Business Finance & Insolvency Law Developments in 2011

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1 Law Developments in 2011 Introduction 2011 saw many important legal developments in the area of business finance and insolvency law both internationally as well as in Singapore. Over the course of the year, we have kept you informed with Client Updates featuring significant cases. We now set out a summary of the highlights of these cases in A) Corporate Insolvency When an entity enters into corporate insolvency, there are a number of issues that ordinarily arise, mostly relating to the handling of its assets and its subsequent distribution to its various creditors. It is a wide topic of dispute, and 2011 produced a number of cases dealing with liquidators and voidable transactions. (1) Voidable Transactions As discussed, when an entity enters insolvency, the pool of assets available for distribution becomes a prime concern amongst its creditors. Creditors and liquidators are thus alert to attempts at unfairly dissipating the entity s assets. The issue of whether unfair preference transactions are voidable under the Companies Act frequently arises, and a couple of Singapore cases from the previous year are highlighted below. (i) Tam Chee Chong and another v DBS Bank Ltd [2010] SGHC 331 An unfair preference transaction will only be voided under the Companies Act if it is influenced by a desire to prefer the receiving party in the event of insolvency, and not if it is motivated by proper commercial considerations. In Tam Chee Chong and another v DBS Bank Ltd, the Singapore High Court had the opportunity to consider what constitutes proper commercial considerations. Here, the company under judicial management had granted a charge over certain shares to the Defendant bank despite the fact that it had facilities with other banks which contained negative pledges and pari passu undertakings, and had refused to grant similar charges to these other creditor banks. The charge was found to constitute an unfair preference transaction. 1 Rajah & Tann LLP

2 Andrew Ang J found that the charge had been granted to put the Defendant in a preferential position because they had been more supportive of the company in the past. There was no proper commercial consideration as no new facilities were granted in exchange for the charge, nor was there any significant extension for payment of loans. Further, the other banks had exerted at least as much pressure on the company to repay their debts as the Defendant did. This case demonstrates that the Court will not easily accept any alleged commercial consideration offered up as a justification for an unfair preference transaction; their validity and effect on the mind of the company will be examined. (2) Liquidators The role of liquidators is vital in the process of winding up, and it is thus essential for the Court to properly define the scope of their powers and duties. The case below is an example of the considerations a liquidator should be guided by. (i) Re McGrath and Another (in their capacity as liquidators of HIH Insurance and Others) [2010] NSWSC 404 The role of liquidators is vital in the process of winding up, and it is thus essential for the Court to properly define the scope of their powers and duties. Liquidators may find themselves acting for a group of companies, where the affairs of each company are closely tied to the rest of the group. However, the liquidator must conduct each companyʹs business in the best interests of that individual company, and not in the interests of the group as a whole. In Re McGrath and Another, the liquidators of a group of companies applied for the Courtʹs permission to provide funding from certain companies to other companies within the group for the purpose of pursuing litigation. The Court rejected the application on the basis that it was not shown to be in the funding companiesʹ best interests. There had been a lack of assessment of the separate and selfish interests of the funding company alone, and the Court thus could not conclude that the funding of litigation would be beneficial to the companyʹs winding up. Further, liquidators are fiduciaries, and must act in the interests of the company of which they are liquidators; the interests of the group are irrelevant. This decision highlights the independent nature of a company within a group (and the liquidatorʹs respective duty to the company), which continues to stand even after the company or group of companies have entered into liquidation. B) Loans & Guarantees Loans and guarantees are often necessary tools in the field of investment and finance. However, problems arise where the loan cannot be repaid as it falls due. The parties must then consider issues 2 Rajah & Tann LLP

3 of whether the loan or guarantee can be enforced, or the validity of the call for repayment. The following two cases discuss pertinent issues relating to this topic. (i) North Shore Ventures Ltd v Anstead Holdings Inc and others [2010] EWHC 1485 (Ch) It is common advice that one should not agree to be a guarantor for another party unless one is fully aware of all the information regarding the primary agreement and the parties involved. A guarantor essentially undertakes to repay a liability when he is himself not the primary recipient of the benefit, thereby putting himself at risk. The law thus protects the guarantor by placing certain disclosure requirements on the creditor to ensure that the guarantor is fully apprised of all essential information. In North Shore Ventures Ltd v Anstead Holdings Inc and others, the English High Court had to determine the limits of a creditorʹs disclosure obligations to a guarantor. The Court observed that a creditor is required to disclose all highly unusual risks, but is not required to disclose anything which the guarantor could reasonably be expected to know. Further, a guarantee can only be avoided if the non disclosure is significant to the guarantor. Here, the guarantors sought to avoid the guarantee on the grounds that they had not been informed of certain substantial risks regarding the principal contract. On the facts, it was determined that the guarantee would not be set aside as the guarantors were actually aware of the alleged risks. In addition, there were certain clauses within the guarantee that were found to exclude liability for non disclosure by the creditor. This case raises the question of whether a guarantor is adequately protected by the law of disclosure. While it is logical to require only the disclosure of information which would have made a difference to the guarantor, the degree of ʹdifferenceʹ needed is questionable. Further, the acceptance of contractual clauses excluding liability for non disclosure creates the possibility of potentially onerous situations for guarantors. (ii) Leveraged Equities Limited v Goodridge [2011] FCAFC 3 Margin loans are both popular instruments of finance. In recent years, they have also found themselves at the centre at many legal disputes. In the case of Leveraged Equities Limited v Goodridge, the Australian Federal Court (Full Court) had the opportunity to consider a number of issues regarding margin loans, including the propriety of margin calls and the requirements for novation or assignment of margin loan agreements. This case involved the sale of a bankʹs margin loan books to another margin lender (ʺthe buyerʺ) and the buyerʹs margin call on and subsequent share sale in respect of the account of one of the individual borrowers. The primary judge found that the margin calls were invalid as they did not strictly comply with the contractually agreed compliance period of three business days. He also held 3 Rajah & Tann LLP

