Financial Services Authority v Sinaloa Gold Plc & Ors [2011] EWHC 144 (Ch)

Case No HC10C04532

[2011] EWHC 144 (Ch)

IN THE HIGH COURT OF JUSTICE

CHANCERY DIVISION

Venue Royal Courts of Justice

Date Tuesday, 25 th January 2011

Strand

London

WC2A 2LL

Before

HIS HONOUR JUDGE HODGE QC

Sitting as a Judge of the High Court

Between

Financial Services AuthorityClaimant

Sinaloa Gold Plc & OrsDefendant

B E T W E E N:

FINANCIAL SERVICES AUTHORITY

and

SINALOA GOLD PLC and 2 OTHERS

Transcript from a recording by Ubiqus

Venue Clifford’s Inn, Fetter Lane, London EC4A 1LD

Tel: 020 7269 0370

MR NICHOLAS VINEALL QC and MR JAMES PURCHAS appeared on behalf of the Claimant

MR JAMES DINGEMANS QC and MR TOM POOLE appeared on behalf of Sinaloa Gold PLC and Mr Hoover

MISS TAMARA OPPENHEIMER appeared on behalf of Barclays Bank PLC, intervening

JUDGMENT

[1]This extemporary judgment is divided into seven sections as follows:(1) The proceedings.

(2) The assertion of a boiler-room fraud or share-sale scam.

(3) A serious issue to be tried.

(4) A risk of dissipation.

(5) The amount of the freezing order, if any.

(6) A cross-undertaking in damages in favour of the respondents.

(7) A cross-undertaking in damages in favour of third parties, including (and notably) Barclays Bank plc (Barclays).

[2]As acknowledged by the claimant, the Financial Services Authority (the FSA), this case raises an interesting point, potentially of wide application, relevant to all FSA injunctions, and of potential relevance to many injunctions sought by other regulators or public enforcement authorities. It concerns the extent of the undertakings to be given by the FSA in Schedule B to the proposed freezing injunction.

[1]The Proceedings

[3]This is the adjourned hearing of an application by the FSA to continue interim injunctive relief which was first granted against the three defendants on a without-notice hearing which took place before Mr Kevin Prosser QC, sitting as a Deputy Judge of the Chancery Division, on 17th December 2010. That interim injunctive relief was continued, with modifications, by Mr Justice David Richards on the original return date on 31st December 2010. The FSA’s case is that the defendants have been involved, albeit in different capacities, in a scheme which they say was designed to persuade private individual investors within the United Kingdom to subscribe for penny-shares in the first defendant, Sinaloa Gold plc (Sinaloa), a UK company, at prices of between 62 pence and 91.5 pence per share. The FSA contends, in connection with that scheme, first, that persons carrying on business as PH Capital Invest (PH) have carried on activities which are regulated activities under the Financial Services and Markets Act 2000 (the FSMA) in contravention of the general prohibition in Section 19, and have also communicated invitations to engage in investment activity in contravention of Section 21 of the FSMA. Secondly, that the first defendant, Sinaloa, is in breach of Section 85 of the FSMA by offering shares to the public in the United Kingdom without any approved prospectus, and, further, has communicated directly, and through PH, invitations to engage in investment activity in contravention of Section 21 of the FSMA, and is also knowingly concerned in PH’s contraventions. Thirdly, that the third defendant, Mr Glen Lawrence Hoover, one of the three directors of Sinaloa and its original shareholder, who effectively acts as its chief executive officer and has been described variously as its president and deputy president, has contravened regulation 25 of the Financial Services and Markets Act 2000 (Regulated Activities) Order 2001 (the Regulated Activities Order) by making arrangements for Sinaloa to sell its shares, and also that he has been knowingly concerned in Sinaloa’s contraventions.

[4]Although the order sought on this application is complex, in essence it seeks simply to stop the scheme and to freeze the defendants’ assets to the amount that the FSA says appears to have been received from consumers as a result of these contraventions, thereby holding the ring until judgment or further order. The FSA’s investigations are continuing. However, given(1) the concern and risk to consumers of the defendants’ ongoing activities;

(2) the risk of dissipation of sums paid over by consumers;

(3) the involvement of a Mr Miron Leshem, who is the subject of a “cease-and-desist” order by the US Securities and Exchange Commission (barring him from participating in penny-stock offerings) in 1999, and a further order made by consent (but without admission or denial) incorporating a further penny-stock bar and a permanent injunction on offering penny-stocks, the payment of a penalty and the disgorgement of profits; and also

(4) the involvement of a Mr David Hesterman who, it would appear, like Mr Leshem, has been subject to enforcement action by the United States Securities and Exchange Commission, and is also a convicted fraudster; the FSA seeks the continuation of the injunction which was granted on 31st December 2010 until after judgment or further order.

[5]The application first came on before Mr Prosser on a without-notice application on 17th December 2010. On that occasion, Mr James Purchas of counsel appeared for the FSA. He had prepared a detailed written skeleton argument extending to some 27 pages. The evidence in support of the application consisted of the first affidavit of Mr Constantinos Alexios Pittas, sworn on 17th December 2010, together with a substantial exhibit, CAP1, extending to some 517 pages of documents. Mr Pittas is an advanced associate in the enforcement division of the FSA. At the time the matter came before Mr Prosser, no claim form had been issued. Mr Prosser granted relief in the form of negative injunctions restraining certain activities on the part of each of the three defendants. He also granted freezing relief, and he required certain information to be provided by all three defendants. The claim form was issued in the Chancery Division of the High Court on 20th December 2010. The brief details of claim assert as follows:

‘The defendants are and have been involved, albeit in different capacities, in a scheme designed to persuade private individual consumers in the UK to subscribe for penny-shares in the first defendant. Consumers have paid out money for the shares, which appear to be of little or no value. Their money is then transferred into at least two accounts overseas. The various activities of the defendants in this scheme constitute contraventions of Sections 19, 21 and 85 of the FSMA. In addition, the entire scheme may be fraudulent and designed in order to persuade private individuals to pay far more for the shares in the first defendant than what, if anything, those shares are in fact worth. If so, this is a fraud of the kind sometimes described as a “boiler-room” or “share-sale scam” fraud. In the circumstances the claimant seeks injunctive relief under the court’s jurisdiction pursuant to Section 380(1) and (3) of the FSMA, rule 25.1(f)(ii) of the Civil Procedure Rules 1998 and Section 37(1) of the Senior Courts Act 1981, [therein mis-described as the Supreme Court Act] against the defendants listed above. The claimant also seeks restitution orders under Section 382 of the FSMA against the defendants.’

I should indicate that Mr Hoover is a US citizen, resident in the United States.

[6]By the time the matter came back to court on the return day before Mr Justice David Richards on 31st December 2010 there were, in addition to affidavits and a witness statement of service, a further substantive affidavit in support of the application, again sworn by Mr Pittas (on 29th December 2010) together with a further exhibit CAP2. On the return day, no-one attended on behalf of PH. Sinaloa and Mr Hoover did attend by counsel. At that stage they did not oppose the continuation of the order; they expressly reserved their position. Since then, two affidavits have been sworn by Mr Hoover, on 10th and 11th January 2011, providing information by himself, and also on behalf of Sinaloa, in compliance, or purported compliance, with the terms of the freezing injunction. An application notice for the continuation of Mr Justice David Richards’s order was issued on 6th January 2011; and it is that application which is before me today. On 13th January 2011 a further affidavit from the FSA was sworn by Mr Jonathan Phelan, the head of the unauthorised business division of the FSA. That is directed to an issue which had by then arisen as to whether the FSA should be required to give an undertaking in damages to any third-party affected by the order, or any order to be granted on this application. Shortly before the matter came on for hearing, Mr Hoover swore a third affidavit, on 19th January 2011, exhibiting various documents and addressing the substantive issues, at least in so far as they are raised by this interim application. In response to that evidence, a further affidavit was sworn on behalf of the FSA by Mr Guy Richard Wilkes, a solicitor and manager in the FSA’s enforcement division. That was sworn on 21st January 2011 and exhibits various documents as exhibit GRW1.

[7]On the hearing of this application, Mr Nicholas Vineall QC, leading Mr James Purchas of counsel, appears for the FSA. Mr James Dingemans QC, leading Mr Tom Poole of counsel, appears for Sinaloa and for Mr Hoover. In addition, Miss Tamara Oppenheimer of counsel appears representing Barclays as intervener, on the footing that it has been given notice of the freezing injunction and claims to be affected by the terms of that order. All three sets of counsel have produced helpful written skeleton arguments. For Sinaloa and Mr Hoover, Mr Dingemans submits that the freezing injunctions made against them should not be continued. This is because, first, there has, it is said, been an impermissible plea of fraud against both Sinaloa and Mr Hoover which infringes rules relating to proper pleading. It is said that those rules have been made for good reason, and that the approach of the FSA to the allegations of fraud has been wrong and impermissible. Secondly, it is said that there is, on the evidence, no proper evidence of fraud; and, thirdly, that there is no evidence of a risk of dissipation of assets. If, contrary to their primary case, the freezing orders are to be continued against Sinaloa and Mr Hoover, they submit, first, that the amounts frozen should be reduced, and, secondly, that an undertaking in damages should be provided, not only to third parties such as Barclays, but also to Sinaloa and Mr Hoover themselves. In his third affidavit, Mr Hoover seeks the Court’s permission to replace any parts of the order which should remain in force with undertakings; and, at the end of his address, Mr Dingemans repeated the offer of undertakings, instead of injunctions, if that was thought to be appropriate.

