IN THE COURT OF APPEAL (CIVIL DIVISION)
ON APPEAL FROM THE HIGH COURT OF JUSTICE
(MR JUSTICE CHADWICK)
Strand London WC2 |
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B e f o r e :
LORD JUSTICE SWINTON THOMAS
LORD JUSTICE MUMMERY
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BARINGS PLC (In administration) |
First Plaintiff/First Respondent |
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BISHOPSCOURT (BS) LIMITED (In administration and provisional liquidation) |
Second Plaintiff |
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COOPERS & LYBRAND (A firm) |
First Defendant/Second Respondent |
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CHALY CHEE KHEONG MAH PO'AD BIN SHAIK ABU BAKAR MATTAR |
Second and Third Defendants/Third Respondents |
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KHOO KUM WING S J TAN |
Fourth and Fifth Defendants/Appellants |
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Smith Bernal Reporting Limited, 180 Fleet Street,
London EC4A 2HD
Tel: 0171 831 3183
Official Shorthand Writers to the Court)
MR S BURNTON QC with MR R DAVIES and MR R GILLES (Instructed by Messrs Slaughter & May, London EC2V 5DB) appeared on behalf of the First Respondents
The Second Respondents were not represented
MR C BUTCHER (Instructed by Messrs Wilde Sapte, London WC4M 7WS) appeared on behalf of the Third Respondents
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Crown Copyright ©
LORD JUSTICE LEGGATT: Barings plc ('Barings') was the English holding company of a group. It was based in London and did not trade on its own account. Bishopscourt (BS) Ltd (formerly Barings Securities Ltd) ('BSL'), which is in administration and provisional liquidation, was an indirect subsidiary of Barings. Though incorporated in the Cayman Islands BSL's business was based in London. BSL and its subsidiaries conducted securities and futures trading. BSL carried out agency trading as well as trading on its own account. Barings and BSL have brought proceedings in England against Coopers & Lybrand ('C&L'), a firm of chartered accountants. The second and third defendants are Singaporean partners in Deloitte & Touche ('D&T'), while the fourth and fifth defendants are partners in Coopers & Lybrand Singapore ('C&LS'), a Singaporean firm associated with C&L. Barings Futures Singapore Pte Ltd ('BFS') was an indirect subsidiary of BSL, and so of Barings. BFS was incorporated in Singapore and traded on the Singapore International Monetary Exchange ('Simex'). Other indirect subsidiaries of BSL were Baring Securities Japan Ltd ('BSJ'), which traded in financial futures on Japanese exchanges, and Baring Securities London Ltd ('BSLL'), which was used in London to book proprietary trading previously booked to BSL.
In the action Barings and BSL seek to blame their auditors for the collapse of the group on 26th February l995. The collapse has been attributed to unauthorised and loss-making trading by Mr Nicholas Leeson who from his appointment in l993 until his resignation shortly before 26th February l995 was General Manager of BFS. In pursuance of the action Barings obtained from the Master leave to serve the fourth and fifth defendants out of the jurisdiction on the grounds that they are necessary or proper parties to the English action and that the claim is founded on a tort, namely their negligence, and the damage was sustained within the jurisdiction. Chadwick J. dismissed the application of the fourth and fifth defendants to set aside leave. Against the judge's order made on 2nd August l996 they now appeal by leave. Before the judge they contended that Barings has no good cause of action against them, and that even if it does, England is not the appropriate forum for the trial of the action. But because the action brought by the liquidators of BFS against C&LS in Singapore has since been stayed, C&LS no longer maintain their argument about forum.
BFS undertook agency and proprietary futures trading on Simex for BSL and BSJ. Initially Mr Leeson could not execute such trades except on the instructions of traders at BSL or BSJ. But later he was given authority to exercise his own discretion to carry out proprietary arbitrage trading to exploit price differences that arose between matching contracts traded on Simex and the Japanese exchanges. In l992 Mr Leeson opened account 88888 in the records of BFS, ostensibly as an error account. From then until he resigned he in fact used it to conceal losses incurred by him on unauthorised futures trading and unauthorised options trading. Although he had no authority to hold open overnight positions, he was running massive open positions. The fact that it was in reality a trading account was evident from the volume of transactions booked to it. Losses (calculated by marking to market) from Mr Leeson's trading on the account rose from £2.1M at 31st December l992 to £215.5M at 31st December l994 and £848.5M when the collapse occurred on 26th February l995.
