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	England and Wales High Court (Commercial Court) Decisions
You are here: BAILII >> Databases >> England and Wales High Court (Commercial Court) Decisions >> Riyad Bank & Ors v Ahli United Bank (UK) Plc [2005] EWHC 279 (Comm) (01 March 2005) URL: http://www.bailii.org/ew/cases/EWHC/Comm/2005/279.html Cite as: [2005] EWHC 279 (Comm)

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IN THE HIGH COURT OF JUSTICE
QUEEN'S BENCH DIVISION
COMMERCIAL COURT

		Royal Courts of Justice Strand, London, WC2A 2LL
		1st March 2005

Mr. Justice Moore-Bick:

1. Introduction

1. As is generally known, the principles of Islam impose certain important restrictions on the circumstances in which money may be invested to produce a profit. It has therefore been necessary for banks and other institutions seeking to provide financial services to Islamic clients to develop new types of investment vehicles carefully structured to ensure that no part of their income is derived in ways that are incompatible with those principles. Such vehicles are often known as 'Sharia-compliant' funds. In 1994 the defendant, Ahli United Bank (UK) Plc, then known as The United Bank of Kuwait Plc, established through its Islamic Investment Banking Unit an income fund whose assets were invested entirely in operating leases of equipment, thereby rendering it Sharia-compliant. Most of the leases in which the fund invested related to equipment used by large commercial organisations in the United States. The fund was known as the "IIBU II Fund" and was marketed to the bank's customers in Kuwait and elsewhere. During the period with which these proceedings are concerned the defendant was known as The United Bank of Kuwait and throughout the proceedings themselves it has been referred to by that name, or by the abbreviation "UBK". For convenience, therefore, I shall continue to refer to the defendant as UBK and to the IIBU II Fund as "the UBK Fund". The person primarily responsible for the day to day operation of the UBK Fund at the time in question was Mr. Derek Weist.
2. The first claimant, Riyad Bank, is a major commercial bank based in Saudi Arabia. The second claimant, RBE London Ltd ("RBE"), is a wholly-owned subsidiary of Riyad Bank which was incorporated in England for the purposes of carrying on the private banking business of Riyad Bank, both in this country and elsewhere. From 1993 it began to develop products which were marketed through Riyad Bank's network of branches in Saudi Arabia. Its customers included many wealthy individuals and RBE was therefore particularly interested in developing Sharia-compliant investment products in order to meet their requirements. At the time of the events giving rise to this action Mr. Keith Scott was managing director of RBE and chairman of its Product Development Committee. Ms. Najwa Al-Tunisi was manager of the Investment Department.
3. The head of UBK's Islamic Investment Banking Unit ("IIBU") was Mr. Duncan Smith. He and one of his assistants, Mr. Richard Thomas, became acquainted with Ms. Al-Tunisi when they worked together at another bank some years prior to the events with which I am concerned. In about December 1995 Mr. Smith and Mr. Thomas approached RBE through Ms. Al-Tunisi to enquire whether Riyad Bank would be interested in marketing the UBK Fund through its branches in Saudi Arabia. Following discussions and a formal presentation by Mr. Smith and Mr. Thomas to various senior members of RBE, including Mr. Scott and Mr. Nabil Al-Ajroush, Mr. Scott's deputy, a proposal along those lines was put to RBE's Investment Committee, but the committee was not willing to market a product bearing the name of UBK because it feared that promoting a fund established by a smaller competitor would damage its standing with Saudi investors.
4. However, the idea of a leasing fund as a form of investment vehicle suitable for Islamic investors still held strong appeal for RBE and further discussions soon took place to see whether it could be developed in a different way. Mr. Smith and Mr. Thomas suggested that RBE should set up its own fund on the same lines as the UBK Fund using IIBU as its technical adviser. Several months of discussions eventually culminated in the signing of Heads of Agreement in November 1996 setting out the framework under which RBE and UBK, acting through the IIBU, would co-operate in the establishment of a leasing fund in the form of an Irish-domiciled variable capital company. The services that it was intended UBK should provide in connection with the project included devising a suitable structure for the fund and workable documentation, recommending and engaging suitable lease managers, recommending suitable custodians, administrators, legal advisers and auditors for the fund, devising suitable operating procedures and, most importantly, providing technical services in connection with the operation of the fund, such as recommending suitable leases for purchase by the fund and the analysis of lease managers' estimates of residual values and lease renewals. For its part it was intended that RBE should draw up a business plan for the fund, review and approve the fund documentation and administrative procedures drafted by UBK and act as general investment adviser to the fund.
5. During the next few months the parties devoted themselves to setting up the structure of the fund. As a first step RBE and UBK entered into a Technical Services Agreement dated 30^th May 1997 which defined in some detail the services which UBK was to render in connection with the operation of the fund. A company was then acquired to embody the fund itself and on 14^th October 1997 its name was changed to RBE Ijara Fund Plc., the third claimant in these proceedings. At the same time changes were made to its memorandum and articles of association to enable it to act as an open-ended investment fund. On the same date the company (to which I shall refer as "the Fund") entered into an Administration Agreement with International Fund Managers (Ireland) Ltd ("IFMI"), a Custodian Agreement with Barings (Ireland) Ltd ("BIL") and an Investment Advisory Agreement with RBE under which RBE agreed to act as its general investment adviser. Also on 14^th October 1997 the Fund published its prospectus setting out essential information about its structure, the nature of its proposed investments and the manner of its operation. The Fund's structure was in all respects closely modelled on that of the UBK Fund. Its directors were Mr. Scott, Mr. Basel Algadhib (a senior employee of Riyad Bank in Riyadh), Ms. Al-Tunisi, Mr. Victor Holmes (the managing director of IFMI) and Ms. Neena Aeri (an accountant employed by IFMI).
6. The administration of the Fund revolved around 'Dealing Days' on which investors could purchase and redeem shares, distributions were made to existing shareholders and new leases were acquired for investment purposes. The first Dealing Day was 25^th November 1997 when the Fund purchased its first leases and the first investors bought shares. Dealing Days occurred thereafter throughout the life of the Fund, generally at quarterly intervals, but sometimes more frequently. The last Dealing Day on which new leases were acquired was 29^th February 2000, although none were acquired on the advice of UBK after 24^th August 1999.
7. The Fund continued in operation until the first signs of impending difficulties emerged in April 2000 when UBK informed RBE that some of the leases in the UBK Fund had not performed as well as had been expected and that as a result the value of the fund had been overestimated. UBK had commissioned a valuation of the whole of its fund's portfolio and suggested that it might be prudent for RBE to do the same. Although they were not unduly concerned at that stage, on 24^th April 2000 the directors instructed Independent Equipment Company ("IEC"), a well-respected American equipment appraiser, to carry out a valuation of the Fund's assets. IEC's report delivered on 19^th May suggested that the value of the Fund might be over-stated by as much as 20%. On 24^th May the directors instructed another specialist appraiser, Murray Devine, to carry out a second valuation, intending to await its report before making a decision on the Fund's future, but the next Dealing Day was 30^th May and applications had already been made for redemption of shares in an amount of about US$7 million. Given the difficulties in establishing the true value of the Fund, the board decided at a meeting held on 30^th May to suspend the Fund immediately.
8. Murray Devine's report was received on 2^nd June. It was a little more optimistic than that of IEC since it valued the assets at somewhere between 85% and 105% of the figure which the Fund itself had previously placed on them. Nonetheless, given the range of values indicated by Murray Devine, it appeared quite likely that there would be a shortfall. In these circumstances Riyad Bank decided in the interests of preserving its relationship with the existing investors and its wider commercial reputation to offer to purchase all the shares in the Fund at their par value of US$100 a share. The bank, which already owned shares in the Fund with a par value of US$1 million, thereby acquired the whole of the remaining share capital at a total price of a little under US$75 million.
9. The general economic environment prevailing immediately before and during the period in which the Fund was established and remained open to investors forms a backdrop to the events with which this case is concerned and it is convenient to refer to it briefly at this point. It was generally agreed that the leasing market in the United States and the related market for used equipment were very buoyant during 1997 and 1998. Activity levelled off in 1999 leading to the first signs of a significant downturn during the last quarter of that year. A clear decline was apparent by the early part of 2000 which accelerated during the remainder of that year and throughout 2001. During 2002 the market continued to decline, but less rapidly.

2. The operation of the Fund

10. Before summarising the issues that arise in these proceedings it is necessary to describe in a little more detail some aspects of the way in which the Fund operated. The leases in which the Fund invested were acquired from three leasing companies in the United States, American Finance Group ("AFG"), Capital Associates Inc. ("CAI") and Atel Leasing Corporation ("Atel"), the "asset managers" as they are referred to in the Technical Services Agreement. (In the Heads of Agreement they were referred to as "lease managers", but the terms are interchangeable.) In some cases the asset manager was itself the original lessor, but in others it had acquired the lease from another leasing company before offering it to the Fund. The leases themselves and the equipment to which they were related were transferred from the asset managers to the Fund through wholly-owned subsidiaries on each side. For present purposes, however, nothing turns on the precise mechanism by which the assets were transferred and it is unnecessary, therefore, to refer to it any further. In practical terms each acquisition of a lease involved a sale of the lease and equipment by the asset manager concerned to the Fund.
11. Between Dealing Days there were discussions between RBE and UBK about leases that were becoming available for purchase and it was possible to reach a measure of agreement in principle before formal proposals were made. About a week before each Dealing Day UBK sent RBE details of the leases which were then available for purchase by the Fund in a document known as a Technical Services Proposal ("TSP"). This contained a brief description of each lease which included the identity of the lessee, the nature of the equipment, the number of rental payments, the assumed renewals and the estimated residual value ("ERV") of the equipment at the end of any assumed renewal period and the price at which it was available to the Fund. UBK also provided a brief analysis of each lease in which it set out its own comments on its suitability as an investment. In some cases UBK recommended that the Fund adopt different renewal assumptions or ERVs from those given by the asset managers, but generally it accepted those proposed by the asset managers. The leases were offered to the Fund at the prices stated in the TSP; there was no room for negotiation.
12. Prior to each Dealing Day each of the asset managers produced a Transaction Summary Report ("TSR") or similar document containing the essential data in respect of the leases offered for purchase by the Fund on that Dealing Day. These reports set out, among other things, the rates of return on individual leases based on the price payable by the Fund and the income stream in the form of rental payments and the residual value of the equipment. This information together with the TSPs formed the basis on which RBE as general investment adviser recommended leases for acquisition by the Fund.
13. Ms. Al-Tunisi attended periodic board meetings of the Fund, both in her capacity as a director and on behalf of RBE in its capacity as general investment adviser. Prior to board meetings she prepared a general report on the Fund's investments which she presented to the board and on which she was sometimes asked to comment. However, the main source of advice on all matters relating to the leases themselves was Mr. Weist who attended every board meeting of the Fund up to and including 7^th December 1999, apart from one meeting on 5^th August 1999, and took an active part in the discussions. In addition, during the life of the Fund Mr. Weist prepared three Due Diligence Reports in October 1998, April 1999 and October 1999 which, in addition to general commentaries on the market and the performance of the asset managers, contained detailed reviews of the leases in the Fund's portfolio.
14. Among UBK's functions under the Technical Services Agreement were the evaluation and proposal of leases for acquisition by the Fund which met the Fund's objectives and the analysis of the lease managers' estimates of residual value and renewal assumptions. Pared down to its essentials, the complaint made by the claimants in the present case is that UBK failed to exercise the appropriate degree of skill and care in analysing and evaluating the information which it received from the asset managers. They say that as a result of its negligence it failed to observe that the renewal assumptions and ERVs put forward by the asset managers were over-optimistic, with the result that the leases would not provide the suggested return, and that it gave bad advice to the Fund by recommending that it purchase unsuitable leases and pay more for them than they were really worth.

3. The claims made in these proceedings

15. It is necessary at this point to say something about the claims made in these proceedings. The primary claim is made by the Fund itself which seeks to recover damages for negligent misstatement on the grounds that UBK acted as its adviser in connection with the acquisition of leases in such a way as to owe it a duty of care at common law in accordance with the principles set out in Hedley Byrne & Co. Ltd v Heller & Partners Ltd [1964] AC 465 and developed in succeeding cases including Henderson v Merrett Syndicates Ltd [1995] 2 AC 145. On this basis it seeks to recover the difference between what it paid for the leases and what they were actually worth at the time it bought them. It also seeks to recover the amount it paid to the shareholders in the form of dividends in the mistaken belief that the value of its assets was greater than was really the case. Closely allied to these claims by the Fund itself is a claim by RBE and Riyad Bank to recover a proportion of the fees paid to UBK for acting as Technical Services Consultant.
16. However, if the Fund itself is unable to recover because UBK owed it no independent duty of care, RBE and Riyad Bank seek to recover as damages for breach of the Technical Services Agreement the loss incurred by the bank as the result of its decision in July 2000 to buy out the investors in the Fund at par. RBE transferred the whole of its business to Riyad Bank on 30^th July 1999 and on 29^th March 2000 RBE, UBK and Riyad Bank entered into a novation agreement by which Riyad Bank was substituted for RBE as a party to the Technical Services Agreement with effect from 30^th July 1999. The decision to buy out the investors is said to have been taken to preserve the commercial reputation of Riyad Bank which, it is said, would have been seriously damaged if investors in the Fund had suffered a significant loss of capital. The bank accepted that it could not recover general damages for loss of reputation, but submitted that it was entitled to recover as damages for breach of contract any financial loss that it had suffered as a result of the premature termination of the Fund. It sought to recover the difference between the amount it had paid for the shares in the Fund in July 2000 and their true value at that date as an expense reasonably incurred in mitigating the loss that it would otherwise have suffered as a result of losing support among existing and potential future customers.
17. Finally, if all else fails, Riyad Bank and RBE seek to recover damages for breach of the Technical Services Agreement on behalf of the Fund in accordance with the principles developed in the line of authority leading from The Albazero [1977] A.C. 774 to Alfred McAlpine Construction Ltd v Panatown Ltd [2001] 1 AC 518. Again, the amount recoverable is said to be the difference between the amount that Riyad Bank paid to the investors in respect of their shares and the true value of those shares in July 2000.

4. Negligent misstatement

(a) Did UBK owe a duty of care to the Fund?

18. In Hedley Byrne v Heller the House of Lords recognised for the first time that a duty of care may exist in respect of words as well as deeds and that liability may arise in negligence in respect of pure economic loss which does not arise from physical damage (per Lord Goff in Henderson v Merrett at page 178). That much was not in issue, but Mr. Lyndon-Stanford Q.C. for UBK argued strongly that the relationship between the parties in the present case had been carefully structured in a way that precluded the existence of any duty of care between UBK and the Fund. It is necessary, therefore, to consider the principles to be applied in determining whether a duty of care of this kind should be recognised before considering in more detail the particular facts of this case.
19. Since the decision in Hedley Byrne v Heller a great deal of consideration has been given by the appellate courts to the law of negligence, particularly to the circumstances under which the law will impose a duty of care on one person in favour of another. However, it is unnecessary for present purposes to consider in detail the earlier authorities since their effect is summarised in the judgment of Neill L.J. in James McNaughton Paper Group Ltd v Hicks Anderson & Co [1991] 2 QB 113 which provides a convenient starting point. At page 122G he referred to the speech of Lord Bridge in Caparo Industries Plc v Dickman [1990] 2 AC 605 and to the speech of Lord Goff in Davis v Radcliffe [1990] 1 W.L.R. 821 in support of the proposition that

"no single general principle is able to provide a practical test which can be applied to every situation to determine whether a duty of care is owed and, if so, what is its scope."

In consequence, he concluded at page 123H,

"It therefore becomes necessary, in the absence of some general principle, to examine each individual case in the light of the concepts of foreseeability, proximity and fairness. The last of these concepts, however, is elusive and may indeed be no more than one of the criteria by which proximity is to be judged. It is perhaps sufficient to underline that in every case the court must not only consider the foreseeability of the damage and whether the relationship between the parties is sufficiently proximate but must also pose and answer the question: in this situation is it fair, just and reasonable that the law should impose on the defendant a duty of the scope suggested for the benefit of the plaintiff?"

20. In the light of the authorities Neill L.J. then sought to identify the matters that are likely to be of importance in deciding whether a duty of care exists. These included (i) the purpose for which the statement was made; (ii) the purpose for which it was communicated to the claimant; (iii) the relationship between the maker of the statement, the claimant and any relevant third party; (iv) whether the maker of the statement knew that the recipient would rely on it and if so for what purpose; and (v) whether the claimant was entitled to, and did, rely on the statement communicated to him.
21. In Henderson v Merrett the House of Lords considered the relationship between Lloyd's Names and the members' and managing agents who act on their behalf in the conduct of underwriting business. The practice at Lloyd's was succinctly described by Lord Goff at page 170F-H as follows:

"Each Name entered into one or more underwriting agency agreements with an underwriting agent, which was either a members' agent or a combined agent. Each underwriting agency agreement governed the relationship between the Name and the members' agent, or between the Name and the combined agent in so far as it acted as a members' agent. If however the Name became a member of a syndicate which was managed by the combined agent, the agreement also governed the relationship between the Name and the combined agent acting in its capacity of managing agent. In such a case the Name was known as a direct Name. If however the Name became a member of a syndicate which was managed by some other managing agent, the Name's underwriting agent (whether or not it was a combined agent) entered into a sub-agency agreement under which it appointed the managing agent its sub-agent to act as such in relation to the Name. In such a case the Name was known as an indirect Name."

