Otkritie International Investment Management Ltd & Ors v Urumov & Ors

The trial of these proceedings began before Eder J on 10 June 2013. The Claimants are companies in a group of companies providing financial services in Russia. They make in essence two sets of claims against the Defendants. The first is referred to as “The Sign-on Fee Fraud and the Bribery and Conspiracy Claims”. It is not the subject of the proceedings in this Court and I shall disregard them for the purposes of this judgment. The second set of claims is referred to as “The Argentinian Warrants Fraud”, and it is the subject of this appeal.

In essence, the Claimants allege that the 19 Defendants (who include former employees of the Claimants) and others conspired together to cause them to purchase Argentinian warrants at prices vastly in excess of their market price or value, and similarly in excess of the price at which they had been acquired by, or at the instance of, the Defendants themselves. The Claimants allege that the resultant profits, amounting to some US$160 million, were divided up between the Defendants and others involved in the conspiracy. The Claimants claim damages and make restitutionary claims

On 8 July 2013, after much of the Claimants’ evidence had been heard, the Appellants, who are the First, Second, Fourth, Fifth, Sixth, Seventh and Nineteenth Defendants (referred to at the trial as the Urumov and Pinaev Defendants) applied for permission to amend their defence to plead that the claims were barred by the principle ex turpi causa non oritur actio, i.e., that the Claimants themselves were party to illegal acts that rendered it impermissible for the Court to enforce their claims. They submitted that their new case arose out of evidence that had been adduced by the Claimants themselves, and the cross- examination of their witnesses. Counsel for the other Defendants supported the Appellants’ application, but did not then make formal applications of their own. Doubtless, if the Appellants’ application had succeeded, the other Defendants would have sought to make similar amendments to their Defences.

The Appellants’ application was heard by the Judge on 9 and 12 July 2013. He rejected it, but did not then give reasons.

The trial continued. On 12 July the Claimants’ evidence was completed. Between 15 and 25 July some of the Defendants gave evidence: Messrs Urumov, Pinaev and Gersamia, and Ms Kovarska. On 25 July the Judge handed down his judgment giving his reasons for his refusing permission to amend the Defence. On the following day, the Appellants again applied for permission to amend their Defence to plead illegality. In addition to the Appellants, the Tenth, Eleventh and Twelfth Defendants, i.e., Vladimir Gersamia, Teimuraz Gersamia and Templewood Capital Ltd, represented by Mr Bart Casella, made a similar application. The Judge heard these applications on 30 July, and refused them on the following day, when the trial was adjourned part-heard to resume at the beginning of the coming law term, i.e., on 1 October 2013. On 12 August 2013 the Judge handed down his judgment setting out his reasons for refusing the later applications for permission to amend.

On 3 September 2013 the Appellants applied for permission to appeal against both of the Judge’s decisions. The Defendants represented by Mr Casella did not seek permission to appeal. On 10 September I ordered that there should be a rolled-up hearing of the Appellants’ applications, with the hearing of their appeal to follow immediately if permission was granted, so as to ensure, so far as possible, that the matter would be determined before the trial resumes.

We heard the Appellants’ applications on 24 September 2013. We granted permission to appeal, but dismissed the appeals. We said that we should give our reasons in writing. This is my judgment setting out my reasons for our order.

I can summarise the illegality defence quite shortly. The Appellants seek to allege that the Claimants’ acquisition of the Argentinian warrants was part of a dishonest fraudulent plan to sell them to Threadneedle Asset Management (“Threadneedle”), a well-established and reputable asset management company, at an even more inflated price than that for which they had been acquired, thereby defrauding Threadneedle of a very considerable sum. It is contended that it follows that the Claimants’ claims against the Appellants are based on illegality, and that the Court should therefore refuse to enforce them. The profit from the resale to Threadneedle (intended to take place in August 2011) that the Claimants expected to make at the time when they acquired the warrants in March 2011 is said to have been so great that they must have realised and intended that that resale would be dishonest. The Claimants’ loss resulted from the failure of their fraudulent plan to resell the warrants to Threadneedle, which realised that the price sought by the Claimants was greatly excessive and refused to purchase them.

