The days when parties to a transaction would have to be physically at the same meeting to sign transaction documents are diminishing. It is now common practice for the lawyers involved to arrange a signing via email. Transactions typically see signatories signing a hard copy document in wet ink, and they then scan and send the document by email. However, as technology evolves, the use of e-signatures has become increasingly common. This article sets out the present position on the scope for use and acceptance of electronic signatures in commercial transactions in the UK.
EU and E-Signatures
In spite of the UK’s decision to bid farewell to the EU, just one week after the referendum, on 1 July 2016, EU Regulation No 910/2014 (eIDAS Regulation) came into force. The eIDAS Regulation has direct effect in the UK and it establishes an EU-wide legal framework for the acceptance of electronic signatures.
Electronic signatures can take a number of different forms, including:
(a) a person typing their name into a contract or into an email containing the terms of a contract;
(b) a person electronically pasting their signature (such as in the form of an image) into an electronic version of the contract next to the relevant party’s signature block;
(c) a person accessing a contract through a web-based e-signature platform and clicking to have his or her name in a typed or handwriting font automatically inserted into the contract next to the relevant party’s signature block; and
(d) a person using a touchscreen to write his or her name electronically with a finger, light pen or stylus, next to the relevant party’s signature block in the contract.
Law Society Guidance
To further affirm this position, we now also have formal guidance on e-signatures from The Law Society Company Law Committee and The City of London Law Society Company Law and Financial Law Committees, as joint working parties (the JWP). This guidance was developed to give assurances to parties and legal advisers who wish to execute commercial contracts using an electronic signature. In their opinion, a contract executed using an e-signature satisfies any statutory requirement that a document should be in writing. This written requirement extends to situations such as: providing a guarantee; contracts for the sale of land; disposition of an equitable interest; or an assignment of copyright.
Deeds and Company Documents Given the inclination of the courts to interpret various statutory requirements for writing to include documents represented on a screen and executed with an electronic signature, this approach would apply in respect of deeds. Section 46 of the Companies Act 2006 (“CA 2006”) provides that a document is validly executed as a deed by a company incorporated under the CA 2006 if it is duly executed and is delivered as a deed. The JWP believe this can be achieved by the authorised signatories signing the deed using an e-signature. The practical means of witnessing different forms of electronic signature will need to be settled on a case-by-case basis, however, in the opinion of Leading Counsel, it is best practice for the witness to be physically present when the signatory signs and if that witness subsequently signs the attestation clause (using an electronic signature or otherwise), that deed will have been validly executed.
It is further accepted that digital signatures will be accepted in minutes of company general meetings and written resolutions, provided the identity of the sender is confirmed by the company.
It remains to be seen what the effect of Brexit will have on EU Regulation but it appears that the acceptance of e-signatures is a feature that is set to remain. Though caution must be applied in witnessing, the digital age is signed sealed and delivered.
In the recent case of Rush Hair Ltd v Gibson-Forbes & Anor  EWHC 2589 (QB), the High Court considered the enforceability of two restrictive covenants contained within a share purchase agreement (SPA).
In March 2015, the claimant, a hairdressing company called Rush Hair Limited (Rush), entered into a share purchase agreement (SPA) with the first defendant Hayley Gibson-Forbes (H), to purchase the share capital of two companies owned by H: Hair (Windsor) Limited and Hair (Maidenhead) Limited (Companies). Rush agreed to pay £25,000 on completion of the SPA, and a further £15,000 (Deferred Consideration) six months after completion provided that H did not breach any of the provisions of the agreement.
The SPA included two restrictions (Restrictive Covenants). The first restrictive covenant prevented her from soliciting or employing three named individuals (LH, CH, and JT) for two years after completion. The second restrictive covenant prohibited H from being directly or indirectly involved in a competing business during that time within two miles of Windsor and Maidenhead. H also entered into a settlement agreement following the termination of her employment with Hair (Windsor) Limited, in which she agreed to be bound by the restrictive covenants contained within the SPA.
H however did set up a competing business and moreover she employed both LH and CH. Consequently Rush did not pay the Deferred Consideration to H on the basis that H had breached the Restrictive Covenants. In July 2016 (after the Deferred Consideration was due but within the two-year non compete period) H set up a new company, opening a salon in Windsor and engaging JT as a consultant. In August 2016, the claimant issued proceedings against H, alleging that she had breached the Restrictive Covenants by setting up a competing business, and employing JT, LH, and CH at various points within the timeframe of the Restrictive Covenants.
It was held that H had breached both restrictions. Although JT was technically engaged as a consultant, the court held that JT had in fact been employed by H, due to the nature of the contractual relationship which existed between them. It was further held that H had breached the non-compete restriction, as the clause was held to be reasonable in scope, duration and geographical extent, and served to protect the legitimate business interests of Rush. However, the court did not accept Rush’s claim that H had deliberately operated through an incorporated company to avoid being caught by the restrictive covenants. Instead, she was deemed to be acting as an agent for the company.
Due to the breach of the first restrictive covenant, Rush was allowed to forgo paying H the Deferred Consideration. Furthermore, H was ordered to cease trading until March 2017 at which point the restrictive covenants would expire.
It is interesting that a two-year restrictive covenant was held to be enforceable in this case and on the basis of comparatively low consideration. It is also interesting that the fixed damages (non payment of the £15,000 deferred consideration) was upheld. Withholding the deferred consideration was not considered unenforceable as a penalty, as Rush had legitimate business interests to protect, namely ensuring it retained its staff and client base both of which added great value to its business. If this is a model for other deals then it would need to be treated with caution if the sums are much larger and if there is a tight geographic limitation as in this case. The test for whether a restrictive covenant in an SPA is enforceable is whether the clause serves to protect a legitimate business interest and whether it is reasonable in geographical scope and duration of time. When dealing with commercial as opposed to employment contracts, the courts tend to allow more widely drafted restrictive covenants, and will also have regard to the commercial context of the agreement. It is notable that the court did not find that H had used her newly created company as a vehicle for deception. The courts will only be willing to look behind a corporate structure (i.e. pierce the corporate veil) in cases where there has been a deliberate and calculated attempt to evade scrutiny.
