England and Wales Court of Appeal (Civil Division) Decisions

Case Nos 1999/7942/A3
QBCM1 1999/1110/A3
IN THE SUPREME COURT OF JUDICATURE
COURT OF APPEAL (CIVIL DIVISION)
ON APPEAL FROM THE HIGH COURT OF JUSTICE
QUEEN'S BENCH DIVISION
The Honourable Mr Justice Aikens
Royal Courts of Justice
Strand, London, WC2A 2LL
Thursday, 17 February 2000

The defendant, Société Genérale ("SG"), appeals against an order of Aikens J dated 21st September 1999, giving summary judgment against SG in a dispute about the proper method of calculation of loss in the event (which occurred) of early termination of three non-deliverable foreign exchange contracts entered into with Australia and New Zealand Banking Group Limited ("ANZ"). Subsequent to the hearing before Aikens J, SG instructed different solicitors (Slaughter and May) as well as fresh Counsel (Mr Milligan Q.C. and Mr Hancock) who appeared before us, and have identified various points not raised before the judge. The relevant facts and the general issue appear with clarity from the notice of appeal submitted on SG's behalf by Slaughter and May:

"1. The Claimant ("ANZ") and the Defendant ("SG") were parties to three non-deliverable forward foreign exchange contracts ("the Transactions") contained in amended Confirmations dated 14th April, 1998, 14th April 1998 and 28th May, 1998 respectively.
2. The Transactions provided for the payment on their respective Settlement Dates, viz. 1st October, 1998, 12th November, 1998 and 25th November, 1998, of a sum in US dollars calculated by reference to their notional amounts, viz. US$10m, US$5m and US$10m respectively, and by reference to the change in the rate of exchange between the US dollar and the Russian rouble between the Trade Date, viz. 6th November, 1997, 12th November, 1997 and 26th November, 1997 respectively, and the Settlement Date. The payment fell to be made by SG to ANZ if the rouble depreciated against the dollar and vice versa.
3. The Transactions were subject to the terms of an ISDA Master Agreement between the parties dated as of 17th February, 1995. The ISDA Master Agreement allowed of Early Termination upon the occurrence, among other things, of an Additional Termination Event (Section 5(b) (v)). A Russian Market Event constituted an Additional Termination Event (Clause 7 of the Confirmations) and a Russian Market Event included a banking moratorium.
4. It is common ground that the Transactions were terminated early, viz. on 24th September, 1998, by SG by virtue of the Russian banking moratorium announced on 17th August, 1998.
5. As a result of the Early Termination of the Transactions the parties were obliged to split the difference between their respective Losses in connection with the Transactions (Sections 6 (d) (ii) and 6 (e)(ii) (2) (B) of the ISDA Master Agreement).
6. Before Aikens J. it was common ground that ANZ's loss was US$16,719,459 and that SG's gain (i.e. a negative Loss) on the Transactions themselves was the same amount, thus splitting the difference on that basis would have given the same amount. The dispute between the parties was as to whether SG was entitled to take account of a loss on three hedging contracts, by virtue of the definition of Loss in Section 14 of the ISDA Master Agreement.
7. The hedging contracts had been concluded between SG and Banque Société Générale Vostok ("Vostok") on 6th, 12th and 26th November, 1997 respectively. Their terms were in all material respects the same as the Transactions, except that the initial rate of exchange differed slightly and the third contract had a notional amount which was US$0.5m greater than the Transaction which it hedged, i.e. US$10.5m not US$10m, and an Effective Date which was one day earlier, i.e. 25th, not 26th, November, 1997.
8. SG calculated that its loss on the hedge contracts had been US$16,245,734, so that its Loss in connection with the Transactions, taking account of the hedge contracts, was US$473,725. Splitting the difference between the Losses, there was a sum of US$8,596,592 due from SG to ANZ. SG paid that sum on 17th May, 1999.
9. Aikens J held that ANZ, was not entitled to bring the loss on its hedge contracts into account and therefore that the balance of US$8,122,867, ie, the difference between US$16,719,459 and US$8,596,592, was still due. He gave summary judgment for that amount.
