UK: Beyond The Brown Envelope

Last Updated: 5 January 2015
Article by Nigel Barnett

Introduction

For over 150 years, it has been a principle of English law that if an agent takes a bribe or a secret commission, he is liable to account to his principal for the amount received. However, there has been conflicting authority and academic debate as to whether the principal merely has a personal claim against the agent or whether he can assert a proprietary claim to the monies received and any profits made therefrom.

In an insolvency context, the point may be very significant. Can an administrator be wholly comfortable that what appear to be company assets are not vulnerable to a claim by a third party? Will a secured lender's security be trumped by a proprietary claim?

In FHR European Ventures LLP and others v. Cedar Capital Partners LLC [2014] UKSC 45, the Supreme Court has clarified – and arguably extended – the law as to the ownership of assets derived from a bribe or secret commission. It held that a bribe or secret commission received by an agent is held on constructive trust for his principal, and as such the principal has a proprietary claim to the bribe itself (and therefore to any assets acquired with the proceeds of the bribe). In doing so the Supreme Court overruled its own decision (in its previous guise as the House of Lords) in Tyrell v. Bank of London (1862) 10 HL Cas 26 and(1862) and the subsequent cases that had followed it. Few of those cases were decided in an insolvency context, but the most recent before FHR, the case of Sinclair Investments Ltd v. Versailles Trade Ltd [2012] Ch 453, had been. The outcome in Sinclair provided important guidance to insolvency practitioners and banks in determining whether or not they have been put 'on notice' of proprietary claims.

The FHR decision

In December 2004, FHR purchased a company that owned the long lease of the Monte Carlo Grand Hotel for €211.5m. Cedar had acted as FHR's purchase agent, and in this capacity owed fiduciary duties to FHR. Cedar had also entered into an exclusive brokerage agreement with the seller, which had paid Cedar a €10m brokerage fee on completion of the sale in January 2005.

FHR alleged that Cedar had not disclosed the exclusive brokerage agreement to it, and brought proceedings against Cedar for recovery of the fee. The primary issue was whether such disclosure had been given, and the judge at first instance concluded that it had not been. After a further hearing, the judge declared that Cedar's non-disclosure was a breach of its fiduciary duty as FHR's agent, and ordered Cedar to compensate FHR for the €10m it had received. However, the judge refused to grant FHR a proprietary remedy in respect of that sum. On FHR's appeal, the Court of Appeal declared that Cedar had received the fee on constructive trust, holding it for FHR absolutely. Therefore, FHR had a proprietary right to the €10m.

On Cedar's further appeal, the sole point in issue before the Supreme Court was whether FHR was entitled to a proprietary right or merely a personal right against Cedar.

There is a well-established equitable rule that, where a fiduciary acquires a benefit or takes advantage of an opportunity that came to his attention as a result of his fiduciary position, he is to be treated as having acquired that benefit on behalf of his principal. In such cases, equity treats the benefit as belonging to the principal, who is entitled to a proprietary remedy against the fiduciary accordingly. However, that line of authority is traditionally premised on the principle that the property or opportunity is something that 'belonged to' or was otherwise available to the principal. As such, it is an easy leap to say that the asset in question should be held on trust for the principal.

However, it has been said that this analysis does not lend itself so easily to a bribe or secret commission paid to an agent, because that cannot be said to have been intended to be, or otherwise derived from, the property of the principal. This was the crux of the decision of the House of Lords in Tyrell back in the 1800s. Relying on Tyrell, Cedar argued that there was no basis for finding a proprietary claim with regard to a secret commission.

FHR argued in favour of a broader application, contending that, in any case where an agent receives a benefit amounting to, or resulting from, a breach of fiduciary duty, the agent holds the benefit on trust for the principal.

