Court of Appeal finds accountants liable to a lender for the full amount of a loan, despite significant loan repayments
Published 9 September 2015
This recent Court of Appeal decision Swynson Ltd v Lowick Rose LLP highlighted again the importance of the letter of engagement as an effective means of reducing liability. It also concerned a relatively unusual legal principle under which the negligent adviser's liability will not necessarily be reduced where the Claimant's loss has been reduced or extinguished through events brought about other than through attempts by the Claimant to mitigate its loss.
The firm of accountants, Hurst Morrison Thomson LLP (now Lowick Rose LLP, in liquidation) ("HMT"), had accepted at trial that it had been negligent in its preparation of due diligence reports to Swynson Limited ("Swynson"), and that this had caused their loss.
The negligent report was on an American company, "Evo", and in reliance on this report, in 2006 Swynson lent £15m to Evo Medical Solutions Limited ("EMSL") to invest in Evo. Evo encountered cashflow difficulties quickly, and over the next two years Swynson made a further two loans to EMSL to seek to protect EMSL's investment in the company, but to little avail.
Swynson was indirectly owned by "Mr Hunt", and as part of the further loans, he also became majority owner in EMSL. In late 2008, due to his concern about the amount that EMSL owed to Swynson, and for tax reasons, he personally made c.£18.6m available to EMSL. EMSL then used c.£17m of this to settle the first two loans from Swynson to EMSL.
Evo's financial difficulties continued and eventually Evo was wound up and neither Swynson nor Mr Hunt (who had become indirect owner of Evo also) received any monies from the realisation in repayment of the loans. No other amounts under the loans were repaid.
Swynson and Mr Hunt had claimed against HMT for the total of the loans to EMSL, together with accrued interest, of £19.75m. The claim brought by Mr Hunt personally failed, on the basis that the Engagement Letter was between Swynson and HMT and not with Mr Hunt; itself a salutary reminder of the importance of engagement letters, as Mr Hunt was found not to have been owed a duty of care by HMT because he was not a named client in HMT’s engagement letter.
That left Swynson's claim, which it was able to pursue successfully. At first instance the Judge held in Swynson’s favour that the repayment (through Mr Hunt's refinancing) of the first two loans from Swynson to EMSL was collateral to the loss caused by HMT's breach of duty and did not extinguish Swynson's loss. Accordingly Swynson was awarded damages in the amount of the total amount loaned, although this was limited to £15m according to the cap on liability in HMT's letter of engagement.
HMT appealed this decision on the basis that it should not be liable for loans which had been repaid.
The Court of Appeal Decision
The Court of Appeal dismissed HMT's appeal and ruled, by majority, that the loan repayments through Mr Hunt's refinancing did not reduce the damages recoverable.
The judgment confirmed that although ordinarily loan repayments would be brought into account in an action by a lender against the negligent adviser, indeed this was the position maintained by the dissenting Judge, Lord Justice Davis, the majority of the Court of Appeal held that this principle did not apply in this case.
In his leading judgment, LJ Longmore explained that in his view, this case felt into a category where the reduction of the claimant’s loss (i.e. through the refinancing by Mr Hunt in 2008) was achieved without steps taken in mitigation of the loss, the reduction was achieved through collateral events. Other examples of such events include insurance payments, benevolent payments and disablement (and other) pension payments.
The test which LJ Longmore applied to determine whether the loan refinancing in 2008 fell within this category, was whether the loan repayments arose out of the consequences of the accountant's breach of duty and in the ordinary course of business. Only if both elements were satisfied he said that the avoided loss be taken into account in the assessment of damages.
Applying this "test", LJ Longmore found that Swynson was unable to mitigate its loss as there was no prospect of it selling the debt to a third party for comparable value and the loan repayments did not in consequence arise in the ordinary course of business; there was no question of Mr Hunt funding repayment of such a loan on the same terms for any other company. In conclusion therefore the test was not satisfied and the loan repayments should not be brought into account.
The decision was yet again a valuable reminder of the importance of the terms of the Letter of Engagement; in this case it was the only effective means of reducing the negligent accountants' liability.
As for the decision that the claimant’s refinancing of its loan had not extinguished its loss, this is a difficult area of the law to predict the result. LJ Longmore appears to have been influenced in reaching his conclusion by a desire to prevent the negligent accountants avoiding full liability for the disastrous investment in the American company, Evo; concluding that it would not seem "sensible" for the repayment of Swynson’s loans to be applied to the benefit of the negligent adviser to reduce its liability. However, technical defences are often successful under UK law in the interests of legal certainty. The fact that this decision was reached despite a well-reasoned dissenting judgment, creates uncertainty, albeit the man on the Clapham omnibus might agree with the result.