10. Aikens J. also gave summary judgment for interest at the rates, namely the Applicable Rates, stipulated in the ISDA Master Agreement (Sections 6(d) (ii) and 14) on the basis that the Payment Date occurred two local Business Days after ANZ had notified SG of its Loss and had notified SG that it disagreed with SG's calculation, i.e. on 5th October, 1998. He awarded interest at the Default Rate from that date.
Calculation of Loss
11. Section 14 of the ISDA Master Agreement defines the Loss suffered by one party (so far as material) as:
"an amount that party reasonably determines in good faith to be its total losses and costs (or gain, in which case expressed as a negative number) in connection with ..that..group of Terminated Transactions..., including any loss of bargain, cost of funding or, at the election of such party but without duplication, loss or cost incurred as a result of its terminating, liquidating, obtaining or re-establishing any hedge or related trading position (or any gain resulting from any of them)."
12. Aikens J. held that the losses suffered by SG on the hedging contracts were not suffered "as a result of" the termination or liquidation of those contracts (Judgment, page 16 at paragraph (5)), but rather as a result of Vostok's inability to pay because of the banking moratorium......"
2. ISDA standard terms.
For convenience I set out in the schedule to this judgment the full terms of certain of the standard ISDA provisions relating to (a) payment on maturity (Section 2) and (b) the calculation of the payments to be made upon early termination under both the Loss and the alternative Market Quotation basis. Before us, it was common ground that the Loss and Market Quotation clauses aim at broadly the same result and may to that extent assist construe each other, although the confirmations relating to the transactions between ANZ and SG specified that any payments on early terminations should be settled on the basis of the Loss section.
3. The issues in outline

In paragraph 13, the notice of appeal identifies the only issue argued before the judge and raised by the notice of appeal before us, as follows:

"13. Aikens J. was undoubtedly right to conclude that the losses could not be brought into account unless they had been suffered "as a result of" terminating or liquidating the hedge contracts. That is what the definition of Loss says. In that sense, therefore, there clearly has to be a close link between the loss and the termination or liquidation. But he was wrong to conclude that such a link did not exist and so were the reasons which he gave for reaching that conclusion."
4. By its Notice of Appeal dated 29^th October 1999 SG also seeks to raise a new point (which I will call the first new point). This involves resiling from the "common ground" stated in the first sentence of paragraph 6 of the notice of appeal, and asserting that ANZ's loss (and SG's corresponding gain) through termination of the transactions with SG amounted not to some $16.72 million, but in each case to about $100,000. The argument is (i) that the Russian banking moratorium itself constituted a Trade Event, (ii) that, under the terms of the confirmations, SG had the right to determine on the relevant Settlement Dates that a Trade Event existed (iii) that the consequence of such a determination would have been to limit SG's obligation to make any payment to ANZ to one of four methods. They would have been (a) payment in dollars to an account in Russia designated by ANZ, or, in descending order if and as ANZ determined such payment to be impossible or impracticable, (b) payment in Russian roubles to an account designated by ANZ, (c) payment between Russian affiliates to which ANZ and SG should assign their rights and obligations under the relevant transaction or (d) the retention by SG of the settlement amount until cessation of the Trade Event and its payment then with accrued interest at a rate to be agreed.
5. SG suggests, and one can see the force of the suggestion in the light of the depth of the Russian financial crisis which the banking moratorium reflected, that any of these methods would have been unattractive. SG wishes to submit that the market value of its transactions with ANZ as at the date of their early termination would have been diminished accordingly; they should have been valued not "clean" (i.e. assuming that payment would have been made by SG to ANZ in dollars in London as provided by the confirmations) but "dirty" (i.e. assuming that SG would or would probably have determined an Event of Change if the transactions had reached their settlement dates, so that the possible payments for the foreseeable future would have been in accordance with one of the four specified methods); that the parties were accordingly mistaken in proceeding before the judge on the basis that ANZ's loss and SG's gain through their early termination each totalled $16.72 million; and that each's actual loss and gain could be measured by reference to the amount that SG agreed that Vostok should pay SG in respect of the three hedge contracts, that is 0.5% of their value or in absolute terms $83,597.30. The net economic effect, if this figure was ANZ's loss and SG's gain, would be that SG should have paid ANZ that sum, not the $8,596,592 actually paid on 17th May 1999 or the full $16.72m claimed by ANZ.
