OUTER HOUSE, COURT OF SESSION   [2006] CSOH 102
	OPINION OF LORD DRUMMOND YOUNG   in the cause   MONARCH ENERGY LIMITED   Pursuer;   against   POWERGEN RETAIL LIMITED   Defender:     ­­­­­­­­­­­­­­­­­________________

 

 

Act: O'Neill, QC, Barne; Shepherd & Wedderburn, WS

Alt: Mackenzie, Solicitor; Pinsent Masons

 

6 July 2006

 

[1] The defender is a supplier of electricity, gas and telecommunications equipment and services. The pursuer formerly acted as the defender's agent for the sale of their products in the energy markets in Scotland and the north east of England. On 3 April 2003 the defender wrote to the pursuer to terminate the relationship. The pursuer subsequently raised the present proceedings against the defender. In those proceedings the pursuer claims statutory compensation for termination of the commercial agency relationship in terms of regulation 17(6) of the Commercial Agents (Council Directive) Regulations 1993. It further claims payment in lieu of notice under regulation 15 of the same Regulations. In the alternative, in the event that the Regulations do not apply, the pursuer claims payment in lieu of notice at common law. Finally, the pursuer claims unpaid commission that is said to be due by the defender. The total sum sued for is in excess of £6 million. Of that sum, £5,349,529 is claimed as compensation for termination of the commercial agency relationship.

[2] The pursuer avers that, following the privatization of the electricity supply industry, the defender's predecessor, East Midlands Electricity PLC, became the monopoly supplier of electricity in the East Midlands of England. In 1998 the industry was deregulated, with the result that the regional electricity companies were able to supply electricity outwith their original monopoly areas. One of the methods chosen by the defender to attract customers outwith its original area was the appointment of sales agents. The function of such agents was to persuade existing gas or electricity customers supplied by other former monopoly suppliers to transfer their custom to the defender. The pursuer avers that it was appointed as an agent for East Midlands Electricity PLC with effect from 1 June 1999 with a view to assisting that company to expand in the energy markets in the north east of England. The pursuer's agency was in due course transferred from East Midlands Electricity PLC to the defender. The territory assigned to the pursuer was expanded into parts of Yorkshire, and subsequently into areas in Scotland, notably Edinburgh, Glasgow and Dundee. The pursuer was not permitted to act for any other utility company in those areas. It appears to be accepted by both parties that the pursuer's sales activities consisted essentially of doorstep selling.

[3] The pursuer further avers that on 25 February 2003 the defender stated that it was terminating the relationship with the pursuer on the basis of the pursuer's alleged failure to manage its field sales team effectively. It was alleged that contracts had been submitted by several field representatives in respect of empty boarded up properties. The defender further intimated that the pursuer was conducting business in such a way as to seriously damage the defender's reputation, in breech of a duty to act in good faith. Three months' notice of termination was given in order to facilitate the withdrawal from the relationship by both parties. Following that letter, it is averred, the pursuer carried out an investigation into the circumstances of the allegedly fraudulent contracts and concluded that certain contracts had been falsely completed in respect of boarded up houses. The pursuer avers that it concluded that these were the work of one rogue individual who had previously had a good working record and who had received training from the defender. The pursuer avers that it had no reason to suspect that that individual would act as he did, and that he was subsequently dismissed.

[4] The pursuer further avers that by letter dated 3 April 2003 the defender purported to terminate the relationship between the parties with immediate effect; that occurred five weeks into the notice period that had previously been set. In doing so the defender relied on alleged further incidents of signing up contracts in relation to boarded up properties in the Cramlington and Durham areas. The pursuer avers that it subsequently investigated the four properties that were specifically identified in the letter of 3 April 2003 and found that none of the properties was boarded up at the time. On that basis it is contended that the defender was not justified in terminating the agency relationship. As mentioned above, the pursuer concludes for compensation under regulation 17 of the 1993 Regulations in consequence of the termination of the agency. The sum claimed, £5,349,529, is calculated on the basis of two years' gross commission calculated by reference to the three years immediately preceding the termination of the parties' contract. That method of calculation is based on the decision of the Inner House in King v T Tunnock Ltd., 2000 SC 424, where the approach adopted by the French courts to compensation for termination of a commercial agency relationship was adopted into Scots law.

[5] The defender advances three main lines of defence to the action. In first place, it contends that the 1993 Regulations do not apply to the relationship between the parties because the activities of the pursuer were "secondary" within the meaning of the Regulations; in particular, neither electricity nor gas constitutes "goods", and consequently the pursuer's agency did not involve the supply of goods. The Regulations only apply to agents who have authority to negotiate the sale and purchase of goods. In the second place, the defender argues that the French approach to the quantification of compensation should not apply in Scotland. On that basis it is said that King v T Tunnock Ltd was wrongly decided; I was informed that the case has not been followed in the English courts. That case is obviously binding in the Court of Session. Nevertheless, the defender avers that the contractual relationship between the parties was governed by English law, which may have the result of excluding the rule adopted in King. In any event, the decision in that case could obviously be challenged in the House of Lords or the European Court of Justice. If King is not followed, the defender asserts that the compensation due to the pursuer, for proved loss of goodwill, is relatively modest. In the third place, the defender contends that the agency relationship was terminated because of the pursuer's breach of contract. It is averred that the conduct of the pursuer was of critical importance to the defender, and that mis-selling was a serious issue for the industry. In this respect, the defender relies on what are alleged to be high levels of complaints and cancellations among the customers introduced by the pursuer. In addition it is averred that the pursuer made misleading statements to customers regarding the service provided, and gave misleading information about the defender's competitors to customers. In addition it is averred that the pursuer's representatives were "pushy" and aggressive, falsified contractual documents and signatures and took advantage of elderly and disadvantaged customers.

