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Court of Appeal hand down judgment in Capita v Drivers Jonas valuers negligence case

08 November 2012

The Court of Appeal has reached its decision in a valuers negligence case where the surveyors firm then known as Drivers Jonas was at first instance found to have negligently advised Capita, the trustee of a Guernsey-based Enterprise Zone Property Unit Trust, on its acquisition of a factory outlet shopping centre.

Whilst being of general interest to parties considering making (or defending) a valuers negligence claim, the decision is of particular relevance to property unit trusts and other structured investment vehicles where "end-user" investors sit behind a trust structure.

Implications

This morning the Court of Appeal released its long-awaited judgment in the valuers negligence case of Capita Alternative Fund Services (Guernsey) Ltd & Anor v Drivers Jonas (A Firm), a professional negligence decision in which Drivers Jonas was, at first instance, ordered to pay £18.05m (excluding interest) in damages for having negligently advised on the acquisition and valuation of a factory outlet shopping centre in Kent.

While much of the discussion in the appeal related to the specialised facts of the case and, in particular the target of the investment scheme being a factory outlet centre (to which special valuation principles apply), the case more generally has wider implications for entities such as property unit trusts and other structured investment vehicles seeking to bring professional negligence actions where "end-user" investors sit behind the trust structure. In this case, as commonly encountered in many professional negligence scenarios involving a complex investment structure, the defendant at first instance had sought to use the structure to defeat the claim by raising issues on duty of care, causation and level of damages. Whilst the defendant failed on the facts, the case is nevertheless an important reminder that technical legal points arise in relation to complex investment structures that parties wishing to bring or defend professional negligence valuation causes will need to thoroughly consider.

There were two main issues raised on the appeal. The first was whether the Defendant could get away scot-free where there was plenty of evidence that the Defendant had been negligent but (so the Defendant said) insufficient evidence to establish what the true valuation figure should have been and therefore what loss Capita had suffered. The Court of Appeal held that a judge must do his best on the material before him and his finding regarding the "true valuation figure" need not be perfect, although there must be some basis for his decision.

Also of special interest are the Court of Appeal's findings relating to the second point of appeal, that is the way a court should take into account investors' tax reliefs when awarding damages. In what is believed to be the first case dealing with the issue, the Court of Appeal considered the question of whether it was appropriate to treat the interests of a trust and its beneficial investors as synonymous and accordingly to reduce any damages payable to the claimant trustee by the amount that the investors would enjoy by way of tax credit. In this particular case where the trust was an Enterprise Zone Property Unit Trust (subject to specific legislation), the Court unanimously upheld Drivers Jonas' appeal. As such, the Court reduced the damages payable from £18.05m to £11.86m. Whilst the Court stated that ordinarily there would be no need nor justification for looking behind a trust structure, this is a reminder that the specific features of each type of investment structure do need to be considered.

For a full summary of the facts and a review of the High Court's first instance decision, please see our article here. For a focus on the Court of Appeal judgment, please read on.

The Facts

Capita Alternative Fund Services (Capita) is the trustee of The Matrix Chatham Maritime Trust (the Trust), an investment vehicle in the form of an Enterprise Zone Property Unit Trust (EZPUT), which allowed individual investors (as opposed to the trustee) to enjoy certain tax advantages in the form of capital allowances for qualifying capital expenditure. Matrix-Securities Limited (Matrix), which was the second claimant, markets, sponsors and manages unit trust structures.

In February 2001, Drivers Jonas (DJ) provided a report to Capita and Matrix in relation to the acquisition and valuation of a listed building at Chatham Historic Dockyard, Kent, which was to be developed into a factory outlet shopping centre (FOC) (Dockside) at which goods would be sold at a discount to the High Street. The report valued Dockside at £62.85m. In April 2001, Capita purchased the residue of a 155 year long leasehold interest in Dockside for £62.85m. Around the same time the Trust was fully-subscribed for with 480 individual investors. Dockside opened in July 2003 at a 60% let rate. However, it stalled at 80% let in 2004 and as a result the net rents received were considerably lower than those anticipated by DJ, meaning that the turnover rent portion was also low. In 2010 Dockside was valued at just over £7m.