To maintain a contract on Simex the deposit of margin is required, whether initial, variation or additional. At the end of each trading day BFS electronically transmitted a number feeds to BSL in London. They were entered into the First Futures system, which extracted the data for the account numbers that it recognised. This information was used to update clients' positions, house accounts and the trading records of BSL. Requests for funding were also sent by electronic mail and posted manually to the First Futures system. Funding was provided to BSL by Barings Group Treasury.
Mr Leeson caused BFS's computer consultant in Singapore to delete all reference to account 88888 (and hence the trading undertaken on it) from all the feeds sent to London, except the margin file. But because the First Futures system did not recognise account 88888, it did not allocate the margin attributed to that account in the margin file to any account in the system. During l993 Mr Leeson began to ask for additional funding from BSL in US dollars. The requests, which were sent by electronic mail, did not appear on either the trade feed or the margin feed. He falsely claimed that they were additional margin calls. From the beginning of l994 the US dollars sent in response to these calls were posted to First Futures accounts. In the accounts of BSL they were shown as inter company receivables from BFS. By 26th February l995 the additional funding provided in this way by BSL amounted to at least £405M, and so exceeded the value of Barings' shareholders' funds, which then amounted to £308M. In addition, BFS's authorised trading was also funded by BSL.
At no time during the audits of BFS's consolidation schedules, prepared for the purposes of group accounts, did the auditors detect or report on Mr Leeson's unauthorised trading or the losses in which it resulted. On the contrary, the consolidation schedules showed BFS to be not only solvent but profitable. Successive profit and loss accounts showed profits rising to £9.6M at l994 year end, whereas it should have shown a loss at that date of £180M; while the balance sheet at that date recorded assets of £15.0M instead of liabilities amounting to £201.4M. When on 26th February l995 it was recognised that the group was insolvent, the principal companies were put into administration, and, as all the world knows, the whole business, including the banking and investment management arms, was sold to ING against an undertaking to discharge particular liabilities. It is Barings' case that had the auditors reported on Mr Leeson's fraudulent activities at any time before February l995 his positions could have been closed and insolvency averted.
The claim against C&LS is based on the duties which they as reporting accountants are alleged to have assumed towards Barings in relation to the group accounts and to a transaction in the name of Spear, Leeds Kellogg ('the SLK transaction'), which C&LS reported to be a £50M receivable due, not to BFS, but to BSL, whereas it was in fact a fiction invented by Mr Leeson to explain a discrepancy in BFS's accounts as a result of losses caused by his unauthorised trading.
Barings' claim is based on the group audit instructions, on instructions given by their Group Finance Director, on the SLK transaction, on reports by C&LS to C&L and to the directors of Barings, and on consolidated schedules furnished by C&LS in relation to BFS for inclusion in the consolidated accounts of the Barings group. The group audit instructions to C&LS required them to report to C&L "any matters of significance which come to [C&LS's] attention on a regular basis so that [C&L] can keep Barings central management fully briefed on any issues as they emerge." C&LS were told that the consolidation schedules must comply with the requirements of the English Companies Acts and of the Auditing Standards and Guidelines issued by the Institute of Chartered Accountants. Under the Guidelines an audit had to be carried out so as to have a reasonable expectation of detecting material fraud and irregularity. The instructions referred to the fact that Barings was placing increasing emphasis on timely high quality reporting to management, and required C&LS to send their interim management letter as soon as possible, and to report whether they were aware of any significant internal control or accounting problems. During the audit of the consolidation schedules the Group Finance Director of Barings Investment Bank obtained from C&LS confirmation as to the quality of their audit team. He was also provided with a copy of C&LS's Audit Status Report of 1st December l994 which reported that no significant issues had been noted that were not addressed in the Audit Strategy Memorandum. The Memorandum stated that the assessment of the control environment had been completed and assessed internal control procedures in place as adequate.
