Financial Services Authority v Fox Hayes (a firm) [2009] EWCA Civ 76

[2009] EWCA Civ 76Case No C3/2008/1120
IN THE SUPREME COURT OF JUDICATURE
COURT OF APPEAL (CIVIL DIVISION)
ON APPEAL FROM THE FINANCIAL SERVICES AND MARKETS TRIBUNAL
FIN/2006/0015
Venue Royal Courts of Justice, Strand, London, WC2A 2LLDate 17/02/2009
Before
THE RIGHT HONOURABLE LORD JUSTICE LONGMORETHE RIGHT HONOURABLE LORD JUSTICE WILSONTHE RIGHT HONOURABLE LORD JUSTICE LAWRENCE COLLINS
Between
FINANCIAL SERVICES AUTHORITYAppellantFOX HAYESRespondent
(Transcript of the Handed Down Judgment ofWordWave International LimitedA Merrill Communications Company190 Fleet Street, London EC4A 2AGTel No: 020 7404 1400, Fax No: 020 7831 8838Official Shorthand Writers to the Court)
Mr Timothy Dutton QC & Mr Richard Coleman (instructed by Financial Services Authority) for AppellantMr Charles Hollander QC (instructed by Fox Hayes LLP) for RespondentHearing Hearing dates : 16 th& 17 th December 2008
Judgment

Introduction

[1]It is difficult to regulate activities, such as invitations or inducements to investors to buy shares in companies, if such invitations or inducements come from some source outside the United Kingdom. But section 21 of the Financial Services and Markets Act 2000 (“the 2000 Act”) provides that a person must not, in the course of business, communicate an invitation or inducement to engage in investment activity unless he is an authorised person or unless the content of the communication is approved by an authorised person or an exemption applies. Investment activity includes dealing in shares. Many foreign companies who want to offer shares for sale to United Kingdom buyers are not themselves authorised persons but do seek approval of the contents of their communications from authorised persons, pursuant to section 21 of the 2000 Act.[2]At the material time Fox Hayes, a firm of solicitors in Leeds consisting of about 12 partners, was an authorised person for the purposes of the 2000 Act and held itself out as being prepared to approve the contents of communications made between overseas companies (which were themselves unauthorised persons) and potential buyers of shares in the United Kingdom. Mr Robert Manning was the senior partner and the partner responsible for this part of the firm’s business. He was assisted by Mr Malcolm Jones a junior partner but still a solicitor of some 20 years standing.[3]On 29th September 2006 the Financial Services Authority (“the FSA”) served a decision notice on Fox Hayes imposing a penalty of £150,000 for breach of the Conduct of Business Rules. Fox Hayes referred that decision notice to the Financial Services and Markets Tribunal (“the Tribunal”) which conducted an 8 day hearing between 5th and 14th June 2007. It was only in the lead up to that hearing that Mr Manning revealed that he had personally received substantial sums by way of commission from the foreign unauthorised overseas companies, quite apart from Fox Hayes’ receipt of their ordinary fee for their services. These commissions (totalling the U.S. dollar equivalent of £454,770) were not revealed by Mr Manning to the United Kingdom shareholders who bought shares recommended by the companies nor, at the time he received them, to his fellow partners. He revealed their existence to his fellow partners in January 2006 but in a misleading manner. His efforts to justify the receipt of these commissions before the Tribunal carried no conviction and on the last day of the hearing Mr Manning resigned from the firm which had already (after the decision notice but before the reference to the Tribunal) transferred its business to a limited liability partnership known as Fox Hayes LLP. No one suggested that Mr Jones had any earlier knowledge of or connection with these secret commissions. Indeed the Tribunal formed the view that Mr Jones was a competent, careful, honest and conscientious solicitor who was a credible and reliable witness.

