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||Neutral Citation Number:  EWHC 3006 (Ch)
||Case No: HC11C01633
IN THE HIGH COURT OF JUSTICE
||Rolls Building, Royal Courts of Justice
7 Rolls Buildings, Fetter Lane
London EC4A 1NL
B e f o r e :
MR JUSTICE NEWEY
|| VIVENDI SA
CENTENARY HOLDINGS III LIMITED
||- and -
Miss Blair Leahy (instructed by Pinsent Masons LLP) for the First Claimant
The Defendants appeared in person.
Hearing dates: 12-14, 17-21, 26 and 27 June 2013
HTML VERSION OF JUDGMENT
Crown Copyright ©
Mr Justice Newey :
- This case concerns nine payments which Centenary Holdings III Limited ("CH3") made between March 2004 and February 2005. The second defendant, Mr Stephen Bloch, is said to have acted in breach of his duties as a director of CH3 in causing the company to make the payments, which totalled more than £10 million. The first defendant, Mr Murray Richards, is said to bear responsibility as well: both as a "shadow director" and for dishonestly assisting Mr Bloch's alleged breaches of duty.
- CH3 went into liquidation in the middle of 2005. Vivendi SA ("Vivendi") brings the claim pursuant to an assignment from CH3's liquidators. CH3 itself has also been joined as a claimant.
- Vivendi is a major French company with interests, in particular, in media and telecommunications. In the period before the events giving rise to this litigation, it was very acquisitive, seeking to build its group into a large multimedia multinational. By mid-2002, however, it had become clear that the group had expanded too rapidly. A new management team was appointed whose main role was to dispose of surplus assets so as to put the group on a more secure financial footing.
- Mr Richards comes from New Zealand. As a young man, he began studying accountancy and law, but he did not complete the course. Instead, he sought to become a motor racing driver, but that career was cut short by a severe accident. In 1966, he moved to Australia, where he became involved in the property business. 12 years later, he was convicted in Australia of conspiring to cheat and defraud a company called George Hudson Pty Limited and its creditors and given a sentence of some ten years' imprisonment; the relevant events had taken place in 1971-1972, when Mr Richards was in his mid-20s. Mr Richards appealed against both conviction and sentence. The appeal was dismissed on 7 December 1979, but Mr Richards' evidence in the present proceedings was nonetheless that he did not commit the offence of which he was convicted.
- At all events, the conviction did not stop Mr Richards pursuing a business career. He acquired extensive experience in property and technology matters and company acquisitions; by his own account, he was a "serial entrepreneur". Asked about his role, he said that it was essentially to find investment projects for people or companies.
- After the 1970s, Mr Richards became a director of relatively few companies. He said in cross-examination that he hated being a director. In the course of his evidence, he gave more than one reason for this. One explanation was that he did not want to become a resident in the United Kingdom for tax and immigration reasons. Another was that he:
"wanted to use professionally qualified people so that no more mistakes would be made".
- In practice, the directors of companies in which Mr Richards was beneficially interested were generally professional directors. Lawyers and accountants from Investec Trust Jersey became directors of many companies associated with Mr Richards. Mr Richards said that such people "actually managed the business for [him]", but I do not believe that they will have been much involved in commercial decision-making.
- In January 2005, Mr Richards described himself in a letter as the ultimate beneficial owner of:
"separate Groups of Jersey Registered Companies, namely:
A. 4Group Funding Limited
B. I4Investments Limited
C. 4G Communications Jersey Limited
D. P4property Investments Limited
E. P4property Consulting Limited".
All of these, Mr Richards explained, "are managed by, and have Professional Directors who are Directors or Employees of … Investec Trust Limited". Mr Richards went on to say that he estimated his aggregate net worth as in excess of US$100 million.
- Mr Richards' name was originally Murray Richard Harrod. Mr Richards attributed his change of name to the fact that, at the time, he was managing a project being set up in China. He said that Chinese people "have a great difficulty … pronouncing the Hs and the Rs together". "Richards", unlike "Harrod", does not require a speaker to pronounce an "H" and an "R" together. Even so, Mr Richards might have been expected to choose a name that did not begin with the letter "R" had he been principally concerned with matters of pronunciation. Although Mr Richards stated to the contrary, his criminal conviction is, I think, likely to have provided the main motivation for his change of name.
- Mr Bloch, who is British, went into business after graduating from the University of East Anglia. In the 1980s and 1990s, he was involved in, among other things, a footwear retailer, a telephone/voice response service provider, a company providing security services for vacant properties and a music publishing and record business. In 2001, he co-founded Wizard Mobile Solutions Limited, which, I gather, developed an award-winning security product for mobile phones and data.
- CH3, a Scottish company, was called Seagram Distillers plc until May 2002. CH3 became part of the Vivendi group in 2000 when the latter acquired the Seagram group's entertainment division. Mr Richard Constant was a director (and latterly sole director) of CH3 between 2001 and 22 January 2004.
- By 2003, CH3 was no longer trading, but it had some very valuable assets, including a shareholding in the company that held the Vivendi group's core film and entertainment industry interests. CH3 also held a number of leases. It was a lessee of properties at 5-7 Mandeville Place, London W1; Pinnacle House, Wimbledon; Unit 2, Blaikies Key, Aberdeen; and Unit 15, Woodside Estate, Dunstable. The most significant of its leases, however, related to a property in Hammersmith called the Ark. The Ark had been Seagram's European head office, but by 2002 it was surplus to requirements. The building, which comprised more than 145,000 square feet, had an open-plan design and a central atrium. These features presented obstacles to the Ark being let to more than one occupant.
- CH3's obligations under its leases represented a very significant liability. The company's accounts to 31 December 2002 disclosed "Other provisions" totalling £41.8 million. The notes to the accounts explained:
"Other provisions represent the anticipated costs associated with onerous property lease commitments of vacant London offices. Market rentals are currently less than the annual commitment payable by the company and its subsidiary undertakings under its leases and the provision represents the future net present value of the likely amount of rental shortfall over the remaining periods of the leases."
£35.4 million of the £41.8 million figure was accounted for by the Ark, where CH3 had no right to terminate its leases until the end of 2010 or early 2011. The rent for the property amounted to some £4.5 million per annum. With insurance and other charges, the annual bill was of the order of £6.5 million.
The transfer of CH3
- By 2003, a Mr Alexis Kyprianou of Vivendi had been asked to make arrangements for the disposal of a number of the group's non-core assets, including the leases of the Ark held by CH3. Mr Kyprianou was assisted in this task by a Mr Peter Harrod, who was the financial controller of CH3's then parent company, Centenary Holdings Limited ("CHL"), and its subsidiaries. Mr Harrod and Mr Richards are brothers.
- Mr Harrod drew Mr Richards' attention to the Ark. During cross-examination, Mr Richards explained:
"I had asked [Mr Harrod] to look out for projects for me. He said, well, there's one that's empty that's in the company I work for, but because I work for them I've got to be very careful."
- CH3 was not in a position to assign its leases of the Ark to one of Mr Richards' companies because the freehold owner, Deka-Immobilien Investment GmbH ("Deka"), was unwilling to countenance an assignment to an organisation that did not have a triple A rating. The idea arose that Vivendi would transfer, not the leases, but the company that held them, CH3, having first removed various assets from the company. There would be a reverse premium of £15 million to take account of CH3's obligations under its leases.
- PricewaterhouseCoopers ("PwC"), who were CH3's auditors, were instructed to advise Vivendi. In accordance with advice from them, CH3 was transferred to a company beneficially owned by Mr Richards by means of the following steps:
i) CH3's shares were first transferred from CHL to Centenary 4 Limited ("C4"), another company in the Vivendi group;
ii) Most of CH3's assets were distributed in specie by way of dividend;
iii) C4 sold CH3 to Centenary 6 Limited ("C6"), a subsidiary of C4, for £77.7 million;
iv) CH3 lent £77.7 million to C6;
v) C6 used the £77.7 million to discharge its debt to C4;
vi) Centenary 7 Limited ("C7"), a company owned by P4 Property Investments Limited ("P4 Investments"), bought C6 from C4 for £1.
- The end result was that CH3 became a subsidiary of C6, which was itself a subsidiary of C7 and indirectly of P4 Investments, of which Mr Richards was the ultimate beneficial owner. CH3 was left with its leases, cash of £15.1 million and the benefit of its £77.7 million loan to C6.
- The sale and purchase agreement relating to C4's sale of C6 to C7 contained undertakings by C7:
i) To use all reasonable endeavours to ensure that no monies were taken out of CH3 by dividend, loan, reduction of capital or otherwise unless sufficient monies were retained within CH3 to allow the company to pay its debts as they fell due for the next 12 months; and
ii) That, should CH3 be unable to pay its debts as they fell due during the 12-month period as a result of monies being taken out of the company, C7 would make money available to CH3 to meet the shortfall.
The latter obligation was guaranteed by Mr Richards personally.
- These undertakings were clearly informed by financial assistance considerations. It was recognised that CH3's £77.7 million loan to C6 involved CH3 giving financial assistance for the purpose of an acquisition of shares in the company. The issues to which this gave rise were addressed using the whitewash procedure for which sections 155-158 of the Companies Act 1985 then provided. That required CH3's director to make a statutory declaration stating that he had formed the opinion that the loan would not render the company unable to pay its debts and that the company would be able to pay its debts as they fell due during the following year. The director's declaration had to have annexed to it a report from the company's auditors stating that they were not aware of anything to indicate that the opinion expressed by the director was unreasonable.
- Since CH3 was leaving the Vivendi group, it was felt inappropriate for Mr Constant to make the requisite statutory declaration. On the day of completion, 22 January 2004, Mr Constant was replaced as CH3's sole director by Mr Bloch, who then made the appropriate declaration. Mr Bloch had known Mr Richards since the mid-1990s.
- PwC supplied the necessary auditors' report. The basis on which they approached matters can be seen from a report ("the Basis of Statement Report") entitled "Basis of statement on financial assistance" that was finalised on 22 January 2004. The report had attached to it cash flow projections which (as PwC observed) gave the following picture:
"At the date the financial assistance is given, CH3 will have free cash of £15.1m. The projected cash flows show that there will be net cash outflows for the period to 31 March 2005 of £4.8m resulting in a free cash balance at 31 March 2005 of £10.3m. During the period cash falls to £4.3m during December 2004, January 2005 and February 2005 before increasing to £10.3m in March 2005."
- As PwC noted, the cash flow projections reflected what they understood to be the future plans for CH3. These were summarised as follows in the Basis of Statement Report:
"On completion, the buyer anticipates making an offer to the owners of the Ark (Deka) to purchase the property. Management believes that Deka may be willing to sell the Ark if the right offer was received. This is supported by activity in the market place with Deka discussing potential sales with interested parties e.g. an approach from FCUK was made to Vivendi Universal ('VU') requesting a £20m contribution to a proposed FCUK buy-out of the Ark for £45m.
VU rejected FCUK's approach and the purchase did not go ahead. However it is believed by both Murray Richards and VU that Deka might accept an offer in the range of £40m-£45m. The purchaser has indicated that this would potentially be an acceptable price range for their acquisition of the Ark.
The ability of the purchaser to acquire the Ark may be assisted by a reduction in Deka's valuation of the Ark following a change in the ultimate ownership of the lease. To some extent Deka's valuation of the Ark is underpinned by the covenant of the lessee, being previously a large multinational operation of VU. On the change of ownership there will be a significant dilution of the lessor's covenant with the new lessee being a relatively small privately owned business. It is believed by both VU and Murray Richards that Deka will need to reassess its valuation downward and therefore may be more amenable to agree a sale at a lower price.
The buyer intends to convert the Ark into multi-letting on short-term leases at a price of approximately £25 per square foot. Currently we understand that the lease permits sub-letting to up to 5 separate tenants. Approval by the owner for the subdivision of the Ark into sub-leasable units (by floor) will need to be requested. The purchaser may also discuss restructuring the lease with Deka but this has not been assumed in the cash flow projections….
The buyer confirmed in his meeting with PwC that he intends to route other property projects through CH3 and C6 and use these projects as a source of cash for CH3. As there is no contractual obligation to do this this assumption has been reversed through the sensitivity analysis."
- "Key assumptions" made in the Basis of Statement Report included these:
"The upstream loan from CH3 to C6 arises from the fair value purchase consideration payable by C6 for CH3 from CH4. We note there is a risk that the whole transaction could be deemed unlawful (and therefore capable of being set aside) if the valuation of CH3 is not supportable"
"Net income is received in March 2005 of £7.8m (gross income £25.7m less interest costs £17.9m) in respect of a potential hotel development being considered by the third party purchaser (Project H)"
"The Ark is assumed to be let on a multi-tenant short let basis receiving rental income during the period of £854,000. No acquisition of the Ark is assumed within the cash flow projections"
With regard to the last of these, PwC said:
"Currently the Ark is vacant. The projected Ark rental income represents the purchaser's plans for multi-tenant short lets at £25 per square foot commencing in May 2004 at an initial occupancy of 3% rising to 50% by March 2005"
"Rental income for the Ark is based on estimates made by the purchaser. It is intended that the Ark will be used for multi-tenant short lets at approximately £25 per square foot. It is assumed that 3% occupancy will be achieved by May 2004 with a gradual increase in occupancy to 50% by March 2005, 80% by March 2006 and 87.5% during the year ended March 2007."
When dealing with risk factors, PwC said:
"the buyer's plan to purchase the Ark and success of a multi-tenant short let business plan is important to the viability of CH3. Based on the sensitivities this is not key to CH3's ability to meet its debts as they fall due over the next 12 months, however, subletting at reasonable occupancy levels combined with the purchase or renegotiation of the lease will be critical to the ongoing viability of the Company."
The cash flow projections assumed capital expenditure of £2.5 million "to upgrade the property to enable multi-tenant letting". This was in respect of "the partitioning and fit out of the Ark based on the purchaser's business plan".
- In a letter to PwC of 22 January 2004, Mr Bloch confirmed that the Basis of Statement Report:
"fairly sets out the basis on which I have reached my opinion and does not contain any error of fact and fairly sets out the state of affairs of the Company and the financial projections and their underlying assumptions".
Mr Bloch also said:
"The cash flow projections of the Company for the period ending 31 March 2005 are based on assumptions which we consider are realistic, take account of committed expenditure and reflect the likely outcome of the Company's business in the period."
Mr Bloch and Mr Harrod
- As already mentioned, Mr Bloch became a director of CH3 on 22 January 2004. He initially received salary from CH3 at the rate of £120,000 a year. In the course of 2004, this figure was increased to £150,000. Mr Bloch was also paid a signing-on fee of £50,000.
