Judgment Title: In the matter of Custom House Capital Ltd
Composition of Court:
Judgment by: Hogan J.
Status of Judgment: Approved
Neutral Citation Number:  IEHC 298
THE HIGH COURT
2011 219 MCA
IN THE MATTER OF CUSTOM HOUSE CAPITAL LTD.
AND IN THE MATTER OF AN APPLICATION UNDER
REGULATION 166 OF THE EUROPEAN COMMUNITIES
(MARKETS IN FINANCIAL INSTRUMENTS) REGULATIONS 2007
AND IN THE MATTER OF AN APPLICATION
BY THE CENTRAL BANK OF IRELAND
JUDGMENT of Mr. Justice Hogan delivered on the 18th July, 2011
1. In the late evening of 15th July, 2011, on the ex parte application of the Central Bank of Ireland, I made an order pursuant to Article 166(1) of the European Communities (Market in Financial Instruments) Regulations 2007 (S.I. No. 60 of 2007) (“the MiFID Regulations”) providing for the appointment of two inspectors, George Treacy and Noel Thompson, to Custom House Capital Ltd. (“Custom House”). Mr. Treacy is the head of the Investments Service Providers Supervision division of the Central Bank and Mr. Thompson is an authorised officer within that division. Since this was the first occasion an application of this kind has been by the Central Bank, it seems appropriate that the reasons for my decision be set out briefly in writing.
The background to the application
3. Between 2009-2010 there were extensive contacts between the Central Bank and Custom House following the receipt of information from an individual to the effect that some clients’ monies were being invested without their knowledge or consent in an investment framework described as the Mezzanine Bond Fund. According to Custom House’s own promotional literature, it appears that the fund had been created in order to enable it (i.e., Custom House) to assist in the short term financing of properties in the European market.
4. Along with members of the prominent accountancy firm, KPMG, Mr. Thompson was then appointed as an authorised officer to investigate a sample of property transactions which included such mezzanine financing. Further directions were then given under the MiFID Regulations. These included a requirement that Custom House clarify the financial position of each syndicated special purpose vehicle for individual properties by reference to identifying current valuations compared with the valuation at the time of purchase along with any shortfalls in equity being raised and that the level of regulatory capital be raised to €5m. to cover potential liabilities arising from the Mezzanine Bond.
5. Further directions issued in April 2010 and these directions were (with one minor exception) renewed in April 2011. These directions included a direction not to pay any dividends to shareholders or to provide any loan to a director. Significant restrictions on the right of the firm to advertise for or solicit new business were also imposed.
6. In February, 2011 the Central Bank wrote to Custom House and Mr. Harry Cassidy (the chief executive officer) alleging breaches of regulatory requirements relating to the sale of the mezzanine bond to clients and an administrative sanctions procedure under Part IIIC of the Central Bank Act 1942 (as amended) was initiated. Responses were supplied by Custom House in April, 2011.
7. So far as the mezzanine bond is concerned, the evidence to date suggests that over €10m. is owed to investors. The regulatory capital requirement of €5m. which the Central Bank imposed has been varied to take account of the fact that Custom House now has to deduct any contingent liability arising on the mezzanine bond when calculating its regulatory capital. A further complication is that the Central Bank maintains that inconsistent views have been expressed by Custom House as to whether the mezzanine investors rank pari passu with ordinary equity investors in the special purpose vehicle or whether the former enjoy priority. This uncertainty clearly had implications for the question of whether Custom House’s capital reserves were adequate for this purpose.
8. These developments obviously gave grounds for concern. These concerns were plainly heightened by developments which have taken place within the last few days. According to the grounding affidavit sworn by Mr. Thompson, a senior staff member of Custom House requested a meeting with Central Bank on 11th July. At that meeting, the staff member concerned expressed concern that monies may have been taken from pooled client asset accounts by Custom House without appropriate authority and used to cover shortfalls in property investments on behalf of clients. It was similarly contended that equity unit trusts and cash unit trusts were also improperly used in this way. There is concern that the shortfall in respect of the trust assets may be upwards of €13m.