[8]In her skeleton argument, Miss Oppenheimer for Barclays explains its intervention in this matter. In a letter of 12th January 2011 (although it was misdated 2010) the FSA indicated to Barclays that it intended at this hearing to seek to vary the undertaking contained in paragraph 4 of Schedule B to Mr Justice David Richards’s order, being the standard cross-undertaking as to damages to a third-party affected by a freezing order. Barclays opposes the variation of that order. The point here is this: paragraph 4 of Schedule B to the order (which follows the wording in the standard CPR form of freezing order, and also follows the form of paragraph 5 of schedule B to the original order made by Mr Prosser) provides as follows, ‘The applicant will pay the reasonable costs of anyone other than the respondents which have been incurred as a result of this order including the costs of finding out whether that person holds any of the respondent’s assets and if the Court later finds that this order has caused such person loss and decides that such person should be compensated for that loss, the applicant will comply with any order the Court may make.’

[9]The FSA seeks to substitute for that an undertaking which ends simply with the words, ‘…including the costs of finding out whether that person holds any of the respondent’s assets’ and omitting the later clause beginning ‘…and if the Court later finds that this order has caused such person loss…’. In other words, the FSA proposes that the standard undertaking as to damages with respect to third-parties should be amended so as to provide only an undertaking to third-parties to pay reasonable costs incurred as a result of the order.

[2]The Assertion of a Boiler-room Fraud or Share Sale Scam

[10]The skeleton argument prepared by Mr Purchas for the original hearing before Mr Prosser stated (in paragraphs 3 and 4) as follows, ‘3. The FSA considers that there are grounds to believe that the entire scheme may be fraudulent and that it has been designed in order to persuade individuals to pay far more for the Sinaloa shares that what, if anything, those shares are in fact worth. If that is so, this is a fraud of a kind sometimes described as a boiler-room or share-sale scam fraud. 4. However, for the purposes of this application it is not necessary for the Court to be persuaded that the scheme is fraudulent, although the possibility that the scheme might be fraudulent will no doubt be a matter that the Court considers when deciding whether, and if so how, to exercise its discretion.’

[11]In the FSA’s skeleton prepared for the purposes of this hearing, the words, ‘…the FSA considers that there are grounds to believe that the entire scheme may be fraudulent’ have been replaced by the words ‘…the FSA considers it likely that the entire scheme is fraudulent’, although the remainder of the original paragraphs are otherwise reproduced.

[12]Mr Dingemans for Sinaloa and Mr Hoover object to that way of characterising and presenting the FSA’s case. Mr Dingemans emphasises, first, that a freezing injunction is the nuclear weapon in the armoury of the Court, and that is particularly so where the applicant for freezing relief is proposing to offer no cross-undertaking in damages in return for the grant of the freezing order. Secondly, he submits that the issue of whether a cross-undertaking in damages should be given apart, the FSA is in no different position from that of any other litigant. Thirdly, he says that an applicant for an order of this type owes a duty to the Court to give full and frank disclosure. Fourthly, he says that that involves making a case as to the character of the particular respondent with whom one is dealing. Fifthly, he says that it follows from the earlier propositions that it is wholly impermissible to equivocate about whether a person is a fraudster or not; there should be no equivocation in that regard; an applicant for relief in the nature of a freezing injunction should make it clear to the Court whether it is alleged that the respondent or respondents are indeed parties to a fraud or not. He submits that the Court should confront and stop any practice of applying for freezing injunctions just before Christmas and affecting persons in overseas jurisdictions. He submits that such a practice is just about as intrusive as one can get. He submits that one cannot leave the Court to take a view without actually identifying what case is being presented against a respondent, because otherwise the respondent is effectively a moving target, not knowing what is being fired at him.

[13]In support of his submissions, I was taken to the decision of the Court of Appeal in the case of Brink’s Mat Ltd v Elcombe

[1988] 1 WLR 1350

and, in particular, to passages in the judgments of Ralph Gibson LJ at page 1356F to 1357G, Balcombe LJ at 1538D-G, and Slade LJ at page 1359C-E. Mr Dingemans submits that the duties there identified extend to making it clear whether it is the case of the applicant for relief that the respondent or respondents is or are fraudsters or not; he submits that it is simply not good enough to say that there may have been a fraudulent scheme. He fortified that submission by reference to paragraphs 25.1.25.5 at page 655 of the current (2010) edition of Civil Procedure. He reminded me that a claimant should depose to objective facts from which it may be inferred that the respondent is likely to move assets or dissipate them, and that unsupported statements or expressions of fear have little weight. Great care should be taken in the presentation of evidence to the Court, so that it can see not only whether the applicant has a good arguable case, but also whether there is a real risk of dissipation of assets. A freezing order should not be granted unless the applicant has established an appropriately strong case showing, amongst other things, that the respondent owns the assets concerned or has some interest in them. It is for the applicant to make out his case, and an order should not be granted simply because the respondent cannot show any immediate and obvious prejudice. Where the respondent is alleged to have been dishonest, the Court should scrutinise with care whether what is alleged in this respect in itself really justifies the inference that he is likely to dissipate assets unless restricted. It is essential that the respondent is entitled to a proper opportunity to present his case at the with-notice hearing; he therefore has to be supplied with all the evidence on which the applicant is going to rely. In particular, Mr Dingemans says that he has to know whether he has to meet a case of fraud or not.

[14]Mr Dingemans took me to passages in the speeches of Lord Bingham of Cornhill and Lord Hobhouse of Woodborough in the case of Medcalf v Mardell

[2002] UKHL 27

,reported at

[2003] 1 AC 120

, at paragraphs 22 and 54 respectively. He submitted that if there is no proper basis for alleging that Mr Hoover was a party to a fraudulent share-sale scam, then the allegation should not be made against him; if that allegation cannot be brought home then that should be made clear to the Court. He drew attention to what he said were two principal failings on the part of the FSA: first, that there had been no proper disclosure in relation to the position of Mr Hoover; and, secondly, that there had been an impermissible allegation of fraud directed against him which was unsupported by the evidence. For those reasons, he submitted that the injunctions against both Sinaloa and Mr Hoover should be discharged. He recognised that the Court has a discretion whether to discharge an injunction, or, having discharged an injunction, to reimpose it; but he submitted that that discretion should be sparingly exercised against a refusal to discharge, or against reimposing, an injunction, because of the important, and salutary, effect of refusing an applicant, effectively, the opportunity to get away with having failed properly and fairly to put its case. He submitted that if this way of presenting its case was a regular practice on the part of the FSA, then it was even more important for the Court to condemn it, and to discourage adherence to the practice in the future. Mr Dingemans made it clear that he was not seeking to submit that the FSA needed actually to plead fraud before raising it in the context of an application for a freezing injunction; his submission was that the FSA had to make it clear whether it was alleging fraud and, if so, to substantiate a case to that effect.

[15]For the FSA, Mr Vineall submitted that there were two distinct issues for the Court to address. The first was whether an allegation of fraud was properly made, in the sense of whether there was material sufficient to support it; and, secondly, whether fraud had been properly pleaded with sufficient particularity. Mr Vineall accepted that the form of the brief details of claim in the claim form was not a proper pleading. He indicated that the FSA would delete the two offending sentences; and during the course of the hearing a draft amended claim form was produced in which the words ‘In addition, the entire scheme appears to have been designed in order to persuade private individuals to pay far more for the shares in the first defendant that what, if anything, those shares are in fact worth. If so this is a fraud of a kind sometimes described as a boiler-room or share-sale scam fraud’, were deleted. However Mr Vineall submitted that it was perfectly proper, on an application for interim injunctive relief, when the applicant’s cause of action did not depend on an allegation of fraud, to say to the Court, as a matter of the Court’s discretion, that when features of the evidence gave rise to a suspicion of fraud, those were matters which could be taken into account by the Court. Mr Vineall emphasised that there was a good arguable cause of action which had been made out, and which did not depend on any allegation of fraud. He submitted that the suspicions about the good faith and the honesty of the underlying scheme, and the fact that they might indicate fraudulent activities, went to the exercise of the Court’s discretion, and were proper to be placed before the Court. That did not mean that the Court was being asked to make any finding of dishonesty or fraud on an interim application; the breach of the provisions of the FSMA and the Regulated Activities Order were sufficient to trigger the FSA’s entitlement to interim freezing relief. The assertion of a fraud went only to the exercise of the Court’s discretion. As a result of interventions from the bench, Mr Vineall eventually, I think, accepted that, in addition to being relevant to the exercise of the Court’s discretion, the assertion of fraud was also relevant to the question whether the anterior threshold condition of a risk of dissipation of assets had been established to the Court’s satisfaction. Under the terms of Section 380(3) of the FSMA, if on the FSA’s application, ‘…the Court is satisfied that any person may have:(a) contravened a relevant requirement, or

(b) been knowingly concerned in the contravention of such a requirement, it may make an order restraining… him from disposing of or otherwise dealing with any assets of his which it is satisfied he is reasonably like to dispose of or otherwise deal with.’