- Following CH3's sale, Mr Harrod continued to undertake work for the Vivendi group until April 2005, but he also acted as a consultant to CH3 and, at the beginning of July, he became a full-time employee of the company. Mr Harrod's salary as an employee was £150,000 per annum. There was an up front payment of £150,000 as (in Mr Harrod's words) "a security deposit". During cross-examination, Mr Harrod said:
"there were a number of liabilities and various deals had to be brought into the company to make it work. I believed that that could happen but being reasonably cautious I wanted to protect my own financial interest of my salary."
Consultancy agreement with Mr Richards
- Mr Richards was formally appointed to provide consultancy services to CH3 under an agreement made between P4 Property Consulting Limited ("P4 Consulting"), Mr Richards and CH3 on 3 March 2004. Clause 2 of this agreement ("the Consultancy Agreement") provided:
"The Company [i.e. P4 Consulting] shall engage the Consultant [i.e. Mr Richards] and the Company shall make the services of the Consultant available (or in the event the Consultant is unavailable such other person reasonably capable of performing the role of the Consultant) to CH3 in the capacity of corporate & property investment and development consultant to CH3 at such times and on such terms as are agreed from time to time between the Company and CH3 and the Consultant shall perform the duties and exercise the powers and functions which from time to time may reasonably and consistently be required by CH3."
- Clause 4 of the Consultancy Agreement dealt with Mr Richards' duties:
"The Consultant shall be responsible to and shall in all respects conform to and comply with the directions and requirements of CH3 and its directors and shall during the continuance of this agreement hereunder well and faithfully serve CH3 and use his best endeavours to promote the interests of CH3 and in particular the Consultant shall introduce first to CH3 any potential investment or development project which will or may be of benefit to CH3 and shall not disclose any details of any such project to any third party without the prior written consent of CH3, but if CH3 shall decide not to proceed with any such project the Consultant and the Company shall not disclose details to any third party without the prior written consent of CH3 which consent shall not be unreasonably withheld by CH3."
- Under clause 5 of the Consultancy Agreement, P4 Consulting was to be entitled to £30,000 a month. £600,000 was, however, to be paid upfront:
"CH3 shall pay to the Company at the inception of this agreement the amount of:
(i) Two Hundred and Forty Thousand Pounds Sterling (£240,000) for the Company to retain the services of the Consultant on a first priority basis, and
(ii) an amount of Three Hundred and Sixty Thousand Pounds Sterling (£360,000) representing the minimum 12 months term of this Agreement."
- As mentioned above, the Basis of Statement Report referred to the prospect of net income of £7.8m being received from "Project H". This would have involved the acquisition, seemingly by a joint venture, of Paramount Hotels Group Limited. In the event, Project H came to nothing. Mr Richards submitted a £220 million bid in February 2004, but he was told on 1 April that heads of terms had been signed with a third party. By the beginning of April, therefore, it was known that CH3 would not be receiving any money from this source.
- The Basis of Statement Report assumed that rental income would be generated by letting the Ark on a "multi-tenant short let basis". In the event, no rental income at all had been produced by the time CH3 went into liquidation in 2005.
- During cross-examination, Mr Richards claimed that there was from the outset a tenant in some part of the building so that there were "little bits of money coming in". I do not, however, accept that evidence. The Basis of Statement Report recorded that the Ark was "vacant" and postulated that rental income would begin to be received in May 2004 as a result of "the purchaser's plans for multi-tenant short lets". A cash flow forecast Mr Harrod prepared in April or May of 2004 assumed that the Ark "remains" vacant. A proposal put to Deka on CH3's behalf in December 2004 stated, "Building currently entirely empty". Mr Harrod accepted during cross-examination that the Ark had no subtenants at all.
- Mr Bloch suggested that, when CH3 was acquired in January 2004, it was assumed that it would be possible to rent out individual floors or parts of floors within a few months without undertaking much work. However, it is evident from the Basis of Statement Report (the factual basis for which was confirmed by Mr Bloch himself) that PwC understood that £2.5 million would be spent "to upgrade the property to enable multi-tenant letting", and, as explained below, CH3's onerous lease provision was assessed in April 2004 on the footing that CH3 would be carrying out works with a net cost of £2.6 million. During cross-examination, Mr Richards said that the £2.5 million figure "might have been the amount for doing multi-tenanting but without re-dividing the building" and was the minimum necessary to be able to let the building; he thought that expenditure of between £4.8 million and £6.5 million might have needed before the Ark could be let in "quite large multi-lets". Works costing even £2.5 million (or anything like it) would surely have required Deka's consent, which never seems to have been sought, and would have taken much longer than a few months. When CH3's onerous lease provision was being calculated, it was assumed that refurbishment would take a year.
- Early in his cross-examination, Mr Richards said that the rental income projected in the Basis of Statement Report was "all predicated on if we got the freehold". He also spoke of the "last card in the pack" having been to go to Deka with a "challenge on the lease, to have the right to sublet". Mr Bloch said that "the mood was very much about looking to buy the Ark by the time we get to May and June of 2004 as … probably a better option and reconfiguring the Ark would be if we were unable to". The likelihood is, I think, that, from a very early stage (no later at any rate than the failure of Project H at the beginning of April 2004), those associated with CH3 were not thinking in terms of trying to let any of the Ark unless and until they had managed to acquire the freehold. Certainly, I am aware of no evidence that CH3 took any steps with a view to letting out the building in advance of the freehold having been bought.
Dealings with Deka
- There was no attempt to enter into a dialogue with Deka until some time after the transfer of CH3. On 25 March 2004, DTZ Debenham Tie Leung ("DTZ") (which was managing the Ark for Deka) reported to Deka that they had been told by Mr Harrod that:
"the people who are now controlling [CH3] are very busy with various projects at the moment but want to be able to talk to DEKA in the very near future and certainly during the month of April."
On 5 May, DTZ wrote:
"I am assuming that nobody has heard from the new owners of our tenant. On speaking to Peter Harrod we are informed this is still due in the very near future but they have not managed to achieve their proposed date of making contact by the end of April!"
- A meeting with Deka was arranged for 1 June 2004, but it did not take place. In the event, the first time anyone acting for CH3 met Deka was on 3 August. On that occasion, Deka was provided with a presentation aimed at persuading it to sell the freehold of the Ark at a "realistic" price. The presentation stated:
"[I]f it is assumed [CH3] parent company continues to provide financial support we believe the value of the building is in the range of £41-£45m.
But as the parent company is reviewing the situation there is now a real risk for Deka that it will have to deal with all the property market and specific risk attached to the building.
If the parent company withdrew its support Deka would be left with an empty building and no immediate income for a considerable period of time."
After listing a number of points, the presentation concluded that the risks reduced the capital value of the building to "circa £24-31m". The presentation concluded:
"So, unless Deka are fully prepared to deal with all the risks identified in this study they should explore the potential of selling its freehold interest to a willing purchaser for a realistic price."
- On 8 December 2004, a document prepared by SJ Berwin on behalf of CH3 was the subject of a presentation to Deka. This noted that negotiations with Deka in relation to "the variation of the terms of the Ark Leases/the acquisition of the freehold" had not proved successful. It proceeded to refer to three options in the following terms:
- not an option – predicted insolvency due to rent shortfall on the leases
- director's duties – to act in best interests of all creditors
Default on payment of rent and other lease obligations:
- compulsory winding up
- disclaimer of lease by appointed liquidator
- director's view in best interests of creditors".
The document went on to propose that all CH3's landlords should agree to accept surrenders on the basis that each landlord would receive "equal amount of CH3's remaining assets (pro rata)". The document concluded:
"If negotiations fail, liquidation of CH3 will be initiated on 22 March 2005."
Later in December 2004, SJ Berwin noted in a letter to Mr Bloch that he had confirmed that it was "[Mr Bloch's]/Murray's strategy to seek to acquire the freehold interest of each of the properties that is currently leased by CH3 (at market value or slightly below)", but proposals put to landlords had not so far produced any tangible results. Accordingly:
"in an effort to attract the attention of the landlords and to bring them to the negotiating table, it is proposed that CH3 will pay an amount equivalent to 1 month of the rent due under the leases of each of the properties on the forthcoming December quarter day."
In accordance with that proposal, Deka was told in a letter of 5 January 2005:
"Accordingly, it is proposed that CH3 will pay to you a sum equal to 1 month's rent in full and final settlement of all sums that are or may become or owing now or at any time in the future from CH3 to Deka under or in respect of the Leases and/or the Property or otherwise (the 'Offer').
You should be aware that each landlord has been made a 'without prejudice' offer on the same basis in order to ensure that each landlord is treated equally. The Offer is subject to each landlord accepting the proposal put to them by no later than close of business on Friday 14 January 2005 and upon the execution of appropriate documentation releasing CH3 from all of its obligations, liabilities and covenants to Deka under or in respect of the Leases and/or the Property."
On 13 January 2005, Simmons & Simmons replied on Deka's behalf with a request for further information. SJ Berwin responded on 4 February, and Simmons & Simmons reported to their client in a letter of 11 February. The letter included this:
"At present, there is an 'offer' from [CH3] to pay each of its landlords one month's rent in full and final settlement of all lease obligations, this would leave the Ark empty and without a tenant to pay rent or other outgoings. We consider this proposal to be derisory and insulting and barely capable of being described as a compromise. It would appear that at least one of the other landlords will refuse this offer, thereby probably forcing [CH3] into some form of insolvency process. The only alternative to accepting this 'offer' is to aggressively pursue a course of litigation through the courts against the former corporate officers of [CH3] and C6 and ultimately Vivendi. Based upon the documents and information available and as previously indicated to you in our various advices, we believe that the creditors of [CH3] have a very strong case to successfully challenge the transactions that took place in January 2004 by which some £77 million in cash was removed from [CH3] using various insolvency processes."
SJ Berwin wrote again to Simmons & Simmons on 7 March 2005. They explained that they were instructed "to enclose a revised and final proposal in relation to the settlement of [CH3's] liabilities under the leases of the Property" and stressed that CH3 would be placed in liquidation on 22 March unless its landlords had by then agreed the surrender of the leases and the release of CH3's liabilities.
On 3 June 2005, Simmons & Simmons wrote rejecting CH3's proposals and demanding payment of outstanding arrears.
Going back in time, soon after CH3 had been acquired Mr Richards and Mr Bloch consulted PwC on how some cash could be moved up to C7. PwC summarised their advice in a letter dated 17 February 2004. This considered the implications of both inter-company loans and dividends. As regards dividends, PwC said this:
"Under UK law, UK companies can only pay dividends or make other distributions out of distributable reserves (defined as realised profits less realised losses). In addition, directors are subject to fiduciary duties in the exercise of the powers conferred on them. Directors must therefore specifically consider, inter alia, whether CH3 will still be solvent following a proposed distribution i.e. the directors should consider both the immediate cash flow implications of a distribution and the continuing ability of the company to pay its debts as they fall due. There is no time limit on this solvency assessment unlike the statutory declaration made on 22 January 2003.
The distribution of pre-acquisition reserves by a company will prima facie result in an offsetting impairment charge in the immediate parent. Therefore while on acquisition CH3 may have distributable reserves any distribution out of these reserves that is not supported by underlying value generation will result in an offsetting impairment in the accounts of C6 and therefore prevent any onward distribution.
Based on our calculations the onerous lease provision would need to be reduced to at least £15.8m before there would be adequate headroom in the carrying value of investments to enable any distribution to be made up from CH3 to C6 equal to that headroom without an offsetting impairment charge occurring.
Therefore if you were to make a dividend of say £5m there would be a requirement that the onerous lease provision be reduced to at least £10.3m in order to have sufficient distributable reserves in CH3 and provide sufficient headroom in the carrying value of investment in C6 and C7. The directors would still need to be satisfied from a fiduciary duties perspective that CH3 was still able to meet its debts as they fall due following any distribution.
A re-assessment of the FRS12 provision can and should be performed to reflect new management's intentions for the leasehold properties. However, while not prejudging any reassessment to be performed by yourself as a director, based on the 'best scenario' under the Jonathan Edwards report dated 21 December 2003 and taking into account the Ark's shortfall of sub-rental income over rental costs under Murray Richard's initial forecasts under the multi-sublet model an onerous lease provision greater than £20m would still appear to be required. This would make any distributions from CH3 to C6 and beyond not possible at this time."
The "Jonathan Edwards" to which there was reference in this letter was Jonathan Edwards Consulting ("Jonathan Edwards"), a firm of property advisers later taken over by Donaldsons. Jonathan Edwards had apparently calculated the total provision required in respect of CH3's leases at 1 December 2003 to be £45.04 million. On 2 April 2004, however, Jonathan Edwards produced a report in which the total provision required as at 1 April was put at £28.93 million, £22.45 million of which was attributable to the Ark. Jonathan Edwards arrived at its figures by applying probabilities to a number of potential outcomes. It took there to be a 25% chance of the Ark being "fully let on flexible basis with limited voids"; a 40% chance of a "flexible letting strategy" resulting in the building being "substantially filled with 20% remaining empty as churn space"; a 25% chance of a "flexible letting strategy" leaving 40% of the building empty; and a 10% chance of a "multi-letting pricing policy", with the result that only 60% of the building was let, and at significant discounts to prevailing rates.
As Jonathan Edwards explained in their report, it was prepared on the assumption that CH3 was "pursuing a multi-letting strategy", that the landlord would "not enforce restrictive covenants on sub-letting in part and below passing rents" and would "permit sub-division of floors to enable multi-letting" and that refurbishment would be "completed by 1 April 2005 at a net cost of £2.6m". Jonathan Edwards had sought and obtained confirmation that CH3 had the "financial capacity (on its own) to meet the cost of up-front capital expense".
On (seemingly) 26 April 2004, there was an email exchange between Mr Harrod and his brother. Mr Harrod's email read:
"The point PwC were making is that the Board of CH3 may not be able to claim that the company was solvent (able to pay its debts as & when they fall due) at the time of the dividend. The company has no income cash flow to meet lease commitments which run for many years. That is, without future income the Board would know that the company has a finite life, and it is not a case of a change of circumstances after the dividend….
The Board would therefore need to consider (at the time of declaring the dividend) the CH3 (not just the Group) business plan showing future income."
Mr Richards replied:
"PwC accepted the fact that as a group we had the capacity to 'provide deals to CH3' which were capable of demonstrating capacity to meet commitments as they fall due – such a project[s] will be offered to CH3 prior to payment of any dividend. It is also reasonable for the board to make an assumption that subletting will substantially cover future costs."
On 4 May 2004, Mr Harrod asked PwC to review management accounts for the first quarter of 2004 with a view to the declaration of a dividend. The re-assessment of the onerous lease provision meant that the accounts showed CH3 as having achieved a profit of £4.77 million in the quarter and led Mr Harrod to calculate that there were "[r]etained earnings available for distribution" of £5.814 million.
