High Court rejects allegations of undue influence

The Libyan Investment Authority v Goldman Sachs International [2016] EWHC 2530 (Ch)

Executive Summary

This recent decision saw the High Court reject the Libyan Investment Authority’s (the LIA’s) arguments that Goldman Sachs (Goldman) had exercised undue influence over it in relation to a series of financial transactions. The court held that the LIA could not seek to set aside the bargain because there had been no protected relationship of trust and confidence between the parties and that the transaction did not constitute an unconscionable bargain.

In reaching that conclusion, Mrs Justice Rose did not exclude the possibility that an undue influence and/or unconscionable bargain claim by a client against a bank could succeed. However, it seems clear that exceptional circumstances would be required.

Facts

Between September 2007 and April 2008, the LIA entered into a series of synthetic derivative trades with Goldman which were due to mature in 2011. Those derivatives gave exposure to any increase in value of a basket of financial institutions and energy companies’ equity shares. The “price” for that exposure was a premium of US$1.2bn, which Goldman would keep regardless of the underlying shares’ performance (and therefore whether the derivative was profitable from LIA’s perspective).

On maturity the prices of the underlying shares were considerably lower than when the trades were entered into which resulted in the LIA making no return on their investment.

The claim

The LIA sought rescission by alleging:

• that Goldman procured the LIA to enter into the trades by the exercise of undue influence and pressure which was possible because a relationship of trust and confidence had been established between the parties, and
• that the trades constituted unconscionable bargains because they were unfairly priced, and that the nature of the trades was entirely unsuitable for the needs of a sovereign wealth fund.

By contrast, Goldman contended that the relationship never went beyond the ordinary relationship established between a bank selling investment products and a wealthy client, and that the kind of relationship necessary to found a claim for undue influence never arose.

The LIA’s allegations of undue influence

The LIA sought to invoke the doctrine of undue influence, which allows equity to intervene when it becomes unconscionable for a person to retain the benefit of a bargain that they have entered into. This can occur when there is:

• actual undue influence, shown by specific unconscionable conduct through an improper threat or, as the LIA alleged, improper inducement, or
• a presumption that undue influence has occurred because certain circumstances have arisen due to the nature of the relationship between the parties which places a duty on the stronger party to act with candour and fairness in their dealings with the vulnerable party (a protected relationship).

The LIA sought to show that a protected relationship existed because it had "reposed sufficient trust and confidence in [Goldman]". It sought to argue that it had (to Goldman’s knowledge) relied on Goldman’s guidance, that Goldman had benefitted from the transactions entered into in reliance on that guidance, and that the required level of trust and confidence existed between the parties.

Here the LIA argued that Goldman had provided a dedicated team member who often visited and worked at the LIA’s office, it offered an internship to the brother of the LIA’s deputy chairman, it gave extensive training, hospitality, research and advice which led the LIA to view them as being, effectively, their in-house bank. The LIA alleged that this created a relationship where Goldman owed a duty to act in the LIA’s best interests even when these interests conflicted with the bank’s own interests.

The LIA argued that Goldman was therefore under a duty to ensure that LIA had made an “independent and informed judgment” on entering into the transaction. Further, the LIA alleged a duty of fairness and candour, which Goldman breached by misrepresenting the nature of the transaction and/or failing to disclose important factors which made the bargain unconscionable.

The LIA’s allegations of unconscionable bargain

To show an unconscionable bargain, the LIA was required to prove that it was at serious disadvantage to Goldman, and that Goldman had exploited that fact in some morally culpable manner. Here, the LIA argued that Goldman led them to believe that they would obtain shares as result of the transaction (which was not the case) and that the bargain actually struck was so much in the favour of Goldman that it was exploitative.

Decision

The court rejected the LIA’s claim in its entirety. It found no undue influence: the various services provided by Goldman were held to be legitimate means by which the bank sought to forge a strong link to its client. Further, the court held that the LIA staff were capable of reviewing and rejecting contemporaneous deals offered by the Goldman team.

The court held that the provision of training and expensive corporate entertainment was in sync with Goldman’s competitors, and that the need to continue to provide such perks rather negated the suggestion that Goldman’s relationship had grown into a different sort of relationship which could be considered a protected relationship. The court held that the bank’s actions did not give rise to a relationship of trust and confidence which would give rise to the bank owing a duty of fairness and candour.

In relation to the potential breach of the duty of candour and fairness, the court found that members of the LIA’s senior management team, some of whom had worked in senior roles in financial institutions and others having held degrees in finance and economics, had sufficient experience to comprehend the type of transaction they were entering into, and that they did not believe that the transaction would result in the LIA acquiring shares from Goldman. Furthermore, the court held that certain members of the senior management at the LIA sought to misrepresent the nature of the transaction to the board of directors in order to encourage them to approve the LIA’s entry into the transaction.

The court rejected the LIA’s allegation that the price paid for the trades was so high that it would raise the presumption of undue influence. The court held that the LIA’s goal was to achieve a high profit whilst risking a relatively small amount of their capital, and that the LIA sought out trades which were similarly unsuitable for their investment goals around the same time. Consequently, these aspects of the trades did not raise the presumption of undue influence.

Comment

The case provides some comfort to financial institutions as regards their ability to develop client relationships without thereby taking on unintended duties to act in the client’s interests.

Financial institutions will no doubt welcome the court’s refusal to set a precedent for undue influence claims by sovereign wealth funds who had, at the relevant time, sufficient resources at their disposal to understand, and make their own evaluation as to the merits of, a particular transaction. They are likely to take comfort that the fact pattern of this case did not establish a “protected relationship”.

However, the case also serves as a reminder that of the importance of giving proper risk warnings and ensuring that transactions are properly understood by the client, with proper records to that effect. It should also be remembered that the parties’ contractual relationship will be given significant weight. Banks wishing to protect themselves from similar claims should therefore assess whether their contracts would allow them to raise contractual estoppel as an argument in their defence.