22. From this description it can be seen that in the case of an indirect Name, although the primary responsibility for underwriting remained with the members' agent, authority was delegated to the managing agent under a sub-agency agreement entered into pursuant to the terms of the agency agreement between the Name and his members' agent. In these cases, therefore, there were well-defined contractual relationships between the Name and the members' agent and between the members' agent and the managing agent.
23. The Names contended that managing agents owed a duty of care to indirect as well as to direct Names for whom they acted. Although none of the agency agreements contained an express provision requiring the agent to act with reasonable skill and care, it was not disputed that such a term was to be implied. Accordingly, as Lord Goff observed at page 176,

"the question falls to be considered whether a like obligation rested upon the managing agents in tort, so that the managing agents which were also members' agents owed such a duty of care in tort to direct Names, with the effect that the direct Names had alternative remedies, in contract and tort, against the managing agents; and whether managing agents which were not also members' agents owed such a duty of care in tort to indirect Names, so that the indirect Names had a remedy in tort against the managing agents, notwithstanding the existence of a contractual structure embracing indirect Names, members' agents and managing agents, under which such a duty was owed in contract by the managing agents to the members' agents, and by the members' agents to the indirect Names."

24. As in the present case, the main argument of the managing agents was that the imposition of a duty of care to the indirect Names would be inconsistent with the existence of the contractual structure governing the relationship between the parties by which any direct responsibility to the Names had been deliberately excluded. It therefore became necessary to consider once again the principles governing the imposition of a duty of care. Having considered at some length the speeches in Hedley Byrne v Heller, Lord Goff expressed the view that, in a context concerned with liability arising in a situation "equivalent to contract", the concept of an assumption of responsibility still had a useful part to play and, if satisfied, would render it unnecessary to embark on any further enquiry about whether it was fair, just and reasonable to impose liability for economic loss.
25. Much of that part of Lord Goff's speech which deals with the impact of the contractual context is devoted to the question whether concurrent remedies can exist in contract and tort against a person who provides professional services. He concluded that the common law was not antipathetic to concurrent liability and that there was no basis for a rule restricting a claimant to a contractual remedy. In explaining his reasons for reaching that conclusion he said at page 193B

"Mr. Kaye's approach involves regarding the law of tort as supplementary to the law of contract, i.e. as providing for a tortious liability in cases where there is no contract. Yet the law of tort is the general law, out of which the parties can, if they wish, contract; and, as Oliver J. demonstrated, the same assumption of responsibility may, and frequently does, occur in a contractual context. Approached as a matter of principle, therefore, it is right to attribute to that assumption of responsibility, together with its concomitant reliance, a tortious liability, and then to inquire whether or not that liability is excluded by the contract because the latter is inconsistent with it. This is the reasoning which Oliver J., as I understand it, found implicit, where not explicit, in the speeches in Hedley Byrne. With his conclusion I respectfully agree. But even if I am wrong in this, I am of the opinion that this House should now, if necessary, develop the principle of assumption of responsibility as stated in Hedley Byrne to its logical conclusion so as to make it clear that a tortious duty of care may arise not only in cases where the relevant services are rendered gratuitously, but also where they are rendered under a contract. This indeed is the view expressed by my noble and learned friend, Lord Keith of Kinkel, in Murphy v. Brentwood District Council [1991] 1 AC 398, 466, in a speech with which all the other members of the Appellate Committee agreed."

26. The importance of this passage lies in the emphasis which Lord Goff places on the general principles of law derived from the decision in Hedley Byrne v Heller as the starting point in deciding whether a duty of care at common law exists at all in cases involving the provision of professional advice or services. It supports the conclusion that the right course is to begin by asking whether liability arises in tort under the principles in Hedley Byrne v Heller before going on to consider whether any such liability is excluded or modified by the contract between the parties.
27. The issue in the present case, however, is not so much whether concurrent liability in contract and tort exists between the same parties but whether the parties have structured their relationship in such a way as to exclude any duty of care on the part of UBK to the Fund. It is essentially the same, therefore, as that which arose between the managing agents and the indirect Names in the context of underwriting at Lloyd's.
28. For present purposes it is important to note at the outset that in Henderson v Merrett Lord Goff, having considered in detail the prescribed forms of agency and sub-agency agreements, reached the conclusion that in the case of indirect Names the members' agents undertook responsibility for the provision of underwriting services which were performed on their behalf by the managing agents pursuant to the sub-agency agreement. The agreements thus created a chain of mutually exclusive contractual relationships with the result that the managing agents owed no contractual obligations to the indirect Names. However, the existence of this carefully constructed chain of relationships and responsibilities did not lead Lord Goff to conclude that the managing agents owed no duty of care to the indirect Names. He pointed out at page 195A that there was no material difference between the duty of care owed by the managing agents to the members' agents under the sub-agency agreement and the duty of care that would be owed by them to the indirect Names under the Hedley Byrne principles. He was unable to see why a party should not assume responsibility to more than one person in respect of the same activity or why the two duties of care should not be capable of co-existing and concluded that the indirect Names were entitled to pursue a claim against the managing agents in tort.
29. It is right to say, however, that Lord Goff did recognise that the situation which presented itself in that case might be unusual and cautioned against too ready an assumption that other sub-agents could be held directly liable to the principal in tort. In a passage at page 195G on which Mr. Lyndon-Stanford understandably placed some reliance he said

"I wish however to add that I strongly suspect that the situation which arises in the present case is most unusual; and that in many cases in which a contractual chain comparable to that in the present case is constructed it may well prove to be inconsistent with an assumption of responsibility which has the effect of, so to speak, short circuiting the contractual structure so put in place by the parties. It cannot therefore be inferred from the present case that other sub-agents will be held directly liable to the agent's principal in tort. Let me take the analogy of the common case of an ordinary building contract, under which main contractors contract with the building owner for the construction of the relevant building, and the main contractor sub-contracts with sub-contractors or suppliers (often nominated by the building owner) for the performance of work or the supply of materials in accordance with standards and subject to terms established in the sub-contract. I put on one side cases in which the sub-contractor causes physical damage to property of the building owner, where the claim does not depend on an assumption of responsibility by the sub-contractor to the building owner; though the sub-contractor may be protected from liability by a contractual exemption clause authorised by the building owner. But if the sub-contracted work or materials do not in the result conform to the required standard, it will not ordinarily be open to the building owner to sue the sub-contractor or supplier direct under the Hedley Byrne principle, claiming damages from him on the basis that he has been negligent in relation to the performance of his functions. For there is generally no assumption of responsibility by the sub-contractor or supplier direct to the building owner, the parties having so structured their relationship that it is inconsistent with any such assumption of responsibility."

30. Although in earlier cases some doubt had been cast on assumption of responsibility as the primary test for the existence of a duty of care, it is clear from the speech of Lord Goff in Henderson v Merrett that it is still likely to be of primary importance in cases where there have been direct exchanges between the parties and where the relationship between them is similar to that which would arise under a contract. The importance of the principle was further emphasised by Lord Goff and Lord Browne-Wilkinson in White v Jones [1995] 2 AC 207 and by Lord Steyn in Williams v Natural Life Health Foods [1998] 1 WLR 830 who at page 837C considered and rejected criticisms of that approach voiced by academic writers.
31. Mr. Brindle submitted that the relationship between UBK and the Fund in this case exhibited all the characteristics necessary to give rise to a duty of care in accordance with Hedley Byrne principles, namely, the exercise by a professional person of skill and experience which it possessed (or at any rate claimed to possess) in order to give advice for the benefit of the Fund which it knew would be relied on in making investment decisions. There was, therefore, he submitted, in a very real sense an assumption by UBK of responsibility to the Fund to exercise reasonable skill and care to ensure that the advice it gave was sound.
32. Mr. Lyndon-Stanford, on the other hand, submitted that UBK owed no duty of care to the Fund for two reasons: first, because the parties had quite deliberately structured their relationship in a way that isolated UBK from the Fund, thereby making clear their intention that there should be no direct legal relationship between them; secondly, because the duties that UBK owed to RBE under the Technical Services Agreement were much more limited than those that it would owe to the Fund under the general law if liability were to be imposed under Hedley Byrne principles.
33. In the light of these arguments it is necessary to consider in greater detail the circumstances in which UBK came to act as Technical Adviser and the terms of the various agreements governing the establishment and operation of the Fund.
34. The original proposal from UBK was that RBE should market the UBK Fund to its customers in Saudi Arabia. In order to give RBE some insight into the nature and structure of the fund UBK provided RBE with a copy of its prospectus issued on 9^th February 1994 which provided a detailed description of the constitution of the fund and the manner of its operation. Some passages in the prospectus are of particular importance in describing the role of UBK as the General Investment Adviser to the fund (described in the prospectus as "the Company"). Thus, under the heading 'The General Investment Advisor' the prospectus stated

"The Islamic Investment Banking Unit of the United Bank of Kuwait Plc has been appointed to act as the General Investment Advisor to the Company. The General Investment Advisor's responsibilities cover the giving of informed advice to the Directors on a regular basis on the investment of the Company's assets in equipment on lease."

35. Under the heading 'Investment Policy' the prospectus stated

"A minimum of 75% by value of the Company's assets will be investments in a diversified portfolio of equipment in U.S.A. on lease to creditworthy U.S. corporations.

Leasing advisers will identify equipment and lessees which meet the investment criteria of the Company and the General Investment Adviser will investigate the proposed transactions and make recommendations to the Directors of the Company as to which purchases and leases of equipment might be attractive to the Company. . . . . . . . . . . .

It is the intention of the Directors that the weighted average of the portfolio of the Company's assets should, by value, have a credit rating at least equivalent to Moody's Baa rating and further that the residual value of equipment forming the Company's assets should reflect as closely as possible the fair market value of all equipment purchased for the Company's account."

36. The following passage appeared under the heading 'Risk Factors':

" Residual Value Risks

A significant part of the Company's projected returns will come from the re-marketing or re-leasing of equipment. When entering into leasing contracts with lessees the Directors of the Company will take account of the leasing advisors' prudent and conservative future projections on the likely residual values of equipment being put on lease. If these residual value projections are inaccurate and equipment cannot be re-sold or re-leased at the values originally projected then the value of the Company's Shares may be negatively impacted."

37. Together with the prospectus UBK sent RBE a copy of a document intended to provide investors with additional background information on the fund. In that document UBK explained that the fund was designed to provide, among other things, high current income and capital preservation. A diagram of the investment process showed the American leasing manager, AFG, proposing leases to UBK as the General Investment Adviser and UBK carrying out an in-depth analysis of individual proposals and an on-going review of the investment position.
38. On 19^th January 1996 Mr. Smith and Mr. Thomas of UBK met Mr. Scott, Mr. Al-Ajroush and Ms. Al-Tunisi, among others, to discuss the marketing of the UBK Fund by RBE. In preparation for that meeting Ms. Al-Tunisi had prepared a discussion paper based on information provided by Mr. Smith and Mr. Weist. That information included a copy of a slide presentation originally published in April 1995, again for the benefit of potential investors, containing a general description of the fund. In one of the slides the responsibilities of UBK as General Investment Adviser were said to include making a review of every lease agreement purchased by the fund.
39. The discussion paper set out Ms. Al-Tunisi's understanding of how the UBK Fund was structured and how it operated, but it was based on information supplied by UBK itself and it was not suggested that her understanding was flawed. The paper contained a table of risks and mitigants in which the residual value risk was said to be limited by (among other things) conservative estimates and professional advice being taken in determining residual value and by regular due diligence work undertaken by UBK. At the meeting Mr. Smith again emphasised that investment policies were conservative and that residual value risks were managed by making use of the expertise and advice of the leasing manager and by UBK's own due diligence based on their experience and expertise supported by independent equipment leasing experts where necessary.
40. Following the meeting Ms. Al-Tunisi prepared a brief report for the Product Development Committee to which she annexed a revised version of the discussion paper, a copy of a marketing presentation produced by UBK and a note of the fees charged by the fund. The table of risks and mitigants in the revised version of the discussion paper had been altered by removing the references to conservative estimates, the taking of professional advice and regular due diligence by UBK and substituting a simple reference to "limited residual value risk". Ms. Al-Tunisi was unable to give evidence in person and Mr. Scott was unable to explain why those changes had been made, but I do not think that they reflect any significant change in their understanding of the role of UBK as General Investment Adviser.
41. Although the Product Development Committee recommended adoption of the proposal to market the UBK Fund in Saudi Arabia, the Investment Committee was unwilling to give its approval for the reasons already mentioned. However, it regarded a leasing fund as a suitable product to offer investors and encouraged the committee to consider other ways of making an investment opportunity of this kind available. As a result discussions with UBK resumed with an emphasis on establishing a separate fund to be managed by RBE but supported by technical advice from UBK. These discussions led in due course to a letter from UBK to RBE dated 29^th April 1996 enclosing an Outline Proposal for the establishment of a new fund. As that letter made clear, the proposals were not directed to the intrinsic merits of this form of investment fund but to the identification of a structure that would satisfy the requirements of RBE's Investment Committee and the relevant regulators.
42. The course taken by UBK in formulating the Outline Proposal and the reasons for adopting it were set out clearly in the following passage under the heading 'Approach':

"RBE will instruct IIBU to duplicate as far as possible its current Leasing Fund in order to make optimal use of its knowledge of (i) the legal and tax structures involved in creating a premier leasing product, (ii) the administrative and custodial facilities required in its operation and (iii) the identification of suitable leased assets in which the Riyad Bank Europe Leasing Fund (RBLF) may invest, (iv) an extensive base of relationships with the best quality of US leasing managers/lease originators. RBE (via a management company established by it for the purpose) will, based on a technical advisory agreement with IIBU, take on the prime role of General Investment Advisor to the Fund. . . . . . "

43. Under the heading 'Technical Issues' there appeared the following:

"The development of the existing IIBU Leasing Fund took in excess of two years from conceptualisation to launch. Broadly speaking, the areas of substantial expertise which IIBU has (and which it will make available to RBE) are:

- Establishing a suitable Fund structure for leasing in USA . . . . . . . . . . . .

- Credibility in and knowledge of the US Leasing Market. . . . . . . . . . . . .

- The practicalities of purchasing suitable leasing assets in the USA. . . . . . . . . the remaining area of technical complexity is the assessment of the potential transactions on offer. IIBU has adopted a unique matrix approach to selecting potential leased assets, involving lessee (credit), lease, sector and asset analysis and (relative/absolute) evaluation. Further, IIBU has developed its own expertise in dealing with transaction-by-transaction issues, relating to asset transfer, local duties/taxes and lease documentation."

44. The duties and responsibilities which UBK proposed the parties should respectively undertake were described as follows:

"A. IIBU will be responsible for:-

1. Advising RBE on the establishment of the RBLF . . . .

2. Technical advice to RBE on various on-going matters, including:

- identification of one or more leasing originators.

- identification and recommendation of suitable assets which fall within RBLF's investment guidelines.

- Attendance at RBLF Board Meetings as required.

B. RBE will be responsible for

1. Co-ordination of the development of the RBLF with Riyad Bank Group and its own marketing strategy in Saudi Arabia.

2. Joint due diligence (with IIBU) in connection with all matters referred to in A above.

3. Managing the General Investment Advisor management company and the processes relating to Board Meetings of RBLF. This will include formal recommendations on the acquisition of assets for RBLF.

4. Providing (if required) a liquidity underwriting facility (similar to that provided by IIBU for its own Leasing Fund to assist in the successful marketing of RBLF."

45. After some further negotiation over fees the Investment Committee of RBE approved the establishment of the Fund in accordance with the Outline Proposal and in due course the parties proceeded to sign the Heads of Agreement. These were sent by UBK to RBE on 23^rd July 1996, but were not signed by RBE until November that year.
46. As the preamble indicates, the purpose of the Heads of Agreement was to set out the basis on which UBK and RBE would co-operate to establish the Fund. They expressly incorporated the Outline Proposal, a copy of which was attached to it. The structure of the Heads of Agreement reflected the Outline Proposal in setting out in some detail the different functions that the two parties intended to perform in establishing and operating the Fund. Among the functions that UBK said it intended to perform were

"(iv) to devise, in association with RBE, a set of operational procedures to allow the ongoing decision making process to be operated in an effective, timely and efficient manner;

(v) to provide ongoing technical services to RBE including, but not limited to the following:

(a) recommending specific lessees;

(b) review of portfolio diversification criteria

(c) analysis of the Lease Manager's estimate of residual value and renewal assumptions, with suitable amendments if appropriate;

(d) recommendation of specific leases for the Fund;"

Among the functions that RBE said it intended to perform were

"(ii) to review and approve the various agreements drafted by IIBU;

(iii) to review and approve the operating procedures drafted by IIBU;

(iv) . . . . . . . . . . . . . .;

(v) to act as General Investment Advisor to the Fund;"

47. The Heads of Agreement contemplated that within two months a further agreement would be signed between the parties dealing more formally and in greater detail with the matters to which they related. However, it was not until 30^th May 1997 that the Technical Services Agreement giving effect to that intention was finally signed. In the meantime on 14^th January 1997 Mr. Weist had sent a draft of some administrative procedures to Ms. Al-Tunisi for her consideration. It is clear from his covering letter that the document was intended to form a basis for discussions and would require amplification in some areas in due course. It dealt with the practical aspects of operating the Fund and it is likely that the procedures set out in it were intended to be the operating procedures contemplated by the Heads of Agreement. These draft procedures should have been discussed and agreed between RBE and UBK, but neither side seems to have made any attempt to take the matter further. The document remained in its original form and was never signed by either party.
48. Nonetheless, Mr. Lyndon-Stanford placed a certain amount of reliance on the section 3.3 of the administrative procedures dealing with lease approval and it is therefore appropriate to set out that passage at length. It provided as follows:

"The TSA [sic] will need to review the residual value estimate provided by the Lease manager to help determine whether the residual value risk is appropriate for RBE to commend to the Fund. This assessment will initially be performed by the Lease Manager, and reviewed by the TSA, using a combination of quantitative and qualitative techniques to assess the appropriateness of the Lease Manager's residual and renewal assumptions."

