Defendant’s counterclaim for loss of bargain damages failed.
On a practical level, the case highlights the need to give careful consideration to the exercise of any termination rights. In particular, it is important to consider:
- the available termination rights;
- the implication of exercising those rights;
- whether more than one right can be relied upon; and
- the potential outcomes should more than one right be exercised.
Any termination notice must clearly distinguish between the exercise of rights to terminate pursuant to breach of contract and / or for breach at common law.
DEVELOPMENTS IN FINANCIAL CRIME
Adequate Procedures as corporate defence to bribery - CPS "test case"
The conviction for failure to prevent bribery by a jury of a dormant company with no assets provides an example of the CPS seeking to send a powerful message to companies, no matter their size, about the importance of having adequate procedures in place to prevent bribery.
Skansen was a small regional company with approximately 30 employees, operating from one open-plan office. Under its former management, Skansen won two contracts for office refurbishments worth approximately £6m following a tendering process. The prosecution argued that two improper bribes (totalling £10,000) were paid by Skansen to influence a project manager at the target company and, in return for information, that put Skansen in a more advantageous position than that of its rivals. A third bribe of £29K was agreed but not paid because Skansen's newly-appointed CEO suspected something untoward.
The new CEO carried out an internal investigation, following which the former management were dismissed. The company also voluntarily submitted a suspicious activity report to the relevant authorities, co-operating fully with the subsequent police investigation. Skansen, its former managing director and the project manager were charged with offences under the Bribery Act, with the latter two individuals pleading guilty.
The jury's verdict against the company indicated that the following matters, whether individually or together, did not constitute adequate procedures for the purposes of Skansen’s defence under s7 of the Bribery Act:
- Policies which required employees to act honestly and ethically;
- Financial controls over invoice payment (which in fact prevented the third bribe from being paid);
- Anti-bribery clauses in the underlying contracts; and
- Evidence that the managing director understood the need to avoid bribery.
It was also no defence for Skansen to assert that, on account of its size and limited geographical reach, it did not require a bespoke anti-bribery policy. In the event, despite the guilty verdict, an absolute discharge was the only available remedy. However, it is clear that the authorities are willing to take action where it considers that a company lacks adequate procedures, even where recovery of a financial penalty is unlikely.
Unexplained Wealth Orders: an extensive new power for UK Enforcement Authorities
Since 31 January 2018, the UK Enforcement Authorities – the NCA, HMRC, FCA, SFO and DPP – have been able to obtain Unexplained Wealth Orders (UWOs), requiring certain categories of individuals and companies to explain how they have acquired and hold property (to include real estate or other assets) in the UK. The scope of this new power is very wide indeed, and it may become routinely used, in parallel with regulatory, tax and criminal investigations or proceedings. If a UWO is granted, the usual burden of proof is reversed and the property holder must demonstrate that the assets have been acquired and held legitimately, even in circumstances where the relevant Enforcement Authority has little or no prior evidence of improper conduct.
UWOs are governed by POCA as amended by the Criminal Finances Act 2017. The High Court will grant a UWO if the Enforcement Authority demonstrates that:
- there are reasonable grounds to believe that the total value of one or more items of property is greater than £50,000; and
- there are reasonable grounds to believe that the property is held by an individual or corporate body:
- who is a politically exposed person (PEP) - whether individual or corporate , being a person with prominent public functions in an international organisation or non-EEA state, or a family member, close associate, or other person connected to any such PEP; or
- in relation to whom there are reasonable grounds for suspicion that the person is, or has been, involved in serious crime – including money laundering, fraud, and bribery – anywhere in the world (defined very broadly so as to include conduct which may have but did not in fact give rise to a crime), or is connected to any such person; and
- there are reasonable grounds for suspecting that the person’s known, lawful income (meaning that only income which the Enforcement Authority is aware of will be considered) would have been insufficient to obtain the property in question.
An Enforcement Authority may apply for a UWO without prior notice to the respondent property holder, and a UWO may be accompanied by a freezing order to prevent the property holder from dealing with the property in question.
If a UWO is granted, the property holder must provide a statement, within a time period specified by the Court, setting out the nature of their interest in the property, how they acquired it, the details of any trust or settlement relating to the property, and any other information which the court may specify. The UWO may also require relevant evidence to be provided by the property holder.
It is a criminal offence to knowingly or recklessly make false statements in response to a UWO. Non-compliance with a UWO without reasonable excuse will result in the property being presumed recoverable under the POCA civil recovery regime. If that is the case, the property holder will be required to prove that the property was obtained legitimately in any subsequent civil recovery proceedings, in contrast to the usual position where the burden is on the Enforcement Authority to prove that the property was not legitimately obtained.
The early indications are that the Enforcement Authorities will make routine use of UWOs. On 28 February 2018 the NCA announced that it had already obtained two UWOs covering total assets worth £22m, and that it had identified 50 further potential targets.
The Sanctions and Anti-Money Laundering Bill
The Sanctions and Anti-Money Laundering Bill has passed its second reading in the House of Commons without a division and will now progress to be considered by a Public Bill Committee.
The implementation of sanctions in the UK currently relies heavily on the European Communities Act 1972 (ECA).
Post-Brexit, the UK will not be able to use the ECA as a legal basis to implement and enforce sanctions and the European Union (Withdrawal) Bill will not provide the powers necessary to update, amend or lift sanctions after exit day. A new framework is therefore required to allow the UK to meet its international obligation to implement sanctions.
In particular, the Sanctions and Anti-Money Laundering Bill aims to enable the UK to:
- continue to implement United Nations (UN) sanctions regimes to meet national security and foreign policy objectives.
- implement non-UN sanctions in co-ordination with the UK's international partners in order to meet such objectives.
- ensure anti-money laundering and counter-terrorist financing measures are kept up to date, continuing to align the UK with international standards.
- introduce broad discretionary powers to impose a wide range of sanctions by way of secondary legislation, including asset freezes and other financial sanctions, and travel bans, as well as both immigration restrictions and trade restrictions affecting goods and services.
The UK Government has accepted that once its domestic sanctions policy is enshrined in the proposed new Act, a divergence between sanctions imposed by the UK and those imposed by its international partners is a legal possibility.
Whilst the powers conferred by the legislation will be very broad and, therefore, will allow greater flexibility for the UK's approach to sanctions, it could also lead to greater scope for regulatory divergence and for potentially extensive secondary legislation to be passed with relatively little scrutiny.