Before: His Honour Judge Mildon QC
 
 

B E T W E E N

JUDGMENT
 
DATED: 18 April 1994

JUDGE MILDON QC

In this action Euroactividade, a company registered in Liechtenstein, seeks to trace and recover money withdrawn by a director from its bank account in Frankfurt which was used to finance the purchase for the director's son of a residential property in London. The property was purchased in the name of the Defendant, a company registered in the Isle of Man.

The background to the case is as follows. In or about 1970 a Mr and Mrs Moeller, who are German citizens, commenced business in partnership dealing in real estate. They acquired and developed sites, mainly for leisure purposes, in Portugal, Eire, the United States and elsewhere and their business activities included the running of golf courses. In August 1975 their business was incorporated in the Principality of Liechtenstein and became known as Euroactividade AG. The company had its registered office in Vaduz and other offices in the Algarve and London. It conducted its business through a number of subsidiary companies some of which, according to Mr Moeller, were owned by himself personally and not by the Plaintiff company. The Plaintiff company became a publicly quoted company in 1987. In May 1989 the share capital was increased and Swissair and AP Moeller, a Danish corporation, acquired a controlling interest. However at all times material to these proceedings Mr and Mrs Moeller were directors, Mr Moeller being the chairman and chief executive. Their son joined the company in 1981 and later served as a director except for a period in and between May 1989 and June 1990. They all resigned as directors in September 1990 and the company went into liquidation at the end of October 1990. For a time it was in the hands of a trustee appointed by the Liechtenstein Court. It is now managed by a board of directors representative of the creditors and shareholders, an arrangement approved by the Liechtenstein Court in September 1991. One of these directors is a Swiss attorney called Dr Werder to whose evidence I shall presently refer. Dr Werder has carried out a thorough examination of the company's books. In this Judgment I shall refer to Mr Moeller as "KHM", to Mrs Moeller as "DM" and to their son as "KEM".

Before and after their business was incorporated KHM and DM had an internal ledger account with the company (numbered 2110017). This was not a bank account but simply a ledger in which were recorded their salaries, dividends and recoverable expenses. It was the practice of KHM and DM to draw cheques payable to one or both of them on the company's account against the balance standing to their credit in this ledger account. Moreover on occasions KHM drew cheques payable to himself on the company's account when the internal ledger account was in debit. He contended that the company's auditors had not queried the propriety of his making withdrawals from the company's account even if that resulted in he and his wife being indebted to the company.

The company's account was with the BHF Bank in Frankfurt (account number 583229) and the personal account of KHM and DM was with the BHF (Schweiz) Bank in Zurich (account number 968). From time to time KHM opened additional personal accounts at the Zurich bank.

By 1988 the business had grown from small beginnings in 1970 to a public company with an annual profit in excess of SFR 7 million. After the capital increase on the 11 May 1989 when Swissair and AP Moeller became major shareholders the management of the company was restructured. Thereafter it was controlled by a supervisory board, the day to day running of the company being in the hands of a management board. KHM and DM continued to be actively engaged in the day to day management and they were also directors on the supervisory board which included three directors nominated by Swissair, three nominated by AP Moeller and a so called statutory director as required by Liechtenstein law representing the interests of that state. Before Swissair and AP Moeller became shareholders their financial advisers had, of course, access to the company's books and accounts and there is no evidence of their having objected to KHM and DM continuing to make withdrawals from the company's account and recording those withdrawals in their internal ledger account or of their having required any changes in the accounting procedures. KHM and DM continued as officers of the Plaintiff company until September 1990 when as I have said, they and their son resigned as directors which was just a month before the company went into liquidation. It is now suing KHM DM and KEM and others in the Chancery Division claiming the return of company funds which they are alleged to have misappropriated. Further criminal proceedings have been brought against KHM in Liechtenstein.

The matters giving rise to this litigation began in 1988 about a year before Swissair and AP Moeller came on the scene. KEM had for several years assisted in the company's business at first in Portugal and later in the United States. He had been a salaried director of the Plaintiff company but not a shareholder. KHM said that he and his wife had wanted to reward their son for his services to the company with an allocation of shares and an increase of salary but because of the negotiations with Swissair and the AP Moeller Corporation the only part of these expectations to be implemented was an increase in his salary. KEM never became a shareholder and KHM said that instead of giving KEM shares he and his wife decided to reward their son by providing funds from their own resources for him to acquire a house in London. To my mind no satisfactory explanation emerged in the course of the evidence as to why KEM never became a shareholder.