49. The document that was intended to define the obligations of UBK in relation to the operation of the Fund was the Technical Services Agreement which was executed on 30^th May 1997. It took the form of a contract between UBK as Technical Services Consultant, acting through the IIBU, and RBE as prospective General Investment Adviser to the Fund. At the time the agreement was signed the Fund had not come into being and it is doubtful whether any of the agreements that the Fund would in due course need to enter into to enable it to operate had even been drafted. However, the essential structure of the Fund had been settled long before by the Outline Proposal and the Heads of Agreement so that by May 1997 there was no room for doubt that it would reflect as closely as possible the structure of the UBK Fund with RBE (or a subsidiary incorporated for the purpose) taking on the role of General Investment Adviser. It was also quite clear that UBK as Technical Services Consultant would provide the information and advice needed to enable RBE to perform that role.
50. The Technical Services Agreement included the following terms:

" 1. DEFINITIONS

"Administrative Procedures" means the set of administrative procedures prepared by the TSC relating to the Fund and dated [ ]

2. ENGAGEMENT OF THE TSC

The Fund Advisor [RBE] hereby engages the TSC [UBK] . . . . . as a technical consultant to the Fund Advisor . . . . . to perform the following services:

. . . . . . . . . . . . . . . . . . . .

2.2 To evaluate and propose suitable Asset Managers (after undertaking appropriate due diligence work) for the proposed Fund . . . . . . . . . .

. . . . . . . . . . . . . . . . . . . .

2.5 To provide on-going technical services to the Fund Advisor as contemplated by the Administrative Procedures, including, but not limited to, the following:

(a) evaluation and proposal of specific lessees;

(b) review of portfolio diversification criteria;

(c) analysis of the Asset Managers' estimate of residual value and renewal assumptions, with suitable amendments if appropriate;

(d) evaluation and proposal of specific leases for the Fund which are in line with [the] Fund's objectives (as may be notified to the TSC by the Fund Advisor from time to time);

(e) provision of regular information on the Fund, such as portfolio mix, performance, etc.

2.6 The TSC shall use its best endeavours to ensure that all leases recommended by the TSC hereunder shall comply with the selection criteria used by the TSC in connection with [the] IIBU Fund

. . . . . . . . . . . . . . . . . . . .

2.7 To perform other related tasks, as the Fund Advisor may reasonably specify from time to time in order to comply with [the] Administrative Procedures and the Fund Advisor's obligations under the Investment Advisory Agreement to help the Fund to be devised, launched and operated in a manner that complies with relevant legal, regulatory, taxation, asset management and credit matters.

. . . . . . . . . . . . . . . . . . . .

4 RESPONSIBILITY AND INDEMNITY

4.1 The Fund Advisor acknowledges . . . . . . . . . . that all investment decisions and decisions with respect to the management of the Fund shall be solely made by the directors of the Fund, again as advised by the Fund Advisor. However, the TSC shall be obliged to exercise all reasonable care in the performance of its duties under this Agreement, taking into account the level of experience and expertise which the TSC has, such experience and expertise being based on its operation of IIBU fund II Plc."

51. The Fund was established on 14^th October 1997 as described earlier. The first Dealing Day was 25^th November 1997 when it was launched to investors and the first leases were acquired. Over the course of the following year RBE and UBK set about producing a document described as an Operating Memorandum which, among other things, contained a description of the duties of the Administrator (IFMI), Custodian (BIL), General Investment Adviser (RBE) and Lease Agents. In the first section headed 'Highlights of the Fund' UBK was identified as Technical Services Consultant to RBE, but its position and duties were nowhere described and, apart from a few references to "RBE/UBK" in connection with the receipt of draft valuations of the Fund, no further reference was made to it.
52. The duties of the General Investment Adviser as described in the draft Operating Memorandum included the following

" a) To recommend for approval (by the Board) the acquisition of new leases following identification by the Lease Managers;

b) . . . . . . . . .

c) . . . . . . . . . .

d) To perform due diligence visits to the Lease Managers and to assess in detail:

1. The Lease Managers' ability to estimate residual values on leased assets;

2. The Lease Managers' ability to provide the Company's investment advisors and valuers with detailed information on lease status and performance;

3. Whether any changes are necessary in the assumptions to estimated residual values or renewal months (subject to Board approval);"

53. The final draft of the Operating Memorandum is dated 31^st October 1998. It contemplated signature for approval by RBE, BIL and various departments of IFMI (though not by UBK), but it appears not to have received any formal approval. Mr. Brindle and Mr. Lyndon-Stanford were both inclined to accept that the final draft of this memorandum had been adopted by the parties and I am content to proceed on the assumption that it was, but for what purposes? The document deals in some detail with the procedures to be followed in the administration of the Fund, but there is nothing in it to suggest that it was intended to vary or further refine the relationship between UBK and RBE. In my view its purpose was simply to provide a set of practical instructions for the benefit of those at RBE, IFMI and BIL who were responsible for the administration of the Fund, which explains why no provision was made for its formal approval by UBK. That is an important factor to be borne in mind when considering the passages dealing with the duties of RBE. Since RBE was General Investment Adviser to the Fund, it is hardly surprising in this context to find that its duties were described as including an assessment of the need to make any changes in existing assumptions about ERVs or renewals, but I do not think that one can draw any conclusions from this document about the duties of UBK to RBE or to the Fund itself.
54. The establishment of the Fund was a direct response to the support given by RBE's Investment Committee to the concept of a leasing fund of the kind developed by UBK as a suitable form of investment to offer its customers and its fundamental objection to marketing a product provided by a rival bank. It is clear from the Heads of Agreement and the Outline Proposal that the way chosen to circumvent the Investment Committee's objections was to engage UBK to set up a mirror image of its own fund on behalf of RBE. In the course of the discussions and correspondence UBK made much of the fact that it not only had practical experience of establishing a fund of this kind and was therefore able to produce at relatively short notice a legal structure that would satisfy all financial and regulatory requirements, as well as the need for the fund to comply with the requirements of the Sharia, but that it had acquired a significant amount of expertise in managing investments in the form of leased assets through the operation of its own fund. It was this knowledge and expertise that UBK offered to make available to RBE in establishing and operating its own fund. Mr. Smith, Mr. Thomas and Mr. Weist were all well aware that none of those with whom they were dealing at RBE had any experience of setting up or managing an investment fund based on leased assets; indeed, that was the whole basis on which the relationship depended.
55. The fact that the RBE fund was to be established as a mirror image of the UBK Fund coupled with the insistence of the Investment Committee that UBK should not be directly involved in its management structure had two consequences. The first was that the Fund would require a General Investment Manager to give advice to the directors on the identification and acquisition of suitable leases, carry out reviews of ERVs and other relevant information about leases offered to the Fund and provide other advice as necessary for the purposes of valuing its assets. The second was that the only organisation that could plausibly fulfil that role was RBE itself, or one of its subsidiaries, despite the fact that, as everyone was aware, it did not have the knowledge or experience to do so. It must have been obvious to UBK, therefore, not only that RBE would rely on its advice in deciding how to structure the Fund, but that once the board of the Fund became the body ultimately responsible for investment decisions it would rely on the advice emanating from UBK in deciding whether to buy leases offered to it. That expectation was reflected in the Outline Proposal and the draft Administrative Procedures, each of which specifically contemplated that UBK would attend board meetings of the Fund in an advisory capacity as required.
56. In my view UBK clearly did profess to have a certain expertise which it offered to make available to the Fund in the form of advice on the acceptability of ERVs and renewals (and thus rates of return) put forward by the asset managers and the suitability of leases offered as investments to the Fund. UBK was well aware that even if that advice was provided to RBE, RBE would be likely to pass it on to the board of the Fund without qualification since it did not consider itself competent to form an independent judgment. Unless the nature of the contractual arrangements suggests otherwise, therefore, I think this clearly is a case in which UBK did undertake responsibility to the Fund to take reasonable care to ensure that the advice it gave on these matters was sound.
57. The degree of responsibility that UBK undertook to RBE under the Technical Services Agreement was to exercise all reasonable care in the performance of its various obligations taking into account the level of experience and expertise it had gained through its operation of the UBK Fund. That is broadly the same as the duty of care which would arise under the general law. There is no reason, therefore, why a duty of care to the Fund at common law should not co-exist concurrently with the duty owed to RBE in contract. Mr. Lyndon-Stanford submitted, however, that in this case the parties had deliberately structured the agreements in such a way as to avoid any direct relationship between UBK and the Fund. They cannot, therefore, have intended, he argued, that UBK should owe any duty of care to the Fund; or to put it another way, they had demonstrated an intention that UBK should not be directly liable to the Fund for any shortcomings in its advice. This makes it necessary to consider in more detail the nature of the Investment Advisory Agreement between the Fund and RBE which together with the Technical Services Agreement provided the contractual framework of the parties' relationship.
58. By clause 2.1 of the Investment Advisory Agreement the Fund appointed RBE as General Investment Adviser to advise it on the investment and reinvestment of its assets in leases generally. Clause 3.1 provided that where RBE acted as an adviser it should on behalf of the Fund

" 3.1.1. research and evaluate opportunities for possible investment by the Company in Leases and negotiate suitable terms for the acquisition and disposal of Investments;

3.1.2. keep under review the Investments for the time being and, as circumstances may require, recommend changes in such Investments;

. . . . . . . . . .

3.1.6. Advise the Technical Services Consultant on all actions which it appears to the General Investment Advisor would be advantageous to the Company in implementing the investment policies of the Company;

3.1.7. analyse the performance of current Investments of the Company;

3.1.8. advise on the appointment and retirement of leasing advisors, monitor their performance and recommend allocation of assets amongst them."

59. As General Investment Advisor RBE was entitled to receive an advisory fee of 1½% per annum on the Fund's net asset value. It was obliged to remunerate any Technical Services Consultant out of its own advisory fee.
60. Mr. Lyndon-Stanford submitted that RBE undertook the responsibility of advising the Fund on all aspects of investment decisions, including the reliability of ERVs and renewals provided by the asset managers and whether in the light of them, and of other relevant considerations, leases were suitable for the Fund. RBE in its turn entered into the Technical Services Agreement to obtain from UBK, in effect as a sub-contractor, the expertise and advice that were needed to enable it to perform those obligations. If, therefore, the Fund was given bad advice, it could look to RBE for redress under the Investment Advisory Agreement and RBE could in turn look to UBK for redress under the Technical Services Agreement. That, he submitted, reflected one of the fundamental principles governing the relationship between RBE and UBK, namely, that UBK should not have any relationship with the Fund of a kind that would have to be disclosed to investors. To recognise a duty of care under Hedley Byrne principles would, he argued, involve recognising a relationship of a kind that the parties had taken pains to exclude.
61. Mr. Brindle did not accept that the duties of RBE as General Investment Adviser were as extensive as those of UBK under the Technical Services Agreement and submitted that it was possible for UBK to be in breach of the Technical Services Agreement without RBE being in breach of the Investment Advisory Agreement. He drew attention to various differences between the two agreements, such as the fact that they were made at different times, that they were subject to different laws and were worded in different ways, in support of the submission that the Technical Services Consultant was intended to perform functions that differed from those that were to be performed by the General Investment Adviser. However, given the way in which the Fund was structured, there are in my view at least two reasons for expecting that RBE as General Investment Adviser would be the party contractually responsible for giving advice to the Fund about the acquisition of leases and related matters, including matters such as the reliability of ERVs and renewals put forward by the asset managers. The first is that it was clearly the parties' intention to structure the Fund in the same way as the UBK Fund and indeed one can see that the form and contents of the documents constituting the Fund followed very closely those by which the UBK Fund had been constituted. The UBK Fund had a General Investment Adviser whose function was to advise the Fund on all matters relating to the acquisition of leases, including the reliability of ERVs and renewals proposed by the asset managers. One would therefore have expected the RBE fund also to have a General Investment Adviser to perform the same functions. The second is that the position of General Investment Adviser, as reflected in the documents themselves, is that of the person primarily responsible for providing the Fund with advice on matters such as these. It is true, as Mr. Brindle pointed out, that the Investment Advisory Agreement contemplates the existence of a technical service consultant, but the role of that person is nowhere defined and it has no formal relationship with the Fund. There is nothing in the Investment Advisory Agreement, the Fund's Prospectus or elsewhere in the documents to suggest that the General Investment Adviser's role was to be limited in any way or that its responsibility for advising the Fund did not extend to matters on which it might itself think it appropriate to obtain the assistance of third parties. The fact that the agreements were entered into at different times and were governed by different laws is of no significance given the fact that the essential structure of the Fund had been established from the time the Heads of Agreement were signed.
62. In my view the fact that RBE's obligations under the Investment Advisory Agreement are worded in more general terms than those of UBK under the Technical Services Agreement merely reflects the different nature of the positions which they occupied in the overall scheme of things. I agree with Mr. Lyndon-Stanford that the duties of RBE as General Investment Adviser to the Fund are wide enough to encompass all the matters on which UBK was to provide advice to RBE under the Technical Services Agreement and that a breach of the Technical Services Agreement by UBK would almost inevitably result in a breach of the Investment Advisory Agreement by RBE. It follows that this is, in my view, a case in which UBK undertook as a sub-contractor to provide information to RBE that would enable it to perform its obligations to the Fund.
63. It does not necessarily follow, however, that the parties intended UBK as Technical Services Adviser to be free of any duty of care to the Fund that might otherwise arise under the general law. Mr. Lyndon-Stanford submitted that in order to satisfy the regulator the structure devised by the parties and expressed in their agreements had to be "real and not a façade" and he pointed out that there is nothing in the prospectus to indicate that the Fund had any kind of relationship with UBK. I accept, of course, that it was necessary for the prospectus to give an accurate account of the Fund's nature and structure and it is to be noted that it did indicate that the directors might take the advice of leasing and technical advisers. However, I am unable to accept that the omission of any reference to the possibility that third parties such as technical advisers might owe duties of care to the Fund under the general law means that no such duties were intended to arise or that the arrangements under which they might arise were in any sense a façade. It was not the function of the prospectus to address questions of that kind.
64. In the end it is necessary to decide whether this is one of those cases in which the contractual arrangements were intended by the parties to provide the only source of legal rights and obligations, as is usually the case where parties enter into sub-contracts in connection with construction projects, for example, or whether it is one of those cases in which a sub-contractor owes a duty of care under the general law to the person for whose benefit he has agreed to act concurrently with his contractual obligations under the sub-contract. In Henderson v Merrett Lord Goff recognised that in many cases where a person sub-contracts the performance of an obligation with the knowledge and consent of the person to whom he owes that obligation the resulting chain of contracts is intended to provide the sole means by which the sub-contractor can be held liable for any loss that he may cause to parties higher up the chain. In such cases the sub-contractor owes them no separate duty of care sounding in tort. It is also right to say that he seems to have regarded the situation created by the arrangements between Lloyd's Names and their members' and managing agents as unusual. However, in seeking to decide on which side of the line any case falls I think that Lord Goff's speech in Henderson v Merrett supports the conclusion that, although one should not approach the matter in a mechanical way, it is appropriate to ask whether the parties to the contractual chain can properly be taken to have intended to exclude any duty of care that would otherwise have arisen under the general law as a result of the relationship between them. That is likely to depend on the general nature of the contractual relationships, as well as their particular terms, and may also be influenced by established practices in the particular field of activity in which the parties are engaged.
65. This approach is consistent with the decision of the Supreme Court of Canada in Edgeworth Constructions Ltd v N. D. Lea & Associates Ltd 107 D.L.R. (4^th) 169 on which Mr. Brindle placed some reliance. In that case the plaintiff construction company had entered into a contract with the Province of British Columbia on the basis of tender documents prepared by the defendant engineers. The plaintiffs alleged that some of the specifications contained in the tender documents were inaccurate and that, having been misled by them, they had suffered a loss in carrying out the work. They sought to recover against the engineers on the ground of negligent misrepresentation. The Supreme Court held that, since the engineers undertook to produce the documents on which they knew tenderers would rely in submitting a price, the circumstances were on the face of it sufficient to give rise to a duty towards persons in the position of the plaintiffs to exercise reasonable care in preparing them. The question was whether the contract between the province and the contractor, which stated that the tender documents were provided for information of bidders and were not warranted or guaranteed by the Minister, negated the existence of such a duty. The court held that it did not. McLachlin J. giving the leading judgment held that although the province was not willing to assume any responsibility for design defects, the contract contained no general exclusion of liability purporting to protect the engineers and that therefore the contractual arrangements could not be said to be inconsistent with the existence of a duty of care under the general law.
66. Two factors may have had a significant bearing on the court's decision in that case. The first is that the province did not warrant the accuracy of the tender documents. That meant that although the design became incorporated into the contract, the contractor had no redress against the province for defects in design affecting the work. Since the terms of contract are an essential part of the tender materials, the engineers as well as the contractor must have been aware of that. Secondly, it appears that the engineers were not engaged to play any role in connection with the execution of the contract works; they were engaged merely to do the design work and to produce the tender documents. They were, therefore, in the position of third parties engaged solely to provide information on which the contractor would base his tender with no recourse to the province if the information were defective. In those circumstances the court held that neither the contractual structure nor the terms of the contract between the province and the contractor negated the existence of a duty of care.
67. The present problem appears to have troubled the courts mainly in the context of construction projects and operations of a similar nature in which the relationships between the employer, the main contractor and any sub-contractors are regulated by contract and the imposition of liability for purely economic loss through the imposition of common law duties of care is often seen as cutting across the established contractual relationships. In the present case the issue arises in an entirely different context and, moreover, in circumstances in which it was recognised from the outset that the whole purpose of UBK's involvement was to provide the specialist advice that the Fund required to operate effectively. In my view the nature and terms of the contracts governing the parties' relationships are not inconsistent with an assumption of responsibility by UBK to the Fund for the quality of the advice it provided. Moreover, the manner in which much of that advice was expected to be, and was, given, namely by the attendance of Mr. Weist at meetings of the Fund's board, reinforces the conclusion that it did in fact assume such a responsibility. I am satisfied, therefore, that UBK did owe a duty to the Fund to exercise reasonable care to ensure that the advice it gave was sound.

(b) Standard of care – review or independent analysis?

