This article was first published on Practical Law's Dispute Resolution Blog.

The facts

In 2006, Swynson Ltd proposed to lend £15m to finance a management buy-out. It instructed Lowick Rose LLP (then called Hurst, Morrison Thomson (HMT)) to carry out due diligence on the target company. HMT did so negligently. But for its negligence, the loan would not have been made.

In 2008, the borrower (EMSL) defaulted. Swynson’s controlling mind, Mr Hunt, didn’t want the non-performing loan to be on Swynson’s books, so he personally loaned EMSL money to repay Swynson, which it duly did.

In 2012, Swynson sued HMT for damages equivalent to the entire loan (less minor recoveries). Unsurprisingly, HMT said the claim was misconceived since the loan had been repaid.

The arguments

Swynson raised three arguments to justify its claim:

  • First, the transaction that resulted in the repayment of the loan in 2008 was res inter alios acta (something done between others) and so did not go to reduce Swynson’s recoverable loss.
  • Second, Swynson was entitled to recover on the principle of transferred loss.
  • Third, Mr Hunt was subrogated to Swynson’s claim against HMT because it had been unjustly enriched by his loan to EMSL.

Before Rose J, Swynson succeeded on the res inter alios issue (the other arguments were not considered). The Court of Appeal upheld Rose J’s decision by a majority.

The Supreme Court unanimously allowed HMT’s appeal, and held that the repayment of Swynson’s loan did have the effect of extinguishing HMT’s liability to Swynson.

Res inter alios acta

The Latin phrase res inter alios acta is a label used for collateral payments made to the claimant “which the law treats as not making good the claimant’s loss” (per Lord Sumption at paragraph 11). Classic examples are proceeds under an insurance policy, disability pension payments, and gratuitous payments in an act of benevolence. Lord Sumption said that in such cases:

“… the law treats the receipt of the benefit as tantamount to the claimant making good the loss from his own resources, because they are attributable to his premiums, his contributions or his work”.

In the Court of Appeal, Longmore LJ viewed Mr Hunt’s loan as being in substance equivalent to him giving the money to Swynson. Since the law would treat such a gift as res inter alios, it “would be a triumph of form over substance” to treat the transaction that in fact took place differently.

Similarly, Sales LJ (in the Court of Appeal), referencing Lord Reid in Parry v Cleaver, said that it would be:

“… contrary “to the ordinary man’s sense of justice, and therefore contrary to public policy” (to use Lord Reid’s language) that the funding Mr Hunt was driven to provide to help Swynson in the difficult position in which it found itself as a result of HMT’s negligence should be treated as inuring to the benefit of HMT rather than Swynson alone”.

The Supreme Court rejected the view that the 2008 transaction was legally equivalent to Mr Hunt making a gift directly to Swynson. The difference is that the former involved the discharge of EMSL’s debt to Swynson, whereas the latter would not have done so. It made no difference that EMSL’s ability to repay Swynson was because of Mr Hunt’s loan.

Transferred loss

The principle of transferred loss is an exception to the general rule that A may only sue B for breach of contract in respect of loss suffered by A. There are two scenarios where it has been held to apply.

First scenario: A contracts with B for the carriage of goods in circumstances where both parties intend that the carriage is for the benefit of both A and C, to whom A had sold the goods. If the principle was unavailable, A would not be able to sue B for damage to the goods, since A had sold the goods to C. But since C was not a party to the contract of carriage, C could not sue B, even though B’s default had caused C to suffer loss. To avoid such a legal “black hole”, the law recognises A’s right to sue B, on the footing that A would be accountable to C for any proceeds.

Second scenario: B carries out construction works defectively in breach of his or her contract with A, but where the loss is suffered by the building’s purchaser (C). C cannot sue B because C is not a contracting party, and while A has (by reason of the sale) suffered no loss, the law allows A to sue B for C’s loss.

The Supreme Court said that the doctrine did not avail Swynson. The clearest reasoning is that of Lord Neuberger.

First, unlike in the scenarios outlined above, Mr Hunt’s loss did not arise because HMT’s negligence resulted in damage to an asset or property that passed from Swynson to Mr Hunt:

“The losses may be very similar in nature (non-repayment of a loan made to EMSL), in cause (EMSL’s financial problems), and in quantum (as the new loan was very similar in amount to the original loan and identical to the extent that it was used to pay off the original loan). However, Mr Hunt has suffered loss in relation to the new loan whereas Swynson would have suffered a loss in relation to the original loan.” (Lord Neuberger at paragraph 107).

Secondly, it was no part of the bargain between Swynson and HMT that HMT’s contractual performance would be for the benefit of Mr Hunt. In other words, Swynson could not demonstrate that Mr Hunt “can fairly be said to have been an intended beneficiary of Swynson’s contractual rights against HMT” (Lord Neuberger at paragraph 108).

Unjust enrichment

In Commissioners for HM Revenue and Customs v The Investment Trust Companies (in liquidation), Lord Reed, following Lord Steyn in Banque Financière de la Cité v Parc (Battersea) Ltd, posed four questions for determining whether a claimant has a cause of action for unjust enrichment:

  • Has the defendant been benefited, in the sense of being enriched?
  • Was the enrichment at the claimant’s expense?
  • Was the enrichment unjust?
  • Are there any defences?

Mr Hunt argued that:

  • HMT was enriched by the discharge of its liability to Swynson.
  • Enrichment was at his expense, because it (indirectly) resulted from his loan to EMSL.
  • The enrichment was unjust, because it arose only because of Mr Hunt’s decision to restructure the financing of EMSL as between him and Swynson and it would be wholly adventitious for HMT to benefit from that restructuring.
  • There were no defences.

The Supreme Court recognised the attraction of Mr Hunt’s argument, but said that it was contrary to established principle. The crux of the court’s decision was the fact that, when Mr Hunt made the loan to EMSL in 2008, he got precisely what he bargained for: repayment to Swynson of the original loan and a right to recover the new loan from EMSL. By contrast and as the authorities make clear, an unjust enrichment claim requires there to be some defect in the transaction. The fact that Mr Hunt’s loan to EMSL had the indirect effect of relieving HMT from liability was not a defect in the transaction. Rather, it was a legal consequence arising from the payment by EMSL to Swynson.

Conclusion

The Supreme Court’s decision in Swynson will be welcomed by purists, since it sends the clear message that questions of loss and damages must be answered on a principled basis, not on loose considerations of justice and fairness. Whilst it may well be unfair that Mr Hunt’s misguided loan to EMSL was ultimately to nobody’s benefit but HMT’s, correcting that result would require the law to bend to the point of breaking. This was something that the Supreme Court was not prepared to allow.