[6] In connection with the third line of defence, the defender makes allegations of fraud. It is averred that the defender discovered that the pursuer had fraudulently submitted contracts to the defender, those contracts being for properties that were boarded up and empty. Those properties were located in both Glasgow and Newcastle. That prompted the initial notice of termination given by the defender to the pursuer on 25 February 2003; the letter intimating termination referred to 24 properties in Glasgow. The defender further avers that the issue was discussed at a meeting on 7 March 2003, and that following that meeting further instances of fraudulent contracts were discovered in the Cramlington and Durham areas. It is then averred that the discovery of fraudulent activity by the pursuer ended any remaining trust and confidence, which was necessary for the contract to continue. It is said that the fraudulent behaviour was a deliberate breach of contract which went to the heart of the relationship, and that such behaviour justified the immediate termination of the contract.

[7] The action was raised during the summer of 2005. Defences were lodged and some adjustment of pleadings took place. A procedural hearing was then fixed for 6 December 2005. At that hearing I allowed a proof before answer confined to two issues, which corresponded broadly to the first two of the lines of defence taken by the defender. These were, first, the applicability of the 1993 Regulations and, secondly, the proper approach to the quantification of the pursuer's claim under the Regulations. Those two issues were singled out for consideration before the factual merits of the case because they raised, ultimately, issues of law that could be decided before the details of the parties' relationship were considered. I formed the view that detailed examination of the parties' dealings was likely to be very time-consuming, and that consequently it would be preferable to decide the two legal issues first. Nevertheless it was clear that expert evidence, and possibly some factual evidence, would be required on both of the preliminary issues, and for that reason a proof was essential. The proof was fixed for five weeks between October and December 2006.

[8] Meanwhile, in October 2005 the defender enrolled a motion to have the pursuer find caution in terms of section 726 of the Companies Act 1985. The motion was continued on a number of occasions. Discussions took place between the parties' advisers, and the result was that, in March 2006, the pursuer offered the defender by way of security an after the event ("ATE") insurance policy covering liability in the expenses of the litigation. The defender disputed that such a policy was sufficient security to satisfy section 726, and on 16 March 2006 the effectiveness of such a policy was debated. At that point I expressed concern about certain features of the policy, and the matter was continued until 29 March. On that date it was intimated that the pursuer had deposited £100,000 by way of security, in addition to providing the ATE policy. The parties were in agreement that that deposit was sufficient security for the defender's legal expenses at that time, and consequently the effectiveness of the ATE policy ceased to be of practical importance.

[9] Matters continued on that basis until May 2006, when the defender enrolled a motion for further caution under section 726; £150,000 of caution was sought, in addition to the sum of £100,000 that had been deposited by the pursuer. That motion was prompted in large part by estimates that had been provided to the defender of the cost of obtaining expert reports, and in due course expert evidence, for the purposes of the proof. The motion was opposed by the pursuer, on two bases. First, it was said that the ATE insurance policy provided adequate security. Secondly, it was said that an additional £100,000 of caution was excessive at this stage of the action. In addition, counsel for the pursuer placed some reliance on the terms of article 6 of the European Convention on Human Rights.

 

Companies Act 1985, section 726(2)

[10] The defender's motion for additional caution is based on section 726(2) of the Companies Act 1985. That subsection is in the following terms:

"Where in Scotland a limited company is pursuer in an action or other legal proceeding, the court having jurisdiction in the matter may, if it appears by credible testimony that there is reason to believe that the company will be unable to pay the defender's expenses if successful in his defence, order the company to find caution and sist the proceedings until caution is found".

The purpose of that provision is clear; it is designed to prevent the device of limited liability from being used as a means of litigating without fear of having to meet the other side's expenses if the litigation is unsuccessful. The court's power under the subsection is discretionary. It is dependent on the existence of evidence that the pursuer will be unable to pay the defender's expenses if the defender is successful. If such evidence is available, however, caution will normally be ordered: Dean Warwick Ltd. v Borthwick, 1981 SLT (Notes) 18, at 19, where Lord Maxwell states that the primary question is whether there is a substantial risk that the defender will be unable to recover expenses if successful in the action. In some cases, of course, even if the statutory test is satisfied caution will not be ordered. That might occur because of the relative strengths of the parties' cases. If the pursuer's case appears strong and there is no obvious stateable defence, it would be unusual to order caution; an example of that is where the pursuer sues for the price of goods supplied and the defender does not allege any defect in the goods. Nevertheless such proceedings are the exception; if both sides put forward what appear to be clearly arguable cases it will rarely be possible to refuse caution on this basis.