The recent Court of Appeal decision Wood v Sureterm Direct Ltd & Capita Insurance Services Ltd  EWCA Civ 839 considered how to interpret an indemnity clause in a sale and purchase agreement, overturning the High Court decision. The Court examined its role in interpreting a contract between parties where the language was capable of having more than one meaning, finding that it is not for the courts to improve a party’s bad bargain where it would undermine the importance of the natural language used.
In April 2010 Capita Insurance Services Ltd (“Capita”) acquired the entire issued share capital of Sureterm Direct Ltd (“Company”), an insurance broker, from certain sellers (“Sellers”), including the appellant. The sale and purchase agreement (“SPA”) contained a set of warranties which one would expect in such a transaction and the following indemnity from the Sellers to Capita (numbering and underline added for emphasis):
“The Sellers undertake to pay to the Buyer an amount equal to the amount which would be required to indemnify the Buyer and each member of the Buyer’s Group against (1) all actions, proceedings, losses, claims, damages, costs, charges, expenses and liabilities suffered or incurred, and (2) all fines, compensation or remedial action or payments imposed on or required to be made by the Company (A) following and arising out of claims or complaints registered with the FSA, the Financial Services Ombudsman or any other Authority against the Company, the Sellers or any Relevant Person (B) and which relate to the period prior to the Completion Date pertaining to any mis-selling or suspected mis-selling of any insurance or insurance related product or service.”
Following the acquisition, Capita discovered that insurance mis-selling had occurred and reported this to the FSA (now Financial Conduct Authority), as was their obligation to do. They agreed with the FSA to a remediation exercise and to pay compensation to those customers affected by the mis-selling.
Capita brought a claim against the Sellers under the indemnity for approximately £2.5 million as a result of the exercise. The issue in dispute was whether the indemnity covered losses where Capita or the Company had self-referred to the FSA, rather than a claim or complaint being lodged by a customer. The High Court judgment helpfully divided the indemnity clause into sections (1), (2), (A) and (B), as noted above. Capita claimed that the indemnity was applicable in the circumstances because, under its interpretation of the different parts of the indemnity, only (2) (fines) applied to (A) (complaints to the FSA), which meant that (1) (losses) did not need to be connected to (A) (complaints to the FSA) and could simply be connected to (B) (pertaining to mis-selling pre-Completion). The High Court agreed with Capita’s interpretation.
On appeal, the Court of Appeal reversed the decision and found in favour of Mr Wood, on the following basis:
- It was necessary to look at the structure of the indemnity in its original form, read as a whole. The most natural reading was that it created an indemnity against two types of loss: those arriving from actions, claims, etc, and those arriving from fines, compensation, remedial action or payments, both of which applied to (A) and (B). Accordingly, any indemnifiable loss had to either arise from a claim against the Company (1) or a complaint registered with the FSA (2).
- Applying Capita’s interpretation would render the indemnity incoherent, as pairing (1) and (B) (and deleting (2) and (A)) failed to specify any entity against which an action must be brought. While stressing that it was only a small pointer towards his conclusion, Christopher Clarke LJ agreed with Mr Twigger QC’s entertaining analysis (for Mr Wood) that if one applied the phrase “I like cats and dogs which are black and fluffy”, to the structure of the indemnity in question, the most unlikely construction would be Capita’s, which would lead to “(1) I like cats (B) which are fluffy and (2) dogs which are (A) black and (B) fluffy”.
- It rejected the High Court’s conclusion that there was no good commercial reason to exclude the indemnity for loss caused by a self-referral to the FSA. Capita had other means of redress under the warranties covering FSA compliance; the fact that the indemnity was unlimited by time or financial liability meant that it was not surprising that its scope should be limited. In addition, it was not the court’s role to improve a deal which had been badly negotiated or drafted by Capita.
The decision highlights the broad principles of the interpretation rules which the courts will apply. It is not enough merely to rely on the assumed business common sense of a transaction, as two parties may have differing views as to what amounts to common sense. As a court will not always be aware of the parties’ intentions at the time of entering into a contract, it must assume that compromises may have been made, or that a party may have negotiated or drafted poorly. The courts will seek to find a balance between the indications given by the language and the implications of the rival constructions. As ever clear drafting, both in language and structure, is essential – whether regarding cats, dogs or otherwise.
The case of Portsmouth City Council v Ensign Highways Ltd  EWHC 1969 (TCC) considered whether a duty to act in good faith could be implied into the Council’s dealings with its service provider (Ensign).
The parties entered into a long term PFI contract for highway maintenance on 30 July 2004. Schedule 17 to the Contract set out certain Default Events for which service points could be awarded and a “Maximum Event Value” against each Default Event. The Council could issue warning notices, subject Ensign to closer scrutiny and ultimately terminate the contract if the total number of service points awarded passed a certain threshold in any 12 month period (150, 200 and 250 respectively).
Initially the Council operated on the basis that each Maximum Event Value figure in Schedule 17 was the upper limit of a range that could be awarded for the relevant Default Event. The Council would therefore consider the gravity of the breach when assessing how many service points should be awarded and informed Ensign on a monthly basis.
In 2012, following a number of cuts in local authority funding the Council started awarding Ensign with the maximum value of service points for every Default Event, refusing to communicate with Ensign in relation to breaches, finding breaches that Ensign might find difficult to remedy and awarding large numbers of Service Points at random intervals.
In June 2014 Ensign notified the Council that it intended to refer the dispute about the award of service points to expert determination in accordance with the terms of the Contract. It was Ensign’s assertion that the Council were deliberately trying to make satisfactory performance of the Contract difficult for Ensign. The expert concluded that the Council had acted in bad faith, without mutual co-operation and unfairly. The expert concluded that Ensign was, in general, delivering the required service but that the Contract did not provide any means of achieving long term improvements.
The Council commenced legal proceedings seeking various declarations relating to the performance of its obligations under the Contract. The key issues in dispute were:
- whether the Maximum Event Values represented the upper limit of a range of service points that could be awarded for a particular Default Event or were they fixed “tariffs” to be applied irrespective of the gravity of the breach in question;
- whether the duty to act in good faith set out in one clause of the Contract (which referred specifically to the parties obligations to secure continuous improvement and best value) extended to the Council’s obligations in relation to the award of service points under a different clause ; and
- if the duty to act in good faith did not extend to the award of service points, whether a term should be implied to that effect.