In KHM's view there would be fiscal advantages in acquiring an offshore company to buy the property for KEM and so KHM introduced his son to an Isle of Man company called International Trust Corporation Limited who provided the Defendant company for that purpose. KHM then arranged through Schroder Asseily & Company Limited for their associated company, J Schroder Wagg, to finance the purchase. KEM chose a leasehold property No 10 Chester Street, London W1. The purchase price was £460,000. Schroders paid the deposit of £46,000 to the Defendant's solicitors, Hamilton Downing on the 18th March 1988 and the balance of £414,000 to the Defendant's solicitors on completion on the 20th April 1988. On the previous day KHM had arranged for Schroders to be paid £110,000 to reimburse the £46,000 they had advanced as the deposit and to reduce the outstanding balance from £414,000 to £350,000. Initially KHM pledged shares of his in the Plaintiff company as security for the advance but when, on completion, the Defendant company mortgaged the property to Schroders in the sum of £350,000 KHM's shares were no longer required as security.

Following completion extensive refurbishment of the property was carried out by Jonathan Dunn Associates for which KHM and, in one instance, KEM arranged payments totalling £120,000 from the Plaintiff's bank account in Frankfurt. KHM also paid other expenses in connection with the purchase including Hamilton Downing's fees and Schroder's interest and other charges with cheques drawn on the Plaintiff's account. It is not, I think, necessary for me to set out each individual sum and when it was paid because it is common ground that the total, apart from the £350,000 required to discharge the mortgage, was £319,063.82 and that the various sums making up this amount were withdrawn to the order of KHM and, in one instance, KEM from the Plaintiff company's account with the BHF Bank in Frankfurt (account number 583229) and that they were withdrawn in and between April 1988 and March 1989 during which period KEM was a director of the Plaintiff company as well as KHM. KHM agreed that these payments out of the Plaintiff company's account were for his own or his son's purposes and not the company's but he said the payments were being recorded in the internal ledger account (account number 2110017) so that they would be debited to himself and his wife and not be a charge on the company. In fact on each occasion when a withdrawal which formed part of the total was made the internal ledger account was overdrawn. However KHM made the point, although it was not pleaded, that he was entitled to overdraw and his counsel argued that the effect was simply to put him in debt to the company. Accordingly, had it been pleaded, a primary issue with regard to the £319,000 would have been whether KHM had the company's actual or implied authority to withdraw the sums making up this amount as and when he did, and to make use of them in the way that he admits he did. I refused a belated attempt to amend the Defence to cover this point for reasons I will in due course explain.

On the 20th November 1989, seven months after completion, KHM arranged for the outstanding mortgage of £350,000 to be redeemed. Here again the source of the money was the Plaintiff company's account at the BHF Bank in Frankfurt although the money took a somewhat roundabout route to get to Schroders. KHM said that on the 27 July 1989 he drew a cheque in favour of himself on the Plaintiff company's bank account at the BHF Bank in Frankfurt for 3,999,988 US dollars (the 4 million dollars) and that this sum was transferred to the BHF Bank in Zurich where he and his wife had their 968 account, to open a US dollar sub-account. This sub-account was numbered 968-5 1331 and the opening balance on the 27 July 1989 was 3,999,988 US dollars. As appears from the account (see Bundle 2 p 73) part of this money was from time to time placed on call to attract higher interest but on the 20th November 1989 553,536.80 US dollars, being a sum equal to £350,000, went out of the account. The BHF Bank in Zurich sent this sum by telegraphic transfer to the Swiss Bank Corporation in London who put Schroders in Sterling funds so that the £350,000 mortgage on the house in Chester Street could be redeemed. It was in fact redeemed on the 20th November 1989. The result therefore was that funds originating from the Plaintiff company's account at the BHF Bank in Frankfurt were used by KHM to discharge the Defendant company's indebtedness to Schroders. The property is now covered by a Mareva injunction obtained in the Chancery proceedings.

KHM's justification for using money withdrawn from the company's bank account for this purpose was that the directors of the Plaintiff company had authorised a payment to himself and his wife of 4 million dollars in consideration of their agreeing to continue as executive directors of the company after Swissair and the Moller Corporation had become the principal shareholders, instead of retiring as they had planned to do. According to KHM the agreement was made orally between himself and Mr Affolter, one of the Swissair directors, on behalf of the board, on or shortly before 28 July 1989. It would have had to be made on or after the 11 May because until then Swissair had no financial interest in the Plaintiff company, and Mr Affolter's appointment as a director took effect from that date. KHM said that Mr Affolter had wanted to spread the payment of 4m dollars over several years to reduce the impact which payment of such a sum would have on the company's profits if the sum were to be paid in full in the year in which the agreement was made. KHM said he had not been prepared to accept payment by instalments and that then he had suggested, and Mr Affolter had agreed, that the purchase price of two golf courses in the United States, known as Windermere and Deer Run which the Plaintiff company was buying from a company called South Golf, should be shown in the company's accounts as being 4 million dollars for each rather than the 2 million dollars for each which was the amount actually paid. The company could then make a secret payment of 4 million dollars to KHM by making it appear that twice as much had been paid for the golf courses as the company had in fact paid. Incidentally KHM said that he owned South Golf and that as that company did not have a bank account moneys due to it were paid into his bank account.