[11] Under section 726(2) a pursuer may be required to find caution. Caution involves a secondary obligation on the cautioner that is coextensive with the primary obligation of the principal debtor. That indicates in my opinion that the subsection envisages a guarantee of the defender's judicial expenses, rather than merely a level of comfort. That view is supported by the purpose of the subsection, which is to ensure that limited liability is not used as a means of evading the payment of expenses. That purpose can only be properly achieved if those who provide security for the company are liable to the defender in exactly the same manner as the company; otherwise there is a risk that part of the judicial expenses will not be paid. This is confirmed by the terms of Rule of Court 33, which supplements section 726(2). RC 33.6 provides that the bond of caution should oblige the cautioner, his heirs and executors to make payment of the sums for which he has become cautioner to the party to whom he is bound "as validly and in the same manner as the party and his heirs and successors, for whom he is cautioner, are obliged". In my opinion that provision indicates that any caution ordered under section 726(2) should normally amount to a full guarantee of the defender's judicial expenses, in such a way that the cautioner is bound in exactly the same way as the pursuer itself. That seems inconsistent with any form of security that merely provides a level of comfort rather than an outright guarantee. RC 33.4 permits the court to accept other forms of security as an alternative to caution; consignation is specifically mentioned, but others may be approved. In such cases the security is plainly designed to operate as an alternative to caution; consequently it must fulfil the same essential purpose. It follows in my opinion that any such alternative form of security must provide the defender with a guarantee of its expenses, rather than merely a degree of comfort. The need for a guarantee of the expenses is of some significance in the present case, for reasons discussed below at paragraphs [20]-[31].

[12] Counsel for the pursuer made reference to article 6 of the European Convention on Human Rights. Article 6(1) secures to everyone the right to have any claim relating to his civil rights and obligations brought before a court or tribunal. It has been held, however, that the right of access to a court under that provision is not absolute; limitations may be placed on access to a court provided that certain conditions are met. Those conditions are that the limitations should pursue a legitimate aim and that there should be a reasonable relationship of proportionality between the means employed and the legitimate aim sought to be achieved: Teltronic-CATV v Poland, European Court of Human Rights, 10 January 2006, at paragraph 47. The requirement that a litigant should provide security for expenses has been held permissible provided that those conditions are satisfied: ibid. It is clear in my view that section 726(2) pursues a legitimate aim, namely ensuring that the device of limited liability is not used as a means of litigating without paying the other side's expenses if the company is unsuccessful. The compatibility of equivalent provisions with article 6 has been recognized in the Strasbourg case law, which is summarized in Teltronic; authority on this particular point is found in Tolstoy Miloslavsky v United Kingdom, (1995) 20 EHRR 442. The second requirement is that the means adopted to achieve that purpose should be proportionate to the purpose. In my opinion this is a matter that must be considered on a case-by-case basis. So far as Scottish procedure is concerned, however, I am of opinion that the requirement of proportionality will almost invariably be met by the standard approach that the Scottish courts have adopted towards section 726(2). Two features are of particular importance. First, the amount of caution or other security that is fixed will normally be related to the defender's expenses to date together with a reasonable sum to cover probable future expenses during the following stages of the action; caution should not be ordered before the exercise becomes necessary to protect the defender. Secondly, where it is appropriate the merits of the parties' cases will be taken into account by the court. This will be significant in cases where the pursuer has a clear prima facie case and no substantial defence is stated. It follows that the requirements of article 6 will rarely, if ever, be in issue in relation to section 726(2).

 

Pursuer's circumstances: need for security

[13] For section 726(2) to come into operation is must appear to the court by credible testimony that there is reason to believe that the company will be unable to pay the defender's expenses if successful in his defence. In the present case, if the ATE policy is disregarded, I am satisfied that there is credible testimony that the pursuer may be unable to pay the defender's expenses if the defender is successful. Consequently the test in section 726(2) is satisfied, and there is a need for further security at this stage. My reasons for this conclusion are as follows.

[14] It is a matter of admission that the pursuer has ceased trading. The most up-to-date financial statements that were made available were the unaudited statements for the year ended 30 May 2004. That is more than a year after the pursuer's agency was terminated; consequently it is probable that the company's financial situation has not changed greatly since then. The balance sheet discloses an operating profit of £1,102,432 in the year ended 31 May 2003 and an operating loss of £252,102 in the year ended 31 May 2004. Turnover fell from £3,374,652 in the former year to £56,754 in the latter; that obviously reflects the loss of the agency. The balance sheet as at 31 May 2004 disclosed no fixed assets and current assets amounting to £1,078,187, of which £1,074,408 represented debtors and £3,779 cash. Creditors amounted to £401,399; that sum related almost exclusively to debts due in respect of corporation tax and social security and other taxes. I was informed that the debtors figure consists in part of sums that are said to be due by the defender. Whatever their source, however, it is obvious that if the debts in question are paid there is nothing to prevent the directors of the pursuer from distributing those sums immediately, or using them to pay the pursuer's other debts. In any event, it is now more than three years since the pursuer ceased trading; debts that are clearly due should have been paid by now, and it therefore seems likely that the debtors figure will contain an unusually high proportion of bad or disputed debts. Because the pursuer has ceased trading it will not acquire any further assets, at least to any significant extent. The defender had obtained credit rating reports on the pursuer, which indicated that it was a high-risk company. In these circumstances, disregarding the ATE policy, I am of opinion that there is clear reason to believe that the pursuer may be unable to pay the defender's expenses if the latter is successful. Indeed, I did not understand that conclusion to be seriously disputed by the pursuer's counsel; at the hearing on 16 March 2006 junior counsel for the pursuer accepted that the pursuer's accounts could amount to credible evidence that the company might be unable to pay the defender's expenses.

