Madoff Litigation: UCITS Investor Rights And Depositary Liability

The Irish Commercial Court (Costello J) has recently clarified a number of issues regarding an Irish investment company authorised as a UCITS fund which will also have relevance for investment companies generally.[1]

The judgment: (i) clarified the difference between an "investor" and a "unit-holder"; (ii) restated long-established rules of company law, including who can sue when a company suffers loss; and (iii) opined on the liability of depositaries under the European Communities (Undertakings for Collective Investment in Transferable Securities) Regulations 2003 (as amended) (the "2003 UCITS Regulations"), implementing Directive 85/611/EEC (as amended) (the "Directive") (which are commonly referred to as the "UCITS III" regime). [2]

Background

Thema International Fund plc ("Thema") is an Irish regulated investment company governed by Irish company legislation. It appointed HSBC Institutional Trusts Services (Ireland) Limited ("HSBC") as the depositary (known as a "trustee" under the 2003 UCITS Regulations) for its assets. A central requirement of the UCITS regime is that fund assets are entrusted to a depositary for safekeeping, which must then hold such assets separate from its own assets, and generally its liability is not affected when delegating safekeeping to any sub-custodian.

HSBC appointed Bernard Madoff Investment Securities LLC ("BLMIS") as sub-custodian of substantially all of the assets in the Thema fund. The entire Thema fund was lost due to the collapse of the enormous Ponzi scheme operated by Bernard Madoff and BLMIS.

In December 2008, Thema instituted proceedings against HSBC arising from the Madoff fraud, alleging various wrongs against HSBC and its agents, including breaches of the 2003 UCITS Regulations, breach of contract, breach of fiduciary duty and tortious breaches. HSBC ultimately settled with Thema. [3]

The plaintiffs (Alico Life International Ltd and Mr Shmuel Harlap) instituted proceedings against Thema and HSBC in 2009. In response, Thema and HSBC contended that they did not owe any actionable duty to the plaintiffs in circumstances where the plaintiffs were not unit-holders in the fund.

They also contended that, even if the plaintiffs were unit-holders, any duty to the plaintiffs was barred by operation of the rule in Foss v Harbottle [4] and/or the rule against reflective loss. [5] HSBC also argued that the plaintiffs did not enjoy any direct right of action under the 2003 UCITS Regulations against it in its capacity as depositary/trustee.

Meaning of "Unit" and "Unit-Holder" [6]

The Commercial Court determined that "units" in the context of an investment company [7] are the shares in that company, and not any...