4 that the attempted novation or assignment of the margin loan agreement to the buyer was ineffective because the borrowerʹs express consent was not obtained. However, on appeal, the Court reversed the primary judgeʹs decisions. The Court interpreted the contract as allowing the bank / buyer to shorten the period of compliance to one business day, and to sell part of the borrowerʹs securities upon occurrence of shortfall, regardless of whether a margin call had been made. Further, it was held that the novation of the margin loan agreement was valid as the borrower had given prospective consent in the contract. This decision reverses the primary judgeʹs onerous requirements on the sale and transfer of margin loan agreements, and takes a less strict view of the requirements which a bank must fulfill before the securities under a margin loan agreement may be sold. C) Banks & Customers The bank customer relationship may appear to be relatively simple at first glance, but in fact, it may be wrought with numerous complexities. There are a multitude of mutual duties and obligations which each side is required to observe, as well as rights that they are entitled to enforce. The previous year saw a number of significant cases revolving around the bank customer relationship and the liabilities that lie with either party. The highlights of these holdings are summarised below. (1) Duty of a Bank The banking contract is essentially one of service, in which the bank is obliged to provide banking services as specified in the contractual terms. However, the bank customer relationship also implies a number of underlying duties on the part of the bank. The cases here are examples of decisions in 2011 which shed light on the scope of these duties. (i) Go Dante Yap v Bank Austria Creditanstalt AG [2011] SGCA 39 In the Singapore Court of Appealʹs decision in Go Dante Yap v Bank Austria Creditanstalt AG, the Court of Appeal discussed the contractual and tortious duties which are owed by a bank to its customer and the interaction and distinction between the two duties. Significantly, in the determination of whether the bank owed the customer a tortious duty of care, the apex court in Singapore did not follow the analysis in recent English decisions (such as Springwell and Titan Steels), preferring instead to analyse the issue by reference to the two stage test set out in its earlier decision in Spandeck. The case concerned a claim by a customer, the Appellant, against a private bank, the Respondent, for losses suffered in respect of certain investments made by the Appellant through the Respondent. In particular, the Appellant alleged that the Respondent owed him a duty, in contract and in tort, to advise him on his investments. 4 Rajah & Tann LLP

5 The Court found that the Respondent bank owed the Appellant customer a general duty, in contract and in tort, to take reasonable care in rendering services to the customer and following the customerʹs instructions. The Respondent, however, did not owe the Appellant an express or implied contractual duty or a tortious duty to advise the Appellant on his investments. The Court considered (a) the prevailing economic circumstances at the time of the investment and the danger of hindsight; (b) the experience and sophistication of the Appellant; and (c) the contractual framework. This established a relatively low standard, and the Court held that the Respondent had not breached its duty of care. The Respondent consistently recommended suitable investments, advised the Appellant of the pros and cons of those investments, and reviewed the performance of existing investments. (ii) Rubenstein v HSBC Bank PLC [2011] EWHC 2304 (QB) The case of Rubenstein v HSBC Bank PLC involved a financial services mis selling claim by a customer against his bank for losses incurred in an investment. The English High Court had the opportunity to consider a number of pertinent issues relating to the duties and liabilities of a bank, including the distinction between the provision of advice and an execution only contract. It also considered what constitutes negligent advice, and what losses a bank may be liable for in the event of negligence. The Plaintiff customer sought a recommendation from the Defendant bank on how to invest a sum of money, specifying that he did not want any risk to his capital. A financial advisor from the bank directed him towards a variable rate fund within a particular bond. Unfortunately, following the Lehman Brothers collapse in 2008, withdrawals from the bond were temporarily suspended. When the Plaintiff managed to cash in his investment, he suffered a loss of capital. The Court found that the contract between the parties was one of advice. In an assessment of the Defendantʹs processing of the transaction, as well as the history of the communications between the parties, the financial advisorʹs words amounted to advice. It was further held that the advice was negligent, as the financial advisor had wrongly described the fund, and had not considered the other funds within the bond which were more suitable for the Plaintiffʹs requirements. Nonetheless, the Court held that the Defendant was not liable for the Plaintiffʹs losses. The loss was not caused by structure of the product recommended, but by the financial turmoil triggered by the Lehman Brothers collapse, which led to an unexpected run on the fund. The loss was thus also unforeseeable, and could not be pinned on the Defendant bank. (iii) Hsu Ann Mei Amy (personal representative of the estate of Hwang Cheng Tsu Hsu, deceased) v. Oversea Chinese Banking Corp Ltd [2011] SGCA 3 Generally speaking, banks have a duty to comply with the mandate of their customers. However, this duty is subject to the bankʹs duty to take reasonable care in all the circumstances. This is especially so where there is good reason to believe or suspect (i.e. be ʺput on noticeʺ) that a 5 Rajah & Tann LLP