6. Mr Milligan conceded that, on this new approach, SG could no longer pursue the case it argued before the judge to the effect that its suggested losses on the Vostok hedges should be brought into account. Further, although originally SG sought to put before us fresh evidence to support the suggested value of $83,597.30, Mr Milligan conceded during the hearing that he could not realistically ask us to determine any such value, which might be affected by potentially irrelevant considerations such as Vostok's credit status. He also pointed out that the question whether SG could recover the balance, on this approach overpaid, of the $8,596,592 paid on 17th May 1999 was a quite separate question, which was not on any view before us. He submitted, however, that the first new point was sufficiently meritorious to justify us (a) granting permission to raise it in principle, (b) allowing the appeal and (c) ordering a full trial, at which both parties could deploy whatever factual or expert evidence they wished upon it. In his submission, although it was a point which could and should have been raised below, it was a point of real importance, not only to these parties but to the worldwide derivatives market as a whole; it was an untested point which had arisen in the rare circumstances of a banking moratorium, where commercial parties might well have a limited or mistaken understanding of the allocation of risk intended or achieved by the conditions which they had adopted or agreed; and the failure to appreciate the point was essentially a failure by lawyers, grappling with complex conditions in unfamiliar circumstances.

7. Just before the hearing of the appeal, SG sought to raise a second new point. This was based on the language of the Loss clause requiring each party to determine

"its total losses and costs (or gain, in which case expressed as a negative number) in connection with .... that Terminated Transaction ...., including any loss of bargain, cost of funding or, at the election of such party but without duplication, loss or cost incurred as a result of its terminating, liquidating, obtaining or re-establishing any hedge or related trading position (or any gain resulting from any of them)".
Under the clause that begins "including", Mr Milligan wishes to submit that SG had a right to elect on what basis to measure its loss. It had, he went on, chosen to measure it by reference to its Vostok hedges; and that entitled it to ignore any gain made on the ANZ-SG transactions, and to credit as its gain only the very limited amount of $83,597.30 received from Vostok. Again, on this approach, Mr Milligan did not seek to suggest that SG could pursue the argument which it had run before the judge, to the effect that it was entitled to bring into account the loss of $16,245,734 allegedly made on its hedges.
8. The second new point is, in reality, unnecessary as far as SG is concerned, if it is allowed to raise its first new point. Its attraction for SG is that it offers a partial mitigation against the event of the Court refusing permission to SG to go back on the common assumption before the judge, that ANZ made a loss and SG a gain of $16,719,459 under the ANZ-SG transactions. The Vostok hedges were on largely back-to-back terms with the transactions between ANZ and SG. (Vostok was and is in fact owned by SG, although SG did not guarantee obligations undertaken by Vostok.) The confirmations included similar provisions regarding a Trade Event to those agreed between ANZ and SG. By introducing the concept of election, SG seeks to measure its gain, in connection with the early termination of the ANZ-SG transactions, by reference to what it submits was the diminished value of the Vostok hedges arising from the virtual certainty that a Trade Event would have existed at their settlement dates, and the resulting risk that Vostok's payment obligations to SG would, by determination of an Event of Change, be restricted to one of the four methods. The effect, if SG was not allowed to raise its first new point, would be that, although SG could not, as it would like to, challenge the proposition that ANZ had suffered a loss of $16,719,459, SG could still challenge the proposition that SG had made a like gain. SG's gain would, on SG's case, be $83,597.30, although Mr Milligan's concession that this opened up factual issues means that the actual figure could only be determined by a trial. The figures, on SG's case, would thus be, on ANZ's side, a loss of $16,719,459 (unless SG was permitted to raise its first new point) but, on SG's side, a gain of $83,597.30, so that SG's liability to ANZ would consist of $8,401,528, only a little less than SG has actually paid.
