Case Note: CREDITORS AND THE PRINCIPLE OF REFLECTIVE LOSS

• Published date: 01 December 2007
• Date: 01 December 2007
• Author: Victor C S YEO LL B (Hons) (National University of Singapore); LLM (Melbourne) Associate Professor, Nanyang Business School, Nanyang Technological University, Singapore.

Townsing Henry George v Jenton Overseas Investment Pte Ltd [2007] SGCA 13

This note examines the Court of Appeal’s observations in Townsing Henry George v Jenton Overseas Investment Pte Ltd[2007] SGCA 13 on the application of the principle of reflective loss to creditors. It is argued here that the principle should not apply to creditors because the loss that they suffer as a result of a depletion of a company’s assets flowing from a breach of duty owed to the company is not really reflective of the company’s loss. In addition, the policy arguments supporting the application of the principle to shareholders do not support a similar application of the principle to creditors.

I. Introduction

1 It is not often that an appellate court invites counsel to submit arguments on an issue that had not been pleaded nor relied upon by the parties themselves. This occurred in the Court of Appeal’s decision of Townsing Henry George v Jenton Overseas Investment Pte Ltd1 (“Jenton”) in relation to what has been aptly described as a “difficult and developing topic”2— the reflective loss principle (or the “no reflective loss rule”).3 The origin of the reflective loss principle may be traced to the English Court of Appeal’s judgment in Prudential Assurance Co Ltd v Newman Industries and Others (No 2)4 (“Prudential”) in which the court held that a shareholder “cannot recover a sum equal to the diminution in the market value of his shares, or equal to the diminution in dividend, because such a

loss is merely a reflection of the loss suffered by the company.”5 This principle was upheld by the English House of Lords in Johnson v Gore Wood6 (“Johnson”).

II. The scenario in Jenton

2 Jenton involved a director (Townsing) being sued, inter alia, for breach of director’s fiduciary duties owed to the plaintiff company (Jenton). The company was in liquidation at the relevant time and the action was brought by the liquidator. Jenton was part of a group of companies referred to as the “Newman group” which included Jenton and its wholly owned subsidiary, NQF Ltd (“NQF”). The group had entered into a joint venture headed by a UK company (“Normandy”). Townsing was appointed as Normandy’s corporate representative in the Newman group. He was also appointed as director of Jenton and NQF as Normandy’s nominee pursuant to the joint venture arrangement between the parties.

3 The allegation of breach of duties arose in relation to a series of intricate funding transactions for the venture. Essentially, it was alleged that Townsing had paid out sums belonging to NQF to Normandy even though Normandy had no legal right to receive the payment. At the time of the payment, Jenton was not only the sole shareholder of NQF, but was also its sole creditor. Jenton’s liquidator asserted that, because the relevant sums were wrongly paid out to Normandy, NQF did not have sufficient funds to repay the debt owed to Jenton.

III. The issue of reflective loss and its application to creditors

A. The decision

4 Prior to discussing whether Townsing was in breach of his duties to Jenton, the court observed that Townsing appeared to have been in breach of his directorial duties to NQF by paying the relevant sum to Normandy, which the court found had no claim to the sum as against NQF. However it refused to speculate why Jenton, and not NQF had sued

Townsing.7 After summarising the duties which Townsing was alleged to have breached, the court ruled that Townsing had also breached the directorial duties owed to Jenton.

5 The court then discussed the principle of reflective loss and concluded that the principle was applicable in Singapore.8 It went on to hold that the principle would have been applicable to Jenton’s claim but for the fact that it had not been raised at the trial and that it would have been unfair and prejudicial for the court to apply the principle to the action at such a late stage.9 However, the court was of the opinion that had the principle been applicable, it would have precluded Jenton from recovering its losses from Townsing despite the latter’s breach of duties. The learned Chief Justice said:

Jenton’s losses, in relation to its inability to recover its loan of $4,542,286 from NQF and the diminution of its 100% shareholding in NQF, as a result of the appellant wrongfully paying the Relevant Sum (NQF’s asset of NZ$2,677,300) to Normandy, are merely reflective of the loss suffered by NQF. The losses suffered by Jenton mirrored an equivalent loss by NQF. Jenton’s inability to recover the Relevant Sum from NQF, whether in the form of share dividends or as repayment of its loan, was clearly a consequence of the corresponding diminution in NQF’s assets.10

6 The court took the position that the reflective loss principle applied not only to shareholders (which was the main finding in Prudential) but also to losses suffered by creditors on the basis that “there is no logical reason why it should not apply to a shareholder in his capacity as a creditor of the company expecting repayment of his debt”.11 It accepted the dicta in Gardner v Parker12 which had facts which were largely similar to those in Jenton. The court’s decision is also supported by Johnson where the principle was applied to disallow the plaintiff’s claim, inter alia, for amounts owed to him as an employee. The facts in Jenton, Gardner and Johnson all concerned shareholders who were also making a

claim qua creditor and a strict interpretation of these cases would confine it to such situations. Nevertheless, the judgments in all these cases did not appear to suggest that this was a key factor in the application of the reflective loss principle to a creditor’s claim. This point was emphasised by Neuberger L J in his delivery of the judgment in Gardner. 13 There is thus every likelihood that Jenton may be cited as authority for the proposition that the reflective loss principle may be applied to creditors in much the same way as it applies to shareholders, regardless of whether or not the creditors themselves hold shares in the company.

B. Disapplication of the principle where double recovery avoided

7 While the court in Jenton was of the view that creditors’ claims also came under the purview of the reflective loss principle, the court went on to suggest that it may be willing to disapply the principle if the plaintiff was able to show that steps had been or would have been taken to avoid the possibility of double recovery. 14 Such steps may include the plaintiff procuring an undertaking from the company not to sue the wrongdoer.15 In the words of the learned Chief Justice:

Such an undertaking would have disapplied the principle of reflective loss as there would be no possibility of double recovery. It is arguable that there would have been no reason why the court would not have accepted such an undertaking since NQF was a wholly-owned subsidiary of Jenton and no third party had a claim to the Relevant Sum as a creditor or shareholder.16

8 This approach deviates somewhat from the reflective loss principle as it has developed in England. The English cases appear to regard the possibility of double recovery as a policy argument for disallowing reflective loss altogether regardless of whether or not double recovery may be averted in a particular case. Thus, the English Court of Appeal in Gardner and the House of Lords in Johnson made it clear that the principle would apply even where the company may have settled the claim for less than it should have done even though there would, in such circumstances, not be any double recovery on the part of the plaintiff.17

9 It is likely that the Singapore Court of Appeal intended its dicta on this issue to be limited to situations where the creditor making the claim is also the sole creditor and shareholder of the company as otherwise, the rights of the company’s other creditors and shareholders would come into play. This is borne out in the Chief Justice’s statement quoted in the preceding paragraph. This makes sense as should there be other creditors or shareholders involved, the giving of an undertaking not to sue the wrongdoer may amount to a breach of duties on the part of the parties giving...