[15] It is clear, however, that the pursuer has access to substantial funds. £100,000 was deposited as security, and I was informed that the premium on the ATE policy obtained by the pursuer was £35,000. I was further informed by the solicitor for the defender that at least part of the pursuer's funding for the action had come from a company known as Inspire Group PLC, which was connected with Mr. William Worthington, a director of the pursuer. I was not given any further information about this company. Nevertheless, it appears that the pursuer has access to significant funds. This is a matter of considerable importance because it means that requiring the pursuer to provide full security for possible liability in expenses cannot be considered unfair. In particular, it cannot be said that the pursuer's claim is being stifled; all that an order for security will do is to compel the pursuer to assume the same risk as a party with substantial funds of its own. This point was recognized in England by Park J. in Brimko Holdings Ltd. v Eastman Kodak Company, [2004] EWHC 1343 (Ch), in the following terms:

"[T]he court should not restrict its evaluation of the ability of a claimant to provide security to the means of the claimant itself. If the claimant cannot provide the security from its own resources, the court will be likely to consider whether it can reasonably be expected to provide it from third parties such as, in the case of a corporate claimant, shareholders or associated companies or, in the case of an individual claimant, friends and relatives. If the case moves to the stage of considering whether the security should be regarded as being available from third parties, the burden still rests on the claimant. He or it has to show that, realistically, there do not exist third parties who can reasonably be expected to put up security for the defendant's costs".

I respectfully agree with that statement of the legal position.

[16] It was suggested on behalf of the pursuer that the defender's termination of the agency relationship was the reason for the pursuer's lack of funds. That is obviously a contention that can be made in many applications for security under section 726(2). In Dean Warwick Ltd. v Borthwick, supra, at 1981 SLT (Notes) 19 Lord Maxwell stated in relation to a similar argument:

"Its fallacy is that it assumes the pursuer will succeed in the action, whereas caution is required because of the possibility that he will not. Moreover, if the requirement to find caution will in fact make it impractical for the pursuer to proceed, that merely goes to demonstrate that the conditions justifying the requirement of caution are fulfilled".

In my opinion that is a complete answer to this argument. In any event, the defender's position is that the termination of the agency relationship was brought about by the pursuer's own actings; thus it is claimed that the pursuer is the author of its own misfortune. At this stage I cannot hold that argument to be irrelevant or manifestly unfounded in fact. Consequently I cannot conclude that any unwarranted action by the defender was the cause of the pursuer's financial difficulties. This illustrates very clearly the fallacy referred to by Lord Maxwell.

[17] Counsel for the pursuer further submitted that I should have regard to the respective strengths of the parties' cases. I agree that in an appropriate case this is an important consideration. In particular, if it appears that either party's case is lacking in good faith, or is plainly irrelevant in law, or is manifestly unfounded in fact, that is clearly of significance in determining whether caution should be ordered. For example, where a pursuer sues for the price of goods that it has supplied to the defender, and the defender makes no complaint about the quality of the goods and does not assert any right of set-off, caution would not normally be ordered. The same might be true if the defender's argument was obviously contrary to the available documentary evidence; in such a case the court might conclude that the defence was unfounded in fact and hence refuse caution. Those are clear cases, however. Where, by contrast, the parties present arguments that cannot be described as clearly irrelevant or unfounded in fact, it is much more difficult to rely on the strengths of the parties' cases as a factor in determining whether caution should be ordered. In such a case the normal rule, that caution will be ordered if it appears that a company pursuer will be unlikely to pay the defender's expenses if the latter is successful, must be applied.

[18] In my opinion the present case is in the latter category. At the outset, it cannot be said that either the pursuer's claim or the defence lacks good faith; I did not understand either side to dispute this. Likewise, I do not think that it can be disputed that the pursuers have presented a prima facie case. Notwithstanding that, the arguments deployed by both sides are clearly complex, and raise issues of law and fact that do not seem to admit of an obvious answer. Two issues have been sent to proof before answer, namely whether the 1993 Regulations apply to the pursuer and what approach should be taken to the quantification of the claim under the Regulations. Counsel for the pursuer suggested that the pursuer's case on both of those matters was very strong. In particular, on the question of whether the Regulations apply to persons who act as agents for suppliers of electricity and gas he relied on the decision of Morison J. in Tamarind International Ltd. v Eastern Natural Gas (Retail) Ltd., [2000] CLC 1397, where it had been held that agents in a position similar to the present pursuers enjoy the benefit of the Regulations. On the question of quantification of compensation, he obviously relied on the decision of the Inner House in King v T Tunnock Ltd., supra. On the first of these matters, the defender contends that electricity, gas and telecommunications services are not "goods" within the meaning of the Regulations; the applicability of the Regulations is confined to agents who negotiate the sale or purchase of goods on behalf of another person. In addition, the defender contends that agents such as the pursuer fall outwith the scope of the Regulations because they do not themselves generate goodwill; the goodwill is rather that of their principal. On the second matter, the approach to quantification of compensation, the defender argues that the parties' relationship is governed by English law, with the result that the decision in King v T Tunnock Ltd., supra, is not binding. In addition, it is said that the French rule adopted in that case, that compensation should normally consists of two years' commission, is not regarded as absolute; at paragraph [49] of his opinion Lord Caplan points out that in France the two year rule is only a benchmark and can be varied at the discretion of the judge. At this stage of the action I should not say anything about the merits of either side's case. It seems to me, however, that substantial arguments are presented on both sides, which will have to be dealt with in due course. This is not a case where it can be said that one side or other is bound to succeed.