68. It is then necessary to consider what steps UBK was obliged to take in order to discharge that duty of care. Mr. Lyndon-Stanford submitted that in the light of the duties imposed on it by the contractual documents it was sufficient for UBK to carry out a limited review of the ERVs and renewal assumptions put forward by the asset managers. Mr. Brindle, on the other hand, contended that UBK was obliged to carry out a more searching analysis sufficient to enable it to satisfy itself independently that the information was reliable.
69. In support of his argument Mr. Lyndon-Stanford placed considerable reliance on section 3.3 of the Administrative Procedures to which I have already referred. Although that document was never formally approved by RBE, he submitted that it became binding by virtue of its incorporation into the Technical Services Agreement, being the only document to which the defined term "Administrative Procedures" was capable of referring. Since the draft was prepared some months before the parties entered into the Technical Services Agreement and appears to have been uncontroversial, I am prepared to accept for present purposes that it is the document to which that Agreement intended to refer. However, I am unable to accept his argument that its effect was to limit the scope of UBK's obligations or restrict the level of skill and expertise that UBK was obliged to exercise when giving its advice.
70. Mr. Lyndon-Stanford's argument depends mainly on construing the opening words of clause 2.5 of the Technical Services Agreement ("to provide on-going technical services to the Fund Advisor as contemplated by the Administrative Procedures, including, but not limited to, the following") as words of limitation, restricting the scope of UBK's duty to a review of the kind referred to in section 3.3 of the Administrative Procedures. However, I do not think that they can be read in that way. The form and content of the Administrative Procedures makes it clear that, as their name suggests, their purpose was to describe the various steps that would need to be taken to administer the Fund. They were not drafted in the form of an agreement and their function was not to establish the rights and obligations of UBK, RBE or the Fund. Accordingly, the opening words to clause 2.5 of the Technical Services Agreement are in my view to be understood words of explanation and description rather than words of limitation. However, even if the Administrative Procedures were intended to play some part in defining he scope of UBK's duties, I do not think that the language of section 3.3 is sufficient for Mr. Lyndon-Stanford's purposes. The word "review" is capable of covering a wide range of activities ranging from a cursory examination to a detailed analysis, depending on the context in which it is used. In this case it is the Technical Services Agreement which both determines the nature of UBK's obligations and provides the context in which the expression is to be understood. In my view the duties to be performed by UBK by way of continuing advice and assistance are those set out in clause 2.5 of the Technical Services Agreement and it therefore follows that UBK was bound to evaluate specific leases, analysing the asset manager's estimates of residual value and renewal assumptions before proposing that the lease be acquired by the Fund, if it considered it appropriate to do so. Moreover, it is interesting to note that section 3.3 of the Administrative Procedures contemplates that UBK would use a combination of "quantitative and qualitative techniques", which itself suggests that some degree of independent analysis was to be undertaken.
71. Although the Technical Services Agreement does not itself govern the scope of UBK's duty of care to the Fund, it does provide an important part of the background to the relationship between them inasmuch as its terms describe the steps that UBK was expected to take for the purpose of giving its advice. It thus assists in determining what steps UBK could reasonably be expected to take to satisfy itself of the reliability of information received from the asset managers and the level of skill and care that it could reasonably be expected to exercise when giving advice on such matters. The reference in clause 4.1 to the level of experience and expertise which UBK had acquired through the operation of its own fund is also an important matter, as is the description of its own expertise that UBK gave during the course of the negotiations.
72. Prior to the establishment of the Fund, and indeed for some time thereafter, none of those at RBE who were involved in its management were familiar with the intricacies of the leasing business, in particular the methods of estimating the residual value of equipment at the end of the lease term and the particular skills required for that purpose. A general understanding of those matters was something they acquired progressively through the operation of the Fund. The understanding that RBE, and through it the Fund, had of UBK's ability to evaluate in a critical way information provided by the asset managers was largely derived from what UBK itself had said during the early discussions. In my view, in the exchanges between the parties which preceded the Technical Services Agreement, in the agreement itself and in the way in which it subsequently gave advice to the Fund, UBK held itself out as having the degree of knowledge and expertise needed to undertake a critical review of the information relating to individual leases provided by the asset managers, thereby enabling it to give independent and soundly based advice on the suitability of leases for acquisition by the Fund.
73. Mr. Lyndon-Stanford submitted that it was not contemplated by any of the parties that UBK should itself calculate from scratch the residual value of equipment covered by leases offered to the Fund, thereby duplicating the work that had been carried out by the asset managers. I agree, but there is a very real distinction between carrying out an independent analysis using the information and skills that UBK said it could bring to bear in order to provide an independent check on ERVs and renewal estimates received from the asset managers and simply considering whether such information appeared to be generally satisfactory and consistent with similar information provided in the past. UBK held itself out as having the ability to carry out an independent analysis and the Fund relied on it to do so. Although it was not expected or required to duplicate in its entirety the work of the asset managers, it was obliged to analyse the figures it received from them in sufficient depth and with sufficient care to enable it to satisfy itself independently that they fell within an acceptable range for information of that kind.

5. Breach of duty

74. In the course of his opening Mr. Brindle identified a number of respects in which he submitted that UBK had failed to perform its duties under the Technical Services Agreement and had been negligent in advising the Fund. However, it became clear in the course of argument that the breach of duty on which the Fund relied was a failure to take reasonable care to ensure that the advice it gave in relation to individual leases was sound and that most of the specific matters complained of were simply factors which contributed to that essential breach of duty. I think it preferable, therefore, to concentrate on the allegations that lie at the heart of the case, namely, that UBK failed to take all reasonable care to ensure that its advice relating to ERVs, renewals and the suitability of leases as investments for the Fund, both generally and in terms of their projected yield, was sound. Indeed, the dispute falls within an even narrower compass than that. Since the present value of the income from rental payments could be calculated without much difficulty, the main thrust of the complaint is that UBK wrongly advised the Fund that the information provided by the asset managers in relation to renewals and residual values was satisfactory.
75. Mr. Brindle submitted that UBK had failed in every case to carry out the kind of detailed evaluation or analysis that was necessary if it were to exercise reasonable care to ensure that its advice to the Fund was sound and he therefore invited me to determine the issue of breach of duty in relation to the portfolio as a whole. However, I do not think it is possible to do that. Each lease bought by the Fund represented a separate transaction and in each case UBK gave advice about the characteristics of the lease and its suitability for acquisition by the Fund. Although that advice was not limited to the residual value of the equipment, it was the ERVs put forward by UBK which were the primary focus of attention.
76. Estimating the value of equipment at the end of a lease, as with most exercises in valuation, involves a significant element of judgment and therefore the views of competent appraisers in relation to any given piece of equipment are likely to vary, perhaps quite widely. This difference of opinion gives rise to what has sometimes been called a 'permissible range' within which all careful and competent valuations can be expected to fall. In cases dealing with the valuation of property it has been held that if the valuation in question falls outside the permissible range, that will itself be strong, though not conclusive, evidence of negligence: see the decision of the Court of Appeal in Merivale Moore Plc v Strutt & Parker [1999] 2 EGLR 171, in particular per Buxton L.J. at page 176G-M. However, in the same case the court also held that if the valuation falls within the permissible range, it cannot be regarded as wrong and the question of negligence does not arise: see ibid. per Buxton L.J. at page 176K.
77. In my view similar principles apply in the present case. The first step is for the Fund to show that in any given case the ERV approved by UBK (together with any renewal assumption) fell outside the permissible range. Unless it can do that, it will not be able to establish that the advice was wrong and it will be unnecessary to enquire into how it came to be given. Once it is shown that the ERV fell outside the permissible range, however, not only will that be sufficient to establish that the advice was wrong; it will also be evidence of negligence on the part of UBK. It follows that the issue of breach of duty is not one that can be determined across the portfolio as a whole but will have to be determined by reference to each lease individually.
78. Having said that, many of the matters on which the claimants relied as evidence of negligence on the part of UBK relate to the way in which it carried out is functions as Technical Service Consultant throughout the period during which the Fund was making investments. Those are matters which are relevant to the advice given in relation to most, if not all, of the leases acquired by the Fund and it is therefore appropriate to make findings about them at this stage. I shall return to the issue of negligence, therefore, after I have considered the issues relating to misstatement.

(a) Misstatement

79. The Fund acquired nearly two hundred leases in all and in each case UBK put forward as part of its advice to the Fund an ERV for the equipment covered by the lease, and in some cases a renewal assumption as well, both of which it implicitly asserted was sound. Although the advice given in respect of each lease has to be considered individually, the first step is to establish the essential principles to be applied in setting ERVs and in assessing what significance should be attached to potential renewals. The application of those principles to the individual leases is likely to be a time-consuming exercise which may or may not be contentious. The parties agreed, therefore, that as far as this aspect of the dispute is concerned, I should confine myself at this stage to identifying the relevant principles, leaving any disputes that may arise in connection with their application for determination at a later date.
80. It was necessary for the Fund as an investor in equipment leases to establish as accurately as possible the present value of any lease offered to it in order to satisfy itself that it would provide a suitable rate of return on the funds invested in its purchase. In financial terms an operating lease of equipment (that is, a lease under which the value of the rental stream does not represent the whole, or almost the whole, value of the equipment and the lessee does not acquire title to the equipment at the end of the term) represents two quite distinct sources of income: the rental stream itself and the residual value of the of the equipment at the termination of the lease. These are fundamentally different in nature and different techniques are required to establish their present value. In most cases valuation of the rental stream is relatively straightforward: future rental payments are discounted at a rate which reflects the creditworthiness of the lessee and any other contingencies that are significant enough to be taken into account. In this case only one issue arises in relation to discounting rental payment, namely the appropriate discount rate. I shall return to it later, but for the time being it can be put on one side.
81. Estimating the residual value of the equipment poses much greater difficulties, the foremost of which is estimating the market value of used equipment of the kind in question in the market at the end of the lease term. That is likely to be some years in the future and market prices are liable to be affected by a variety of factors including physical condition, technical obsolescence, the amount of equipment on the market, and the economic climate generally. In order to estimate the residual value of equipment leasing companies make use of specialist equipment appraisers whose function is to assess what the equipment will be worth to the lessor at the end of the lease term. It will be necessary to discuss in some detail in a moment the principles involved in making such an assessment, but in substance the appraiser is normally asked to produce a fair neutral estimate of value on the assumption that factors such as the value of money and the general level of economic activity remain constant. Although equipment appraisal involves a significant measure of judgment, the figure produced by the appraiser can be regarded for present purposes as the "true" ERV. Armed with this the leasing manager will decide at what level he can afford to set the rental payments, if he is setting the terms of a new lease, or how much he can afford to pay for the lease, if he is buying an existing lease as an investment.

(1) Pricing and valuing

82. There was a certain amount of debate between the parties whether there is any difference between 'pricing' and 'valuing' a lease. For this purpose 'pricing' is a term sometimes used to describe the process of determining the level of rental payments and the ERV to be held on the lessor's books when the lease is entered into. 'Valuing', on the other hand, simply means calculating the present value of a lease and is a necessary part of the process leading to a decision whether to buy an existing lease as an investment, and if so at what price.
83. It became clear in the course of the expert evidence that in one respect there is a clear distinction between pricing and valuing arising from the fact that the original lessor is free to set the terms of the lease in negotiation with the lessee. Within the constraints imposed by the market and his own financial and commercial requirements the lessor can set the rental payments as high as the lessee will accept or as low as he is himself willing to allow. In order to make the transaction profitable, however, the total income received by the lessor must exceed the original cost of the equipment, the time value of money over the life of the transaction (including the time required to dispose of the equipment at the end of the term) and the lessor's overheads. It follows that the higher the rental payments, the lower the amount that has to be recovered from the equipment itself at the end of the term in order to cover all the lessor's expenses and begin to make a profit. Conversely, the lower the rental payments, the higher the amount that must be recovered from the equipment. The ERV adopted by the leasing manager within the transaction is to some extent, therefore, a matter of commercial decision and since the receivable represented by the residual value is more uncertain than that represented by the rental stream, a person pricing a lease will normally seek as far as possible to increase the rental payment and reduce the ERV taken onto his books, thereby reducing the financial risk in the transaction to which he is exposed. It is for this reason that the expert witnesses described the ERV as a tool used by leasing managers to manage risk. However, reducing the booked ERV has another well-recognised benefit in that it generates the potential to make an enhanced profit as a result of the greater difference between the ERV and the actual realisable residual value of the equipment. The lessor's room for manoeuvre when setting the ERV is not wholly unconstrained, however. For example, even if it is willing to accept a relatively high ERV, it must ensure that it is aware of, and can accept, the relationship between the ERV within the transaction and the true ERV produced by the appraiser. A failure to do so may lead to a loss on the transaction as a whole.
84. When it comes to putting a value on an existing lease the position is different inasmuch as the terms have already been established. There is no room to adjust the rental stream, which is in any event comparatively easy to value; the real difficulty lies in estimating the residual value of the equipment. This again requires the skills of a specialist equipment appraiser, but in this case, instead of using the ERV obtained from the appraiser as the basis for setting the rental payments and as a tool for managing risk, the purchaser of the lease will need to decide what discount to apply for the inherent uncertainties in realising the full amount of the equipment's estimated residual value. That may or may not lead to the adoption of the same ERV as the original lessor took onto its books when pricing the lease.

(2) Estimating residual value

85. Obtaining a reliable ERV is thus an essential step for the purposes of both pricing and valuing. I had the benefit of evidence from four expert witnesses, all of whom had extensive experience of commercial leasing operations in the United States. Two of those witnesses, Mr. Gregg Dight and Mr. Kevin Florenz, had considerable experience as equipment appraisers; the other two, Mr. John Deane and Mr. George Fry, had many years' experience on the commercial side of leasing operations.
86. Mr. Deane and Mr. Fry were both impressive witnesses, though they gave their evidence in very different ways. Mr. Deane was careful and precise in cross-examination and his evidence in general was notably more measured than that of Mr. Fry who at one point went so far as to suggest that Mr. Deane had set out to support a particular conclusion rather than to give evidence on an objective basis. Mr. Brindle suggested that in doing so Mr. Fry had lost his objectivity and that Mr. Deane's evidence should therefore generally be preferred, but I do not think the position is as simple as that. Mr. Fry was certainly more flamboyant and often did not express himself with the same careful precision as Mr. Deane. He was wrong to accuse Mr. Deane of tailoring his evidence, but he has had a great deal of experience of commercial leasing operations conducted under the aegis of an investment bank and I regard his evidence as providing a useful and reliable view from a different perspective.
87. Mr. Dight and Mr. Florenz provided less of a contrast. Mr. Dight was another careful and thoughtful witness whose long experience as an equipment appraiser made it appropriate in my view to place a good deal of weight on his evidence. Mr. Florenz also had substantial experience, especially in the field of valuing lease portfolios, but where the two were in conflict I have generally preferred the evidence of Mr. Dight to that of Mr. Florenz whose evidence was in my view less soundly based and whose experience of equipment appraisal does not quite match that of Mr. Dight.
88. Although there was a considerable measure of agreement between the experts, their views on the principles to be applied in estimating residual values differed in some important respects, but before turning to consider their competing views it is necessary to consider certain arguments put forward by Mr. Lyndon-Stanford concerning the proper approach to equipment valuation in this case.
89. In the present case the Fund asserts that it was induced by the advice it received from UBK to buy leases that it would not otherwise have bought. On that basis it is seeking to recover from UBK the difference between what it paid for the leases making up the portfolio and what they were actually worth at the time it acquired them. Mr. Brindle submitted that the right way to assess the value of the individual leases in the portfolio, and indeed the portfolio as a whole, is to ascertain what could have been obtained for them in the market at the time of purchase. However, although equipment leases are routinely bought and sold, they are not commodities. Each lease has its own particular characteristics and there is therefore no market in the conventional sense to which one can look for immediate evidence of value. Accordingly, if one is seeking to establish a market value for a lease the appropriate method is to value it in accordance with the established practice of the leasing market. Mr. Brindle submitted that in this context there is no material distinction between pricing and valuing because a potential buyer of a lease intending to hold it as part of an investment portfolio would adopt the same approach when valuing it as the original lessor would when pricing it. Mr. Lyndon-Stanford, however, submitted that because in this case the leases were being put forward as assets for inclusion in an open-ended investment fund, it is appropriate to take a less cautious approach and to value them in a way that reflects the full residual value of the equipment.
90. In principle one would not expect there to be any significant difference between the value that a leasing company would place on any given lease and the value that would be placed on the same lease by an investment fund. In either case the purchaser needs to put a present value on the rental stream and the residual value of the equipment, discounting at whatever rate it considers appropriate to reflect the risks involved and there is no obvious reason why the results of the exercise should differ. Mr. Lyndon-Stanford submitted, however, that the Fund's expert witnesses had adopted a much too cautious approach by treating the valuation exercise as if it were an exercise in pricing. In particular, he submitted that they had adopted an artificially low basis of valuation for the purposes of estimating residual value and then, having obtained an ERV by that method, had applied a further discount (known as a "haircut"), thereby producing a figure that failed properly to reflect in each case the true value of the lease.
91. For the reasons I have already given, I think it is appropriate to draw a distinction between pricing and valuation simply because the ERV set in the course of the pricing exercise will not usually be a true estimate of the residual value of the equipment at the end of the lease term. Whether a potential purchaser would normally adopt the same approach when valuing a lease is another question, however. Mr. Brindle submitted that it would, because it would look for the same characteristics as those which it would seek to build into the transaction when carrying out an initial pricing itself. That can be achieved by placing a conservative value on the ERV when deciding what the total income is likely to be. However, as Mr. Florenz pointed out, if the income from the rental stream is relatively high, so that the amount that has to be recovered from the residual value in order to generate a reasonable return is relatively low, one would expect the purchase price to reflect the additional element of profit recoverable from the residual value. Mr. Lyndon-Stanford's argument comes close to saying that a commercial investor such as a leasing company would be unwilling to pay a price for a lease that reflected its true value, but in my view that is really a contradiction in terms. The best evidence of the value of an asset of this kind is usually the price that it would command in the open market, or in this case the value that would be obtained by the application of established principles in the leasing industry.
92. In support of his submission that a less cautious approach than might be taken by the market should be adopted when valuing the leases in this case Mr. Lyndon-Stanford relied heavily on the fact that the Fund was established as an open-ended investment fund. He submitted that it is an essential requirement of a fund of this kind that every attempt should be made to ensure that all investors from time to time are treated fairly and equally. That was certainly the understanding of those such as Mr. Scott, Mr. Holmes and Mr. Cooney who were responsible for running the Fund and it is broadly supported by Guidance Note 1/00 of the Irish Financial Services Regulatory Authority relating to funds of this kind. In my view their understanding was correct. Mr. Deane suggested that fairness and equality of treatment could be reflected in the payment of higher dividends to those who entered the Fund later and assumed a higher degree of risk as the Fund depended to a greater extent on the realisation of residual values for its income, but this fund was not structured in that way. The articles provided for the value of the Fund to be calculated on each Dealing Day in a way that reflected as accurately as possible the true value of the assets and for dividends to be paid to shareholders in equal measure according to the size of their holdings. In order to give effect to that principle it is necessary when calculating the net asset value of the Fund to assess the residual value of the equipment as accurately as possible without regard to any kind of cushion or hidden profit. However, that does not mean that when deciding how much to pay for a lease in the first place it would be right for the Fund to ignore the approach that would be taken by other potential purchasers and the effect, if any, that that would have on its market value.