PwC responded as follows on 10 May 2004:
"Following the release of the property provision to the level suggested by Jonathan Edwards it would have the effect of creating distributable reserves as outlined. There is nothing that I believe has been missed off your profit reconciliation … although it would be preferable not to utilise the entire distributable reserves position and leave a buffer as a contingency. Prior to the release of the property provision the director should be satisfied that the assumptions used in the assessment by Jonathan Edwards are appropriate e.g. capital expenditure assumptions, discount rate."
Vivendi's case is that assumptions used in the Jonathan Edwards assessment were not in fact appropriate. I agree. As I have already indicated (paragraph 35 above), it seems to me that CH3 had no intention of trying to let any of the Ark unless and until it had managed to acquire the freehold, and there had not as yet even been a meeting with Deka; there was no likelihood of the proposed works, if undertaken at all, being completed by 1 April 2005. Moreover, CH3 was not going to have "financial capacity (on its own) to meet the cost of up-front capital expense" if a dividend was paid as intended. A cash flow forecast included with the management accounts for the first quarter of 2004 predicted that CH3 would have a closing balance of £8.684 million by January 2005, but this (a) took no account of loans of more than £2 million that CH3 made to C7 during April and May of 2004 and, on the contrary, assumed that C7 would have repaid £594,000 and (b) took no account either of any dividend. Mr Harrod suggested that CH3 need not have spent as much as £2.6 million, but (a) the contemporary documents do not show that and (b) Mr Harrod accepted that CH3 had not obtained any different estimate of costs.
It is also noteworthy that, although Mr Richards had spoken of CH3 being offered one or more projects before any dividend was paid, no projects had been made available to CH3 by 26 May 2004.
A dividend of £5.314 million was nonetheless declared and paid on 26 May 2004.
It is convenient to refer at this point to expert evidence given by Mr John Reid, a partner in Deloitte. He expressed the view (and I accept) that CH3 did not in fact have any profits available for distribution as at 26 May 2004. On Mr Reid's calculations, CH3 had very substantial net liabilities. Mr Reid arrived at the following conclusions in particular:
i) "Given the uncertainties about the ability of P4 and / or Mr Richards to execute the plans as set out in the [Basis of Statement Report], the reduction in the Onerous Lease Provision to the [Jonathan Edwards] Report value of £28.93m does not appear to me to be a reasonable or prudent conclusion. Therefore I conclude that this is not in a reasonable range of estimation";
ii) "I have seen no evidence that considers in any practical terms whether, or how, the [£77 million] loan [from CH3 to C6] could, and would, have been repaid by C6 to CH3. Further, as I have not seen any evidence of any source of profitable income or any reasonable prospect of income from any profitable contracts or projects, CH3 would not have future income streams to pay a dividend to C6, to allow C6, in turn, to repay the loan to CH3. I therefore consider that a full provision was required against the loan to C6 in the accounting records of CH3 at the date of restructuring. Accordingly, CH3's net assets at 22 January 2004 and thereafter would have been reduced by more than its distributable reserves as a result of making the loan."
At the end of July 2004, CH3 lent Herongate Construction Limited ("HCL") £250,000 pursuant to an agreement dated 29 July. HCL was to repay the loan (with interest at 3% above the Bank of Scotland's base rate and a 1% fee) by 10 January 2005. The loan was secured by a third-ranking debenture and personal guarantees from HCL's shareholders, a Mr and Mrs Skinner. Mr Donald Munro of Harper Macleod (Scottish solicitors who acted for CH3 and Mr Richards) had advised in an email to Mr Bloch (which was copied to Mr Richards):
"My view is that where any lending is being made in a distressed situation (which I understand this is) that security should be taken prior to any draw down of funds."
In the event, HCL went into creditors' voluntary liquidation on 1 September 2004 and was dissolved in 2008. No dividend was paid in respect of the loan CH3 had made.
CH3 having itself gone into liquidation (see paragraph 106 below), its liquidators sought to enforce the guarantees Mr and Mrs Skinner had given. The Skinners agreed to pay £60,000 in settlement of their liabilities, but the deal had to be renegotiated after Mr Skinner became bankrupt. Mrs Skinner is currently making monthly payments of £200.
In cross-examination, Mr Richards said that "there was to be a property deal to follow up" the £250,000. He said that the deal in question "was to be done by Herongate with CH3" and was "a very, very profitable one". At one point, Mr Richards suggested that deal could have been one referred to as "Culley", but he later said that the "Culley" deal was also called "Baughurst" and that that was "a later deal we did with [Mr Skinner] with P4". Mr Bloch nonetheless gave as a justification for the £250,000 loan the fact that it was intended that "CH3 would be participating in Baughurst and one or two other developments". At all events, I understood Mr Richards to accept that no Herongate project ever proceeded with CH3 as a participant and that CH3 never turned down such a deal.
There is in fact no documentary evidence that there was any idea of CH3 undertaking a property deal with HCL or any other Herongate company. What is apparent from the contemporary documents is that, at least by March 2005, Herongate companies were involved in projects with other companies of which Mr Richards was the ultimate owner.
A letter dated 2 December 2004 records an agreement for US$650,000 to be lent to Cloverleaf Holdings Limited ("Cloverleaf"), a Monaco company. Payment was to be made into an account with Farmers and Merchants Bank in the name of "Linda A. Miller". The loan was to be repayable by 28 February 2005, to bear interest at 3% above LIBOR and to be unsecured. The letter was signed by a Mr Allan Campbell, purportedly on behalf of Cloverleaf.
On 6 December 2004, CH3 made a transfer of £338,289.78, purportedly in respect of the agreed loan.
The evidence as to Cloverleaf's role is curious. In 2005, Mr Bloch provided CH3's liquidators with a letter from Mr Campbell in which Cloverleaf was said to have been "merely acting as a trustee". Mr Campbell subsequently told the liquidators in an email:
"Mr Michael Fitzgerald used to represent my interests during the period 1992 to 1997. Cloverleaf was the vehicle through which my business affairs were transacted. Mr Fitzgerald has never informed me that this is not the case nor has he informed me that the address and phone number for the company has been changed. At the time that the transaction was entered into, I believed the former to be the case."
For his part, Mr Fitzgerald, who is a director of Cloverleaf, has told CH3's liquidators that Cloverleaf "has nothing to do with Allan Campbell and never had". Mr Fitzgerald explained:
"Cloverleaf is owned by and acts exclusively on behalf of my family."
Mr Fitzgerald also pointed out that Cloverleaf had not used the address given on the 2 December letter since about 1993 or 1994 and that the telephone number prefix shown on the letter had also been out of use for some years.
Mr Campbell gave this account of events in his 2005 letter to Mr Bloch:
"I have been asked by Mr Knowlton to correspond with you regarding the status of the investment in Nerdlihc made through Cloverleaf earlier this year. As I understand it the investment was along the lines of a convertible unsecured loan pending certain refinancing activities then being undertaken by Nerdlihc, with the option to convert into equity, or be repaid. Repayment was originally scheduled for on or before 30 June 2005 which, I understand, has been subsequently extended, as required by Mr Knowlton….
Nerdlihc holds extensive interests in the Canning Basin in Western Australia as well as in Northern Montana, USA. The sole director and shareholder of Nerdlihc is Mr Tom E Knowlton. Nerdlihc is a Californian corporation, … which was formed in January 1990.
Nerdlihc believes that it has made a discovery of oil with world class potential in its Patience 2 well drilled in late 2000 / early 2001. Nerdlihc wishes to further explore and develop its acreage in Western Australia and, to that end, has been seeking to raise a substantial sum in order to do this. I understand that arrangements are currently being finalised in this regard.
The company of which I am chairman and chief executive, AJ Lucas Group Limited, is an Australian infrastructure services provider specialising in the oil and gas and water/waste water sectors. We have undertaken substantial amounts of work for Mr Knowlton in connection with the possible development of his interests in the Canning Basin and, in particular, the engineering and design of pipelines, gathering systems, storage facilities and associated infrastructure….
I have been authorised to confirm that the investment by Centenary Holdings has been used for Nerdlihc's purposes under the management and control of Mr Knowlton. For the record, I can also confirm that Mr Knowlton has informed me that no amounts have been in any way directed towards the Directors of Centenary Holdings, its employees or associates; the total investment has been utilized for the purposes of Nerdlihc, the specific nature of which I am not fully aware, but directed by Mr Knowlton.
Mr Knowlton has asked me to inform you that the investment will be repaid together with interest within the next few weeks."
In the event, none of the £338,289.78 has been repaid to CH3, and Nerdlihc (i.e. Nerdlihc Company Inc) is listed as suspended on the Californian registry. It transpires, too, that in October 2003 a petition against Nerdlihc and Mr Knowlton had been presented to the United States Bankruptcy Court by a creditor claiming to be owed US$250,000. The petition was dismissed in March 2004 after Mr Knowlton had agreed to pay US$200,000 by instalments.
Mr Richards maintains that the £338,289.78 payment was to be linked with warrants. In cross-examination, he said that he understood that the loan facility was to have attached to it "some rights or an option of some sort attached", "warrants like rights of options or something to pick up at a very low cost a percentage of the Canning Basin project that this money was supposedly going to go and be invested in". Mr Richards also spoke of CH3 obtaining 1% of the Canning Basin project. For his part, Mr Bloch said that "the convertibility or the rights as a concept of what this was about were always there from the discussions". However, there is no reference in the contemporary documents to CH3 having any rights other than as a lender.
By January 2005, C7 owed CH3 some £2.7 million in respect of loans the latter had made to it between March and May of 2004. This indebtedness was discharged as a result of a series of transactions involving Phonevision (UK) Limited ("PVUK"), a Scottish company, and two Australian companies, Phonevision Australia Pty Limited ("PVA") and Broadstorm Wireless Broadbank Pty Limited ("BWBA").
PVUK was incorporated on 4 August 2004. Mr Bloch is the company's only registered director, and he and Mr Harrod are the registered shareholders. The shares are held on trust for Mr Richards or a company beneficially owned by him.
PVA was involved in the supply of wireless telecommunications services and hardware. By July 2005, when it went into administration (see paragraph 74 below), the company had "generated minimal revenues whilst incurring significant start up investment costs" (to quote from a report by the company's administrators). According to the administrators, the company's only current project was "the installation of a wireless communications transmitter and associated hardware in Albury NSW". It aspired to "roll this hardware out across regional Australia", a strategy which was "to be completed in conjunction with [BWBA], an entity also under the control of PVUK, which would have been responsible for the infrastructure to support the project". PVUK held 30 of PVA's 100 issued shares, and Mr Bloch was one of its directors.
BWBA was incorporated on 17 January 2005. Mr Bloch was again a director.
Mr Harrod explained the intended sequence of events in these terms in an email to Bank of Scotland of 24 January 2005:
"[CH3] will today be making an investment by way of acquisition of shares in subsidiary companies of [PVUK], namely [PVA] and [BWBA], to the value of £2.75M. It has probably not escaped your attention that [CH3] does not currently have £2.75M in cash to make this acquisition; however on the repayment by [C7] of loans & interested owed, it will do.
To facilitate the above we propose the following three transactions:
1) [CH3] … would like to transfer to [PVUK] … the amount of £2,750,000 …. This is payment for the procurement of shares in subsidiaries of [PVUK].
2) [PVUK] … would like to transfer to [C7] … the amount of £2,750,000 …. This consideration for the purchase of [C7's] loan portfolio.
3) [C7] … would like to transfer to [CH3] … the amount of £2,723,134.33 …. This is repayment of various on call loans (& accrued interest)."
In accordance with this scheme, on 28 January 2005 CH3 received £2,723,134.33 from C7 but paid £2,750,000 to PVUK. It thus, it appears, acquired the right to shares in subsidiaries of PVUK (viz. PVA and BWBA) in substitution for the debt of about £2.7 million it was owed by C7. CH3 seems to have paid the £2,750,000 to PVUK on the basis that the money would be refunded if PVUK did not transfer/issue the shares in PVA and BWBA.
Documents in the bundles indicate that PVUK transferred its obligations under its agreement with CH3 to another company ultimately owned by Mr Richards. Minutes record that on 24 February 2005 Mr Bloch passed a resolution as director of CH3 on the basis that PVUK was proposing to "transfer or reassign" its agreement with CH3 to WiMax Holdings Limited ("WiMax"). An agreement dated 1 March provided for PVUK to assign to WiMax, with CH3's agreement, the benefit and burden of the agreement between PVUK and CH3. WiMax was to receive £1 in return for taking on PVUK's obligations. CH3 was thus to be left with rights against only WiMax, a company with a £2 share capital of which Mr Bloch was also a director.
Miss Blair Leahy, who appeared for Vivendi, challenged the authenticity of these documents, and I can see why. On balance, however, I am prepared to accept that the assignment they evidence took place. What I cannot understand is how the transaction can have been in the interests of either WiMax or CH3. None of the witnesses could provide a satisfactory explanation.
On 20 July 2005, two individuals from KordaMentha, Australian insolvency advisers, were appointed as administrators of PVA by PVUK as a secured creditor. By the October, PVUK had proposed a Deed of Company Arrangement (or "DOCA") under which ordinary unsecured creditors would receive about 7 cents in the dollar. The DOCA was approved by PVA's creditors on 14 October and executed on 4 November. Pursuant to the DOCA, PVA's business and associated assets were sold to Broadstorm (Jersey) Limited ("Broadstorm Jersey"), another company ultimately owned by Mr Richards, for AUD $100,000. The "Business" sold was defined to comprise:
"the business of [PVA] in supplying, installing and operating wireless telecommunications services and hardware, and (except where the context requires otherwise) also means the Assets".
"Assets" referred to "each asset, current or non-current, tangible or intangible forming part of the Business or used in connection with the Business", subject to very limited exceptions.
During 2006, the liquidators of CH3 obtained a winding-up order against PVUK. On 8 August, Mr Robert Caven of Grant Thornton was appointed as liquidator of PVUK.
On 28 September 2006, solicitors acting for Broadstorm Jersey requested the administrators of the DOCA to issue shares in PVA to WiMax and deliver them to CH3.
Mr Caven's view was that any such shares would have been valueless. He referred to what he had been told by KordaMentha:
"They had … no evidence whatsoever to suggest that the shares from or the shares in [PVA] were worth anything other than nil or negligible value. They were shares in a company which they had had control of for a period of time as administrators. They knew what was in that company. They had sold the assets of that company for $100,000. If there was 2.75 million or 3 million of value in that company, they would not have sold it for $100,000."