Edwards-Stuart J observed that failure of the duties under the Contract could take many forms and that it was therefore logical that parties build in some flexibility to the award of service points. He concluded that the word “maximum” had a very clear meaning – namely, the upper limit of a range and that the numbers in Schedule 17 could not therefore be fixed “tariffs” to be applied irrespective of the gravity of the breach.
As to the extent of the duty of good faith, the Judge stated that English law does not usually imply such a duty into commercial contracts.
The Judge, however, concluded that the Council was subject to an implied term when assessing the number of Service Points to be awarded under the Contract to act honestly and on proper grounds and not in a manner that is arbitrary, irrational or capricious.”
There are two main points to take away from this case:
- A duty to act in good faith set out in relation to a specific obligation will not imply that duty against other clauses within the same agreement;
- Whilst English law does not recognise an overriding duty to act in good faith there exists an implied term that a party must act in a manner that is not arbitrary, irrational or capricious when exercising a contractual right of discretion.
In the recent case Jetivia SA and another v Bilta (UK) Ltd  UKSC 23 (“Jetivia v Bilta”) the Supreme Court considered the application of the illegality defence.
Through its liquidators, an insolvent English company, Bilta (UK) Limited (“Bilta”), brought claims against its directors for unlawful means conspiracy involving them breaching their fiduciary duties and against a Swiss company, Jetivia SA (“Jetivia”) and its sole French director for dishonestly assisting them. Jetivia and its directors applied to strike out Bilta’s claim on the basis of the “illegality defence”, the principle that the courts will not assist a claimant whose claim is only possible due to the claimant’s own illegal action.
The liquidators also brought a claim under the fraudulent trading provisions of section 213 of the Insolvency Act 1986 against the directors, Jetivia and its sole French director. Jetivia claimed that section 213 did not have extra territorial effect. The application was dismissed by both the High Court and the Court of Appeal. Jetivia and its directors appealed to the Supreme Court.
Facts of the Case
Bilta was alleged to have been the vehicle for a VAT fraud involving a carbon emissions credit scheme. The liquidators alleged that Bilta’s two directors had breached their fiduciary duties to Bilta by causing Bilta to enter into a number of fraudulent transactions with third parties, including Jetivia, and therefore had conspired to injure Bilta.
In relying on the illegality defence to protect them from the claim, the directors and Jetivia argued that Bilta, through its directors, was a party to the illegality because any knowledge of the directors should be treated as though it was that of Bilta. If so then Bilta could quite properly bring a claim against them and there would be no illegality defence.
The Decision in Jetivia v Bilta
The Court unanimously held that section 213 has extra-territorial effect. The context of section 213 is the winding-up of a company registered in Great Britain, but the effect of such a winding up order is worldwide. It was difficult to see how the provisions of section 213 could achieve their object if their effect was confined to the UK.
In relation to the illegality defence the Court held that it was unjust and absurd to suggest that the answer to a claim for breach of a director’s duty could lie in attributing to a corporation the very mischief by which the director had damaged the company.
Lord Neuberger said in summary that the knowledge of the wrong-doing could not be attributed to the company in defence of a claim brought against the directors by the company’s auditors (or by the company itself). This was the case even if the directors were the only directors and shareholders of the company, and where the wrong-doing or knowledge of the directors might be attributed to the company were the proceedings of a different nature.
What Jetivia v Bilta means for Directors
Jetivia v Bilta makes it clear that the defence of illegality will not always be available to protect unscrupulous directors in claims brought against them by the company. This is because there remain circumstances where the director’s knowledge will be attributed to the company. In particular the defence is unavailable in the context of claims by or against a third party or where there are no innocent directors or shareholders and the controlling mind and will of the company is the same person as the directors.
That section 213 was held to have extra-territorial effect is perhaps unsurprising. In reality this will mean that directors residing in foreign jurisdictions will not be able to raise their foreign residency in defence.
Directors who find themselves the subject of such claims by companies will find it harder to raise the illegality defence. It is therefore now more important than ever for directors to carefully consider their duties and responsibilities; in particular the duty to promote the success of the company under section 172 of the Companies Act 2006.
The Supreme Court also indicated in Jetivia v Bilta that now is the time for a fuller analysis of the scope of the illegality defence. Jetivia v Bilta was held to be the time but not the place for such discussion but we await the next opportunity for the Courts to consider this most intriguing and technical of defences.
The case of Swynson Limited v Lowick Rose LLP  EWCA Civ 629 on appeal to the Court of Appeal concerned an amount of damages recoverable by a lender from a negligent firm of accountants which failed to perform a proper exercise of due diligence on the borrower to whom monies were lent on reliance on that negligent advice. The loan was repaid by using money lent to the borrower by the owner of the lending company. At first instance the High Court held that repayment was a collateral matter which did not go to reduce the damages recoverable by the lender from the negligent accountants. The appeal concerned, amongst other matters, whether damages due for that negligence could be reduced by “avoided loss”. The avoided loss came about through the repayment to the borrower of the two initial loans through the issue of a third refinancing loan from the borrower’s owner undertaken principally for tax reasons.
A majority of the Court of Appeal held that the repayments should not be brought into account when assessing damages against the negligent accountants. The accountancy firm would remain fully liable for its negligence, despite the repayment of the loans. The repayment by the owner of the borrower was “res inter alios acta” (acts between parties may not adversely affect the rights of others) and accordingly did not reduce the lender’s rights to recover damages.
Facts – abridged
The appeal concerned loans of £15m given in 2006 and £1.25m given in 2007 by Swynson Limited (“Swynson”) to Evo Medical Solutions Limited (“EMSL”). Central to the appeal was Mr Michael Hunt, an indirect owner of Swynson, who became a majority shareholder of EMSL in 2008 due to his involvement in the refinancing of EMSL.