[16]It does seem to me that an assertion of fraud is relevant, not only to the exercise of the Court’s discretion, but also to the issue of whether the anterior threshold condition identified in Section 380(3) of being satisfied that the respondent is ‘reasonably likely to dispose of or otherwise deal with’ assets is satisfied. However, even acknowledging that, Mr Vineall submitted that the matters on which the FSA relied had been put perfectly properly and fairly before the Court on 17th December, as they were being done today. He submitted that there was no prejudice to any defendant, either then or now, from the way in which the case was being advanced. He emphasised that the assertion of fraud was not an allegation made in a formal pleading. He submitted that the Court might form, and indeed must form, a provisional view of the honesty of the scheme and of Mr Hoover. The breaches of the FSMA and of the Regulated Activities Order were sufficient to found jurisdiction in the Court to grant interim freezing relief; the assertion that there was or may have been an underlying fraud was relevant both to the risk of dissipation of assets and the exercise of the Court’s discretion.

[17]Mr Vineall went on to submit that there was no sharp dichotomy which forced the FSA to say whether its case was based on fraud or not; indeed not all aspects of a case such as the present would be clear at the stage when the application was first made for freezing relief. Where there is a possibility of fraud, that may only become clearer as the case develops and further evidence comes to light. In the present case, Mr Vineall submitted that Mr Hoover’s third affidavit, and the explanations and evidence contained therein, served to confirm rather than to allay one’s suspicions. The FSA was, as a result, now more confident that this was a fraudulent scheme than it had been at the time of the hearing before Mr Prosser. He submitted that it would be most unfortunate if an applicant in the position of the FSA was forced, on the initial without-notice application, to committing itself to alleging whether a transaction was fraudulent or not. It was almost inevitably the case, on an application of the present kind, that there would be a suspicion of fraud, but the evidence would, at an early stage, be incomplete, and everything would depend on inference. Mr Vineall felt much more comfortable today, in the light of what Mr Hoover had said and the documents he had produced, in asserting that the inference was one that the underlying scheme was fraudulent, and that Mr Hoover was involved in a way which was not innocent. He submitted that it was appropriate to approach matters on the basis of a half-way house. He would never have suggested that the Court should actually determine, on an interim application, whether fraud was present; but the Court could see that there were factors consistent with fraud, as opposed to a genuine raising of funds for a new start-up company; and, on that basis, the Court could draw the necessary inference of a risk of dissipation, both by the company and by its chief executive officer, Mr Hoover. The three issues to be addressed by the Court had been: First: was there a good arguable case of a breach of the FSMA and the Regulated Activities Order? Second: did that case extend to all three defendants? Third: was there a real risk of dissipation of assets?

[18]I accept Mr Vineall’s submissions, and I reject the case of Mr Dingemans for Sinaloa and Mr Hoover. In my judgment, the FSA’s approach to the case, both before Mr Prosser and in this court, has been an entirely proper and appropriate one. I am satisfied that it was permissible for the FSA to proceed as it did. In his skeleton argument in support of the original injunction application, Mr Purchas (in paragraph 3) expressed the FSA’s view that there were grounds to believe that the entire scheme might be fraudulent; but (in paragraph 4) he went on to make it clear that, for the purposes of the application, it was not necessary for the Court to be persuaded that the scheme was fraudulent, although the possibility that the scheme might be such would no doubt be a matter that the Court would consider when deciding whether, and if so how, to exercise its discretion. Clearly the FSA was asserting a good cause of action in relation to each of the three respondents independently of any assertion of fraud on their part or their participation therein. In paragraphs 89-92 of his written skeleton argument, Mr Purchas had addressed the issue of risk of dissipation of assets. In the course of them, he had submitted that there was a good arguable case that the respondents had been involved in a scheme for selling shares, at a far greater price than any value they might have, pursuant to an illegal scheme, and that there was a strong inference of a risk of dissipation. At paragraph 90, he identified other matters which were said to evidence an objective risk that, unless their respective bank accounts were frozen, a judgment or award against the respondents would be unsatisfied, or the judgment would be made far more difficult to recover. He drew attention, at paragraph 91, to the fact that there had been a return of £20,000 to one of the investors, a Mr Pullinger, by Sinaloa. He countered that (which of course pointed to honesty) by saying that that was equally consistent with seeking to avoid further controversy with Mr Pullinger as it was with the scheme being innocent. He then proceeded to identify a further reason for the order being sought on a without-notice basis.

[19]I accept that the grounds for seeking interim freezing relief on 17th December were weaker than they may now appear to be in relation to the suggested inference that this was a boiler scheme fraud or a share-sale scam; but that was, and is, relevant, not to the cause of action, but to the issues of the risk of dissipation and the exercise of the Court’s discretion. On the evidence, had I been hearing the application on 17th December I would certainly have found a risk of dissipation on the part both of PH and of Sinaloa. I am less certain that I would, on the evidence then available, have been satisfied of a risk of dissipation on the part of Mr Hoover; but it does not seem to me that that is the question which I now have to consider. What I do have to consider, on this aspect of the case, is whether the matter was fully and fairly put to Mr Prosser. I am satisfied that it was. It does seem to me that Mr Purchas drew attention to all the relevant features of the evidence, and of the way in which the case was put on behalf of the FSA; and it was for Mr Prosser, on the basis of that full and fairly presented material, to reach a decision on the issues that confronted him. I therefore conclude that there was nothing improper in the way in which the assertion of a boiler-room fraud or share-sale scam was presented to the Court on 17th December.

[3]A Serious Issue to be Tried

[20]I am satisfied that the FSA has established a serious issue to be tried in relation to each of the three defendants. I am satisfied that that the FSA has, on the evidence before the court, demonstrated a serious issue to be tried to the effect that PH has contravened section 21 of the FSMA (relating to restrictions on financial promotions), and has breached the general prohibition in Section 19 of that Act by advising on investments contrary to regulation 53 of the Regulated Activities Order when not authorised to do so, and either by selling securities as agent for Sinaloa (contrary to regulation 21) or by making arrangements for the investors to subscribe for shares (contrary to regulation 25). I am satisfied on the evidence that there is a serious issue to be tried to the effect that Sinaloa has contravened Section 21 of the FSMA, and also Section 85, which restricts the offering of transferable securities such as shares without an approved prospectus. I am also satisfied that there is a serious issue to be tried as to whether PH, and also Mr Hoover, have been knowingly concerned in that contravention. In relation to Mr Hoover, I am satisfied that there is a triable issue that he is liable, both as a primary contravener of the regulation 25 prohibition on making arrangements for investors to subscribe for shares, and also an arguable case that he was knowingly concerned in Sinaloa’s contravention of Section 85 of the FSMA.

[21]The correct analysis of the provisions of regulation 25 was held by Mr Jonathan Crow QC, sitting as a Deputy Judge of the High Court, in Re The Inertia Partnership LLP

[2007] EWHC 502 (Ch)

, [2007] Business Law Reports 879 to be as follows: First, the word ‘arrangements’ is, depending on the context, capable of having an extremely wide meaning, embracing matters which do not give rise to legally enforceable rights. Secondly, in regulations 25 and 26, the word ‘arrangements’ is used in contradistinction to the word ‘transaction.’ Thirdly, in regulation 26 the latter word ‘transaction’ is plainly a reference to the purchase, sale etc of shares contemplated by regulation 25. Fourthly, as such, a person may make arrangements within regulation 25 even if his actions do not involve or facilitate the execution of each step necessary for entering into and completing the transaction (that is to say the purchase or sale etc of the shares). Fifthly, the availability of the exception in regulation 26 is essentially a question of fact. As a matter of causation, did the arrangements bring about the transaction (that is to say the purchase, sale etc of the shares)?

[22]On the evidence, there is an arguable case that Mr Hoover made arrangements for Sinaloa to sell its shares by engaging PH to represent it; opening bank accounts for Sinaloa in London to receive the investors’ moneys; agreeing to Sinaloa’s resolution to issue up to 50 million penny shares at the general meeting on 17th August 2010; pre-signing subscription agreements and materials to be sent to investors; and, finally, authorising the issue of shares by the share registrar following receipt of the information received from PH, either directly or by authorising Mr Leshem to provide instructions on his and the other directors’ behalf. On that basis, there is an arguable case that Mr Hoover is liable as a primary contravener of regulation 85 of the Regulated Activities Order. I also accept that there is a triable case that he was knowingly concerned in Sinaloa’s contravention of the restriction on offering shares in Sinaloa without an approved prospectus under Section 85 of the FSMA. To be knowingly involved in a contravention requires knowledge of the facts which constitute the contravention, but it does not require knowledge that those facts themselves constitute a contravention. The FSA has accepted that there is, as a matter of law, some uncertainty as to whether, in order to be liable for having been knowingly concerned in PH’s contraventions of Sections 19 and 21, it must be shown that Mr Hoover knew that PH was not authorised or otherwise exempt. Mr Vineall did not wish me to decide that issue. I therefore do not do so, and I do not rely upon any claim that Mr Hoover was knowingly concerned in any contraventions by PH of the general prohibition in Section 19 or of Section 21. I am satisfied, however, that, in the respects, I have indicated, the FSA has demonstrated a triable issue in relation to the other alleged contraventions on the part of Mr Hoover.