I turn now to consider the plausibility of KHM's justification for making use of the company's money in the ways he admitted that he did. I begin with the payments which were said to be covered by his alleged implied authority to draw on the company's account against his entitlement under his internal ledger account.

The first problem, as it seems to me, is that this internal ledger account was overdrawn on each and every occasion when KHM wrote cheques on the company's account to make payments relating to the acquisition of No 10 Chester Street. He said in evidence that he was entitled to overdraw on this internal ledger account and that a debit balance on a given date would be extinguished by subsequent credits but although the ledger account recorded a credit balance at the 31st December 1988 and the 31st December 1989 it seems to have been overdrawn at other times from January 1988 onwards. As I have said it was not part of the Defendant's pleaded case that KHM was entitled to borrow money from the company. The case as pleaded in the Further and Better Particulars of the Amended Defence was that the money making up the £319,000 was money "belonging to and/or owed to Mr and Mrs Moeller" but this was not money owed to them it was money owed by them.

An application was made on the 7th day of the trial to amend the defence to plead that the duties owed by KHM to the Plaintiff company were to be ascertained by reference to Liechtenstein law and it was said that according to Liechtenstein law it was permissible for a director to operate an internal ledger account such as the one in this case, and use it to borrow money from his company without prior authorisation. Not surprisingly counsel for the Plaintiff company objected to the amendment and indicated that if it was to be allowed he would require the Defendant's expert in Liechtenstein Law to attend to be cross-examined as to the circumstances in which KHM could borrow from the company without express authority. The application to amend being made at the close of the final address of counsel for the Defendant company and there being no prospect of the required witness attending unless the hearing was adjourned I refused the application to amend. Accordingly I must deal with this matter according to English Law bearing in mind that the Plaintiff company is a Liechtenstein company to which it would be inappropriate to apply the provisions of the Companies Act 1985. However, this said, a director stands in a fiduciary relationship to his company and if he withdraws money from the company's account for his own purposes and does not repay it the company is entitled to trace, if it can, the funds that have been withdrawn and not returned. KHM contended that the £319,000 had been returned and if and insofar as it had not that the Plaintiff company owed him at least as much as he owed the company. However this is not a claim against KHM but a claim against the Defendant company and KHM's conduct is relevant only insofar as it has a bearing on whether the Plaintiff company can recover from the Defendant company the money the Plaintiff company says it has lost and the value the Defendant company has gained because of KHM's misappropriation of the Plaintiff's money. Even a chief executive who is a director and a principal shareholder of a company stands in a fiduciary relationship to his company especially when the company is a public company. While Dr Werder was able to trace the sums making up the £319,000 going out from the company's account he was not able to find any evidence of it being repaid, nor was he able to find any documentary evidence that the withdrawal of these funds had been authorised by the board. KHM accepts that the payments totalling just over £319,000 all came from the Plaintiff's bank account and were used to pay off creditors of the Defendant company in relation to the purchase and re-furbishment of No 10 Chester Street. The Plaintiff company had no interest in making these payments for which, in my judgment, no consideration was given by the Defendant company. On the face of it KHM's conduct in making these payments with the Plaintiff's funds was a breach of his fiduciary duty to the Plaintiff and for reasons I shall explain his knowledge of the position should be imputed to the Defendant company.

Next I must consider the plausibility of KHM's justification for using £350,000 of the company's money to discharge the mortgage on No 10 Chester Street. I note that the withdrawal of the 4 million dollars from which the £350,000 came was carefully concealed. If it had been properly authorised it is difficult to see why it should have been. The mechanism was as follows. A photocopy was made of a company cheque which was blank, apart from having KHM's signature on the bottom. KHM's name was then filled in as the payee on the original along with the amount to be paid and then on the copy was inserted the same amount and the name of a company having a ledger account with the Plaintiff. KHM used the original to obtain payment of the amount stated to himself and he handed the forged copy of the cheque to the accounts department with an advice note as to how the transaction should be entered in the company's books. The 4 million dollar transaction was shown as a part payment to South Golf in respect of the two golf course in Florida. It thus appeared that the company had paid for these golf courses twice as much as had been agreed. This of course was a deliberate attempt to hide the truth from the Plaintiff's auditors and to defraud the shareholders. This was not the first time KHM had resorted to this strategem in order to conceal payments out to himself from the company's account. He was cross-examined at length about his dummy cheques and false accounting instructions to the company's book keepers on other occasions when withdrawing money for himself from the company's account. The system he adopted was the same even if his justification for using it was different, namely tax evasion. Four of the similar fact situations put to him occurred before the 11 May 1989.

