Stone and Rolls Ltd ((in Liquidation)) v Moore Stephens (A Firm)

JurisdictionEngland & Wales
CourtHouse of Lords
JudgeLORD PHILLIPS OF WORTH MATRAVERS,LORD SCOTT OF FOSCOTE,LORD WALKER OF GESTINGTHORPE,LORD BROWN OF EATON-UNDER-HEYWOOD,LORD MANCE
Judgment Date30 July 2009
Neutral Citation[2009] UKHL 39
Date30 July 2009

[2009] UKHL 39

HOUSE OF LORDS

Appellate Committee

Lord Phillips of Worth Matravers

Lord Scott of Foscote

Lord Walker of Gestingthorpe

Lord Brown of Eaton-under-Heywood

Lord Mance

Moore Stephens (a firm)
(Respondents)
and
Stone Rolls Limited (in liquidation
(Appellants)

Appellant:

Michael Brindle QC

Mark Simpson QC

David Murray

(Instructed by Norton Rose LLP)

Respondent:

QC

Jonathan Sumption QC

Tom Adam QC

(Instructed by Barlow Lyde & Gilbert LLP)

LORD PHILLIPS OF WORTH MATRAVERS

My Lords,

Introduction

1

Mr Stojevic is a fraudster. He used the appellant company, ("S&R") as a vehicle for defrauding banks. The fraud was discovered and both S&R and Mr Stojevic were successfully sued for deceit by the principal victim, Komercni Bank SA ("the Bank"). The respondent, Moore Stephens, were S&R's auditors. Moore Stephens accept that they owed S&R a duty to exercise reasonable skill and care in carrying out their duties as auditors. For purposes of the present argument they also accept that they were in breach of that duty and that, but for their breach, the fraud that Mr Stojevic was perpetrating through S&R would have ended earlier. In this action S&R seek to recover losses caused to them in consequence of the extension of the period of their fraudulent activity that they submit was caused by Moore Stephens' breach of duty. Moore Stephens contend that this claim cannot succeed because it is founded on S&R's fraud and is met by the defence commonly described by the Latin maxim "ex turpi causa non oritur actio" ("ex turpi causa"). Whether ex turpi causa provides a defence to the claim advanced by S&R is the preliminary issue raised by this appeal.

2

Although he was a 'shadow director' acting under power of attorney and the shares in S&R are held in the name of a family trust it has been common ground that Mr Stojevic was the sole directing mind and will and the beneficial owner of S&R.

3

I have had the benefit of reading in draft the opinion of each of your Lordships. Each has summarised the nature of the fraud perpetrated by Mr Stojevic through S&R. It involved S&R obtaining payments under letters of credit by presenting to banks false documents in relation to fictitious commodity trading. My noble and learned friend Lord Mance has explained in a little more detail how the fraud worked. When the fraud was ultimately discovered, the monies fraudulently obtained by S&R had all been paid away to other participants in the fraud. The damages awarded to the Bank against S&R and Mr Stojevic exceed $94 million. Neither defendant could satisfy the judgment. The liquidators have started the present action in the name of S&R in an attempt to recover damages for the benefit of S&R's creditors, who are the banks defrauded by S&R. The claim for breach of Moore Stephens duty of care is brought in both contract and tort.

4

Mr Stojevic had planned to use S&R to perpetrate this fraud before Moore Stephens were engaged, indeed the engagement of Moore Stephens was part of his plot. S&R, which was not at the material time carrying on any significant business, had an auditor who was a sole practitioner based in Rotherhithe. Mr Stojevic decided to replace him with Moore Stephens as part of a strategy to make S&R appear respectable in the eyes of European Banks. In persuading Moore Stephens to become S&R's auditors, Mr Stojevic gave a fictitious account of the business that S&R had been doing and of the business whose accounts Moore Stephens would be auditing.

5

My initial reaction to S&R's claim was that, as a matter of common sense, it could not succeed. There were three reasons for this reaction. The first was that S&R are seeking to put themselves forward as the victims of fraud when they were, in fact, the perpetrators of the fraud. The true victims of the fraud were the banks. True it is that S&R are now subject to a paper liability to the Komercni Bank of over $94m, but common sense would suggest that this is not really a loss that they have suffered. They started with nothing and their alleged losses are sums that they acquired by fraud and then paid away as part of the same fraudulent transaction. If a person starts with nothing and never legitimately acquires anything he cannot realistically be said to have suffered any loss. This was the reasoning of Mummery LJ who, in a short judgment in the Court of Appeal, agreed with Rimer LJ that the claim of S&R should be struck out. Keene LJ agreed with both judgments. Mummery LJ concluded his judgment:

"119. Does common sense matter? Yes. It is contrary to all common sense to uphold a claim that would confer direct or indirect benefits on the corporate vehicle, which was used to commit the fraud and was not the victim of it, and the fraudulent driver of the fraudulent vehicle".