[19] In any event, apart from the two matters that form the subject of the preliminary proof, the parties are in dispute as to whether the defender was justified in terminating the agency relationship. The pleadings on this point are not fully developed, essentially because the issues raised have been put to one side pending resolution of the matters sent to preliminary proof. It is clear, however, that the defender contends that the agency was terminated because of the pursuer's conduct, in particular fraud that is said to have been perpetrated by the pursuer's employees. The pursuer accepts that some fraudulent transactions were notified by its employees, but disputes that the termination of the agency was justified. At the present stage I cannot hold that either party is likely to succeed on this issue. That too is a strong reason for rejecting the contention that caution should be refused or restricted because of the relative strengths of the parties' cases. I should mention that senior counsel for the pursuer suggested that, in proposing a proof on two preliminary issues, the defender had waived reliance on the alleged misconduct or fraud of the pursuer. That suggestion is wholly unwarranted. I have consulted my notes of the hearing of 6 December 2005 when the restricted proof was fixed, and it is clear that the two issues that were identified for that proof were both put forward as preliminary issues; there was no suggestion that the defence on the merits was to be waived.

 

Adequacy of ATE policy as alternative security

[20] As already mentioned, the pursuer has obtained an ATE policy covering any liability in expenses in the present litigation up to a limit of £100,000. That policy is now put forward as security in terms of Rule of Court 33.4(2), which permits the court to accept other forms of security as an alternative to a bond of caution. On that basis the pursuer submits that I should reject the defender's motion for further caution under section 726(2). The defender, on the other hand, submits that that policy is not an adequate security to satisfy the requirements of section 726(2).

[21] The availability of ATE policies to fund litigation is relatively recent. I was informed that they are now used extensively in England, largely as a result of the effective abolition of civil legal aid. That is certainly borne out by certain of the English cases to which I was referred. In Scotland they have not been in common use. Nevertheless, it is obvious that the availability of such policies may be extremely helpful in the funding of litigation. Consequently it may be expected that they will be used much more extensively in future. For that reason it is important to give detailed consideration to the question of whether such a policy, by itself, can provide adequate security for the purposes of section 726(2). I say "by itself" because such a policy does clearly confer a considerable level of security on the party who obtains it. The solicitor for the defender submitted that, in a case where caution was ordered, there was nothing to prevent the party finding caution from using the policy as security in order to obtain caution from a bank or insurance company. I can see considerable merit in that suggestion, provided that the cautioner is willing to accept the policy as security. Senior counsel for the pursuer suggested that, because of the deficiencies in the policy identified by the defender, it would not be accepted as security by a prospective cautioner. I do not know whether that is correct; if it is, however, it seems to amount to a clear recognition of the deficiencies of such a policy as security. For present purposes, the pursuer submits that the policy is of itself sufficient security to satisfy the requirements of section 726(2); the defender submits that it is not adequate for that purpose.

[22] The policy is provided to the pursuer by Miller Insurance Services Ltd., and covers the risk of adverse costs in the present action. It relates specifically to the present proceedings. The sum insured is £100,000, and the premium, net of insurance premium tax, is £32,500. The insured's Representative is named as Shepherd & Wedderburn, who are the solicitors acting for them in the litigation; there is also a reference to their senior counsel. The Representative plays an important part in the administration of the policy. Also important in the administration of the policy are the Managers appointed by the insurer. I was informed by junior counsel for the pursuers that the Managers are a team of barristers who manage the Bar Mutual in England. Junior counsel also informed me that the wording of the policy is relatively standard; in that connection he referred to a letter from Mr. James Delaney, who acts as an independent intermediary in this area and who confirmed that the wording was standard.

[23] The effect of the policy is to provide insurance cover in respect of adverse costs up to the limit of £100,000. For security purposes, three features of the policy are potentially significant. The first of these is the effect that the insolvency of the pursuers would have on the policy. To deal with this possibility, the pursuer's agents proposed that the policy should be assigned by the pursuer to the defender as security for the pursuer's obligations to meet any order to pay the defender's expenses in the litigation. That would in my opinion deal in a satisfactory manner with the problem of insolvency. In any event, the rights conferred by section 1 of the Third Parties (Rights against Insurers) Act 1930 appear to be available in respect of an ATE policy to the opposing party in the litigation, although not to a party's own solicitor: Tarbuck v Avon Insurance PLC, [2002] QB 571; the rights of the opposing party were a matter of concession in that case, but the concession appears to be well-founded in principle. That is a further reason for holding that the possibility of insolvency is no bar to accepting an ATE policy as security.