The Judge held:

The Court is bound to take notice of illegality if the transaction in question is manifestly illegal or if there is persuasive and comprehensive evidence of illegality.

There was no evidence of any clearly illegal act on the part of any of the Claimants’ witnesses or any proper basis for raising a defence of illegality.

The proposed new case did not fit in with the Appellants’ existing defence.

The Appellants’ arithmetical calculations, on the basis of which they asked the Court to infer that the profit anticipated by the sale of the warrants to Threadneedle obviously exceeded any honest profit, were not relevant calculations and did not provide a proper basis for the new case.

The Appellants’ new case involved taking unrepresentative “snippets” from the evidence of certain witnesses, and to that extent was not a fair representation of their evidence.

It had not been put to any of the Claimants’ witnesses that they had known that expected profit rates on the resale of the warrants were dishonest, or that they had suspected or closed their minds to the fact that the acquisition of the warrants was part of a plan to defraud Threadneedle.

In his second judgment, the Judge held:

The proposed illegality defence was inconsistent with the Appellants’ existing defence, and such inconsistency required the Court to look very carefully at their new case: paragraph 9.

The reasons given by him for refusing the first application to amend remained in place; his focus had to be on what, if any, material change of circumstances existed since his original decision: paragraph 10. As to this, the Appellants relied on a recently disclosed transcript of an internal telephone conversation on 9 March 2011 between Mr Popkov and Mr Gherzi, a recently served witness statement of Mr Popkov relating to that conversation, the oral evidence of Mr Gersamia (who had been an employee of Threadneedle) and the evidence of Mr Katorzhnov: paragraph 10 of the judgment.

The disruption to the trial that would be caused by the amendment was itself a sufficient reason to refuse permission to amend. Preparation of material to address the new case would delay the restart of the trial by something like a month, and the hearing of the further evidence that would be required would probably take 3 to 4 days on the Appellants’ estimate, and in excess of five days on the Claimants’ estimate. Furthermore, since the Appellants contended that they had no assets, if the new defence failed and the Claimants succeeded, the substantial additional costs that would be incurred would result in the Claimants suffering irremediable loss: paragraphs 13 and 14.

The Appellants had accepted that this was not a case where the transaction in question was “manifestly” or “clearly” illegal. Furthermore, the case was not one which was sufficient to give the Court real concern that without some investigation compensation might be ordered in circumstances which would undermine the integrity of the justice system. Had it been such a case, he would have granted the amendment: paragraphs 15 and 16.

The transcript of the telephone conversation between Mr Popkov and Mr Gherzi might be evidence of their intention to mislead a regulator as to the parties to and terms of the transactions in question, but the Appellants did not rely on any such regulatory infringement. Furthermore, the reference in the transcript to the return of 8 per cent expected by Otkritie on its purchase of the warrants and their resale (or on-sale) to Threadneedle was inconsistent with the Appellants’ case. The transcript was not evidence of fraud or illegality sufficient to support a case of ex turpi causa: paragraph 23.

Mr Katorzhnov’s evidence did not take the Appellant’s new case any further: paragraph 24.

Mr Gersamia’s evidence, that Mr Lokhov of Otkritie sought to bribe him to purchase the warrants on behalf of Threadneedle at a price some 4 times their true value, was not new: it had been referred to in his original witness statement served over seventeen months before the beginning of the trial. The Appellants’ attempted reliance on his evidence to justify their very late application to re-amend was without proper justification. Furthermore, while it was evidence of an intended fraud in May-August 2011, it was no proper basis to plead a fraud on Threadneedle before or on 9 March 2011, when the Claimants acquired the warrants: paragraphs 25 to 29 of the judgment.

I do not think that there is any issue between the Appellants and the Respondents as to the principles to be applied to an application to amend a defence to plead illegality:

If the facts giving rise to the illegality are such that the illegality is “manifest” or obvious, the Court must take the point of its own motion so as to ensure that its process is not abused in furtherance of the illegality: see, e.g., Bingham J in Bank of India v Patel [1982] 1 Lloyd’s Rep 427.