The second reason why common sense led me, initially, to consider that S&R's claim should not succeed was that Moore Stephens were also the victims of S&R's fraud. They were induced to agree to act as S&R's auditors by a fictitious and fraudulent account of S&R's business, given to them on behalf of the company by Mr Stojevic, and they were deceived in carrying out their audits by accounts fraudulently prepared on behalf of the company, albeit that it is for present purposes to be assumed that they were negligent in not detecting the fraud. It does not seem just that, in these circumstances, S&R should be able to bring a claim in respect of the very conduct that S&R had set about inducing. The final reason of common sense that predisposed me against this claim was one which would not, unlike the other two, occur to the man in the street but might occur to a student with knowledge of the principles of the law of negligence. Looking at the realities, this claim is brought for the benefit of banks defrauded by S&R on the ground that Moore Stephens should have prevented S&R from perpetrating the frauds. Why, if this is a legitimate objective, should the banks not have a direct cause of action in negligence against Moore Stephens? One answer, I would suggest, is that a duty of care in negligence will only arise where this is fair, just and reasonable. It would not be considered fair, just and reasonable for auditors of a company to owe a duty of care to an indeterminate class of potential victims in respect of unlimited losses that they might sustain as a result of the fraud of the company. If it would not be fair, just and reasonable for the banks to have a direct claim, then it would not seem fair just and reasonable that they should achieve the same result through a claim brought by the company's liquidators for their benefit. In a lecture to the Chancery Bar Association entitled "Common Sense and Causing Loss" given on 15 June 1999 Lord Hoffmann commented adversely on the practice of those judges who justify their decisions by reference to "common sense". He suggested that this was far too often an unsatisfactory alternative to the identification of the relevant principles. The differences of opinion between the members of the committee underline the need to identify the relevant principles that apply in this case. It also underlines the difficulty of that task. The first step is to identify the issues raised by the parties.

The issues raised by the parties

6

This appeal arises out of a strike-out application in which only one of a number of possible defences to the claim is advanced. Mr Sumption QC for Moore Stephens has admitted that his clients owed S&R a duty to exercise reasonable care in relation to the auditing of S&R's accounts and, for the purpose of these proceedings, that they were in breach of that duty. He submits, however, that S&R are precluded from claiming a remedy for that breach of duty by a defence of public policy, namely ex turpi causa. He submits that the nature and extent of this defence has been definitively determined by the decision of this House in Tinsley v Milligan [1994] 1 AC 340. It involves the application of what he has described as a "reliance" test. A claimant cannot succeed if, in order to make good his claim, he has to aver and rely upon his own illegal conduct. This principle, so he submits, is not based as it was once thought to be upon a disinclination by the courts to award a remedy in circumstances where this would be "an affront to the public conscience". It is simply a principle that the court will not allow its process to be used to further an object which is, on its face, illegal. The principle applies automatically and inflexibly. The "effect of illegality is not substantive but procedural" - Tinsley v Milligan at p. 374. To apply the test you have to do no more than consider the essential averments of the particulars of claim. Mr Sumption submits that in Tinsley v Milligan this House reduced ex turpi causa to "the narrowest possible test for the public policy defence short of actually discarding it".

7

Mr Sumption submits that the best explanation of the reason for the ex turpi causa defence is that suggested by McLachlin J in Hall v Hebert (1993) 101 DLR (4th) 129, at p.165:

"…to allow recovery in these cases would be to allow recovery for what is illegal. It would put the courts in the position of saying that the same conduct is both legal, in the sense of being capable of rectification by the court, and illegal. It would, in short, introduce an inconsistency in the law. It is particularly important in this context that we bear in mind that the law must aspire to be a unified institution, the parts of which - contract, tort, the criminal law - must be in essential harmony. For the courts to punish conduct with the one hand while rewarding it with the other, would be to 'create an intolerable fissure in the law's conceptually seamless web': Weinrib - "Illegality as a Tort Defence" (1976) 26...

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