AIG Financial Products Corporation v Tobias Gruber and 22 Others
| Jurisdiction | England & Wales |
| Judge | Lord Justice David Richards,Lord Justice Patten,Lord Justice Flaux |
| Judgment Date | 24 January 2020 |
| Neutral Citation | [2020] EWCA Civ 31 |
| Date | 24 January 2020 |
| Docket Number | Case No: A4/2018/3020 |
| Court | Court of Appeal (Civil Division) |
[2020] EWCA Civ 31
IN THE COURT OF APPEAL (CIVIL DIVISION)
ON APPEAL FROM THE HIGH COURT OF JUSTICE
BUSINESS & PROPERTY COURTS OF ENGLAND AND WALES
MR JUSTICE ANDREW BAKER
2014-Folio-1226
Royal Courts of Justice
Strand, London, WC2A 2LL
Lord Justice Patten
Lord Justice David Richards
and
Lord Justice Flaux
Case No: A4/2018/3020
Lord Goldsmith QC, Mr Andrew Hunter QC and Mr Peter Head (instructed by Paul Hastings (Europe) LLP) for the Appellant
Mr Daniel Oudkerk QC, Mr James Sheehan and Mr Jamie Susskind (instructed by Stephenson Harwood LLP) for the Respondents
Hearing dates: 25, 26 and 27 November 2019
Approved Judgment
Introduction
This appeal by the second defendant (to which I will refer as “AIGFP”) against the order of Andrew Baker J dated 9 November 2018 concerns two deferred compensation plans operated by AIGFP which were designed to allow its employees to share with the seventh defendant (“AIG”), as the shareholder of AIGFP, in the “risks and rewards” of AIGFP's business by means of deferred compensation accounts to which part of its distributable profits would be credited if AIGFP was profitable but which would provide auxiliary base capital to absorb losses if the company was loss-making. The claimants (respondents to the appeal) were 23 individuals who were employees of AIGFP in London.
The central issue in the trial before the judge was whether the plans required AIGFP to restore deferred account balances which were wiped out by massive losses suffered by AIGFP during the 2008 financial crisis. AIGFP had been engaged in derivatives trading, specifically in so-called credit default swaps (“CDSs”). At the time of the financial crisis, AIG faced a short term liquidity crisis as a result of its exposure to losses via AIGFP's CDS book and its securities lending business, all of which nearly caused the collapse of AIG. Unlike Lehman Brothers, AIG was considered by the US Government as “too big to fail” and it was bailed out by a loan from the US Government of US$85 billion. That sum has since been repaid.
AIG in turn advanced a US$65 billion facility to AIGFP to enable it to close out its worst loss-making open derivatives positions. Under the plans, AIGFP applied a proportion of the losses to the plan participants' account balances, the scale of those losses wiping out the balances. Since late 2008 AIGFP has ceased trading for profit and has engaged in an orderly wind-down of its business. AIGFP has made a net loss in every year since 2008. Notwithstanding this, it has been kept afloat by AIG as a going concern (albeit not profit-making), because if it were to enter a formal insolvency process, that would trigger a default on all its derivatives and other financial instruments, inflating losses which would impact AIG itself.
The respondents' case at trial was that the restoration provisions in the deferred compensation plans required AIGFP to restore their account balances to the pre-financial, crisis level and pay them the balances in full. AIGFP's case was that the plans did not require this and the balances were wiped out unless and until AIGFP stopped being loss-making and once more had positive Distributable Income from which to make the restoration. By his judgment the judge held that, applying Connecticut law, which governed the plans, there was an obligation on AIGFP to restore the balances and repay them to the respondents by the end of 2013, notwithstanding that AIGFP remained loss-making.
AIGFP now appeals against that judgment with the permission of Gross LJ granted in respect of grounds 2 to 4 by his order dated 9 April 2019.
Factual background
The respondents were employed in London by the first defendant (Banque AIG) which was a 90% owned subsidiary of AIGFP or by AIGFP itself for various periods between 1998 and 2011. In common with many others employed in the financial services sector at the time, their basic pay was relatively modest but they received large bonuses which were paid out of AIGFP's Distributable Income as defined. Prior to 1995, Distributable Income was paid out in full each year to AIG (AIGFP's 100% shareholder) and to AIGFP's employees on a 70%/30% basis. In 1995, the first plan, the Deferred Compensation Plan (“DCP”), with which this appeal is principally concerned, was introduced. It has been amended on a number of subsequent occasions, most recently, for present purposes, in December 2008.
