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Neutral Citation Number: [2004] EWCA Civ 19 |
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Case No: A3/2003/1952 |
IN THE SUPREME COURT
OF
JUDICATURE
COURT
OF
APPEAL (CIVIL DIVISION)
ON APPEAL FROM THE HIGH COURT
OF
JUSTICE
QUEEN'S BENCH DIVISION (MORISON J)
|
|
Royal Courts of Justice Strand, London, WC2A 2LL
|
|
|
28th January 2004 |
B e f o r e :
LORD JUSTICE POTTER
LORD JUSTICE LAWS
and
LADY JUSTICE ARDEN
____________________
Between:
____________________
(Transcript
of
the Handed Down Judgment
of
Smith Bernal Wordwave Limited, 190 Fleet Street
London EC4A 2AG
Tel No: 020 7421 4040, Fax No: 020 7831 8838
Official Shorthand Writers to the Court)
____________________
Mr R Hacker QC and Mr M Arnold (instructed by Jaswal Johnston) for the Appellants
Mr B Doctor QC and Miss S Partington (instructed by Norton Rose) for the Respondent
____________________
HTML VERSION
OF
JUDGMENT
____________________
Crown Copyright ©
Lord Justice Potter:
Introduction
- This is an appeal from the judgment
of
Mr Justice Morison dated 1 August 2003 whereby he gave summary judgment in favour
of
the claimant
Shamil Bank of Bahrain E.C
. ("the
Bank
") against the first and second defendants as principal debtors in respect
of
monies advanced to them by the
Bank
under various financing agreements and against the third, fourth and fifth defendants as guarantors
of
certain
of
those agreements. The total judgment sum awarded was some US $49.7million. The appellants were refused permission to appeal by Morison J, but permission was granted by Clarke LJ on 17 September 2003 in relation to a single issue relating to the construction and effect
of
the form
of
the governing law clause contained in the financing agreements. That clause reads as follows:
"Subject to the principles
of
the Glorious Sharia'a, this Agreement shall be governed by and construed in accordance with the laws
of
England."
- It is not in dispute that "the principles
of
the Glorious Sharia'a" referred to are the principles described by the defendants' expert, Mr Justice (retd) Khalil-Ur-Rehmam Khan as:
"the law laid down by the Qur'an, which is the holy book
of
Islam, and the Sunnah (the sayings, teachings and actions
of
Prophet Mohammad (pbuh) ). These are the principal sources
of
the Sharia. The Sunnah is the most important source
of
the Islamic faith after the Qur'an and refers essentially to the Prophet's example as indicated by the practice
of
the faith. The only way to know the Sunnah is through the collection
of
Ahadith, which consists
of
reports about the sayings, deeds and reactions
of
the Prophet
"
- One principle expressly stated in the Qur'an and Sunnah is that the charging
of
interest upon a loan, in whatever form, is "Riba" and is contrary to the Sharia. At Sura II, 275-79
of
the Qur'an it is stated that:
"
Allah has made buying and selling lawful and has made the taking
of
interest unlawful. Remember, therefore, that he who desists because
of
the admonition that has come to him from his Lord, may retain what he has received in the past; and his affair is committed to Allah. But those who revert to the practice, they are the inmates
of
the fire; therein shall they abide.
O Ye who believe, be mindful
of
your duty to Allah and relinquish your claim to what remains
of
interest, if you are truly believers. But if you do not, then beware
of
war from the side
of
Allah and his Messenger. If, however, you desist, you will still have your capital sums; thus you will commit no wrong, nor suffer any wrong yourself."
Sura III 130 states that:
"O Ye who believe, devour not interest, for it goes on multiplying itself; and be mindful
of
your obligation to Allah that you may prosper.": The Quran, translated by Muhammad Zafrulla Khan, Curzon Press, 1971.
The Factual Background
- The
bank
is incorporated under the laws
of Bahrain
and licensed to act as a
bank
by the Ministry
of
Commerce and
Bahrain
Monetary Agency. The Kingdom
of Bahrain
is a constitutional monarchy and 95%
of
its population are muslims. Nonetheless, while embracing and encouraging Islamic banking practice as a national policy, the principles
of
Islamic law, in particular the prohibition
of
Riba, have not been incorporated into the commercial law
of Bahrain
and there is an absence
of
any legal prescription as to what does and does not constitute "Islamic" banking or finance. In his survey
of
the commercial laws
of
the Arab Middle East, Professor Ballantyne states that:
"In our other jurisdictions, banking interest is, in practice, tolerated (Saudi Arabia) and even sanctioned by banking laws (
Bahrain
, Qatar and Oman), while any theoretical or hypothetical conflicts have been largely ignored." W M Ballantyne: Commercial Law in the Arab Middle East: the Gulf States (1986) p.133
- The unchallenged position as far as the charging
of
interest in
Bahrain
is concerned is that stated in Unlawful Gain and Legitimate Profit in Islamic Law: Nabil Saleh (2nd ed) p.9:
"The matter
of
interest is regulated as far as commercial transactions are concerned by the provisions
of
Article 81
of
the Commercial Code
of
1987. The latest amendment
of
Article 81, affected by Law no.4
of
1992, gives the following instructions to courts: (1) interest on overdue payments
of
commercial debts becomes due by the mere occurrence
of
maturity dates unless otherwise provided for by law or agreement. (2) Under no circumstances, and with regard to debts whose settlement does not exceed a period
of
seven years, may the aggregate amount
of
interest paid to the creditor exceed the initial indebtedness. (3) The provisions
of
the preceding (2) do not apply to debts which were contracted in foreign currencies. (4) The creditor is entitled to claim complementary damages in addition to interest on overdue payments with no need to prove that the additional damage was caused by the debtor's fraud or his serious fault."