On 27th January l995 C&LS reported on the SLK transaction that the outstanding trade receivable of 7.78 billion yen was due to BSL. The transaction was of concern to Barings because the receivable represented more than 10% of Barings' capital. On 1st February l995 at the instigation of the Group Finance Director Mr Fitzgerald sent by mistake to D&T instead of to C&LS a fax in which after mentioning their concern he called for "a rigorous audit of the balance sheet paying particular attention to the inter company balances and receivables." Mr Fitzgerald says, though it is disputed by C&LS, that when he discovered his mistake he spoke by telephone to the fourth defendant on 2nd February l995 and conveyed the same information. On the same day C&LS reported to C&L that the SLK receivable had been paid, although no money had been received and evidence of payment had been fabricated by Mr Leeson. On 3rd February l995 C&LS signed their audit report, addressed to the directors of Barings, on the consolidation schedules. Those schedules contained the substantial errors both in the profit and loss account and in the balance sheet to which I have already referred.
The essential submission of Mr Sydney Kentridge Q.C. for C&LS was that the firm owed to Barings no relevant duty of care and that the damages claimed, if any have been suffered, can be claimed, not by Barings as a holding company, which is in effect a shareholder in the subsidiaries, but only by the subsidiary or subsidiaries which suffered the damage. The information which the Singapore auditors were required to supply was obtained and required simply so that the directors of Barings could comply with the obligation on them to prepare consolidated accounts. Mr Kentridge contends that that function (or that duty) cannot support a duty of care owed by the Singapore auditors to Barings to compensate it for the loss which it claims to have suffered. Barings do not allege that the auditors' negligence caused it to make any expenditure of its own funds, and does not claim to have lost anything from its own profits. If there is a duty arising out of the audit, it is a duty of the sort which auditors owe in the first place to the company for which they are doing the audit. According to Mr Kentridge's argument, there is ample authority that, in so far as a company has suffered damage, although the shareholders have in a sense in concert suffered damage because the value of their shareholding has gone down, nonetheless, in law it is the company and not the shareholders who can sue for that damage.
Mr Kentridge submits that this applies also to the case of a negligent audit. The auditor prepares his accounts and does his audit for the benefit of the company which employs him. His accounts go to the shareholders (and that is one of the reasons why those audited accounts are required), but the shareholders do not have a claim in respect of the diminution in the value of their shares which may have been caused by the negligence. In this country at least, the approach of the courts is that any loss suffered has been suffered by the company. If the company has a cause of action, then it pursues that cause of action; and in that way, by pursuing its cause of action, any loss to the company is recovered, and thereby the value of the shareholding is restored. So Mr Kentridge contends that if Barings had been the direct shareholder of BFS, it would have had no action in respect of the negligence of C&LS, assuming that the firm was negligent in the auditing of that company's accounts. The fact that they are not the actual shareholders, but a relatively remote parent, makes their relationship to the auditors a more remote one. The object of consolidated accounts is to give to the ultimate holding company itself and to its shareholders a view of what is happening among its subsidiaries. Mr Kentridge submits that the duty which is owed is primarily to the company, and if the parent company suffers a loss by reason of negligence on the part of the auditors of the subsidiary company, then the parent company can be in no better position than a shareholder in the company which has itself suffered the loss.
For these propositions Mr Kentridge relies first upon Prudential Assurance Co. Ltd v Newman Industries Ltd [l982] Ch. 204. The case raised the question whether a minority shareholder is entitled to bring an action on behalf of itself, the company and its other shareholders, claiming to have suffered damage caused by actions of the majority shareholders. In relation to the personal claim this Court said at page 222G -
"....if directors convene a meeting on the basis of a fraudulent circular, a shareholder will have a right of action to recover any loss which he has been personally caused in consequence of the fraudulent circular; this might include the expense of attending the meeting. But what he cannot do is to recover damages merely because the company in which he is interested has suffered damage. He cannot recover a sum equal to the diminution in the market value of his shares, or equal to the likely diminution in dividend, because such a 'loss' is merely a reflection of the loss suffered by the company. The shareholder does not suffer any personal loss. His only 'loss' is through the company, in the diminution in the value of net assets of the company, in which he has (say) a 3 per cent. shareholding. The plaintiff's shares are merely a right of participation in the company on the terms of the articles of association. The shares themselves, his right of participation, are not directly affected by the wrongdoing. The plaintiff still holds all the shares as his own absolutely unencumbered property. The deceit practised upon the plaintiff does not affect the shares; it merely enables the defendant to rob the company."
