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This recent Court of Appeal decision has provided clarity on the justification for the rules against bringing claims for reflective loss and confirmed that both unsecured creditors and shareholders are similarly barred from bringing such claims.
In July 2013, Marex Financial Limited ("Marex") obtained judgment in excess of $5 million in a case against two companies ("Companies") registered in the British Virgin Islands: Creative Finance Limited and Cosmorex Limited. On 14 August 2013 Marex obtained a freezing order against the Companies and pursued tortious claims against Mr Sevilleja (beneficial owner) for knowingly inducing the Companies to act in violation of the previous judgment and intentionally causing loss by unlawful means. In short, it was said he dishonestly stripped $9.5 million held in the Companies' accounts in the period between the draft judgment being supplied, but prior to the judgment being handed down.
In the court of first instance the judge ruled in favour of Marex, despite Mr Servilleja's challenge that the rules against reflective loss barred their ability to bring a completed cause of action. Mr Servilleja appealed on these grounds. If you would like to read more about the court of first instance decision please click here.
This appeal raised the previously undecided question of whether the rules against reflective loss apply to claims by unsecured creditors who are not shareholders of the relevant company. In their judgment Flaux LJ, Lewison LJ and Lindblom LJ unanimously agreed that the appeal should be allowed, strengthening the rule that both unsecured creditors and shareholders are barred from bringing claims for reflective loss.
The rule against reflective loss essentially provides that a shareholder cannot bring a claim for the loss where the company has the ability to bring that claim.
Considering the decisions in Johnson v. Gore Wood & Co and Giles v. Rhind the court considered there were four considerations as to whether the rule applied:
- The need to avoid double recovery by the claimant and the company.
- Causation i.e. is the claimant's loss caused by the actions of the wrongdoing defendant or the company.
- Public policy of avoiding conflicts of interest in particular if the claimant had an individual right to claim, it could discourage the company from making settlements.
- The need to preserve company autonomy.
The court considered the above in relation to this case and noted a concern that if the rule did not apply to non-shareholders who were creditors that this would circumvent the pari passu principle. In other words, the creditors would in theory make a full recovery by a claim for reflective loss whereby if a liquidator brought the claim it would be distributable amongst the creditors.
In the present case it was open to the company to bring a claim against Mr Servilleja via the liquidator. There was also no reason why Marex could not seek an assignment of the cause of action from the Companies. On that basis the appeal was allowed and thereby the rule was strengthened.