Under the DCP, a proportion of Distributable Income was, by agreement between the Plan participants, retained by AIGFP to supplement its base capital. The retained sums were allocated to deferred compensation accounts held by AIG and the employees (again on a 70/30 basis). As stated in the preamble to the DCP:
“The Plan provides the Plan participants a sharing of the risks and rewards of AIGFP's business and reflects the participants' commitment to the long term integrity of AIGFP. The Plan objectives are:
1. To promote the formation of capital in AIGFP;
2. To ensure that the interests of AIGFP Executives and AIG are aligned to promote the long term success of AIGFP; …”
The preamble continues that the retained amounts:
“…will form part of the capital base of AIGFP and, absent losses which exhaust current revenues and reserves, will be paid subsequently to participants according to a schedule tied to the duration of AIGFP's business.”
Section 3.05(b) made it clear that such amounts were to be paid to AIG and the employees annually in arrears in instalments corresponding to the approximate average life of AIGFP's swap transaction portfolio.
Distributable Income is defined in Section 1.08 of the DCP as follows: “…with respect to any financial year of AIGFP, revenues, less expenses and credit and market reserves taken for that year, as the same shall be determined by the Board from time to time”.
This appeal is concerned principally with Section 4.01 of the DCP, headed “AIGFP's Liability”. Section 4.01(a) provided so far as relevant:
“The benefits payable hereunder shall constitute an unsecured debt of [AIG-FP] to the Participants … and to AIG and shall not have the benefit of any guarantee by AIG of payment obligations of [AIG-FP]. For the avoidance of doubt, and notwithstanding anything else contained herein to the contrary, (i) the payment of benefits payable hereunder to each of the Participants … and to AIG shall be made only from the general funds of [AIG-FP], (ii) [AIG-FP] shall not segregate or earmark any of its assets nor hold any assets in trust or in any special account for this purpose, and (iii) none of the Participants … or AIG shall have any legal or equitable interest in, lien on, or claim to, any particular asset of [AIG-FP] by virtue of this Deferred Compensation Plan. If [AIG-FP] shall become the subject of any bankruptcy or insolvency case or proceeding, or shall make an assignment for the benefit of creditors, or shall become the subject of a reorganisation whether or not pursuant to bankruptcy laws, or if any other relief should be granted to [AIG-FP] generally from the rights of creditors, then in any such event (a “Bankruptcy/Insolvency Event”) the obligations under this Deferred Compensation Plan to Participants … and to AIG shall be subordinate and junior in right of payment and otherwise, to the prior payment in full of all of the other obligations of [AIG-FP], whether now existing or hereafter incurred, except to the extent payment of any such obligations is expressly made subordinate to or pari passu with the payment obligations hereunder…”
Section 4.01(b) then provided:
“ [1] The outstanding balance credited to the Deferred Compensation Accounts of each Participant and of AIG shall be subject to reduction, from time to time, to the extent of any losses incurred (i) by AIGFP (excluding AIGTG) or (ii) by AIGTG resulting from transactions entered into on or after January 1, 2003, which losses in the case of (i) and (ii) for any year in the aggregate exceed the outstanding market and credit reserves and current year income of AIGFP (excluding outstanding market and credit reserves relating to transactions entered into by AIGTG before January 1, 2003), but before base capital of AIGFP (for the avoidance of doubt including AIGTG, and consisting of equity, retained earnings, if any, and subordinated debt). [2] Such reductions shall be made among the Participants … and AIG on a pro rata basis. [3] [AIG-FP] shall be obligated subsequently to restore amounts so deducted from Participants' and AIG's account balances, plus accrued interest thereon at the interest rate determined in accordance with Section 3.03 and, [4] in connection therewith, the Board shall adopt a plan (which shall not be subject to the approval of AIG or the Participants) setting forth a schedule under which [AIG-FP] shall restore amounts deducted from Participants' and AIG's account balances (plus accrued interest thereon). [5] Any such restoration plan shall provide that any restored amounts shall be paid in 2013; [6] to the extent amounts have not been restored by December 31, 2013, all restoration rights shall permanently lapse except to the extent [AIG-FP] determines that it may amend the Plan to provide for payment of restored amounts without violating Internal Revenue Code Section 409A. [7] Notwithstanding the terms of any such plan, in a bankruptcy or insolvency of [AIG-FP] each Participant … and AIG shall have an unsecured claim, subordinated and junior in payment and subject to the limitation on rights and interests to the extent provided in [ Section 4.01(a)], against [AIG-FP] for the amount, if any, by which the balance credited to their Deferred Compensation...
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