The Promotions in this case

[4]The invitations to the public to buy the shares with which this case is concerned all related to what are called OTC (“Over The Counter”) Bulletin Board shares or Regulation S shares. The OTC Bulletin Board is approved by the Securities and Exchange Commission in the United States and managed by The Nasdaq Stock Market Inc. Shares quoted on the OTC Bulletin Board are generally shares in small companies and are regarded as high risk shares compared to those quoted on the main Nasdaq exchange. They cannot be quoted in the United Kingdom. There are also shares which are obtained through private issue only and are not reported on the OTC Bulletin Board. These are known as Regulation S shares and cannot be traded even on the OTC Bulletin Board because at the material time they could not be sold for 12 months after purchase and only then if the restriction on sale has been lifted. Most if not all of the shares offered to the public pursuant to promotions approved by Fox Hayes, were (as asserted by the FSA and not contradicted by Fox Hayes) “high risk, illiquid shares” in small companies not quoted in the United Kingdom. As a result of the promotions approved by Fox Hayes, 670 investors altogether invested the sum of $20,350,986.83 most of which was lost to them.[5]The history behind the promotions is set out in the Tribunal’s determination in some detail. For present purposes it can be summarised in the following way. Mr Manning, through lawyers in New York, was introduced to a Mr Reade as someone who might assist in providing finance for companies attempting to have their shares quoted on the OTC Bulletin Board. Mr Manning visited Mr Reade in Spain in 2002 where he met a Mr Rycott a business associate of Mr Reade who worked for A Street Capital Inc (“A Street Capital”). A Street Capital owned or controlled shares in OTC Bulletin Board companies and hoped to organise unauthorised overseas companies to persuade United Kingdom investors to buy shares in these OTC companies. It was this invitation by these overseas companies that needed Fox Hayes’ approval in order to comply with section 21 of the 2000 Act.[6]The nature of the proposal was that Mr Rycott would introduce the overseas companies to Mr Manning/Fox Hayes who would then undertake due diligence in relation to the companies to ensure that their promotions were fair and not misleading. Typically, the overseas company would write to a UK investor offering a free research report about a listed UK company in which the investor already had shares. It was hoped that the investor would agree, by returning the form with his or her address and telephone number, to be contacted by the overseas company and be told about other investment opportunities. If he or she did so agree, the overseas company would then contact the proposed investor by telephone and try to persuade him or her to buy shares in OTC Bulletin Board companies. If an investor did so agree, he would be invited to send the purchase money to Fox Hayes when it would be put in what was called an “escrow account” but which was, in fact, their ordinary client account. The money would stay in that account until the share certificates arrived. Fox Hayes would then send the share certificates to the investor and account for the purchase money as directed by the overseas company, initially to the New York lawyers but later to a company called Euronet in Croatia and later to Holland. The firm received a modest fee for this service. Mr Manning’s commission, which came to amount to 4% of the purchase price, was paid to him after the overseas company had itself received that purchase price.[7]There were five overseas companies who took part in these promotions. They were Condor Research SL a Spanish company which ceased trading in October 2003 and was replaced by a newly formed different Spanish company called UMS. The next two companies were Tresaderns & Partners SL and Benjamin Fisher SL, also Spanish companies. The fifth company was Rosenhof Financial Solutions (Proprietary) Ltd, incorporated in South Africa. None of them was authorised to conduct investment business in the UK. The Tribunal concentrated on the documentation produced by Condor Research SL (“Condor”) which was agreed to be typical of that produced by the other companies. Condor was itself the first of the overseas companies to be introduced to Fox Hayes by Mr Rycott. It was, of course, the overseas company which was Fox Hayes’ client. The investors were not their clients.[8]The Tribunal then identified four stages in the work done by Fox Hayes for the overseas company:- i) the enquiries made by Fox Hayes into the overseas company. Condor, for example, sent various items of information to Fox Hayes including the names of Spanish referees. Mr Jones arranged for a draft letter to the referees to be translated into Spanish but no letter was in fact sent; ii) Fox Hayes’ approval of the letter offering the research report into the company in which the UK investor already held shares; iii) Fox Hayes’ approval of the research report itself; iv) The operation of the so called escrow account.[9]For present purpose, it is the second stage which is important. The Tribunal made the following findings:- “40. On 21st February 2003 Mr Jones approved three documents to be sent by Condor to private investors in the United Kingdom. The details of the investors were obtained by Condor from the share register of a United Kingdom company called Premier Oil Plc (Premier Oil). The three documents consisted of a letter from Condor to the investor, a response form and a document entitled Approval, Risks Warning and Additional Terms and Conditions (terms and conditions).41. The letter offered the investor a free research report into Premier Oil, a company in which he already held shares. The letter stated that Condor would use their experience and resources to prepare reports to assist clients in making their own investment decisions. It stated that Condor was not registered in the United Kingdom and was not authorized by the Financial Services Authority. The letter concluded that if the investor wanted the free report he should complete an enclosed response form and return it to Condor.42. The response form was intended to be completed by an investor and began by asking for a copy of the free independent research report “with no obligation whatsoever”. It then had spaces for the investor to complete his name, address and telephone number and included the following statement above space for the signature of the investor:
“I would also like to hear about the services you provide to private investors and I hereby consent to further communications from Condor Research SL [delete if inapplicable]. I have read the Approval, Risks Warning and Additional Terms attached and understand that requesting the report places me under no obligation to transact business with yourselves.” 43. The terms and conditions started by saying that the documents were issued by Condor and had been approved by [Fox Hayes]. Condor was a Spanish company and [Fox Hayes] was a firm of English solicitors authorized by the Authority. The rules made under the 2000 Act for the protection of private customers did not apply in respect of any communication from Condor. The investor should seek advice from his own advisers before entering into any transaction. Nothing in the documents amounted to a personal recommendation to any one investor. Condor had the right (with the consent of the investor) to contact him with details of the services they provided to private investors. Condor did not hold any stock positions but might receive commission on selected stock from the services advertised in subsequent communications. Condor provided opportunities for clients to invest in companies which were not quoted in the United Kingdom. If an investor did invest in any such company as a result of a recommendation by Condor then, on the realization of that investment, Condor was entitled to 15% of the profit. The terms and conditions also contained a paragraph in bold type about the value of investments going down as well as up and stated that the deduction of charges and expenses meant that an investor might not get back the amount he invested.” “I would also like to hear about the services you provide to private investors and I hereby consent to further communications from Condor Research SL [delete if inapplicable]. I have read the Approval, Risks Warning and Additional Terms attached and understand that requesting the report places me under no obligation to transact business with yourselves.”
[10]Once Fox Hayes had approved the terms of the letter, the response form and the terms and conditions, Condor sent those documents, initially, to UK investors in Premier Oil. A number of those investors returned the response form asking for a free copy of the research report and indicating, by giving their telephone number, that they were amenable to further approaches from Condor.[11]The Tribunal then made findings about later developments, including 3 press releases issued by the FSA and read by Mr Jones in May 2003. These warned that unauthorised overseas companies might be targeting UK investors and be using high pressure sales tactics to persuade them to buy unsuitable shares. The offer of a free research report into a company in which the investors already held shares was mentioned as a typical ploy. The Tribunal made findings about a visit of the FSA to Fox Hayes in July 2003 as part of a research project into the approval by authorised firms of financial promotions by unauthorised persons overseas. They then analysed various articles in the press, warnings by Spanish regulators and complaints made by a number of investors before Fox Hayes decided in June 2004 to cease acting for overseas companies. That was after the FSA had begun an investigation into Fox Hayes’ activities in connection into the overseas companies. The Tribunal then turned to the evidence which they had heard and came to their conclusions. In paragraph 126 they made this important finding:- “We accept that [Fox Hayes] knew that the whole purpose of the offer of free research reports was to obtain the consent of investors to be contacted by the overseas companies who would then try to sell the OTC Bulletin Board shares to the investors.”