[24] The second feature of the policy that is potentially significant for security purposes is the existence of a substantial number of restrictions and qualifications on the insurer's liability in the course of the litigation. In summary these are as follows. First, throughout the litigation the pursuer and the insurer are obliged to conduct themselves in a spirit of co-operation to achieve the best reasonable outcome. The Representative is to be instructed to report material developments in the litigation to the Managers and to inform the Managers immediately of any change in their appraisal of the pursuer's chances of success or if the pursuer's position changes materially from that given in the insurance proposal. Secondly, throughout the litigation the pursuer is to be obliged to comply with all reasonable advice given by the Representative. Thirdly, if the pursuer wishes to conclude a settlement or to discontinue the litigation it must seek the Managers' approval before doing so. Fourthly, if the Representative informs the Managers that it has formed the view that the pursuer is more likely than not to lose the litigation or that their appraisal of the pursuer's chances of success has changed, but the pursuer nevertheless wishes to continue the litigation, Managers' approval must be sought. Detailed provisions are made regarding Managers' approval, including a right of review by a third party. Fifthly, the indemnity provided by the policy is not to extend to any adverse costs attributable to any failure of the pursuer to co-operate with or to follow the reasonable advice of the Representative, any delay or default on the part of the pursuer or the Representative, any unreasonable conduct on the part of the pursuer or the Representative, or any failure on the part of the Representative to comply with a court order or the Rules of Court.

[25] It is clear that the foregoing features of the policy could limit or even avoid liability in the event that the various obligations on the pursuer and its Representative were not complied with. In order to deal with this matter the pursuer's agents put forward a protocol whereby they undertook to provide information about developments during the course of the litigation that might have a bearing on the policy. In summary, the protocol would provide as follows. First, the pursuer would notify the defender's agents when a report is made to the insurer or Managers of a material development in the litigation (such notification to be confined to the fact of the report rather than its substance), and confirmation would be provided of the insurer or Managers' response. The pursuer would further undertake to report to the insurer or Managers whenever a material development occurred in the litigation; this would involve forwarding any correspondence with the defender that set out the nature of the alleged material development. Secondly, the pursuer would undertake to produce to the defender correspondence relating to the implementation of the protocol, and would undertake on the defender's request to approach the insurer in order to obtain written confirmation that the policy remained in force. Thirdly, the pursuer would undertake to notify the defender's agents of events that required Managers' approval under the policy, and to obtain Managers' approval before performing certain actions in the litigation (those being actions that required Managers' approval under the policy). The pursuer would further undertake to notify the defender of the date of any application for Managers' approval. Fourthly, the pursuer would undertake to notify the defender's agents of any change of counsel or agents, or if the policy were cancelled or avoided. In my opinion a protocol along those lines would deal satisfactorily with the problems that arise from the restrictions and qualifications in the policy that are referred to in paragraph [24]. The implementation of the protocol would obviously require close involvement by the pursuer's agents, but I have no doubt that that task would be satisfactorily performed by the agents in question. It seems to me that the difficulties that arise out of those restrictions and qualifications are essentially matters of communication; if the defender becomes aware timeously that a difficulty has arisen under the policy, it can then take steps to obtain further or alternative security for expenses.

[26] The third feature of the policy that has potential significance for its use as security is the obligation on the insured to provide the insurer with all information that is material to the policy. This is of course a familiar obligation in insurance policies. In the present case it comprises an obligation to inform the insurer of all material information at the inception of the policy and of any material change to such information that may occur during the course of the policy period. The policy may be avoided if that obligation is not complied with.

[27] Similar provisions in ATE policies have been considered by the English courts in a number of cases. In Nasser v United Bank of Kuwait, [2001] EWCA Civ 556, the Court of Appeal considered the question of security for costs in relation to a claim for the loss of items of jewellery allegedly stolen from a safe deposit box. ATE insurance was not put forward as a means of providing such security but the possibility was raised in the course of argument. On this matter, Mance LJ stated (at paragraph 60):

"[E]ven where a claimant or appellant is resident abroad, there may of course be special factors indicating that any order for costs will be satisfied in some other fashion. The interesting possibility was raised before us that a claimant or appellant who has insured against liability for the defendants' costs in the event of the action or appeal failing might be able to rely on the existence of such insurance as sufficient security in itself. I comment on this possibility only to the extent of saying that I would think that defendant would, at the least, be entitled to some assurance as to the scope of the cover, that it was not liable to be avoided for misrepresentation or non-disclosure (it may be that such policies have anti-avoidance provisions) and that its proceeds could not be diverted elsewhere".

That is a clear recognition of the relevance of provisions in an ATE policy that avoid it in the event of misrepresentation or non-disclosure. Henry v British Broadcasting Corporation, [2005] EWHC 2503, involved a defamation action in which one of the defences advanced was justification. The plaintiff's solicitors obtained ATE insurance under a policy that provided that the insurer should not be liable if the insured had given any fraudulent, false or misleading information in connection with the legal action, or if the insured had failed to provide any material information in connection with the action. Gray J. commented (at paragraph 21):

"The significance of provisions such as these is obvious in the case where one of the defences relied on is justification: if the defence of justification, involving as it does allegations of deception and cover-up on the part of the Claimant, were to succeed, it is, to put it no higher, very likely that the insurer would be able to disclaim liability for the costs incurred by the 'opponent', i.e. the BBC".