- Nonetheless, the
Bank
holds itself out as applying Islamic principles in the course
of
its business. The
Bank
's full title is "
Shamil Bank of Bahrain E.C
. (Islamic Bankers)". The main objects clause in its Memorandum
of
Association is in general terms:
"3.Notwithstanding the provisions
of
this Article, the company shall undertake at all times to comply with the
Bahrain
Monetary Agency Law and any circulars, rules or regulations issued by the BMA from time to time
According to the above, the company will carry on all banking, investment, financial activities, offshore units and all services relating thereto
of
various commercial, industrial, agricultural, real estate, tourism, housing and other services in the State
of Bahrain
and outside it."
However, clause 34
of
the Articles
of
Association provide for the Ordinary General Meeting to elect and appoint a Religious Supervisory Board "which shall comprise at least three persons who are recognised specialists and qualified in Islamic jurisprudence, religious provisions and Islamic economy".
- Clauses 35 and 36
of
the Articles provide:
"35.a. The Religious Supervisory Board shall ascertain that the Company's investments and activities (and the activities
of
its subsidiary and affiliated companies) conform with the principles and provisions
of
Islamic Sharia'a. It shall, in particular, discuss with the members
of
the Board
of
Directors, managers
of
the Company or
of
any subsidiary or affiliated company under its control, such conformity and the business carried out by them and shall request any information it deems necessary. In particular, the Religious Supervisory Board shall adopt all the crucial decisions for applying the provisions
of
Islamic Sharia'a to ensure the realisation
of
the objects for which the company was incorporated. Also to ensure that the members
of
the Board
of
Directors, managers and employees are co-ordinating their activities according to such decisions which will be binding on all the shareholders. The Religious Supervisory Board shall within 6 months from the end
of
the Company's financial year, submit a written report stating that it fulfilled the obligations indicated herein and ascertained that the Company's investments and business activities (including its subsidiary companies) conform with the provisions
of
Islamic Sharia'a.
36. The Board
of
Directors shall take the necessary actions to ensure that all the investments and other business transactions have been referred to the Religious Supervisory Board for approval before carrying out any other business transactions by the Company or by any subsidiary or affiliate company under its control."
- As made clear by the
Bank
's expert witness, provisions
of
this kind are not unusual. In the absence
of
legal prescription as to what does and what does not constitute "Islamic" banking or finance, most Islamic
banks
create Religious or Sharia Supervisory Boards which review annually the operations
of
the
bank
and determine whether or not these have been carried out in accordance with Islamic law. They examine on a test basis each type
of
transaction entered into by the
Bank
and evidence to show that the transaction and dealings entered into by the
Bank
are in compliance with Sharia rules and principles, submitting an annual report to the shareholders in that respect. In this case the
Bank
's own Religious Supervisory Board certified in respect
of
the years 1995 and 1996 that:
"The Board believes that all the
bank
's business throughout the said year, including investment activities and banking services, were in full compliance with Glorious Islamic Sharia'a."
- A certificate
of
compliance was also issued for that period by the
Bank
's auditors, reviewing the
Bank
's operation on the basis
of
the Financial Accounting Standards issued by the Accounting and Auditing Organisation for Islamic Financial Institutions.
- Until their defences were filed in this action, the appellants had never given any indication to the
bank
that they were dissatisfied on religious grounds with the arrangements agreed between the parties or that they sought to challenge them on the grounds that they did not comply with the principles
of
Sharia.
- The first two defendants are Bangladeshi companies (part
of
the
Beximco
group) involved in the manufacture, export and import
of pharmaceuticals
. The third and fourth defendants are directors
of
the first and second defendants and
of
the fifth defendant which is their parent company. I shall refer to the third, fourth and fifth defendants collectively as "the guarantors".
- In 1995 the
Beximco
group wished to raise additional working capital to be used in its commercial activities. To this end, there were meetings between the
Bank
and, principally, Mr Chowdhury the
Beximco
Group Director
of
Finance and a director
of
the first and second defendants. The monies were advanced pursuant to the terms
of
two "Morabaha Financing Agreements" which, in form, related to the sale
of
goods.
- It is not in dispute that a Morabaha agreement is a sale contract recognised as valid by Islamic law whereby the seller (the financier institution) agrees to purchase goods desired by the buyer and to sell them to the buyer (the client) for a deferred price, the difference between the original purchase price to be paid by the financier and the deferred price payable by the client being a stated profit known to and agreed upon by both seller and buyer. In order to avoid the appearance or characteristics
of
a loan at interest and to provide for and preserve the features
of
a contract
of
sale, the financier purchases the goods in its own name, and the goods must come into its possession (actual or constructive), remaining at its risk until the commodity is sold to the client. However, for that purpose the financier may appoint the client as agent for the purchase on behalf
of
the financier and, once the client effects such purchase as the agent
of
the financier, the client may retain possession
of
the commodity on its own behalf. The detailed form and content
of
Morabaha agreements varies. There are no standard forms and, in practice, the detailed terms and conditions will be agreed by the
bank
and its customer around the essential characteristics I have mentioned. It is the function
of
an Islamic
bank
's Religious Supervisory Board to ensure that the Morabaha agreement complies with Islamic law as interpreted by the Religious Supervisory Board.
- Following negotiations in which each side was advised, the
Bank
and the first and second defendants entered into a Morabaha Financing Agreement dated 28 December 1995 ("the 1995 Morabaha Agreement") under which, pursuant to clauses 2.1, 2.2 and 4.2, the
Bank
agreed to purchase, through the second defendant acting as its agent, certain goods from specified sellers for immediate onward sale to the first defendant. In return, pursuant to clause 2.1, the first defendant agreed to pay to the
Bank
the Morabaha price, defined in the agreement as the aggregate
of
the purchase price
of
goods purchased plus the Profit Element, calculated by reference to clause 2
of
a Market Rate Agreement also entered into between the parties. Pursuant to clause 4.5
of
the Morabaha Agreement, the payments to be made were set out in a letter from the
Bank
to the defendants dated 28 December 1995 ("the 1995 Payment Schedule Letter"). Pursuant to clause 3
of
the 1995 Market Rate Agreement, if any payment due remained unpaid for any period after its due date, compensation would be payable to the
Bank
.