9. There is, however, a potentially relevant difference between the ANZ-SG contracts and the SG-Vostok contracts. Whereas under the former, the option to determine an Event of Change belonged to SG which would be the paying party if the rouble fell against the dollar, under the Vostok hedges the like option belonged to SG which would be the receiving party in that event. Despite their corporate relationship, it would by no means appear to follow that SG would on settlement declare an Event of Change as against Vostok, even if it could. I also note in parenthesis that there appears to be no indication that SG did, in fact, determine that an Event of Change had occurred in respect of the one Vostok hedge that actually matured (on 1st October 1998). All this may in turn cast doubt on the factual proposition that SG would have been bound on the relevant settlement dates of the ANZ-SG contracts to have determined that an Event of Change had occurred, if it had not already determined such an Event in order to achieve early termination.
10. The issue argued before the judge
It is appropriate to start with the issue argued before the judge, which is formally before us. SG's submission was that it should be able to bring into account as a loss its losses under the hedges which it effected with Vostok. In support of this, SG relied upon the inclusion, in each of the three confirmations specifically agreed between the parties, of the Russian Market Event clause together with provision that the standard ISDA Loss clause should apply in the event of any early termination. Thus, it was said, the reference to hedging in the Loss clause must contemplate hedging contracts, like those between SG and Vostok, which might be affected by a banking moratorium leading to early termination under the Additional Termination Event clause, and must specifically contemplate the loss which might arise on such contracts upon such a banking moratorium. The judge rejected this argument, on the ground that the meaning of the standard ISDA Loss clause could not depend on terms agreed by the parties under a specific confirmation, and that there is nothing in the ISDA Loss clause to suggest that it is specifically directed to losses flowing from a banking moratorium. I agree with the judge's view.
11. The Loss clause does however refer in general terms to loss or costs incurred as a result of a party terminating or liquidating any hedge. The judge held that, in circumstances such as the present, it was not the fact of termination or liquidation of the hedging contracts with Vostok that led to SG's losses on those contracts. Rather, it was the fact that, because of the banking moratorium, Vostok could not pay - either on their settlement dates or on their early termination or at any time. By an agreement dated 5^th November 1998 a number of foreign exchange contracts between SG and Vostok, including the three hedges, were liquidated for an agreed payment of US$177,000 by Vostok, said to correspond "to the amount market participants were willing to pay to [SG] to be substituted in [SG's] rights against [Vostok] under the unmatured and matured NDFs [i.e. non-deliverable forward contracts]". One of the hedge contracts had already matured, on 1^st October 1998. The almost complete lack of value attributed to this contract cannot have been due to any termination. It must, if it accurately reflected its market value, mean that this contract had no substantial value before, on and after its maturity. The fact that its loss of value was reflected by SG and Vostok in an agreement, which they chose to head "re: Early termination of Non-Deliverable Forward Transactions (NDFs)", does not mean either that that contract was terminated early or, more importantly, that any such loss of value was attributable to its termination or liquidation, early or late. It must have been due either to the banking moratorium and its effect on the value of contracts with Russian banks such as Vostok, or to a failure to value the contract correctly. Similarly, in relation to the other two contracts, although they had not matured, their loss of value, reflected in their actual early termination on 5^th November 1998, must at best, from SG's viewpoint, have resulted from the intrinsic loss of value of such contracts, irrespective of their termination or maturity.
12. The judge said that, on SG's case, the incidence of this type of loss would be adventitious, since it would depend upon the identity and circumstances of any particular counterparty with whom SG chose to hedge their commitments to ANZ, in circumstances where ANZ would not normally and did not here know whether any hedge had been concluded or with whom. SG's response is that whether or not there is a hedge is always adventitious, but that the Loss clause undoubtedly provides for some form of loss or gain resulting in connection with a hedge to be brought into account - in other words, the existence of a hedge is contractually foreseen and provided for.
