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Global rules on foreign direct investment (FDI)
Cross-border acquisitions and investments increasingly trigger foreign direct investment (FDI) screening requirements.
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United Kingdom | Publication | Q4 2021
Norton Rose Fulbright’s Financial Restructuring and Insolvency team commonly advises clients on insolvency office-holders’ conduct-related issues in different jurisdictions. These issues often concern whether or not insolvency office-holders—either themselves as clients or “across the table” from other stakeholders, principally creditors—should be acting in a certain way; and whether particular courses open to the office-holders, if followed, might harm others’ interests in a way which is capable of being restrained by the court.
It is necessary in these cases to consider the applicable standards of conduct and advise accordingly. This is not as hard as it may seem since, invariably, it involves asking simply what is unfair. But is it really so simple? What does fairness mean in this context and how can insolvency office-holders avoid falling into bear-traps?
Last year, the UK Court of Appeal handed down judgment in the Lehman Brothers Australia case (Lehman Brothers Australia Limited (in liquidation) (scheme administrators appointed) v Macnamara and others [2020] EWCA Civ 321), on which Norton Rose Fulbright in the UK acted for the liquidators of Lehman Brothers Australia (LBA) on LBA’s successful appeal relating to adjustment of its claim in the administration of the principal European hub in the Lehman Brothers group, Lehman Brothers International (Europe) (in administration) (LBIE). The case concerned the question of whether or not the UK administrators of LBIE were entitled to rely on release provisions of a settlement agreement entered into between LBIE and LBA and to refuse to vary LBA’s proof of debt in LBIE’s administration, where there had been a common error in calculating the settlement sum which had later come to light.
In giving judgment and reversing the Judge at first instance, the Court of Appeal unanimously confirmed the applicable standard of conduct is a simple one of fairness, and that it would have been unfair to allow the administrators of LBIE to rely on the release provisions and to refuse to vary LBA’s proof of debt.
We advise regularly on the implications of the decision, which has had significant repercussions for insolvency practitioners and has subsequently been cited and relied upon in numerous cases (e.g. HMRC v Sanders [2021] EWHC 1843 (Ch) and, outside the insolvency context, 365 Business Finance Ltd v Bellagio Hospitality WB Ltd [2020] EWCA Civ 588). The application of certain applicable principles—notably, the so-called principle (or rule) in Ex parte James—in other jurisdictions (e.g. Australia, Singapore and Bermuda), and the persuasive nature of UK authorities in those jurisdictions, means that the reach of the judgment is global, even by Lehman Brothers standards.
The facts can be stated briefly. In 2014, LBA and LBIE agreed to settle their mutual claims on the terms of a standardised and largely non-negotiable settlement agreement, in a form proposed by the UK administrators to over 2000 creditors of LBIE. In the course of the reconciliations involved in agreeing the settlement sum, and following a change in personnel on the LBIE team, an error was introduced into the relevant spreadsheet by LBIE which went unnoticed by LBA, such that LBA’s claim had been understated by £1.67 million. (The error involved a Euro-denominated bond that should have been held by LBIE for LBA, but which was not, instead being shown to be denominated in Australian dollars, such that the conversion of LBA’s claim against LBIE into pounds sterling for the purposes of LBA’s proof of debt was carried out on an incorrect basis.) The recitals to the settlement agreement recorded the basis on which the settlement sum had been arrived at—by setting off mutual claims—but its operative provisions referred only to the result of the calculations. The liquidators of LBA noticed the claim two years later and immediately raised it with the administrators of LBIE, seeking a variation of LBA’s proof of debt. The administrators advised them formally to write and articulate the basis on which a variation was sought, which they did. The administrators refused to vary LBA’s proof in reliance on broad release provisions in the settlement agreement and on the basis that, if they had agreed, other creditors might be encouraged to re-open bargains reached with LBIE. In the event, it transpired that there was no evidence that the “floodgates” would open in the way that had been suggested.
LBA’s case was advanced on the basis both of the principle in Ex parte James and paragraph 74 of Schedule B1 to the UK Insolvency Act 1986, under which creditors can apply to court to restrain proposed conduct on the part of administrators that would unfairly harm their interests. The principle in Ex parte James derives from the case of the same name in which the English court found that insolvency office-holders—as officers of the court—were not entitled to rely on the then-applicable principle that money paid under a mistake of law is not recoverable.
At first instance, Mr Justice Hildyard threw out LBA’s claim, on the basis that the applicable standard of conduct to be avoided under Ex parte James was “unconscionability” and not unfairness, and that neither Ex parte James nor paragraph 74 could be invoked (“as a magic wand”) so as to interfere with contractual obligations freely entered into, unless there was a contractual basis for rectification. This approach overlooked recent Supreme Court authority, in the Nortel case, where Lord Neuberger had referred to the applicable test as being one of unfairness. In reaching his decision, the Judge dismissed a test of fairness as being “an ultimately subjective standard”, capable of becoming an “unruly horse”, and therefore rejected LBA’s “siren call” for variation of its proof of debt.
In an earlier LBIE-related case, the same Judge had referred to the principle in Ex parte James in the course of argument as a “sort of general palm tree”.
