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23 August 2019
In ZCM Asset Holding Company (Bermuda) Ltd v AWH Fund In Liquidation JCPC, the Privy Council determined that, notwithstanding the absence of express statutory provisions permitting service out of the jurisdiction of fraudulent preference claims, such claims are to have extraterritorial effect.(1)
An investor in a mutual fund, ZCM Asset Holding Company (Bermuda) Ltd, subscribed for shares in AWH Fund on behalf of a third party, American Express Alternative Offshore Investments Ltd (AMEX). The liquidator alleged that ZCM had redeemed shares resulting in a payment of $13 million within the three-month statutory period which could warrant such a payment being set aside as a fraudulent preference.
By way of a summons filed in the liquidation proceedings pursuant to Order 11, Rule 8(4), the liquidator applied for ZCM to be served outside the jurisdiction in Bermuda and sought a declaration that the payment made to ZCM be deemed void as undue or a fraudulent preference pursuant to Section 160 of the International Business Companies (IBC) Act and set aside accordingly.
Although at first instance it was held that there was no statutory jurisdiction to permit such service outside the jurisdiction, on appeal to the Court of Appeal of The Commonwealth of The Bahamas, it was determined that the IBC Act was intended to have extraterritorial effect, as it applied to investors that carried on business outside The Bahamas.
The Privy Council adopted an extraterritorial approach to the IBC Act within the scope of insolvency proceedings. Section 72 of the Bankruptcy Act 1870 sets out the test as to whether a payment made to a creditor constitutes a fraudulent preference, which requires an intention to prefer a creditor over other creditors in making the payment within three months of the bankruptcy.
The board had to consider the Bankruptcy Rules 1871, which did not create jurisdiction for service of a fraudulent preference claim outside the jurisdiction. The liquidator sought recourse to do so through Order 11 of the Rules of the Supreme Court 1978 (RSCs), which conferred the statutory power to serve proceedings outside the jurisdiction, including an interlocutory summons. However, the board held that "Ord 1 rule 2(2) is a self-denying ordinance by which the RSC 'shall not have effect in relation to… proceedings relating to the winding up of companies [under the] Companies Act, Part VII'".
Given that the RSCs do not apply to proceedings relating to the winding up of companies, ZCM argued that they could not be relied on as the Bankruptcy Rules were the relevant rules of application.
The board held that "it is now settled law that insolvency proceedings can have extraterritorial effect",(2) and that "in the Board's judgment, the present case is close to In re Seagull Manufacturing Co Ltd.  Ch 345 because, as the Board has already held, section 160 is not territorially limited in its application".(3)
The board further determined that:
Times have moved on since the nineteenth century when the relevant provisions in bankruptcy were enacted, and it would not be surprising to find provision now being made for service out. Trade takes place increasingly on an international basis. So does fraud. (per Sir Donald Nicholls in In re Paramount Airways  Ch 223, 239). Moreover, the IBC was established to create a vehicle for international investors.
The board noted that while the presumption against extraterritorial effect is important, it cannot override any sufficient express provision; however, while there is no parallel decision in Bahamian law, given Section 160 of the IBC Act's wide ambit, one "would a priori expect procedural rules to exist to enable the court to exercise those powers". Therefore, the board determined that the RSC provide the necessary jurisdiction.
The board held that the real protection for the foreign respondent is that there has to be a sufficient connection between the respondent and the jurisdiction of The Bahamas Supreme Court before the court has jurisdiction to entertain a claim for avoidance of the payment of redemption proceeds under Section 160 if the respondent is outside its jurisdiction.(4)
ZCM had argued that the statute was not intended to have extraterritorial effect and that a fraudulent preference claim cannot fall within the scope of Order 11, Rule 1(1). However, the board concluded that it was unnecessary to identify a jurisdictional gateway under Order 11, Rule 1,(5) as the liquidator's claim that the payment of redemption proceeds to ZCM was a fraudulent preference. It is also deemed unnecessary to show (for example) a jurisdictional gateway for the consequential claim for repayment of monies.(6)
The board argued that ZCM was not a proper party to the proceeding as its position was analogous to that of:
It was argued in the circumstances that on the evidence, the dominant intention to prefer must be shown and an intent to prefer could not be inferred. Moreover, it was argued that that the choice of law clause in the subscription agreement could not apply to the liquidator's present claim.
The board determined that after considering the jurisdictional requirements, a claimant must decide on an application for leave to serve outside the jurisdiction (ie, there must be a good arguable case); however, the board disagreed that there must be direct evidence of a dominant intention to prefer, as such an inference can be made from other evidence.(7)
The board determined that there must be plausible evidence for inferring that, when it redeemed the shares registered in the name of ZCM, AWH had known itself to be insolvent and that it had accordingly had the requisite dominant intent to prefer.(8) Further, ZCM's evidence that other requests had been made after its clients and that they had been redeemed in August 2002 would not of itself be sufficient to negate any intent to prefer.
It was therefore held that ZCM was the registered holder of the shares and that, when it had become a member of AWH, it had become a party to AWH's articles of association. Further, Article 2.06 of AWH's articles of association provided in the usual way that it was entitled to recognise the registered holder as the sole owner.
The Privy Council stated that:
Those articles mean that ZCM agreed to stand in the relationship of principal as regards AWH. There was nothing before the Board to suggest that AWH had agreed that any other person should be treated as the registered holder. ZCM held the legal chose in action resulting from the redemption request and it would have been the proper claimant to sue for the unpaid redemption monies.(9)
The board found ZCM to be the right respondent to the summons and held that it remains open to ZCM to pursue any remedy against the persons that it paid.
This decision clarifies the law as it relates to the extraterritorial effect of fraudulent preference claims; however, it also creates difficulties for subscribers to mutual funds that may be held liable for investments made on behalf of third-party beneficiaries that are the ultimate recipients of payments.
For further information on this topic please contact Sophia Rolle-Kapousouzoglou at Lennox Paton by telephone (+1 242 502 5000) or email (firstname.lastname@example.org). The Lennox Paton website can be accessed at www.lennoxpaton.com.
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