13. The critical question is however for what purpose it is foreseen and how it is provided for. This brings one back to the actual language of the Loss clause, and the scope of the words "as a result of" in the phrase "loss or cost incurred as a result of its terminating, liquidating, obtaining or re-establishing any hedge or related position (or any gain resulting from any of them)". Here I find myself in full agreement with the judge that (a) it is readily understandable that the parties should agree to share loss or gain arising from the accelerated termination or liquidation or the need to take accelerated steps to obtain or re-establish a hedge, but that (b) it is inherently unlikely that a party in ANZ's position entering into a futures contract with SG would agree to share the risk of the simple collapse in value of a hedge arranged by its counterparty, SG. It must be borne in mind that SG's case at this point proceeds on an assumption that ANZ's loss and SG's gain in connection with the termination of the ANZ-SG contracts was in each case $16,719,459. A result which also brings into account a supposed additional loss, by SG, of $16,245,734 under its own hedges would be by itself surprising. It would become more, not less, surprising, if SG is permitted to raise and succeeds on its first new point, since the effect would logically be that, although SG only owed ANZ less than $100,000 in respect of the ANZ-SG transactions, SG could claim that ANZ should bear half of its suggested loss of $16,245,734 in respect of the Vostok hedges. Needless to say, Mr Milligan did not suggest this before us. In reality, he barely advanced the case which SG put before the judge.
14. Like the judge, I find it unnecessary to go into many of the other arguments raised in the affidavits. The only additional observations that I would make concern the Market Quotation clause, which is under standard ISDA terms an alternative basis for measuring the amount payable by one affected party to the other on early termination. In its evidence, SG suggested that it was with problems like the present in mind that it chose to have the method of assessment set out in the Loss clause inserted in the present contracts, in preference to the alternative Market Quotation clause. Even if that was the basis, there is nothing to show that it was communicated to or shared with ANZ, and it is therefore irrelevant. ANZ's evidence was that it agreed the Loss clause as an appropriate measure in circumstances where market quotations might well not be readily obtainable.
15. Before us, in this area, SG's case has undertaken another metamorphosis. It is now common ground that the Market Quotation and Loss clauses aim at broadly similar, although by their nature not always precisely the same, results. The structure of the relevant ISDA terms (set out in the schedule) confirms this. There is a possibility of considerable overlap between the basis of calculation of the amount payable on one and the other basis. Quotations from market dealers may be used to determine loss under the Loss clause, while loss (as defined in the Loss clause) may be used under the Market Quotation clause to determine the settlement amount for any terminated transaction for which a market quotation "cannot be determined or would not .... produce a commercially reasonable result". There is however nothing in the Market Quotation clause which could support an argument similar to that which SG advanced before the judge. Since that argument could, if accepted, have very fundamental effects in shifting major financial and commercial risks, comparison of the Market Quotation and the Loss clauses therefore provides a yet further pointer to the correctness of the judge's conclusion.
16. The result is that I have no hesitation in upholding the correctness of the judge's decision on the point argued below.
17. SG's applications for permission to rely on two new points
I turn now to the two new points which SG seeks to advance in this Court. In my judgment, it should not be permitted to raise either of them. They are, as I have indicated, closely linked in their nature and motivation. The first new point aims to re-open what was common ground below regarding ANZ's loss and SG's gain under the ANZ-SG transactions. The second new point, by introducing the concept of election, seeks to make irrelevant the concession regarding SG's gain under the ANZ-SG transactions, and to transfer attention to SG's limited gain of $83,597.30 under the Vostok hedges. But more is on any view needed to show that the value of the Vostok hedges was only $83,597.30. The mere fact that SG accepted a limited payment from Vostok, or indeed that a third party bank (J.P. Morgan) offered only 0.5% to stand in SG's shoes vis-à-vis Vostok, cannot suffice. The argument which SG uses at this point is precisely the same argument as SG wishes to deploy by its first new point, namely that the likelihood that there would be a Trade Event at the settlement date diminished the market value of the relevant transactions - that is of the SG-Vostok hedges just as much as the ANZ-SG transactions.
18. This litigation was begun in March 1999, in respect of transactions terminated in September 1998. ANZ's summons under RSC O.14 and O.14A was issued on 1st April 1999 and served with a supporting affidavit of the same date. The new rules came into force later in April 1999. SG paid the sum of $8,596,592 on 17th May 1999. M. Wellers of SG made a witness statement in answer on 11th June 1999, ANZ responded on 5th July 1999 and SG replied on 20th July 1999. The parties agreed to the resolution by the judge under O.14A of the sole issue then arising. After an oral hearing the judge's judgment on that issue was handed down on 21st September 1999. The first new point was not raised until the notice of appeal dated 29th October 1999, and the second not until 20th January 2000, the day before the hearing before us.