- In accordance with clause 4.1
of
the 1995 Morabaha Agreement, the
Bank
advanced to the second defendant US $15 million ostensibly for the purposes
of
purchasing the specified goods. Between 28 March 1996 and 28 September 1997, the first defendant made seven payments in accordance with the 1995 Payment Schedule Letter.
- In April 1996, following an approach by the second defendant seeking further funds, the
Bank
agreed to advance the second defendant a further sum
of
US $ 15 million. On 11 July 1996 the
Bank
and the first and second defendants entered into a further Morabaha Agreement ("the 1996 Morabaha Agreement") and Market Rate Agreement in terms similar to those
of
the 1995 Agreements.
- In accordance with clause 4.1
of
the 1996 Morabaha Agreement, on 15 July 1996, the
Bank
paid to the first defendant US $ 15 million ostensibly for the purpose
of
purchasing the specified goods. Between 15 October 1996 and 12 August 1997, the second defendant made four payments in accordance with the 1996 payment schedule letter.
- By December 1999 the first and second defendants had not paid the amounts due under the 1995 and 1996 Morabaha Agreements, although admitting and agreeing in writing that such sums were owed. Following negotiations, the
Bank
and the first and second defendants agreed to enter into new agreements to discharge the first and second defendants' obligations in exchange for the first and second defendants undertaking alternative obligations to the
Bank
which the third, fourth and fifth defendants were to guarantee.
- On 14 September 1999 the
Bank
and the first and second defendants entered into two Exchange in Satisfaction and User Agreements, one relating to the 1995 Morabaha Agreement ("the First ESUA") and the other relating to the 1996 Morabaha Agreement ("the Second ESUA") which were each subsequently amended and restated by agreement on 4 February 2001 and 30 January 2002. The re-amended ESUAs became effective on 4 April 2002. Under clause 2.1
of
the ESUAs the
Bank
agreed to discharge on the Effective Date the amount then outstanding under the 1995 and 1996 Morabaha Agreements in exchange for being granted the right to receive unencumbered title to certain assets. Pursuant to clauses 3.1 and 3.3, the
Bank
agreed to grant the first and second defendants the right to use those assets in the ordinary course
of
their respective businesses in consideration for payment by instalments
of
a user fee determined in accordance with clause 3.4. The first and second defendants were also obliged to make certain payments
of
accrued compensation. Under clause 4.1
of
the ESUAs, it was a condition precedent that the third, fourth and fifth defendants guaranteed the first and second defendants' obligations under the ESUAs.
- The form
of
the ESUAs, whereby the
Bank
, having acquired the ownership
of
the first and second defendants' assets, permitted their retention and use in return for regular payment
of
the scheduled user fees was in principle a method
of
financing recognised as legitimate by the Sharia as "Ijarah", the giving
of
something in rent. However, when that method
of
financing is adopted by a
bank
in place
of
a simple interest-bearing loan, the question
of
whether the transaction is legitimate according to the principles
of
Sharia depends upon an analysis
of
the particular terms and conditions
of
the agreement and may prove controversial.
- In this case, various defaults and "Termination Events" provided for under the ESUAs occurred and, as the
Bank
was entitled to do, it sent two default letters dated 18 August 2002 to the defendants under the terms
of
the first and second ESUAs in respect
of
the sums subsequently claimed in this action.
The
Bank
's claims against the first and second defendants
- The
Bank
's claims against the first and second defendants are made up as follows:
"(1) US $ 25,207,000 being the amount due under the first ESUA relating to the 1995 Morabaha Agreement;
(2) US $ 21,472,800 being the amount due under the second ESUA relating to the 1996 Morabaha Agreement;
(3) US $ 1,147,540.76 being accrued compensation due under clause 4.2.4
of
the first ESUA;
(4) US $ 1,884,169.75 being accrued compensation due under clause 4.2.4
of
the second ESUA."
The
Bank
's claims against the guarantors
- On 6 February 2001 the
Bank
and the third and fourth defendants entered into two personal guarantees, one relating to the first ESUA and one relating to the second ESUA ("the personal guarantees"). On the same date the
Bank
and the fifth defendant entered into two corporate guarantees, one relating to the first ESUA and one relating to the second ESUA ("the corporate guarantees"). The guarantees were all in materially similar terms. Each states that it is "governed by and shall be construed in accordance with English law", with provision also for the jurisdiction
of
the English courts. There is no reference to the principles
of
Sharia.
- Each guarantee recites the relevant Morabaha financing agreement, the "Outstanding amount" pursuant thereto and the relevant ESUA Agreement as amended.