The Conduct of Business Rules

[12]Section 138(1) of the 2000 Act gives the FSA power to make such rules applying to authorised persons as appear to the FSA be necessary or expedient for the purpose of protecting the interests of consumers. Under this provision the Authority has made the Conduct of Business Rules and the Principles for Businesses.[13]Chapter 3 of the Conduct of Business Rules applied to every firm at the relevant time which communicated or approved financial promotions. This appeal concerns non-real time financial promotions. At the relevant time, a real-time financial promotion was defined in rule 3.5.5R1 as a “promotion which is communicated in the course of a personal visit, telephone conversation or other interactive dialogue”. A non-real time financial promotion was defined in rule 3.5.5R2 as a “financial promotion which is not real time” and the examples given included a promotion made by letter.[14]Rule 3.6 deals with confirmations of compliance and at the relevant time rules 3.6.1R1 and 3.6.1R2 provided:
“3.6.1R 1. Before a firm communicates or approves a non-real time financial promotion, it must confirm that the financial promotion complies with the rules in this chapter. 2. A firm must arrange for the confirmation exercise in (1) to be carried out by an individual or individuals with appropriate expertise.”
[15]Rule 3.8 deals with the form and content of financial promotions, and rules 3.8.2R to 3.8.20R apply to firms which communicate or approve non-real time financial promotions. At the relevant time rule 3.8.4R1 provided:
“3.8.4R.1 A firm must be able to show that it has taken reasonable steps to ensure that a non real-time financial promotion is clear, fair and not misleading.”
[16]Rule 3.12 concerns the communication and approval of financial promotions for an overseas person or unauthorized person. At the relevant time rule 3.12.6R applied to specific non-real time financial promotions for overseas persons and the relevant part provided:
“3.12.6R A firm must not communicate or approve a specific non-real time financial promotion which relates to an investment or service of an overseas person, unless … (2) the firm has no reason to doubt that the overseas person will deal with customers in the United Kingdom in an honest and reliable way.” (2) the firm has no reason to doubt that the overseas person will deal with customers in the United Kingdom in an honest and reliable way.”
[17]The Principles for Businesses are also relevant since the Tribunal allowed the Authority to argue an alternative case based on Principle 2 which provides:
“2. A firm must conduct its business with due skill, care and diligence.”
[18]The Tribunal considered the following questions in the course of its determination:- i) whether Fox Hayes had taken reasonable steps to ensure that the promotions were clear, fair and not misleading within the meaning of COB rule 3.8.4R1; ii) whether Fox Hayes had no reason to doubt that the overseas persons would deal with customers in the United Kingdom in an honest and reliable way within the meaning of COB rule 3.12.6R(2); iii) whether Fox Hayes had arranged for the confirmation exercises (that the promotions complied with the rules) to be carried out by an individual with appropriate expertise within the meaning of COB rule 3.6.1R2; iv) whether Fox Hayes had conducted its business with due skill, care and diligence within the meaning of Principle 2; and v) whether the penalty imposed by the Authority was excessive.[19]On 24th September 2007 the Tribunal answered these questions i) Yes; ii) Yes until mid-November 2003 but thereafter Fox Hayes did have reason to doubt that the overseas persons would deal with United Kingdom customers in an honest and reliable way and should then have ceased to act until the doubts had been removed; iii) Yes; iv) Yes. They invited further submissions on how Mr Manning’s secret commissions should be treated for the purpose of determining the amount of the penalty.[20]Having received those submissions the Tribunal convened again on 4th February 2008 and decided, in a further determination of 29th February, that there should be a reduction in the total penalty from £150,000 to £146,000. That was because they reduced the substantive penalty to £70,000 in the light of the findings in para. 19 above but then added £76,000 in respect of the secret commissions.[21]The FSA sought permission to appeal to this court to whom appeals lie on a point of law pursuant to section 137(1) of the 2000 Act. On 23rd April 2008 the Tribunal gave permission on three such points as follows:- “(1) whether the Tribunal erred in law in deciding that the promotions approved by Fox Hayes were “clear, fair and not misleading” within the meaning of Rule 3.8.4R1 of the Conduct of Business Rules; (2) whether the Tribunal erred in law in deciding that before mid-November 2003 Fox Hayes had no reason to doubt that the overseas companies would deal with investors in the United Kingdom in an honest and reliable way within the meaning of Rule 3.12.6R(2) of the Conduct of Business Rules or, alternatively, whether the finding that the reason to doubt arose in mid-November 2003 was unsupported by the evidence; and (3) whether the Tribunal’s finding that Fox Hayes conducted its business with due skill, care and diligence was unsupported by the evidence.” Although permission was sought (and granted by this court) to argue other matters also, the oral argument concentrated on the grounds on which the Tribunal gave permission.