However, Mr Richards and Mr Bloch maintained that Mr Caven was himself responsible for the fact that CH3 received nothing of value. Mr Richards said in a witness statement:
"PVA's Administration was very short term, it emerged from Administration to participate with its rights in the Australian Telecom project where 41 'Wimax Spectrum Licences' had been issued, with a massive potential value, which was destroyed by the interference of Mr Caven, the Liquidator of CH3, which in turn denied PVUK substantial value – in fact sufficient funds to be able to support its proposed Parent Company, CH3, pay out all its Creditors."
Mr Bloch said:
"Mr Caven …, having previously been informed by me that there were good prospects for the Australian project, sabotaged negotiations by making unfounded claims of criminal activity to key figures in the venture."
Mr Bloch also said:
"All that was done was we set up a new structure where I think it's BWBA would be the retail side holding the Spectrum licences and PVA would be dealing with that sort of technical back end."
The references to Mr Caven's "interference" and "unfounded claims of criminal activity" arise out of a conversation that he had in 2006 with a Mr Jim Pratt. Mr Pratt said that he was "contracted directly personally and paid by Murray Richards to resolve some supply problems and address some technical problems with the Adaptix equipment that was supplied by PVA to Countrytel in Albury". Mr Caven explained that he had been told by KordaMentha that Mr Pratt might be able to help him understand the history of CH3/PVUK/PVA.
Mr Pratt gave evidence to the effect that he had been telephoned by Mr Caven on 16 May 2006. As Mr Pratt remembered events, Mr Caven "first introduced himself as being involved with Korda Mentha" and "led [him] to believe that he was interested in [him (Mr Pratt)] speaking out against Murray Richards' character". Mr Pratt said in a witness statement:
"I do remember that Caven was a determined sort of bloke and was very insistent and manipulating in trying to get me to commit to blackening Murray's name. I remember he asked me if I knew there were warrants out for the arrest of Murray in the UK on criminal charges for fraud. He also said he was a bankrupt many times over and a conman and that if I could help with digging up more dirt on Murray he could 'nail him'."
Mr Caven accepted that, in attempting to understand the affairs of CH3 and PVUK, he had spoken to Mr Pratt with a view to obtaining further information about Mr Richards. He pointed out, however, that he had expressly told Mr Pratt in an email of 11 May 2006 (i.e. in advance of the 16 May conversation) that he was "a partner at Grant Thornton (in Scotland)", as well as that he had been given Mr Pratt's contact details by KordaMentha. Mr Caven also denied that he had told Mr Pratt that "Mr Richards had been a bankrupt may times over and a conman". Mr Caven said:
"I had no knowledge of Mr Richards having been made bankrupt and would not make a statement that I could not support. I was also very cautious in my conversation with Mr Pratt. I did not know his background nor his relationship with Mr Richards or Mr Bloch."
Mr Caven was also adamant that he had not told Mr Pratt that he was out to "nail" Mr Richards. Mr Caven said that he would "not use that type of language in a phone call".
Where the evidence of Mr Caven and Mr Pratt differ, I prefer Mr Caven's. I do not suggest that Mr Pratt was doing otherwise than tell the truth as he remembered it, but it is noteworthy that an account Mr Pratt gave of events in March 2007, when he is likely to have had a better recollection of his conversation with Mr Caven than he does now, made no mention of his having been told, for example, that Mr Richards was a bankrupt.
In any case, Mr Pratt was clear that, by the time he spoke to Mr Caven, there was no longer any question of resurrecting the "Countrytel model". In cross-examination, Mr Pratt said:
"You need several million dollars to do what I was planning to do and that wasn't available. Plus the fact is that the trial that we were basing the new business model on going to be with Countrytel was not necessarily that successful. We finally got it working but it didn't work out to be, from what I can understand from them, profitable. In fact, I think as a not-for-profit organisation, they intended giving it away for free. I didn't like that model, being a businessman."
There can, in the circumstances, be no question of Mr Caven's dealings with Mr Pratt having "destroyed" or "sabotaged" a promising project.
I consider, moreover, that shares in PVA and BWBA would have been of no or negligible value even if the "Countrytel model" had not foundered. The sale of PVA's business to Broadstorm Jersey will have generated a small dividend for PVA's creditors. Shareholders will have been left empty-handed. In so far as Mr Richards and Mr Bloch sought to suggest otherwise, I do not accept their evidence. It is noteworthy that Mr Richards himself accepted at one point in cross-examination that, if the business of PVA had been transferred out to another company under the DOCA (as it in fact was), its shares would not have had any value.
I should perhaps add that I do not believe Mr Caven acted in any way inappropriately in his dealings with Mr Pratt.
On 24 January 2005, CH3 lent £224,838.83 to Baktofactory Limited ("Baktofactory"). The loan agreement, dated 25 January, provided for the loan to be made to enable Baktofactory to buy and develop some land in Hungary. The loan was to bear interest at a rate of "Euro base plus … 4 (Four) %" and to be repaid by 31 December 2009.
Baktofactory was incorporated in Scotland on 28 August 2004. Its shares are held by Mr Bloch and Mr Harrod, but on trust for Mr Richards or a company beneficially owned by him. Mr Bloch is the only registered director.
After CH3 had gone into liquidation, its liquidators demanded unpaid interest from Baktofactory. Thereafter, the Hungarian property was sold and £178,351 was repaid to CH3.
In cross-examination, Mr Richards said that the Baktofactory shares should not have been held in trust for him and that the project should have been held through C6 or C7. "It was intended," he said, "that the profit would be made so that the money could be passed down to CH3."
Mr Bloch said in cross-examination:
"The tenant who was going to move in was raising some finance and we would have sold them back the building at a profit to CH3 …. As the director of Baktofactory, I would have wanted [to have the profit] streamed back to CH3 so CH3 can meet its commitments."
As Mr Bloch accepted, the "tenant" would have been Baktochem Kft, another company ultimately owned by Mr Richards.
On 25 January 2005, CH3 paid £189,068.88 (or US$350,000) for a convertible promissory note issued by Twisted Pair Solutions Inc ("Twisted Pair"). The loan note provided for interest to be paid at Prime Rate plus 1%, but also for each party to have the right to convert the loan into shares. In the event, Twisted Pair opted for conversion, and 72,847 shares in the company were issued to CH3.
Twisted Pair had been incorporated in Washington on 21 November 2003. As Mr Bloch accepted in cross-examination, the company was at an early stage of its development. A business plan dated 14 March 2005 explained:
"In 2004 – Twisted Pair's first year of sales – the company generated just under $2M in revenue and completed with its partners over 55 customer installations of products that were 'Powered by WAVE'. Through the establishment of operational excellence and an expanded list of over 40 partners, Twisted Pair is projecting profitable operations in 2005 with $6M in revenue and significant, consistent growth over the next 5 years presented in this business plan."
Others associated with Mr Richards and Mr Bloch also acquired shares in Twisted Pair. 4G Communications (Jersey) Limited ("4G Communications"), of which Mr Richards was the ultimate beneficial owner, was granted some 1.7 million shares on 26 January 2005 and gained 20,000-odd further shares in July. By then, Mr Richards had himself been granted, it seems, some 238,000 shares, on 28 February, and Mr Bloch's father appears to have purchased 25,000 shares in October 2005. In total, nearly 18% of Twisted Pair's shares were apparently held by 4G Communications, Mr Richards, Mr Bloch's father and CH3.
To date, CH3's shares in Twisted Pair have not produced any return.
On 6 December 2004, Skyway Communications Holdings Corp. ("Skyway") and International Communications Group Inc (doing business as Corban Networks Inc) ("Corban") entered into a letter of intent confirming their intention to enter into a formal agreement for the purchase by Skyway of Corban's business for a total of US$28 million. By an addendum dated 27 January 2005, it was agreed that a "to-be-formed affiliated assignee" of 4G Communications should take Skyway's place and "deposit in escrow with Corban's counsel an earnest money deposit of $250,000" within five business days. At some point, it was agreed that any sale would be of Corban's stock rather than its business.
The money to make the US$250,000 deposit came from CH3. On 13 February 2005, CH3 (via lawyers) transferred £134,071.07 (or US$250,000) to B-Quad Networks Corp. ("B-Quad"), and on the following day an "Earnest Money Escrow Agreement" was concluded between, among others, Corban and B-Quad in respect of the US$250,000. On the same day, B-Quad Communications Corp. wrote to Mr Richards about a proposal for 4G Communications to invest £500,000 in B-Quad International Inc, which would own, among other things, B-Quad.
Mr Richards had referred to the need for a US$250,000 deposit to be paid in an email to Mr Bloch of 27 January 2005. Mr Richards said this in that email:
"David Boon & I seem to be very close to negotiating Terms for the Purchase of Corban Networks Inc. We are proposing to use a Delaware Newco to be formed for the purposes of acquiring Corban Networks Inc.
My previous Email indicates a requirement for an Earnest Deposit in the sum of $US250k to be sent to Cairncross Hemplemann Client Account … together with instructions for the funds to be loaned to the Newco, secured by a Convertible Loan Note at an Interest Rate of Prime plus 1% for a Term of 6 months, and for the Newco to use the funds as an Earnest Deposit in its transaction to purchase Corban Networks Inc.
CH3 are to be offered Rights of Conversion to Common Stock in the Newco, prorata in percentage of Newco's Common Stock of the Purchase Cost price paid by Newco for Corban, and included as Conversion terms in the Loan Note. [eg, if Newco pays $20m for Corban, CH3 has rights to convert its Loan Note into Common Stock of Newco in the percentage of 250,000/20,000,000 = 1.25% of the Issued Common Stock of Newco at the time of Purchase."
At that stage, therefore, the plan seems to have been for Corban to be acquired by a newly-formed Delaware corporation rather than B-Quad. Further, while Mr Richards' email contemplated that CH3 would have a convertible loan note, no written agreement of any kind was in fact entered into in respect of the US$250,000 provided by CH3.
Negotiations between Corban and B-Quad ended in April 2005 without any sale of Corban or its business having been consummated. On 13 April, B-Quad requested the return of its deposit, but Corban disputed that it was repayable. On 22 August, an arbitrator concluded that that B-Quad was not entitled to recover its deposit, taking the view that "there is not sufficient evidence to indicate the assets and business operations of [Corban] were not as represented in the Asset Purchase Agreement".
On 11 February 2005, CH3 (via lawyers) transferred £270,871.23 (or US$500,000) to HomeNet Corporation ("HomeNet"), a Delaware corporation. On 15 February, HomeNet issued a convertible promissory note in favour of Mr Richards for US$500,000 with interest at Prime Rate plus 1%. Mr Richards was to have the right to convert the debt into shares in HomeNet. If, however, he did not do so, the principal and interest were payable 90 days after the date of the loan note.
An assignment provides for the promissory note to be assigned to CH3 "for security purposes" as at 15 February 2005. The American attorney who prepared the assignment gave CH3's liquidators the following explanation of it:
"We put the Promissory Note in Murray's name. There was time pressure to get the funds to HomeNet, and Murray was in town and available to sign the note, which we needed the original of. However, the money came from CH3 …, and Murray and Stephen agreed to assign the note from Murray to CH3 at that time because the actual investment came from CH3. We did not document the assignment at that time, but both Murray and Ch3 were in agreement that the note was assigned.
In October, 2005, I realized that we did not have the assignment documented in our files, and confirmed that Murray and CH3 did not sign one without involving me. Therefore I put one together then, and made it effective as of the date of the Promissory Note, since that was the date that the assignment actually took place (and the date the CH3 wired the money)."
In January 2005, Mr Richards had confirmed to HomeNet in a letter that he had:
"agreed to provide or procure funding for HomeNet … in the Sum of up to $12,000,000 … for general corporate purposes and specifically, to enable HomeNet to execute a proposed telecommunications contract with the United States Air Force at Kunsan Air Base, Republic of Korea".
In March 2005, a due diligence review of HomeNet described the company in these terms:
"Homenet is a start up company that is experiencing growth pains, is yet to achieve a year to date profit and requires significant investment of capital, human and financial resources."
It was noted that Homenet was "[t]echnically insolvent". The attorney involved told CH3's liquidators:
"when the loan was made, it was understood by all that it was an extremely high risk investment. Homenet's filing with the SEC confirms that at the time the loan was made they did not have the money to repay it."
HomeNet brought insolvency proceedings in late 2005, and none of the US$500,000 has been recovered.
Problems in Scotland
By December 2004, the P4 Property group had run into trouble. Mr Richards attributed the problems to mismanagement on the part of Mr Richard Pirie, who was a director of all or most of the Jersey companies of which Mr Richards was the ultimate owner. "Money," Mr Richards said, "was used that should not have been used for what it was used for," and "that denuded the two most powerful projects we had in the UK". Whatever the cause, a bank that was financing a project in Dundee called in its loan and receivers were appointed. A company called Firbrae Limited, which had given a cross-guarantee, also collapsed.
On 9 June 2005, Mr Bloch passed a resolution for a petition to be presented for CH3 to be wound up. Such a petition was presented on 14 June, and Mr Bryan Jackson of PKF was appointed as provisional liquidator the same day. In due course, Mr Caven and Mr Kevin Mawer, another partner in Grant Thornton, became the joint liquidators of CH3. Since 2008, the liquidators have been Mr Caven and Mr Nicholas Wood, also of Grant Thornton.
Mr Bloch's role in other companies associated with Mr Richards
Both before and after CH3 went into liquidation, Mr Bloch became a director of a number of further companies associated with Mr Richards. Mr Bloch explained matters as follows in his witness statement:
"Later I was asked by Murray Richards and Mr Pirie whether I would consent to be Director for a number of UK companies which they were investing in or had already invested in. These were property companies in England and Scotland. When Murray Richards's Scottish Director Mr Harrow was dismissed for 'financial irregularities' I also joined the boards of the two larger developments in Scotland."
Thus, Mr Bloch became a director of, for example, various special purpose vehicles with names beginning "P4Property" (e.g. P4Property (Streatley) Limited) as well as Firbrae Limited (a Scottish property company) and Heath House Owners Limited. While some of the companies of which Mr Bloch was a director were property companies, others were not: for instance, 4G Services Limited and Centenary Consulting Services Limited (of each of which Mr Bloch was appointed as a director in 2006) were not, as I understand it, engaged in property development.
In January 2009, CH3, acting by its liquidators, brought proceedings against Mr Constant, Mr Bloch, Vivendi and PwC in relation to CH3's £77.7 million loan to C6. As the case proceeded, Vivendi brought its own claim for negligence and/or contribution against PwC. Mr Bloch made similar claims against PwC and also sought contribution from Vivendi.
On 30 September 2010, Vivendi and Mr Constant settled CH3's claims against them in return for a payment of £47 million. As part of the settlement, CH3 assigned to Vivendi all its "rights and interests in any choses in action relating to or in any way arising out of the Proceedings [i.e. the proceedings CH3 had brought] and/or against each of the persons and companies listed in Annex 1". Those listed in that annex included Mr Bloch and Mr Richards.
