Court of Appeal sets high bar for parties defending fraudulent misrepresentation claims and dismisses attempt to broaden transferred loss principle
21 May 2019
The Court of Appeal has confirmed the presumption of inducement in cases of fraudulent misrepresentation will be “very difficult” to rebut and rejected a Claimant’s attempt to recover the loss of its subcontracting sister company via the “transferred loss” principle.
In April 2015, American egg product suppliers were hit by the avian flu epidemic. One such supplier, Rembrandt Enterprises Inc. (“Rembrandt”), turned to Dutch supplier BV Nederlandse Industrie van Eiprodukten (“NIVE”) to supplement its stock shortfall.
A contract was made, but before shipments began NIVE requested a price increase, which it said was to account for unanticipated extra regulatory costs. Rembrandt agreed and a second contract was entered into accordingly (the “Second Contract”).
Once shipments began, NIVE informed Rembrandt that its sister company, Henningsen van den Burg (“Henningsen”), would be providing around 50% of one of the products.
Rembrandt suspended the contract, claiming NIVE had failed to comply with US inspection requirements. NIVE responded by suing for loss of profit, including the loss suffered by Henningsen.
In defence, Rembrandt submitted that the Second Contract should be rescinded as it had been procured by NIVE’s fraudulent misrepresentation that the increased price was calculated solely by reference to the costs incurred complying with US regulations, when in truth the increase also covered NIVE’s increased profits.
Decision at first instance
At first instance, the High Court granted the rescission. Its key conclusions (for the purposes of the appeal) were:
- NIVE’s representations about the reason for the price increase were false and deliberately made and there was a presumption that Rembrandt had relied on them. It was for NIVE to prove the Second Contract would have been made even if there had been no fraudulent misrepresentation (which it could not do); and
- NIVE could make no claim in respect of the product supplied by Henningsen, only for its own loss.
NIVE appealed (a copy of the Court of Appeal judgment is available here).
First Ground of Appeal – Fraudulent Misrepresentation
The Court of Appeal confirmed that if a representor fraudulently intends his words to be taken in a certain sense and the representee understands them in that sense, there is (rebuttable) presumption of inducement. As a presumption of fact – rather than law – it does not reverse the burden of proof. Instead, the representee may be able to benefit from the presumption when the court considers all factual evidence.
Unfortunately for NIVE, the Court of Appeal confirmed the presumption of inducement is “very difficult to rebut”. Attempting to do so, NIVE referred to the Rembrandt CEO’s evidence that "customers were in deep, deep, deep need of product" and he was "keen to lock in the deal". Furthermore, the CEO was unable to confirm, when cross-examined, whether Rembrandt would have acted differently if it had known that the increased price included an element of profit.
The Court of Appeal held that neither the CEO’s inability to deal with this hypothetical alternative scenario, nor the existence of other factors present in Rembrandt’s mind at the time of the Second Contract, were enough for NIVE to rebut the presumption. Rembrandt had to prove that it had been materially “influenced” by the representation in question in the sense that it was “actively present in its mind” and the Court of Appeal accepted that, on the facts, the misrepresentation in issue was one of the reasons why Rembrandt made the contract.
Second Ground of Appeal – Transferred Loss
Transferred loss is a limited exception to the general rule that a claimant can recover only loss which it has suffered itself. Traditionally, transferred loss occurs in property transfers when A enters an agreement with B to do something that is for the benefit, at least partially, of C and C is not able to sue B because there is no legal relationship between them.
A “broader ground” developed for instances where under A’s contract with B, C is entitled to receive some benefit and consequently C has an interest in B’s performance.
NIVE argued that Henningsen (C) was a subcontractor of NIVE’s (A) obligations to Rembrandt (B) and consequently had an interest in Rembrandt’s performance – the broader ground.
The appeal failed as a critical element of the transferred loss principle is that the claimant must show that, at the time the underlying contract was formed, there was a common intention and/or a known object to benefit C. The Court of Appeal concluded that, at the time of making the contract, Rembrandt was “not even aware of the existence of Henningsen”, let alone the possibility that Henningsen might be providing some of the product on NIVE’s behalf.
The Court of Appeal has helpfully clarified the strength afforded to the presumption of inducement for representees seeking to rescind a contract for fraudulent misrepresentation. The relatively low bar to establish a presumption of inducement and contrarily high threshold for rebuttal should concern representors who may have previously assumed, as NIVE did, that proof a representee did not know if it would have acted differently but for the misrepresentation would bolster their position.
Also interesting is the Court of Appeal’s disapproval of the belated attempt to use the transferred loss principle to claim losses falling between members of a corporate group. Clearly, transferred loss is not an afterthought that a party can deploy when it realises too late that another company in its group, acting as sub-contractor, has no contractual vehicle through which to claim back losses.
As the Court of Appeal said, group companies “cannot rely on the separate nature of those companies when it suits them, and then seek to break down the barriers when it creates difficulties.” If the intention is for more than one group company to enjoy the benefit of a contract, that should be made clear to the counterparty at the outset.