The test of time

A 19th century ruling on fiduciary duty has remained at the core of recent judgments on trustee liability. David Halpern reports

One of the great joys of commercial chancery law is to witness, and be part of, the process of the continuing evolution of principles of equity. The exploitation of corporate opportunities is a case in point. The rule preventing trustees from making unauthorised profits and from getting into positions of conflict were well established by 1896, when the House of Lords explained that their purpose was not to punish immoral behaviour, but to keep fiduciaries up to the mark and prevent them from succumbing to the risk of temptation (Bray v Ford (1896)).

The rule has always been a strict one and in some cases it might be thought to go further than is necessary to do justice. In Boardman v Phipps (1967), trustees had a shareholding in a company. The trustees’ solicitor used information obtained through the trust to acquire control of the company and made a large profit out of this opportunity. A bare majority of the House of Lords held that the solicitor was liable to account for the profit which he had made out of his fiduciary position. However, because he had acted honestly and openly, he would be entitled to a ‘liberal allowance’ for his time and trouble. Later decisions have extended this liberal allowance to situations where the fiduciary has been more deserving of criticism, as long as there has been no actual dishonesty.

Today the no-profit rule and the no-conflict rule apply in a wide variety of contexts, including for company directors, trustees and professionals with fiduciary obligations. The common feature of all these cases is that the defendant owes a duty of loyalty to the claimant, so that there is not a level playing field.

The latest word on the subject is the decision of Mr Justice Lewison in Ultraframe (UK) v Fielding (2005), a 487-page judgment which was given within two months of a 95-day hearing. The case arose out of Ultraframe’s allegations that Fielding had effectively stolen its business in the field of conservatory roof design and Fielding’s allegations that Ultraframe had sought to destroy his business. The judgment clarifies and develops the no-profit and no-conflict rules in a number of important respects:

  • The rules do not usually apply to a shadow director (ie someone whose instructions the directors are accustomed to following), since they are not actually a fiduciary but are instead liable to account as if they were one. However, the rules may apply to them if they start to exert direct control as distinct from indirect influence.
  • The no-conflict rule is not absolute but applies only where there is some temptation to which the fiduciary could conceivably succumb. Hence it does not apply after they have resigned their office, nor does it apply if they are unable to exercise the relevant discretion on behalf of their beneficiary/ company despite being in office. It follows that it does not apply to a director of a company in administrative receivership.
  • It is clear that a fiduciary may make an authorised profit, since otherwise no one could be paid for being a director or solicitor. But there is an absolute rule against the making of unauthorised profits, which is tempered only by the court’s discretion when ordering an account of profits.
  • The misuse of a corporate opportunity may be analysed in terms of either of these two rules. Although some of the cases loosely describe a corporate opportunity as trust property, it is usually not property in the strict sense and hence there is usually no right to trace (ie follow the original or substitute assets into the hands of the wrongdoer). The wrongdoer is liable to account either for the profit which they have wrongfully made or so as to put the beneficiary/company into the position it would have been in had they done their loyal best without being in a position of conflict. This liability to account gives rise to a personal and not a proprietary claim, unless (exceptionally) the beneficiary/company is able to trace. The discretionary nature of the liberal allowance indicates that this is a personal, not a proprietary, remedy.
  • Where a director sets up a new company to exploit a corporate opportunity, that company is not personally accountable for the profit unless the corporate veil can be pierced.
  • Where the director is held liable to account for unauthorised profits, the degree of accountability must bear a ‘reasonable relationship’ to the breach of duty, but is otherwise subject to the discretion of the judge, who may apply principles such as the liberal allowance.
  • An accessory who dishonestly assists a trustee or director to commit a breach of duty is not liable for any profits wrongfully made by the trustee or director, but only for profits that they personally have made. This is surely right, since otherwise the accessory would be liable to pay gains-based damages where they have made no gain and the victim had suffered no loss.

    Lewison J’s masterly judgment has shown how principles developed in the 19th century remain effective tools that can be moulded to fit 21st century situations. The decision answers many questions but also throws up many more. It is likely that future cases will focus particularly on the factors which equity will take into account in exercising its discretion to order an account of profits, including the causal link which needs to be proved. Decisions of Lord Hoffmann over the past decade have done much to clarify the legal analysis of causation in the context of the law of negligence; what is now needed is something equivalent in the field of equitable compensation.

    David Halpern is a barrister at 4 New Square