On granting a loan to EMSL in 2006, Swynson relied on negligent due diligence undertaken by Lowick Rose LLP (at the time called Hurst Morrison Thomson (“HMT”)). HMT failed to update Swynson on a $3-$4m adverse difference between EMSL’s actual and forecast working capital. On the information that EMSL would collapse without extra funding, Mr Hunt caused Swynson to provide a further £1.25m loan to EMSL in 2007. As the loans became due for repayment, Mr Hunt himself provided a further loan in 2008 to help EMSL refinance the 2006 and 2007 loans. Swynson and Mr Hunt sued HMT for damages in negligence, HMT argued (amongst other matters) that by reason of Mr Hunt’s 2008 refinancing, Swyson had suffered no loss in respect of the 2006 and 2007 loans. The High Court held, amongst other things, that the 2008 partial refinancing was res inter alios acta and did not amount to reduce Swynson’s damages. HMT appealed this (and other matters). The appeal was dismissed by a majority of the Court of Appeal.
Longmore LJ dismissed the appeal, stating that avoided loss from the 2008 refinancing should not be taken into account in assessing damages. It was held that the avoided loss:
- Did not arise as collateral to the accountancy firm’s negligent advice, so would not be taken into account in Swynson’s claim for damages;
- Arose as a consequence of the breach, however, would not be taken into account and considered in the award of damages, as it was not a loan made in the ordinary course of business. The loan represented a worthless debt, which meant EMSL could not use the refinancing to procure business, in the ordinary sense;
- Came about as a result of the financial relationship of Mr Hunt to both Swynson and EMSL. Damages would not be reduced as the Court of Appeal did not feel it just for the accountancy firm to benefit as a result.
The decision in this case was made with the position of Mr Hunt in mind despite his not being a successful party to the appeal. The Court of Appeal tried to find a solution to make good Mr Hunt and Swynson and has done so with disregard to, as it put it, “technicalities” or which some would call the authorities. The judgment contains a very useful summary of the law on avoided loss then does its best to work its way around it. It nevertheless does provide (albeit very fact specific) guidance for claimants who fail to take or who are unable to take steps to mitigate their losses, but still nevertheless avoid loss as a result of the acts of third parties. The decision highlights the importance of considering the effects of action taken by third parties in relation to loss experienced by a claimant and the nature of those actions – whether the avoided loss arises by virtue of circumstances which are collateral to the breach of contract (eg an insurance payment, in which case the avoided loss need not be taken into account) or if the transaction giving rise to the avoided loss arises out of the consequences of the breach and in the ordinary course of business in which case it may be taken into account) eg where a supplier has failed to supply certain goods but the buyer ends up procuring better goods and a better economic bargain as a result. The judgment does not consider in detail the double recovery rule but that should always be borne in mind.
It may be the case that the defendant firm of accountants appeal this decision to the Supreme Court.
Currently in the UK, companies are permitted to appoint directors who are corporate entities rather than individuals/natural persons. However, under the Companies Act 2006 all companies must have at least one director who is a natural person at all times.
Only just over one per cent. of UK companies use corporate directors. There are several reasons why it may be attractive or beneficial for companies to appoint corporate directors, such as administrative flexibility and efficiency. A corporate director could remain constant without the need to effect frequent appointments and resignations of individual directors. A parent company may also wish to directly control how its subsidiaries are run and may do so by it, or another group company, being appointed as a director of the subsidiaries.
However, the use of corporate directors can be, and sometimes is, open to misuse. For example, complex group ownership and control structures are often created, perhaps using shareholders and corporate directors in foreign jurisdictions as well. This makes it hard for others (including tax and other regulatory authorities) to ascertain the beneficial ownership of the UK company in question and also the individuals that control it. Such opaque structures are sometimes used for tax avoidance or tax evasion or to avoid liability or compliance with directors’ duties which would otherwise fall on the individual directors.
The use of corporate directors is not permitted in some other jurisdictions such as Germany, Australia, Switzerland and in some US states.
Against the backdrop of recent international impetus and commitment to promote greater transparency by companies, in July 2013 the UK’s Department for Business, Innovation & Skills (“BIS”) published a discussion paper which, amongst other things, proposed a prohibition on UK companies being able to appoint corporate directors. The discussion paper invited opinions on the proposals. The paper is available here.
BIS published the Government’s response to the discussion paper in April 2014 (“Response Paper”) under which it affirmed its intention to prohibit UK companies from appointing corporate directors. As such, the Small Business, Enterprise and Employment Act 2015 received Royal Assent on 26 March 2015 and the ban on corporate directors will come into force in October 2015.
The Response Paper noted that there was a broad consensus (which included views from non-governmental organisations, law enforcement agencies and other business organisations) that corporate directors should be prohibited in most instances. However, there were also arguments that there should be some exceptions to the ban in situations where there is a low risk of illicit activity or where the company in question operates under a more regulated framework (i.e. if its shares are listed on a public market).
In November 2014 BIS published a further discussion paper under which it put forward the proposed exceptions to a complete ban on corporate directors. This paper is available here. The possible exceptions include: companies which form part of a large group; public companies whose shares are listed on a regulated or prescribed market; other large non-listed public companies; certain large private companies; and companies in regulated sectors (i.e. charities or pension trustees). The period for responses to this paper has now ended but on 26 March 2015 BIS published a questionnaire seeking views on whether the Secretary of State should make a principles based exception to the ban on corporate directors. A copy of the questionnaire is available here. The consultation closes on 27 April 2015.
It is the Government’s intention to implement any exceptions and the scope of those exceptions in secondary legislation at the same time the general prohibition on corporate directors comes into force towards the end of 2015. Once the legislation comes into force, the ban on corporate directors will apply immediately to all new appointments and will apply to existing appointments 12 months later, so there is a grace period in which companies must remove or replace corporate directors with natural persons (unless any exemptions apply). Breach of the new rules will be a criminal offence.
There are no immediate plans by the Government to apply the ban on corporate directors to limited liability partnerships (“LLPs”) given that there is less evidence to show abuse carried out by LLPs through the use of corporate members. However, this position will be monitored by the Government after the new rules for companies come into force.
The case of Sugar Hut Group & Others v A J Insurance  EWHC 3775 (Comm) considered the measure of business interruption losses to which the claimants were entitled following a serious fire at a well-known nightclub – the Sugar Hut Club in Brentwood, Essex (the “Club”). The case highlights the importance of full disclosure before inception of an insurance policy and gives an indication of how the courts will calculate business interruption losses and in particular the proper assessment of the overall loss of turnover.