Mr Kentridge supports this citation of principle by reference to the case of Caparo plc v Dickman [l990] 2 A.C. 605. The House of Lords considered a claim by the purchaser of shares that the purchase, in execution of the takeover of a company, had been made in reliance on an audit negligently conducted for that company. At page 626C Lord Bridge of Harwich said -
"....the crucial question concerns the extent of the shareholder's interest which the auditor has a duty to protect. The shareholders of a company have a collective interest in the company's proper management and in so far as a negligent failure of the auditor to report accurately on the state of the company's finances deprives the shareholders of the opportunity to exercise their powers in general meeting, to call the directors to book and to ensure that errors in management are corrected, the shareholders ought to be entitled to a remedy. But in practice no problem arises in this regard since the interest of the shareholders in the proper management of the company's affairs is indistinguishable from the interest of the company itself and any loss suffered by the shareholders, e.g. by the negligent failure of the auditor to discover and expose a misappropriation of funds by a director of the company, will be recouped by a claim against the auditors in the name of the company, not by individual shareholders.
I find it difficult to visualise a situation arising in the real world in which the individual shareholder could claim to have sustained a loss in respect of his existing shareholding referable to the negligence of the auditor which could not be recouped by the company."
The other important passage for present purposes comes at the end of Lord Bridge's speech when he said at page 627D -
"It is never sufficient to ask simply whether A owes B a duty of care. It is always necessary to determine the scope of the duty by reference to the kind of damage from which A must take care to save B harmless. 'The question is always whether the defendant was under a duty to avoid or prevent that damage but the actual nature of the damage suffered is relevant to the existence and extent of any duty to avoid or prevent it': see Sutherland Shire Council v Heyman" (l985) 60 A.L.R. 1 per Brennan J. at page 48.
From these authorities Mr Kentridge seeks to derive the principle that where a company's auditor is negligent the action must be brought by the company and not by the shareholders. This rule he ascribes to the very nature of the shareholding and also to the need to avoid multiple claims against the auditor. Shareholders cannot be regarded as having suffered any damage separate from that sustained by the company.
In reply Mr Stanley Burnton Q.C. for Barings relied primarily on the facts as showing how a duty of care was assumed by C&LS directly to Barings. But in aid of his argument he made three ancillary points. First, the liability of C&LS to BFS is in dispute, particularly because C&LS signed off on their audit report to Barings but not on their audit report to BFS. Secondly, C&LS were engaged in relation to Barings in the production of group accounts for which their information and audit reports were to be used. Thirdly, BFS acted as a broker or agent for other companies in the group. Their losses were not recoverable from C&LS, because C&LS owed them no duty. But Barings was owed a duty by C&LS, and therefore can itself claim for the loss in the value of the shares in those companies. He relied on George Fischer (Great Britain) Ltd v Multi Construction Ltd [l995] 1 B.C.L.C. 260 as authority for the proposition that in these circumstances reduction in the value of shares is an admissible kind of loss. In that case the defendant entered into a contract with the plaintiff to install equipment at the premises of a subsidiary, which sold the products of other subsidiaries. When the equipment proved defective, the plaintiff claimed damages which included the loss of sales of its subsidiaries caused by the defendant's negligence. The plaintiff claimed for losses measured by the loss of profits to its subsidiaries. This Court held that because the plaintiff had an unquestioned right of action against the defendant for breach of contract it was entitled to claim damages for loss caused to its subsidiaries. The Court distinguished the Prudential Assurance case on the ground that in it it was the company which had a right of action, and the rule in Foss v Harbottle applied, whereas in Fischer's case itself, although the plaintiff had a right of action, its subsidiaries had none.
The Prudential Assurance case decides that a shareholder in a company has no independent right of action based on an allegation of diminution in the value of his shares occasioned by damage to the company. Mr Kentridge seeks to rely on it as authority for the proposition that where a company may have a cause of action for damage caused to it by a tortfeasor, a person who enjoys an independent right of action against the tortfeasor cannot sue him, at least in so far as his damages are measured by a diminution in the value of the company's shares. But in my judgment that is a misapplication of the principle. If C&LS are in breach of a duty of care owed to Barings in respect of audit information supplied to them and the breach causes damage, Barings cannot be disentitled from suing merely because the damages for which C&LS are said to be liable to Barings would or might include damages for which they are said to be liable to BFS. For C&LS are also in breach of a different duty, whether contractual or tortious, owed to BFS. Whereas complications might arise if these claims were made in separate actions, any risk of double jeopardy or of double recovery, such as were envisaged by the New Zealand Court of Appeal in Christensen v Scott [l996] 1 N.Z.L.R. 273 at pages 280-1, can be avoided if both claims are made in the same action. It may be, for instance, that C&LS are not liable to Barings for loss of the value of the shares in either BFS or any company which has a cause of action against C&LS for such loss.