[4]A Risk of Dissipation

[23]The FSA submits that there is a good arguable case that all three defendants have been involved in a scheme for selling shares at a far greater price than any value they may have enjoyed, and that they have done so pursuant to an illegal scheme. The FSA therefore submits that there is a strong inference of a risk of dissipation of assets. The FSA submits that there is an objective risk that, unless their respective bank accounts are frozen, any judgment or award against the defendants would remain unsatisfied, or the judgment rendered far more difficult to enforce. They point to a number of matters, including the regular and frequent transfers of significant sums from the Barclay’s bank account of Sinaloa into which the investors’ funds were received to accounts outside the jurisdiction, mainly in the United States, but also one transfer to Cyprus in favour of a company incorporated in the Seychelles. Secondly, the FSA submits that the circumstances of that particular transfer are particularly strange: it took place following a letter having been sent in mid-October by the FSA to PH. The FSA are unable to say whether the details contained in that letter were conveyed by PH to Sinaloa, but it invites the court to infer that, given the close links between them in terms of the issue of shares, that is likely. The FSA also makes the point that, when challenged by its bank (Barclays), Sinaloa was unable to explain to the bank’s satisfaction what the purpose of this transaction was. The FSA also points to the fact that Sinaloa was only incorporated in May of this year, with originally one issued share of a penny; and that whilst significant sums appear to have been raised through the issue of shares, there is no substantiated evidence of any assets, other than the moneys presently frozen by Barclays in Sinaloa’s bank account. The FSA also points to aspects of Sinaloa’s website which are said to raise concerns as to whether that company has a genuine, and viable, business plan.

[24]The FSA acknowledges, as it did before the Deputy Judge (Mr Prosser), that whilst Mr Hoover arranged for the return of £20,000 to Mr Pullinger, that was made without any challenge to his expressed concerns as to PH’s unauthorised status. It submits that the return of this sum is just as consistent with Sinaloa and Mr Hoover seeking to avoid further controversy with Mr Pullinger, by his drawing unwelcome attention to the scheme, as it is with the scheme being innocent. The FSA submits that, given what it says are the substantial indicators that this scheme is likely to be fraudulent, it is wholly appropriate to maintain the injunction until the return date or further order.

[25]It is common ground that the risk of dissipation of assets must be considered separately in relation to each of the three defendants. In my judgment, the test is clearly satisfied in relation to both PH, and also Sinaloa itself, in view of the way in which, on the evidence, they have dealt with moneys received from investors in Sinaloa’s shares in the past.

[26]For the respondents, Mr Dingemans submits that there is no sufficient evidence of fraud on the part of either Sinaloa or Mr Hoover. So far as the latter is concerned, it is said that he believed that there was a good underlying business, and that he was very properly involved in raising money to exploit a very good commercial opportunity. He says that there is no evidence to support the proposition that either Sinaloa or Mr Hoover will dissipate their assets to frustrate any judgment which may be entered against them. He acknowledges that moneys have been paid out by Sinaloa, but he says that that was to pay for commissions to those who were involved in raising funds. He makes the point that Mr Hoover has not dissipated any of his own assets and, on his evidence, he is a responsible member of his community. Mr Dingemans makes the point that Mr Hoover has even answered queries over the telephone, and he arranged for the refund to Mr Pullinger when it was requested. He submits that the FSA has not identified any evidence showing that he is likely to avoid complying with any judgment of the court.

[27]In his oral submissions, Mr Dingemans made the following points. First, Mr Hoover did say in the literature circulated to investors that the company would get itself listed on the Frankfurt Stock Exchange, and it did so. Secondly, there is no evidence that before 24th November 2010, when he was alerted to the fact by Mr Pullinger, Mr Hoover was aware that PH was unauthorised. There is said to be evidence that he sought to rectify the matter when this came to his notice. Although he cannot recall having addressed the matter with either of his other two fellow directors, there is evidence that he discussed it with those persons who were mainly involved in the capital-raising exercise. Mr Dingemans submits that, even if Mr Hoover’s explanations may demonstrate naivety on his part, that is not, in itself, evidence of fraud. Thirdly, Mr Dingemans points to evidence of the involvement of credible third parties, and that Mr Hoover was entitled to consider that everything was being properly done and addressed. Mr Dingemans also points to the facts that the paper trail of documents which has been produced in evidence is a strong contra-indication pointing against this being any form of boiler room fraud. Fifthly, he submits that any deficiencies in the documents provided by Mr Hoover should not be regarded as in any way extraordinary. He makes the point that Mr Hoover has had to produce evidence over the holiday period; and he emphasises that Mr Hoover has not, as it might colloquially be put, “done a runner”. Rather he has, I am told, spent £5,000 of his own moneys, and borrowed a further £5,000, in order to fund his defence to this litigation. In those circumstances, Mr Dingemans submits that there is no proper evidence leading to even an inference of fraud against Mr Hoover, and therefore against Sinaloa. There is a good case that Mr Hoover, and Sinaloa, understood there to be a respectable, and potentially profitable, underlying business opportunity. It is said that the evidence does not support the FSA’s case that there was no underlying business suitable for investment opportunities on the part of others.

[28]I reject those submissions of Mr Dingemans. On his own evidence, it seems to me that Mr Hoover must have been extraordinarily naïve, if he was not downright dishonest. It seems to me that he has failed to explain important aspects of the establishment and operations of Sinaloa. Aspects of the explanations which he has offered seem to me to be both unsatisfactory and unconvincing. There are many unexplained gaps, inconsistencies and questions raised by the documents which he has produced in support of his case.

[29]Mr Vineall subjected Mr Hoover’s third, and substantive, affidavit to detailed examination and scrutiny, and he drew attention to matters raised in relation thereto by Mr Wilkes in his first affidavit. Mr Vineall emphasised that the impression given by Mr Hoover in his evidence is of a long history of his involvement in financial services and financial management. The evidence in the public domain to which Mr Wilkes refers suggests that Mr Hoover has extensive experience of raising money. Mr Hoover addresses the raising of funds for Sinaloa in paragraphs 26 and following of his third affidavit. He refers to the fact that Mr Leshem suggested that Sinaloa should become publically listed on the Frankfurt Stock Exchange, for which purpose it would need to have a capital of some £250,000. To that end, the company was to raise the funds by subscription agreements. Mr Hoover says that he was not aware of the details of how this was being done. The process was led by Mr Leshem. Mr Hoover says he was not aware, in particular, that PH was being used, or that any vehicle which might be employed had not been properly registered or accredited. He says that PH was never mentioned to him at that time. When he discussed the matter with Mr Leshem after the event (by which I take him to be referring to the disclosure by Mr Pullinger on or about 24th November), he says that Mr Leshem led him to believe that PH was reputable. I would have expected Mr Hoover to have done rather more at that stage and, in particular, to have made his own enquiries of the FSA. At paragraph 30, Mr Hoover says that when he discovered that PH was not licensed in the UK he was shocked. He says he does not recall if he raised the matter with the other two directors of the company, which I accept is curious. He says he did raise it with Mr Hesterman and Mr Leshem:

‘I assumed after that that it had stopped being used as a vehicle for the raising of funds for the company. I do not know what exactly they did about it, however I was left with a clear impression that they had put a stop to it’

. I would have expected Mr Hoover to have done rather more, and to have been rather more exact and precise about what it was he did do. I accept Mr Vineall’s submission that that is not a credible response for a reputable director to make.

[30]Mr Hoover then refers to the fact that matters had appeared to be progressing well until November 2010, when he received a letter from Barclays expressing concern about the transfer of some £171,000 from a company bank account to a bank account in Cyprus. He responded to that query by saying that he knew nothing about it. He then telephoned Mr Leshem about it and Mr Leshem told him that he had done it. The money was said to be being extracted as fee payments to third parties for raising investment in the company. At this point Mr Hoover interposes to say that the company had approached a number of banks with a view to obtaining finance for its projects, but those institutions had not been willing to finance the company’s projects at that time, principally because the company had a very short trading history and did not have a substantial balance sheet. The company was said to be still talking to banks in December 2010 when the without notice injunction was obtained. Mr Hoover goes on to refer to the fact that he had agreed that Mr Leshem would begin to raise investment for the company, and it was understood that he would be able to raise a fee for doing this. He then goes on to say that in fact Mr Leshem was effectively paying third parties a fee of 71% of the investment, with only 29% going to the company, the remaining 71% being the cost of the money raised. That accounted for the transfer of the £171,000 and other money transfers.

[31]Mr Hoover then goes on to point out that he was initially unaware that that level of fee was being charged. He only became aware of it around July 2010, when it had been going on for some time. There had never been a written agreement that this level of fee would be charged. He says that at the outset, Mr Leshem had insisted on having access to the company’s bank accounts, and that he used that to facilitate these transfers. When the fee was eventually presented to Mr Hoover, he did not consider that he had any alternative but to accept it. It was presented to him, so he says, as a fait accompli. He regarded it as a big pill he had to swallow, but he was now taking advice about whether these fees were recoverable by the company.