The Court of Appeal reversed the Judge’s decision, identifying the correct threshold test for the application of the principle in Ex parte James as being one of unfairness, consistently with Lord Neuberger’s remarks in Nortel. Lord Justice David Richards (with whom Newey and Patten LJJ agreed) observed that many different terms had been used in the past to describe the principle but that this was not surprising on the basis that the principle does not have a statutory basis and in light of the evolution of the standards expected by society. Rejecting the notion of fairness being an “unruly horse”, he noted that “the courts are very familiar with applying a standard of fairness in many different context, including in the contexts of administrations under paragraph 74…”. In terms of the justification for the principle, his Lordship noted that “As a public authority and given its role in society, the court is expected to apply standards to its own conduct which may go beyond bare legal rights and duties”. Further, since insolvency office-holders such as administrators are officers of the court, they act on behalf of the court in carrying out their functions and will therefore be held to the same standards by the court. Contrary to the finding at first instance, David Richards LJ held that the court applies the standard of fairness on an objective basis. In doing so, he noted that “As a regulated profession, insolvency practitioners may feel aggrieved at a challenge to their conduct or proposed conduct on this basis and may be tempted to argue that the challenge is an attack on their personal integrity. This would be a misapprehension on their part”. This had been critical to the way LBA’s case was framed: no wrongdoing on the part of the administrators of LBIE had been alleged; it was argued—successfully, ultimately—that they had simply got it wrong.
So far as paragraph 74 is concerned, the Court of Appeal held, too, that the applicable standard is one of fairness, as mandated by the statutory language. In particular, the Court rejected the suggestions made by the Judge that the requirement for unfair harm justifying intervention under paragraph 74 has additional conditions, notably where particular acts cannot be justified by creditors’ interests and/or is discriminatory in effect.
The Court of Appeal concluded that there is no principle to the effect contended for by the Judge that neither Ex parte James nor paragraph 74 can be invoked to prevent an administrator from relying on rights under a contract freely entered into by both parties (per David Richards LJ, at [87] and [90]):
In all cases the rule in Ex parte James, and in at least some cases paragraph 74, will be invoked to restrain an officeholder from relying on his strict legal rights. Those rights may arise at common law or in equity or under statute, and, in my judgment, there are no grounds for excluding contractual rights from the scope of either the rule in Ex parte James or paragraph 74. Whether reliance on strict contractual rights should be restrained will, as in all these cases, depend on the facts of the particular case.
…
The judge’s statement of general principle that neither the principle in Ex parte James nor paragraph 74 is applicable to contractual rights cannot, in my judgment, stand.
The Court dismissed an argument advanced on behalf of the administrators that granting the requested relief to LBA would be an unfair one-way bet in LBA’s favour, on the basis that the administrators are subject to paragraph 74 and, as officers of the court, to the principle in Ex parte James, but neither would apply to LBA. In this regard, David Richards LJ noted that (at [101]):
It is… in the very nature of the rule in Ex parte James that it controls the conduct of officers of the court, who are expected to observe higher standards than other parties. There is nothing unfair in that. On the contrary, it gives effect to a basic principle governing the conduct of the court and its officers. As for paragraph 74, it is by its terms applicable only against administrators.
In summary, the Court of Appeal allowed LBA’s appeal, concluding that LBA was entitled to the variation of its proof of debt on both bases sought: “no right-thinking person would think it fair for the administrators to stand on their strict contractual rights and refuse to correct a shared mistake for which they were as responsible as LBA” (per David Richards LJ, at [103]). Accordingly, it was held that (per David Richards LJ, at [95]):
In the absence of significant contrary considerations, no legitimate reason existed for the administrators not to correct the common mistake admittedly made by them and by LBA. In the absence of such considerations, no statutory purpose was served by not correcting the error. Leaving matters as they were would deprive LBA of its true entitlement on the agreed basis of valuing claims and would give the estate a corresponding windfall, albeit of a small amount in the context of the LBIE estate.
The Court of Appeal’s decision is commendable in that it reserves to the court the ability to restrain its own officers in appropriate circumstances. This may be necessary in cases where, judged objectively, officers of the court have acted unfairly to harm the interests of other parties, including where strict reliance on the terms of a contract—whether or not in a standard, non-negotiable form—by an insolvency office-holder is capable of causing unfair harm to the creditor counterparty. On a practical level, our experience is that the judgment has had positive consequences for everyday insolvency practice, both in the UK and further afield; and it has served, in certain instances, to encourage insolvency office-holders to explore means of resolving disputes other than litigation, to the benefit of stakeholders generally.
There are a number of practical lessons to be drawn from the case, for both insolvency office-holders and their advisors, including the following:
Although the Lehman Brothers Australia case provides welcome clarity on the principle in Ex parte James, certain anomalies remain in relation to the extent of its application, including with respect to office-holders who are not (or are no longer) officers of the court, such as liquidators in a creditors’ voluntary liquidation (particularly where the company has transitioned to creditors’ voluntary liquidation from administration). It is outside the scope of this article to consider those issues, although some guidance in the case of administrators who have vacated office has recently been provided in Re Rhino Enterprises Properties Limited [2021] EWHC 2533 (Ch). It is to be hoped that further clarity on the extent of the principle in Ex parte James will be obtained in future cases, now its meaning and scope have been firmly established.1
Publication
Cross-border acquisitions and investments increasingly trigger foreign direct investment (FDI) screening requirements.
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