9. Running in tandem with this are the separate concerns voiced by Appian Asset Management Ltd. (“Appian”) and Mr. John O’Dwyer, the Chairman of Custom House. Appian entered into a services agreement with Custom House in May, 2011 and it is duly authorised under the MiFID Regulations for this purpose. In the course of familiarising itself with the services to be rendered, Appian became aware of certain apparent discrepancies in records of the firm relating to some clients. These included incomplete information between valuations of assets supplied to certain clients and the underlying records of Custom House relating to those client’s accounts, along with other issues relevant to the security and good order of the holding of client assets. In the light of these developments it appears that Appian are now taking steps to terminate their appointment with Custom House. It is proper to record that Appian at all times have acted with utmost propriety and have been very helpful and co-operative with the Central Bank.
10. Mr. O’Dwyer had been asked to join the firm as a non-executive director in 2009 in the wake of a request from the Central Bank to strengthen the board by bringing in an experienced outsider who could assist the independence of the decision making within the company. To that end, Mr. O’Dwyer agreed to join Custom House in July, 2010 and he subsequently took over the role of Chairman in late 2010. It is equally proper to record that Mr. O’Dwyer’s integrity is beyond question and that illness this year hampered his ability to perform his task as Chairman.
11. On 11th July Mr. Thompson received a telephone conversation from Mr. O’Dwyer in which the latter stated that he could no longer regard the information he received from Custom House as dependable. While senior figures within the company had assured Mr. O’Dwyer over the weekend of July 9-10 that investor monies had not been misused, he now considered that the opposite was the case. Shortly after this development senior figures within the company either resigned or communicated their intention to do so. At that point the Bank issued further directions requiring Custom House to desist from making any payments to investors and resolved to make this application.
12. For completeness, I should record that Mr. Treacy gave evidence before me at the hearing of the ex parte application of a further meeting with senior staff on 14th July, all of whom expressed similar concerns, including concerns regarding the reliability of information relating to customer accounts.
The nature of the application
(a) the proper and orderly regulation and supervision of investment firms or regulated markets, or
(b) the protection of investors,
that an investigation should be held into the affairs of an investment firm or the market operator of a regulated market, the Bank may apply to the Court for an order authorising such an investigation.”
15. Article 166(2) empowers the Court, as it thinks proper, to appoint one or more inspectors to conduct the investigation on the application of the Bank. Article 166(2) (b) provides that the inspectors must report the results of the investigation in such manner as the Court may direct.
16. Article 166(3) provides:-
(a) the application, and
(b) reasons for the application,
and, in that case, the investment firm of the market operator, within such period as the Bank may set out in the notification, shall be entitled to give to the Bank a statement in writing explaining the relevant activities of the investment firm or market operator, as the case may be.”
18. This brings us directly to the nature of the order sought. Counsel for the Bank, Mr. Barniville SC, submitted that in such circumstances that any order which I made under Article 166(2) appointing inspectors to investigate the affairs of Custom House was in the nature of a final order, albeit that it was accepted by counsel that Custom House should be given liberty to apply to have the order set aside. If that were the case, this would have the effect that a final order could be made with significant reputational, financial and other implications for a company without any advance warning or notice or without it having been given the basic opportunity to make its case.
19. In my view, such a construction of Article 166(2) would have to be rejected as unconstitutional as being inconsistent with the constitutional guarantee to fair procedures. The task of this Court on an application of this kind is not simply, so to speak, to beautify by judicial order by purely formally confirming what might seem to many as the inevitable necessity of a full scale investigation to be conducted by Central Bank inspectors. It is rather to ensure that there is, objectively speaking, a necessity for an investigation and that the procedural and, where merited, the reputational rights of the company are appropriately safeguarded by the judicial branch. It is true that the allegations here are very serious and, at first blush, would appear to be supported by an abundance of evidence. But if justice is to be administered in an even handed fashion, it means that Custom House must be given an effective opportunity to demonstrate why the making of an order under Article 166(2) is not warranted. It is true that the finality of the order might be tempered by giving Custom House the opportunity to apply to have the order set aside, but even in such circumstances the burden of proof which the Central Bank as applicant should properly carry would effectively be reversed.