There is a Civil Evidence Act statement from Mr Affolter, dated the 29th November 1993, to the effect that he neither knew of the proposal or the reasons for it and that he never entered into any such arrangement as that alleged by KHM. There are statements by other members of the board, Schrumpf, Krahenbuhl and Huber to the effect that they had no knowledge of it and, according to the witness. Dr Werder, he had not been able to find in the company's books any resolution or other evidence of the board having approved any such scheme.

It seems to me most unlikely that Mr Affolter and his co-directors would have agreed to a 4 million dollar "golden handout" being masked in the way KHM suggested, even if they had agreed to KHM and DM being paid such a sum to defer their retirement. If they had agreed to both or even just the latter it is most surprising that the first mention of any such agreement in the pleadings was by way of a late amendment for which Mr Justice Otton granted leave on the 25 November 1993, just four days before the trial began and which, when this late amendment was served, was in a further amended form. Had mention of this agreement been accidentally omitted from the defence as it was first served on the 11 September 1992 I would have expected KHM to have noted the oversight between then and November 1993 and to have given instructions for its early inclusion. But not only was it omitted from two earlier versions of the defence and two lots of Further and Better Particulars but there was no mention of it in KHM's defence served in the Chancery proceedings on the 11 November 1992 or in Further and Better Particulars of that Defence served on the 18 March 1993. Moreover KHM did not say anything about his agreement with Mr Affolter at any time to the Judge in Liechtenstein charged with investigating his conduct as an Executive Director of the Plaintiff company. On the contrary he told the Judge --

(1) that he could not remember the prices at which, through South Golf, he had bought the golf courses.

(2) that he had sold them on to the Plaintiff company at a considerable profit.

(3) that the Plaintiff company's cheques, by which payment was made, were credited to KHM's account because South Golf did not have a bank account.

(4) that "altered" (ie dummy) copies of the cheques were passed to the Plaintiff's account department because KHM "did not want this to become known in the company". (see Bundle 5 Tab 4 p 13).

KHM drew my attention to two memoranda which he said had been circulated to his fellow directors and other officers of the company at his request. The first was dated the 3 August 1989 (see Bundle 4 Tab 1 p 12). None of the witnesses, apart from KHM, remembered seeing this memorandum. It purports to have been addressed, among others, to the book keeping department. Mr Pringle was the financial controller in August 1989. He said in evidence that he had no recollection of ever seeing any such document. It also purports to have been sent to the Supervisory Board and Mr Affolter was a member of the Supervisory Board. He said in a statement of the 29 November 1993 that he too had no recollection of ever seeing this memorandum. According to the witness, Dr Werder, this memorandum was not on the company files. According to Mr Pringle the transaction was entered in the company's books in accordance with a book keeping voucher (Bundle 4 Tab 1 p 1) raised by KHM and not in accordance with this memorandum. I am satisfied that this memorandum has been fabricated for the purpose of these proceedings.

KHM also sought to rely on a memorandum dated the 21 November 1989 headed "Budget 1990-1994 Golf Memberships" (Bundle 4 Tab 1 p 23) as showing that the Supervisory Board and Mr Pringle, the financial controller, would have been aware of the 4 million dollar payment to himself. There is no reference in this memorandum to any payment of 4 million dollars to KHM personally; the reference to 4 million dollars is to part of the price being paid abroad. Although Mr Pringle admitted that he might have seen this document he said it would not have caused him to question KHM's instruction to the Accounts Department as to how the 4 million dollars was to be entered in the company's accounts. It was to be booked as "partial payment for the golf courses".

