The case considers important issues concerning co-operation between foreign regulators, and the operation of certain investigatory provisions of the Financial Services and Markets Act 2000 (FSMA) which had not previously been considered by the Court.

This judicial review application related to an FSA decision to investigate a UK hedge fund following a request for information from the SEC in the US.

The background facts to the US proceedings were as follows. The claimants (Amro and Creon) were financing companies based in Panama and the BVI respectively. A New York company (Rhino) acted as an investment advisor to the claimants. Rhino employed, until 2002, a Mr Andreas Badian and, until 2003, his brother Thomas.

In June 2002, the SEC commenced investigations into Rhino's activities. In particular, there were allegations of the manipulation of shares in companies to which Amro or Creon had made advances on Rhino's advice. In February 2003, the SEC settled proceedings against Rhino and Thomas Badian. In April 2006, the SEC commenced proceedings in the United States District Court for the Southern District of New York against Andreas Badian and six others in relation to short selling. Amro and Creon were not added as defendants in this action.

On 24 July 2009, the SEC wrote to the FSA seeking its assistance in securing the production of documents from a London firm of accountants, Goodman Jones, which was said to have documents relevant to the SEC's claim. Goodman Jones had acted for Amro and Creon and had documents relating to the deals with Rhino. The letter effectively sought all documents held by the accountants relating to Amro, Creon and Rhino between January 2000 and 2009.

The FSA, after clarifying why the documents were relevant given that Amro and Creon were not party to the New York action, acceded to the request and appointed inspectors under s169 FSMA. The inspectors issued a notice dated 4 August 2009 under ss171 and/or 172 FSMA to compel the production of certain documents from Goodman Jones LLP (Goodman Jones).That notice was subsequently amended by notice dated 11 August 2009.

In this action, the claimants challenged the FSA. They accused the FSA of acting unlawfully in agreeing to appoint inspectors in order to obtain documents through compulsory powers. Furthermore, it was claimed that the notice was in any event too wide and unspecific and that the extent of the requirement was therefore beyond the powers granted to the FSA by FSMA.

At first instance (Collins J), it had been decided that the nature of the SEC's pleaded claim (contained in the New York proceedings Complaint) was of fundamental importance in determining the permissible scope of the FSA's investigation. An analysis of the Complaint showed that there were no claims on foot against either of the claimants, nor anything which suggested that they were involved in any type of illegality. It was only upon further enquiry by the FSA that the SEC had explained that it believed that the Badian brothers, or the Badian family trusts, had been behind both Amro and Creon in order to further their manipulative share trading.

Upon examination of the procedural history of the US proceedings, Collins J took the view that "at the very last moment the SEC is trying to bolster their case". This was based on evidence that the SEC were aware of the possibility of the Badians being behind the claimants as long ago as 2003. However, there was no suggestion then, or now, that the SEC was amending its claims. The "FSA has been asked to help to pick up the pieces".

Collins J was of the view that it was wrong for the FSA to go beyond what was actually covered in the claim, by taking into account further information provided by the SEC, particularly where an application was made for such a wide variety of documentation. Beyond making initial clarificatory enquiries of the SEC, it was not necessary for the FSA to make further enquiries in order to find out more about the unparticularised allegations against the claimants.

The FSA should have decided that it was neither necessary nor proportionate for the wide scope of discovery to be ordered.

Court of Appeal

The Court of Appeal (the lead judgment given by Stanley-Burnton LJ) overturned Collins J's decision.  It found that the FSA is not required to satisfy itself of the correctness of what it is being asked to investigate by a foreign regulator or the basis upon which the investigation was asked for. It was not incumbent on the FSA to examine the SEC's request critically.

The investigators were appointed, not to obtain documents admissible in the New York proceedings or relevant to issues already pleaded in those proceedings, but "to assist the SEC with its ongoing civil action …".  The SEC had stated that the documents it sought would be helpful to it in that action, and gave sensible reasons for that statement, including explaining why similar fact evidence would be helpful.  That was sufficient for the FSA, and it should have been sufficient for the Court.

The Court of Appeal held, however, that the appropriate test to be applied by investigators when considering whether to exercise their powers under s171 (to order production of documents) was whether the questions to be answered or the [provision of the] information sought under subsection (1) or the production of documents sought under subsection (2) is relevant to the purposes of the investigation. This is a relatively low hurdle. Subject to the question of proportionality, the court cannot impugn the investigator's decision unless it is satisfied that the investigator unreasonably concluded, in a subsection (2) case, that the production of documents was relevant. It was not necessary to apply the higher test advocated by Collins J that the production should be "necessary and proportionate".

The categories of documents requested by the FSA were not too vague.  Investigations would be unnecessarily and inappropriately hindered if investigators were restricted to obtaining specified documents, which is no doubt why Parliament conferred power to obtain specified classes of documents. What is important is that the person of whom the requirement is made can identify the documents he has to produce, since failure to produce them may lead to the imposition of a penalty under s177. There had been no suggestion by Goodman Jones that they were or are unable to identify the documents to which the investigators' requirement relates.

Sara George, Senior Associate in the Investigations Group, comments: Compliance with document requests by firms can be very expensive and resource intensive. Whilst it is not surprising that the Court of Appeal was not prepared to limit the FSA's discretion to comply with a request from the SEC to the extent only of the scope of the pleaded case in those proceedings, the low hurdle set by the Court of Appeal will give little comfort to those who have to comply with often onerous and frequently over-broad document requests. 

However, the decision does still leave open the possibility of challenges on the basis that no reasonable investigator could have thought that the material sought was relevant or that the that the request was disproportionate.

This article first appeared in PLC Dispute Resolution

Further Information

This case summary is part of the Allen & Overy Litigation Review, a monthly update on interesting new cases and legislation in commerical dispute resolution.  For more information please contact Sarah Garvey sarah.garvey@allenovery.com, or tel +44 (0)20 3088 3710.