(3) The basis of valuation, "haircutting" and renewals

93. The experts all recognised that a number of different bases of valuation could be used when estimating the residual value of leased equipment. These can be described (in ascending order) as scrap value, forced liquidation value ("FLV"), orderly liquidation value in exchange ("OLVIE"), fair market value in exchange ("FMVIE") and fair market value in place ("FMVIP"). Scrap value speaks for itself. FLV is the price that could be obtained for the equipment at public auction on the assumption that the seller is under compulsion to dispose of it within 90 days. OLVIE is essentially the same as FLV apart from the fact that the seller is assumed to be under less pressure to sell, being under compulsion to dispose of the equipment within 180 days. FMVIE is the price that could be obtained on a sale between a willing buyer and a willing seller, neither being under any compulsion. FMVIP is essentially the same as FMVIE with a premium to reflect the additional value to the purchaser of being able to retain the equipment in place. In each case there may be costs associated with the disposal of the equipment, such as refurbishment, storage and sale costs, that will reduce the amount ultimately received by the lessor, although these are likely to be minimal in the case of a sale in place to the lessee. Clearly, the choice of valuation basis is likely to have a significant effect on the estimate of residual value.
94. One of the main differences between the parties was whether OLVIE or FMVIE should be adopted as the basis for estimating the residual value of the equipment covered by the leases held by the Fund. Another was whether a percentage reduction in the form of a haircut should be applied to the appraiser's estimate to obtain a final ERV. Mr. Deane described haircutting as a means of providing some protection against potential residual value losses arising from factors such as changes in economic conditions which are normally disregarded by appraisers. As such it can be regarded as another tool for managing risk. In one paragraph of his report he quoted from a guide to leasing published by the Equipment Leasing Association of America which suggests that typical haircuts range from 10% to 50% of the calculated residual based on FMVIE or OLVIE. However, it is also interesting to see that in the following paragraph he said that one approach typically adopted in the U.S. leasing market as a means of inherently providing that protection is to base the ERV on the equipment's orderly liquidation value (i.e. OLVIE).
95. Although the basis of valuation and the application of a haircut are separate concepts, they are closely related since together they determine the ERV which is adopted as representing that element of income in the transaction which is to be derived from the equipment itself at the end of the lease. If one uses a more conservative basis of estimating residual value, it may not be appropriate to apply a severe haircut, or indeed any haircut at all, in order to obtain the appropriate overall level of protection, and vice versa.
96. Mr. Dight and Mr. Deane both said that OLVIE should be adopted as the basis of valuation on the grounds that, although the Fund could hope in a few cases to obtain FMVIE, it was likely that a fair proportion of the equipment would be returned at the end of the lease or renewed on terms less favourable than fair market value. Any equipment returned would have to be sold on the open market and in those cases the Fund could not reasonably expect to achieve FMVIE since it would be under some degree of pressure to dispose of it reasonably quickly. (The same is probably true for most lessees of the more common types of leased equipment.) Mr. Deane said that a haircut of 30% should be applied to the ERV produced by the appraiser on an OLVIE basis in order to produce a satisfactory ERV.
97. Mr. Florenz and Mr. Fry, on the other hand, considered that FMVIE should be used because in practical terms the best outcome that could be achieved was a sale to the lessee at FMVIP and the worst was a sale in the market at OLVIE if all the equipment were returned to the Fund. In their view FMVIE fairly reflected the average of those two extremes. Neither of them considered it appropriate to apply a haircut to an ERV calculated on the basis of OLVIE.
98. One important fact on which the experts agreed was that in practice most leased equipment remains in the possession of the lessee after the original term has expired, either because it is sold to the lessee or because the lease is renewed, either for a definite period or on a month to month basis. (This is sometimes described as the propensity of the equipment to "stick"). Mr. Deane produced statistics which suggested that a little over a quarter (27%) of lessees renew their leases in one form or another and that a little over half (55%) purchase the equipment at the end of the lease. These figures did not prove to be very controversial and would produce an overall "stick rate" of about 80%.
99. The experts also agreed that as a general rule the lessor can expect to realise a higher residual value on equipment that sticks with the lessee than on equipment that is returned. That might suggest that at worst he will achieve better than OLVIE and may even recover FMVIP. However, it is necessary to bear in mind the usual workings of the market. It does not follow that in cases where the lessee retains the equipment the lessor achieves FMVIP (or its equivalent in rental terms) even in the case of an outright sale. That depends on the terms agreed between the parties, which inevitably reflect their relative negotiating strengths. Even in cases where the lease gives the lessee the right to renew at a fair market rent or to buy at fair market value there is nothing to prevent the parties agreeing different terms when the time comes. The experts agreed that FMVIP is the highest value that can be achieved for used equipment and for obvious reasons it will be achieved, if at all, on a disposal to the lessee, but in the case of movable equipment, such as fork lift trucks and computers, which is unspecialised and readily available in both the new and used markets, there may well be little incentive for a lessee to pay a premium to retain his existing equipment. Indeed, it does not inevitably follow that the lessor will at least realise a residual value in excess of OLVIE on a disposal to the lessee, since a lessee of equipment that is highly mobile and easy to replace may well be in a position to negotiate a purchase from the lessor at or very near to OLVIE. From the lessor's perspective even a sale to the lessee at OLVIE is preferable to accepting the return of the equipment, since he is able to avoid incurring the usual costs associated with its disposal in the market.
100. As all the witnesses agreed, it is to the lessor's advantage for the reasons indicated earlier that the ERV in the transaction should be as low as possible. That is the case, whether the exercise being conducted is one of pricing or valuing with a view to purchase. It is certainly an argument for taking OLVIE as the basis of valuation, but if half of the equipment can be expected to be sold to the lessee on terms that are generally more favourable than would be obtained in the open market following its return to the lessor, that is a factor that cannot be ignored. In these circumstances to adopt OLVIE as a basis of valuation across the board and in addition to apply a haircut of 30% suggests a very cautious approach and one that did not accord with the experience of Mr. Fry. Indeed, as Mr. Lyndon-Stanford pointed out, if OLVIE is adopted as the basis of valuation, the application of a 30% haircut may result in an ERV which is lower than forced liquidation value. He submitted that that could not be justified and in my view there is some force in that submission. On the other hand, to take FMVIE as the basis of valuation and to apply no haircut struck Mr. Deane as most unwise.
101. It is necessary at this stage to say something about the significance to be attached to the prospects of renewals which pose difficulties of their own. At the time of entering into a lease there is little or no information that will enable the lessor to form a reliable view about whether the lessee will renew, and if so, for how long or on what terms. Much will depend on the circumstances in which the lessee finds himself at the end of the lease term and even lessees with a long history of renewing have been known to change policy abruptly. The difficulty of predicting the likelihood of renewal in any given case was acknowledged by both Mr. Florenz and Mr. Fry, neither of whom was able to support the renewal assumptions approved by UBK. It is true that Mr. Florenz was prepared to suggest that there is a level at which the renewal rental is so low as to be compelling, which he put at 50% of the original, but I obtained the clear impression that that was little more than an attempt at an educated guess. Moreover, once rentals are reduced that far there is an increased risk that renewal will reduce rather than increase the amount ultimately realised by way of residual value. I think Mr. Deane was right in saying that is it a mistake to place any reliance on the prospect of achieving a negotiated renewal on terms that are beneficial overall.
102. Having heard the different approaches debated with the witnesses in cross-examination, I am satisfied that at the commercial level, as one would expect, there is no one single clearly defined approach in this market. Different lessors adopt different approaches to pricing and valuation based on a variety of commercial factors. Mr. Deane's preference for OLVIE as the basis of valuation, subject to a further 30% haircut, no doubt reflects the practice of many lessors, but I think it represents the conservative end of the scale. Similarly, I accept in the light of the evidence of Mr. Fry and Mr. Florenz that some leasing companies do adopt FMVIE as a basis of valuation, perhaps with a small haircut, or even no haircut at all, though I am unable to accept that that is the general practice. Certainly the quotation from the guide to leasing on which Mr. Deane relied suggests that FMVIE is one recognised basis of valuation, although it probably reflects the more speculative end of the scale and would no doubt justify a substantial haircut.
103. In my view the right approach is to take the basis of valuation that broadly reflects the mid-point in market practice and I think that OLVIE with no haircut fairly represents that for a number of reasons. First, in some leases the lessee is given the right to buy the equipment at the end of the term at FMVIE, which prevents the lessor from obtaining any premium that it might otherwise obtain as a result of selling the equipment in place. Such a term was included in some, though by no means all, of the leases held by the Fund. Secondly, the premium over FMVIE that the lessor can hope to obtain from a sale to the lessee of equipment that is not of a specialised kind or installed as part of an existing plant is likely to be small or even non-existent. Indeed, there is a serious risk that the lessor may not even obtain FMVIE in such cases. Thirdly, although the lessor can expect that on average lessees will renew in a significant number of cases, it is very difficult to predict with confidence whether any given lessee will do so and, if it does, for what period and at what rate. For these reasons, even if all the equipment were to remain with the lessees at the end of the term, it is doubtful whether the lessor would recover much, if anything, above FMVIE and there is a significant risk that it might recover less. In fact, however, it is likely that a significant proportion of the equipment will be returned, whether at the end of the original term or after a period of renewal, and if that happens there is likely to be some pressure on the lessor to dispose of it within a matter of months. Although some equipment lessors have established retail outlets, most have not and equipment that is not disposed of promptly will inevitably incur storage costs. All these factors mean that on average the lessor cannot expect to recover FMVIE and therefore when deciding how much to pay for a lease a purchaser will not usually be willing to place a residual value on the equipment based on an expectation of actually obtaining that level of return. Fourthly, it must be borne in mind that there will inevitably be some costs associated with the disposal of any equipment that is not sold to the lessee. Even if one assumes that over half the equipment will be disposed of in that way, the rest is likely to find its way back to the lessor eventually, even if at the end of a renewal period. Because of all the uncertainties involved it is not possible to place much reliance on rentals accruing from renewals. In some cases the renewal rent will be profitable to the lessor, but in others it may not be for the reasons explained earlier. Income from renewals, therefore, does not always provide a sufficient buffer against obtaining the price available at public auction from which the costs of sale have to be deducted. The experts agreed that renewals, whether formal or informal, should not be regarded as providing a source of additional income but as one way of realising the residual value of the equipment at the end of the original lease term. The right approach, therefore, is to establish the ERV at the end of the base term and ignore any income that may be derived from renewals. Finally, the risk of being forced to dispose of unwanted equipment at scrap value, possibly after a period in storage, cannot be ignored altogether.
104. Mr. Lyndon-Stanford relied on IEC's report in May 2000 in support of his argument that FMVIE should be adopted as the basis for valuation because it represents the mid-point between FMVIP and OLVIE. It is true that viewed across the portfolio the valuation produced by IEC on these two bases provides some support for his argument, but for the reasons I have already given, I do not think that a prudent lessor could have much confidence in obtaining FMVIP in many cases. Mr. Dight did not accept that there was a significant difference between FMVIP and FMVIE in the case of most of the equipment covered by the portfolio since the costs of installation were insignificant. In his view the difference between FMVIE and OLVIE was much greater. Quite apart from that, the argument assumes that the chances of achieving FMVIP is as great as that of achieving OLVIE. Mr. Dight did not accept that and for the reasons already given I think his view is correct. In the light of the evidence as a whole I do not think that there are sufficient grounds for concluding that FMVIE represents the value at which, on average, a lessor could expect to dispose of equipment at the end of the lease term.
105. Mr. Lyndon-Stanford also drew my attention to a passage in IEC's report on its valuation of the Fund in 2001 in which it was said that the use of OLVIE would establish a "floor" below which the value of the Fund would not be expected to fall. He submitted, therefore, that a somewhat more generous basis of valuation ought to be adopted for present purposes to reflect the prospects of renewals and the sale of equipment to the lessee. He also relied on the evidence of Mr. Florenz that he did not consider OLVIE to be the correct basis on which to value a portfolio of leases. This evidence is not without some relevance, of course, but I do not think that it outweighs the various factors already mentioned which lead me to a different conclusion. Mr. Deane and Mr. Dight dealt in some detail with the factors bearing on the basis of valuation and it is a pity that Mr. Florenz did not seek to grapple with the arguments in favour of OLVIE in any of his reports, even after Mr. Deane had made it clear that in his opinion it was the correct basis to use. However, what I found of greater assistance was the exploration of these issues in cross-examination, in the light of which I found the evidence of Mr. Deane on this point more persuasive. It is also important to remember that the task of the court in this case is not to value the portfolio as such but to identify the principles which determine what value a particular lease would have commanded in the market at the time of its purchase by the Fund. In the former case it may be appropriate to adopt an approach which is somewhat less conservative overall than that of a typical market participant considering whether to make an investment. In the light of the evidence as a whole I am satisfied that commercial leasing companies tend to err on the side of caution when estimating residual value for the purposes of making an investment of this kind, in part, perhaps, because they are aware of the risk that the market for used equipment may decline over the period of the lease. OLVIE and FMVIE are both well-recognised bases of valuation of the kind that one would expect a prospective purchaser to take when making its initial calculation of the value of the asset in question, though the price ultimately agreed upon may reflect some degree of negotiation. The evidence in this case leads me to the conclusion that the prudent, but not over-cautious, purchaser would adopt OLVIE as the basis for estimating residual value, but for the reasons I have given I am not persuaded that he would go further and apply a haircut to the ERV assessed on that basis. For all these reasons I am satisfied that OLVIE with no haircut is the right basis to adopt for when estimating residual value for the purposes of this case.
106. It is convenient at this point to deal with one general criticism that Mr. Lyndon-Stanford made of Mr. Dight's estimates of residual value, namely, that they could be seen to be too low across the board. The examples he took to demonstrate the point concerned leases of 5 railway locomotives and a lease of a number of laptop computers.
107. The locomotives in question were rebuilt diesel electric locomotives leased to Burlington Northern & Santa Fe Railway which were offered to the Fund in November 1998. The lease was for a renewal period of 3 years from June 1998. Working on the basis of information available at that time Mr. Dight estimated the residual value of each of the locomotives in June 2001 to be just over US$216,000 on an OLVIE basis. However, in December 1997 the locomotives had been appraised by Mr. Jim Husband and Mr. Norman Seip who are recognised by many as the leading authorities in the commercial rail and locomotive industry. They had estimated the residual value of each of the locomotives to be US$405,000 and US$415,000 respectively. On the basis of this evidence there would appear to be some force in Mr. Lyndon-Stanford's argument, but Mr. Dight pointed out that those appraisals had been based on the assumption that there would be an agreement in place under which the locomotives would continue working and earning revenue, whereas his was not.
108. I have little difficulty in accepting Mr. Dight's evidence that the residual value of a railway locomotive depends to a considerable degree on whether there is an agreement in place under which it can earn revenue and indeed it appears from the report of Mr. Seip that he had valued the locomotives on the basis that the current lessee was likely to want to employ them for some years after the end of the base lease term. Whether Mr. Dight was right to calculate the ERV of these locomotives as of the date the Fund acquired the lease on the basis that they would not have the benefit of such an agreement is debatable given the information then available, but the fact that by October 2002 they had been returned by the lessee and were considered by IEC to have no more than scrap value might be said to indicate the wisdom of taking a conservative approach in such matters.
109. The computers present a different picture. They were sold to the lessee at the end of the lease term for a little over US$70,000, whereas Mr. Dight had estimated the residual value to be only US$12,310. On the face of it this again provides strong support for Mr. Lyndon-Stanford's argument, but on closer inspection it appears that this transaction was most unusual. Mr. Florenz estimated the residual value of the equipment at only US$28,000 on an FMVIE basis, so it is clear that some factor came into play in that case which neither of the appraisers had foreseen.
110. I do not think that these two examples justify my rejecting all Mr. Dight's estimates of residual value. Nor in my view do they seriously undermine the conclusion that OLVIE is the appropriate basis on which to assess ERVs in this case. Ultimately it will be necessary to consider each lease individually in order to determine the mid-point ERV of the equipment at the time the lease was purchased by the Fund applying the principles set out in this judgment and at that stage there will be an opportunity to make further submissions on the appropriate figures if they are in dispute.

(4) Sources of data - market or cost?