Following a fire on 13 September 2009, the Club was effectively unusable for a period of some 49 weeks until it eventually reopened on 25 August 2010. Very shortly after the Club reopened, it started to feature in a well-known TV show – The Only Way is Essex which significantly increased its national profile. The Court referred to this as the ‘TOWIE’ effect.
The Sugar Hut Group (“Sugar Hut”) initially issued proceedings against its insurers. The judge dismissed Sugar Hut’s claims on the grounds that there had been non-disclosure before inception of the insurance policy as well as breaches of warranties given to the insurers. Sugar Hut then commenced proceedings against its insurance broker A J Insurance (“AJI”) arguing that the reasons the judge had dismissed Sugar Hut’s claims against its insurers arose from AJI’s negligence/breach of duty to Sugar Hut. The claim against AJI was based on the amount Sugar Hut would have expected to recover from its insurers but for AJI’s negligence/breach of duty. AJI conceded liability before trial but the quantum of damage remained in dispute, in particular, how to calculate the overall loss of turnover during the period immediately following the fire until the Club reopened in August 2010.
The Court was presented with contrasting views from the forensic accountants instructed by the parties. The accountant instructed by Sugar Hut calculated the loss of turnover to be £2,626,769, which was based on an average between two perspectives: (1) an extrapolation of the Club’s turnover in the period before the fire which took into account the increase in turnover in the period before the fire and applied an uplift to calculate the projected lost turnover during the period immediately after the fire until the Club reopened; and (2) the actual turnover achieved after the Club re-opened for business.
The accountant instructed by AJI, presented a substantially lower figure of £1,883,311 by concluding that the Club’s turnover during the period immediately after the fire would have increased only by the relatively modest increase in the Consumer Price Index (“CPI”). He chose to ignore the actual turnover achieved after the Club re-opened for business.
The Court accepted that the figures showed an increase in turnover in the period before the fire and agreed to apply an uplift to these figures to reach a projected turnover in the equivalent weeks following the fire. However, it refused to take into account the turnover actually achieved after the Club re-opened. The Club was refurbished following the fire which meant that it was effectively a new club and the ‘TOWIE’ effect resulted in a substantial increase in the total number of visitors to the Club after it appeared on TV.
There are two main points to take away from this case:
- in calculating the loss of turnover where a business has been interrupted, it is now unlikely that the courts will take into account the turnover after the business re-opens where substantial improvements have been made in the rebuilding process; and
- it is difficult to assess business interruption losses and in particular the loss of turnover. There is a clear need to adduce convincing evidence to prove losses. It is also important to make full disclosure before the inception of any insurance policy and to comply with the warranties given.
The Department for Business, Innovation & Skills has published new regulations amending the share buyback process under the Companies Act 2006, in an attempt to clarify the previous amendments of 2013. With these latest changes having come into force with effect from 6 April 2015, we take a look at the regime’s evolution over recent years and the likely effects of the changes.
Background: The 2006 Act
Part 18 of the Companies Act 2006 (“Part 18”) sets out the procedure for share buybacks by a limited company. It imposes certain requirements in order to make a buyback lawful, relating to shareholder approval, timing of payment and how the purchased shares are treated. The most common reasons why a company may wish to buy back its shares are to return surplus cash to shareholders, increase net assets per share, enhance share liquidity, or provide shareholders with a way to exit the company.
When the original Part 18 came into force, it broadly followed the equivalent provisions under the Companies Act 1985, although importantly it removed the need for express authorisation for a buyback to be included in a company’s articles of association.
The Nuttall Review and 2013 amendments
In 2012 the Nuttall Review of Employee Ownership found that the regime was still overly burdensome and recommended several deregulatory changes to Part 18. These were aimed at removing barriers to the creation and uptake of employee ownership arrangements. Companies were found to be reluctant for their employees to receive shares, due to procedural requirements and fear of an inability to recover the shares later.
Regulations were produced which came into force in 2013 in response to the Nuttall Review, making the following amendments to the process:
- an ordinary resolution was now sufficient to approve a buyback, rather than a special resolution (as previously required);
- private and unlisted companies were allowed to hold treasury shares, rather than having to cancel repurchased shares immediately; and
- in addition to buybacks out of distributable reserves, private companies were permitted to make small buybacks of shares out of cash, using the lower of £15,000 and 5% of their share capital in any financial year (but only where the company’s articles expressly permitted or where a special resolution was passed) (the “de minimis exemption”);
- where a buyback was in relation to an employees’ share scheme (as defined in the 2006 Act), companies:
- were able to authorise multiple share buybacks in advance without the need for a buyback agreement;
- were able to finance buybacks out of capital with only the need for a solvency statement and special resolution; and
- were able to finance buybacks in instalments.
The amendments simplified the procedure and brought increased flexibility by providing an easier route to divesting members of their shares, with less administrative burden. Notably, some of the most radical changes only related to employee share schemes, meaning that the effect of the provisions may be limited where, for instance, a departing manager does not hold his shares pursuant to such a scheme. This may therefore encourage companies to opt for an employee share scheme rather than the more traditional approach of employee benefit trusts, which can be expensive and cause administrative headaches themselves (for example they can lead to delays in complying with bank KYC requests).
The 2015 regulations have kept substantive changes to a minimum, with the main focus on clarifications to the 2013 amendments. The de minimis exemption introduced in 2013 is now stated as applying in respect of “the lower of £15,000 or the nominal value of 5% of the fully paid share capital calculated at the beginning of the financial year”. The regulations also clarify the accounting treatment of the de minimis buybacks (which should be the same as buybacks out of capital) and remove the ability to hold shares in treasury if bought back under the de minimis exemption.
It remains to be seen how popular these amendments will prove in encouraging employee share ownership, although the 2015 regulations will help both companies and advisers get to grips with the potential of the new regime. The increased flexibility is certainly welcome and private companies adopting new articles of association should consider including an express provision in respect of the de minimis exemption, to provide them with more choice when dealing with departing minority shareholders.
To see the new regulations, follow the link:
The government has confirmed its intention to carry out a full post-implementation review of the 2015 regulations (as amended) in 2016.
What are mini-bonds?