In delivering the leading judgment of the Supreme Court, Lord Neuberger acknowledged that previous legal authorities did not provide a plainly right or wrong answer to determine the scope of the equitable rule. He acknowledged that a bribe or secret commission could be looked at as different in quality to, for example, a secret profit made on a transaction on which the agent is acting for his principal where it might properly be said to have been a benefit the agent should have obtained for his principal. How could the same be said of a bribe that the agent receives from a third party? If that benefit never belonged to the principal, then, it might be said, he could have no proprietary right in respect of it.

In the absence of an obviously correct answer, Lord Neuberger thought it was right to approach the issue as a matter of clarity and simplicity. That approach would be the application of the equitable rule in all cases, to avoid uncertainty as to its scope. He held that the argument put forward by Cedar that a principal has no proprietary right to his agent's bribe or secret commission was unattractive for four primary reasons:

  1. as a matter of policy an agent should not accept a bribe as it puts him in conflict with the duty to his principal;
  2. albeit that it would be too simplistic to say that the purchase price would have been €10m cheaper were it not for payment of the secret commission, it is common sense that there must be a strong possibility that in taking the bribe the agent has disadvantaged the principal in some way – e.g. by not obtaining the best price available;
  3. it would be a curious scenario where a principal could be effectively worse off than his agent who obtains a benefit under questionable circumstances; and
  4. bribes and secret commissions have the potential to undermine trust in the commercial world, and as such the law would be expected to be particularly stringent in relation to a claim against an agent who has received such a benefit.

In reaching his conclusion Lord Neuberger acknowledged that the application of the rule in all circumstances would provide a principal with a proprietary right, with priority over unsecured creditors in the event of his agent's insolvency. However, his Lordship felt that the unsecured creditors would suffer no real prejudice for two reasons. First, because the proceeds of a bribe or secret commission comprise property that should never have been in the agent's estate at all. Secondly, because (as mentioned above) the bribe or commission may have reduced the benefit received by the principal from the underlying transaction.

The Sinclair decision

Although Lord Neuberger eschewed the concept of a remedial constructive trust as a principle of English Law, one might be forgiven for thinking that FHR comes close to the line. It is instructive to revisit the Sinclair decision in the light of FHR.

The case emerged from the administrative receivership of the Versailles Trade Finance group. The group had been financed by bank debt together with additional funding from a pool of individual investors through an offshore company Trading Partners Ltd (TPL). TPL was a conduit controlled by the Versailles management. Its agreements with individual investors provided that monies would be held as agent for the investor and would be applied solely for the purpose of making the contemplated investments in Versailles. However, monies raised through TPL were mixed with the bank lending and ultimately misapplied. Following the collapse, the investors lost most of their investment and TPL was placed into liquidation.

The founder and CEO of the group had made a substantial profit in selling his shares in the listed parent shortly before the collapse. Some of that profit had been applied in repaying bank lending and entering into a settlement with the receivers who were pursuing claims against him.

The TPL liquidator assigned various claims to one of the investors, Sinclair, which then brought claims asserting a proprietary right to the profit made by the CEO, which, it claimed, could be traced and followed into the hands of the banks and the receivers.

By virtue of the common control of Versailles and TPL, and the nature of the agreements by which the investors' money was injected into Versailles, it was unarguable that the CEO had breached his fiduciary duties to TPL and made a profit through the share sale. The key question was whether that gave rise to a personal claim against the CEO alone or whether there existed a tracing right to the proceeds in the hands of the banks and the receivers.

The Court of Appeal dismissed TPL's proprietary claim. It followed Tyrell and held that because the benefit could not properly be said to be the property of the principal beneficiary (ie TPL), no proprietary claim existed. As such, there was no possibility of following the profit made into the hands of third parties.

Post FHR, the position might very well be different. If we are moving closer to the position where the receipt and misapplication of monies by a fiduciary will always give rise to a proprietary claim, that is a slippery slope. Albeit Lord Neuberger was attracted to the simplicity of the concept, one can see fertile ground for litigation around the scope of the tracing remedy and when an innocent recipient of trust monies is deemed to have had notice of the trust claim.

What amounts to notice?