- The relevant provisions
of
the guarantee for the purposes
of
this appeal are as follows:
"2.1 Covenant to pay
In consideration
of Shamil
agreeing to discharge the Outstanding Amount in return for being granted the right to acquire title to the Assets and
Shamil
permitting
Beximco
and BEIC to use the Assets in return for the User Fee pursuant to the Exchange Agreement [i.e. the ESUA] the Guarantor hereby guarantees to
Shamil Beximco
and BEIC's obligation to transfer title to the Assets to
Shamil
and guarantee to pay to
Shamil
, on demand by
Shamil
, the User Fee and all monies and discharge all obligations and liabilities now or hereafter due, owing or incurred by
Beximco
and BEIC (or either
of
them as the case may be) to
Shamil
under or pursuant to the Exchange Agreement and the other New Transaction Documents when the same become due for payment or discharge whether by acceleration or otherwise, and whether such monies, obligations or liabilities are express or implied, present, future or contingent, joint or several, incurred as principal or surety, originally owing to
Shamil
or purchased or otherwise acquired by it, denominated in Dollars or in any other currency, or incurred on a banking account or any other manner whatsoever
2.2 Guarantor as principal debtor; indemnity
As a separate and independent stipulation, the Guarantor agrees that if any purported obligation or liability
of Beximco
and/or BEIC (as the case may be) which would have been the subject
of
this Guarantee had it been valid and enforceable is not or ceases to be valid or enforceable against
Beximco
and/or BEIC (as the case may be) on any ground whatsoever whether or not known to
Shamil
(including, without limitation, any irregular exercise or absence
of
any corporate power or lack
of
authority
of
, or breach
of
duty by, any person purporting to act on behalf
of Beximco
and/or BEIC (as the case may be) or any legal or other limitation
the Guarantor shall nevertheless be liable to
Shamil
in respect
of
that purported obligation or liability as if the same were fully valid and enforceable and the Guarantor were the principal debtor in respect thereof
".
- The
Bank
claims against each
of
the guarantors the same sums as are claimed against the debtors as set out in paragraph 22 above.
The issues on this appeal
- A number
of
defences were advanced by the defendants before the judge below, certain
of
which were regarded by the judge as having the hallmarks
of
trumped-up defences designed to avoid or delay payment. However, the principal defence advanced was that, (a) on a true construction
of
the governing law clause quoted in paragraph 1
of
this judgment, the Morabaha Agreements and the ESUAs were only enforceable insofar as they were valid and enforceable both (i) in accordance with the principles
of
the Sharia (i.e. the rules or laws
of
Islam) and (ii) in accordance with English law; (b) in fact, the agreements were unlawful, invalid and unenforceable under the principles
of
the Sharia in that, despite their form as Morabaha Agreements, in the case
of
the 1995 and 1996 Morabaha Agreements, and as Ijarah leases, in the case
of
the first and second ESUAs, (which would be enforceable if they were a true reflection
of
the underlying transaction) the transactions were in truth disguised loans at interest. As such they amounted to unlawful agreements to pay Riba and were thus void and/or unenforceable.
- In this connection it was stated in the witness statement
of
Mr Choudhury for the defendants that he made it clear that the monies sought from the
Bank
by the first and second defendants were required as working capital for the
Beximco
group and that it was the
Bank
which required that the transaction be structured in the forms adopted in order to comply with Sharia law. The fourth defendant, as a director
of
the first, second and fifth defendants' and a personal guarantor
of
the ESUAs, stated that:
"
it is not uncommon for
banks
, in their enthusiasm to make profitable loans, to use a Morabaha Agreement to disguise what is, as a matter
of
commercial reality, an interest-bearing loan. That is precisely what happened in the present case and both the Claimant and the Defendants were quite content that this should happen. Neither was under any illusion as to the commercial realities
of
the transactions, and the claimant was happy to dress the loan transactions up as Morabaha sales (or Ijarah leases), whilst taking no interest in whether the proper formalities
of
such a sale or lease were actually complied with."
- The rival expert evidence as to the validity
of
the agreements under Islamic law was as follows. The
Bank
's expert, Dr Lau, the former director
of
the Centre
of
Islamic and Middle Eastern Law, stated that the precise scope and content
of
Islamic law in general, and Islamic banking in particular, are marked by a degree
of
controversy within the Islamic world, best exemplified by the fact that the actual practice
of
Islamic banking differs widely within the Islamic world. Even within particular jurisdictions such as Pakistan, which are committed and constitutionally obliged to introduce Islamic financial systems, the issue is subject to on-going debate and a high degree
of
uncertainty. In the absence
of
any agreement on the boundaries
of
'Islamic banking' or, indeed, on what ought to be the precise ingredients
of
a Morabaha agreement, it is in practice up to individual
banks
to determine the issue. In the absence
of
any legal prescription as to what does and what does not constitute Islamic banking or finance, most Islamic
banks
, including those in
Bahrain
, seek the advice
of
Islamic scholars who examine and approve particular agreements and forms
of
agreement, the role
of
the Religious Supervisory Committee being to formulate the
bank
's interpretation
of
the Sharia.
- Strictly interpreted " the Glorious Sharia'a" refers to the divine law as contained in the Qur'an and Sunnah. However, most
of
the classical Islamic law on financial transactions is not contained as 'rules' or 'law' in the Qur'an and Sunnah but is based on the often divergent views held by established schools
of
law formed in a period roughly between 700 and 850 CE. The particular form and content
of
Morabaha agreements varies. If a
bank
's Religious Supervisory Board is satisfied that the
bank
's activities are in accordance with Sharia law, that concludes the matter, there being no provision in
Bahrain
law, or Islamic law generally, for an appeal by a customer
of
the
bank
against the Board's rulings and certifications. Finally, even if the relevant agreements amounted to agreements to pay Riba, the principal sums advanced could be validly claimed.
- Dr Lau's conclusion was that the concern
of
the defendants that the sums advanced were not used to purchase the goods and/or equipment, the subject
of
the 1995 and 1996 Morabaha Agreements, but rather as part
of
the general working capital
of
the first and second defendants was
of
no relevance to the question whether or not the Morabaha agreements complied with Islamic law. He stated:
"In my opinion for the Morabaha Agreements to be in accordance with Islamic law all that is required is that they are certified as such by
Shamil Bank
's Religious Supervisory Board and the principal amounts are dispensed in accordance with the terms
of
the 1995 and 1996 Morabaha Agreements."