A ‘bond’ is a debt instrument under which an investor lends money to a borrower, usually a corporate entity. Bonds are issued by the borrower on specified terms which are contained in a ‘bond instrument’.
Traditional bonds are issued by companies to both private and institutional investors and are traded on a stock market. Such bonds are commonly known as ‘corporate bonds’ or ‘retail bonds’ (although unlisted bonds are also sometimes referred to as retail bonds) and are issued by a variety of companies, including well known brands such as Tesco, National Grid and GlaxoSmithKline.
There is no legal definition of a ‘mini-bond’. However, the term is generally used to describe bonds which are offered mainly to private individuals and which are not listed or traded on any stock market. Typically, mini-bonds are not redeemable prior to maturity and are non-transferable, so the investor is tied in for the term of the bond.
Mini-bonds, as opposed to corporate bonds, tend to be issued by much smaller companies. Mr and Mrs Smith, Hotel Chocolat, Ladbrokes and the University of Cambridge are examples of some more well-known companies and organisations which have issued mini-bonds to raise money.
Mini-bonds, like crowd-funding, have become an attractive method of raising capital for smaller companies as a result of the difficulties in securing bank finance over the last seven or eight years. As Capita Asset Services, a leading administrator of mini-bonds, says “Mini-bonds offer a number of other potential benefits to companies including brand building, increased company profile and customer loyalty.”The market has seen mini-bonds issued across a wide range of sectors including commercial real estate, confectionary, leisure and gambling, retail, food and beverage and education.
One of the main attractions of mini-bonds is the better interest rates they offer compared with the high street banks. Typically, mini-bonds will have a coupon of anywhere between five and 10 per cent., whereas current deposit rates offered by banks may be as low as one to two per cent.
Who can issue mini-bonds?
Any corporate entity can issue mini-bonds. As mentioned above, mini-bonds are unlisted instruments and it is likely the issuer will also be unlisted. Under the UK Companies Act 2006, private limited companies are not permitted to offer securities (which includes bonds) to the public. Due to this restriction, many issuers of mini-bonds are unlisted public companies.
Typical commercial terms
Mini-bonds are often, but not always, unsecured, non-convertible and non-transferable. Most mini-bonds offer a fixed rate of interest over a fixed term, which is typically between three and five years in length. However, some mini-bonds have been issued with a term of up to 10 years. Interest is often paid annually but can be accrued and paid at the end of the term, when the principal amount invested will be redeemed.
Issuers often include loyalty vouchers for their products as part of the coupon to the bond or as a perk. It is hoped that this will strengthen the relationship between the bondholder and the issuer. For example, Mexican restaurant chain, Chilango, raised over £2m (its target was £1m) and anyone who invested more than 10,000 is entitled to one burrito a week for their life. Hotel Chocolat offered a loyalty card which could be used in stores as part of the terms of its mini-bond offer. According to Capita Asset Services, knowing your potential investor is crucial to the success of the bond. “Due to the characteristics of a mini-bond they tend to be attractive to relatively small retail investors, or those who already have a connection with the company or brand. Therefore, companies should research their audience to understand who will invest and which features will appeal to them, then ensure that the launch of the bond is supported with advertising to raise awareness.”
Who can invest?
In theory, anyone can invest in mini-bonds but most investors at this level are individuals (or their SIPP or SSAS) rather than companies or institutions.
However, the Financial Conduct Authority (FCA) introduced new rules earlier in 2014 aimed at protecting investors in non-listed products, including mini-bonds. For example, if an investment is offered or promoted by an FCA authorised firm, that firm will now need to take certain steps to ensure the recipient is either an appropriate investor or that independent financial advice on the investment has been received. The new rules enable the FCA to hold authorised firms accountable should they promote or offer investments to the wrong type of investors.
Although the income returns may be relatively attractive, there are some risks which come with investing in mini-bonds, particularly because they are generally illiquid products. In other words, although the principal amount lent will be returned at the end of the term together with any accrued unpaid interest, the holder will not benefit from capital growth through trading during the life of the mini-bond. In addition, if base rates go up during the term of the bond, the coupon will become less attractive but the bondholder will remain locked in.
Not all mini-bonds will be eligible for inclusion in a SIPP, SSAS or ISA. If a product cannot be wrapped up in one of these schemes, then the advertised income return is immediately less attractive to the extent it attracts more tax.
Mini-bonds are not protected by the Financial Services Compensation Scheme (unlike savers who may get £85,000 per account).
Anyone offering or promoting investments such as mini-bonds will need to comply with legislation governing financial promotions, including the Financial Services and Markets Act 2000 (FSMA). In particular, where a mini-bond is not being offered or promoted by an FCA authorised firm, in order to comply with FSMA, an issuer will need to take steps to ascertain the financial sophistication of each individual investor and satisfy itself that such investor has the requisite ability to invest in the mini-bond in question.
However, financial promotions approved by a firm that is authorised and regulated by the FCA will benefit from an expanded number of recipients who are permitted to receive the promotion under section 21 of FSMA. If approved, the appointed FCA authorised firm must ensure that the promotion is clear, fair and not misleading.
In addition to FSMA, the legal and regulatory framework for debt and equity investment products is complex and constantly developing, especially with the raft of recent EU Directives being transposed into law in the UK. It is important that mini-bonds are structured in the correct way so that they do not inadvertently fall under the remit of regulation primarily aimed at different types of financial products and investment vehicles.
Companies thinking about issuing mini-bonds will need to appoint various advisers to ensure the process is run properly and compliantly.
Lawyers will advise issuers on the legal aspects of mini-bonds, such as establishing the corporate structure, advising on the contractual and regulatory aspects of the offer and preparing and verifying the bond offer documentation.
FCA Authorised Person
The offer document may be approved as a financial promotion by a firm that is authorised and regulated by the FCA.
The tax ramifications for the issuer and the investors will need to be considered and general advice to this effect is usually provided with the offer document for prospective investors and their advisers to consider prior to subscribing.
A registrar issues the bonds, creates and maintains the bond register and processes interest payments to bondholders.
The Receiving Agent receives and processes subscriptions, usually via an online subscription process, and allots the mini-bonds and provides investors with bond certificates.
Some issuers choose to appoint a trustee to represent the interests of the bondholders.
