Article

Factual Summary: Claimant had been the beneficiary of various L/Cs. It had presented false documents to various banks, had received the proceeds of the L/Cs and had paid them away to various third parties. The major victim of the fraud was Komercni Banka SA (Issuer), a Czech bank. In the case of 30 of the 51 LCs, the banks received no repayment from BCL, the applicant. The documents were false in representing that the issuing warehouse as Claimant's agent was holding the invoiced goods in favour of Issuer when in fact there were no goods at all. The documents were also shams purporting to reflect commercial transactions which had not occurred. The Claimant had been owned, controlled and managed by Mr. Stojevic. He and the Claimant had been found jointly liable for the fraud by Toulson, J., in the earlier case of Komercni Banka SA v. Stone and Rolls Ltd and another [2002] EWHC 2263, abstracted at 2003 Annual Survey 214. Toulson, J., gave judgment against both Claimant and Mr. Stojevic for US$94.5m. Claimant then entered liquidation and the instant claim was brought by the liquidators.

During the years 1996, 1997 and 1998 Former Auditor had been the auditor of Claimant. Claimant alleged that the audits had been conducted negligently. The claim against Former Auditor was that it should have "blown the whistle" bringing the fraud to an end.

Legal Analysis:

The fundamental issue in this case was whether a company can claim losses suffered as a result of its own unlawful conduct? English law has the general doctrine of policy: "ex turpi causa non oritur action", i.e. no unlawful act can found a claim.

It was common ground that under English law the creditors of Claimant had no direct claim against the Auditor. This was because English law recognises no general duty of care owed by auditors to the creditors of the insolvent Claimant. Hence the claim was instead brought against the auditors by the liquidator of the insolvent Claimant. Auditor argued that the liquidation of Claimant could not improve the claim in the sense that if Claimant is a wrongdoer, the liquidator can be in no better position than the company on whose behalf he acted.

It was also accepted that when an auditor becomes aware of or suspects fraud and concludes that the matter ought to be reported to "an appropriate authority in the public interests" it is for auditors to report it if the company does not. This duty applies with greater force where the fraud is the fraud of the directing mind and will of the audited company (in this case, Mr. Stojevic) as in this situation it is arguably futile for the auditor to report the fraud to the directors of the company, who would be the pawns of the wrongdoer.

It was also assumed for the purposes of the application that if the Defendant had discharged its reporting duty, the fraudulent conduct would have been detected and brought to an end.

Claimant argued that it was the victim of the fraud rather than a fraudster itself. The court noted that this was not a straightforward issue. Although the fraud exposed Claimant to liabilities to Issuer and others, it had lost nothing to which it was ever entitled. Hence the court concluded that in the factual circumstances of the case it would be artificial not to fix Claimant with the knowledge and wrongdoing of Mr. Stojevic.

The court concluded that the "conscience of the ordinary citizen" would not find it so repugnant for Claimant to pursue the claim that it should be struck out even though it was arguably based on Claimant's own fraud. The court noted that it could preclude recovery which would enure to the benefit of the individual perpetrator or perpetrators of the impugned conduct, who were amongst the company's creditors and the defrauded creditors of the company (including Issuer), should not be in any worse position than those whose debts arose in the ordinary course of business.

Comment:

There have been various attempts by auditors to apply to strike out claims against them based on the fraud of the audited company. In most of these cases, these applications have failed as the courts have instead tended to prefer the cases to go to trial, rather than be disposed of on an interlocutory basis. See, for example, Sasea Finance Ltd v. KPMG [2000] 1 All ER 676. The instant case is the latest example of this approach and was clearly a policy decision of the Court.

*Philip YOUNG is a Partner at Masseys LLP in London, England.

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