- The position
of
the defendants' expert, Mr Justice Khan, former chairman
of
the Sharia Appellate Bench
of
the Supreme Court
of
Pakistan, shortly stated was as follows. He acknowledged that "wherever a question
of
interpretation
of
the principles contained in the Qur'an and Sunnah is involved, the application
of
the rules
of
Sharia'a has and will continue to give rise to disputes between different jurists". He also did not contradict the assertion
of
Dr Lau that most
of
the classical Islamic law on financial transactions was not to be found in the Qur'an and Sunnah. However, he made clear (as Dr Lau did not dispute) that the injunction against the payment
of
Riba is contained in both those holy books and that it is uncontroversial that under Islamic law interest charged on loans by
banks
is Riba and prohibited. Equally, any agreement in which, in substance, interest is being charged upon a loan is unlawful, void and unenforceable.
- Mr Justice Khan acknowledged that the Sharia recognises two modes
of
financing as permissible, namely Morabaha and Ijarah agreements, but asserted that, for such transactions to be valid, the requirements prescribed and provided for in the agreement must be fulfilled, failing which the transaction as a whole will be void according to the principles and rules
of
Sharia. On the basis
of
the (uncontradicted) assertion
of
the defendants that the advances were never applied or intended to be applied in the purchase or lease
of
any property, the relevant agreements were void. The ESUAs were similarly void and unenforceable on the basis
of
a number
of
arguments advanced, the principal one
of
which was that, irrespective
of
their form as purported Ijarah leases
of
assets, the ESUAs simply constituted a rescheduling or roll-over
of
the 1995 and 1996 Morabaha Agreements, the
bank
charging interest or an additional amount over and above the sums due in consideration
of
the giving
of
time. This too was Riba and accordingly prohibited and void.
- Finally, so far as the position
of
the
Bank
's Religious Supervisory Board was concerned, Mr Justice Khan stated that certification by the Board that the operations
of
the
Bank
were according to the Sharia would not be a decision binding on any court dealing with the dispute under the law
of
Sharia. The dispute would fall to be resolved by the court in the light
of
its own view
of
the position under Sharia law. In any event there was no evidence that the Board had had knowledge
of
, nor was it required to approve, the particular transaction in this case, its function being one
of
overall supervision and approval
of
the methods and procedures adopted by the
bank
in the course
of
its business.
- So far as the liability
of
the guarantors was concerned, two arguments were advanced before the judge which are
of
relevance to this appeal. The first was simply that, under the general law
of
guarantee, if the principal debtor was discharged from liability in respect
of
the obligations guaranteed, then the guarantors were similarly discharged.
- The second defence raised was that the guarantees had been entered into by the parties on the basis
of
a common mistake
of
a fundamental nature, namely that the first and second defendants were under enforceable obligations to the
Bank
under the Morabaha Agreements at the time when, and in respect
of
which, the ESUAs and guarantees were entered into.
The decision
of
Morison J
- The paragraph numbers referred to in this section reflect the numbered paragraphs
of
the judgment
of
Morison J.
- The judge held, and it is accepted by the
Bank
on this appeal, that if, on a proper construction
of
the applicable law clause, the court is obliged to concern itself with the application
of
Sharia law and its impact on the lawfulness
of
the agreements, it is arguable which
of
the two parties' experts was right and that it would offend the principles underlying CPR Part 24 to seek to resolve the conflict between them before a trial. That is so not only in respect
of
the recoverability
of
sums which were effectively interest upon the capital sums advanced, but also
of
the capital sums themselves (paragraphs 45 and 46).
- However the judge concluded that, on the proper construction
of
the applicable law clause, he was not concerned with the principles
of
Sharia at all for the following reasons.
- First, it was common ground by concession that there could not be two separate systems
of
law governing the contract (paragraph 43). Yet, by contending that Sharia law and not English law would determine the enforceability
of
the agreement, the appellants were in substance contending that the agreements were governed both by English and Sharia law (paragraph 48). The judge declined to construe the wording
of
the clause as a choice
of
Sharia law as the governing law for the following reasons. First, Article 3.1
of
the Rome Convention (which by s.2(1)
of
the Contracts (Applicable Law) Act 1990 has the force
of
law in the United Kingdom) contemplates that a contract "shall be governed by the law chosen by the parties" and Article 1.1
of
the Rome Convention makes it clear that the reference to the parties' choice
of
the law to govern a contract is a reference to the law
of
a country. There is no provision for the choice or application
of
a non-national system
of
law such as Sharia law (paragraphs 39, 48 and 51). In any event, the principles
of
the Sharia are not simply principles
of
law but principles which apply to other aspects
of
life and behaviour (paragraph 53). Even treating the principles
of
Sharia as principles
of
law, the application
of
such principles in relation to matters
of
commerce and banking were plainly matters
of
controversy (paragraphs 49 and 53). In particular there is controversy as to the strictness with which principles
of
Sharia law will be interpreted or applied. In consequence it was highly improbable that the parties to the agreements intended an English court to determine any dispute as to the nature or application
of
such controversial religious principles which would involve it in the task
of
deciding between opposing points
of
view which themselves might be based on geopolitical and particular religious beliefs (paragraphs 49 54).
- The judge accepted the submission
of
the
Bank
that the words "subject to the principles
of
Glorious Sharia'a" were no more than a reference to the fact that the
Bank
purported to conduct all its affairs according to the principles
of
Sharia. However, in respect
of
what those principles were and their effect upon the contract, the judge concluded the relevant part
of
his judgment as follows:
"54. Whilst in one sense this court will answer any question posed to it, however difficult, it is improbable in the extreme, that the parties were truly asking this court to get into matters
of
Islamic religion and orthodoxy. This is especially so when the
bank
has its own religious Board to monitor the compliance
of
the
bank
with the Board's own perception
of
Islamic principles
of
law in an international banking context.