The present case differs from the Prudential Assurance case because here the person in the position of shareholder, namely Barings, has a right of action independent of the company, BFS. On the other hand, unlike the situation in George Fischer's case, BFS does have a right of action itself. As that case shows, there is no legal principle that a holding company is unable to recover damages for loss in the value of its subsidiaries, resulting directly from a breach of duty owed to it, as distinct from a duty owed (or not owed as the case may be) to the subsidiaries.
In my judgment the argument about duty of care is concluded by the simple fact that C&LS knew that their audit and report on the consolidation schedules were required so that the directors of Barings could comply with their obligation to provide accounts which showed a true and fair view of the financial affairs of the group. C&LS could not have supposed that the only responsibility they assumed to Barings was to submit BFS's accounts in a form suitable for incorporation into the consolidated accounts. They probably thought that the scope of what they had to do was not materially enlarged by this obligation, since they had audited the accounts of BFS, and they had done so in the knowledge that, because BFS was a subsidiary, its accounts would be required by the holding company for inclusion in the accounts of the group. But C&LS cannot have supposed that, so long as some accounts were provided, it mattered not whether they showed a true and fair view of the financial affairs of BFS. The primary responsibility for safeguarding a company's assets and preventing errors and defalcations rests with the directors. But material irregularities, and a foriori fraud, will normally be brought to light by sound audit procedures, one of which is the practice of pointing out weaknesses in internal controls. An auditor's task is so to conduct the audit as to make it probable that material misstatements in financial documents will be detected. Detection did not occur here, and there therefore is a case for C&LS to answer.
For present purposes, these considerations answer Mr Kentridge's arguments for C&LS. The purpose of reporting may not have been not so limited as he has contended. The submission that the loss suffered by Barings was utterly outside the reasonable contemplation of the auditors of BFS depends on mere assertion. There is force in Mr Burnton's retort that the most immediate cause was the failure of internal control within BFS which allowed Mr Leeson to commit his frauds. It is in any event well arguable that C&LS could have foreseen a failure in management controls elsewhere in the Barings group. Everything depends on whether Mr Leeson's frauds should have been detected by the auditors, since, had they been detected, further monies might not have been sent by other companies in the group to BFS with the resultant loss in the value of the shares held by Barings as the holding company of the group. These submissions are supported by the argument that since C&LS was reporting to Barings on transactions which BFS as agents purportedly undertook for companies within the Barings group as principals, and which those companies were funding, the direct and most proximate loss was suffered by Barings through BSL and BSLL, and not through BFS.
This is not a claim by the shareholders of Barings against C&LS for loss in the value of their shares resulting from breach of duty owed by C&LS to BFS, nor is it a claim by Barings against C&LS for loss of value in their interest in the group resulting from a breach of duty owed by C&LS to BFS. The crucial point, which the judge appreciated, is that Barings plead that there was a direct relationship between C&LS and Barings, arising from the circumstances in which work was done for, and information was supplied by C&LS to, Barings and their auditors in England (C&L) relating to the preparation of consolidated group accounts. Specific facts are pleaded in support of the claim that there was an independent and relevant duty of care owed by C&LS to Barings, which was separate from any duty owed to BFS as statutory auditors. The determination of the scope of that duty and of the consequences of any breach are matters for evidence and legal argument at trial. It follows that for reasons such as the judge gave I agree with his conclusion that on both the grounds upon which they rely for service upon C&LS out of the jurisdiction Barings have established a good arguable case, and I am satisfied that the case is a proper one for service out of the jurisdiction. In appraising the evidence for this appeal it is no part of our task to reach any final conclusions of fact or law, and I have not done so. It suffices to say that there is in my judgment a serious issue to be tried between the parties, and I would dismiss the appeal.
LORD JUSTICE SWINTON THOMAS: I agree.
LORD JUSTICE MUMMERY: I agree.
ORDER: Appeal dismissed with the costs of both respondents; leave to appeal to the House of Lords refused; extension of time for lodging acknowledgement of service until seven days after final determination of the appeal by the House of Lords.