A recipient of property that is subject to a proprietary claim will nonetheless take the property free of that claim if:

  1. it is acquired for value;
  2. the recipient is acting as a bona fide purchaser; and
  3. the recipient has no notice of the proprietary claim at the time of acquisition.

This is the formula to create the archetypal 'bona fide purchaser for value without notice'. In Sinclair, there was no suggestion that the receivers and the banks were not acting bona fide, and clearly they gave value for the property received from the CEO in terms of the discharge of loans and the settlement of claims. However, notice was a live issue. A key question was whether their investigations did, or should have, given notice of the competing trust claim. A further wrinkle was that, one year into the receivership process, the liquidators of TPL had purported to give notice (albeit without particulars) of a possible trust claim.

Such issues are fact specific and not easily resolvable. In Sinclair the court concluded that neither the receivers nor the banks had notice of a proprietary claim. Rejecting the efforts of the TPL liquidator to fix the receivers and the banks with notice, the court held that, to constitute proper notice, two key elements were required:

  1. notice of a right rather than a mere assertion of a claim; and
  2. notice of the facts and the law applicable to those facts, upon which the right is based.

Those elements of 'notice' include both actual and constructive notice, ie not only what the recipients did know but also what would have been discovered if proper steps had been taken. The 'proper steps' required depend on the context – for a bank with the benefit of highly experienced IPs, the steps might have included making further enquiries or seeking specific advice to determine whether a proprietary right existed.

Practical issues and headaches

While the fairly unique and extreme circumstances of Sinclair are unlikely to be repeated, in the light of FHR there is undoubtedly greater scope for proprietary rights to disturb the normal course of asset realisation and distribution. It may be tempting for an insolvency practitioner to rely on the high threshold to be put 'on notice' as set out in Sinclair, and not to go looking for the facts and seeking legal advice that might support a claim. However, sticking one's head into the sand would be a dangerous option for an insolvency practitioner to take, particularly as Lord Neuberger openly embraced the supremacy of a simple and coherent rule in all such cases over and above the interests of creditors generally.

Short of direct evidence that a bribe or secret commission has found its way into an insolvent estate, some 'red flags' to look out for include:

  1. agreements that establish an agency relationship, or explicitly refer to a party acting in a 'fiduciary' capacity;
  2. groups of companies that may involve entities not under the control of the IP, but were (or still are) under the control of former common management;
  3. specific assertions of proprietary rights by a third party – do not ignore if the alleged equitable owner of the property (i.e. the claimant), the nature of the right claimed and the exact property in question are all clearly identified; and
  4. more generalised assertions of claims by a third party – although even if they do not meet the requirements to put an IP on notice, consider carefully whether further investigations should be made and advice sought.

Beware of unintended consequences remains a good watchword. Lord Neuberger's aim of achieving 'simplicity' may lead to greater complexity in resolving the conflict between trust creditors and estate creditors!

This article first appeared in the Winter 2014 edition of Recovery.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Events from this Firm
28 Sep 2017, Seminar, London, UK

On 26 July the FCA published its long-expected consultation paper on the extension of the SMCR to all FCA-authorised firms. The so-called "core regime" introduces the key concepts of regulator-approved senior managers, firm-approved certification staff and conduct rules applicable to virtually all staff.

3 Oct 2017, Conference, Zurich, Switzerland

As the founding Partner of the Europe-Iran Forum, Dentons Europe will once again support this year’s event. This compelling event which explores all Iran-related topics will take place in Zürich on 3rd and 4th October.

4 Oct 2017, Workshop, London, UK

We are hosting an interactive workshop where we will run a mock High Court trial of an employee competition case – where the members of the audience are the judges. The session, aimed at in-house counsel and HR professionals, will offer an insight as to how disputes involving employees moving to a competitor play out in practice.

 
In association with
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

Disclaimer

Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

Registration

Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

Cookies

A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

Links

This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

Mail-A-Friend

If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

Security

This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.