The litigation that had been initiated by CH3's liquidators was finally concluded by consent orders of 6 January 2011. One of the orders provided, among other things, for all claims Mr Bloch had made against Vivendi and PwC to be dismissed.
The present proceedings were issued on 16 May 2011. Vivendi was originally the only claimant, but I gave permission for CH3 to be added as an additional claimant.
I have already commented on the evidence given by Vivendi's expert witness, Mr Reid (paragraph 53 above). Vivendi also called Mr Constant, Mr Caven and Mr Alex Jay (a solicitor with Lawrence Graham, who acted for Vivendi in relation to the claim brought against it by CH3's liquidators). All three struck me as truthful and generally reliable witnesses.
Mr Richards and Mr Bloch each gave evidence. Giving judgment on proceedings brought against Mr Bloch in Scotland under the Company Directors Disqualification Act 1986, Lord Woolman described Mr Richards and Mr Bloch as "unsatisfactory witnesses" and observed that they both "became evasive when they were asked to explain the basis upon which CH3 had proceeded". I take a similar view. The evidence Mr Richards and Mr Bloch gave was in numerous respects inconsistent with other evidence or the inherent probabilities. On certain issues (for example, plans to let the Ark), the evidence given by Mr Richards and Mr Bloch seemed to lack even internal consistency. To an extent, Mr Richards and Mr Bloch sought, I think, to take advantage of the fact that the documentary record is far from complete. I am afraid that I cannot regard either of them as a reliable witness.
There were two further witnesses. Mr Richards called Mr Pratt, and Mr Bloch called Mr Harrod. I have considered Mr Pratt's evidence above (paragraphs 78-85 above). As for Mr Harrod, his written evidence in particular was careful and, I am sure, largely accurate. At times, however, his desire to help his brother was apparent: for example, when, despite having no first-hand knowledge, he spoke of Mr Caven "basically trying to blacken [Mr Richards'] name" and in his insistence that Mr Pirie "would never allow anyone to lead him". I treat Mr Harrod's evidence with a degree of caution.
Mr Richards and Mr Bloch stressed that they were not able to call Mr Pirie, who has died. I have borne that fact in mind when assessing the evidence.
Vivendi's allegations relate to the £600,000 paid to P4 Consulting under the Consultancy Agreement in March 2004; the £5.314 million dividend paid in May 2004; the £250,000 paid to HCL in July 2004; the £338,289.78 Cloverleaf/Nerdlihc payment of December 2004; the £2,750,000 paid to PVUK in January 2005; the £224,838.83 paid to Baktofactory in January 2005; the £189,068.88 paid to Twisted Pair in January 2005; the £134,071.23 paid to B-Quad in February 2005; and the £270,871.23 paid to HomeNet in February 2005.
It is Vivendi's case that, in procuring CH3 to make each of these payments, Mr Bloch acted in breach of the duty of good faith (or loyalty) he owed as a director of CH3. Mr Richards is alleged to have owed (and broken) a similar duty as a shadow director of CH3. Mr Richards is also said to be liable on the basis that he dishonestly assisted in Mr Bloch's breaches of duty.
Since the present proceedings were not issued until May 2011, more than six years after the last of the payments of which complaint is made, Vivendi accepts that its claims are statute-barred except to the extent that it can rely on section 21(1) of the Limitation Act 1980. The requirements of paragraph (a) of that subsection make it essential for Vivendi to establish dishonesty.
The structure of remainder of this judgment
The issues raised by the proceedings can be conveniently addressed under the following headings:
i) The standard of proof (paragraphs 120-123 below);
ii) Mr Richards as a shadow director (paragraphs 124-132 below);
iii) Mr Richards' duties as a shadow director (paragraphs 133-145 below);
iv) The duty of good faith (paragraphs 146-178 below);
v) Dishonest assistance: legal principles (paragraphs 179-184 below);
vi) Limitation: legal principles (paragraphs 185-190 below);
vii) Dishonesty (paragraphs 191-193 below);
viii) Specific defences (paragraphs 194-201 below).
The standard of proof
The standard of proof applicable in the present proceedings is the ordinary civil standard. It is, accordingly, incumbent on Vivendi to establish its case on the balance of probabilities. If and to the extent that what it alleges is inherently improbable, that is a factor to be taken into account when considering whether the event in question is more likely than not to have occurred.
Lord Hoffmann explained the civil standard of proof as follows in Home Secretary v Rehman  1 AC 153 (at paragraph 55):
"The civil standard of proof always means more likely than not. The only higher degree of probability required by the law is the criminal standard. But ... some things are inherently more likely than others. It would need more cogent evidence to satisfy one that the creature seen walking in Regent's Park was more likely than not to have been a lioness than to be satisfied to the same standard of probability that it was an Alsatian. On this basis, cogent evidence is generally required to satisfy a civil tribunal that a person has been fraudulent or behaved in some other reprehensible manner. But the question is always whether the tribunal thinks it more probable than not."
In In re B (Children)  UKHL 35, Baroness Hale of Richmond pointed out that seriousness and probability need not be related. She said (in paragraph 72):
"… there is no logical or necessary connection between seriousness and probability. Some seriously harmful behaviour, such as murder, is sufficiently rare to be inherently improbable in most circumstances. Even then there are circumstances, such as a body with its throat cut and no weapon to hand, where it is not at all improbable. Other seriously harmful behaviour, such as alcohol or drug abuse, is regrettably all too common and not at all improbable. Nor are serious allegations made in a vacuum. Consider the famous example of the animal seen in Regent's Park. If it is seen outside the zoo on a stretch of greensward regularly used for walking dogs, then of course it is more likely to be a dog than a lion. If it is seen in the zoo next to the lions' enclosure when the door is open, then it may well be more likely to be a lion than a dog."
Nonetheless, in so far as Vivendi makes allegations of dishonesty against Mr Richards and Mr Bloch, I think I should approach matters on the basis that what is alleged is inherently improbable.
Mr Richards as a shadow director
A "shadow director" is:
"a person in accordance with whose directions or instructions the directors of the company are accustomed to act".
However, a person is not to be considered a shadow director:
"by reason only that the directors act on advice given by him in a professional capacity".
See section 741(2) of the Companies Act 1985, section 251 of the Companies Act 2006, section 22(5) of the Company Directors Disqualification Act 1986 and section 251 of the Insolvency Act 1986.
The Court of Appeal considered the statutory definition in Secretary of State for Trade and Industry v Deverell  Ch 340. In paragraph 35, Morritt LJ (with whom the other members of the Court agreed) said:
"(1) The definition of a shadow director is to be construed in the normal way to give effect to the parliamentary intention ascertainable from the mischief to be dealt with and the words used. In particular, as the purpose of the Act is the protection of the public and as the definition is used in other legislative contexts, it should not be strictly construed because it also has quasi-penal consequences in the context of the Company Directors Disqualification Act 1986…. (2) The purpose of the legislation is to identify those, other than professional advisers, with real influence in the corporate affairs of the company. But it is not necessary that such influence should be exercised over the whole field of its corporate activities…. (3) Whether any particular communication from the alleged shadow director, whether by words or conduct, is to be classified as a direction or instruction must be objectively ascertained by the court in the light of all the evidence. In that connection I do not accept that it is necessary to prove the understanding or expectation of either giver or receiver. In many, if not most, cases it will suffice to prove the communication and its consequence. Evidence of such understanding or expectation may be relevant but it cannot be conclusive. Certainly the label attached by either or both parties then or thereafter cannot be more than a factor in considering whether the communication came within the statutory description of direction or instruction. (4) Non-professional advice may come within that statutory description. The proviso excepting advice given in a professional capacity appears to assume that advice generally is or may be included. Moreover the concepts of 'direction' and 'instruction' do not exclude the concept of 'advice' for all three share the common feature of 'guidance'. (5) It will, no doubt, be sufficient to show that in the face of 'directions or instructions' from the alleged shadow director the properly appointed directors or some of them cast themselves in a subservient role or surrendered their respective discretions. But I do not consider that it is necessary to do so in all cases. Such a requirement would be to put a gloss on the statutory requirement that the board are 'accustomed to act' 'in accordance with' such directions or instructions."
Morritt LJ went on to say this (in paragraph 36) about the "use of epithets or descriptions in place of the statutory definition of a shadow director":
"They may be very effective in graphically conveying the effect of the definition in the light of the facts of that case, as shown by their frequent use in the reported cases to which I have referred. But, it seems to me, they may be misleading when transposed to the facts of other cases. Thus to describe the board as the cat's paw, puppet or dancer to the tune of the shadow director implies a degree of control both of quality and extent over the corporate field in excess of what the statutory definition requires. What is needed is that the board is accustomed to act on the directions or instructions of the shadow director. As I have already indicated such directions and instructions do not have to extend over all or most of the corporate activities of the company; nor is it necessary to demonstrate a degree of compulsion in excess of that implicit in the fact that the board are accustomed to act in accordance with them. Further, in my view, it is not necessary to the recognition of a shadow director that he should lurk in the shadows, though frequently he may, for example, in the case of a person resident abroad who owns all the shares in a company but chooses to operate it through a local board of directors. From time to time the owner, to the knowledge of all to whom it may be of concern, gives directions to the local board what to do but takes no part in the management of the company himself. In my view such an owner may be a shadow director notwithstanding that he takes no steps to hide the part he plays in the affairs of the company. Lurking in the shadows may occur but is not an essential ingredient to the recognition of the shadow director."
The present case
Mr Richards and Mr Bloch were both keen to deny that the latter acted on instructions from the former.
On the other hand:
i) By the time CH3 was transferred out of the Vivendi group, it was no longer an ordinary trading company. With the exception of the Ark, the properties of which it held leases were sub-let, but agents were employed to collect the rents and otherwise manage the properties. The main matters that fell to be decided related to what should be done as regards (a) the Ark and (b) the money that had been left in CH3;
ii) Mr Richards' involvement with these matters is apparent from even the rather limited documentary evidence that is available. The Basis of Statement Report reflected a business plan that had been prepared by Mr Richards. Once CH3 had changed hands, Mr Richards discussed his plans and "objectives of moving surplus cash up to C7" at a meeting with PwC. On 12 February 2004, Mr Bloch asked Harper Macleod to "discuss with Murray [Richards]" some advice that had been received from PwC, and on the next day Harper Macleod mentioned that they had "explained to Murray" that the reduction of capital process was "fairly complicated". A 24 March email from Jonathan Edwards refers to a forthcoming meeting with, among other, Mr Richards. In the April, Mr Richards entered into correspondence with both Mr Harrod and Harper Macleod about the terms on which CH3 had been acquired and what, if any, dividend should be paid. In December 2004, SJ Berwin noted in a letter to Mr Bloch that it was "your/Murray's strategy to seek to acquire the freehold interest of each of the properties that is currently leased by CH3" (emphasis added);
iii) The bundles undoubtedly contain emails and letters from professional advisers that are addressed to Mr Bloch. For example, PwC wrote to Mr Bloch by email and letter after meeting Mr Richards in early February 2004. On that occasion, however, PwC sent a letter to Mr Bloch attached to an email "[a]s requested by Murray [Richards]". Sometimes emails and letters can be seen to have been addressed or copied to Mr Richards as well as Mr Bloch. Of particular significance, perhaps, is the fact that the bundles do not contain any responses of real substance from Mr Bloch. Mr Richards can be seen engaging in meaningful dialogue with advisers. The same cannot be said of Mr Bloch;
iv) By his own account, Mr Richards found the projects in which CH3 invested. He maintained that he sent a feasibility study in respect of each project to Mr Bloch, but this seems unlikely. No such feasibility study has been found in CH3's records or been disclosed by Mr Richards or Mr Bloch;
v) Mr Bloch's background in technology meant that he was better equipped to play a significant role in some of the other companies of which he became a director (e.g. PVA) than was the case with CH3. Mr Bloch lacked property experience. Mr Richards, in contrast, had been involved in the industry for decades;
vi) At 12.49 pm on the day the Consultancy Agreement was entered into, Mr Pirie sent Mr Bloch an email in which he said that "we" believed that "the notice period should be 12 months, not one month" and that the "appropriate fee for first priority is £240,000 and the monthly fee £30,000 with 12 months being paid in advance". There is no compelling evidence of Mr Bloch seeking to negotiate;
vii) With the US$250,000 payment to B-Quad, Mr Richards explained that he seemed to be "very close to negotiating Terms for the Purchase of Corban Networks Inc" and that an earnest deposit of US$250,000 was required, and he concluded by saying:
"Should CH3 wish to undertake this offer, please accept by sending the sum of $US250,000 to Cairncross Hempleman's Client Account, with Instructions for them to apply the funds as above."
Mr Bloch replied simply, "The investment and terms are attractive and I will advise acceptance", and he did as he was asked;
viii) On 4 February 2005, Mr Richards told Mr Bloch that he had "a deal to buy into Homenet". Mr Bloch responded, "Sounds great – look forward to the 'debrief'". There is no evidence of him querying the proposed transaction;
ix) I indicated earlier that I do not believe that representatives of Investec Trust Jersey will have been much involved in commercial decision-making notwithstanding Mr Richards' evidence that such people "actually managed the business for [him]". I find the picture Mr Richards and Mr Bloch seek to paint of the latter's role no more credible;
x) During cross-examination, Mr Richards said:
"Stephen [Bloch] usually sought ultimate shareholder support from me on just about – well, probably everything he did."
That comes close to an admission that Mr Bloch was accustomed to act on directions from Mr Richards.
Mr Bloch said this in a witness statement in the proceedings referred to in paragraphs 108-110 above:
"I knew that Murray [Richards] was a 'non-dom'. He is an Australian passport holder but a New Zealander by origin. He seemed to be living all over the place. He was certainly not permanently resident in the UK but he had the use of a property here. I knew that his personal affairs were managed by Investec Trust in Jersey so that if he was involved in any property or other development work involving UK companies he would need nominees or representatives on his behalf and he had in mind that I would be his 'legman' for what I later learned was [CH3]."
In my view, the word "legman" accurately encapsulates Mr Bloch's role. He was not a mere cipher, paid for doing nothing of any substance. He will have spent significant amounts of time on matters relating to CH3 and other companies associated with Mr Richards and been privy to at least much of Mr Richards' thinking. But he was not his own man: he acted on instructions from Mr Richards. He gave effect to Mr Richards' decisions.
In the circumstances, I consider that Mr Bloch was accustomed to act in accordance with directions or instructions from Mr Richards and, hence, that Mr Richards was a shadow director of CH3.
As Mr Richards pointed out, Lord Woolman's judgment in the disqualification proceedings included this:
"All the witnesses including Mr Bloch accepted that he was in sole charge of CH3."