55. So far as the
bank
was concerned, that is likely to have been sufficient for its own regulatory purposes but there is no suggestion that the defendants were in any way concerned about the principles
of
Sharia'a law either at the time the agreement was made or at any time before the proceedings were started. The Sharia'a law defence is, I think, a lawyer's construct, but for the reasons I have given, in my view it does not work."
The submissions
of
the appellants
- Before this court, Mr Hacker QC for the appellants has not resiled from his concession that there can only be one governing law
of
the agreements. He accepts, and indeed asserts that it was his case below, that the governing law is English law and English law alone. However, he submits that this does not preclude the possibility that the principles
of
Sharia have relevance. He submits that all the parties have done is to choose English law as the governing law but, at the same time to stipulate as a condition precedent that the contract is only to be enforceable insofar as it is consistent with the principles
of
Sharia, which principles amount to legal rules ascertainable and applicable by an English court. He submits that that is something different from an assertion that Sharia law governs the agreements.
- Mr Hacker accepts that the Rome Convention precludes the choice
of
Sharia, as a governing law, being concerned only with a potential choice between the laws
of
different countries. However, he submits that the construction
of
the governing law clause for which he contends produces a result no different from the incorporation by reference
of
a codified system
of
rules, such as the Hague Rules or the Warsaw Convention, into a contract governed by English law c.f. Nea Agrex SA
v
Baltic Shipping Co
Ltd
[1976] 1 QB 933 (CA) in which this court rejected the conclusion
of
Donaldson J at first instance that a paramount clause provision was to be treated as ineffective to incorporate the Hague Rules into a charterparty. He submits that such a construction is fully consistent with the
bank
's self-proclaimed mode
of
business as an Islamic
bank
carrying on an Islamic banking business.
- Mr Hacker submits that, contrary to the view
of
the judge, it is neither unusual nor improbable that the parties to the contract should intend the English court to determine and apply the Sharia, nor, as he submits, is the English court ill-equipped to do so when assisted by expert evidence, in which respect he refers to the decision
of
Moore-Bick J in Glencore International AG
v
Metro Trading International Inc [2001] 1 Lloyds Law Rep 284 at paras 113-125 and that
of
Hart J in Al-Bassam
v
Al-Bassam [2002] EWHC 2281 (Ch).
- He further submits that the reasoning
of
the judge was influenced by an erroneous view that the principles
of
Sharia constituted a body
of
controversial religious (as opposed to legal) principles, which view he was wrong to form on the evidence before him. In this respect, Mr Hacker relies heavily upon the fact that the evidence
of
Mr Justice Khan was that the principles
of
Sharia raised in this case i.e. the proscription
of
Riba and the essentials
of
a valid Morabaha Agreement are not controversial. In this respect he referred us to the judgment
of
Tomlinson J in Islamic Investment Company
of
the Gulf (Bahamas)
Ltd v
Symphony Gems NV (unreported) 13 February 2002 in which, it is clear that, when giving expert evidence in that case, Dr Lau did not suggest that there was any difficulty in identifying the requirements for an effective Morabaha contract under Sharia law. He therefore submits that the judge's conclusion that the principles
of
Sharia law relevant to this case were controversial, so as to render it improbable that the parties would have chosen the English court to resolve a dispute as to the enforceability
of
the agreements, was incorrect or, at the very least, involved him in conducting a mini-trial in relation to the parties' expert evidence contrary to the principles laid down in Swain
v
Hillman [2001] 1 All ER 91.
Discussion
The Governing Law Clause
- The central question in this appeal is one
of
construction in respect
of
the relevant 'Governing Law' clause, expressly so described and couched in the short form already quoted in paragraph 1
of
this judgment. The task
of
construction is to ascertain the presumed intention
of
the parties bearing in mind that:
"In a commercial contract it is certainly right that the court should know the commercial purpose
of
the contract and this in turn presupposes knowledge
of
the genesis
of
the transaction, the background, the context, the market in which the parties are operating." (per Lord Wilberforce in Reardon Smith Line
Ltd v
Yngvar Hansen-Tangen [1976] 1 WLR 989 at 996.)
- It is common ground in the context
of
the summary judgment application that, when the parties entered into the Morabaha Agreements and subsequently, neither side was under any illusion as to the commercial realities
of
the transactions, namely the provision by the
Bank of
working capital on terms providing for long term repayment, and both were content "to dress the loan transactions up as Morabaha sales (or Ijarah leases), whilst taking no interest in whether the proper formalities
of
such a sale or lease were actually complied with" (see paragraph 28 above). Nor, as Mr Hacker expressly accepted at the outset, was it ever intended in relation to any
of
the agreements made that they should be other than binding on the parties. In those circumstances, as it seems to me, the court, in approaching its task, should lean against a construction which would or might defeat the commercial purpose
of
the agreements. Accordingly, insofar as each
of
the clauses provides in clear terms that "this agreement shall be governed by and construed in accordance with the laws
of
England", the proviso that such provision shall be "subject to the principles
of
the Glorious Sharia'a" should be approached on a basis which is reconcilable with the purpose evident from the words which follow, rather than operating to defeat such purpose.
- It is conceded by Mr Hacker that there cannot be two governing laws in respect
of
these agreements. He further concedes that the governing law is that
of
England. It seems to me that he is rightly driven to this concession. The wording
of
Article 1.1
of
the Rome Convention ("the rules
of
this Convention shall apply to contractual obligations in any situation involving a choice between the laws
of
different countries.") is not on the face
of
it applicable to a choice between the law
of
a country and a non-national system
of
law, such as the lex mercatoria, or "general principles
of
law", or as in this case, the law
of
Sharia. Nevertheless, that wording, taken with Article 3.1 ("a contract shall be governed by the law chosen by the parties") and the reference to choice
of
a "foreign law" in Article 3.3, make it clear that the Convention as a whole only contemplates and sanctions the choice
of
the law
of
a country: c.f. Dicey & Morris on The Conflict
of
Laws (13th ed) vol 2 at 32-079 (p.1223) and Briggs: The Conflict
of
Laws at p.159.