Promotion to be clear fair and not misleading - Rule 3.8. 4R.1

[22]The FSA’s argument was and is very simple. The whole purpose of the promotion was that investors should be contacted by overseas companies who would try to sell OTC Bulletin Board shares to investors. These shares were high risk illiquid shares. That purpose was not set out clearly (or indeed at all) in the promotional literature. It follows that the promotion was neither clear nor fair nor “not misleading”. It did mislead in the sense that investors did not expect to be subject to pressure to buy shares that might well be unsuitable for them. Since Fox Hayes knew that the purpose of the promotion was as described in para 126 of the determination, it follows that Fox Hayes cannot show that they took reasonable steps to ensure that the promotion was clear, fair and not misleading.[23]This case made by the FSA is, in my view, correct in law and, in the light of the express findings of the Tribunal as set out above, unanswerable. It becomes all the more so if one considers the evidential provisions which back up and support 3.8.4R.1 and are contained in 3.8.5E. (The letter R denotes a Rule while the letter E denotes a provision about Evidence). The particularly relevant provisions are:- “3.8.5E(1) A firm should take reasonable steps to ensure that, for a non-real time financial promotion: a) its promotional purpose is not in any way disguised or misrepresented; …… h) it does not omit any matters the omission of which causes the financial promotion not to be clear, fair and not misleading.(2) a) Compliance with COB 3.8.5E(1) may be relied on as tending to show compliance with COB 3.8.4R(1). b) Contravention of COB 3.8.5E(1) may be relied on as tending to show contravention of COB 3.8.4R(1)”. This draws attention to the importance of the purpose of any promotion and emphasises that it is not to be disguised or misrepresented. The purpose of the promotion was disguised in the sense that it was not mentioned and was hidden behind the procurement of a report on a UK listed company in which the investors already had shares. The sending of this report was not the purpose of the promotion which was, on the contrary, as the Tribunal found, to obtain the consent of the investors to be contacted by the overseas companies who would try to sell them OTC Bulletin Board shares. Once one concludes (as in my view the Tribunal should have concluded) that the purpose of the promotion was disguised, that in itself tends to show that there had been a contravention of COB 3.8.4R(1). a) its promotional purpose is not in any way disguised or misrepresented; …… h) it does not omit any matters the omission of which causes the financial promotion not to be clear, fair and not misleading. a) Compliance with COB 3.8.5E(1) may be relied on as tending to show compliance with COB 3.8.4R(1). b) Contravention of COB 3.8.5E(1) may be relied on as tending to show contravention of COB 3.8.4R(1)”.[24]It is fair to say that towards the end of the third document which formed part of Condor’s promotion there was, unemphasised in any way, a statement that Condor provided “opportunities for its clients to invest in companies which are not quoted in the United Kingdom”. But that is far from saying that the “whole purpose” of the promotion was that investors should be invited to buy high-risk illiquid OTC Bulletin Board shares. Its vagueness only emphasises that the true purpose of the promotion is being disguised.[25]The Tribunal decided that the initial letters sent by Condor (and others) were not inducements to engage in the purchase of OTC Bulletin Board shares but only an invitation(i) to send for a research report into the UK company in which they held shares and(ii) to be contacted about other services. On the surface that may appear to be correct but if one asks whether there was a financial promotion the only answer is that there was. One then has to ask what the purpose of that promotion was and whether that purpose was disguised. The Tribunal have not addressed that question directly. Instead they say this (and I now set out paragraph 126 in full):- “We accept that [Fox Hayes] knew that the whole purpose of the offer of free research reports was to obtain the consent of investors to be contacted by the overseas companies who would then try to sell the OTC Bulletin Board shares to the investors. However there was nothing in the Conduct of Business Rules which would prevent this and there was nothing in the Rules to prevent the overseas companies from gaining access to the United Kingdom investors in this way.”[26]It is true that the Rules do not prevent overseas companies from gaining access to United Kingdom investors but such companies can only do so if their communications are approved by authorised persons. Those persons have to take reasonable steps to ensure that the communications are clear, fair and not misleading. That means that the purpose of the communication should not be disguised. On any view the purpose was not plainly stated. It was, in fact, disguised and, on the Tribunal’s finding that Fox Hayes knew that the whole purpose was to gain access to investors to invite them to buy OTC Bulletin Board shares, it must in my view follow that Fox Hayes did not take reasonable steps to ensure that the promotion was clear fair and not misleading. The fact that the Rules do not prohibit overseas companies from accessing UK investors is nothing to the point if the promotion is, in fact, not fair or, in fact, disguises its true purpose. It must follow that the Tribunal has erred in law in this respect. The Tribunal emphasised that investors had the protection of the escrow account which ensured that they obtained the share certificate before parting with control over their cash. But that looks to a point well after the promotion itself. Nor did the Tribunal apply the important Rule 3.8.5E to the facts of the case.[27]I would therefore make an order declaring that Fox Hayes, in breach of COB 3.8.4R.1, did not take reasonable steps to ensure that the promotions approved by them were clear, fair and not misleading.

