ship sales and fraud of intermediaries

Journal of Business Law 1987 Article SHIP SALES AND FRAUDS BY INTERMEDIARIES

David G. Powles. Copyright (c) 1987 Sweet & Maxwell Limited and Contributors Case: Armagas Ltd v Mundogas SA (The Ocean Frost) [1986] A.C. 717 (HL) Subject: SHIPPING. Other related subjects: Criminal law Keywords: Agency; Fraud; Shipping law; Vicarious liability *337 Maritime frauds are difficult to detect, even more difficult tolitigate successfully and may take an inexhaustible number of forms. Althoughthe legal aspects of many types of such fraud have hitherto been discussed inthis Journal, [FN1] it is clear that the cases underlying the legal principlesthere discussed represent only the tip of the iceberg or perhaps the tips ofseveral icebergs and that no legal discussion on such fraud can ever beexhaustive. There is a dearth of reported material on the frauds ofintermediaries in relation to the sales of a vessel whether such intermediariesbe acting in the employment of one of the parties to the sale or as anindependent broker. [FN2] The result of such fraud, in common with most otherfrauds, is that at the end of the day there are two innocent parties one ofwhich must suffer. This was recently reflected in the House of Lords decisionin Armagas Ltd. v. Mundogas S.A. (The Ocean Frost). [FN3] The case, as accepted by the House of Lords, involved a conspiracy of fraudbetween the Vice President (Transportation) and Chartering Manager (referred toin this article as ""M") and a partner (referred to in this article as ""J") inan independent firm of shipbrokers whereby they sought to obtain for themselvesa substantial interest in a ship as a result of a sale contract. The fraud thusinvolved two independent companies, an employee of one of the companies and anindependent broker who in some respects served both companies.The companies The sellers, Mundogas S.A., were an international company based in Bermudadealing in natural gas, shipping and chartering. They had chartered the vesselHavfrost, later renamed Ocean Frost, an L.P.G. carrier, from its previousowners and had exercised an option contained in the charterparty to purchasethe vessel outright during the currency of the charter. The buyers, ArmagasLtd., the plaintiffs in the action, were a subsidiary of the Armada ShippingGroup based in Denmark. The company was formed to be Armada's nominatedpurchaser of the vessel after the agreement to purchase from Mundogas was madeby the Armada Group.*338 The employee M, as has been pointed out, was the Vice President (Transportation) andChartering Manager of Mundogas. As such he had a limited authority to agree tothe sale of the vessel and, in the general course of his duty, to agree tocertain charterparties. Mundogas frequently chartered its own vessels orsub-chartered vessels which it had itself chartered which were usually for spotvoyage charters and occasionally for time charters never exceeding 12 months.M's authority was limited to agreeing spot voyage charters. He was an employeeof Mundogas and clearly owed them a duty to act exclusively for them and actwithin the mandate given to him.The Broker J was a partner in World Marine who, in the sale transaction, occupied theposition of intermediate brokers. It was accepted that they were not the agentsof either party in a general sense, and that they did not owe a fiduciary dutyto either side. Either party to the transaction could, however, give J alimited authority so as to make him its agent to receive communications or totake more positive action on their behalf such as to negotiate the purchase ofthe vessel within certain limited terms. It was generally accepted, however,that beyond such limited terms J had no authority to bind his principals eitherby entering into a contract or by receiving information nor was there anyevidence that he had usual or apparent authority so to do. [FN4]The transaction In October 1979 a company called International Gas let their vessel Havfrost(later renamed Ocean Frost) to Mundogas (referred to in this article as ""thesellers") on time charter for a period of 12 months. The charterparty containedan option for the charterers to purchase the vessel. Prior to the option date,Mundogas formed the opinion that as the market value of such vessels wascertainly rising, it would be worth their while to purchase the Ocean Frostwith a view to re-selling her at a profit. Hence they exercised their optionwhich was subject to the due performance of the existing charterparty. J, incollusion with M, (according to the House of Lords) conspired to bring about asale from Mundogas to a nominated company of the Armada Group (Armagas) fromwhich they personally