WHERE a fiduciary has profited from breach of a fiduciary duty the principal will have a personal claim to the value of that profit. But if the fiduciary has become insolvent or if the profit has been invested in property which has increased in value, the principal will wish to bring a proprietary claim and so gain priority over the fiduciary's unsecured creditors or claim that the property purchased with the profit is held on constructive trust for the principal. In Attorney-General for Hong Kong v. Reid [1994] 1 A.C. 324 the Privy Council recognised that bribes received by a fiduciary to induce him to act in breach of duty were held on constructive trust so that the principal had an equitable proprietary claim to the land which had been brought with the bribe money. This followed from the application of the maxim that “Equity would treat as done what ought to be done”. It was considered that Equity would treat the fiduciary's personal liability to account for the value of the bribe as having been satisfied so that the profits were deemed to have been transferred to the principal and so were held on a constructive trust. Logically, this application of the maxim would mean that any profit made by a fiduciary in breach of duty would be held on trust, because the fiduciary's personal liability to account for the value of the profit would be transformed into a proprietary claim. But the Court of Appeal in Sinclair Investments (UK) Ltd. v. Versailles Trade Finance Ltd. [2011] EWCA Civ 347 has declined to follow Reid and confirmed that generally the fiduciary will only be personally liable to account for any profit obtained in breach of fiduciary duty.
In Sinclair Investments Cushnie, a director of company A, had fraudulently applied that company's funds to make it appear that company B, in which he owned shares, had a high turnover and profits. This increased the value of Cushnie's shares in company B from zero to £28.69 million. When Cushnie sold his shares he made a profit which was attributable to his breach of fiduciary duties owed to company A. One issue for the Court was whether company A had an equitable proprietary interest in Cushnie's profit from the sale of the shares to give it priority over other creditors, which turned on whether the profit was held on constructive trust. Whilst it was recognised that Cushnie was personally accountable for the profit since it derived from a breach of the fiduciary duty not to make secret profits, it was not held on constructive trust.
Crucially, it was recognised that where a fiduciary had profited from breach of fiduciary duty, regardless of whether this involved the receipt of a bribe or some other unauthorised profit, he would usually only be personally liable to account for the profit. The rationale behind the recognition of the constructive trust in Reid was rejected as being inconsistent with authority, principle and policy.
As regards authority, earlier decisions of the Court of Appeal (notably Lister & Co. v. Stubbs (1890) 45 Ch. D. 1) and the House of Lords (Tyrrell v. Bank of London (1862) 10 H.L. Cas. 26) were inconsistent with Reid. Significantly, Lord Neuberger M.R. recognised that the Court of Appeal should not follow a decision of the Privy Council in preference to decisions of the Court of Appeal unless there were domestic authorities which showed that these decisions were per incuriam or of doubtful reliability. There were no such authorities and so it was not a foregone conclusion that the Supreme Court would follow Reid when it had the opportunity to consider the matter.
Reid was also considered to be unsound as a matter of principle. A fundamental distinction was to be drawn between two scenarios. First, where the fiduciary had enriched himself either by depriving the principal of an asset or by obtaining an asset where he was under a duty to obtain it from another for the principal and, secondly, where the fiduciary enriched himself by doing a wrong to the claimant. It was only in the first scenario that the asset would be held on constructive trust because it should be treated as the principal's property. Receipt of a bribe fell within the second scenario because the fiduciary was under no duty to obtain it for the principal, who consequently had no proprietary right to it. Similarly, on the facts of the case, the defendant was under no duty to obtain the profit from the sale of his shares for the claimants so those profits were not held on constructive trust.
Finally, Reid was criticised as a matter of policy for two reasons. First, it would be unfair that any claims of the fiduciary's unsecured creditors should be defeated by recognising that the principal had an equitable proprietary interest in the bribe, because it would mean that unsecured creditors who had given value to the fiduciary and so would suffer loss if they were not repaid were in a weaker position than the principal who had not given value for the bribe and so would not suffer any loss if their claim failed. Secondly, and very importantly, concerns about the wrongdoing fiduciary profiting from their breach of duty could be dealt with by the court adjusting the rules relating to equitable compensation, although the remedy is preferably analysed as an adjustment of the order to account for profits to ensure that the fiduciary disgorged all profits obtained either directly or indirectly, such as where a bribe was invested so the fiduciary would also be personally liable to account for the profits of that investment.
This is a highly significant and welcome decision, with the leading judgment of Lord Neuberger M.R. set to become a classic of equitable jurisprudence. It does not, however, follow that profits obtained by a fiduciary in breach of duty will never be held on constructive trust. Such a trust will be recognised where the profit derived directly from the principal's property (as in Daraydan Holdings Ltd. v. Solland International Ltd. [2004] EWHC 622 (Ch), [2005] Ch. 119) or derived from the exploitation of an opportunity or right which was available to the principal and would have benefited him had the fiduciary not intervened (as in Cook v. Deeks [1916] 1 A.C. 554). In both situations the recognition of the constructive trust is justified because the defendant profited from interference with the principal's actual or putative proprietary rights. In any other situation the fiduciary will only be personally liable to account for the profit made from breach of duty, and quite right too.