Reason to doubt honesty and reliability; Rule 3.12.6R.2

[28]On any sensible view the answer to this question must follow from the answer to the previous question. If Fox Hayes knew what the purpose of the promotion was but that purpose was disguised so that the promotion was not “fair clear and not misleading”, it must follow that Fox Hayes had reason to doubt that the overseas companies would deal with their customers in an honest and reliable way. If an overseas company is promoting a scheme without fairly setting out its purpose, there is every reason to doubt that the overseas company will deal with UK customers reliably or, even, honestly.[29]The matter does not, of course, rest there because Mr Manning’s commissions have to be considered. He was in the business of promoting the overseas companies’ schemes because of his association with Mr Rycott and Mr Reade, who were behind the companies. Mr Reade had agreed to pay him 4% commission on the transactions, a commission which Mr Manning chose not to reveal to his partners. If Mr Manning was not prepared to deal honestly with his partners as a result of receiving the commission he had agreed with Mr Reade, he must have had every reason to doubt whether the companies with whom Mr Reade had put him in touch would themselves be dealing reliably and honestly with their UK customers. It speaks volumes that, when Mr Manning was forced to reveal the existence of some (but by no means all) of the commissions to his partners in January 2006, the chairman of the 4-partner Executive Committee, according to the minutes of the meeting, which is referred to in para 105 of the Tribunal’s determination:- “queried whether the firm would have taken the work on, if it had known that JRM stood to make perhaps $500,000, but may, instead have queried the legitimacy of the whole scenario.”[30]It is necessary to say something more about these commissions of Mr Manning. The FSA only first became aware of them in the course of preparation for the hearing before the Tribunal in June 2007 because they were referred to in a footnote in Fox Hayes’ written opening submissions exchanged before the hearing. Clarification was sought and it then emerged that the partners in Fox Hayes had known of these commissions since January 2006 when, at the meeting of the Executive Committee referred to above, Mr Manning had apparently explained that the commissions were paid between May and December 2004 and reflected losses on personal investments in companies floated on the OTC Bulletin Board whose shares were later sold to investors through the unauthorised overseas companies. The Executive Committee seem to have accepted (excessively generously) that the commissions were, in the circumstances, not partnership assets although the Committee said that the partnership should have been told about them.[31]There was no reference to these commissions in the witness statement prepared by Mr Manning for the Tribunal hearing and dated 19th March 2007. When Mr Coleman, who was acting for the Authority at the hearing, on 1st June 2007 asked for an explanation of the footnote in the opening submissions, Mr Manning gave an explanation which was passed by e-mail to Mr Coleman on the evening of 7th June, the third day of the hearing. That was incorporated into a second witness statement dated 11th June 2007 which explained that Mr Manning had himself invested in three OTC Bulletin Board companies in reliance on the assurance of a colleague of Mr Reade, and had lost significant sums as a result; Mr Reade had consequently agreed in March 2004 that Mr Manning should be paid 4% of the sum realised from the financial promotions approved by Fox Hayes as compensation for those losses and for assisting Mr Reade in his UK activities.[32]When Mr Manning gave evidence on 13th June 2007, the penultimate day of the hearing, he changed his evidence again, saying that the agreement for 4% commission was in fact made with Mr Reade in Spain in 2002 because he had lost money as a result of the actions of Mr Reade’s colleague. He had, moreover, started to receive commissions in January 2003 (not May 2004) but was unable to say how much he had received or even into which of his bank accounts he had received them. He had not thought it necessary to declare them on his income tax return because he regarded himself as entitled to net them off against his capital losses.[33]Not surprisingly, the Tribunal did not accept Mr Manning’s various explanations for the payments of his commission. They said this in paragraph 111:- “There was no documentary evidence to support his statement made in January 2006 that the payments were made because he had invested in the companies whose shares were sold by the overseas companies and, in any event, he admitted before us that that statement was not true. And there was no documentary evidence to support his statement that Mr Reade had agreed voluntarily in 2002 to compensate Mr Manning for losses he had suffered with his personal investments because of the lack of financial support from Mr Reade’s colleague. We find that statement to be intrinsically improbable. On the evidence before us we find that the payments were made to Mr Manning because he arranged for the applicant to undertake the work done in connection with the financial promotions. We also find that, other than the matters that were discussed in January 2006, these facts were unknown to the applicant until the penultimate date of the hearing before us when Mr Manning gave oral evidence.”[34]It will be seen that the Tribunal have differentiated between Mr Manning and “the applicant” when they say that the true facts were unknown to the applicant (namely Fox Hayes). They were of course known to Mr Manning and what the Tribunal mean is that the true facts were not known to his fellow-partners. It is not clear that the Tribunal, despite what they say in para. 146 of their determination, appreciated that, when they had to consider whether Fox Hayes had complied with the Conduct of Business Rules, they had to consider that question on the basis of the combined knowledge of the Fox Hayes partnership, not just that of the partners other than Mr Manning.[35]In relation to Mr Manning the Tribunal then said that the fact that Mr Manning retained the commissions did not affect the way in which Mr Jones advised the overseas companies and that Mr Manning’s knowledge of his own commissions did not itself give Fox Hayes reason to doubt that the overseas companies would treat UK investors in an honest and reliable way. To the extent that this appears to accept that it is possible to look at Fox Hayes’ knowledge as being separate from that of Mr Manning’s knowledge that is, in my view, an error of law. For the reasons already given I also consider that once the composite knowledge of all the Fox Hayes partners is accepted as the relevant criterion, there was every reason to doubt the overseas companies’ reliability and, probably, their honesty.[36]The Tribunal decided that there was no reason to doubt the honesty or reliability of the overseas companies until mid-November 2003 when press comment had become insistent and there had been nine separate customer complaints. It so happened that Mr Jones sent a memorandum of his concerns to Mr Manning in 19th November 2003 and it was only at this time that the Tribunal considered that reasons to doubt the overseas companies’ honesty and reliability could be said to have arisen.[37]For the reasons given, I cannot agree with their conclusion. The Tribunal were, of course, influenced by their earlier conclusion that the promotion was clear, fair and not misleading. They must also have been hampered by the fact that proper disclosure about Mr Manning’s commission was not made well before the hearing and Fox Hayes’ case about them changed almost from day to day during the hearing. This court can, for the first time, see the whole position. It is a highly unattractive position for a firm of solicitors to find itself in but the overall conclusion can only be that there was indeed reason to doubt, at the very beginning of the promotions, whether the overseas companies would act reliably and honestly in relation to their UK clients and that the firm of Fox Hayes should never have become involved in these schemes in the first place without proper disclosure to the UK investors of their true purpose.[38]One concern of the Tribunal should be noted. In para 131 they referred to an argument of the FSA that the point of rule 13.12.6R was to protect the investors at the point of sale. They then said that, since the sale was concluded on the telephone, there was in fact no protection given by the Rule because the telephone was a real-time transaction and telephone calls were not governed by the Rule. This is to my mind too narrow a view, perhaps promoted by a too literal reading of the FSA’s argument. Of course the intention is to protect the investor at the point of sale but such protection is not necessarily to be found only at the point of sale. Non real-time promotions deserve protection precisely because they may lead to sales agreed on the telephone. It is all the more important that the non-real-time promotions must be clear, fair and not misleading and that there must, at the point of promotion, be no reason to doubt the honesty and reliability of the relevant overseas companies.[39]I would therefore make an order declaring that Fox Hayes, in breach of COB 3.12.6R.2, did have reason to doubt the honesty and/or reliability of the overseas companies at the time when the promotions began.