would benefit. (At an earlier stage of the proceedings, Jand M each produced evidence supporting their own innocence and blaming thefraud on the other. It appears that neither account was fully believed by theHouse of Lords who accepted that the fraud as perpetuated was a result ofcollusion between the pair of them). The major problem facing J and M was thatthe Armada Group had made it clear that they would not be interested inpurchasing a vessel unless they could charter it back to Mundogas for a periodof at least three years. Mundogas, as has been pointed out, did not normallyenter *339 charterparties for that period of time, one year being the usualmaximum. The fraud was executed by M persuading the board of Mundogas to sellthe vessel to Armagas (on behalf of the Armada Group) and accepting a one yearcharterparty which he, M, had authority to execute. At the same time Armagaswas promised a three year charterparty with Mundogas but was persuaded that tosatisfy Mundogas's internal requirements this would take the form of threeconsecutive one year charterparties. The result was that in addition to thecontract of sale a one year charterparty was executed by Mundogas but not byArmagas and a three year charterparty was executed by Armagas but not byMundogas. J and M, in perpetration of this fraud, relied on the hope thatcharterparty rates for L.P.G. Carriers would remain reasonably constant overthe three year period. They therefore hoped, realistically at the time, thatthey could obtain one year charters at a hire rate of $350,000 per month duringthe three year period. To cover themselves further, they impressed upon Armagasthe need for secrecy in the three year charterparty, again putting as thereason Mundogas's internal requirements. Hence they stressed the importancethat not only the details of the three year charterparty but the actualexistence of it be kept secret from Mundogas's chartering and administrativedepartments. J and M's fraud collapsed around them after one year when Mundogasredelivered the Ocean Frost under the terms of the one year charter. By thattime charter rates had fallen drastically so that a further charter at aroundthe same rate was unobtainable. Armagas sued both J and M but the actions werenever vigorously pursued, which is perhaps not surprising as their damagesamounted to approximately $8 million. They also sued Mundogas for prematureredelivery of the vessel. The action raised two major issues. First, acceptingthat M had no actual authority from Mundogas to enter into the three yearcharterparty, did he in fact have ostensible authority, and secondly, if M hadno authority of any kind, were Mundogas as his employers vicariously liable forhis deceit? Although no case was brought against J or against World Marine, theposition of the independent broker in this context will be considered later inthis note.Ostensible authority of M As has been pointed out, M's authority to act for Mundogas was restricted.This fact was known to the managers of the Armada Group. Armagas's contentionthat M had ostensible authority to bind Mundogas was consequently countered bythe rule that where a third party was aware that agent's authority was limiteda third party could not claim that such agent had a wider authority by means ofostensible or apparent authority. Certainly this rule had been applied insituations where the agent occupied a well-established position such as themaster of a ship [FN5] and has been extended in a variety of cases to agentsoccupying positions unique to their relationships with their principals, thusthe compradore of a Hong Kong bank who had no general authority to accept moneyfor deposit or transfer has been held to *340 have no ostensible authority todo the same. [FN6] Similarly a customs officer whose actual authority waslimited by statute has been held to have no actual or apparent authority toauthorise a sale of goods stored in a custom's warehouse when the sale wasbeyond the statutory powers [FN7] and a vehicle salesman whose authority waslimited to negotiation rather than finalising a contract of sale has been heldto have no authority to finalise a contract and his principals have not beenbound either where he has overtly concluded a transaction [FN8] or where he hasforged his principal's signature on a contract containing a term which hadpreviously been rejected by the principal. [FN9] This line of authority was sufficient to dispose of Armagas's claim on theground of ostensible authority. It is worth recording, however, that at firstinstance Staughton J. was induced by a two-tier argument to the effect thateven though an agent's authority might be outwardly limited, thus negating