The recent controversial decision in Ham Enterprises v Diamond Trust Bank (U) and Diamond Trust Bank (K) Ltd has shaken up Uganda's banking and finance sector, with many foreign lenders demanding clarity on the matter.
This is a classic case of borrowing in sunny times, then defaulting and a bitter court battle ensuing when the lender tries to take back its proverbial umbrella during the storm. The plot thickens here. Diamond Trust Bank (K) Ltd, (“DTBK”) is a Kenyan financial institution and parent company to its co-lender, Diamond Trust Bank (U) Ltd. (“DTBU”). Ham Enterprises (the borrower) had enjoyed a long relationship with DTBU but due to regulatory restrictions on lending limits, DTBU could no longer meet the borrower's financing needs. In 2017, the borrower flew to Nairobi and obtained new financing from DTBK. However, the borrower alleged it was illegal for the Kenyan bank to lend money to a Ugandan borrower without being licensed by the Bank of Uganda (“BoU”) under the Financial Institutions Act, 2004 (“FIA”).
It is common market practice for locally licensed banks to seek the support of their parent companies to undertake large lending. It is also the norm for development finance institutions and others to lend to Ugandan borrowers, including the government. Similarly, foreign players are a large part of Uganda's interbank market. As part of these transactions, a Ugandan entity may be nominated by the lenders as agent for the lender. In none of these cases does the foreign lender take a licence from the BoU. In this case, DTBK appointed DTBU as agent to debit the borrower's account with the fees and taxes and on each anniversary of the loan and remit funds to DTBK. This was the bone of contention.
The court ruled that the FIA applies to foreign banks and it was illegal for money held on deposit, whether in Uganda or outside, to be lent without the approval of the BoU. It also ruled that section 117 of the FIA required the local licensing of foreign banks doing business in Uganda. The court took the view that the syndication of the lending between DTBK and DTBU was aimed at dodging licensing from the relevant authority. The court also ruled that it was wrong under the Agency Banking Regulations, 2017 for DTBK to appoint DTBU as its agent in the lending transaction to the borrower, without the consent of the BoU.
In consequence of its findings, the court declared the lending transactions illegal and void ab initio for violation of the FIA. The borrower's debt was declared settled by law. An immediate release of all the mortgaged property and a full refund of all monies allegedly debited from the borrower's account by DTBU was also declared.
The error of the court
The undertaking of financial institutions' business in Uganda is limited to only those licensed by the BoU under the FIA. However, following an amendment of the law in 2016, the relevant definition of financial institutions' business relating to lending or extending credit is qualified by the phrase “money held on deposit”. In other words, a licence is required only where the lending or extending of credit is from deposits collected from the Ugandan public. It is not tenable to argue that “money held on deposit” can refer to monies held on deposit outside Uganda (in this case, Kenya). It is rarely the case that legislation is given extra-territorial effect and this is not such a case.
A foreign bank like DTBK bringing money from outside Uganda cannot be governed by this provision.
The second error by the court is the misinterpretation of section 117 of the FIA. This provides that a foreign bank may apply to the BoU for permission to establish a representative office in Uganda to engage in limited activities, excluding the taking of deposits. A representative office would mean the foreign bank has premises in Uganda and holds itself out as ready to do those limited activities that it is approved to do by the BoU. Section 117 is stated in permissive terms. It is not mandatory. There is currently no foreign bank with a registered representative office in Uganda.
The court was wrong to fault DTBK for not seeking permission to open a representative office.
The third error by the court was the invoking of the Agency Banking Regulations. These regulations apply to licensed financial institutions seeking alternative channels to reach their clients. It is under these regulations that banks have appointed shopkeepers and mobile money operators as agents to serve their clients.
The Agency Banking Regulations do not govern an entity outside Uganda who simply appoints a local entity to receive loan repayments on its behalf.
It is a canon of interpretation of statute that words must be given their plain and ordinary meaning. If Parliament intended to submit foreign lenders to a licensing requirement it would have said so clearly. In the Insurance Act, 2017, only insurers licensed in Uganda may insure Ugandan risks. Under the Constitution and the Land Act only Ugandans can hold land in perpetuity. Other examples such as the Investment Code Act, 2019 demonstrate that Parliament can express itself adequately in restricting foreign interests.
The fourth error is that the court ordered a refund of monies allegedly debited from the borrower's account by DTBU. Not only were these sums not proven in court but fundamentally, having nullified the lending contract, the court made no reference to the consequences of a void contract under the Contracts Act, 2010. Under this Act, where a contract is declared void, any person who has received a benefit under it is bound to restore it or to pay compensation for it, to the person from whom he or she received the advantage.
What the Ham decision means for the banking and finance industry
The biggest question is what happens to the approximate UGX5.7-trillion exposure for foreign lenders ranging from private parties, development finance institutions and even foreign governments. A number of pipeline transactions are now on hold. Future foreign lending to the Ugandan market will require robust resolve. There is an understandable concern as the Ham case was not the only case to raise the question. It was merely the first case to reach decision.
For lenders that are not deposit-taking financial institutions such as development finance institutions, some comfort may be drawn. Because this ruling was made on the basis of the FIA and to address a foreign deposit-taking financial institution, lenders that are not deposit-taking financial institutions will not be caught by the interpretation of the FIA in this decision. This is because they would not be lending money held on deposit inside or outside Uganda nor would there be any argument about the establishment of representative offices or any violation of Agency Banking Regulations. These laws do not apply to lenders who are not financial institutions.
Future defaulting borrowers may cite the Ham decision as a desperate defence. While the Ham decision is not binding on another High Court judge, it may spark hope for defaulting borrowers from foreign lenders and spawn copycat litigation.
Until the Ham decision is set aside, it will be the thorn in the side in every opinion by counsel advising foreign lenders. It will no doubt have a chilling effect on the credit committees of foreign lenders. This decision could not have come at a worse time, coming so soon after the successful conclusion of the oil agreements between the Ugandan Government and Total E & P. If there is a time that Uganda will need access to large credits, it is now.
The flurry of statements by the BoU, government and the Uganda Bankers Association is well aimed at placating the foreign lending community. However, the real solution lies in expediting the appeal against this decision.
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