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Published 27 April 2015
The Supreme Court has delivered its long-awaited judgment in Jetivia SA and another (Appellants) v Bilta (UK) Limited and others (Respondents)  UKSC 23. This decision is important in the fraud (and indeed wider) arena because it helps clarify the scope of the defence of illegality in the context of an insolvent company's claims against directors and third parties that had committed frauds against it.
It is now clear that a fraudulent director of a company, and third parties complicit in the fraudulent scheme, cannot rely on the often criticised 2009 decision in Stone & Rolls Ltd (In Liquidation) v Moore Stephens (A Firm) ("Stone & Rolls") and invoke an illegality defence to the claim.
Following a period of trading in carbon credits in early 2009, Bilta (UK) Ltd ("Bilta") owed HMRC £38 million in unpaid VAT. Unable to pay, Bilta was compulsorily wound up in late 2009 on an HMRC petition.
Bilta and its liquidators brought a claim against its two former directors, one of whom was also its sole shareholder, as well as against a Swiss company, Jetivia SA, and Jetivia’s chief executive (the "Appellants"). It was alleged that the Appellants and the directors were involved in an ‘unlawful means conspiracy’ to injure Bilta by a fraudulent scheme, in which the directors breached their fiduciary duties, and the Appellants dishonestly assisted them in doing so.
The allegations date back to 2009, when it is claimed the directors caused Bilta to enter into a number of transactions relating to European Emissions Trading Scheme Allowances, with various parties, including the Appellants. It was argued that these transactions constituted a carousel fraud. The liquidators sued the Appellants under the provisions of section 213 of the Insolvency Act 1986 ("s213 IA 1986"), which gives the English court power to declare parties which have knowingly participated in fraudulent activities undertaken by the company to be liable to make such contributions to the company’s assets as the court thinks proper.
The Appellants applied to strike out the claim and relied on the “ex turpi causa” maxim (the “illegality defence”: a claimant has no legal remedy allowing it to profit from its own wrongdoing) to argue that Bilta was prevented from recovering losses caused by its own illegal actions (through its directors) in seeking to defraud HMRC. That in turn depended upon successfully arguing that the directors’ illegal actions should be “attributed” to Bilta, (in reliance upon the Supreme Court’s decision in Stone & Rolls - see below) a one-man company set up to carry out the fraud. As for the claim under s213 IA 1986, the Appellants argued that it does not have extra-territorial effect.
The Supreme Court unanimously dismissed the Appellants' appeal, although there was disagreement between their Lordships on the legal route to that conclusion. It was held:
There are certain common strands to the 5 judgments given in the Supreme Court and we think that the above findings are clear enough to stand the test of time, but there is obvious disagreement over a number of issues which determine the legal basis on which the illegality defence operates. There will be further cases on the correct legal application of the defence in cases based upon different facts.
D&O insurers should be pleased that they will not be faced with the dilemma of potentially being asked to fund the running of an illegality defence by directors who are accused of having taken part in a fraudulent scheme.
Three of their Lordships were critical of the Supreme Court’s decision in Stone & Rolls and suggested that it should not be referred to in future cases which consider the applicability of the illegality defence; they point to their Lordship’s conflicting judgments in Stone & Rolls, noting the case has attracted considerable criticism as a legal precedent. Indeed, Lord Neuberger concluded that the Stone & Rolls judgment should be put on one side and marked "not to be looked at again".
We suggest that at most, Stone & Rolls should now be treated as only a precedent for the following narrow legal proposition: where the company was set up for the purpose of the fraud in question, and there are no innocent directors or shareholders, the illegality defence bars a claim by a company against its auditors for negligently failing to uncover and prevent fraud.
Although in no way legally binding, Lords Neuberger’s and Mance’s judgments in Bilta leave open for further consideration by the court whether even that narrow legal proposition applies to preclude a claim against auditors where, at the relevant audit date, the company was in or near insolvency. We shall need a case to go to the Supreme Court for that to be tested.
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