If the illegality is not manifest or obvious (for example, because it depends on disputed facts or inferences from those facts), the normal rules applicable to amendments apply. The merits of the amendment must be set against the forensic and other consequences for the parties and for the Court. The assessment or balancing of the desirability that the real issues in the case should be determined against the prejudice to the parties and to the Court and public that would be caused by allowing the amendment is regarded as a matter of discretion, and the trial judge’s decision will not be set aside absent an error of principle or of law or other defect justifying an appellate court in interfering with his decision.

If the trial judge concludes that there is no properly pleadable case of illegality, his decision is not a matter of discretion, and will be reviewed by an appellate court in the normal way.

As appears from this statement of the applicable principles, there is a spectrum of cases. At one end is a case of obvious illegality, where the Court must allow the defence to be raised, and indeed if necessary must take the point even if the defence is not pleaded. At the other end is a case in which the intended amendment has no real prospect of succeeding at trial, and permission to amend must be refused. In between there are cases in which the merits of the proposed amendment vary from the relatively strong to the just arguable. At the upper end of these cases are those to which Briggs J referred in Lexi Holdings v DTZ Debenham Tie Leugn Ltd [2010] EWHC 2290 (Ch) (a decision to which Eder J referred) that is, cases which give the Court real concern that without some investigation compensation might be ordered in circumstances which would undermine the integrity of the justice system. The stronger the apparent merits of the application to amend, the more substantial must be the potential prejudice caused by the amendment if permission to amend is to be refused. Conversely, the court may properly refuse permission to amend to plead an apparently weak allegation of illegality if the prejudice that might result from the amendment is relatively insubstantial.

Again, I do not think this was controversial. The Court will interfere with a judge’s interlocutory decision only if it can be shown that he erred in law or, if his decision was based on an exercise of discretion, that his exercise was materially flawed. If the Court concludes that the judge erred, it will remake the decision itself.

Where the decision in question is that of the trial judge, the Court must bear in mind that he was in a far better position to understand the issues and to assess the evidence and the issues than it is. That is particularly so in a case such as the present, where the allegations are relatively complex and the documentation substantial and where the Judge had heard most of the evidence.

There are no less than 13 grounds of appeal, ranging from allegations that the Judge failed to give sufficient reasons for his decisions to contentions that he applied an incorrect test, misunderstood the effect of relevant evidence and underestimated the strength of the evidence of illegality. A number of grounds have not been pursued, particularly those contending that the Judge gave no or inadequate reasons for his findings. Brevity in a judgment on an interlocutory application in mid-trial is to be encouraged. It is clear why the Judge decided as he did. The complaints of inadequate reasons are groundless. I shall address below what I consider to be the major contentions of the Appellants.

For the Respondents, Mr Berry QC submitted that the Judge was not only entitled, but right, to decide as he did. In addition, he submitted that the defence of illegality is bound to fail, since the Claimants’ claims are not based on any illegal act.

It is convenient first to address Mr Berry’s point of law. He referred us to the decision of this Court in Standard Chartered Bank v Pakistan National Shipping Corporation [1999] EWCA Civ 3028[2000] 1 Lloyd’s Rep 218, the facts of which are, so far as relevant, remarkably similar to the present case. Standard Chartered Bank (“SCB”) had paid on a confirmed letter of credit on late presentation of documents which had been fraudulently backdated. At the time it accepted the documents it was not aware that they had been backdated, but it accepted them out of time with the intention of tendering them to Incombank, which had opened the letter of credit, falsely and deceitfully representing that they had been presented within the prescribed period. Incombank refused to pay on the documents. SCB sought to recover the loss it had suffered by paying on the backdated documents from PNSC, which was responsible for their fraudulent backdating. The defendants contended that SCB was precluded from recovering against them by the doctrine of ex turpi causa, since its loss resulted from a transaction carried out with the intention of fraudulently deceiving Incombank.The Court of Appeal held that the defence failed. The majority judgment was given by Aldous LJ, with whom Ward LJ agreed. Aldous LJ said:

Mr Berry submitted that the present case is indistinguishable from Standard Chartered, which is, of course, binding on us: in the present case, it is alleged, as in that case it was established, that the claimant’s loss was suffered because it entered into a transaction with the intention of defrauding another party, here Threadneedle. However, the claim was not founded on the intended fraud of the third party (if there was such intended fraud), and therefore the defence did not run. Mr Peto submitted that this case is distinguishable from the Standard Chartered case, but I am bound to say that I do not see that there are any good grounds for distinguishing it. If it were necessary to do so, I would follow Standard Chartered and apply it to the present case. Furthermore, like Aldous and Ward LJJ, I doubt whether an intention to defraud a third party renders a prior transaction illegal for the purposes of the ex turpi causa rule. However, it seems to me that these appeals can and should be decided on broader grounds, while taking into account that the legal basis of the defence is at best doubtful.

