The Supreme Court has delivered a significant judgement in a recent case, clarifying the scope of remedies available to companies when directors breach their fiduciary duties by making secret profits and dissipating them with the aid of dishonest third parties.
Facts:
Hotel Portfolio II UK Ltd. (HPII) was the owner of a portfolio of hotels, some of which were recognised as having, at least in principle, potential for development and conversion into premium residential accommodation. Companies controlled by Mr. Ruhan bought HPII in mid-2003. In a restructuring in late 2004, the ownership of HPII was equally divided between Mr. Ruhan’s companies, Morgan Stanley Bank Ltd., and Thistle Hotels plc., while Mr. Ruhan was serving as a director of HPII.
Morgan Stanley and Thistle wished to realise their investment in HPII and authorised Mr. Ruhan to accept bids for the Hyde Park Hotels in excess of £125m. In March 2005, Cambulo Comercio e Serviços Sociedade Unipessoal LDA, a company incorporated in Madeira (Cambulo Madeira), agreed to purchase the Hyde Park
Hotels from HPII for £125m. Cambulo was ostensibly beneficially owned by Mr. Stevens. However, it transpired that Cambulo and Mr. Stevens were acting as Mr. Ruhan’s nominees.
While the initial sale was at market value and caused no loss to HPII, Mr. Ruhan, via Cambulo, later sold the hotels for a significant profit (over £100m) after obtaining planning permission for residential development. Mr. Ruhan then dissipated these profits for his own benefit.
HPII sued both Mr. Ruhan for breaching his fiduciary duties and Mr. Stevens for dishonestly assisting him. The High Court ruled in favour of HPII, finding that Mr. Ruhan had breached his duties and held the profits on constructive trust for HPII. Mr. Stevens was found liable for dishonestly assisting in the dissipation of these profits and ordered to pay £102m in equitable compensation. However, the Court of Appeal (CoA) overturned Mr. Stevens' liability, reasoning that a dishonest assistant is only liable for losses caused by the fiduciary's breach, not for the fiduciary's profits. HPII appealed to the Supreme Court.
Decision:
Supreme Court, by majority, allowed the appeal with only Lord Burrows dissenting. The Court held that, since the unauthorised profits made by Mr. Ruhan were held on constructive trust for HPII, they were HPII's property. Therefore, Mr. Stevens, having dishonestly assisted in the dissipation of these profits, was liable to compensate HPII for that loss.
The Court found that, when profits are held on constructive trust, they are beneficially the property of the wronged party (HPII). Dissipating these trust funds, thereby preventing HPII from claiming its property, unequivocally gives rise to a remedy of equitable compensation.
Implications:
The case strongly reaffirms that directors owe a fundamental fiduciary duty to their company to avoid situations where their personal interests conflict with those of the company. Mr. Ruhan's secret acquisition of the hotels through a nominee company was a clear breach of this duty.
Closely related to the no-conflict rule, directors are prohibited from making unauthorised profits from their position. The profits Mr. Ruhan made from the onward sale of the hotels, directly stemming from his initial undisclosed acquisition, were deemed to have been unauthorised and held on constructive trust for HPII. This highlights that any benefit gained by a director from exploiting their position, without the company's fully informed consent, belongs to the company.
The Supreme Court's emphasis on the fact that unauthorised profits were held on an institutional constructive trust from the moment Mr. Ruhan received them is crucial. This means the profits were always HPII's beneficial property, and merely just a sum he owed them. This proprietary claim is powerful because it gives the company a stronger right to the assets, even if they have been intermixed with other funds or passed through various hands.
The most significant implication of this case is the Supreme Court's clarification that equitable compensation is available against a dishonest assistant for the dissipation of profits held on constructive trust, even if the company itself would not have made those profits.