111. There are three recognised sources of information that might be used as the starting point for calculating the residual value of equipment: current market prices for used equipment, the cost of new equipment and the income that can be derived from the use of the equipment over the course of its remaining economic life. The first of these, the so-called 'market approach', involves obtaining market data on recent auctions of used equipment of the same or a comparable kind and making such adjustments to reflect differences in factors such as age, condition and capacity as the appraiser considers appropriate using his own judgment. The second, the 'cost approach', involves taking the current cost of new equipment and discounting it for physical and economic depreciation. The third, the 'income approach', is based on the earning capacity of the equipment in question.
112. In the present case the experts agreed that the income approach was unsuitable and should be rejected. They also agreed that the market approach, the cost approach, or a combination of the two could be acceptable in estimating residual values, but that the market approach should be used in all cases where there was a readily identifiable, i.e. an active, secondary market and sufficient comparable sales data was available. However, there was a difference between them on the proper course to take when insufficient market data was available. Mr. Deane and Mr. Dight were of the opinion that where there was not enough market data available to provide a satisfactory basis for estimating residual value a balance should be struck between the market and the cost approach according to the information available to the appraiser. That was the course taken by Mr. Dight in making his estimates of residual value based on OLVIE. Mr. Florenz and Mr. Fry, on the other hand, considered that the cost approach should not be used for estimating residual value on any liquidation value basis (for present purposes that means OLVIE) unless there was no secondary market information available so that to adopt the cost approach was effectively the only course open to the appraiser. When making his estimates of residual value on an FMVIE basis Mr. Florenz resorted to published market data together, in some cases, with some rather ill-defined additional market sources.
113. One of the skills involved in the application of the market approach is judging whether the available information on sales is sufficiently representative of the market as a whole and the equipment in question to provide a reliable basis for estimating residual value. If an appraiser thinks that the data he has been able to obtain does not represent a large enough proportion of all relevant sales of the relevant type of equipment to be wholly reliable, or if the information relates to equipment that is not closely comparable to the equipment he is appraising, he may well seek to discuss prices more generally with dealers who are active in the market. Their opinions on the current value of a particular item of used equipment may not be derived from specific sales and may be expressed in terms of recovering a certain proportion of the original cost of the equipment, but they are nonetheless useful as a means of sounding the market and refining any assessment based purely on sales information. Mr. Dight regarded an estimate of residual value using those different kinds of information as based on a combination of the market and the cost approach and used that method to make his estimates of residual value, giving such weight as he thought appropriate in each case to the information derived from the different sources.
114. Mr. Lyndon-Stanford criticised Mr. Dight for using what might be called a "hybrid" approach even in relation to certain types of equipment for which there was arguably sufficient used sales information to adopt a "pure" market approach. Criticism of that kind suggests that appraisal is a rather mechanistic process that ought to follow certain strict rules. In fact, however, it is more or less a matter of judgment depending (in the case of the market approach) on the amount of sales information available to the appraiser and the extent to which the equipment being appraised is of comparable type, age and condition. In a case where the appraiser has a large amount of sales information relating to very similar equipment, I should not expect him to give much, if any, weight to dealers' opinions based on original equipment cost. Conversely, if he has only a moderate amount of sales information relating to less comparable equipment, it may be more appropriate to give greater weight to such market opinion. Provided the appraiser gives appropriate weight in each case to the different kinds of information available to him, I see no reason to think that the adoption of the hybrid approach is likely to distort the result to a significant extent. Accordingly, I am unable to accept that the adoption by Mr. Dight of the hybrid approach invalidates his calculations, though it may be necessary in due course to consider whether in any given case he has given too great or too little weight to the available sales information.

(5) The use of residual value matrices

115. Mr. Dight was also criticised for his use of residual value matrices in estimating the residual value of equipment held by the Fund. Residual value matrices are simply graphs or tables plotting the decline in value of equipment over time and showing the residual value year by year as a percentage of original cost. As such they reflect the methodology of the cost, rather than the market, approach to estimating residual value. They are widely used in the leasing industry as a means of providing managers with a quick guide to residual values, but are not generally regarded as a satisfactory substitute for a proper appraisal.
116. The value of a matrix of this kind depends entirely on the nature and quality of the information on which it is based. For example, at one extreme it could be based on nothing more than a theoretical rate of annual depreciation that failed to take adequate account of technical obsolescence or changes in business practices affecting the market for the particular type of equipment. At the other, it could be based on substantial amounts of data relating to documented sales of equipment together with other information derived from equipment auctioneers and others active in the market.
117. Mr. Dight produced a residual value matrix for each distinct category of equipment held by the Fund as part of the process of estimating the residual value of the equipment covered by each lease at the time it was purchased. In his report he described in some detail the information on which the matrices were based, the assumptions that underlay them, and the use he made of them in arriving at the ERVs set out in the appendices. From his evidence one can see that the matrices themselves were based on reports of sales and other information derived from the wider market and do not reflect theoretical rates of depreciation. Moreover, Mr. Dight did not regard them as providing a definitive estimate of residual value but used them as a starting point for his assessment of the residual value to be attached to individual items of equipment. I am unable to accept, therefore, that he allowed himself to be constrained by an artificial straightjacket that failed to reflect in an appropriate way the evidence available from the market.
118. Mr. Lyndon-Stanford criticised Mr. Dight for making use of matrices in circumstances where it was said there was sufficient market information available to enable him to follow the conventional market approach, the suggestion being that it effectively invalidated his conclusions. In my view that is not the case. I accept that since the market approach does not call for the creation of any sort of matrix, one is entitled to enquire into the method by which Mr. Dight created his matrix in any such case and the use to which he put it, but it does not follow that the use of a matrix renders his conclusions invalid. I have already described the various sources from which Mr. Dight obtained his information and why he resorted to them. If one accepts, as I do, that in general the market evidence did not provide a sufficiently reliable basis on its own for estimating residual values, I see no reason why evidence of a cost-based nature should not be used as well. Nor do I see any reason why the whole of the information should not be incorporated into a matrix and used for the purpose of estimating the residual value of equipment of the kind to which it related. As I indicated earlier, the value of a matrix of this kind depends very much on the quality of the information on which it is based and the way in which it is used. Accordingly, although I think that UBK is entitled to scrutinise the use that Mr. Dight makes of matrices in this case, I do not think that the method he adopted of estimating residual value invalidates his conclusions.
119. One specific criticism made of Mr. Dight's matrices is that he adopted the wrong figures for original cost, both in constructing the matrices themselves and in applying them. I shall consider this criticism at a later stage when I come to deal with certain aspects of the cost approach.

(6) The adequacy of the market information

120. In contrast to Mr. Dight, Mr. Florenz based his estimates entirely on market information, but Mr. Brindle submitted that the information available to him was not extensive enough to provide a satisfactory foundation for the exercise. Apart from information gathered in conversations with dealers and other market participants, all the material that Mr. Florenz relied on was set out in the appendices to his supplementary report. Of that by far the greater part related to sales of forklift trucks, with a small amount relating to construction equipment and a further small amount relating to computer equipment. Mr. Florenz said that he had also drawn on conversations with dealers and brokers in relation to other types of equipment and he also said that he had had access to other information, including auction data maintained by his former employers which he had not been able to make available for scrutiny. However, despite previous requests in correspondence to produce all the material on which he had relied in making his report, this information emerged for the first time in the course of cross-examination, and I am not satisfied that he originally made use of any other specific information about sales of these or other kinds of equipment.
121. It is apparent from an examination of Mr. Florenz's data relating to forklifts that it did not contain many examples of the kind of information that would be necessary to enable a detailed comparison to be made with the equipment he was seeking to appraise in terms of age, condition and mechanical specification. Nor did it provide any of the other information relating to sales that he himself said could be expected to influence the ultimate selling price. In the light of its rather limited nature I do not think that the market data produced by Mr. Florenz provided a satisfactory basis on its own for estimating residual values. That is not to say that the information is worthless, but the fact that it is limited in its scope provides support for the adoption of the hybrid approach advocated by Mr. Dight.

(7) Replacement Cost New

122. As I have already pointed out, the method of estimating residual value adopted by Mr. Dight, involving as it did the use of matrices, made it necessary as a first step to establish the cost of replacing the equipment as new in order to construct the relevant depreciation curve. At first sight that might appear to present few difficulties, but it gave rise to one dispute between the experts, namely, whether the original cost of the particular equipment under lease could properly be taken as representing the cost of replacing it (what is generally known as 'replacement cost new'). The problem arises as a result of the widespread practice of manufacturers and dealers of discounting list prices, not only as a general sales technique, but also in individual cases in response to factors such as bulk orders or pressure from commercially powerful buyers. The issue arose in the context of Mr. Dight's residual value matrices. Mr. Florenz understood that when constructing his matrices Mr. Dight had taken the advertised list price as representing the original equipment cost, whereas there had in fact been an element of discounting, sometimes quite substantial, in most if not all cases. He considered that Mr. Dight had therefore taken too high a starting figure for the purposes of his matrices and had thereby created an artificially steep depreciation curve. As a result, it was said, the matrices tended to underestimate the residual value of the equipment part way through its life.
123. In this context it is necessary to distinguish between list price in the sense of the advertised price, a discounted price reflecting the normal reduction of the list price from which any purchaser might expect to benefit, and a specially discounted price that might be obtained for bulk orders or other special commercial considerations. Part of the difficulty in this case arose from the fact that Mr. Dight used the term 'list price' with less precision than was desirable. He explained that he had obtained information from a variety of sources to establish the original equipment cost that he had used as the starting point and had not simply taken undiscounted list prices. Nonetheless, he continued to refer to his starting point as the 'list price' and Mr. Florenz can be forgiven for thinking that in identifying the replacement cost new he had taken a higher figure than could be justified.
124. If one is going to construct a residual value matrix of this kind it is essential that the figure taken for replacement cost new should reflect any discounts from the published list price that the ordinary purchaser could expect to receive. However, in the light of Mr. Dight's explanation of how he arrived at what he called a 'list price' I am not persuaded that he failed to take account of discounts of that kind when constructing his matrices.
125. A matrix of the kind used by Mr. Dight provides the appraiser with figures for depreciation in percentage terms on an annual basis to give a residual value year by year. It follows that it is important when using it to ensure that the figure taken as the starting point does fairly represent the value of the equipment when new. Although replacement cost new is taken as the starting point, it is necessary to bear in mind that cost is used as a means of establishing original value. A depreciation curve which is intended to reflect declining market value should therefore take as its starting point the cost to an ordinary purchaser of obtaining the equipment new since that best reflects the full value of the equipment on the day it leaves the factory. That will reflect any discounts ordinarily available, but not special discounts reflecting unusual factors. That is consistent with the fact that although market values of used equipment of any given type are affected by supply and demand, the value of any individual item of equipment does not depend on its original purchase price. A five year old fork lift truck in average condition will command the same price whatever it cost to buy.
126. Mr. Chambers for UBK challenged Mr. Dight's application of the matrices on the grounds that he had applied them to the actual cost of the equipment which in some cases had been heavily discounted. Taking a heavily discounted purchase price would obviously result in a lower estimate of residual value that would be the case if the starting point were the normal price. In the absence of some evidence to support the suggestion that the discounts obtained by the lessees in this case were abnormally large, Mr. Dight was unwilling to accept that even significant discounts off published list prices could properly be viewed as unusual and it is not possible as this stage to reach any conclusion one way or the other in relation to the equipment covered by individual leases. However, for the reasons I have already given I am satisfied that the original cost of the equipment cannot properly be taken as fairly representing replacement cost new to the extent that the lessee obtained a level of discount not available to purchasers in general.
127. Mr. Brindle submitted that commercially more powerful lessees who are well placed to obtain the most favourable discounts at the time of purchase are equally well placed to drive a hard bargain when the equipment comes up for sale at the end of the lease term. I accept that in principle that is probably so, but I do not think that the concessions obtained at the end of the lease term would be likely in absolute terms to match those obtained at the time of original acquisition.

(8) Permissible range of estimated residual values

128. There was general agreement among the experts that an estimate of residual value for any given piece of equipment could reasonably fall within a range of 10-15% of either side of the mid-point. (Mr. Lyndon-Stanford reminded me that at one point Mr. Deane had mentioned a range of 0-50%, but I am satisfied on looking again at this part of his evidence that he was referring to the potential effect on residual value of changes in economic and other circumstances, not to the range within which estimates produced by competent appraisers in relation to the same equipment could be expected to fall.) This range reflects the different weight given by individual appraisers to the various factors that affect their overall conclusions. One would expect that over a whole of a portfolio individual differences of judgment would tend to balance each other out resulting in a narrower range of overall values and some support for that conclusion can be found in a comparison of the portfolio valuations produced by IEC and Murray Devine which fell within about 3% of the mean. However, since in the present case it will be necessary to consider each lease individually in order to determine whether the advice given was wrong, the relevant range of variation is that which relates to the assessment of individual residual values. In the light of the expert evidence I am satisfied that estimates of residual value made by competent appraisers could vary by as much as 15% either side of the mid-point which therefore represents the permissible range by reference to which the advice given by UBK in each case falls to be judged.

(9) Discounting

129. In order to determine the present value of the income to be received under the lease, whether in the form of the rental streams or the residual value of the equipment, it is necessary to discount its future value at an appropriate rate. Clearly, the choice of discount rate may have a significant effect on the calculation of present value.
130. Although they agreed on the need for a discounted cash flow analysis, the experts disagreed on two questions: whether a single discount rate should be used to value both kinds of receivables, and what rate or rates should be used.

(i) One discount rate or two?

131. The issue between the experts was whether the same discount rate should be adopted for the purposes of valuing the rental stream and the residual value, or whether different rates should be adopted to reflect their very different characteristics. However, it rapidly became clear during the evidence that this is an arid dispute. What really matters is not whether one or two rates are used but what rates are adopted. Since it was accepted on all sides that all but three of the lessees were investment grade companies, the two elements making up the total income to be received under the lease were significantly different in nature. A single discount rate can be expected to produce a satisfactory result, therefore, only if it adequately reflects the different factors applicable to each element and is weighted to reflect the amounts involved. Moreover, since the balance between rental income and residual value varied between leases, it would not be strictly appropriate to adopt the same rate in each case. Mr. Deane was in favour of using separate discount rates for rentals and residual values in order to achieve greater accuracy. Mr. Fry, however, said that he had never seen two separate rates used in practice, but as he himself accepted, it makes no difference provided the rates chosen fairly reflect all the various factors that need to be taken into account. For the purposes of the present discussion I think it is helpful to consider each aspect of the discounting exercise separately in order to examine the various factors that have to be taken into account and the arguments in relation to them.

(ii) The discount rate for rental streams

132. The experts agreed that in principle the discount rate should reflect the risks affecting the realisation of the asset in question. In the case of the rental streams the risks were generally low in view of the fact that nearly all the lessees were investment grade companies. However, even within that group the credit rating of some lessees was higher than others and there were additional risks arising from the fact that the asset managers were responsible for the collection and remittance of rental payments. Moreover, rental payments cannot be freely traded in the same way as corporate bonds and to that extent do not represent quite such an attractive asset. For all these reasons I think that Mr. Brindle was right in saying that the market would discount this element of the income stream at a higher rate than it would apply to investment grade corporate bonds.
133. Mr. Fry was of the view that the appropriate discount rate for the rental streams was 40-70 basis points over U.S. Treasury bonds, reflecting the fact that one or two of the lessees were of the very highest credit rating, but that many, while still investment grade, were rated a little lower. Mr. Deane, on the other hand, considered that an appropriate rate was 150-250 basis points over U.S. Treasuries. He said that he would expect to obtain about 100 basis points over U.S. Treasuries on debt issued by the highest rated lessees and more on the others.
134. This issue largely comes down to a simple difference of opinion between Mr. Deane and Mr. Fry as to the market rates applicable to corporate debt. In principle each lease and each lessee ought to be considered on its own merits because rates are affected by many factors including prevailing interest rates and the period of deferment, but both sides addressed their submissions on the basis that I should determine rates which would apply to the portfolio as a whole and for practical purposes I think it is appropriate to do so. If one is seeking to find a rate which fairly reflects the assets in the portfolio as a whole it must be one that reflects not only the fact that not all the lessees were of the very highest credit rating but also the other risks associated with the collection of rentals to which I referred earlier. In my view Mr. Fry's range of 40-70 basis points over U.S. Treasuries is too low and to that extent I accept Mr. Deane's evidence. However, the upper end of Mr. Deane's range of 150-250 basis points over U.S. Treasuries strikes me as being on the high side for what were, with only a few exceptions, investment grade lessees. I have reached the conclusion that an appropriate discount rate to apply to the rental streams over the portfolio as a whole is 150 basis points over U.S. Treasuries.