FSA’s own conduct

[40]At various points in the Tribunal’s determination, express or implicit criticism is made of the conduct of the FSA in failing to give guidance as to the meaning of the rules or assistance to Mr Jones when he asked for it. Examples of this are that:- i) the FSA appeared to accept the enquiries about the overseas companies that had been made by Fox Hayes and the way in which the financial promotions had been approved by them (para 73, relating to the visit made to Fox Hayes on 31st July 2003); ii) in response to Mr Jones’ letter of 4th September 2003 asking if there were any grounds for Fox Hayes not to deal with Condor any longer or if the FSA was aware of any impropriety of Condor or any other companies for which Fox Hayes was acting, the FSA merely said that that was a commercial decision for Fox Hayes which “did nothing to assist” (paras 76 and 141); iii) the FSA failed to reply (but ought to have replied) to Mr Jones’ request, when he was notified in April 2004 that the FSA were to carry out a formal investigation into Fox Hayes, to be informed which rules or principles had been broken as Fox Hayes would not wish to continue to approve promotions if there had been any breach (para 100); iv) the FSA might, by expressing concerns when they made their visit on 31st July 2003 or when responding to Mr Jones’ letter of 4th September 2003, have prevented Fox Hayes from approving promotions after those dates (para 141). The FSA complains about these conclusions and they are the subject matter of one of the grounds of appeal for which this court gave permission to appeal.[41]If and to the extent that the Tribunal used these criticisms of the FSA’s conduct to justify their conclusions that the promotions were clear, fair and not misleading and that there was no reason to doubt the honesty and reliability of the overseas companies, I would accept that the FSA’s appeal in respect of the Tribunal’s criticisms would be largely justified. Even if the basic findings of fact underlying the criticisms are correct, I do not think it would be right to say that the FSA should be criticised. Regulators may often find themselves in a somewhat difficult position when they are expressly asked for advice or guidance. It cannot be a legitimate criticism of a regulator that he decides not to give advice or guidance. It is the duty of the authorised person to comply with any relevant rule not the duty of the regulator to advise whether conduct of a particular kind does or does not constitute compliance with or contravention of a rule. The most that can, in my view, be said is that, if advice or guidance is given and it subsequently transpires that it was wrong, that may have an effect on the penalty for any transgression. One can only say that it “may” have an effect upon penalty because it is likely to be only the authorised person who knows the full factual picture; usually the regulator will not. Any advice or guidance given can only be relied on if the full facts are before the regulator when the advice or guidance is given. In the present case, for example, the FSA did not know these critical facts namely i) that the whole purpose of the promotions was to enable the overseas companies to try to persuade UK investors to buy OTC Bulletin Board shares; ii) that Fox Hayes knew that to be the whole purpose of the promotions; iii) that the senior partner of Fox Hayes was taking a commission on the transactions which he was concealing from his fellow partners. In these circumstances any advice or guidance given expressly or implicitly by the FSA to Fox Hayes would, in any event, be valueless.[42]Having said that, I do not in fact read the Tribunal’s criticism of the FSA’s conduct as having been determinative of the question whether there was, in the Tribunal’s view, a contravention of the Rules. The criticisms did not come into the question whether the promotions were, at their inception “clear, fair and not misleading”. It is true that the FSA’s failure to give earlier advice to Fox Hayes did play some part in the Tribunal’s conclusion that Fox Hayes had no reason to doubt the honesty and reliability of the overseas companies until mid-November 2003. To the extent that the Tribunal’s criticism of the FSA supported that conclusion, I do think that the Tribunal have erred in law for the reasons given in the preceding paragraph. But, as I have sought to indicate, the real error was not so much that, but the failure to conclude that disguising or not revealing the true purpose of the promotion itself gave reason to doubt the honesty and reliability of the overseas companies right at the beginning of Fox Hayes’ involvement with the schemes.[43]That does not preclude any argument that the FSA’s inactivity (even if it is not right to criticise them for such inactivity) may have some relevance to the eventual penalty.[44]In the light of my conclusions so far, I do not find it necessary to deal with other matters raised in the Grounds of Appeal. It does not advance the case either way to consider whether there was a breach of the Principles for Businesses. Nor are any of the other matters raised in the written submissions of the parties of any more relevance. It is sufficient for the FSA’s purposes that the Tribunal have erred in the respects indicated and that declarations, as indicated, should be made. There remains the question of penalty, since in the light of my conclusion about the errors of law the decision on penalty cannot stand.