A similar view was conceded in Al-Koronky v Time Life Entertainment Group Ltd., [2005] EWHC 1688. That case also involved a defamation action in which justification was put forward as a defence. Eady J. referred, at paragraph 30, to the fact that it had ultimately been acknowledged on the claimants' behalf by their solicitor that that was no ATE insurance that was likely to be of any value whatsoever to the defendants should they succeed.

[28] Henry and Al-Koronky both involved actions for defamation in which justification was put forward as a defence. In such cases the risk that an ATE policy has been obtained by misrepresentation is clearly very high. If the claimant in such a case fails, the event when ATE insurance becomes important, the likely reason is that his or its version of events is disbelieved by the court. Counsel for the pursuer submitted that the risk was confined to cases of that nature, where credibility was sharply in issue. I do not agree. In Nasser reference is made to the possibility of avoidance for either misrepresentation or non-disclosure; failure to disclose a material fact is a standard ground for avoidance of an insurance policy. In the present case, the documentation produced by the pursuer indicates that the pursuer was under an obligation to inform insurers of all material information at the inception of the policy, and to disclose any material change in such information during the course of the policy period. In my opinion non-disclosure is a particularly significant risk, because it is very difficult for even the most conscientious of solicitors to be certain that they have unearthed all material facts about the action before applying for ATE insurance. Critical facts may be known only to an individual who has not been precognosced, or those who have been precognosced may not have disclosed fully everything that they know about the case. This risk inevitably places a substantial limitation on the extent to which an ATE policy can be used to provide security for expenses. Moreover, that limitation extends not only to cases where credibility is sharply in issue, as with the defence of justification, but also to any case where there is a significant possibility that not all of the material facts have been discovered.

[29] In my opinion the present case is one in which the risk of non-disclosure is significant. The matters in issue will clearly be the subject of oral evidence from various witnesses. Matters may emerge in the course of that evidence that were not fully disclosed to the ATE insurers. Moreover, allegations of fraud are made by the defender. In particular, it is said that the pursuer, acting through its employees, submitted fraudulent contracts to the defender, and that the discovery of those contracts was a major reason for the termination of the pursuer's agency. The pursuer, for its part, admits that some fraudulent contracts were submitted, although it suggests that they were the work of a single rogue employee. It is clearly impossible at this stage to know where the truth lies. Nevertheless, when allegations of fraud are responsibly made, the risk that not all material facts have been disclosed to the insurers is heightened. In addition, if fraud is established, the credibility of witnesses is put in issue. In that event there is an obvious risk that false statements might have been made to the insurers. For this purpose it is not relevant that the false statements have been made inadvertently; if they are material they will entitle the insurers to avoid the contract of insurance. In this connection I consider that the English cases dealing with defamation actions, Al-Koronky and Henry, are in point. It is true that the issue of credibility in the present case does not arise in such a stark form as in those cases. Nevertheless, I am of opinion that in most cases where allegations of fraud appear to have been made responsibly there must be a question as to whether the whole of the material facts have been disclosed to the insurers. In such a case, therefore, a significant doubt must exist as to the validity of any ATE policy that has been granted on the basis of those representations.

[30] This leads on to the question of whether the allegations of fraud have been responsibly made. In considering this question, I am of opinion that averments cannot merely be taken at face value; the court must scrutinize the pleadings and if necessary the supporting documentation to ensure that the allegations of fraud have been properly made. In the present case senior counsel for the pursuer submitted that the defender's allegations of fraud were insufficiently developed in the pleadings to be taken into account; in particular, he drew attention to the lack of a plea-in-law dealing specifically with fraud. In reply, the solicitor for the defender stated that the pleadings on this part of the case had not been fully adjusted; following the allowance of proof on two preliminary issues the process of adjustment had been concentrated on those issues alone. In my opinion the defender's averments of fraud are sufficiently relevant and specific to be taken into account for present purposes. First, to a limited extent the charge of fraud is admitted by the pursuer, and that inevitably leads to the inference that at least some of the allegations of fraud are well-founded. Secondly, the averments of fraud, even in the present form, are not merely general in nature; reference is made to specific instances of fraudulent contracts in particular locations. That suggests that the matter has been properly investigated, and that the pleadings are not based on vague allegations that have not been critically examined by the defender's legal advisers. Thirdly, it was not suggested that the averments of fraud were made in bad faith, and indeed that might be difficult in view of the partial admission of the averments. In these circumstances I conclude that the averments of fraud appear on their face to have been responsibly made. This does not of course mean that I hold that there is any substance in those averments, apart from the limited admissions made by the pursuer; for present purposes I am not concerned with the accuracy of the averments but merely with the question of whether they appear to have been responsibly made. If the averments have been responsibly made, I am of opinion that the court may hold that there is a substantial risk that, if the defender is successful on the merits, the ATE policy may in future be avoided for the failure to disclose all material facts. In the present case, I draw that inference. Finally, I should say that I do not regard the absence of a plea-in-law dealing specifically with fraud to be material for present purposes. The substance of the defender's allegations seems clear.