thepossibility of ostensible authority in the traditional sense, he maynevertheless be held out as having authority to signify his principal's assentto the transaction in question. In other words, he may be held to haveostensible authority to hold himself out as having ostensible authority toconclude the contract now disputed. In support of this contention, the judgerelied upon three Canadian authorities. In the first, Berryere v. Firemans FundInsurance Company, [FN10] an insurance company was held liable for the acts ofits agent in filling in a cover note for an insured which the company itselfhad declined to cover. The principle in this case, however, appears to be nodifferent from the well established principle of English law that where anagent is clothed with authority to bind the principal by being left inpossession of documents which, when signed create a binding contract with theprincipal, [FN11] and, as such, advanced Armagas's case no further. He furtherrelied on the decisions in Trimson v. South Mobile and Cypress Disposal Ltd.Inland Kenworth Sales (Nanaimo) Ltd. [FN12] on the ground that the dissentingjudgments in each case supported the principle which he sought to extract fromBerryere. In the Jenson case, the agent himself had informed the third party ofthe limitations on his authority which would appear to put the decision in apar with those resting on the agent's statement that his authority was""subject to ratification" [FN13] and in the Cypress case, the agent, havingtold the third party of his want of authority, forged a document containing aterm which the agent had already stated he was unauthorised to negotiate. The effect of reliance upon these decisions would appear to be to addunreason to unreason and to get, as a result, reason. The fallacy of the *341judge's argument was exposed by both the Court of Appeal and the House of Lordsand Lord Keith cited with approval Robert Goff L.J.'s rejection of the argumentin the terms that [FN14]: ""This is on its face a most surprising conclusion. It results in an extraordinary distinction between (1) a case where an agent, having no ostensible authority to enter into the relevant contract wrongly asserts that he is invested with actual authority to do so in which event the principal is not bound; and (2) a case where an agent having no ostensible authority wrongly asserts after negotiation that he has gone back to his principal and obtained actual authority in which event the principal is bound. As a matter of common sense this is most unlikely to be the law."Lord Keith added [FN15]: ""It must be a most unusual and peculiar case when an agent who is known to have no general authority to enter into transactions of a certain type can by reason of circumstances created by the principal, reasonably be believed to have specific authority to enter into a particular transaction of that type. The facts of the present case fall far short of establishing such a situation."The claim in deceit This claim at once highlights the differences between controversial andtortious (delictual) obligations on the one hand and the embracing effect ofthe fraudulent conduct of an employee or an agent on the other. Where a claimis framed in contract the fraudulent activities of an agent may render hisprincipal liable provided the agent acted within the scope of his authority, bethat authority actual, ostensible or usual. [FN16] Where the claim is framed intort, however, it is clear that a master may be vicariously liable for the tortof his servant where it is committed within the course of the servant'semployment, albeit such course of employment does not fall within thecategories of contractual authority referred to above. [FN17] Where the claimis framed in deceit, however, the scope of the master's or principal'sliability is equalled, whichever obligation is used as the basis of the claim.The essence of deceit is fraudulent misrepresentation and where representationas opposed to act is involved, such representation can only fall within thescope of the servant's employment where it also falls within the scope of hisactual usual or ostensible authority. As Lord Keith remarked [FN18]: ""At the end of the day, the question is whether the circumstances under which a servant has made the fraudulent misrepresentation which has caused loss to an innocent party contracting with him, are such as to make it just for the employer to bear the loss. Such circumstances exist where the employer by words or conduct has induced the injured party to believe that the servant was acting in the lawful course of the employer's business. They do not exist where such belief, although it is present, has been brought