Penalty

[45]Pursuant to section 206 of the 2000 Act the FSA has power to impose a penalty of such amount as it considers appropriate. The FSA was also required by section 210 to issue a statement of policy with respect to the imposition of penalties. At the relevant time that statement of policy was contained in Chapter 13 of the FSA’s Enforcement Manual known as ENF 13 and section 3 of that document is entitled “Factors relevant to determining the appropriate level of financial penalty” The factors include(1) the seriousness of the misconduct or contravention(2) the extent to which the contravention or misconduct was deliberate or reckless(3) whether the person on whom the penalty is to be imposed is an individual and the size, financial resources and other circumstances of the firm or individual(4) the amount of profits accrued or loss avoided(5) conduct following the contravention(6) disciplinary record and compliance history(7) previous action taken by the FSA and(8) action taken by other regulatory authorities.[46]For the purpose of assessing penalty it is first appropriate to consider whether the penalty is to be imposed on a firm or an individual. Normally it would be imposed on the firm of Fox Hayes. That firm, however, became a limited liability partnership before the FSA served its original decision notice imposing the penalty of £150,000. That has not been paid pending the reference to the Tribunal which in any event reduced the penalty to £146,000. No doubt that penalty (or any increased penalty) can be discharged by a firm cheque written on the current partnership account.[47]But the transfer of assets and liabilities into the limited liability partnership does not, of course, alter the legal position which is that, at the time of the contraventions, Fox Hayes was a partnership without limited liability and it is, therefore, the partners at the time of the contraventions who have the legal liability to pay any penalty which is ultimately imposed. For this reason it seems to me to be right to have regard to the relevant individual partners (and their individual assets) rather than the firm of Fox Hayes for the purposes of factor (3) above. It was for this reason that, at the end of the hearing, we asked for evidence about the financial resources of the relevant partners.[48]The seriousness of the misconduct. In my view the misconduct which this case has revealed was serious. There was a failure to take reasonable steps to ensure that the promotions by the overseas companies were clear and not misleading. As a result a large number of investors lost a very large sum of money running into many millions of pounds. There was also serious reason to doubt that the overseas companies would deal with the United Kingdom investors in an honest and reliable way, although it is fair to say that the reason to doubt stemmed in large part from the disguising of the purpose of the promotion in the first place.[49]Deliberate or reckless misconduct. Although the misconduct in the present case was the “failure to take reasonable steps to ensure” that the promotion was fair and not misleading, it does not follow that the misconduct was merely negligent rather than reckless or deliberate. The finding of the Tribunal was that the firm knew that the purpose of the promotion was to obtain the agreement of customers to be contacted for the purpose of trying to sell them OTC Bulletin Board shares; despite that knowledge Fox Hayes approved the wording of the letters which disguised that purpose. Mr Manning and Mr Jones obviously read the letters and must have appreciated that the true purpose of the promotion was not being stated. That is, at least, reckless and, in my view, deliberate. It is not necessary for the FSA, of course, to show that Fox Hayes or any of its partners intended investors to lose money or were reckless in that regard. The FSA need only show that the actual misconduct was deliberate or reckless and it is impossible to avoid the conclusion that it was.[50]Pausing at this point, I consider that the penalty should reflect both the seriousness and, at least, the recklessness of the misconduct. In a case of this kind where ordinary investors have lost many millions, it would be inappropriate, other things being equal, to fix a penalty less than £750,000.[51]One matter, however, which it would be right to take into consideration, is that the present case has some of the elements of being a test case. The Tribunal record (para. 97) that the FSA itself (or, at least, one of its employees) was in doubt whether there has been a breach of FSA Rules as opposed to a breach of the Principles. The employee recorded that the enforcement department had agreed to take the case of Fox Hayes “in order to establish a line in the sand”. He ended by saying it was important to demonstrate that the FSA is prepared to take action in this area. This all shows that some uncertainty existed in the interpretation of the Rules and that Fox Hayes was chosen, if not as a test case, at any rate as an example for the benefit of the FSA to be able to seek an authoritative interpretation of their Rules. In the light of the history any penalty, assessed by the criteria I have so far discussed, should be reduced to £500,000.[52]The next factor to be considered is the “profits accrued”. It is here that Mr Manning’s commissions fall to be considered. Despite the generosity of his partners, the commission should, on any view, be regarded as assets of the partnership. The Tribunal in their second determination considered that, because Fox Hayes’ overheads amounted to 83.2% of gross profit on overseas business and their net profit was therefore 16.8% of their gross profit, it was appropriate that they should pay, by way of penalty in respect of the commissions, 16.8% of £454,770. With respect this cannot be right since the commissions were “earned” without any increase in any overhead costs. They should, in principle, be added to the amount of any penalty which now therefore, becomes £954,770.