[32]I must confess that I share Mr Vineall’s incredulity, and difficulty, in believing that account of the matter. I find it difficult to accept that Mr Hoover should have been so unconcerned about finding that 71% of the money being raised had been taken in fees, and in apparently continuing to allow that state of affairs to continue after becoming aware of it, according to Mr Hoover, around July of last year. I find it surprising that after that there was no effort to ensure that investors knew that as much as 71% was going in fees. It must surely have been relevant to them to be informed of that fact. I also find it surprising, if this was perceived by Mr Hoover to be a genuine and potentially profitable business opportunity, that neither he, nor his fellow directors, nor the two geologists and mining engineers, who are apparently charged with the management of the company, nor either Mr Leshem or Mr Hesterman, should have sought to invest in this business opportunity themselves. Although Mr Hoover does have, according to paragraph 37 of his third affidavit, some 1.7 million shares in the company, he says nothing about whether he paid anything for them, and there is no evidence that he did. I find it surprising that, even if he did not have ready funds of his own, he should not have sought to raise funds in order to invest in the company if he was inviting others to do so on the basis that it was a potentially profitable business opportunity. In paragraph 7 of his third affidavit, when referring to the fact that the house in which he lives in the state of Utah is held in the sole name of his wife, he mentions that he (Mr Hoover) has a good credit rating. On that basis, one would have thought that, even if he did not have access to ready moneys of his own in terms of cash, he would have sought to borrow funds to invest for himself. Mr Dingemans sought to meet that point in two ways. First, he indicated that Mr Hoover had in fact invested time and effort in this business; but certainly when one looks at the way in which Mr Hoover has been dealing with certain aspects of the company’s affairs, in particular the fund raising, his approach does not appear to have been particularly hands on.

[33]Mr Dingemans’s second point, which was that, as I have indicated, financial institutions had been unwilling to finance the company’s projects, does raise concerns as to whether, in those circumstances, and not being willing to put his own money in, Mr Hoover was acting entirely honestly in allowing other investors to do so without knowing that 71% of that investment was being spent on fees. As Mr Vineall points out, there are also no bank statements, management accounts or other relevant internal company documents exhibited to demonstrate that this was a genuine business operation; and there are certain omissions, deficiencies and difficulties, and indeed oddities, on the face of the documents which are exhibited by Mr Hoover.

[34]All of that, it seems to me, justified Mr Vineall’s submission that the evidence now produced by Mr Hoover at least raises a reasonably arguable inference that this was indeed a fraudulent money raising operation, and that Mr Hoover was alive to that fact. In those circumstances, it does seem to me that the evidence now before the court does give rise to an inference that there is a real risk that, if not enjoined, not only PH, but also Sinaloa and Mr Hoover, may well move assets or seek to dissipate them, with a view to frustrating or defeating any relief which may be obtained by the FSA. The unsatisfactory nature of the explanations given by Mr Hoover, in my judgment, justifies that inference.

[5]The Amount of the Freezing Order

[35]Under Section 380 (2) of the FSMA the court has the power to direct anyone guilty of a contravention of the FSMA, and anyone who appears to have been knowingly concerned in such contravention, to take steps to remedy it. Under Section 382, if satisfied that a person has contravened a relevant requirement, or been knowingly concerned in such a contravention, and that profits have accrued to him or that someone has suffered loss or been adversely affected as a result, the court may make an order that the person concerned should pay to the FSA such sum as appears to be just. The FSA seeks a freezing injunction against each of the defendants, on a worldwide basis, pursuant to Section 380(3) of the FSMA, or pursuant to the court’s general jurisdiction under the Section 37(1) of the Senior Courts Act 1981, up to the amount of the sums paid over to Sinaloa by the various investors.

[36]On the evidence of the calculation at page 378 of exhibit CAP1, the sum in question is said to be £858,266.97. That sum falls to be reduced by a penny to reflect the original subscriber share received by Mr Hoover himself; and it probably also falls to be reduced by another £25,000 to reflect the fact that £25,000 was returned to Mr Pullinger. However subject to that, the FSA says that the injunction should be in that amount because, if the FSA succeeds on its case at trial, it will ask the court to make an order pursuant to Section 380(2) that to the extent that this is possible, Sinaloa should rescind the share transactions in respect of consenting shareholders and/or to make an order pursuant to Section 382(2) to order the defendants to pay, jointly and severally, a just sum equivalent to the total amount paid over by investors, together with interest from the date of payment, in order to reflect either the profit accrued, or the loss or other adverse detriment accruing to the investors, as a result of the defendants’ contraventions of the FSMA.

[37]The FSA submits that the investors have exchanged cash for entirely illiquid shares of no, or no certain, value. A just sum representing that loss or detriment should be based upon the amount of the cash paid over. A print-out from the website of the relevant Frankfurt Stock Exchange was produced to me. It shows that the last trade of shares in Sinaloa took place on December 13th and that there is a range between the bid price of €0.05 and an asking price of €2.11. On the evidence of this chart, it would appear that there is really no market in these shares. There is no evidence of any underlying assets to support any value to the shares. For Sinaloa and Mr Hoover, Mr Dingemans submits that if the freezing order were to be continued, it should be in a sum less than that sought by the FSA. He makes the point that the power to make an award under Section 382 of the FSMA is discretionary. He has taken me to the applicable principles. He submits that the evidence suggests that the investments made by purchasers of Sinaloa’s shares do have value. He also submits that any contravention of the FSMA is inadvertent. In those circumstances, the sum secured by the freezing order is said to be excessive. I reject that submission. On the evidence before the court, I see no reason to take the view that the amount frozen should be any less than the full amount paid over by the investors. If the FSA is correct in its characterisation of this as a boiler-room fraud or share sale scam, as to which it seems to me that there is an arguable case, then it seems to me to follow that the relief might well extend to an order for compensation to the full extent of the sums invested in the company by the various individual investors.

[38]In his third affidavit, at paragraph 37, Mr Hoover estimates that in total some £1.3 million has been raised by way of an investment in the company since its incorporation. He says that that includes investment in the US and UK. He goes on to say that of the £1.3 million sum, approximately 29% is potentially available for use by the company for expenditure towards its projects, and that apparently reflects the fact that 71% has gone to those responsible for the fundraising. In my judgment, the appropriate sum to be frozen is that identified by the FSA, subject to any appropriate adjustments to reflect the penny attributable to Mr Hoover’s own original share, and the sum returned to Mr Pullinger.

[6]The Cross-undertaking as to Damages in Favour of the Respondents

[39]For Sinaloa and Mr Hoover, Mr Dingemans submits that if the freezing order is to be continued, a cross-undertaking in damages should be required. He acknowledges that where the applicant is a public body, acting to enforce the law, the court may decide not to require a cross-undertaking in damages. This has sometimes been referred to as the ‘dispensation rule’. He acknowledges that that approach has been applied in cases involving regulatory authorities. He makes reference to a number of authorities including Director General of Fair Trading v Tobyward Ltd

[1989] 1 WLR 517

, in particular at pages 524C-525B, where Hoffmann J required no cross-undertaking in damages. He contrasts that with the position in the case of Customs & Excise Commissioners v Anchor Foods Limited

[1999] 1 WLR1139

where an undertaking in damages was required by Neuberger J. He referred me also to the decision of Morritt J in the case of Securities and Investment Board v Lloyd Wright,

[1993] 4 All ER 210

, in particular at pages 212 to 213.

[40]Mr Dingemans says that the rule, known as the dispensation rule, is not an absolute one. The court may require a cross-undertaking to be given if there are good reasons to do so, or where a case is speculative and there are other particular features. He submits that in this case there is a very good reason to require the FSA to provide a cross-undertaking. He submits that that is because the FSA has pleaded fraud on an impermissible basis, and the injunction has caused real difficulties to Mr Hoover, and is likely to destroy Sinaloa if the injunction is continued. He makes the point that if the FSA is concerned about the open-ended nature of its liabilities in respect of the cross-undertaking in damages, it can always offer a limited cross-undertaking. He invites the court to note that the cross-undertaking will not operate automatically to expose the FSA to a liability in damages: it will only be required in circumstances where both(1) the injunction has been discharged, on the basis that it was wrongly granted, and

(2) the court considers it appropriate to order an inquiry as to the damages thereby alleged to have been suffered. Mr Dingemans emphasises that it is always open, even in enforcement cases, for the court to make an exception to the dispensation rule. The matter is ultimately one for the discretion of the court. He emphasises that these are injunctions which go far beyond merely holding the ring between the parties until trial: they are injunctions which, he says, are entirely destructive of normal personal life for Mr Hoover, and business life for Sinaloa.

[41]In response, Mr Vineall for the FSA submits that there is nothing really out of the ordinary in the present case, and nothing which justifies any departure from the normal rule reflected in the dispensation principle. Mr Vineall tells me, on the basis of instructions from his client, the FSA, that it would be most unusual for the FSA to be required to give a cross-undertaking in damages to a respondent to an application of the present kind; and, indeed, the FSA do not know of a case in which it has been required to give such an undertaking in favour of a respondent.

[42]I accept Mr Vineall’s submissions. I see no reason why the dispensation principle should not apply in the present case. Whilst acknowledging that the court always has a discretion in the matter, it seems to me that there is no principled basis for exercising the discretion so as to require a cross-undertaking in damages from the FSA, in the present case, in favour of any of the defendants.