Mr Lord, for the Defendant company, pressed the point that Mr Affolter had not been called, contended that no satisfactory reason had been given for his non-attendance and that accordingly I should treat the assertion in his Civil Evidence Act statement that he had not entered into any such agreement as KHM alleged with caution. Mr Gourgey for the Plaintiff company pointed out that the Defendant had only requested Mr Affolter's attendance two days before the trial and that as Mr Affolter was out of the jurisdiction and was a Director of Swissair with whom the Plaintiff company was involved in litigation, it was not practicable to secure his attendance at short notice. I would not reject KHM's evidence simply on the basis of Mr Affolter's written statements but, as I have said, I have statements from other members of the board to the effect that they were not apprised of any such agreement. Moreover there is the inherent improbability of this defence. It is most unlikely that the new corporate shareholders, having just negotiated terms for the acquisition of their shares, would be willing to authorise the payment out straightaway of a further sum which would have exceeded in amount the company's annual profit or that KHM having been appointed Chief Executive Officer of the enlarged company for five years from the 11 May 1989 would have been contemplating retirement so soon afterwards. Moreover I cannot bring myself to believe that the other directors, including the so called statutory director representing the public interest, would have been a party to a scheme whereby a 4 million dollar payment to KHM was to be dressed up as an overcapitalisation of a company asset. It would have been a fraud on the shareholders generally and a deliberate attempt to conceal the truth from the company's auditors. Then, as I have already noted, no such agreement was pleaded in the Chancery action nor was it in this until a very late stage and it is entirely contrary to what KHM told the Liechtenstein Judge. KHM said in evidence that what he told the Liechtenstein Judge was a mistake and was subsequently corrected in a memorandum dated the 23 October 1992 (Bundle 5 Tab 8 p 1). All that memorandum records, so far as the 4 million dollars is concerned, is that a cheque for that amount, dated the 27 July 1989, was paid into the private account of KHM and DM. It neither corrects or makes any attempt to explain what KHM had previously said to the Liechtenstein Judge nor does it raise the defence on which he and, through him, the Defendant company now relies. I have no hesitation in rejecting KHM's justification for helping himself to 4 million dollars from the company's account. In my judgment it is a complete fabrication.

It is significant, I think, that from March 1988 onwards the operational headquarters of the Plaintiff company was at Euroactividade House, as it was called, 9 Galena Road, London W6 OLT where a substantial computer had been installed to cope with the company's activities here and abroad. Mr Pringle, the Financial Controller, who gave evidence before me, worked here at the office in Galena Road and when he resigned in October 1989 and Mr Wermerlinger took over as the company's Financial Director (he having been nominated for the post by Swissair), he was required to live and work in London. Moreover KHM, as the Chief Executive, had a house here on Putney Heath and in a circular letter to his friends and business associates, dated the 1 March 1988, KHM informed them of the company's business address in London and of the private address of himself and his wife. He wrote --

"... we shall in future spend more time in London than in the Algarve".

Further in a letter dated the 12 February 1990, addressed to a Dr Bachmann, in which KHM mentioned the possibility of the company's registered office being moved from Vaduz in Liechtenstein to Zug in Switzerland he said --

"it is highly probable however that the headquarters will remain in London"

and he added --

"we would rather live in London and this will have to be so since the effective headquarters will remain here".

That accords with Mr Pringle's evidence which was to the effect that the company's operational headquarters were here in London and he was not challenged on this point although when KHM gave evidence he asserted the contrary. Moreover, according to Mr Pringle, the cheques for the various payments in respect of the acquisition of No 10 Chester Street were generally drawn here by KHM and the instructions as to how these sums were to be entered in the company's books were given by KHM in writing and handed by him to or received here by Mr Pringle or some other member of the Accounting staff. Mr Pringle was an impressive witness and I accept his evidence.

As for KEM, although he had lived at one time in the Algarve and later in the United States when he was promoting Euroactividade's business in those countries, by 1988 he was spending part of his time in London and, of course, No 10 Chester Street was a property which he chose and which was to be his London home. I am satisfied that at all material times there was a close family and working relationship between KHM and KEM and that in relation to the purchase of No 10 Chester Street both knew what the other was doing. It was KHM who suggested that an offshore company should be acquired to be the nominal purchaser. It was KHM who introduced KEM to the International Trust Corporation Limited in the Isle of Man so that that could be arranged. At one time KHM had considered making the purchase through an offshore company called Atlas which he owned. There were difficulties about that and so KEM selected Masons, the Defendant company. It was KHM who arranged the finance with Schroder Asseily and Wagg. It was he who put his son in touch with Hamilton Downing, the solicitors who acted for the Defendant company in connection with the purchase and it was he who provided the initial security in the form of a pledge of his shares and who arranged all or all but one of the payments in connection with the purchase itself, the refurbishment of the property, the payment of legal fees and Schroders charges, including interest payments on the sums they advanced. I have also noted the instructions he gave to Hamilton Downing in a letter of the ... 19 ... that their invoices should be addressed to the Plaintiff company at the office in Galena Road. I accept, that the shares in Masons were held in trust for KEM, apparently for tax reasons and that KEM was not a director but Masons was a company acquired for his benefit. KHM was not a director of Masons either nor was he a shareholder but I have no doubt whatever that he was very much involved in setting up the Defendant company and in carrying out its only known activity which was to acquire No 10 Chester Street. There is no evidence of anyone other than KHM and KEM having acted in connection therewith on Masons' behalf. In my judgment it matters not that KHM was neither a director nor a shareholder; he was very much in control of the operation and the inescapable inference, as I find, is that KHM was acting for and on behalf of the Defendant company and that what he knew must be imputed to the Defendant company.