[53]The fifth to eighth factors will not increase or reduce the penalty. The only factor that remains is, thus, the third factor of the relevant partners’ financial resources.[54]At this point a difficulty arises which prevents this court from giving any final judgment. Mr Hollander QC for Fox Hayes asked us to defer judgment so that the partners could put in evidence of means. We therefore permitted the partners to put in evidence about means and for the FSA to respond. It then emerged that there was a difference of view about the identity of the partners who would be liable to pay any fine. The FSA asserted that it would be the partners who were partners during the period of the contravention (from 21st February 2003 until 16th June 2004) who would be liable to pay any penalty whereas the partners or, at any rate, some of them asserted that it should be the partners at the time when the penalty was imposed by the FSA namely 29th September 2006. The FSA indicated that they would not be pursuing salaried partners but only equity partners. Even that may be a little ambiguous since some partners were full profit sharing equity partners, while others were fixed share equity partners. There is an obvious conflict of interest between the partners and Mr Hollander cannot now represent them all. As I see it, the partners most likely to be affected are Mr C. P. Frazer and Mr I Brill. Fox Hayes LLP is now in the hands of administrators. Statements of assets have been served and appear on the face of them, to indicate that none of the partners has substantial assets but the FSA do not accept that that is necessarily the position.[55]In these circumstances I consider that the partners should have the opportunity of taking independent advice before a final figure is arrived at with respect to the penalty and, if they wish, seek a further hearing or make written submissions to the Tribunal to whom we will remit the following questions i) which partners will, as a matter of law, be liable to pay the final penalty imposed; ii) whether the penalty specified by us should be diminished by reason of the financial circumstances of the relevant partners who will be liable to pay it. This course has the further advantage that the Tribunal can make a decision on the point of law which can, if necessary, be appealed after the potentially affected parties have taken individual legal advice if they wish to do so.[56]It will, of course, be for the Tribunal to determine the appropriate procedural way forward. But it seems to me that in the light of the submissions and evidence which have now been exchanged, it should be for the FSA, in the first instance, to state which individual partners they propose to pursue and the extent to which they accept, if at all, that the amount of the fine which this court would otherwise have imposed should be reduced. The nominated individuals can then, if they wish, respond.[57]I would therefore make declarations and orders in accordance with this judgment. Since Fox Hayes LLP is now in administration it would be appropriate that the FSA have the initial carriage of the order and I would be grateful if they could prepare the appropriate draft and submit it to Mr Hollander if he has instructions in relation to it.[58]I agree both with the judgment of Longmore LJ and with the additional observations of Lawrence Collins LJ.[59]I agree with the order proposed by Longmore LJ. I add only that this case illustrates the dangers for professional persons (and also for financial institutions) whose names are used, not only for specific statutory purposes, but also to add respectability or credence to financial documents.[60]Fox Hayes was an authorised person for the purposes of the 2000 Act, and the documents sent to those targeted for solicitation stated (as they were bound to do) that they had been “approved by Fox Hayes, Solicitors.”[61]The firm should have realised that statements of that kind give comfort to investors that the promoters are advised by a respectable firm. But Fox Hayes (as Mr Jones’ witness statement made clear) was a medium sized firm in Leeds without any expertise in international securities law. When Mr Jones joined in 2001 its main areas of work were residential conveyancing (over half of its work), matrimonial work, personal injuries, wills and trust for private clients; and there was a commercial department which carried out company/commercial, employment, litigation and property work for small and medium sized businesses. By the time he made his witness statement in 2007 the firm had grown substantially, but the types of work remained the same, but with residential conveyancing taking an increasing share.[62]Before Mr Jones joined, the firm did not have anyone who specialised in company/commercial work, and he was recruited to handle that kind of work for company clients introduced by Mr Manning. Mr Jones had, since qualification, acted for small and medium sized businesses at a number of firms in the North of England, mainly in company and contract work. It may be that the Tribunal was technically correct in concluding (paras 149-151) that Mr Jones had acquired sufficient expertise in the FSA rules, but it is plain that he had no experience of cross-border securities law, or of dealing with companies like A Street Capital.[63]It is impossible to resist the conclusion that the promoters were using a small firm without any relevant expertise, and with a senior partner who was (to put it at its lowest) less than scrupulous and who had a substantial personal stake in the success of their efforts, because a substantial firm with real expertise would not have touched this business. They were using the firm not only to purport to comply with FSA rules, but to add an air of respectability to their documents. Fox Hayes knew that the whole purpose of the offer of free research reports was to act as a prelude to the solicitation of purchases of the OTC Bulletin Board shares. Mr Jones should have been alert to the fact that the use of the firm’s name facilitated the approaches to potential investors.

Cited in 1 later judgment