If you've got it, flaunt it
Orientfield Holdings Limited v Bird & Bird LLP  EWCA Civ 348
Published 2 November 2017
In the last twelve months, two cases have found in favour of the professional being criticised for valuation negligence; the first illustrating that it is all about the result rather than how it was achieved (perhaps we should call it the 'Jose Principle'), both emphasising the importance of choosing the right expert, and the second demonstrating the consequences of choosing badly. Professionals and their PI insurers should be heartened by these decisions, providing of course they have the right defence team at their disposal!
In the case of Barclays Bank plc v TBS & V Ltd, Mr Justice Dove's decision is particularly welcome for defendants, whilst at the same time illustrating the current direction of judicial thinking about the assessment of liability, margin of error, and causative loss.
The claim involved the commercial valuation in 2007 of a care home. The Borrowers had agreed a purchase price of £350,000 and applied to the Claimant for a secured loan for £250,000 of that amount, to be repaid over 15 years. The Claimant accepted the application and instructed the Defendant valuers.
Adopting an EBITDA methodology, and assessing the care home as a going concern, the Defendant confirmed that the Market Value as a fully operational entity was £350,000. The Borrowers completed their purchase in August 2007 (with the aid of a £250,000 loan from the bank). However, the account immediately encountered difficulties, in part based on some contention about whether a repayment holiday had been agreed for the first year of the term. As a result, in May 2008 the lending was restructured, repaying the original August 2007 account by way of a new loan at a higher Loan to Value ratio.
The Borrowers' business failed and the care home was repossessed. The Claimant, on advice, surrendered the lease resulting in no recovery and thus a total loss. It quickly looked to blame the Defendant, accusing it of a negligent overvaluation based on expert advice which claimed that the true Market Value at the time was only £130,000 (based on an EBITDA of £42,500 and a multiplier of 3).
Mr Justice Dove made it perfectly clear that, based on authorities dating back to the early 1990's, the end result remains key to the issue of negligence. How that result was arrived at is almost irrelevant, unless of course it is established that the original valuation was outside the range of reasonable values that could have been provided at the material time.
The Claimant's expert had been critical of the Defendant's methodology, seeking to take apart its analysis of the trading information on a variety of the component parts of the EBITDA figure whilst at the same time suggesting, as a result of the report not unequivocally revealing the detailed calculations applied, accusing the Defendant of departing from accepted valuation principles.
Whilst accepting that both parties' experts had given their evidence (both in written and oral form) in an impartial, professional and thoughtful manner, the trial Judge favoured the Defendant's expert in the main issues (the deduction of a manager's wage against the intention for the home to be owner/managed and the allowance of rental potential for ancillary buildings in the EBITDA assessment together with the appropriate level of multiplier to adopt).
As a result, a true value of £330,000 was arrived at by the trial Judge, well within the 15% margin of error he found to be applicable to this particular valuation (the only point on which the Claimant's expert evidence was favoured).
On the margin point, the trial Judge made the observation that most claimants seemed to contend that all valuations were 'standard'; clear reference to the analysis of the authorities on the issue set out by Mr Justice Coulson in K/S Lincoln v CB Richard Ellis and the tendency for those bringing claims to argue for the lowest possible margin; but accepted that this valuation was in the exceptional category but at the lower end of such – a firm steer that in the right case a higher margin would be achievable.
The Defendant raised two other arguments designed to defeat the claim in the event that the valuation was found to fall beyond the acceptable range.
First, that as the bank's offer of loan had been accepted before the valuation was provided (without express conditionality as to the security being deemed adequate) there was a contractually binding agreement for the bank to lend regardless of the valuation. As such, the Defendant argued that there could have been no reliance. The trial Judge accepted the bank's argument that such a condition should be implied into the loan contract; on the basis that it was necessary to give business efficacy to the loan and was so obvious that it went without saying.
Second, that as the loan was the subject of a complete refinancing in 2008 (where the original loan account was closed down and a new account opened) there could be no loss attaching to the 2007 valuation and loan. Adopting the Preferred Mortgages v Bradford & Bingley PLC authority, the trial Judge had little difficulty concluding that the scope of duty owed in 2007 remained extant and was not broken by a mere internal accounting exercise.
Comment: This case neatly illustrates that Judges are rarely influenced by the parties' attempts to discredit their respective experts through direct attacks on integrity, independence or indeed method. Wherever, as in this case, both experts present as trying to do their best Judges are equally unlikely to favour one over the other and will, instead, assess the weight which ought to be given to each 'live' issue based on what they have heard.
In this case on two of the critical issues the Defendant's expert was found to have demonstrated the most reasoned and rational approach; particularly with reference to stripping out any manager salary from a business that would be operated by an owner/manager as opposed to corporate investor and to putting the not insubstantial ancillary accommodation not used for care home activities to a profitable use. The resultant EBITDA and multiplier brought the Judge's concluded view as to true value at the relevant time to within 6% of the original valuation provided by the Defendant.
Sitting back, and whilst not explicitly stated, it appears that the Judge regarded the Claimant's expert to be over critical of the original surveyor's approach/methodology and unrealistic in his refusal to accept that the trading figures should reflect the owner/occupier nature of the care home and/or it ought to be assumed that they would look to maximise potential from all buildings on site.
This underlines the importance of choosing the right expert and being confident that the views they express, particularly around assumptions made/methods applied, are entirely realistic to the particular circumstances of the operation being valued. As Judges have wide discretion when 'weighting' what they have heard, against the maxim that valuation is an art not a science, they are far more likely to exercise that in favour of the expert who exhibits such traits.
