Reflecting On Reflective Loss

Primeo Fund (In Official Liquidation) and Bank of Bermuda (Cayman) Limited, HSBC Securities Services (Luxembourg) SA (Cayman Islands Court of Appeal 13 June 2019)

The common law principle of reflective loss has been judicially described as a "perplexing and developing area". The most recent decision of the Court of Appeal in the Cayman Islands has highlighted the importance of paying close attention to the scope and application of the principle.

On 13 June 2019 the Cayman Islands Court of Appeal gave judgment in Primeo Fund (In Official Liquidation) and Bank of Bermuda (Cayman) Limited, HSBC Securities Services (Luxembourg) SA in which it held that recovery by Primeo of losses caused by the administrators and custodian of the feeder funds, through which they were invested in Bernard L Madoff Investment Securities LLC ("BLMIS"), were barred by the principle of reflective loss, even though wrongdoing had been established.

Originally Primeo had invested directly in BLMIS, but later, in 2003, it had changed to investing indirectly through two feeder funds, Herald Fund SPC ("Herald") and Alpha Prime Fund Ltd. ("Alpha"). At first instance, the Judge had held that it was irrelevant that when the cause of action arose Primeo was not a shareholder in Herald or Alpha, and that, provided there was a real prospect of success of a claim by Herald or Alpha succeeding, Primeo's claim would be barred by the principle of reflective loss. This decision was upheld on appeal.

The reflective loss principle applies where a shareholder1,2 and a company both have a claim against a defendant arising out of the same facts. Unless all or part of the shareholder's loss is separate and distinct from the loss suffered by the company it will not be recoverable in an action brought by the shareholder against the defendant.

The classic formulation of this principle is that of Lord Bingham in Johnson -v- Gore Wood3

"Where a company suffers loss caused by a breach of duty owed to it, only the company may sue in respect of that loss. No action lies at the suit of a shareholder suing in that capacity and no other to make good a diminution in the value of the shareholder's shareholding where that merely reflects the loss suffered by the company. A claim will not lie by a shareholder to make good a loss which would be made good if the company's assets were replenished through action against the party responsible for the loss, even if the company, acting through its...