At First Instance

Capita sued DJ for providing negligent advice relating to its acquisition of Dockside and claimed for all losses resulting from the valuation on the basis that DJ's advice related to "investment" advice (i.e. advice on whether to enter into the investment) as opposed to "valuation" advice alone. DJ denied the claim on liability, causation and quantum issues. In particular, it argued that it owed Capita no duty of care, that Capita would have invested in the scheme regardless of the advice, and that its valuation fell within the permissible margin of acceptable valuations. If, which DJ denied, Capita was entitled to damages, they should be capped at the amount by which Capita had overpaid. Further, any such damages should be reduced by the amount of tax relief which the investors would have enjoyed, which was estimated in the region of £21.5m.

At first instance, Mr Justice Eder found for Capita, and awarded £18.05m in damages (excluding interest). DJ owed Capita a duty of care and this duty had been breached both by its having taken on instructions to act on a matter for which they did not possess the requisite specialist experience and also by virtue of its subsequent negligent valuation, in particular by having failed to conduct an analysis of likely consumer spend at the site. Capita had relied on the advice and had suffered loss when Dockside did not perform in line with DJ's predictions. A correct valuation would have been £44.8m. Mr Justice Eder did not, however, agree with the basis of damages for which Capita had contended and capped Capita's damages as the amount by which it had overpaid for the long leasehold interest.

With regards to the question of a reduction in damages for tax relief, Mr Justice Eder sided with Capita and held that the claimant in the case was Capita, which was a different legal entity from the investors.

The Appeal

DJ did not appeal on duty or breach but limited its appeal to two main points (together with a third relating to the calculation of interest which would fall away if it succeeded on the second).

DJ's first point was based on its contention that Mr Justice Eder (the judge at first instance) was not entitled to have made a finding of fact as to the quantum of loss because there was no proper basis on the evidence for him to have done so, namely, a valid consumer spend analysis report. The expert evidence on which the judge had relied had shown that the figure that Drivers Jonas had reached was too high but this did not mean that it correctly answered the question "by how much?". Accordingly, the judge was not in a position to decide whether or not DJ's valuation fell within or without the permissible margin of error and therefore regardless of DJ's negligence (which DJ had not disputed on appeal), Capita's claim was bound to fail in tort, and in contract would sound in nominal damages only.

Capita strongly disagreed, arguing that this was a factual question for the judge with which the Court of Appeal should not interfere. It would be remarkable if, notwithstanding the various unchallenged breaches, the expert had no evidence as to the extent of Capita's loss. Ultimately the judge had been entitled to rely on the evidence of an impressive witness who was on the "inside track" of a specialist market. DJ's second point centred on its contention that Mr Justice Eder had incorrectly failed to give credit for tax relief received by investors for having invested in Dockside. Tax was an integral part of the investment and ignoring the tax credits was to miss the value of the "whole" that the investors had invested in.

Capita disagreed arguing that DJ's analysis confused the legal entities in question and that it was inappropriate to use tax relief enjoyed by investors against an award of damages in favour of a trustee as claimant. They were separate legal entities and should be treated as such in this respect. Furthermore, the fact that the investors had to commit their capital for seven years in order to achieve the tax benefit meant that there were would be other risks and losses that should be taken into account.

The Court of Appeal Decision

On the first point of appeal, the Court of Appeal by a majority decision (albeit with a strong dissenting judgment from Lord Justice Lloyd) endorsed the first instance judgment of Mr Justice Eder in the High Court and held for Capita. Giving the leading judgment, Lord Justice Gross analysed the valuation evidence put forward by the parties and concluded that Mr Justice Eder had been entitled to award substantial damages, doing his best as he could as to ascertain the appropriate figure, which need not have "pinpoint accuracy". The court was, in any event, never bound to follow expert evidence and could form its own view. Sometimes this might involve the judge doing "the best he can." The fact that one expert's evidence had "collapsed" did not mean necessarily that the court was not justified in coming to a conclusion on the issue of quantum. The correct question was whether there remained a rational and evidential basis capable of supporting the judge's assessment of Capita's loss. The Court (by a majority) decided that there was. In concluding, Lord Justice Gross said that it would be "a cause for regret, if, despite what to my mind are obvious serial breaches of duty, the Court was driven to conclude that no loss had been established." The court therefore displayed a reluctance to let defendants escape liability simply because establishing the measure of loss is difficult (however, only a nominal damages award may be made if there is no basis at all for the court to establish the relevant loss).