[7]A Cross-undertaking in Damages in Favour of Third Parties

[43]For the intervener, Barclays, Miss Oppenheimer acknowledges that the FSA in the present case is a public body exercising enforcement and regulatory functions; but she submits that there is no invariable rule that a statutory body exercising enforcement functions is exempt from giving an undertaking in damages in favour of third parties. It is a matter of discretion for the court. She begins by making the point that it is well established in authority that when exercising the jurisdiction to grant freezing orders, the court will safeguard the position of innocent parties affected by a freezing order. This protection extends to providing an undertaking, not simply with respect to the costs which the third party may incur as a result of the freezing order, but also any liability that may be incurred by the third party. She says that that protection has been extended, not only to those third parties served with the order, but also to any third parties who may be affected by it. She has referred me to the decision of the Court of Appeal in the case of Banco Nacional de Comercio Exterior SNC v Empresa De Telecommunicaciones de Cuba SA

[2007] EWCA Civ 662

[2008] 1 WLR 1936

. In particular, she took me to paragraphs 40 through to 43 in the judgment of Tuckey LJ, delivering the judgment of the Court. At paragraph 40, Tuckey LJ said that from the outset of their exercise of the freezing order jurisdiction the English courts had been concerned to protect the interests of innocent third parties who might be affected by the making of such orders. He cited observations of Kerr LJ in the case of Galaxia Maritime SA v Mineralimportexport

[1982] 1 WLR 539

at 543. There Kerr LJ said:

‘Where the effect of service of the injunction on the third party substantially interferes with the third party’s business, the rights of the third party must in my view always prevail over the desire of the plaintiff to secure the ultimate recovery of debts or damages from the defendant with which the third party is in no way concerned.’

The Court of Appeal went on to hold that only in exceptional cases, such as when the third party was not innocent, should the third party be deprived of the undertaking.

[44]Miss Oppenheimer acknowledges that there are two competing strands of authority in the case law; and she submits that the principle that the innocent third party should receive full protection should prevail over the competing dispensation principle. In her oral submissions she made three principal points: First, that the dispensation rule should give way more readily than the rule that innocent third parties should be protected. Secondly, she made the point that if an undertaking in favour of third parties was not provided at the outset of the grant of interim injunctive relief, there was a potential for irremediable and significant prejudice to a third party. There would be no jurisdiction in the court to compel an applicant for injunctive relief to provide an undertaking; rather, if he was unwilling to do so, the injunction might simply lapse. There would be no mechanism for the recovery of past losses if an injunction were to be discharged or were to lapse; and she also submitted that it would be wrong for an innocent third party to be put to the inconvenience and expense of having to apply to the court for a cross-undertaking in damages. Thirdly, she emphasised that the enforcement body’s potential liability was not automatic. In that regard, she made the same point as Mr Dingemans had done: that before the FSA could be called upon pursuant to its undertaking, the court would have to decide, in the terms of the standard form undertaking, not only that the order had caused the third party loss, but also that the third party should be compensated for such loss. The court therefore retained a residual discretion as to whether the undertaking should be enforced, and compensation should be ordered.

[45]Those submissions were developed at greater length by Miss Oppenheimer in her written submissions. So far as the dispensation principle was concerned, she made the point that all the cases were concerned with the question of whether a public body was required to give a cross-undertaking to named respondents. None of the cases addressed the issue as to whether the same principles should apply to cross-undertakings given to third parties. She submitted that this was an important distinction. She submitted that there was a good reason in principle to treat the question of whether the FSA should be required to give the cross-undertaking to third parties differently to the question of whether it should be required to give a cross-undertaking to named respondents. The factors to be weighed up by the court in exercising its discretion were different where innocent third parties were involved. She submitted that in non-enforcement cases, a cross-undertaking to the named respondent is typically given because, at the interlocutory stage, the court could only form a provisional view as to the merits of the claim, and it might ultimately fail. At the interlocutory stage, the court did not know who the ultimate winner would be. The normal requirement to give a cross-undertaking in damages to a named respondent is the court’s response, both to the principle of equality of arms and also to the presumption of innocence, which in civil cases is reflected in the burden of proof which lies on a claimant (albeit the standard of proof differs in civil and criminal cases).

[46]In enforcement proceedings, the court dispenses with a cross-undertaking in damages in favour of the named respondent because of the public nature of the task of enforcement, and because the applicant will already have established a seriously arguable case of wrongdoing on the part of the respondent, and that justifies the dispensation principle. She submits that the rationale of requiring a third party undertaking in damages is different. The cross-undertaking to third parties is given because they are unwittingly affected by the order, and are potentially exposed to liability as a result. It has consistently been the practice of the courts to protect such parties from suffering any loss as the result of a freezing order. She therefore submits that it is not only logical that undertakings to third parties should be treated differently, but that it would be fundamentally unfair to third parties if they were not. She therefore submits, contrary to the FSA’s position, that merely because a respondent is denied the benefit of an undertaking where the freezing order is obtained by a public body, thereby imposing potential injustice on the respondent, it does not follow that innocent third parties should also be exposed to potential injustice. She submits that if she is correct in her submission that the authorities do not establish any principle so far as the provision of undertakings to third parties by public bodies are concerned, then the issue to be determined is whether the fact that the FSA is a public body exercising enforcement functions makes the case an “exceptional” one, such that it would be appropriate to deprive third parties of the usual undertaking in damages.

[47]She submits that it is hard to see why the fact that the FSA is a public body of itself should render the case exceptional, because it is not unusual for public bodies to seek freezing orders. She submits that there is nothing illogical in requiring the FSA to provide undertakings to third parties, but not to the respondents, even if the concerns of the FSA in being able to pursue its statutory objectives are similar in both cases. She submits that it is not sufficient to bring the case within the exceptional category that the FSA may be deterred from pursuing its statutory objectives if it were to be required to give a third party undertaking because there is no way of knowing what the potential liabilities might be. She submits that it is not a satisfactory solution to say that a third party could always apply to the court for a specific undertaking to be given in its favour as a condition of the continuation of a freezing order. As I have indicated, she submits that the court has no jurisdiction to compel an applicant to provide such an undertaking; and if, by the time it is asked for, the innocent party has already suffered loss, that would provide little comfort if the undertaking was not forthcoming. The innocent party would effectively be left without any means of recovering its losses. Moreover, if the third party were to have suffered actual loss before applying to the court and obtaining an undertaking, she submits that it is, at the very least, unclear whether a subsequent undertaking could have retrospective effect so as to enable the third party to recover in respect of such past losses. Indeed, Mr Vineall submitted that there would be no jurisdiction to require a retrospective undertaking; and it seems to me that in that he is correct. Even if those issues could be resolved, Miss Oppenheimer submits that it is fundamentally unfair to the innocent party to require it to take the trouble, and to incur the expense and risks, of applying to the court for protection. She acknowledges that a freezing order, in circumstances such as the present, is intended to hold the ring so as to prevent the most vocal complainants from being preferred by early repayment from a limited fund; but she submits that that should not be sufficient to outweigh the risk of prejudice to an innocent third party. She makes the point that the undertaking is not a blanket undertaking to pay any loss or damage sustained, but only an undertaking to pay such losses if the court so orders.

[48]The FSA relies on the fact that there are many instances of actions taken by regulatory authorities where innocent third parties who may suffer loss have no claim for the losses thereby sustained. Miss Oppenheimer says that that point lacks any merit: the fact that there may be other contexts in which innocent parties may suffer at the hands of regulatory authorities or enforcement action is not a sound basis for excluding a cross-undertaking in the present context, where the importance of protecting an innocent third party has been firmly established in the case law. It is not right that because injustice exists in one area, it is right and proper for it to be replicated and occur in another which has already been the subject of consideration by the courts. She submits that reliance by the FSA on paragraph 19 (1) of Schedule 1 to the FSMA is misconceived. That provides that the FSA can only be liable in damages for anything done or omitted in the discharge or purported discharge of its functions if the act or omission is shown to have been in bad faith, or so as to prevent an award of damages made on the ground that the act or omission was unlawful as a result of Section 6 (1) of the Human Rights Act 1998. Miss Oppenheimer submits that that provision has no strict application in the present case. It does not prevent the court from requiring a cross-undertaking in damages, although it may be a pointer in the exercise of the court’s discretion, a point which was made by Morritt J in SIB v Lloyd Wright, previously referred to in connection with the analogous provision under the Financial Services Act 1986. Miss Oppenheimer notes that although section 380(3) of the FSMA expressly provides for the making of a freezing order, it is silent as to, and thus has no bearing on, the question of whether the FSA should be relieved from having to give the standard cross-undertaking to third parties. The sub-section gives no clear steer to the court in that area. Those were Miss Oppenheimer’s submissions.