In view of my findings as to the role played by KHM it matters not whether KEM knew or did not know how the purchase and refurbishment of No 10 Chester Street was being funded. However Mr Lord made forceful submissions to the effect that KHM's knowledge should not be imputed to the Defendant company, that KEM believed that his parents were funding the purchase of No 10 Chester Street from their own resources, that he had no reason to think otherwise and that through him the Defendant company had given value for the property. I will now set out my findings on Mr Lord's submissions as to the role of KEM and I begin with the last of these submissions. I am satisfied that until the 11 May 1989 there was very little, if any, check on KHM's control and management of the Plaintiff company. He could and did determine the manner and level of KEM's remuneration. In a letter to KEM dated the 7 March 1988 (Bundle 8 p 135) KHM notified his son of an increase in his salary wef 1 January 1988 from 3,900 DM per month to 14,000 DM per month, more than a 350% increase, which put KEM on a salary equivalent to about £60,000 pa. That, in my opinion, was not a small increase, as KHM described it. As the Plaintiff company was a publicly quoted company KEM could have acquired shares in the company on the open market. Moreover until the 11th May 1989 KHM held 45% of the shares himself and thereafter continued to have a substantial holding.

I simply do not believe the story told by them both that the funding of No 10 Chester Street was intended to be first, compensation for KEM not having received shares he was promised and second, a reward for his past services to the company,

"part of my remuneration"

was how KEM was to describe it in a letter to Dr Werder (Bundle 6 Tab 2 p 10). Mr Lord did not suggest that past services could provide consideration in the contractual sense but in his submission KEM had given value and he received No 10 Chester Street in return paid for, as KEM supposed, by his parents.

In a Civil Evidence Act statement dated the 24th November 1993 KEM denied any financial involvement. However it appears that on the 17th January 1989 he gave or caused to be given instructions by Fax, on the Plaintiff's headed notepaper, to the BHF Bank in Frankfurt to remit a payment of £41,000 to Jonathan Dunn Associates account at the Sloane Square branch of Barclays Bank (see Bundle 9 Tab 8 p 10A). Although KHM's signature appears on the original of this document (copied at Bundle 9 Tab 8 p 11) it seems to me most unlikely that the words --

"instruction on the transfer: Klaus E Moeller Junion 10 Chester St"

would have appeared on the facsimile message if he had not initiated the request for payment. I was given no explanation as to why on the 17th January 1989 KEM himself was apparently giving instructions for the Plaintiff's money to be used to pay a debt of the Defendant company. As at the time KEM was a director of the Plaintiff company that would have been a breach of his fiduciary duty.

I have also noted that on the 15th November 1988 (Bundle 9 Tab 8 p 1) John Downing (the Defendant company's solicitor) had addressed a letter to KEM, who was then in Portugal, including an invoice for fees. The letter was in these terms --

"Dear Klaus,

Re: 10 Chester Street London SW1

I have now almost completed the re-financing of your flat with J Henry Schroder Wagg & Co Ltd. You will appreciate that a great deal of time has been spent in unscrambling the original mortgage to enable the re-financing to be put in place. Since the bulk of this invoice relates to work done acting on behalf of Euroactividade, I have addressed my account to the Company.

I look forward to hearing from you in due course.

Kind regards

Yours sincerely

John Downing"

KEM appears to have passed the account to KHM who paid it with a cheque drawn on the Plaintiff company's account. The cheque was in fact sent under cover of a letter from KHM dated the 28 November 1988 on the Plaintiff's headed notepaper. The letter was in these terms --

"Dear Sirs

Enclosed please find a cheque of £1,840 to pay your invoice No 2848 dated 15 November 1988 to EUROACTIVIDADE.

Yours sincerely

Euroactividade AG"

This correspondence shows that Hamilton Downing were dealing with KEM and were under the impression that they were acting for the Plaintiff company, an impression which would have been confirmed when they received a Euroactividade cheque under cover of a letter on the Plaintiff's headed notepaper from KHM, he purporting to be acting for the Plaintiff. Accordingly I reject the suggestion made by KEM in para 40 of his Civil Evidence Act statement of the 24 November 1993 to the effect that this was one of two accounts addressed in error to Euroactividade and that the accounts were settled by KHM with his own monies.

In the result therefore I find that the sums totalling £319,063.82 (the £319,000) and £350,000 all originated from the Plaintiff company's bank account in Frankfurt: that they were withdrawn to the order of KHM and/or KEM without authority and have not been returned and that the purpose was to fund the purchase of No 10 Chester Street by the Defendant company ostensibly for KEM's benefit.