[31] For the reasons stated above I am of opinion that the pursuer's ATE policy does not provide the defender with sufficient security to satisfy the requirements of section 726(2). As indicated above at paragraph [11], I consider that that subsection envisages a guarantee of the defender's judicial expenses rather than merely a level of comfort. In my opinion, in the circumstances of the present case, an ATE policy that is liable to avoidance for non-disclosure or misrepresentation does not provide such a guarantee. It does not follow, however, that such policies are of no assistance in cases such as the present. As the solicitor for the defender suggested, such a policy can be used as a form of collateral. Senior counsel for the pursuer suggested that a bank would not regard the policy as sufficient collateral for a guarantee; even if that is so, such a policy should provide a substantial level of assistance to any third party who funds the litigation. As I have mentioned above, this appears to be such a case. In such a case the ultimate question in relation to such a policy is who should bear the risk of avoidance for non-disclosure or misrepresentation. In view of the scheme of section 726(2), I am of opinion that that risk should not be borne by the defender but rather by the person who is funding the pursuer. There is some justice in that result, because any failure to disclose facts fully will almost invariably be the responsibility of persons for whom the pursuer is answerable. Nevertheless, the person who funds the litigation may be materially assisted by the policy, provided that it is not avoided. To that extent the availability of such policies may be of considerable benefit in funding litigation in Scotland in the future.

 

Amount of security

[32] It follows that I will order the pursuer to provide further security for the defender's expenses. The final question is how much security should be ordered at this stage. The pursuer's present motion is for additional caution of £150,000. It was explained that that sum was based on the pursuer's expenses to date together with the estimates provided by the defender's experts for the work that they required to do in preparation for the proof that is scheduled to take place in the autumn. At the hearing on 16 March 2006 I was informed that the expenses to the end of January 2006, exclusive of value added tax, amounted to £115,000. Of that sum, it was thought that £62,000 would be recoverable as judicial expenses. Two experts have been engaged by the defender. The first, Oxera, is an economics consultancy which has been instructed to provide a report on the deregulation of the electricity industry and the economic impact that that had on those who operate in that industry. Those matters are of relevance to the matters that arise in the forthcoming proof, in that the defender contends that any compensation due to the pursuer should be based on the goodwill built up through the pursuer's efforts rather than goodwill that was the defender's in any event. The second expert is Melanie Thill-Tayara, a member of the Paris bar who specializes in European and French antitrust and competition law and related commercial agreements. She is to give evidence on the French law relating to compensation for the termination of commercial agency agreements. I was informed that Oxera had estimated that their fee for the work required to prepare a report for the court was £190,000. Mrs. Thill-Tayara had estimated that her fees would be approximately €25,000 (£17,400) in total.

[33] The pursuer has also instructed expert reports from an economics consultancy and a French lawyer. The economics consultancy, NERA, is an international firm that specializes in, among other areas, energy economics. It is to prepare a report for the litigation; I was informed that this work would be carried out by a director, Mr. Graham Shuttleworth. NERA has estimated its fee for the report at £19,875 plus value added tax and expenses. The French lawyer is Dr. Severine Saintier, who lectures in law at Sheffield University. She has estimated that her fees for drafting an agreed statement of facts on French law and preparing a report on any additional matters will be in the region of £1,750. It is obvious that there is a great disparity between these estimates of fees and the estimates provided by the defender's experts. The discrepancy in the fees of the two French lawyers is perhaps less significant, because Mrs. Thill-Tayara's fee, as I understand it, covers attendance at the proof as well as the preparation of a report; in addition, she requires to travel from Paris. The difference between the fees estimated by the two economics consultancies, however, is very striking. Counsel for the defender founded on the discrepancy, and submitted that the scale of fees contemplated by the pursuer would not be accepted at taxation. On that basis there could be no justification for ordering caution to cover the whole of those fees. The solicitor for the defender very frankly accepted the discrepancy, and suggested that the explanation must be a major difference in the scope of the work instructed by each side. He stated that that this stage it was impossible to know whether the defender had instructed too much work on the pursuer too little.

[34] I agree with this assessment. The scale of the discrepancy is such that there must be major differences in the work that is carried out; at this stage, however, I am quite unable to decide which side has judged the amount of work correctly. I also agree with the pursuer to this extent: I think that there is a clear possibility that the fee payable to the defender's economics expert may be reduced at taxation unless the whole of the work that has been carried out is objectively justified. Nevertheless, it must be borne in mind that the pursuer's claim for compensation for termination of the commercial agency relationship amounts to more than £5 million; the fees payable to experts must be judged to some extent against the scale of the claim.

[35] The foregoing considerations make it very difficult to form an opinion as to the level of security that is required on anything other than a very broad brush basis. In fixing the amount of security, I am of opinion that a judge may have regard to general knowledge of the scale of expenses in a typical case similar to the case under consideration; that is probably the only way in which major discrepancies in parties' fee estimates can be reconciled. The present case involves major and complex commercial litigation. In such a case it is to be expected that very substantial expenditure will be incurred in preparing for proof. Security of £100,000 has been provided already, through the deposit of funds in a joint account. At the present stage, some three months before a five-week proof is due to start, I think that security of £175,000 in total is clearly justified; that proceeds essentially on my knowledge of the scale of fees to be expected in other major commercial actions. That level of security takes account of further preparation but not the expenses of the proof itself.

[36] I will accordingly ordain the pursuer to find caution or alternative security for the defender' expenses in the sum of £75,000 in terms of section 726(2) of the Companies Act 1985.