[49]For the FSA, Mr Vineall and Mr Purchas addresed the question of whether or not the FSA should be required to offer a cross-undertaking in damages to third parties in Part 2 of their written skeleton argument, at pages 34 through to 52. Since it was thought at that time to be unlikely that any third parties affected would attend to be heard, the FSA sought in that skeleton to set out both sides of the argument, and to undertake quite a full review of the authorities. They explain how the point first arose. They refer to the dispensation principle whereby, when seeking injunctions, public authorities exercising law enforcement functions are generally not required to give a cross-undertaking in damages, at least to named respondents. They indicate that for many years the FSA has adopted the practice of stating explicitly in its affidavit evidence, and in the draft order it seeks, that it does not offer a cross-undertaking in damages. Usually that is repeated in the actual order obtained, and comes in place of the usual undertaking (1) by way of a statement that the FSA, as applicant, ‘does not offer a cross-undertaking in damages’. In recent years, the injunctions sought (and obtained) by the FSA have also included the undertaking to third parties in the form set out in the Commercial Court and CPR standard form of freezing order. In the standard form, it is paragraph (7). It was paragraph (5) in the order made by Mr Prosser and paragraph (4) in the order made by Mr Justice David Richards. I have already recited its terms earlier. The FSA invites the court to note that this standard form of undertaking deals with two quite distinct issues: First, an undertaking to meet the reasonable costs of anyone other than a respondent incurred as a result of the order; and, secondly, an undertaking to comply with any order the court may make if it decides that loss has been caused by the order. Thus, the second part of the order is not limited to costs, but extends to loss. The FSA accepts that the better view is that the loss undertaking applies to any non-respondent, and not just to those who hold the respondent’s assets. It seems to me that that is clearly correct, as a matter of the language of the undertaking.

[50]When the matter first came before this court on the return date on 31st December, Mr Justice David Richards had observed that the cross-undertaking offered to third parties was a cross-undertaking in damages, and it therefore made no sense for the order baldly to recite that the FSA offered no cross-undertaking in damages. On that day, the matter was dealt with by leaving the standard form third party undertaking in place and amending paragraph (1) of Schedule B so as to read: ‘The claimant does not offer a cross-undertaking in damages, save to the extent provided in paragraph (4) below’, but the FSA reserved its position on the point; and it now seeks a continuation of the order without being required to give any cross-undertaking in damages, that is to say, for loss to third parties. The issue for decision is therefore whether or not it is appropriate for the court to require the FSA to give a cross-undertaking in damages to third parties as a condition of the grant of a freezing order and/or a prohibitory injunction. Although the issue need only be decided for the purposes of the instant case, because it raises a point of principle the court is asked to be aware of the wider implications.

[51]The core of the FSA’s argument is said to be extremely simple. It is well established that the FSA, as a public body, when exercising its powers for the benefit of others, is not required to give a cross-undertaking in damages to the named respondents. That is, of course, by way of an exception to the general position that an applicant must give an undertaking in damages to the respondents. The FSA submits that the position should be the same in relation to third parties, because the exception to the general position depends not on the nature or identity of the particular person who is affected by the order (whether respondent or third party), but on the nature of the applicant, and the role which the applicant is fulfilling. In the written skeleton argument, the FSA addresses a number of issues: First, the undertaking to meet the costs (as opposed to losses or damages) of third parties. Secondly, what exactly the present rules, and the standard form freezing orders and search orders, have to say on the issue. Thirdly, the nature of, and the rationale for, the usual cross-undertaking in damages. Fourthly, why, and when, that cross-undertaking was normally extended to third parties. Fifthly, and finally, the development of, and the rationale for, the rule that it is not normally appropriate to require a public body applicant exercising statutory functions to give a cross-undertaking in damages to named respondents. The skeleton then goes on to address the central issue, which is whether the FSA should be required to give a cross-undertaking in damages to third parties.

[52]The FSA submits that the present state of the law - leaving aside the question of whether the position differs in relation to public authorities and their equivalents - is as follows: Where a claimant seeks a freezing order, it will normally be appropriate to require it, as a condition of the grant of the order, to give an undertaking to the respondent in the form of paragraph (1) of Schedule B to the CPR standard form of freezing injunction, and to give an undertaking to non-respondents in the form of paragraph (7) of Schedule B, whether the order is made pre- or post-judgment; and when the assets restrained by a freezing order include assets held on trust by the respondent, it will usually be appropriate for the undertaking to non-respondents to be extended in terms to cover the beneficial owner of restrained assets for any loss caused by an injunction which is subsequently varied or discharged in respect of the trust assets. The FSA invites the court to note that the judgment call that has to be made by a private litigant seeking a freezing injunction is therefore whether he thinks that the benefit to him of getting the order is sufficient for him to be prepared to expose himself to potential liabilities under the various undertakings he will be required to give. In other words, he has to decide whether the price is worth paying. The FSA invites the court to contrast that with the position of a public body, which obtains no benefit to itself by obtaining an injunction. It acts pursuant to its statutory obligations, and for the public good.

[53]The FSA then goes on to consider the exception for public bodies, and indicates that, so far as the FSA’s researches can establish, there has been no reported case considering whether, and if so when and in what form, public bodies exercising statutory powers in the public interest should be required to give undertakings to third parties. Having reviewed the authorities, the FSA submits that the following propositions can be derived from the authorities in relation to undertakings given by public authority applicants to named respondents: Where the applicant for such an injunction is the Crown, or a public body exercising statutory duties for the public benefit, whether in the UK or elsewhere, the court has power to dispense with the usual requirement for a cross-undertaking in damages in favour of the respondents and third parties, and will generally do so. Factors relevant to the exercise of the discretion include(1) where the case lies on the spectrum between asserting a proprietary right and law enforcement, in relation to which the Anchor Foods case is mentioned; and

(2) whether the public body enjoys an immunity from damages claims, in relation to which reference is made to SIB v Lloyd Wright. On the whole I agree with that analysis of the authorities, except that it does not seem to me that the present authorities establish that in the case of third parties the court will generally dispense with the requirement for a cross-undertaking in damages.

[54]The FSA then goes on to consider whether a third party undertaking should be imposed in the present case. Reference is made to Mr Phelan’s affidavit; and the question is posed whether the FSA should be required to give an undertaking to third parties which goes beyond the undertaking to meet costs incurred in complying with the order. The FSA submits that it should not, for a number of reasons. First, it is said that the reason why public bodies exercising statutory functions do not generally have to give undertakings to respondents arises from the nature of the public body and the duties being performed, and does not depend on whether the beneficiary of the undertaking is a party to the litigation or not. It is therefore said to be illogical to require an undertaking to third parties, but not to the respondents. It is said to be no answer to this point to say that third parties are likely to be innocent because the basis of the undertaking to respondents is to allow for the possibility that they might be innocent.

[55]In my judgment, Miss Oppenheimer has, in the sense I have already indicated, provided at least a partial answer to this. This is that, in relation to a named respondent, a serious issue to be tried as to whether there has been wrongdoing on his part has already been established, whereas no such issue arises in relation to an innocent third party. Secondly, the FSA relies upon the risk that a public body would be deterred from pursuing its statutory objectives if it were to be required to give an undertaking. It says that that applies equally to undertakings to third parties as it does in the case of respondents. I acknowledge that there is some force in that; but the question is whether that is sufficient to override the competing considerations recognised by the Court, by its usual practice in non public body cases, of requiring an undertaking in favour of third parties. The FSA then says that, in some respects, the risk is greater with a third party undertaking because there is no way of knowing what the potential liabilities might be. It is next suggested that third parties can always apply to court for a specific undertaking in their favour to be imposed as a condition for the order to be continued. Miss Oppenheimer has already indicated that that is not an entirely satisfactory solution; and Mr Vineall accepted that no such undertaking could be imposed with retrospective effect.

[56]Next it is said that in many cases involving the FSA, including this one, the ultimate aim is to distribute limited funds to the victims of an alleged fraud. For that purpose, the injunction holds the ring to prevent the most vociferous complainants from being preferred by early repayment from a limited fund. In such cases, any third party investors or depositors who are about to be repaid will, as a matter of fact, suffer prejudice because the order is made. That, it seems to me, is an issue which could in any event adequately be addressed in terms of whether any undertaking should be enforced. Reference is then made to the paragraph 19 (1) of Schedule 1 immunity from damages claims. It is accepted by Miss Oppenheimer that the existence of that immunity, although not decisive, is a strong indicator to the court that no cross-undertaking should be required. The point is next made by the FSA that there are very many instances of actions taken by regulatory authorities or public bodies where innocent third parties suffer loss as a result but have no claim for the losses thereby sustained. Instances are given of the exercise by the FSA of its statutory powers, for instance to shut down authorised entities or to impose asset requirements. In such cases, the FSA gives no undertaking, nor does it incur any liability, to innocent third parties who may be adversely affected. The submission is that the fact that a court order is required in relation to unauthorised entities should not improve the position of innocent third parties. I would not accept that aspect of the submission because it does seem to me that where the FSA resorts to the powers of the court, then it submits to the practices of the court. Where resort is not made to the court, then, of course, there is no opportunity for the court to interfere in the matter. The FSA also gives the example of the police sealing off a road to investigate a crime scene, or in advance of a public march or a demonstration. In such a case, a shopkeeper on that road who loses business whilst it is closed is said to have no right of redress.