(iii) The discount rate for residual value

135. Identifying the appropriate discount rate for residual values is more difficult because of the greater degree of uncertainty attaching to their realisation. It was common ground, however, that it is appropriate to adopt a higher rate than that used to discount rental streams in order to reflect the greater risk involved. In the event, both Mr. Deane and Mr. Fry proceeded on the basis that the discount rate ought to be related in one way or another to returns on equity. Mr. Deane adopted rates based on industry average returns on equity for the years 1997 to 2000 drawn from surveys carried out by the Equipment Leasing Association of America ("ELA"). That approach was criticised by Mr. Fry, however, on a number of different grounds, one of which was that the data contained in the ELA surveys did not provide a reliable basis for reaching any conclusions about the leasing industry in general. At this point, therefore, it is necessary to say something about the ELA itself and the nature of the data contained in its surveys.
136. The ELA has been in existence for about 40 years and is the largest national trade association of equipment leasing and finance companies. It includes among its members most of the major equipment lessors in the United States. Mr. Deane himself has been actively involved in the Association since 1972 and served as chairman from 1991 to 1993. For some 20 years the ELA has conducted annual surveys of industry activity by inviting its members to complete questionnaires covering a wide range of different aspects of their business. The responses are collated by a third party, in recent years a firm of accountants, and used to produce statistics relating to various aspects of industry activity. Among the information collected is financial data which includes returns on equity. Mr. Deane relied on the ELA surveys since he considered them to contain generally reliable evidence of the activities to which they relate.
137. Mr. Fry, on the other hand, was of the view that the data contained in the ELA surveys was practically worthless. His opinion was based in part on the fact that those responding to the questionnaire represented only a small proportion (between a quarter and a third) of the total membership of the Association and in part on the fact that those who did respond did not provide information in relation to all sections of the questionnaire. He also pointed out that the surveys do not include information from some of the largest leasing companies in the United States. Accordingly, he did not consider the data to be representative of the membership of the ELA as a whole, let alone of the industry at large. Moreover, since the questionnaires sought information about new business booked, he thought there was a risk that many transactions were counted twice if a lease was sold on by the original lessor. His views were also coloured by his belief, based on his own experience, that many of the companies that did respond were unlikely to have devoted sufficient time and resources to the exercise to ensure that the data they supplied was reliable. He thought that many of those who responded were inclined to exaggerate their successes and minimise their failures, so distorting the results.
138. Mr. Fry's criticisms of the data contained in the ELA surveys were put to Mr. Deane in some detail in cross-examination. He accepted that many members did not respond to the survey and accepted that the opportunity existed for some of those who did respond to give distorted information, but he pointed out that the Association went to some lengths to ensure that the raw data was kept secret (thereby minimising the incentive to distort responses) and took steps to ensure that inherently doubtful information was scrutinised before being included in the results. He did not consider that the number of responses was too small to be statistically relevant or that false information was likely to have been provided on a scale that would significantly affect the overall results.
139. I have no reason to doubt Mr. Deane's account of the way in which the ELA survey data was compiled and I found his responses to Mr. Fry's criticisms generally persuasive. In my view this was an area in which Mr. Fry tended to overstate his case and it is notable that although Mr. Florenz expressed some caution about the reliability of the information the surveys contained, he too was inclined to accept that they could be of some general value. I think it would be wrong to treat the information they contained as completely worthless, although I accept that it cannot be accepted uncritically. It is necessary to bear in mind both the source of the data and the fact that it is derived from a fluctuating body of respondents. There are obvious dangers, therefore, in treating information of this kind as though it were definitively accurate. Used with care, however, I think that it can, as Mr. Deane suggested, provide useful guidance on longer term trends as well as benchmarks that can be used as points of reference.
140. Mr. Deane was of the opinion that in selecting the appropriate discount rate for the residual value of leased equipment it was appropriate to have regard to the level of returns on equity that a commercial leasing company dealing in comparable types of assets could expect to obtain. Using the information contained in the ELA surveys, therefore, he calculated an average return on equity for companies operating in the middle market segment which all agreed corresponded to the sector of the market in which the Fund was seeking to invest. Using that information he calculated returns on equity of 26.39%, 15.45% and 5.80% for the survey years 1997, 1998 and 1999 respectively and yields (or return on net earning assets) for the same years of 11.38%, 7.63% and 6.21%.
141. Mr. Deane accepted that the difference between the returns on equity for the 1997 and 1998 years shown in the surveys was greater than he would have expected and might have been influenced by changes in the composition of the respondents to the questionnaire or by an event affecting the 1997 year, such as an unusual residual gain, that was not repeated in subsequent years. This suggests that the figures for the 1997 survey year may well be significantly on the high side and emphasises the need for caution when dealing with this kind of data. In my view, however, a more telling argument against adopting a discount rate based simply on returns on equity derived from this source is that made by Mr. Fry, namely, that the rates of return on equity to be found in the ELA surveys reflect the relatively high level of capital borrowing on which much of the industry operates. The Fund by contrast operated entirely on equity capital. For this reason I am unable to accept that the data drawn from the ELA surveys provides an satisfactory basis for selecting the discount rate to be used in this case.
142. Mr. Lyndon-Stanford, supported by Mr. Fry, submitted that the discount rate should reflect the Fund's target yield of around 2% over LIBOR which effectively established the market for this purpose. (The experts agreed that there was no significant difference for these purposes between LIBOR and the rate for U.S. Treasuries.) On the face of it there would seem to be no reason why the Fund's own target rate of return should necessarily bear any relationship to the market rate. The managers may have set out to obtain a certain yield and may have calculated that a particular asset would provide a return on investment that would meet their target, but if the purpose of the exercise is to determine what the asset is worth in terms of its present value, the appropriate discount rate ought to reflect its current value in the open market. However, I think that the answer lies in the nature of the leases that the Fund was seeking to acquire.
143. The ELA surveys provide some guide to the returns that could be obtained in the industry during the years in question, but there is no reason to think that some if not all of the companies that responded were willing to accept a broader range of lessees and risks than those in which the Fund was interested. Mr. Deane confirmed that during the period when the Fund was investing in leases there were transactions available in the market that met its particular investment criteria. The source of the problem in his view was that UBK had failed properly to analyse the leases offered to the Fund and as a result had recommended for purchase leases with overestimated ERVs that could not reasonably be expected to produce the returns it was seeking. During the discussions that preceded the establishment of the Fund UBK told RBE that its own fund was consistently achieving returns of 2% over 6-month LIBOR net of fees and when the board of the Fund met in November 1997 to set its initial investment target it decided upon a net internal rate of return of between 1% and 3% over 3-month US Dollar LIBOR. In practice the target rate of return started at 7% per annum, but was reduced to 6.5% in February 1999 following a general fall in interest rates and thereafter varied between 6.5 and 6%. However, as Mr. Brindle pointed out, in order to generate those returns net of fees, gross income had to be about 2% higher.
144. If leases were available in the market which met the Fund's criteria, they were by definition transactions that could be expected to produce a gross yield of not less than 3% over LIBOR. Such a rate would fairly reflect the market's assessment of the risks inherent in realising the assets they represented, namely, a combination of the rental streams and residual values. Although the leases which the Fund actually acquired may not have been quite of the quality it was seeking, I do not think that the difference justifies taking a significantly different yield as the basis for the discount rate.
145. In these circumstances I am satisfied that, as Mr. Fry suggested, the discount rate that should be used to value the estimated residual value of the assets is one which, taken in conjunction with the rate used to value the rental streams, fairly reflects the Fund's overall target rate of return, including the amount required to meet its expenses.
146. Mr. Fry agreed that it was quite acceptable to use separate discount rates for the different elements of income, but he preferred the use of a single rate that reflected the Fund's overall target rate of return for both which is a rather simpler way of achieving the same result. Having reached the conclusion that the rate to be used for discounting the residuals should be one that, together with the rate used for discounting the rental stream, reflects the Fund's target rate of return, I think that it is preferable for practical purposes to use a single rate for both elements. To reflect the changes in interest rates over the period of the Fund's operation I have reached the conclusion that the discount rate to be adopted for both elements of the lease income should be the Fund's net target rate plus 2% to cover expenses, i.e. 9% for the period from November 1997 to February 1999 and 8% thereafter.

(10) Summary of conclusions on valuation

147. I can summarise my conclusions on the principles to be applied in calculating the ERV of leased equipment in this case as follows: the appropriate basis for calculating residual value is OLVIE, but with no haircut; the nature and quality of the market information available to the appraisers was not sufficient to justify relying on the market-based approach to estimating residual value to the exclusion of other methods; the matrices constructed by Mr. Dight are an appropriate tool to use for estimating residual value in this case; when identifying replacement cost new for the purposes of the cost-based approach, it is appropriate to take into account discounts from list price that are available to purchasers in general, but not special discounts that reflect bulk orders or other special commercial considerations; the permissible range of estimates of residual value is 15% either side of the mid-point for individual items of equipment (it will be necessary to determine in each case whether the residual value approved by UBK fell outside the permissible range); separate account should not be taken of the possibility of renewals which should be treated simply as a means of realising residual value; rental payments and residual values should both be discounted at the rate of 9% for the period up to February 1999 and at the rate of 8% thereafter.

(b) Negligence

148. Although it was not expected to duplicate the work of the asset managers, I am satisfied for the reasons given earlier that in order to discharge its duty of care to the Fund UBK was under an obligation to conduct an independent critical review of ERVs and renewal assumptions which they put forward. It was necessary therefore for it to understand the principles applicable to the calculation of residual values and to have access to sufficient market and other information to enable it to conduct a review of that kind. It was also necessary for it to have a sufficient understanding of the commercial aspects of the leasing industry in the United States to enable it to make an informed judgment about the value that the market would attach to individual leases and a sufficient understanding of the terms and commercial implications of the agreements under which asset managers produced leases for purchase by the Fund.
149. Mr. Brindle submitted that in every case UBK failed to carry out the kind of independent evaluation and analysis that was required in order to meet the standard of care that it had undertaken to exercise. One of the difficulties facing the court in this case is that none of those who were involved in giving advice to RBE or the Fund gave evidence and it has not been possible, therefore, to obtain as clear an insight into the way in which they went about performing their task as would ordinarily be the case. The only evidence is that contained in the disclosed documents. That is regrettable, but cannot be helped. The position in relation to each lease will have to be considered on its own merits, but as I indicated earlier, it is appropriate nonetheless to make a number of findings that apply generally to this aspect of the case.
150. It is apparent from the evidence of the experts that the calculation of ERVs calls for the exercise of a high degree of skill and judgment based on familiarity with current market and trade information. No one at UBK itself possessed a sufficient degree of expertise to carry out that task and UBK did not itself maintain or have access to a current database of information relating to used equipment values or prices for new equipment. Some of the sources of information used by professional appraisers, such as publications containing details of prices achieved at auctions of used equipment, are publicly available and UBK appear to have obtained some of them. UBK did create its own residual value matrix, but it was based on the experience it had derived from the management of its own fund and a certain amount of information obtained from the asset managers. It did not in my view provide an adequate tool for the kind of analysis of ERVs that UBK had agreed to undertake. Expertise and information of the necessary kind could have been obtained by employing a suitably qualified person or by making use of external consultants. Until late 1999 UBK did in fact employ the services of an external adviser, Mr. Richard Swomley, whom it described in its promotional material as a leasing consultant with Smith Barney Shearson. However, there is no evidence about the nature of his qualifications, experience or background and none of the expert witnesses had come across him.
151. UBK's contact with the leasing market was mainly, if not entirely, confined to its dealings with the asset managers. They were all experienced commercial leasing companies who were no doubt willing and able to share market information with UBK, but they had their own interests to protect. Mr. Brindle submitted that there was a conflict of interest between the asset managers and the Fund which UBK failed to recognise and take into account. I think he was right in saying that there was a conflict of interest insofar as the asset managers were offering leases to the Fund on which, if a purchase was made, they received fees at various stages. There was, therefore, an incentive for them to make leases offered to the Fund appear as attractive as possible and there was evidence that in some cases one of the asset managers had made what were described as "aggressive" (i.e. optimistic) assumptions of renewals and residual values in order to produce a projected rate of return that would meet the Fund's requirements. There were also potential conflicts of interest at the end of the lease term when asset managers seeking to dispose of equipment had an incentive to preserve long term commercial relationships with lessees at the expense of maximising returns under individual leases.
152. The importance of these conflicts of interest should not be over-stated, however. As Mr. Fry pointed out, the asset managers could not afford to structure new leases in a way that was commercially unsound because they could not be sure of selling them to the Fund, and if they did not, would either have to retain them in their own portfolios or dispose of them on the open market. Moreover, when describing leases to the Fund they could not honestly give information about ERVs and renewal estimates which they did not think could reasonably be supported. The asset managers also had some incentive in the form of a percentage fee on the residual value actually realised to maximise returns at lease termination, but it was relatively small in the overall scheme of things. For present purposes, however, it is enough to say that UBK should have been aware of these conflicts of interest and should have taken them into account when reviewing the asset managers ERVs and projected rates of return. I am satisfied, however, that it did not do so.
153. The documents disclosed by UBK do not support the conclusion that it carried out any independent critical reviews of ERVs, renewal assumptions or rates of return. On the contrary, they show that UBK reviewed ERVs and other financial information provided by the asset managers only by reference to its own assessment of their general expertise and their previous performance. Indeed, Mr. Lyndon-Stanford did not seek to persuade me otherwise. He submitted that it was sufficient for UBK to confine itself to a more limited review of that kind because it had taken proper steps to ensure that the asset managers themselves were competent.
154. At one stage it appeared that there might be a dispute between the parties in relation to the adequacy of the steps taken by UBK to investigate the operations of potential asset managers and to assess their suitability both as producers of potential investments and as agents for the management of leases acquired by the Fund. Certainly Mr. Deane was reluctant to accept that UBK's investigations into those matters had been of the highest quality, but I am not persuaded that it failed to take proper steps in that regard, or, more importantly for present purposes, that it had specific grounds for thinking that the information they provided was generally other than sound. However, that did not relieve UBK of the need to carry out its own independent review in circumstances where it had undertaken responsibility for doing so and for giving advice on the basis that it had done so. I am satisfied that UBK failed to carry out independent analyses of the asset managers' ERVs or renewal assumptions and that it failed to evaluate the leases by reference to information derived from an independent review of that kind. Had it done so, it is likely that its attention would have been drawn to any ERV that fell outside the permissible range and that in such cases it would not have advised the Fund that the lease was suitable for acquisition. I have no doubt that the Fund would have rejected any lease that was over-priced or which was not calculated to give a rate of return consistent with its target yield. It follows that insofar as it is shown that the information provided by UBK was wrong in these respects the Fund is entitled to recover its loss from UBK .

6. Damages

155. The primary loss which the Fund seeks to recover is the difference between the amount it paid for the leases and their true value at the date of purchase. That is said to be US$20,805,006. It also seeks to recover damages in the amount of the dividends that were paid to investors in the mistaken belief that the estimates of future income from renewals and residual values continued to provide a sound basis for valuing its assets. The sum claimed under this head is a little under US$9 million.
156. Mr. Lyndon-Stanford accepted that if UBK is liable to the Fund for giving bad advice about the characteristics of any particular lease, the Fund is entitled to recover the difference, if any, between the amount it paid for that lease and its actual value on the date it was purchased. He submitted, however, that that represented the limit of its entitlement and that it could not recover in addition damages in respect of overpayment of dividends. In my judgment he is right about that. The Fund existed solely for the purpose of investing the share capital contributed by its members. The amount available for distribution by way of dividend in respect of any class of shares was limited by the articles of association to the aggregate of the income and capital gains, both realised and unrealised, attributable to that class of shares on the relevant Dealing Day. In the event there was only one class of shares and the directors' policy was to distribute in dividends on each Dealing Day the whole of the amount by which the net asset value of the Fund exceeded the par value of the issued share capital on that day. Insofar as the directors were led to overestimate the net asset value of the Fund, the effect of paying a dividend in accordance with that policy would have resulted in a small return of capital, but the recovery of damages representing the original shortfall in value, together with interest at an appropriate rate, would have the effect of restoring the net asset value of the Fund to the level commensurate with the dividends already paid. Unlike an ordinary commercial organisation the Fund had no interest of its own in any part of the income it generated and to allow it to recover damages in respect of dividends paid to shareholders would simply enable the investors to obtain the same benefit twice over.
157. At this point it is convenient to mention the claim made by RBE and Riyad Bank to recover part of the fees paid to UBK under the Technical Services Agreement. Provision for the remuneration of UBK was made by clause 3.1 of the agreement in the following terms:

"As consideration for the services rendered and to be rendered by the TSC to the Fund Advisor in connection with the Fund, the Fund Advisor shall pay, cause the Fund to pay or cause to be paid to the TSC the following amounts at the following times:

(a) Within 10 days after each Dealing Day, an amount equal to 1.0% of the amount of the cost of Assets purchased by the Fund on that Dealing Day

(b) Within 10 days after each Dealing Day, a management fee at a rate of 0.75% per annum of the Net Asset Value of the fund . . . . . "

158. At the start of the trial RBE and Riyad Bank were seeking to recover the whole of the amount paid to UBK by way of management fees amounting to US$1,225,753.89 on the grounds that if it had advised the Fund properly, none of the leases held by the Fund would have been acquired and no management fees would therefore have become payable. By the end of the trial that claim has been modified and was pursued only in respect of the difference between the fees actually paid to UBK and the fees that were properly payable having regard to the true value of the Fund.
159. As in the case of the dividends claim, Mr. Lyndon-Stanford submitted that if the Fund recovered damages by reference to the difference between the price paid for the leases and their true value, this claim could not succeed. Again, in my view, that is substantially correct. Although the articles of association required the net asset value of the Fund per share to be recalculated for each Dealing Day, it was IFMI's practice, as UBK was aware, to base the valuation of each lease on the ERV and other information approved by UBK at the time of acquisition, subject to any modification suggested in a subsequent Due Diligence Report. Insofar as that information was over-optimistic, therefore, the net asset value of the Fund was over-stated and as a direct result the management fees paid to UBK were too high. Recovery of damages calculated by reference to the difference between the price paid for the leases and their true value, together with interest at an appropriate rate, would, however, have the effect of placing the Fund in the position that it would have been in if there had been no breach of duty. Although RBE or Riyad Bank would be entitled in principle to recover the amount by which fees were originally overpaid, the Fund would have to give credit against its claim for damages for the additional fees that would have been payable if there had been no breach of duty in order to avoid being over-compensated. The most that UBK can be required to pay in respect of any breach of duty, therefore, is the difference between the price paid for the assets in question and their value at the date of acquisition.