That observation was, however, made on the basis of different evidence in proceedings between different parties in which it was not even alleged that Mr Richards was a shadow director.
Mr Richards' duties as a shadow director
The definition of "shadow director" can be traced back to the Companies (Particulars as to Directors) Act 1917. At that time, the Companies Act 1908 required details of directors to be given in a company's annual returns (section 26(2)) and register of directors (section 75); an overseas company with a United Kingdom presence had, moreover, to file details of its directors at Companies House (section 274). Section 3 of the 1917 Act extended the definition of "director" applicable in relation to these provisions so that it included "any person in accordance with whose directions or instructions the directors of a company are accustomed to act". The same form of words was used in the Companies Act 1928 to impose criminal liability on a person who would now be termed a "shadow director" if he failed to cooperate with a liquidator, and the concept was also used in the Companies Acts of 1948 and 1967. It was not, however, until 1980 that the expression "shadow director" first featured in the legislation. Section 63 of the Companies Act 1980 provided for a "shadow director" to be treated as a director for the purposes of Part IV of the Act (which dealt with duties of directors and conflicts of interest).
The first reported case of which I am aware in which there was reference to a shadow director owing fiduciary duties is Yukong Line Ltd of Korea v Rendsburg Investments Corp of Liberia  2 BCLC 485. Toulson J there said (at 502):
"Mr Yamvrias undoubtedly owed a fiduciary duty to Rendsburg. Although he was not formally a director, he was a 'shadow director' and controlled the company's activities. To remove the funds in Rendsburg's bank account when it had a probable liability to Yukong far in excess of its assets involved a clear breach of that fiduciary duty: West Mercia Safetywear Ltd (in liq) v Dodd  BCLC 250."
Ferris J adopted a similar approach in John v Price Waterhouse (unreported, 11 April 2001), and the Law Commission endorsed Toulson J's views in its 1998 consultation paper "Company Directors: Regulating Conflicts of Interests and Formulating a Statement of Duties". Having noted (in paragraph 17.14) that "[t]he view has been expressed that because the concept of shadow director is a statutory creation it only applies where statutory provisions specify it", the Commission continued (in paragraph 17.15):
"However the better view is that the shadow director is to be regarded as akin to a de facto director and that he can incur the liability of a de jure director under the general law where he effectively acts as a director through the people whom he can influence."
Lewison J, however, arrived at different conclusions in Ultraframe (UK) Ltd v Fielding  EWHC 1638 (Ch). Citing Re Canadian Land Reclaiming and Colonizing Co (1880) 14 Ch D 660 and Ultraframe UK Ltd v Fielding  RPC 24 as authority, he accepted that a de facto director "owes directors' duties to the company in relation to which he performs those functions" (paragraph 1257). In contrast, he considered that the "indirect influence exerted by a paradigm shadow director who does not directly deal with or claim the right to deal directly with the company's assets will not usually … be enough to impose fiduciary duties upon him" (paragraph 1289). In paragraphs 1279 and 1280, Lewison J explained that it had been submitted to him that "the term 'shadow director' is a limited statutory concept of the general law" and that a shadow director, unlike a de facto director, "does not undertake or agree to act in relation to the company in any such way". In paragraph 1284, Lewison J said:
"The instructions that a shadow director gives (and which the de jure directors act upon) may be quite inimical to the company's interests. It would be odd if, in those circumstances, a person who has no direct relationship with the company and who consistently gives instructions inimical to its interests were nevertheless held to have undertaken a duty of loyalty to the company; and to have agreed to subordinate his own interest to those of the company. Moreover the wider the interpretation of the statutory definition, the less easy it becomes to impose upon one who falls within the definition the full range of fiduciary duties imposed upon a de jure or de facto director. I am not persuaded that the mere fact that a person falls within the statutory definition of 'shadow director' is enough to impose upon him the same fiduciary duties to the relevant company as are owed by a de jure or de facto director."
Lewison J's conclusions can be seen from these paragraphs:
"1289 The indirect influence exerted by a paradigm shadow director who does not directly deal with or claim the right to deal directly with the company's assets will not usually, in my judgment, be enough to impose fiduciary duties upon him; although he will, of course be subject to those statutory duties and disabilities that the Companies Act creates. The case is the stronger where the shadow director has been acting throughout in furtherance of his own, rather than the company's, interests. However, on the facts of a particular case, the activities of a shadow director may go beyond the mere exertion of indirect influence.
1290 For example, in the present case it is common ground that Mr Fielding became the sole signatory on Seaquest's bank account. It is, in my judgment, indisputable that as sole signatory on that account he was not entitled to draw on the account for his personal benefit. By voluntarily becoming the sole signatory on that account, he took it upon himself to assume control of an asset belonging to another. That voluntary assumption must, in my judgment, carry with it a duty to use the asset for the benefit of the person to whom it belongs. That duty is properly called a fiduciary duty. However, it is important to recognise that this fact alone does not mean that wider fiduciary duties are imposed upon him. In the case of Northstar, for example, Ms Patey was a signatory on the bank account. She was only a book-keeper. It is plain that she could not have applied Northstar's money for her own benefit, and hence had fiduciary duties as regards the money under her control; but that does not mean that she owed the full range of directors' fiduciary duties to Northstar."
This part of the Ultraframe decision has had a mixed reception. Prentice and Payne observed ((2006) 122 LQR 558, at 562):
"it would be odd if shadow directors were not subject to the full panoply of fiduciary duties in the same way as de facto directors. It is submitted that Ultraframe is not the last word on the question of whether fiduciary duties are owed by a shadow director, for the simple reason that Lewison J. approached this question, wrongly it is submitted, on the basis that such duties are assumed rather than being imposed."
Kershaw, "Company Law in Context", 2nd. ed. (at 330), endorses these criticisms. Gower & Davies, "Principles of Modern Company Law", 9th ed., comments (at paragraph 16-15):
"[Ultraframe] shows the continuing influence of the trustee analogy in the development of directors' duties, but it is submitted that in this case it is an unfortunate one. The judge's approach provides a relatively easy route for the true mover behind the company's strategy to distance him- or herself from liability for the decisions taken, by appointing a compliant board and giving it instructions at crucial points. More important, if the purpose of the law of directors' duties is to constrain the exercise of the discretion vested in the board, it would be unfortunate if those rules did not reach all those involved in that exercise."
At the heart of Lewison J's reasoning, as I understand it, was the idea that the imposition of fiduciary duties depends on the person concerned having undertaken or assumed a responsibility. As Lewison J mentioned, Millett LJ had said in Bristol and West BS v Mothew  Ch 1 (at 18) that a fiduciary is "someone who has undertaken to act for or on behalf of another in a particular matter in circumstances which give rise to a relationship of trust and confidence". The thesis that fiduciary duties stem from undertakings or the assumption of responsibility finds support in many other authorities. For example, Mason J said in a much-quoted passage in Hospital Products Ltd v United States Surgical Corporation (1984) 156 CLR 41 (at paragraph 68):
"The critical feature of these relationships is that the fiduciary undertakes or agrees to act for or on behalf of or in the interests of another person in the exercise of a power or discretion which will affect the interests of that other person in a legal or practical sense."
Professor Edelman (now a judge of the Supreme Court of Western Australia) argued in a 2010 article (126 LQR 302, at 317) that the essential question is:
"did the party, by his words or conduct, give rise to an understanding or expectation in a reasonable person that he would behave in a particular way (for example, not put himself in a position of conflict, not make an unauthorised profit, and act in good faith and in the best interests of the beneficiary)."
That article was cited in F & C Alternative Investments (Holdings) Ltd v Barthelemy (No 2)  EWHC 1731 (Ch),  Ch 613, where Sales J said (at paragraph 225):
"Fiduciary duties are obligations imposed by law as a reaction to particular circumstances of responsibility assumed by one person in respect of the conduct or the affairs of another."
In another recent case, Ross River Ltd v Waveley Commercial Ltd  EWHC 81 (Ch) (reversed on other grounds:  EWCA Civ 910), Morgan J, when considering whether a defendant had owed fiduciary obligations, said (at paragraph 256):
"the underlying question is whether on the specific facts of this case, WCL undertook expressly or by implication a fiduciary obligation to Ross River".
As, however, was noted by the Full Court of the Federal Court of Australia in Grimaldi v Chameleon Mining NL (No 2)  FCAFC 6 (at paragraph 177), there remains "no generally agreed and unexceptionable definition" of a fiduciary. The Court (which included Finn J) went on to say:
"the following description suffices for present purposes: a person will be in a fiduciary relationship with another when and insofar as that person has undertaken to perform such a function for, or has assumed such a responsibility to, another as would thereby reasonably entitle that other to expect that he or she will act in that other's interest to the exclusion of his or her own or a third party's interest."
Rather earlier in his career, Finn J (as Professor Finn) had said in "The Fiduciary Principle" (in Youdan (ed.), "Equity, Fiduciaries and Trusts"):
"The factual setting for the fiduciary question is the relationship one party voluntarily or consensually enters into with another or which he should be taken as having entered into in the circumstances. This suggests that there may be profit in seeking to structure a definition around the responsibility that party has actually, or should be taken to have, assumed or 'undertaken' in the relationship. Professor Austin Scott's definition, a version of which the writer has previously advocated, is the exemplar of this view: 'A fiduciary is a person who undertakes to act in the interests of another person.' But this is in the end unhelpful. A fiduciary responsibility, ultimately, is an imposed not an accepted one. If one needs an analogy here, one is closer to tort law than to contract; one is concerned with an imposed standard of behaviour. The factors which lead to that imposition doubtless involve recognition of what the alleged fiduciary has agreed to do. But equally public policy considerations can ordain what he must do, whether this be agreed to or not. This emerges most clearly in those cases where the fiduciary principle is used to protect property and near property interests, and in the de facto fiduciary relationship cases. At best, all one can ask for is a description of a fiduciary – a description which suggests the essence of the fiduciary idea but which in the end is no more precise than is a description of the tort of negligence. All that the writer would venture is this: a person will be a fiduciary in his relationship with another when and insofar as that other is entitled to expect that he will act in that other's interest to the exclusion of his own several interest."
If an undertaking/assumption of responsibility test is to be reconciled with the case law, that must be by dint of two features: first, the question whether there was such an undertaking/assumption must be determined on an objective basis rather than by reference to what the alleged fiduciary subjectively intended; secondly, the taking on of a role or position must be capable of implying an undertaking/assumption of responsibility. A trustee will not escape fiduciary duties because, subjectively, he did not want to assume them. Nor can it be an answer, as it seems to me, for him to say that no one could reasonably have expected him to act in the beneficiaries' interests because, say, he was known to be a very dishonest and unreliable person. Fiduciary duties will have arisen with his acceptance of the position of trustee, regardless of his personal wishes or reputation.
Any definition of "fiduciary" must accommodate the fact that company promoters are recognised to be fiduciaries. In Erlanger v New Sombrero Phosphate Co (1878) 3 App. Cas. 1218, Lord Penzance (at 1229) and Lord Cairns (at 1236) each stressed the power that a promoter has when explaining why promoters are fiduciaries. Lord Blackburn said this (at 1268-1269):
"Throughout the Companies Act, 1862 (25 & 26 Vict. c. 89), the word 'promoters' is not anywhere used. It is, however, a short and convenient way of designating those who set in motion the machinery by which the Act enables them to create an incorporated company.
Neither does this Act in terms impose any duty on those promoters to have regard to the interests of the company which they are thus empowered to create. But it gives them an almost unlimited power to make the corporation subject to such regulations as they please, and for such purposes as they please, and to create it with a managing body whom they select, having powers such as they choose to give to those managers, so that the promoters can create such a corporation that the corporation, as soon as it comes into being, may be bound by anything, not in itself illegal, which those promoters have chosen. And I think those who accept and use such extensive powers, which so greatly affect the interests of the corporation when it comes into being, are not entitled to disregard the interests of that corporation altogether. They must make a reasonable use of the powers which they accept from the Legislature with regard to the formation of the corporation, and that requires them to pay some regard to its interests. And consequently they do stand with regard to that corporation when formed, in what is commonly called a fiduciary relation to some extent."
If, therefore, an undertaking/assumption is crucial to the existence of fiduciary duties, a promoter's acceptance and use of powers "which so greatly affect the interests of the corporation" must imply an undertaking/assumption of responsibility.
Guidance as to what a relevant assumption of responsibility might involve is also to be found in White v Jones  2 AC 207. In that case, Lord Browne-Wilkinson said (at 271):
"The paradigm of the circumstances in which equity will find a fiduciary relationship is where one party, A, has assumed to act in relation to the property or affairs of another, B. A, having assumed responsibility, pro tanto, for B's affairs, is taken to have assumed certain duties in relation to the conduct of those affairs, including normally a duty of care. Thus, a trustee assumes responsibility for the management of the property of the beneficiary, a company director for the affairs of the company and an agent for those of his principal. By so assuming to act in B's affairs, A comes under fiduciary duties to B."
Assuming to act in relation to the property or affairs of another can thus attract fiduciary duties.
In all the circumstances, there seem to me to be a number of reasons for thinking that shadow directors commonly owe fiduciary duties to at least some degree:
i) A shadow director will have assumed to act in relation to the company's affairs (to adapt Lord Browne-Wilkinson's words in White v Jones) and to ask the de jure directors to exercise powers that exist exclusively for the benefit of the company;
In the end, my own view is that Ultraframe understates the extent to which shadow directors owe fiduciary duties. It seems to me that a shadow director will typically owe such duties in relation at least to the directions or instructions that he gives to the de jure directors. More particularly, I consider that a shadow director will normally owe the duty of good faith (or loyalty) discussed below when giving such directions or instructions. A shadow director can, I think, reasonably be expected to act in the company's interests rather than his own separate interests when giving such directions and instructions.
ii) A person who gives directions or instructions to a company's de jure directors in the belief that they will be acted on can fairly be described as assuming responsibility for the company's affairs, at least as regards the directions or instructions he gives;
iii) Although Parliament has not designated shadow directors as directors for all purposes in the Companies Acts, it has provided for important consequences to flow from the status. For example, a shadow director is treated as a director in the context of chapter 4 of part 10 of the Companies Act 2006 (transactions with directors requiring approval of members) and can be the subject of proceedings under the Company Directors Disqualification Act 1986 (see sections 6(3C) and 8(1)) and held liable for wrongful trading (see section 214(7) of the Insolvency Act 1986). Such provisions presumably reflect a perception that a shadow director can bear responsibility for a company's affairs;
iv) There is a compelling analogy with the position of promoters. Promoters owe fiduciary duties as a result of their acceptance and use of powers "which so greatly affect the interests of the corporation". A shadow director, too, can be said to choose to make use of powers which "greatly affect the interests of the corporation";
v) A shadow director's role in a company's affairs may be every bit as important as that of a de facto director, and de facto directors are considered to owe fiduciary duties;
vi) That a shadow director may not subjectively wish to assume fiduciary duties cannot matter as such;
vii) Public policy, so far as it may matter, points towards fiduciary duties being imposed on shadow directors.