The first matter I have to decide, with regard to the law, is what law applies and I am satisfied that English law applies. Three short passages from the Judgment of Millett J in El Ajou v. Dollar Land Holdings plc and another [1993] BCF 735 will, I hope, suffice to justify this conclusion. Millett J said at p 755 (at (h)) --

"whatever money or property DLH received was received by it in England and, accordingly, the Plaintiff's claim falls to be governed by English law, including the principles of equity."

then at p 756(d) --

"DLH is ... amenable to the courts equitable jurisdiction as regards assets which were formally in a civil law country but which it has received in England in circumstances which are alleged to render it unconscionable for it to retain them".

and at the bottom of p 756(h) Millett J said --

"an English Court of Equity will compel a Defendant who is within the jurisdiction to treat assets in his hands as trust assets if, having regard to their history and his state of knowledge, it would be unconscionable for him to treat them as his own".

It is clear from these passages that this court has jurisdiction to hear and determine the Plaintiff's claim. The money needed to secure No 10 Chester Street free of any charge was received here and the property is situated here. Mr Lord argued that much of the purchase money came from Schroders and not from the Plaintiff but the Plaintiff's money was used to pay off Schroders and once the Defendant company's indebtedness to Schroders had been settled the Defendant company had an unencumbered asset. Moreover funds of the Plaintiff went direct to pay for the refurbishment.

I turn now to consider the various ways in which the Plaintiff's seek to recover their money. They say they are entitled --

(1) to trace the money at common law;

(2) to trace the money in equity;

(3) in respect of the £350,000 and interest paid thereon, to be subrogated to the rights Schroders would have had as mortgagees;

(4) to recover the money on the basis of the Defendant's unjust enrichment.

I will take each of these in turn but first I must deal with a point taken by Mr Lord in respect of tracing. He contended that Swiss law applied to funds passing through a bank situated in Switzerland and that by Swiss law the Plaintiff company could not trace its funds out of a Swiss bank account and into property. An agreed statement as to the Swiss law to that effect was adduced in evidence.

"If X takes money from Y's account and invests it in property then Y cannot 'trace' the money into that property".

According to Mr Lord's argument the Plaintiff's money cannot be traced because it has lost its identity having been used to purchase property. However the money was not taken from an account of the Plaintiff in Switzerland nor was it used to purchase property in Switzerland. The property purchased was situated in England and the contract of sale was made and executed here. Accordingly I do not think that the Plaintiff's right to trace is affected by Swiss law and even if it was that would not affect the equitable jurisdiction of an English court to act in personam against a Defendant within the jurisdiction.

At common law property can be traced while it is in an identifiable form but not when it becomes mixed with other property so that it can no longer be identified. Mr Lord argued that once money was paid into a bank it became mixed with other funds of the bank and lost its identity and therefore it could no longer be traced at common law. A fund does not necessarily lose its identity simply because it passes through a bank or even of succession of banks. The actual currency does not pass. What passes is a recorded credit which gives rise to a contractual relationship between the depositor and each bank which handles his credit. The contractual relationship is of creditor and debtor and is in form a chose in action. The chose in action attaches to the credit standing to the depositor's account and travels with the fund through whatever accounts the credit may pass and the rightful owner of the fund, whether the depositor or some other person, can sue any holder in due course of his fund who fails to deliver it upon demand. Moreover if it is used to purchase property he may claim the property as being the product of his fund provided only his funds have been used to purchase it. A problem with tracing at common law is that if the fund of the Plaintiff's which the Plaintiff is trying to trace has become mixed with other funds, to which the Plaintiff has no claim, the Plaintiff's fund may cease to be identifiable. However when an account is opened for the express purpose of receiving a particular fund and then the whole or part of this fund is paid out to the order of the depositor it may reach its intended destination without being mixed with other funds either of the depositor or third parties.

My attention was drawn to the following passage in Goff and Jones on The Law of Restitution 4th Edn at p 86 --

"Equity, like common law (my underlining) does not regard the bank as in itself a barrier to a beneficiary's claim to follow money. Per Ungoed-Thomas J in Selangor United Rubber Estates Limited v. Craddock (No 3) [1968] WLR 1555 p 1655. Consequently it will not be defeated "by the incidental legal relationships that arise in the course of the passage" of the money through different bank accounts."

In Banque Belge pour L'Etranger v. Hambrouche [1921] 1 KB 321 Bankes and Atkin LJJ saw no objection to a claim at common law to trace misappropriated funds which the Defendant had paid into a bank account he opened to receive them and out of which he made payments to his mistress who paid them into a deposit account of her own. Atkin LJ said at pp 335-336 --

"if ... the money paid into the bank can be identified as the product of the original money, the Plaintiff's have the common law right to claim it and can sue for money had and received".