How we can help you
Pure FS Support Limited manages the launch and plays an integral part in all aspects of a bond offer by working closely with issuers, other advisers and FCA authorised firms who approve financial promotions, in order to ensure compliance with all regulatory matters relating to the offer document.
Marriott Harrison LLP provides issuers with all of the legal advice and support needed to launch their mini-bonds.
Capita Asset Services can act as Registrar and Receiving Agent on behalf of issuers and provides trustee services.
We are able to recommend independent advisers with whom we work.
If you would like to discuss how we can help you with your mini-bond and financial promotion, please contact us and we would be delighted to advise and support you:
Pure FS Support Limited
T: 07977 274 628
Marriott Harrison LLP
T: 020 7209 2000
T: 020 7209 2000
Capita Asset Services
T: 020 7954 9705
This article has been jointly written by Pure FS Support and Marriott Harrison LLP with contributions from Capita Asset Services. It has been written for information purposes only.
The recent Court of Appeal decision in Smithton Ltd (formerly Hobart Capital Markets Ltd) v Naggar and others  EWCA Civ 939 is a reminder about the points of general practical importance for identifying de facto and shadow directors.
The definitions of de facto director and shadow director have been determined by statute and case law. Without ever having been formally appointed as a director, a person may become a de facto director if they have performed the functions of a director, or become a shadow director if they are able to persuade the directors of a company to act in a certain way. The question which arose in this case, and which often arises in practice given the substantial duties (and potential liabilities) imposed on a company director, is whether a director of the holding company of a group of companies has become a director of its subsidiaries.
The appellant joint venture company (“Hobart”) brought proceedings against Mr Naggar (“N”), a director of its former holding company (“D”) and other group companies, to recoup losses which it incurred allegedly as a result of transactions with clients which were directly and/or indirectly owned by N and introduced to Hobart through N. The first part of the claim by Hobart was that whilst N was not a duly appointed director of Hobart, he was a director of D and a de facto or shadow director of Hobart and had breached his statutory duties.
The judge in the first instance, Rose J, approached the matter on the basis that N had a “hat” for each office he held and it was necessary to decide which “hat” he was wearing at any particular time by looking at what he actually did. Although important decisions were taken by N outside formal board meetings, N had not been formally appointed as a director, did not attend board meetings and did not hold himself out as a director. Further, Hobart did not hold N out as being a director of it. N was not appointed as a director under the joint venture agreement (the “JVA”), which set out the terms for the corporate governance of Hobart, and Hobart was authorised by the FCA but it had never reported to the FCA that N was one of its directors. Accordingly, Rose J held that N was not acting as a director of Hobart. His involvement did not extend beyond that of a major shareholder and client; in fact, he had been expressly excluded as a director under the JVA and in Hobart’s reporting to the FCA.
The Court of Appeal dismissed the appeal finding that there was no basis for interfering with Rose J’s findings of fact, and held that N was neither a de facto nor a shadow director of Hobart. Rose J focussed on the evidence for assessing in what capacity N had performed “directorial” acts and in doing so, had made no error of principle; the evidence suggested that N was acting as a director of D.
The Court of Appeal also offered guidance for future cases. Whilst there is no definitive test to determine whether a person is a de facto or shadow director, a court should consider whether the person forms part of the corporate governance of the company and has assumed the status and function of a director. In answering this question, a court should consider the factors in the leading case of HMRC v Holland  1 WLR 2793, including whether a person has assumed responsibility to act as a director irrespective of that person’s motivations and beliefs and whether the company holds a person out to be a director.
This decision sets out useful guidance on the test used to determine whether a person is acting as a de facto or shadow director, including the use of “hat identification” and highlights the importance the courts place on the context in which a person makes particular decisions. Groups of companies should consider the role that directors of the parent company play in the corporate governance of its subsidiaries.
In the recent case of Heritage Oil and Gas Ltd & Anor v Tullow Uganda Ltd  EWCA Civ 1048, the Court of Appeal reinforced the importance of using clear language when drafting a provision that is intended to operate as a condition precedent.
The appellant, Heritage, argued that Tullow could not bring a claim under an indemnity because, amongst other things, it had failed to comply with the notice provisions requiring it to give Heritage 20 business days’ notice of any tax claim.
The Court of Appeal, in dismissing Heritage’s claim on this point, held that:
- While a condition precedent may provide clarity, it can also have the effect of depriving a contractual party of a right because of a trivial breach which has little or no prejudicial effect.
- The words “condition precedent” are often expressly used in notification of claims clauses, and indeed had been used in other clauses of the sale and purchase agreement. The parties in this case had not expressed that the right to the indemnity was dependent on compliance with the notice provisions.
- The use of the words “subject to” does not make the provisions following those words conditions.
This case highlights both the importance of the need for clear, consistent legal drafting and the reluctance of the Courts to hold that a condition precedent can be implied into a contract. If the parties intend a clause to operate as a condition precedent, they need to ensure that this is expressly stated and that the obligations on the parties are made clear from the outset.
We are often asked by companies wishing to raise money how they may do so lawfully. They may have entered into an agreement with a third party which agrees to procure finance for them. This is a heavily regulated area, with significant consequences for breaching the law. It is commonly referred to as the Financial Promotion Regime. Below, I summarise some of the key points which arise out of the regime and their consequences in an equity fund raising scenario. I do not address here any potentially overlapping issues arising from the Markets in Financial Instruments Directive.
Under section 19(1) of the Financial Services and Markets Act 2000 (“FSMA”), the most important starting point in relation to regulated activities, it provides:
“No person may carry on a regulated activity in the United Kingdom, or purport to do so, unless he is:
(a) An authorised person; or
(b) An exempt person.
A breach of the so-called “General Prohibition” set out above is a criminal offence under section 23(1) FSMA. Further, an agreement made by a person in the course of carrying on a regulated activity which is unenforceable against the other party under section 26(1) FSMA – the other party also being statutorily entitled to recover, under section 26(2) FSMA, any money or other property paid or transferred by him under the agreement and compensation for any loss sustained by him for having parted with it. Further applying this principle, section 27 FSMA provides that an agreement made by authorised persons as a consequences of anything said or done by a non-authorised party is unenforceable on the same basis. There are provisions in section 28 FSMA which entitle the Court to hold that an agreement is enforceable, or money or property be retained, in circumstances where it is just and equitable to do so.