In the present case, the Consultancy Agreement provides an additional reason for concluding that Mr Richards had fiduciary duties. As explained above (paragraph 29), Mr Richards undertook express obligations of loyalty when he entered into that agreement. He agreed that he would "well and faithfully serve CH3 and use his best endeavours to promote the interests of CH3". There can therefore be no question of Mr Richards having been entitled to act "in furtherance of his own, rather than the company's, interests" (to use words of Lewison J). This, in my view, must be a case in which the shadow director (Mr Richards) undertook to act on behalf of the company.
In short, I consider that Mr Richards was subject to the duty of good faith in relation to the directions and instructions he gave to Mr Bloch.
The duty of good faith
The basic rule
At common law, company directors had a duty of good faith (or loyalty). This required them to exercise their powers in what they considered to be the interests of their companies (see e.g. Re Smith & Fawcett Ltd  Ch 304, at 306).
The duty of good faith focuses on a fiduciary's subjective intentions. Thus, in Regentcrest plc v Cohen  2 BCLC 80 Jonathan Parker J explained (at paragraph 120):
"The duty imposed on directors to act bona fide in the interests of the company is a subjective one …. The question is not whether, viewed objectively by the court, the particular act or omission which is challenged was in fact in the interests of the company; still less is the question whether the court, had it been in the position of the director at the relevant time, might have acted differently. Rather, the question is whether the director honestly believed that his act or omission was in the interests of the company. The issue is as to the director's state of mind. No doubt, where it is clear that the act or omission under challenge resulted in substantial detriment to the company, the director will have a harder task persuading the court that he honestly believed it to be in the company's interest; but that does not detract from the subjective nature of the test."
The significance of the interests of creditors: law
While the interests of a company are normally identified with those of its members, the interests of creditors can become relevant if a company has financial difficulties. In West Mercia Safetywear Ltd v Dodd  BCLC 250, Dillon LJ (with whom Croom-Johnson LJ and Caulfield J agreed) endorsed (at 252-253) the following statement of Street CJ in Kinsela v Russell Kinsela Pty Ltd (1986) 4 NSWLR 722:
"In a solvent company the proprietary interests of the shareholders entitle them as a general body to be regarded as the company when questions of the duty of directors arise. If, as a general body, they authorise or ratify a particular action of the directors, there can be no challenge to the validity of what the directors have done. But where a company is insolvent the interests of the creditors intrude. They become prospectively entitled, through the mechanism of liquidation, to displace the power of the shareholders and directors to deal with the company's assets. It is in a practical sense their assets and not the shareholders' assets that, through the medium of the company, are under the management of the directors pending either liquidation, return to solvency, or the imposition of some alternative administration."
The interests of creditors can "intrude" even when a company may not strictly be insolvent. For example, in Colin Gwyer & Associates Ltd v London Wharf (Limehouse) Ltd  2 BCLC 153 Mr Leslie Kosmin QC (sitting as a Deputy High Court Judge) put the position as follows (at paragraph 74):
"Where a company is insolvent or of doubtful solvency or on the verge of insolvency and it is the creditors' money which is at risk the directors, when carrying out their duty to the company, must consider the interests of the creditors as paramount and take those into account when exercising their discretion."
(The emphasis has been added.)
Recent Australian authority is to similar effect. For example, in Kalls Enterprises Pty Ltd v Baloglow  NSWCA 191, (2007) 25 ACLC 1094, Giles JA (with whom Ipp and Basten JJA agreed) said (at paragraph 162):
"It is sufficient for present purposes that, in accord with the reason for regard to the interests of creditors, the company need not be insolvent at the time and the directors must consider their interests if there is a real and not remote risk that they will be prejudiced by the dealing in question."
This passage was quoted with apparent approval in Bell Group Ltd v Westpac Banking Corporation  WASC 239 and, on appeal, Westpac Banking Corporation v Bell Group  WASCA 157. At first instance, Owen J, having quoted from Kalls, said (at 4445):
"The basic principle is that a decision that has adverse consequences for creditors might also be adverse to the interests of the company. Adversity might strike short of actual insolvency and might propel the company towards an insolvency administration. And that is where the interests of creditors come to the fore."
The significance of the interests of creditors: the present case
I am in no doubt that the interests of creditors needed to be taken into consideration in the present case.
As I have mentioned above (paragraph 53), it is apparent from Mr Reid's evidence that CH3 was in fact insolvent from January 2004. That evidence will not of course have been available to Mr Richards or Mr Bloch at the time, but they did not need it to appreciate the vulnerability of CH3's position. CH3 had large rental and other obligations to meet and no income. While the £15.1 million left in the company could be expected to keep it afloat beyond the whitewash period, the money was bound to be exhausted within a relatively short period unless the company's liabilities were reduced and/or new sources of income achieved.
The difficulties facing CH3 were reflected in the Basis of Statement Report. PwC pointed out, for example, that "subletting at reasonable occupancy levels combined with the purchase or renegotiation of the lease will be critical to the ongoing viability of the Company". A sensitivity analysis revealed that, if Project H and attempts at subletting were both to prove unsuccessful, cash stood to be exhausted by September 2005, with headroom as low as £1.8 million by March 2005. Loss of Project H alone was projected to result in cash being exhausted by November 2005.
As time went on, the position worsened. The sources of income anticipated in the Basis of Statement Report did not materialise. Project H failed, and no rental income was achieved. In fact, as I have said above (paragraph 35), it seems to me that from a very early stage those associated with CH3 were not thinking in terms of trying to let any of the Ark unless and until they had managed to acquire the freehold, yet it was not until August 2004 that there was a meeting with Deka.
By then, CH3 had made large payments for which there had been no provision in the forecasts used for the Basis of Statement Report. Thus, £600,000 had been paid under the Consultancy Agreement, £5.314 million had been paid by way of dividend and £250,000 had been paid to HCL. These payments will have made still more remote the chances of CH3 surviving much beyond the end of the whitewash period.
When the meeting with Deka finally took place, it did not result in any agreement for the purchase of the freehold of the Ark. On the contrary, attempts to persuade Deka to sell the freehold of the Ark at a "realistic" price proved fruitless, and by December 2004 it was being proposed that CH3's landlords should be asked to accept just one month's rent.
I am sure that those associated with CH3 were well aware of the company's fragility. It was obvious. On top of that, Mr Harrod referred to the fact that the company had a "finite life" without future income when writing to Mr Richards in April 2004. Further, Mr Harrod secured a £150,000 "security deposit" to protect his position, and the provision in the Consultancy Agreement for an upfront payment of £600,000 will also, I think, have reflected concerns about CH3's prospects.
The likelihood is, I think, that it was for similar reasons that no steps were taken with a view to letting any of the Ark. It will have been understood that (a) preparing the building for letting would require capital expenditure of some £2.5 million, (b) no rental income was likely to be generated for a year or more and (c) outgoings on the property would still be greater than receipts. After all, the "best case" scenario used in Jonathan Edwards' April 2004 report produced an exit cost of £13.2 million, implying that outgoings would exceed receipts even on that (optimistic) basis. The chances are that Mr Richards and Mr Bloch reckoned that, absent a change of circumstances, CH3 would not survive long enough to recoup the capital expenditure that letting the Ark would require.
Were the payments at issue made in the interests of CH3 and its creditors?
The later payments
It is convenient to begin by considering the six payments made between December 2004 and February 2005.
The first of the payments, in favour of Cloverleaf/Nerdlihc, was made on 6 December 2004, about the time that Deka was told that continued trading was "not an option – predicted insolvency due to rent shortfall on the leases" and shortly before it was agreed with SJ Berwin that CH3's landlords would be asked to accept surrenders of the company's leases for just a month's rent, "failing which the board of CH3 will have to consider whether to place CH3 into liquidation". Five further payments were made in quick succession between 24 January and mid-February of 2005. When the various payments were made, it will have been clear that CH3 would be unable to pay accruing liabilities in the very near future unless CH3's landlords accepted the most unattractive proposals that CH3 was putting forward, and there was no indication that they would.
CH3 nonetheless paid away money in circumstances where it could not be sure that it would recover it in the near future. To be fair, the Cloverleaf letter (paragraph 59 above) provided for repayment by 28 February 2005, but (a) Mr Campbell's letter to Mr Bloch suggests that money was in fact being lent to Nerdlihc with repayment originally scheduled to take place by 30 June 2005 and (b) the loan was unsecured, and Nerdlihc had recently been the subject of insolvency proceedings. The £2.75 million paid to PVUK entitled CH3 to shares in PVA, a company which had "generated minimal revenues, whilst incurring significant start up investment costs", and BWBA, which was only incorporated on 17 January 2005; to make matters worse, CH3 agreed to PVUK's obligations being assigned to WiMax, a company with a £2 share capital. The loan to Baktofactory did not have to be repaid until the end of 2009. Twisted Pair was entitled to convert the loan made to it into shares, leaving CH3 with an interest in a company which had only just completed its first year of sales. Such evidence as there is indicates that the B-Quad payment was to be for a term of at least six months. The HomeNet payment does not seem to have been repayable before May 2005, and HomeNet was a "start up company that is experiencing growth pains" and "[t]echnically insolvent".
Where the payments were made by way of loan, the terms were not especially attractive. The Cloverleaf letter provided for interest to be paid at 3% above LIBOR, the Baktofactory loan was at "Euro base plus … 4 (Four) %", Twisted Pair was to pay interest at Prime Rate plus 1% until conversion, and the B-Quad and HomeNet payments may have borne interest at a similar rate. Such rates will not have reflected the risks inherent in lending to a company that had recently been the subject of insolvency proceedings, had only just completed its first year of sales or was a "start up company" "experiencing growth pains" and "[t]echnically insolvent".
Mr Richards and Mr Bloch maintained that the documentary evidence does not always tell the full story. The Cloverleaf/Nerdlihc payment was to be linked to warrants; any profit Baktofactory made was to be passed to CH3. There is, however, no contemporary evidence to support such claims, and I do not accept them.
Mr Bloch spoke of having assumed that, if necessary, Mr Pirie would make available money from elsewhere in the group. It seems that money was made available to enable CH3 to pay the rent that fell due to its landlords in December 2004. There is, however, no compelling evidence that there was a real prospect of money being injected to meet liabilities arising after the whitewash period, when Mr Richards' guarantee would be spent.
In all the circumstances, I cannot see how Mr Richards or Mr Bloch can have seen any of the later payments as in the interests of CH3 as such or those of its creditors, and I do not believe that they did. It seems to me that none of the payments was made in the interests of CH3 or its creditors. Mr Richards and Mr Bloch were seeking to extract CH3's remaining cash from the company before it failed and, hence, to thwart the company's landlords rather than to benefit them. The Phonevision transfers of 28 January (as to which, see paragraphs 70-71 above) were, I think, designed to ensure that C7 did not owe any money to CH3 on the latter company's liquidation. The likelihood is that the other transactions were also intended to benefit Mr Richards or companies associated with him in one way or another.
The loan CH3 made to HCL was repayable by 10 January 2005 (so before rent became due in March 2005) and supported by security. On the other hand, the lending was known to be being made in a "distressed situation", the return for which the loan agreement provided (interest at base rate plus 3% and a 1% fee) was unremarkable, and Mr Bloch accepted that he had not undertaken any "detailed due diligence" into the Skinners (who were giving guarantees). Moreover, it will already have been apparent that CH3 had no money to spare – in fact, that it stood to be unable to pay its bills much beyond the whitewash period.
As explained above (paragraphs 57-58), Mr Richards and Mr Bloch sought to justify the transaction on the basis that CH3 was expected to benefit from one or more property developments. However, there is no documentary evidence that there was any idea of CH3 undertaking a property deal with HCL or any other Herongate company. This idea, like that that the Cloverleaf/Nerdlihc payment was to be linked to warrants, strikes me as an invention.
While the position is less clear-cut here than with the later payments, on balance I consider that the payment to HCL, like the later payments, was not made in the interests of CH3 as such or its creditors. Miss Leahy may well be correct that the payment was made to support in some way a development being undertaken by a Herongate company in conjunction with the P4 Property group.
The largest of the payments challenged by Vivendi is the dividend paid on 26 May 2004.
In my view, this payment, like those discussed above, was not made either in the interests of CH3 as such or with any proper regard to the interests of its creditors. My reasons include these:
i) The dividend served to remove from CH3 more than a third of the money that Vivendi had left in the company even though (a) Project H was known to have failed, (b) no steps were being taken to generate a rental income from the Ark and (c) Deka had not yet even been asked whether it would sell the freehold. As things stood, CH3 was obviously going to find itself unable to meet its obligations to its landlords relatively soon;
Although Mr Richards said in cross-examination that he "wasn't comfortable with the concept of the dividend", the documentary evidence indicates otherwise.
ii) Mr Harrod highlighted this point in an email to Mr Richards. As Mr Harrod said, CH3 had "no income cash flow to meet lease commitments which run for many years" and, "without future income", had a "finite life";
iii) PwC drew attention to the need to consider the continuing ability of CH3 to pay its debts as they fell due and to be satisfied that the assumptions used by Jonathan Edwards in their report were appropriate (see paragraphs 44 and 49 above);
iv) It must have been apparent to Mr Richards and Mr Bloch that those assumptions were not in fact appropriate, for the reasons given in paragraph 50 above;
v) While Mr Richards and Mr Bloch claimed that the dividend was to be used to generate money which would be passed down to CH3, the claim is unsupported by either contemporary documents or subsequent events.
The chances are that the dividend was paid with a view to extracting money from CH3 in advance, and regardless, of any failure of the company, not because it was thought to be in the interests of CH3 or compatible with the interests of creditors.
The Consultancy Agreement
As explained earlier (paragraph 30), P4 Consulting was paid £600,000 pursuant to the Consultancy Agreement. This comprised (a) £240,000 to "retain the services of the Consultant [i.e. Mr Richards] on a first priority basis" and (b) fees of £30,000 a month for a year.
In one of his witness statements, Mr Richards said this about the Consultancy Agreement:
"the Consultancy Fees were based upon realistic cost to replace me at p4property group, and to have first call on my time, and to have first right on any projects or deals I may source for the relevant period."