6 customerʹs instructions may not be genuine or represent his or her true intentions. In such a situation, a bank is entitled to refuse to comply with the mandate. Whether a bank ought to be put on notice will depend on the facts at hand. In this case, the Court of Appeal clarified the principles banks should abide by when dealing with the mandate of its customers. Here, the courts framed the bankʹs duty as a two step inquiry: (a) whether the bank (here, Oversea Chinese Banking Corp Ltd (ʺOCBCʺ)) was put on notice; and (b) whether the steps taken by OCBC that culminated in its decision not to carry out those instructions were reasonable. Pertinently, the Court of Appeal adopted certain guidelines which mark out certain potential ʺred flagsʺ of financial abuse against elderly and infirm customers. It found that OCBC had in fact been put on notice as the customer, an elderly woman, appeared dazed and confused during their interactions, and appeared to be controlled by her adopted daughter, who purported to have the funds transferred into their joint account. The Court then went on to find that OCBC had acted reasonably in not carrying out the customerʹs instructions. The bank officers had visited the customer at her home to verify her instructions and sought to speak with her alone. (2) Stockbroker Client Relationship (i) Eric Preston Pty Ltd v Euroz Securities Limited [2011] FCAFC 11 In Eric Preston Pty Ltd v Euroz Securities Limited, the Australian Federal Court (Full Court) had the opportunity to consider the relationship between stockbroker and client, and when a stockbroker may be liable for its clientʹs losses. The Plaintiff client (ʺPrestonʺ) initially carried out share trading activities using a standard margin lending facility. It then switched to a securities lending facility under which it transferred ownership of the purchased shares to the lender. The lender became insolvent, and as an unsecured creditor, Preston suffered substantial losses. Preston sought to recover these losses from its stockbroker (ʺEurozʺ). Prestonʹs claims relied mainly on two bases: Eurozʹs contractual duty and Eurozʹs alleged misrepresentation. Both grounds were rejected by the Court. On the first ground, the Court affirmed that a stockbroker is only obliged to execute the clientʹs orders, and is not bound in law to give financial advice, unless such duty arises in the specific circumstances of the case. On the second ground, the Court found that no misrepresentations had been made. Preston alleged that Euroz had passed down information from the lender regarding the stability of its financial situation. However, it was held that unless the information was adopted or endorsed by Euroz, it could not constitute misrepresentation. 6 Rajah & Tann LLP

7 This decision suggests that a stockbrokerʹs liability to its client is limited in scope. It indicates that the role of a stockbroker is perhaps more facilitative in nature rather than advisory. Contacts Chua Beng Chye Partner D (65) F (65) beng.chye.chua@rajahtann.com Ryan Loh Partner D (65) F (65) ryan.loh@rajahtann.com Please feel free to also contact the Knowledge and Risk Management Group at eoasis@rajahtann.com Rajah & Tann LLP is one of the largest law firms in Singapore and Asia, with representative offices in Shanghai, Vientiane, Ho Chi Minh City and Bangkok, as well as an associate office (Kamilah & Chong) in Kuala Lumpur. As a full service regional law firm, our knowledge, resources and insight can be your business advantage. Rajah & Tann LLP is firmly committed to the provision of high quality legal services. It places strong emphasis on promptness, accessibility and reliability in dealing with clients. At the same time, the firm strives towards a practical yet creative approach in dealing with business and commercial problems. The contents of this Update are owned by Rajah & Tann LLP and subject to copyright protection under the laws of Singapore and, through international treaties, other countries. No part of this Update may be reproduced, licensed, sold, published, transmitted, modified, adapted, publicly displayed, broadcast (including storage in any medium by electronic means whether or not transiently for any purpose save as permitted herein) without the prior written permission of Rajah & Tann LLP. Please note also that whilst the information in this Update is correct to the best of our knowledge and belief at the time of writing, it is only intended to provide a general guide to the subject matter and should not be treated as a substitute for specific professional advice for any particular course of action as such information may not suit your specific business and operational requirements. It is to your advantage to seek legal advice for your specific situation. In this regard, you may call the lawyer you normally deal with in Rajah & Tann LLP or the Knowledge & Risk Management Group at eoasis@rajahtann.com. 7 Rajah & Tann LLP