The first ground of appeal is that the Judge applied the wrong test, that is, he required the illegality alleged by the Appellants to be manifest or obvious. I do not accept this. I think it clear, looking at both judgments as a whole, that he considered, as he had to, whether this was a case of manifest illegality. He rejected that assessment, which indeed was not asserted by the Appellants.

Mr Peto also criticised the Judge for prejudging the merits of his case. I do not think that this criticism is well founded. A judge must have regard to the apparent merits of any application to amend, and particularly when the application is made as late as these were, with the certainty of dislocation of the trial and substantial additional costs. The question whether or not an illegality is “manifest” itself necessitates a provisional assessment of the defence of ex turpi causa. Similarly, the Judge is entitled, and indeed bound, to consider (albeit on a provisional basis), whether evidence that has already been given is evidence of a relevant illegality, and if so the strength of that evidence, which must be set against the possible prejudice to the claimant if the amendment is allowed.

The real thrust of Mr Peto’s submissions is that the Judge failed to appreciate the strength of his case. He criticised the Judge’s minimising the effect of his major point, namely that the Claimants must have realised in March 2011, when they acquired the warrants, that the profit that they planned to make on their sale to Threadneedle was too large to be honest. In particular, he contended that in his first judgment the Judge unfairly and inaccurately referred to the evidence on which he relied as no more than unrepresentative “snippets”.

As I have already indicated, an appellate court must be slow and cautious before taking a different view from the trial judge of the effect of evidence that he has heard over a substantial period of time and been able to consider in context. Having been taken to one example of the evidence that the Judge set aside as no more than an unrepresentative snippet, I see no basis for disagreeing with his finding. The Judge also pointed out that the evidence was not that the Claimants’ witnesses had realised at the time they acquired the warrants that the proposed profit on resale to Threadneedle must be dishonest, but that if they had considered it they would have realised that something was amiss. As the Judge correctly pointed out, the “if” is important. It does not follow from their evidence that if they had considered the matter they would have realised the proposed profit could not be honest that they did in fact do so. I see no basis for differing from the Judge on this.

Moreover, it is relevant, as the Judge pointed out, that the essential basis of the alleged illegality, namely that the resale price of the warrants could not be that of an honest transaction, has been known to the Appellants for a very considerable time. That price was recorded in contemporaneous emails received by, among others, Mr Urumov, which were of course subsequently duly disclosed by the Claimants in the course of this litigation. In these circumstances, the Judge was entitled to look critically at the proposed late amendment.

I also consider that the Judge’s assessment of the transcript of the telephone conversation between Messrs Popkov and Gherzi cannot be faulted. It is not evidence that there was an intention to defraud Threadneedle when the warrants were acquired by the Respondents in March 2011.

The Judge considered whether the new case put forward so late was properly pleadable. I think that he did not consider that it was. His conclusion was that there was no proper basis for a plea of illegality. I see no basis for disagreeing with that conclusion.

I add that if I had formed a more charitable view of the Appellants’ case and had been persuaded that the judge was wrong to hold that there was no proper basis for a plea of illegality, I would nonetheless have dismissed the appeal. At best, that case is evidentially weak and legally fragile. I asked Mr Peto why, if they were not themselves defrauded, the Claimants should have paid for the warrants a price vastly in excess of their value. I do not think that I received a sensible answer. Put against the irremediable prejudice to the Respondents in terms of added costs and delay, I think that there would have been only one decision sensibly open to the Court, namely to refuse permission to amend.

My reasons for dismissing the appeal are the same as those of Sir Stanley Burnton, with whose judgment I agree. There is nothing that I can usefully add.