- Mr Hacker thus opts for a construction that the wording is apt, and intended, to incorporate into English law for the purposes
of
its application to the contract, the "principles
of
Sharia". In this respect, and no doubt to avoid the difficulty that the principles
of
Sharia, generally stated, are
of
broad nature and application (indeed they are unexplored for the purposes
of
this litigation), Mr Hacker argues that the clause should be read as incorporating simply those specific rules
of
Sharia which relate to interest and to the nature
of
Morabaha and Ijarah contracts, thus qualifying the choice
of
English law as the governing law only to that extent.
- In that respect, he seeks to rely upon the passage in Dicey & Morris (supra) at paragraph 32-086, which expounds the distinction between reference to a foreign law as a choice
of
law to govern the contract (or part
of
a contract) on the one hand and incorporation
of
some provisions
of
a foreign law as a term or terms
of
the contract in question. While observing that it is sometimes difficult to draw the distinction in practice, it is there stated that:
"
it is open to the parties to an English contract to agree e.g. that the liability
of
an agent to his principal shall be determined in accordance with the relevant articles
of
the French Civil Code. In such a case the foreign law becomes a source
of
law upon which the governing law may draw. The effect is not to make French law the governing law
of
the contract but rather to incorporate the French articles as contractual terms into an English contract. This is a convenient 'shorthand' alternative to setting out the French articles verbatim. The court will then have to construe the English contract, 'reading into it as if they were written into it the words'
of
the French statute.
32-087 It often happens that statutes governing the liability
of
a sea carrier, such as the former Harter Act in the United States, or statutes implementing the Hague Rules
are thus 'incorporated' in a contract governed by a law other than that
of
which the statute forms part. The statute then operates not as a statute but as a set
of
contractual terms agreed upon between the parties. The parties may make an express choice
of
one law (e.g. English law) and then incorporate the terms
of
a foreign statute. In such a case the incorporation
of
the foreign statute would only have effect as a matter
of
contract."
- It does not seem to me that the passage cited or the authorities referred to in the notes thereto, assist the defendants. The doctrine
of
incorporation can only sensibly operate where the parties have by the terms
of
their contract sufficiently identified specific 'black letter' provisions
of
a foreign law or an international code or set
of
rules apt to be incorporated as terms
of
the relevant contract such as a particular article or articles
of
the French Civil Code or the Hague Rules. By that method, English law is applied as the governing law to a contract into which the foreign rules have been incorporated. In such a case, in construing and applying those rules, where there is ambiguity or doubt as to their ambit or effect, it may be appropriate for the court to have regard to evidence from experts in foreign law as to the way in which the provisions identified have been interpreted and applied in their 'home' jurisdiction. However, that is still only as an end to interpretation by the English court in the course
of
applying English law and rules
of
construction to the contract with which it is concerned. The authority
of
Nea Agrex
v
Baltic Shipping (supra) is no more than an illustration
of
this. The trial judge had held that a reference in the contract to the incorporation
of
a 'Paramount Clause' was ineffective for uncertainty, finding that he could not say whether the parties intended to incorporate the Hague Rules or part
of
the Hague Rules or, if so, which part. However, the Court
of
Appeal held that the clear meaning
of
'Paramount Clause' was that:
"It brings the Hague Rules into the charterparty so as to render the voyage or voyages, subject to the Hague Rules, so far as applicable thereto; and it makes those rules prevail over any
of
the exceptions in the charterparty. The judge, however, took a different view. He said that there are many different paramount clauses and he could not say which
of
them was applicable
I do not share the judge's view. It seems to me that when the 'Paramount clause' is incorporated, without any words
of
qualification, it means that all the Hague Rules are incorporated. If the parties intend only to incorporate part
of
the Rules (for example Article IV), or only so far as compulsorily applicable, they say so. In the absence
of
any such qualification, it seems to me that a 'Clause Paramount' is a clause which incorporates all the Hague Rules." (per Lord Denning MR at 943G 944A)
- The general reference to principles
of
Sharia in this case affords no reference to, or identification
of
, those aspects
of
Sharia law which are intended to be incorporated into the contract, let alone the terms in which they are framed. It is plainly insufficient for the defendants to contend that the basic rules
of
the Sharia applicable in this case are not controversial. Such 'basic rules' are neither referred to nor identified. Thus the reference to the "principles
of
Sharia" stand unqualified as a reference to the body
of
Sharia law generally. As such, they are inevitably repugnant to the choice
of
English law as the law
of
the contract and render the clause self-contradictory and therefore meaningless.
- In these circumstances, having rightly conceded that English law is the governing law
of
the contract, Mr Hacker is left with little room for manoeuvre, save to assert that the court should accept his submission on the basis that otherwise the proviso to the governing law clause would be mere surplusage.
