Haugesund Kommune and another v. Depfa ACS Bank [2011] EWCA Civ 33
Summary
A firm of solicitors erroneously advised a bank that two counterparties had legal capacity to enter into swap arrangements with the bank. Although the swaps were void, the solicitors were not liable for the bank's loss when the counterparties defaulted on their repayments.
The Court of Appeal held that the cause of the counterparties' default was their impecuniosity as a result of significant losses on investments made with the funds advanced under the swaps. The negligent advice was therefore not the direct cause of the bank's loss. Even though the bank would not have entered into the swaps had it received correct advice, the scope of the solicitors' duty was limited to the legal capacity of the counterparties. In order to recover its losses from the solicitors, the bank would have had to show that its loss was caused by the invalidity of the swap transactions as opposed to the lack of credit worthiness of the counterparties.
The facts
Depfa Bank entered into swap transactions with two Norwegian municipalities pursuant to which the municipalities effectively borrowed the equivalent of some £40 million. The bank took advice from Norwegian law firm Wikborg Rein & Co on whether the municipalities had capacity to enter into the swaps. Wikborg advised that the municipalities had full capacity to enter into the swaps but that a claim against them could not be enforced.
The municipalities performed their obligations under the swaps until some years later a Norwegian ministry issued an opinion to the effect that the swap was a type of transaction the municipalities were not permitted to enter into. The municipalities brought proceedings in the English court seeking declarations of non-liability on the basis that the swaps were invalid because they lacked capacity to enter into them. Depfa counterclaimed that if the contracts were invalid, it was nevertheless entitled to restitution of the sums it had advanced. Depfa also commenced proceedings against Wikborg in which Depfa alleged that it had entered into the swaps in reliance on Wikborg's advice which had been negligent and claimed losses in the amount advanced to the municipalities, less any sums recovered from them.
At first instance, the judge found that the swaps were invalid but that the municipalities were liable to the bank in restitution and that Wikborg was in breach of its duty and also liable to the bank for all its losses. Wikborg appealed, arguing that it was not responsible for all the consequences of its negligent advice having been relied on by the bank; only the consequences of that advice having been wrong. Those consequences were that the municipalities' contractual obligation to repay the bank had turned into an obligation in restitution. The municipalities did not dispute their obligation to make restitution to Depfa, albeit that their ability to pay was limited by their lack of funds.
SAAMCo Principles
In reaching its decision, the Court of Appeal considered the principles in South Australia Asset Management Corp v. York Montague Limited [1996] UKHL 10 ('SAAMCo'). SAAMCo concerned the assessment of damages where a valuer had negligently overvalued property and a lender had lent on the security of the property in reliance on the overvaluation. When the borrower defaulted, the security available to the lender was considerably diminished not only due to the valuer's overvaluation but also to a fall in the market. The House of Lords (as was) distinguished between two classes of case in the context of professional negligence:
- the first (a so called 'category 1 case') where a person provides information for the purpose of enabling someone else to decide what course of action to take; and
- the second (a 'category 2 case') where a person advises someone on what course of action he should take.
In a category 1 case, if the person is negligent he will only be responsible for the foreseeable consequences of the information being wrong. If a person is negligent in a category 2 case, he will be responsible for all the foreseeable loss which is a consequence of that course of action having been taken. Although the lender's evidence was that it would not have lent the money if it had received an accurate valuation, the House of Lords decided that the damages payable by the valuer were limited to the difference between the negligent valuation and the true value of the property concerned at the date of valuation and not any additional loss caused by the fall in the property market. This was because the valuer was only responsible for the adverse consequences attributable to the deficiency in the valuation (i.e., a category 1 case). He was not liable for consequences of risks the lender would have taken upon himself if the valuation had been sound. Such risks were not within the scope of the duty owed to the lender by the valuer.
The Court of Appeal Decision
The appeal was allowed and Wikborg held not liable to Depfa for its losses on the swaps. Applying the SAAMCo principles, the Court of Appeal decided this was a category 1 case. Wikborg was not responsible for advising Depfa whether to proceed with the swaps or not. Rather, Wikborg had been asked to advise specifically on the validity of the swaps. It was not concerned with the creditworthiness of the municipalities and it had warned Depfa that it could not enforce a judgment against them. Depfa knew that it relied on the creditworthiness and good faith of the municipalities on which matters Depfa made up its own mind.
The court then considered the extent to which Depfa's loss fell within the scope of Wikborg's duty. If Depfa's loss had been due to the invalidity of the swaps then the loss would fall within the scope of Wikborg's duty and Wikborg would have been liable. However, the facts of the case showed that it was the municipalities' disastrous investments and resulting impecuniosity that was the sole cause of Depfa's loss. That was not something for which Wikborg should be held responsible.
Comment
The case is a useful reminder that even where a claimant can show that he would not have gone ahead with a transaction (or other course of action) had he received correct advice, a defendant adviser will only be liable insofar as the scope of his duty extends to advising on the direct cause of the loss. The adviser will not necessarily be responsible for all or any of the losses that the claimant suffers as a consequence of entering into the transaction.
Although it will not necessarily exclude or even limit liability for advisers in every case, the decision may, depending on the nature of advice given, be good news for those who have advised banks on transactions where the counterparty defaults due to the financial crisis. The decision will, equally, be less enthusiastically received by banks and other recipients of professional advice.
Looking ahead, clients should think carefully about the terms on which they engage advisers who in turn need to consider carefully how their responsibilities are defined. Clients will be seeking to broaden the scope of the adviser's duty as far as possible whereas the adviser will want to achieve the opposite.
Client Alert 2011-037