When Mr Bloch was asked about the £600,000 payment, he said:
"Richard Pirie said to me he was going to have to take on a lot of extra cost … because of the CH3 acquisition. So there wasn't just a question of paying Murray [Richards] for his time. It was also the amount of extra work that was envisaged replacing Murray by P4 Property Consulting because … so much of Murray's time would be taken up with CH3 business or Centenary business."
i) I was not convinced by the reasons that were given for thinking that the P4 Property group would have to incur substantial extra costs as a result of Mr Richards becoming involved in CH3. Mr Richards was the group's rainmaker before CH3 was transferred, but he remained so afterwards; Mr Richards himself spoke of being "too busy working on projects in [his] group" to do anything directly for CH3. Further, I cannot see that Mr Richards would have taken on much, if any, of the work done by Mr Pirie or even Rydens had he not been spending time on CH3 matters;
In the circumstances, I have concluded that the Consultancy Agreement, like the dividend payment, was motivated by a desire to remove money from CH3 before, and regardless of, any future failure of the company, and that it was not entered into because it was considered by either Mr Bloch or Mr Richards to be in the interests of CH3 or its creditors.
ii) In any case, I cannot see how any additional costs that the P4 Property group might have had to incur can adequately explain the £240,000 retention fee or the total upfront payment of £600,000. Any additional services the P4 Property group might have needed to obtain would presumably have been paid for on an ongoing basis. There is no reason to suppose that, say, Mr Pirie or Rydens would have required an upfront payment;
iii) The evidence indicates, on balance, that other group companies were not required to make similar payments for what Mr Richards did for them;
iv) As I have explained, I consider that CH3 made other payments otherwise than in the interests of CH3.
In my view, both Mr Bloch (as CH3's de jure director) and Mr Richards (as a shadow director) acted in breach of duty in causing CH3 to make the various payments at issue. I do not consider that the payments were made, or believed to be, in the interests of CH3 as such or those of its creditors.
Dishonest assistance: legal principles
"A liability in equity to make good resulting loss attaches to a person who dishonestly procures or assists in a breach of trust or fiduciary obligation" (Royal Brunei Airlines v Tan  2 AC 378, at 392, per Lord Nicholls).
Lord Nicholls commented on what "dishonesty" means in this context in the Tan case. He said (at 389):
"Whatever may be the position in some criminal or other contexts …, in the context of the accessory liability principle acting dishonestly, or with a lack of probity, which is synonymous, means simply not acting as an honest person would in the circumstances. This is an objective standard. At first sight this may seem surprising. Honesty has a connotation of subjectivity, as distinct from the objectivity of negligence. Honesty, indeed, does have a strong subjective element in that it is a description of a type of conduct assessed in the light of what a person actually knew at the time, as distinct from what a reasonable person would have known or appreciated. Further, honesty and its counterpart dishonesty are mostly concerned with advertent conduct, not inadvertent conduct. Carelessness is not dishonesty. Thus for the most part dishonesty is to be equated with conscious impropriety. However, these subjective characteristics of honesty do not mean that individuals are free to set their own standards of honesty in particular circumstances. The standard of what constitutes honest conduct is not subjective. Honesty is not an optional scale, with higher or lower values according to the moral standards of each individual. If a person knowingly appropriates another's property, he will not escape a finding of dishonesty simply because he sees nothing wrong in such behaviour."
In Twinsectra Ltd v Yardley  2 AC 164, Lord Hutton, with whom Lords Slynn, Steyn and Hoffmann agreed, said (in paragraph 36) that "dishonesty":
"requires knowledge by the defendant that what he was doing would be regarded as dishonest by honest people, although he should not escape a finding of dishonesty because he sets his own standards of honesty and does not regard as dishonest what he knows would offend the normally accepted standards of honest conduct."
The Twinsectra decision was widely taken to mean that a person could not be dishonest unless he appreciated that his conduct would be regarded as dishonest by honest people. However, the Privy Council held otherwise in Barlow Clowes International Ltd v Eurotrust International Ltd  1 WLR 1476. Lord Hoffmann, giving the judgment of the Board, said (at paragraph 15) of the remarks made by Lord Hutton in Twinsectra:
"The reference to 'what he knows would offend normally accepted standards of honest conduct' meant only that his knowledge of the transaction had to be such as to render his participation contrary to normally acceptable standards of honest conduct. It did not require that he should have had reflections about what those normally acceptable standards were."
The Courts have since proceeded on the basis that a person can be dishonest regardless of whether he appreciates that his conduct would be considered dishonest by ordinary honest people: see e.g. Abou-Rahmah v Abacha  1 Lloyd's Rep 115, Starglade Properties Ltd v Nash  EWCA Civ 1314 and the other cases cited in Underhill & Hayton, "Law of Trusts and Trustees", 18th ed., at paragraph 98.63.
In the Starglade Properties case, Morritt C (with whom the other members of the Court agreed) observed (in paragraph 39):
"[T]he question was whether the relevant conduct of [the defendant director] in seeking to frustrate [a creditor of the defendant's company], given that he knew that [the defendant's company] was insolvent but otherwise had sufficient assets to pay a dividend to its creditors, was dishonest …. The deliberate removal of the assets of an insolvent company so as entirely to defeat the just claim of a creditor is, in my view, not in accordance with the ordinary standards of honest commercial behaviour, however much it may occur."
Limitation: legal principles
So far as relevant, section 21 of the Limitation Act 1980 provides as follows:
"(1) No period of limitation prescribed by this Act shall apply to an action by a beneficiary under a trust, being an action—
(a) in respect of any fraud or fraudulent breach of trust to which the trustee was a party or privy; or
(b) to recover from the trustee trust property or the proceeds of trust property in the possession of the trustee, or previously received by the trustee and converted to his use….
(3) Subject to the preceding provisions of this section, an action by a beneficiary to recover trust property or in respect of any breach of trust, not being an action for which a period of limitation is prescribed by any other provision of this Act, shall not be brought after the expiration of six years from the date on which the right of action accrued."
This provision applies in relation to company directors as well as true trustees: see Gwembe Valley Development Co Ltd v Koshy  EWCA Civ 1048,  1 BCLC 131, at paragraphs 111-112. In consequence, a claim against a director will become statute-barred after six years unless section 21(1) of the 1980 Act is in point.
For section 21(1)(a) to be applicable to a claim against a director, the director must have been implicated in dishonest conduct. In Armitage v Nurse  Ch 241, the Court of Appeal concluded (at 260) that section 21(1)(a) is "limited to cases of fraud or fraudulent breach of trust properly so called, that is to say to cases involving dishonesty". A trustee will, Millett LJ explained (at 251), be acting dishonestly if he "acts in a way which he does not believe is in … interests [of the beneficiaries]".
Where a director has been guilty of dishonest conduct, section 21(1)(a) may preclude the normal six-year limitation period from operating, not only as regards the director himself, but also in relation to anyone who dishonestly assisted him in his breach of duty. The recent decision of the Court of Appeal in Williams v Central Bank of Nigeria  EWCA Civ 415,  QB 499 is authority for the proposition that:
"an action by a beneficiary under a trust may be brought in respect of any fraud or fraudulent breach of trust to which the trustee was party or privy against both that trustee and any other person who dishonestly assisted him in such fraud or fraudulent breach of trust, in either case, after the expiration of the period for which section 21(3) provides."
Section 21(1)(b) applies to claims "to recover from the trustee trust property or the proceeds of trust property in the possession of the trustee, or previously received by the trustee and converted to his use". A director need not necessarily still have the relevant property; the provision extends to claims to recover property "previously received by the trustee and converted to his use": see e.g. J J Harrison (Properties) Ltd v Harrison  1 BCLC 162, at paragraphs 39-40.
The decision of Mr Richard Field QC, sitting as a Deputy High Court Judge, in Re Pantone 485 Ltd  1 BCLC 266 indicates that section 21(1)(b) can apply where property has been transferred to a company controlled by a director rather than to the director himself. Mr Field said (in paragraph 44):
"In my judgment, as a matter of basic principle, where a fiduciary uses his beneficiary's money to confer a benefit on a company he controls he is denying the beneficiary's title to the money for his own purposes and this amounts to a conversion for his own use. The same is true where a fiduciary causes his beneficiary to incur a liability for the benefit of a company which the fiduciary controls. Since this is what the applicant is in substance alleging under the MOVP claim, I hold that this claim is within s 21(1)(b) of the Limitation Act and is therefore not statute-barred."
Issues as to dishonesty arise in two ways:
i) The claims against Mr Richards and Mr Bloch for breach of fiduciary duty will be statute-barred unless section 21(1) of the Limitation Act 1980 applies. Section 21(1)(a) will be applicable if Mr Richards and Mr Bloch acted dishonestly;
Were, then, Mr Richards and Mr Bloch dishonest? In my view, they were. On the basis of the findings I have made, they acted in ways that they did not believe were in the interests of CH3 as such or those of its creditors. Far from giving proper consideration to the interests of CH3's creditors, Mr Richards and Mr Bloch sought to extract money from the company before it failed and to thwart the landlords' claims; they caused the company to enter into transactions with a view to removing money from CH3 before, and regardless, of any failure of the company. There is an analogy with Starglade Properties Ltd v Nash, where the Court of Appeal pointed out that the "deliberate removal of the assets of an insolvent company so as entirely to defeat the just claim of a creditor is … not in accordance with the ordinary standards of honest commercial behaviour". Mr Richards' and Mr Bloch's conduct was, it seems to me, also contrary to normally acceptable standards of honest behaviour.
ii) It follows from what I have said earlier in this judgment that, in my view, Mr Richards procured the breaches of duty that I consider Mr Bloch to have committed. Mr Richards will nonetheless be liable for dishonest assistance only if (a) he was dishonest himself (that being an essential ingredient of dishonest assistance) and (b) Mr Bloch was too (so that section 21(1)(a) of the 1980 Act is in point on the basis explained in Williams v Central Bank of Nigeria).
In the circumstances, subject to the points considered below, I consider Vivendi to have made good its claims as against both Mr Richards and Mr Bloch. I should perhaps add that my conclusions as to the applicability of section 21(1)(a) of the Limitation Act make it unnecessary for me to consider further the arguments Miss Leahy advanced on section 21(1)(b) of the Act.
Advice in January 2004
Mr Bloch complains that Vivendi "wilfully withheld" a warning it received from PwC on 22 January 2004. The point arises out of a letter of that date to Mr Constant in which PwC said:
"However, as we have already pointed out to you, you should recognise that there remains some risk that in the event of a future default by CH3 on the onerous lease(s), that the lessor(s) would seek redress from Vivendi by challenging the validity of the restructuring and the cash payment out of CH3, for example by asserting that the sale price of CH3 to C6 was overvalued and the subsequent return of cash was an unlawful distribution or that the upstream loan by CH3 was not recoverable and hence CH3 did not have net assets at the point of giving of financial assistance."
I cannot see how the fact that Vivendi did not tell Mr Bloch or Mr Richards of this warning can provide them with any defence to the present proceedings. It is not clear that a letter that PwC sent to Mr Bloch on the same day did not include a similar warning, and, even if it did not, the Basis of Statement Report, which was available to Mr Richards and Mr Bloch, noted that the "upstream loan is potentially fragile" and that there was a "risk that the whole transaction could be deemed unlawful (and therefore capable of being set aside) if the valuation of CH3 is not supportable". In any case, the present proceedings relate, not to how CH3 was transferred in January 2004, but to the propriety of payments that the company was caused to make during the next 13 months or so. The propriety of the payments cannot be affected by any failure to pass on PwC's warning.
Mr Richards and Mr Bloch challenge the validity of the £8.7 million dividend purportedly declared on 22 January 2005. The suggestion is essentially that Mr Constant was no longer a director of CH3 when he signed the resolution approving the dividend. However, the chances are, in my view, that Mr Constant remained a director of CH3 until after the resolution had been signed. Even if I were wrong about that, I should not have thought that the point could provide Mr Richards or Mr Bloch with a valid defence to the present proceedings.
The settlement negotiations
It is Mr Bloch's case that he was misled into agreeing to the order of 6 January 2011 by which his claims against Vivendi and PwC were dismissed (paragraph 110 above). He said this in a witness statement:
"[Vivendi] assured me by telephone and in emails to elicit a Settlement with me (the dropping of my Part 20 Claims against them and PwC) that order sought 'disposes of all claims in the litigation', in what I and my then Solicitor were told by [Vivendi] was a 'drop hands' settlement and an end to the matter;
[Vivendi] acted dishonestly in this regards. It follows that [Vivendi] had intended to raise these proceedings once they had elicited settlement by me, in particular through my dropping of my Part 20 against PwC…. They also disguised documents to mislead me (and my Solicitors Edwin Coe LLP) into settling with them."
The solicitor at Lawrence Graham (Vivendi's then solicitors) who dealt with Edwin Coe and Mr Bloch in relation to the disposal of the proceedings CH3 had brought was Mr Jay. Mr Jay summarised his position in these terms at the end of his witness statement:
"In summary, I did not knowingly mislead Mr Bloch in any way regarding the effect of the Consent Order or the settlement of the Financial Assistance Proceedings generally (in respect of which he was advised by Edwin Coe up until at least (and including) 23 December 2010, and subsequently he said that he took his own legal advice on the effect of the Consent Order in any event). Further, … during my exchanges with Mr Bloch in late December 2010, I believed that Mr Bloch was actually seeking to preserve his rights to make claims against Vivendi and PwC, rather than seeking an assurance that no further claims would be brought against him by Vivendi or CH3. I therefore do not see any basis for the allegations which he has made against me and Vivendi in his Defence and evidence."
I accept Mr Jay's explanations. I have not been persuaded that he misrepresented anything to either Edwin Coe or Mr Bloch himself.
Late in the proceedings, Mr Richards and Mr Bloch challenged Vivendi's standing to bring them. They maintained, in particular, that they had not been given the requisite notice of the assignment that the liquidators executed in Vivendi's favour. The argument was based at least in part on Scottish law, on which I have no expert evidence. Since, however, CH3 is itself a claimant, I do not think this point can be of practical importance.
Relief from liability
Mr Richards and Mr Bloch have asked for relief to be granted under what is now section 1157 of the Companies Act 2006. That empowers the Court to relieve a person from liability if he "acted honestly and reasonably" and "ought fairly to be excused". It follows, however, from what I have said earlier in this judgment that I do not consider these conditions to be satisfied. I shall not, therefore, grant relief from liability.
The claim succeeds as against both Mr Richards and Mr Bloch. I should be grateful if the parties would seek to agree an order reflecting the conclusions I have arrived at. If they cannot do so, I shall hear further argument as to the relief I should grant.
Note 1 The British position seems to differ in this respect from that in Australia: see section 60 of Australia’s Corporations Act 1989, section 9 of the Corporations Act 2001 and Australian Securities Commission v AS Nominees Ltd (1995) 18 ACSR 459. [Back]
Note 2 For the avoidance of doubt, I regard the duty of good faith as a fiduciary duty. [Back]
Note 3 The events at issue in this case pre-date the Companies Act 2006. [Back]
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