about through misguided reliance on the servant himself, when the servant is not authorised to do what he is purporting to do and what he is purporting to do is not within the class of acts that an employee *342 in his position is usually authorised to do and when the employer has done nothing to represent that he is authorised to do it." Fraud, therefore, in the form of fraudulent misrepresentation provides thelink between the two major types of obligation in so far that the fraud of adishonest servant will vitiate the master's liability in both contract and tortunless the master has himself held out by words or conduct that the fraudulentact is within the scope of the servant's or agent's employment. Thus, in TheOcean Frost, there having been no representation by Mundogas that M had powerto conclude a contract of the nature entered into by Armagas, Mundogas couldnot be liable for M's deceit in inducing Armagas to enter the contract.Liability of the Broker Although the broker, J, was named as a defendant to the action, no argumentwas adduced against him and he was not represented, presumably because theamount involved was far greater than any reparation he could make to Armagas.The basis of his liability, however, would seem to be fairly clear in that,although he had authority to sign the contract of sale on behalf of Mundogas,he must have effectively warranted his authority to conclude the deal whichinvolved the three year charter back from Armagas to Mundogas. Hence hisliability would be for breach of warrant of authority [FN19] in which case thequestion of fraud on his part need not have arisen. Clearly where two parties have suffered as a result of the fraud of a third,one of them must bear the loss and it was suggested by Ashman J. in Lickbarrowv. Mason [FN20] ""... that whenever one or two innocent persons must suffer bythe fraud of a third he who has enabled such a third person to occasion lossmust suffer." An initial application of this doctrine might seem to point tothe liability of Mundogas as M was their servant and agent in the matter, butby accepting both that there was no holding out of any sort by Mundogas andthat where fraud is concerned a principal is only liable in deceit for fraudcommitted within the course of the agent's actual or apparent authority, theHouse of Lords was clearly laying emphasis on the need of fault before suchliability could attach. Mundogas in this case had clearly not acted in anyfraudulent manner nor, from the evidence, does it appear that they were in anyway acting negligently whereas the directors of the Armada Group were arguablyput upon notice as to the lack of authority and having been so put on notice,failed to make any enquiries. It could be surmised, therefore, either thatArmagas were themselves at fault and had therefore put their trust andconfidence in the deceiver, rather than Mundogas. Alternatively, where neitherparty places trust and confidence in the deceiver the loss must lie where itfalls. *343 Certainly there can be no general authority for saying that eitherindependent ship brokers or agents of shipping companies in the form oftransport managers, etc., are in any different position from other agents whenit comes to saddling their principals with liability. FN1. See Powles and Hazlewood, ""Maritime Fraud" [1984] J.B.L. 31, 137, 234, 403. FN2. For a recent example see The Arta [1985] 1 Lloyd's Rep. 534. FN3. [1985] 1 Lloyd's Rep. 1 (First instance and C.A.), [1986] 2 Lloyd's Rep. 109 (H.L.). See the note by F. M. B. Reynolds in [1986] J.B.L. 396. FN4. See Staughten J.'s judgment, supra, at pp. 17-18. FN5. Cf. Grant v. Norway (1851) 10 C.B. 665 The Nes Tyhi [1983] 2 Lloyd's Rep. 606. FN6. Russo-Chinese Bank v. Li Yau Sam [1910] A.C. 174. FN7. A.G. Ceylon v. Silva [1953] A.C. 461. FN8. Jensen v. South Trail Mobile Ltd. (1972) 38 D.L.R. (3d) 233. FN9. Cypress Disposal Ltd. v. Inland Renworth Sales (Nanaimo) (1975) 54 D.G.R. (3rd) 598. FN10. Berryere v. Firemen's Fund Ins. Co. (1965) 52 D.L.R. (2d) 603. FN11. Eastern Distribution v. Goldring [1957] 2 Q.B. 600, Freeman & Lockyer v. Buckhurst Park Properties (Mangal) Ltd. [1964] 2 Q.B. 480, Spiro v. Lintern [1973] 3 All E.R. 319. FN12. Supra. FN13. Cf. Watson v. Davis [1931] 1 Ch. 455. FN14. [1985] 1 Lloyd's Rep., at p. 66. FN15. [1986] 2 Lloyd's Rep., at p. 114. FN16. Lloyd's v. Grace Smith & Co. [1912] A.C. 716. FN17. Morris v. C. W. Martin & Sons Ltd. [1965] 2 Lloyd's Rep. 63. FN18. Supra, at p. 116. FN19. Collen v. Wright (1857) 8 E. & B. 647; Starkey v. Bank of England [1903] A.C. 114; Mitsai & Co. Ltd. v. Marpso Industrial Ltd. [1974] 1 Lloyd's Rep. 386. FN20. Lickbarrow v. Mason (1787) 2 Term Reps. 63.END OF DOCUMENT