A word of caution, however appropriate against what we have called the 'Jose principle'. A few cases over the last few years have been taken to trial by defendants despite the original surveyor's methodology being so poor that it patently fell way below the expected standard of care. It does not stretch the imagination too far to consider that these obvious shortcomings weighed heavily in the Judge's mind when weighting the expert evidence and finalising thoughts as to true value and margin.
Yet again, the court has emphasised the importance of the fee charged by the criticised professional (both in terms of influencing the extent of the duty owed and setting the parameters of fair expert evidence). In addition, the court did not hesitate to conclude that the bank had, in large part, been the master of its own downfall.
The underlying factual background and legal arguments are too lengthy to consider in detail here - instead we have focused on the principles, but these make fascinating reading all the same. In brief, Derwent Vale York Ltd ("DVY"), a developer, sought funding of £1.4m from the bank to develop one of York's finest central Victorian buildings. DVY was a special purpose vehicle created by Modus Ventures, one of the bank's key customers.
The proposed development involved the retention of the existing single storey shell, off which four additional storeys were to be constructed to create 11 apartments. Watts, the defendant quantity surveyors, were retained by the bank in January 2008 to consider the costings submitted by DVY, and to approve facility drawdowns as the works progressed. The bank, having already provided a £210,000 purchase loan, committed to provide the £1.4m build-out facility. However, three months prior to practical completion, DVY went into liquidation and the works ceased. Following the appointment of receivers, the bank's principal security, the property, sold for £527,000. This left the bank with a loss of £754,413.
The bank brought a claim alleging that, but for Watts' negligent Initial Appraisal Report ("IAR"), it would not have permitted drawdown of the development loan and, therefore, would not have suffered any loss. Watts denied it was negligent and maintained that the real cause of the loss was the bank's negligent decision to lend.
The court ultimately rejected the main allegations of negligence/breach of contract against Watts. In particular, it found that:
1. As the bank failed to demonstrate that Watts had the relevant drawings when they produced their final IAR, they were not guilty of failing to spot that the scheme being built differed from that for which planning permission had been secured; and
2. It was entirely reasonable for Watts to conclude that:
(a) The 52 week development programme envisaged by DVY appeared realistic;
(b) The cash-flow analysis provided by DVY seemed adequate;
(c) The overall construction cost estimate from DVY appeared achievable.
In reaching the conclusions in respect of (a) to (c) above, the court had particular regard to the modest fee scale charged by Watts, which led His Honour Mr Justice Coulson to comment; "I regard the size of the fee as good evidence of the limited nature of the service which Watts were expected to provide".
The court made it quite plain that what was required was no more than an independent overview from an expert quantity surveyor and not a completely new cost calculation as contended by the Bank. In this regard the court noted that Watts were not "expected to do their own detailed calculations of cost, time or cash flow, but...instead to check the calculations and proposals..." of DVY.
This conclusion was undoubtedly assisted by the court's complete rejection of the evidence provided by the expert retained by the bank. However, the severity of that criticism should set alarm bells ringing for all who forget that an expert's primary duty is to the court and no one else. It was in this context that the original fee charged by Watts reared its head once again.
In contrast to that £1,500 fee, the bank's expert had incurred £24,000 in fees seeking to criticise Watts, and the court, noting that this - together with the bank's solicitors' associated costs in the report's commissioning - was 30 times Watts' fee, said that such was "a clear indication that the criticisms...are based on an entirely unrealistic expectation...". For that reason the court found that the bank's expert exhibited a complete lack of realism.
As for attribution of risk, the court was also highly critical of the decision to lend. Here His Honour Mr Justice Coulson, noted that the issue was not about general lending practices in 2007, but rather BOI's failure to follow its own lending policies and guidelines. In summary he concluded that:
Two further minor points merit brief mention. First, on the issue of reliance the court accepted (as a presumption absent evidence to the contrary) that as the bank paid for professional assistance it would have placed some degree of reliance on the same. Second, on the issue of loss, that what Watts provided clearly fell within the territory of 'information' and not 'advice' in line with the recent decision of the Supreme Court in BPE Solicitors -v- Hughes-Holland .
The result was that if Watts had been found negligent, causation would have been established, but it would not have been responsible for the whole financial consequences of the transaction, merely only those resulting from any information being wrong (the so-called SAAMCO cap). However, as the court made very clear, the bank had not shown that any loss it had identified was recoverable from Watts, and the overwhelming cause was the "botched consideration of the loan application and the fundamentally flawed decision to lend to the borrower".
Comment: It seems clear that the court took against the bank's expert and regarded him, by reference to the sheer volume of cases on which he had acted on its behalf, as lacking independence.
But the important message to take from this case, is how the level of the original fee and the nature of the original instructions can influence and limit the scope of the professional's duty of care. Equally important is that, having regard to that scope, experts retained to assist the court should ensure, in so far as is reasonably possible, that their opinions are on a like for like basis (some, in our experience, are infrequently the case).
Finally, the case should provide renewed optimism for professionals seeking to minimise their potential exposure wherever it can be demonstrated that a lender has departed from its own lending criteria without justifiable reason to do so. Our experience shows that lenders frequently choose to accept risk for commercial reasons, and this case provides a welcome reminder that when that occurs the adverse consequences should not easily be visited on a former professional advisor.