What is a regulated activity? Section 22(1) FSMA provides:
“An activity is a regulated activity… if it is an activity of a specified kind which is carried on by way of business and –
(a) Relates to an investment of a specified kind; or
(b) In the case of an activity of a kind which is also specified for the purposes of this paragraph, is carried on in regard to property of any kind.”
The principal statutory instrument which applies is the Financial Services and Markets Act 2000 (Regulated Activities) Order 2001 – commonly known as the RAO. One of the regulated activities is “Arranging deals in investments” – Article 25 and Articles 25A-E). Article 25 provides:
1) Making arrangements for another person (whether as principal or agent) to buy, sell, subscribe for or underwrite a particular investment which is –
(a) A security,
(c) An investment of the kind specified by article 86, or article 89 so far as is relevant to that article,
is a specified kind of activity.
2) Making arrangements with a view to a person who participates in the arrangements buying, selling, subscribing for or underwriting investments falling within paragraph (1)(a), (b) or (c) (whether as principal or agent) is also a specified kind of activity.”
A “security” is widely construed and covers shares in a company and debt securities.
There is some judicial guidance on the application and extent of Article 25. In Re Inertia Partnership, Crow J found that merely introducing a potential issuer of shares to one of the so-called “boiler room” companies outside the UK was, “too nebulous and too remote to fall within the concept of “making arrangements” within RAO Art 25.” Further, “Such an introduction is not an “Introduction” in any meaningful sense for two reasons. First, because it does not result in anything further happening as between [the two parties introduced], let alone between any consumers and [the two parties]; and secondly because any further steps that might be taken following the introduction were not within [the introducer’s] power to effect or direct. As such, the introduction did not involve [the introducer] in any violation of the general prohibition under FSMA s.19.”
So far as “arranging” is concerned, Holroyde J in Watersheds v DaCosta and Gentleman found that an arm of an accountants’ practice which expressly marketed its services in helping company clients to obtain funding, for which it was separately remunerated by the client, was still not a breach of the General Prohibition. The services included assistance with the preparation of business plans, introducing the client to sources of funding and participating in discussions involving the client and potential funders. The Judge found that even if Watersheds were in breach of the General Prohibition, he would nevertheless exercise his discretion under section 28 to permit enforcement. However, the Judge still found that the introductions and activities did not amount to regulated activity under Article 25(2). He was helped in this decision by the contents of the FSA’s (as it then was) Perimeter Guidance Manual. The FCA is of the view that Article 25(2) RAO does include certain types of arrangements for making introductions. We believe there must be some doubt as to the judgment in this case as if introductions of this nature are outside the scope of the “arranging” activity then there would be no need for the specific exemptions contained in the RAO (Articles 33 and 33A) as to introducing activities.
Accordingly, companies wishing to raise finance, or which are offered advisory, arrangement and/or introduction services in the UK, must be sure to verify the legitimacy of the arrangements to ensure that they are not made in breach of the General Prohibition.
The Small Business, Enterprise and Employment Bill (the “Bill”) had its second reading in the House of Commons on 16 July 2014, and shall soon be timetabled to continue its march towards royal assent.
The rationale underpinning the Bill is the frequently resurrected (although seemingly never-ending) goal of cutting bureaucracy to stimulate enterprise, or, as it is more windily described in Research Paper 14/39, “[to] reduce regulatory burdens and facilitate the inception, financing and growth of business”.
The Bill’s scope includes addressing the transparency of company ownership, which has led to proposals for the abolition of the type of security known as ‘bearer shares’. As it is not easy to identify the owner of a bearer share, their existence has long been demonised as a dark corner of the UK’s otherwise bright and open regime of company ownership.
The conceptual difference between a bearer share and an ordinary share is a bit like the difference between money in a bank account and cash in hand. The proof of ownership of an ordinary share is the entry of the owner’s name in the publicly available register of members of the company which issued the shares, whereas the proof of ownership of a bearer share is in the possession (or the bearing) of the bearer certificate itself.
The identity of a holder of an ordinary share in a UK company must be entered into the company’s public register of members, whereas the identity of the holder of a bearer share need not be (only the existence of the bearer share must be entered). That means the owner of a bearer share is not readily identifiable.
There are significant advantages to being a holder of a bearer share. For example, a bearer share can be transferred freely without the need to amend the ownership details on the company’s register of members, which provides the holders with a great deal of flexibility. Also, the anonymity provided by bearer share ownership may insulate the identity of the owners of a company involved in controversial activities such as animal testing and research from the personal ire of those who disagree with the company’s aims.
The extent of bearer share ownership in UK companies, however, is miniscule. The number of companies to which the reforms relating to bearer shares will apply is remarkably small both in numerical and percentage terms. Approximately 900 out of 2.5 million companies trading in the UK have issued bearer shares, so their proposed abolition will affect merely 0.05% of active companies.
Despite the significant advantages accruing to a holder of bearer shares (and the extremely limited number of companies which have bearer shares) the Department for Business Innovation & Skills has opined that the potential for misuse open to those who retain anonymity “for the purpose of tax evasion or other criminal activity” outweighs those advantages, and that the recommendation of the Global Forum on Transparency and Exchange Information for Tax Purposes that the UK should “. . . eliminate such shares” should be adopted.
The Bill proposes to “eliminate such shares” initially in two ways. First, the Bill amends the Companies Act 2006 by preventing any further issues of bearer shares by companies. Secondly, the Bill establishes a statutory ‘surrender period’ during which every holder of a bearer share is required to surrender it for cancellation. Anyone surrendering bearer shares in this way shall benefit from a corresponding right to be issued with a new share certificate, and shall have their identity entered into the issuing company’s register of members. It is further proposed that a company will be required to undertake the expense of making a court application to effect the cancellation of any bearer shares which are not surrendered during the ‘surrender period’.
In order to ensure the implementation of the mechanisms outlined above, a number of statutory duties are to be imposed on companies and their officers. Should a company fail to comply with those statutory duties, an offence will be deemed to have been committed by every officer of the company who is in default.
For those reasons, any company that has issued bearer shares should seek early advice about the proposed statutory duties associated with their impending abolition.