[57]In the course of his oral submissions, Mr Vineall went on to consider the analogous situation of a restraint order made under the statutory powers contained in legislation such as the Drug Trafficking Act 1994 or the Criminal Justice International Cooperation Act 1990 and successor and related legislation. Whilst the court’s jurisdiction to make or vary restraint orders is said to be closely analogous to its jurisdiction to make or vary freezing injunctions, a restraint order is not in all respects equivalent to a freezing injunction. In particular, there is said, in the notes at page 2238 of the current edition of the White Book, to be no jurisdiction, either under the relevant statute or under the court’s inherent jurisdiction, to provide for the payment of compensation to innocent third parties. Mr Vineall went on to make that good by reference to the standard form of restraint order, and, in particular, to paragraph 3 of the undertakings to the court given by the prosecutor in Schedule B, which contains no third party undertaking in damages.

[58]Anticipating at the time of his skeleton argument that there might be no one to raise the counter arguments to the FSA’s submissions, Mr Vineall and Mr Purchas identified the counter-arguments which might be raised. They were as follows: First, the absence of a cross-undertaking to a respondent is unjust, and there is no need to compound that with a further injustice to innocent third parties. Secondly, the fact that third parties are likely to be innocent is a compelling reason for distinguishing the position of public bodies as between respondents and third parties. Thirdly, third parties should not be put to the expense and inconvenience of applying to the court for the undertaking to be extended to them. Fourthly, and finally, that the undertaking is not a blanket undertaking to pay any loss or damages sustained by a third party, but only to pay if the court so orders. That provides a mechanism to protect the FSA from, for instance, having to pay out to investors who are prevented from getting full repayment by the making of the order.

[59]In his oral submissions, Mr Vineall indicated that there were two lines of authority which had hitherto passed like ships in the night, but he said that they had to date been addressing different things. There were in truth, he submitted, not two conflicting lines of authority; rather, the court must focus upon why it is that a public authority exercising enforcement functions was not required to give a cross-undertaking in damages. Was it to do with the guilt or innocence of the respondent, or was it to do with the identity, attributes and objectives of the applicant? He submitted that it was because of the function the applicant was fulfilling: the fact that it was taking action for the public benefit. He emphasised the point made in the SIB v Lloyd Wright case that the existence of the statutory exemption from liability was a strong pointer against requiring an undertaking to be given. He made a specific point in relation to undertakings in favour of banks, citing paragraph 506 of the Encyclopaedia of Banking Law. Mr Vineall submitted that where a bank dishonoured a cheque following notice of a freezing injunction against its customer, and the customer subsequently sued the bank for dishonouring the cheque, the bank would have a good answer to such a claim. One answer was that a Mareva injunction made it unlawful for the bank to honour the cheque, and that a contract to do what it had become illegal to do could not be legally enforceable. There could not be default in not doing what the law forbids to be done. A second answer was that it could be said that the customer had only authorised the bank to do what was lawful for it to do, so that any prior mandate from the customer was automatically annulled when the bank received notice of the freezing injunction. A third answer was that the authority of a bank to give effect to the instructions of a defendant was revoked once it had notice of a Mareva injunction, in the same way, by analogy, as in garnishee proceedings. Mr Vineall acknowledged, however, that that consideration works both ways. If the bank would not be exposed to liability by refusing to honour an instruction from a customer to pay in defiance of a freezing injunction, then the circumstances in which a liability under the cross-undertaking in damages would arise on the part of the FSA would be somewhat limited. In other words, it would reduce the risk, and thus the deterrent effect upon the FSA, of any requirement to give a cross-undertaking. Mr Vineall’s answer to that was that the unfairness to the bank, if no cross-undertaking was given, was reduced if there was no realistic possibility of the bank incurring liability.

[60]In summary, Mr Vineall submitted that it would not be appropriate to require the FSA in this, or in the majority of cases, to give an undertaking to third parties; but he did not invite the court to go so far as to say that in no circumstances would it ever be inappropriate to require such an undertaking to be given.

[61]In his submissions in reply, Mr Dingemans indicated that it would be wrong to say that this case was completely different from the decision of Neuberger J in the Anchor Foods case. Here, the FSA were seeking to recover orders for compensation or restitution under Section 382 of the FSMA and it was therefore closer to the relator type of action, in respect of which it had always been the law that a respondent could obtain an undertaking from the relator. The present situation was therefore, he submitted, not entirely removed from that in the Anchor Foods case. Mr Dingemans also emphasised that the court here was considering the civil, and not the criminal, jurisdiction, and that human rights jurisprudence had in recent years moved away from any proposition that inability to have recourse to a public authority was the price that one had to pay for living under the rule of law. Mr Dingemans acknowledged that there were two strands of authority which had not yet been reconciled; but he made the point that it was common ground, even on the FSA’s case, that costs should be paid to third parties, and there was no reason in principle to distinguish such costs from an undertaking in damages.

[62]In her submissions in reply, Miss Oppenheimer made the point that the rationale for treating third parties and named respondents differently was not just because of the formers’ innocence. The third party, she submitted, was at a procedural disadvantage because the third party was not present at the hearing at which a freezing injunction was granted. It does not seem to me that that is a particularly forceful point since, in the normal course, the named respondent will not be present at the original hearing for a freezing injunction either. A third party may or may not wish to be present at the return date. Whether it does or does not may depend upon whether it has already been served with, or given notice of, the freezing injunction, and whether it considers that it is to its prejudice for it not to attend and make representations at the return date. In the normal case, I do not see that there will be any material inequality of arms between a named respondent and a third party who has, at least, been given notice of or served with the freezing injunction obtained on a without notice hearing.

[63]Those were the submissions. In my judgment, one relevant consideration is whether the over-arching justification for the dispensation principle lies in the identity, attributes and objectives of the applicant, or, in addition, the fact that, in obtaining interim relief, the applicant has established at least a serious issue to be tried as to the potential wrongdoing on the part of the named respondent. It also seems to me that the tension between the two principles - the dispensation principle on the one hand and the need to provide protection for an innocent third party on the other - is one which the court now has to grapple with.

[64]In one of the earliest cases establishing the dispensation principle, Hoffmann La Roche v The Secretary of State for Trade and Industry

[1975] AC 295

, Lord Reid, at page 341 letters E to F, said that in the absence of special circumstances, he could see no reason why the Crown, in seeking to enforce orders of the kind there is issue, should have to incur legal liability to the person alleged to be in breach of the order. In other words, Lord Reid was focusing upon the identity of the respondent, and justifying the dispensation principle by reference to the fact that that person was alleged to be a wrongdoer, and that the enforcement authority had established a seriously arguable case to that effect. In the passage from the judgment of Kerr LJ, cited by Tuckey LJ in the Banco National case at paragraph 40, however, emphasis was placed upon the fact that a cross-undertaking in favour of innocent third parties should be granted because they are in no way concerned with the claim against the named respondent. It could be said that any third party does have a legitimate concern in seeing that the law is observed and enforced.

[65]There are considerations pointing each way, as the competing arguments of the bank and the respondents on the one side, and the FSA on the other, have indicated. It seems to me that an important consideration, in evaluating the effect and consequences of the dispensation principle, is that before an injunction will issue at the instance of an enforcement authority, the court must have been satisfied that the enforcement authority has raised an arguable case of wrongdoing on the part of the respondent. That is of no concern to, and does not affect the position of, an innocent third party. The real issue seems to me to be whether the potential costs which may fall upon a third party of a statutory body exercising its law enforcement functions should, in the general run of cases, and admitting that there may be particular exceptions in individual cases, fall on a wholly innocent third party or whether they should fall on the public purse from which the enforcement authority receives its costs and resources. In other words, the real issue seems to me to be one of the allocation of costs and resources.

[66]In my judgment, the submissions of Miss Oppenheimer for the bank are to be preferred to those of the FSA. Whilst I acknowledge the force of certain of Mr Vineall’s submissions, in my judgment they are not sufficient to override the considerations identified by Miss Oppenheimer. It does seem to me that when a law enforcement body is seeking, through the civil courts, to enforce the law by way of a freezing injunction, which may have adverse financial implications for third parties who are innocent, then, as a matter of course, the usual third party undertaking as to damages should be given. I can see no logical reason for distinguishing between third party expenses and third party loss and damage. Moreover, it seems to me that the matter should be addressed at the time the injunction is first granted, and it should not be for a third party to have to come along to court later. I can see real difficulties in providing effective redress for the position in the interim because I cannot see that the court can require a party who has obtained relief as applicant retrospectively to give an undertaking in damages. It cannot require an undertaking in damages at all unless one is offered as the price of obtaining injunctive relief, and I therefore cannot see that it can compel one retrospectively.

[67]It seems to me that the appropriate protection, from the point of view of the FSA, is when it comes to the stage of enforcement of the undertaking. The court would not enforce an undertaking in favour of a third party which was not entirely innocent, at least to the extent that it was not innocent. If there are special considerations as to why the cross-undertaking in damages should not be enforced, those can be urged at the time the third party seeks to enforce the undertaking; but as between the two positions for which the FSA and the bank contend, it seems to me that the better position is to require the undertaking in the first instance, and then to consider whether there is, or is not, reason to enforce it in an appropriate case. Therefore, for those reasons, in my judgment, there should be the usual cross-undertaking in damages in the standard form in favour of third parties, which will extend to the bank. ----------------------------------------

Cited in 1 later judgment

The Financial Services Authority (a company limited by guarantee) v Sinaloa Gold plc and others and Barclays Bank plc 2013