19. Both new points could and should have been raised in the evidence for and on the hearing before the judge. Under the old rules, it was clearly established that a hearing under O.14 (and all the more under O.14A) constitutes a "trial or hearing on the merits": see Supreme Court Practice 1999, note 59/10/8. The basic principle in this situation was that "When a litigant has obtained a judgment in a court of justice .... he is by law entitled not to be deprived of that judgment without very solid grounds": see note 59/10/9. When fresh evidence was relied upon, the three conditions stated in Ladd v. Marshall [1954] 1 WLR 1489 had to be satisfied, that is that the evidence could not have been obtained with reasonable diligence for use at the trial, that it must be such that, if given (and accepted), it would be decisive, and that it must be apparently credible, though it need not be incontrovertible.
20. Mr Milligan's starting point is that he is only asking us to consider certain new submissions of construction and so law. It is only if we accept these that, he submits, there will have to be any investigation of facts or admission of fresh evidence. He points out that that investigation could never have taken place under O.14 or O.14A. All that he is asking therefore is that SG should be put in the same position as if it had raised the new points in its evidence and before the judge. The judge would then have ruled on those points also, and, whoever had lost on them, the case would probably still have come to the Court of Appeal. Assuming SG to be wrong in principle on its new points, the Court of Appeal would have decided no more than that, just as ANZ asks us to do now. Assuming SG to be right on either of its new points, the Court would have had to make an order for a full trial, just as SG accepts it would have to do now. On that basis, SG's failure to raise such points earlier can have caused no real prejudice at all. At most it can have caused a matter of months' delay and some cost, if one assumes SG succeeding on one of its new points before the judge, and the matter being sent for trial without any appeal by ANZ.
21. These were attractively put submissions, but they do not give due weight to ANZ's interest in the judgment which it has obtained after a trial or hearing on the merits. That consideration is in no way reduced under the new rules. Indeed, it is to my mind reinforced by the court's duty actively to manage cases to further the overriding objective of dealing with them expeditiously and fairly, by, amongst other things, "identifying the issues at an early stage" and "deciding promptly which issues need full investigation and trial and accordingly disposing summarily of the others" (CPR 1.1(2)(d) and 1.4(2)(b) and (c)), and the parties' duty to help the court further that overriding objective (CPR 1.3). I would not therefore permit SG now to raise its first new point, even though the financial significance of that point amounts to $8,122.867 with interest if SG wins, plus potentially a further $8,596,592, if SG could establish a claim to recover the sum which, on this hypothesis, was not owed when SG paid it on 17th May 1999. As to the second new point, if that stands alone, its significance is simply to reduce SG's liability to $8,401,528, little less than the $8,596,592 paid on 17 May 1999. The amount in issue on it, therefore, represents the bulk of the additional $8,122,867 which the udge ordered SG to pay to ANZ.
22. The issues of principle raised by the new points
I shall however also indicate my views on the issues of principle involved in the two new points, since they were extensively argued before us. The central issue is whether SG could have claimed to value either the ANZ-SG or the SG-Vostok transactions "dirty", that is taking into account any diminution in value due to the possibility or prospect that SG might, if it had not previously determined that a Russian Market Event had occurred constituting an Event of Change, have determined that a Trade Event existed on the relevant settlement dates and so have restricted its payment obligations to whichever ANZ selected of the four methods specified in the confirmations[1]. This is an issue of some complexity, but I have come to the conclusion that Mr Barnes' submission on it is to be preferred. Again it is helpful to look at the position on a Market Quotation basis, since it is common ground that the Loss and Market Quotation bases aim at broadly similar results. The replacement transaction on a Market Quotation basis is one that
"would have the effect of preserving....... the economic equivalent of any payment or delivery (whether the underlying obligation was absolute or contingent and assuming the satisfaction of each applicable condition precedent) by the parties under Section 2(a)(i) in respect of such Terminated Transaction .... that would, but for the occurrence of the relevant Early Termination Date, have been required after that date".