20. This is underscored by two leading decisions of the Supreme Court: DK v. Crowley  IESC 66,  2 IR 712 and Dellway Investments Ltd. v. National Asset Management Agency (No.2)  IESC 14. In DK the Supreme Court held that s. 4 of the Domestic Violence Act 1996, was unconstitutional insofar as it permitted the District Court to make an order in an ex parte fashion without providing at the same time for appropriate procedural safeguards. As Keane C.J. noted, this had the effect that a person affected by such an order might be excluded from their family home by an order of indefinite duration. The Court observed, however, that it was ultimately the lack of appropriate procedural safeguards which led it to the conclusion that the section represented a disproportionate interference with the constitutional right to fair procedures ( 2 I.R. 744 at 760):-
The court fully appreciates the considerations which the executive and legislature would have had in mind in providing for the granting of interim barring orders on an ex parte basis. In the many cases where the spouses are still living together and one is being subjected to violence by the other which may also extend to the children, it may simply not be practicable for the application to be made on notice to the respondent. It is not the existence of a jurisdiction to grant interim barring orders on an ex parte basis which creates a serious constitutional difficulty. It is the manner in which the legislation has provided for the granting of such orders.”
22. In Dellway Investments the Supreme Court held that the National Asset Management Agency was required to give borrowers an opportunity to be heard before their loans were transferred from commercial banks to the agency. The Court stressed the reputation impact such a transfer might have and it also noted that the statutory powers of the Agency were far more extensive than those enjoyed by commercial banks. Applying standard East Donegal principles (East Donegal Co-Operative Ltd. v. Attorney General  I.R. 317) the Court rejected a construction of the National Management Agency Act 2009, which would have excluded the right to fair procedures in the circumstances.
23. As Murray C.J. put it:-
The State in exercising its powers through the organs of government designated by the Constitution have extensive powers to regulate and limit the exercise of individual rights in the interest of the common good and this may be relevant where the State is faced with a national crisis, such as one of a fiscal nature. The State has the power to act in the interests of the common good because the Constitution, in its provisions, expressly envisages that. It also envisages that in exercising such powers the State must act within the ambit of the Constitution as a whole. In a democratic State founded on the rule of law there are definite limits to the extent to which the State can interfere with or restrict constitutional rights or rights vested in or acquired by individuals - freedom of expression, assembly, freedom of religion, right to education, right to earn a livelihood, property rights (including contractual rights), right to strike - to name but some, even when it is acting or purporting to act in the interest of the common good in a national crisis. In common with international instruments, such as Covenants of the United Nations and the European Convention on Human Rights, the Constitution envisages that rights may be regulated and limited but not to an extent that it is disproportionate or in a manner which is arbitrary or discriminatory in an invidious sense. In particular the State cannot act in a manner which would abrogate a right or deprive it of its very essence.
If the State were to succeed in its argument, namely that the Act of 2009 prohibits NAMA from giving any consideration to representations from persons in the position of the appellants, it would be denying the very essence of a right to a hearing, a concept at the core of the principle of constitutional justice and due process.”
25. It follows, therefore, that the application of Article 166(2) must be re-fashioned somewhat beyond its bare language in order to make it operate, East Donegal-style, in a constitutional fashion by, if necessary, interpolating appropriate safeguards in order to vindicate the company’s constitutional right to fair procedures and, indeed, the protection of its property rights in the manner required by Article 40.3.1 and Article 40.3.2 of the Constitution. If the ex parte nature of the original appointment can be justified on the basis that it was necessary so to act in order to protect investor funds, the principle of proportionality correspondingly requires that this must be counter-balanced by a stipulation that the appointment be in the nature of an interim order or on a provisional basis.