- I do not agree. It seems to me that there is an appropriate alternative construction, namely that favoured by the judge, i.e. that the words are intended simply to reflect the Islamic religious principles according to which the
Bank
holds itself out as doing business rather than a system
of
law intended to 'trump' the application
of
English law as the law to be applied in ascertaining the liability
of
the parties under the terms
of
the agreement. English law is a law commonly adopted internationally as the governing law for banking and commercial contracts, having a well-known and well developed jurisprudence in that respect which is not open to doubt or disputation on the basis
of
religious or philosophical principle. I share the judge's view that, having chosen English law as the governing law, it would be both unusual and improbable for the parties to intend that the English court should proceed to determine and apply the Sharia in relation to the legality or enforceability
of
the obligations clearly set out in the contract. Reference to authority does not assist the defendants in this respect. In Glencore International
v
Metro Trading (supra) the judge was concerned with, and heard evidence in relation to, the meaning and scope
of
the word 'ghasb' (misappropriation) as a term used but undefined in Article 1326
of
the Fujairah Civil Code which was the governing law in the case before him. As such he was obliged to interpret and apply the term in the dispute before him, with the assistance
of
rival experts in the law
of
Fujairah. The decision has no relevance to this case. As to the decision in Al-Bassam, (supra) the court was concerned with Sharia law as being the law which the parties agreed was the law
of
succession applied in Saudi Arabia as the country
of
the deceased's domicile at the date
of
his death. Again, it has no relevance to this case, other than demonstrating that, where it is clear that a particular system
of
law governs a dispute before the English court, the court is obliged to apply it, with the assistance
of
expert evidence. Neither case was concerned with the construction
of
a disputed choice
of
law clause.
- Finally, so far as the "principles
of
Sharia" are concerned, it was the evidence
of
both experts that there are indeed areas
of
considerable controversy and difficulty arising not only from the need to translate into propositions
of
modern law texts which centuries ago were set out as religious and moral codes, but because
of
the existence
of
a variety
of
schools
of
thought with which the court may have to concern itself in any given case before reaching a conclusion upon the principle or rule in dispute. The fact that there may be general consensus upon the proscription
of
Riba and the essentials
of
a valid Morabaha agreement does no more than indicate that, if the Sharia law proviso were sufficient to incorporate the principles
of
Sharia law into the parties' agreements, the defendants would have been likely to succeed. However, since I would hold that the proviso is plainly inadequate for that purpose, the validity
of
the contract and the defendants' obligations thereunder fall to be decided according to English law. It is conceded in this appeal that, if that is so, the first and second defendants are liable to the
Bank
.
The Guarantors' Liability
- It has necessarily been conceded that, if that is so, then the guarantors are similarly liable. The sole point relied on in this appeal to avoid their liability is the plea that the
Bank
and the guarantors entered into the guarantees on the basis
of
a mutual mistake, namely that the ESUAs constituted a binding obligation on the part
of
the
Bank
to discharge a pre-existing enforceable obligation, i.e. payment
of
the outstanding amounts as defined in the ESUAs. In this connection the guarantors rely upon the general law
of
guarantee and the fact that the opening line
of
the covenant to pay in clause 2.1
of
the guarantees expressly made clear that they were given in consideration
of
the
Bank
agreeing to discharge the outstanding amount under the Morabaha agreements.
- Although it is not necessary so to decide, I consider that the judge was correct in his view that a common mistake as to the legal consequences
of
the Morabaha agreements in this case would not qualify as a mistake apt to give rise to a defence.
- Mr Hacker relies on recent authority to submit that, for the doctrine
of
mutual mistake to be operative at common law, it is no longer necessary for it to be a mistake
of
fact as opposed to a 'mere' mistake
of
law. He relies upon the decision
of
the House
of
Lords in Kleinwort Benson
Ltd v
Lincoln City Council [1999] 1 AC 153, in which the House
of
Lords held that there is no rule that only a mistake
of
fact would entitle a party to claim restitution on the grounds
of
mistake; also upon the statement
of
the position in Chitty on Contracts (28th ed) at paragraph 5-018 and the recent decision
of
Morland J in Brennan
v
Bolt Burden and others [2003] EWHC 2493 (QB) concerning the setting aside
of
a compromise agreement on the grounds
of
mistake
of
law when that agreement had been reached on the basis
of
a decision
of
the court
of
first instance which was subsequently overturned by the Court
of
Appeal. In coming to his decision that the agreement should be set aside, Morland J relied upon the speeches
of
Lord Goff and Lord Hoffmann in the Kleinwort Benson case at 379f and 398e-399 respectively and the paragraph in Chitty, as well as upon persuasive Commonwealth authority. Assuming, without deciding, that the decision
of
Morland J was correct, it was nonetheless reached upon the basis that the parties' common mistaken assumption as to the law "was the fundamental basis for and a precondition
of
the compromise agreement, indeed its only springboard" (see paragraph 52
of
the judgment).
- Before this court Mr Hacker has submitted that the mistake as to Sharia law was properly to be regarded as a mistake
of
fact by analogy with the position in respect
of
a mistake
of
foreign law: see Furness Withy (Australia) Pty
Ltd v
Metal Distributers (UK)
Ltd
("The Amazonia") per Dillon LJ at 250.
- If that analogy is correct, it is
of
course necessary for the guarantors to show that the mistake is such as to "render the subject matter
of
the contract essentially and radically different from the subject matter which the parties believed to exist" (per Lord Steyn in Associated Japanese
Bank
(International
Ltd
)
v
Crιdit du Nord SA [1989] 1 WLR 255 at 268) or that it "renders the thing [contracted for] essentially different from the thing [that] it was believed to be" (per Lord Atkin in Bell
v
Lever Bros
Ltd
[1932] AC 161, as adopted and confirmed by this court in Great Peace Shipping
Ltd v
Tsavliris Salvage (International)
Ltd
[2002] EWCA Civ 1407 [2003] QB 679). Whether the mistake asserted should rightly be regarded as a mistake
of
fact or
of
law, it is plain to me that it is not a mistake based on a common assumption fundamental to the agreements in question. In that respect, the submissions
of
Mr Hacker inevitably founder upon the factual assertions
of
the defendants themselves, which demonstrate that their sole interest was to obtain advances
of
funds to be used as working capital and that they were indifferent to the form
of
the agreements required by the
Bank
or the impact
of Sharia law upon their validity.
Conclusion
- In my view the judge was correct in the conclusion to which he came, broadly for the reasons which he gave. I would dismiss this appeal.
Lord Justice Laws:
- I agree.
Lady Justice Arden:
- I also agree.
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