On the question of tax relief, the Court of Appeal departed from Mr Justice Eder's judgment and said that the guiding principle should be the question: "what damage has the plaintiff really suffered?" In applying this, the Court held that to ignore that the investors almost immediately became entitled to the tax relief upon investing in the EZPUT scheme would be "out of touch with reality" and that for practical terms the tax relief should be viewed as having reduced the purchase price. On the issue advanced by Capita that the tax relief was enjoyed by the investors, who were a different person from the claimant in the action, the Court stated the general rule that, "there is, ordinarily, neither need nor justification for looking behind [trust] structures and the consequences of doing so can be far-reaching and unwelcome". However, in the very specific context of the statutory regulations governing EZPUTs, the Court was justified in looking behind the trust because the statute expressly permitted the beneficial investors to take the benefit of the tax credits rather than limiting them to the trust itself. Therefore the same applied when looking at the matter in the opposite way, and the tax relief should be taken into account when assessing the damages recoverable by the trust. As such, the Court reduced the damages payable from £18.05m to £11.86m.

Comment

The decision in this case is one of the most major pieces of professional negligence litigation to have come before the courts in recent years and both the first instance and Court of Appeal judgments contain useful summaries of the principles in issue. In addition to this, however, the decision is of special interest because of its concern with a complex investment structure, as opposed to a more straightforward valuation for mortgage purposes. This is the case not least because in structured finance transactions a defendant may seek to attack a professional negligence claim on the basis that the cause of action and the loss can be proven in different entities.

In this case, DJ tried at first instance to argue that they did not owe a duty of care to Capita and that Capita had not relied on their advice. On the facts, the High Court held that DJ's argument on this point was misconceived and was not made out, but the court's decision is nevertheless consistent with a continuing reluctance on the part of the courts to allow such technical arguments to succeed as this might create a "legal black hole" where a cause of action cannot be brought despite a breach having taken place. Similarly, the Court of Appeal considered that the investors would have had a direct cause of action against DJ on the basis that the information memorandum was akin to a prospectus and that this would have founded a duty of care.

The recent case of Paratus AMC v Countrywide Surveyors [2011] EWHC 3307 is a good example. The case involved a valuation claim in respect of a residential mortgage-backed securitisation and although the valuation was not negligent on the facts, the court made some interesting comments about securitisation structures. This was on the basis broadly that the defendant had tried to escape liability by arguing that the entity that had suffered the loss had assigned its cause of action, whilst the entity that had received the benefit of the cause of action had suffered no loss. In considering this point, the court said: "The argument advanced by Countrywide gets its foot inside the door, if at all, only by seeking to exploit what it takes to be the consequence of a strict application of technical rules concerning assignment to a widely used financing technique that itself results from the imaginative use of several legal tools and concepts. It would in my judgment be a sorry state of affairs if an unexceptional form of securitisation such as was employed in the present case meant that losses for which a negligent valuer would otherwise have been liable became irrecoverable."

This was also considered in the (non-valuation) case of Technotrade Ltd v Larkstore Ltd [2006] EWCA Civ 1079, which confirmed that a contract-breaker should not be able to escape legal liability for breach of contract on the basis of an assignment of a cause of action. In that case the Court of Appeal said that the assignment made between the parties was of the cause of action for breach. It was not an assignment of the loss. They also said that although the assignee cannot recover more by way of damages than the assignor could have done, the relevant damages are those that would have been recoverable by the assignor if the assignment of the benefit of the rights under the contract (which includes the cause of action) had not taken place.

Professional negligence actions involving complex investment structures bring these issues to the fore. Such claims are inevitably fact-sensitive and require serious consideration whether from the perspective of making or defending an action.

For more information, please contact Beverley Vara on beverley.vara@allenovery.com