7. Claim for loss of Reputation

160. In July 2000 Riyad Bank bought the whole of the issued share capital of the Fund from the investors for the sum of US$74,900,416. Of that sum US$8,149,395 is said to have been attributable to cash and two leases that had been acquired otherwise than on the recommendation of UBK. The balance of US$66,751,021 is said to represent the cost of acquiring the remaining leases which had been purchased on the advice of UBK and which are alleged to have been worth at that time only US$42,871,526. In the present action Riyad Bank and RBE claim to recover the difference, namely US$23,879,495, from UBK as damages for breach of the Technical Services Agreement.
161. It will be readily apparent, both from the nature and magnitude of this claim, that it can only be pursued, as Mr. Brindle readily accepted, as an alternative to the claim being made by the Fund itself. Moreover, although the claimants' statement of case suggests that Riyad Bank intended to pursue this as the primary claim, Mr. Brindle made it clear that it was in fact a secondary claim which the bank sought to pursue only if the Fund failed to establish that UBK owed it a duty of care. Since I have reached the conclusion that UBK did indeed owe a duty of care to the Fund and that the Fund is therefore entitled to recover insofar as it can establish that it suffered loss as a result of negligence on its part, this claim does not arise and I can therefore express my conclusions about it more briefly.
162. What Riyad Bank sought to recover was the loss which it said it suffered in mitigating the damage that would otherwise have been caused to its commercial reputation by UBK's breach of the Technical Services Agreement. One must begin, therefore, by identifying the breach or breaches of contract on which the claim was based. Riyad Bank itself was not originally a party to the Technical Services Agreement; it became a party by virtue of a novation only with effect from 30^th July 1999. This has certain consequences to which I shall return in due course, but for the moment I shall consider the position on the assumption that Riyad Bank was a party to that agreement throughout.
163. Mr. Brindle submitted that at the time it entered into the Technical Services Agreement UBK must have had in mind the possibility that Riyad Bank's commercial reputation might well be damaged if the Fund suffered losses as a result of any failure on its part properly to perform its obligations under that agreement. Accordingly, he submitted, losses flowing from damage to the bank's commercial reputation were within the contemplation of the parties and recoverable. In support of that submission he referred me to the decisions in Aerial Advertising Co v Batchelors Peas Ltd (Manchester) [1938] 2 All E.R. 788, Cointat v Myham & Son [1913] 2 KB 220, Marbe v George Edwardes (Daly's Theatre) Limited [1928] 1 K.B. 269, Herbert Clayton and Jack Waller Ltd v Oliver [1930] A.C. 209, G.K.N. Centrax Gears Ltd v Matbro Ltd [1976] 2 Lloyd's Rep. 555 and Malik v Bank of Credit and Commerce International S.A. [1998] AC 20. However, in order to identify the relevant principles it is sufficient in my view to refer to a passage in the speech of Lord Nicholls in Malik v B.C.C.I. at pages 40B-41C in which his Lordship draws an important distinction between loss of reputation as such and financial loss arising from damage to reputation, such as the loss of repeat orders that was found to have occurred in G.K.N. Centrax Gears Ltd v Matbro Ltd. I fully accept that in many cases financial loss flowing in that way from a breach of contract will be within the contemplation of the parties and will therefore be recoverable.
164. The position in the present case is complicated, however, by the fact that until 30^th July 1999 the party to whom UBK owed obligations under the Technical Services Agreement was not Riyad Bank but RBE. There was only one Dealing Day after the effective date of the novation, so most of the breaches on which the claim is based were breaches of obligations owed to RBE, not to Riyad Bank. Mr. Brindle submitted, rightly in my view, that the commercial reputation of Riyad Bank was likely to be no less seriously affected by any mismanagement of the Fund than that of its subsidiary, RBE, but it does not follow that Riyad Bank is entitled to recover as damages for breach of contract losses arising from damage to its reputation caused by breaches of obligations owed to RBE. If it has a claim to recover losses arising out of such conduct on the part of UBK, it is one that sounds in tort rather than contract and no claim of that kind has been made in these proceedings.
165. The novation of the Technical Services Agreement was one step in the transfer of RBE's business to Riyad Bank that was effected by the Business Transfer Agreement entered into on 30^th July 1999. In that context it is not surprising that as part of the novation Riyad Bank should have agreed to assume all the existing liabilities of RBE to UBK and that UBK should have agreed to release RBE from its obligations under the Technical Services Agreement. The novation does not, however, contain any corresponding release of liabilities already incurred by UBK to RBE, the benefit of which were transferred to Riyad Bank under the Business Transfer Agreement. The novation does not therefore entitle Riyad Bank to treat previous acts or omissions of UBK as constituting breaches of obligations owed to itself rather than to RBE. No doubt the parties could have achieved that result if they had chosen to do so, but it would be an unusual thing to do and would require clear language of a kind that is wholly lacking in this case.
166. Any claim that RBE already had against UBK for damage to its own commercial reputation arising from breaches of the Technical Services Agreement is still capable of being enforced, however. Mr. Brindle submitted that RBE and Riyad Bank were both involved in carrying on what was for practical purposes a single banking business and that both of them therefore traded on, and were affected by, the reputation of the Riyad Bank group as a whole. I think that is correct and if it were possible to show that the private client side of the business previously operated by RBE had been adversely affected by the poor performance and subsequent closure of the Fund, a claim might have been made by, or for the benefit of, Riyad Bank following the transfer to it of RBE's business. There is no evidence of any losses arising in that way, but I accept that, if there had been, Riyad Bank, as the transferee of the business and assignee of the claim against UBK, could recover damages in respect of them or, in an appropriate case, expenses incurred in seeking to mitigate them.
167. Mr. Lyndon-Stanford suggested that the decision to buy out the investors owed more to a wish to avoid difficulties with the regulators than to a desire to protect the investors or to preserve its goodwill. However, there is little to support the suggestion that there was a failure to obtain or comply with the requirements of the relevant regulatory authorities, either in Ireland or Saudi Arabia. It is true that in one of the bank's internal audit reports written in September 2000 there is a suggestion that the system of controls was not adequate to withstand regulatory scrutiny, but there is nothing to indicate that considerations of that kind were present to the minds of management when the decision was taken to purchase the remaining shares. In the light of the evidence I am not satisfied that regulatory considerations played any part in that decision.
168. The claim in the present case, however, is not simply for financial losses directly caused by UBK's breach of contract but for losses in the form of expenses incurred in mitigation of such damage. It is well established that expenses incurred to avoid or reduce a recoverable head of damage may themselves be recoverable, but in order for such a claim to succeed the claimant must be able to persuade the court that the expenses in question were incurred reasonably. At the time it took the decision to buy the remaining shares the bank thought that the fund was short by about US$8-10 million, but as Mr. Lyndon-Stanford pointed out, although the bank's witnesses had explained in general terms its reasons for deciding to buy out the investors, there had been no disclosure of documents or evidence of any other kind that shed any light on the bank's assessment of the damage it was likely to suffer if it allowed the Fund to be wound up in the ordinary course of business. He submitted that it was for the bank to show that any loss incurred in buying out the investors was reasonable having regard to the loss that it was likely to suffer if it failed to take preventive action, in support of which he relied on the decision of the House of Lords in Dimond v Lovell [2002] 1 AC 384 and in particular on a passage in the speech of Lord Hobhouse at page 407.
169. Dimond v Lovell concerned a claim by a motorist whose car had been damaged in an accident to recover from the defendant the amount she had paid to an accident hire company in order to obtain the use of a replacement vehicle while her own was being repaired. One issue that the House had to decide was whether the claimant was entitled to recover the whole of the amount paid to the company in circumstances where in return for her payment she received certain benefits in addition to the use of the replacement car. A majority of their Lordships (Lord Browne-Wilkinson, Lord Hoffmann and Lord Hobhouse) held that although she had acted entirely reasonably in entering into the agreement with the hire company, she could not recover that part of the payment which was referable to the additional benefits. Lord Hobhouse said at page 407:

"What Mrs. Dimond was paying for here was more than the cost of hiring a car for a week. It was reasonable for her to pay the additional sum in order to obtain the additional benefits enjoyable under the scheme even though the accident hire company were under no legal obligation to do more than provide her with a car on credit. The sum which she paid, having regard to what she was to get was, on the evidence, reasonable. But she cannot claim the whole cost as the cost of mitigating the loss of the use of her car. The cost of that was, on the evidence, only about £24 per day. The remainder of what she paid was attributable to other matters and therefore should not be included in the cost of mitigation."

170. Mr. Lyndon-Stanford submitted that in that passage Lord Hobhouse provides support for the proposition that a person seeking to recover expenses incurred in mitigation must prove how great the loss would have been if no steps had been taken to avoid or reduce it, but I do not think that their Lordships were concerned with that question. In my view all that Lord Hobhouse and those who took a similar view were seeking to make clear was that a person who seeks to recover expenses said to have been incurred in mitigation of a loss caused by another's breach of duty can recover only that which he has spent in mitigation of the loss for which the defendant is liable and cannot recover expenditure attributable to other benefits. As such I do not think that the decision assists UBK in this case, save, perhaps, insofar as it supports the conclusion that the bank could not recover the cost of taking steps to preserve or enhance customer goodwill generally.
171. I do accept, however, that in order to succeed in a claim of this kind it would be necessary for the claimant to satisfy the court that the steps it took were reasonable having regard to the damage that it was otherwise likely to suffer. Apart from the fact that the relevant claimant is for the most part RBE, this poses some difficulty in the present case because there is little evidence to suggest that such financial loss as might have been expected to flow from the suspension and subsequent winding-up of the Fund was likely to approach, let alone exceed, the amount being claimed. There is no evidence that any of the investors complained about the way in which the Fund had been managed, nor is there any evidence of what the bank thought at the time its losses were likely to be. There is no material that would enable any reliable assessment to be made at this stage of the amount of business that the bank was likely to lose as a result of the closure of the Fund. It may be that to buy out the shareholders was a reasonable step for the bank to take in the interests of promoting good relations with its customers, but there is insufficient evidence to support the conclusion that it was a reasonable step to take in mitigation of the financial loss it could otherwise have expected to suffer.
172. For all these reasons I am satisfied that this alternative claim would not have succeeded. In those circumstances I do not think it appropriate to extend this judgment by embarking on a discussion of the arguments relating to the amount that would have been recoverable in respect of this claim.

8. The claim of RBE and Riyad Bank to recover damages on behalf of the Fund.

173. Finally, Riyad Bank and RBE submitted that if all else failed, they were entitled to recover damages for breach of the Technical Services Agreement in the amount of the loss suffered by the Fund on its behalf in accordance with the principles to be found in the line of authority which includes The Albazero [1977] A.C. 774, St Martin's Property Corporation Ltd v Sir Robert McAlpine Ltd [1994] 1 AC 85 and Alfred McAlpine Construction Ltd v Panatown Ltd [2001] 1 AC 518. This argument raises some interesting and potentially difficult questions of law. It was not developed in any detail and does not arise for decision in view of my conclusion that the Fund has a good claim in its own right to recover any loss it may have suffered. In those circumstances it is unnecessary to consider it further.

9. Miscellaneous issues

174. A number of other issues were raised by UBK in its defence. They were developed in counsel's opening skeleton, but were not all pursued with any vigour, or in some cases at all, by Mr. Lyndon-Stanford when he addressed me at the conclusion of the trial. However, since none of them was formally abandoned, I think it appropriate to deal with them, though in some cases I can do so quite shortly.

(a) Contributory negligence

175. Mr. Lyndon-Stanford submitted that from the outset RBE (and from 30^th July 1999 Riyad Bank) had worked closely with UBK on the setting up of the Fund and the purchase of leases. That is no doubt correct and it is also correct that the claimants were keen to learn as much as they could about the operation of a fund of this kind as quickly as possible. It had originally been RBE's hope that within about two years those responsible for the management of the Fund, principally Mr. Scott and Ms. Al-Tunisi, would acquire sufficient experience to enable them to take over all aspects of the work that was originally being carried out by UBK. In the event, however, that did not prove to be the case, although Ms. Al-Tunisi certainly learnt a good deal about the leasing business during the period that the Fund was acquiring its assets.
176. Against that background Mr. Lyndon-Stanford submitted that "the claimants" shared responsibility for any loss and damage which they might have suffered, but in his oral opening he did not make it clear how that broadly expressed proposition translated into a defence to the claim and did not develop the argument more fully in his closing submissions. However, in the defence the allegation is pleaded as one of contributory negligence and it is on that basis that it must be addressed.
177. The essence of contributory negligence is a failure to take reasonable care for one's own interests. Normally, therefore, one would expect any criticisms of the claimant's conduct to be identified with some precision and put to the relevant witnesses in cross-examination. In the present case no real attempt was made to do either and although the issue was not expressly abandoned, no attempt was made to lay the ground on which it could succeed. In my view the evidence does not begin to provide a basis for this defence.

(b) The indemnity clause

178. Clause 4.2 of the Technical Services Agreement provided as follows:

"Subject to clause 4.4, the Fund Advisor shall indemnify and save the TSC, its directors, officers, employees, and agents (the 'Indemnitees') harmless from and against any and all liability, cost, damage, claim or expense (including reasonable attorneys' fees) that the Indemnitees may suffer or incur or arising out of or in connection with claims brought by third parties and arising out of the performance by the TSC of its duties under this Agreement, provided that the TSC shall not be indemnified to the extent that the TSC has acted in breach of this Agreement or if any claim arising [sic] as a result of gross negligence, fraud or wilful default."

179. Mr. Lyndon-Stanford submitted that if UBK was liable to the Fund, its liability arose out of or in connection with claims brought against it by a third party which themselves arose out of the performance by it of its duties under the agreement within the meaning of that clause. I am unable to accept that. It is clear in my view both from its terms and content that clause 4.2 was intended to provide UBK with an indemnity against claims made against it by persons with whom it might deal in the course of carrying out its functions under the agreement, not with claims made by the Fund or the Fund Advisor (RBE), each of whom was identified and described as such in the agreement. It would be surprising if the parties had intended RBE to indemnify UBK against claims made by the Fund and if that had been the parties' intention, I have little doubt that clause 4.2 would have been worded in such a way as to make that clear. RBE is referred to throughout the agreement as "the Fund Advisor" and the Fund as "the Fund". In this context the expression "third parties" does not naturally include either of them and there is nothing to indicate that it was intended to do so. I am satisfied that as a matter of construction it does not.
180. Even if I am wrong about that, however, there remains the difficulty posed by the proviso. As far as any claim by RBE or Riyad Bank is concerned, it is one that sounds in contract and arises out of a breach of the agreement. On its own terms, therefore, no indemnity is available under clause 4.2. However, the position is essentially no different in the case of a claim by the Fund. Unless the expression "third party" is to be construed as referring only to RBE (which is plainly not the case), the clause as a whole must extend to claims that do not depend upon the agreement for their existence. By virtue of the proviso UBK is not entitled to be indemnified against any claim that arises out of a breach of the agreement which must therefore include any claims by third parties which arise out of circumstances that amount to a breach of the agreement. Thus a claim by the Fund arising out of acts or omissions on the part of UBK which constituted a breach of the Technical Services Agreement falls within the terms of the proviso. In view of the similarity between the scope of the duties imposed by clause 4.1 of the agreement and the scope of the duty of care at common law, it is difficult to envisage circumstances in which conduct giving rise to a liability to the Fund in tort would not also constitute a breach of the agreement.
181. In those circumstances it is unnecessary to deal with Mr. Brindle's further argument that the expression "gross negligence" is to be construed in this context as meaning nothing more than ordinary negligence. Although it might appear that the parties must have intended to add something by the addition of the word "gross", the difficulty of drawing a satisfactory distinction between simple negligence and gross negligence in this type of situation has been noted on more than one occasion. In my view it would be at odds with the rest of the contractual arrangements for the parties to have intended that UBK should be indemnified against the consequences of simple negligence and I am not persuaded that they did. If necessary, therefore, I would hold that the addition of the word "gross" in this case adds nothing.

(c) Waiver in the course of novation

182. UBK contended that one effect of the novation was to discharge the original Technical Services Agreement and to bring into being a new Technical Services Agreement between UBK and Riyad Bank. Accordingly, so it was said, with effect from 30^th July 1999 RBE and UBK released each other from all liability under the original agreement.
183. For reasons I have already given in part, I cannot accept that submission. The effect of the novation agreement, to which UBK, RBE and Riyad Bank were necessarily all parties, depends on the true construction of its terms. As I have already observed, although Riyad Bank agreed to take on and discharge all the liabilities of RBE under the Technical Service Agreement and UBK agreed to release RBE itself from all claims and demands, there was no corresponding agreement on the part of RBE to release UBK. Simply as a matter of construction, therefore, the argument fails.
184. Mr. Lyndon-Stanford sought to derive support for his submission on what has been described as the doctrine of total waiver as discussed in Wilkin & Villiers on the Law of Waiver, Variation and Estoppel (2^nd ed., 2002) at paragraphs 4.30-4.35 to which I was referred. It is clear from those paragraphs, however, that a waiver of that kind could only exist if there were a binding agreement between the parties that one should give up its rights against the other or if the ordinary requirements for a waiver in the form of equitable estoppel were satisfied. In the present case that would require, among other things, a clear statement by RBE that it did not intend to exercise any rights it had to recover damages from UBK for any previous breaches of the Technical Services Agreement. Neither the language of the novation agreement itself nor anything in the surrounding circumstances supports the conclusion that RBE did anything of the kind.

(d) Waiver in the course of termination

185. On 15^th May 2000 Riyad Bank gave notice to UBK terminating the Technical Services Agreement under the terms of clause 7. When doing so it did not reserve its own right or the right of RBE to recover damages for breaches of the agreement. Mr. Lyndon-Stanford submitted that Riyad Bank was already aware of the various matters which it now says constituted negligence on the part of UBK, but despite that chose to exercise the contractual mechanism for termination by notice rather than terminating the agreement for breach. Accordingly, he submitted, Riyad Bank, RBE and the Fund waived any claims they might have had against UBK.
186. Mr. Scott said that at the time the bank gave notice to terminate the Technical Services Agreement none of those at RBE or Riyad Bank who had been involved in the management of the Fund had been aware that UBK might have been negligent and in breach of its obligations under the agreement and I accept his evidence. However, for the purposes of discussion I am prepared to assume the contrary. Even so, this argument is in my view entirely misconceived. Giving notice to terminate an agreement in accordance with its terms is not inconsistent with an intention to hold the other party liable for breaches or other wrongs committed at an earlier date. There is no question of any need to choose between inconsistent courses of action. The party giving notice to terminate could therefore only be held to have waived its right to recover damages for past breaches if by words or conduct it unequivocally represented that it would not exercise those rights and the other party had acted on the faith of that representation in a way that would make it inequitable to allow a claim to be pursued. In this case Mr. Lyndon-Stanford did not seek to identify any words or conduct on the part of any of the claimants that could amount to a representation of that kind, nor did he suggest that UBK had acted in any way on the understanding that Riyad Bank, RBE or the Fund itself would not exercise any of the rights available to them. This argument cannot therefore succeed.

10. Further directions

187. Despite encouragement from counsel, I regret that for reasons given earlier it is not possible at this stage to reach any final determination on the issues of liability or quantum. It will therefore be necessary to give further directions for the trial of the remaining issues in accordance with the principles set out in this judgment. Accordingly, I shall invite further submissions from the parties on the directions that should be given to enable those issues to be determined in the most convenient and economical manner.