On my findings of fact the various sums making up the £319,000 and the £350,000 can all be shown to have come from the Plaintiff's Bank account in Frankfurt and to have been used by KHM without the Plaintiff's authorisation, to fund the purchase and refurbishment of No 10 Chester Street for the benefit of the Defendant company. However that does not mean that all the sums advanced can be traced into No 10 Chester Street either at common law or in equity. Mr Lord submitted that most of the purchase money was provided at the time of completion by Schroders. The £46,000 deposit was money "paid up front" and secured not by a charge on the property, which had still go be conveyed, but by a pledge of KHM's shares. Although a deposit does not become part of the purchase price until completion the deposit Schroders provided did go towards the purchase price on completion. Accordingly in my judgment the Plaintiff cannot follow the £46,000 of its money into the property on the basis of tracing either at common law or in equity. Mr Lord submitted that similar considerations applied to the £350,000 which Schroders provided to make up the shortfall on the purchase price required on completion. In my judgment the fact that in due course the money borrowed from Schroders to complete the purchase was re-paid by KHM with the Plaintiff's money does not mean that the Plaintiff's money can be 'traced' into the property. The problem with the £46,000 and the £350,000 is that although these sums came out of monies of the Plaintiff which can be traced as far as Schroders, they never went beyond Schroders. They were used not to fund the purchase in the first place but to discharge KHM's and/or the Defendant's indebtedness to Schroders. However that does not mean that the Plaintiff company is without a remedy in respect of these amounts.

Although much of the money coming from the Plaintiff cannot be traced into the property either at common law or in equity, for the reasons I have given, some of it can but that which can be traced into the property became mixed with the funds advanced by Schroders. Accordingly any claim based on tracing has to be pursued on the basis of tracing in equity where the mixing of funds is not a bar to tracing, as it is when tracing at common law. The reason is that the common law acts in rem whereas equity acts in personam. If the stage is reached where the money or credit which enabled the purchase to go ahead can no longer be identified the right to trace at common law is lost. In the event No 10 Chester Street was purchased with mixed funds some coming from the Plaintiff and some from Schroders. However that need not be a bar to tracing in equity because the Court can, in certain circumstances, raise a charge on the product of the mixed fund in favour of the Plaintiff to the value of the Plaintiff's contribution.

The requisite circumstances were explained by Fox LJ in Agip (Africa) Ltd v. Jackson and others [1991] Ch 547. He said at p 566 --

"it is ... a pre-requisite to the operation of the remedy in equity that there must be fiduciary relationship which calls the equitable jurisdiction into being."

Clearly KHM was in a fiduciary relationship to the Plaintiff company because he was a Director and the Chief Executive of the Plaintiff company. However because the nominal owner of No 10 Chester Street is the Defendant company and not KHM it is necessary for me to consider the circumstances in which a stranger to the trust relationship (the Defendant company) may be made liable in equity. In Agip's case (supra) Fox LJ said at p 567 --

"(The circumstances)

are broadly as follows,

(1) Knowing receipt of or dealing with the trust property:

...

(2) Knowing assistance"

He continued --

"the degree of knowledge required was described by Ungoed-Thomas J in Selangor United Rubber Estates Ltd v. Cradock (No 3) [1968] 1 WLR 1555, 1590 as circumstances which would indicate to an honest and reasonable man that such a design was being committed or would put him on enquiry whether it was being committed. Peter Gibson J in Baden, Delvaux and Lecuit v. Societe General pour Favoriser le Developpement du Commerce et de l'Industrie en France SA [1983] BCLC 325, 407 gave a more expanded description of the circumstances constituting the necessary knowledge under five heads: (i) actual knowledge (ii) wilfully shutting one's eyes to the obvious, (iii) wilfully and recklessly failing to make such enquiries as an honest and reasonable man would make, (iv) knowledge of any circumstances which would indicate the facts to an honest and reasonable man, (v) knowledge of circumstances which would put an honest and reasonable man on enquiry. I accept that formulation. It is, however, only an explanation of the general principle and is not necessarily comprehensive."

Now in the case of a company it is the knowledge of its directors and managers which matters and the argument in this case has centred on two points, first was KHM, who was neither a director nor a shareholder of the Defendant company properly to be regarded as a manager whose knowledge should be imputed to the Defendant company, and second, did KEM who was its beneficial owner, know or should he have known the source of the funds with which No 10 Chester Street was purchased and that KHM had misappropriated those funds. For the reasons I have already given I have no doubt at all that KHM did manage the Defendant company and that his knowledge is to be imputed to the company. I have also no doubt that if by any chance KEM did not have actual knowledge, which I have found he did, then either he wilfully shut his eyes to the obvious or the circumstances were such as to put an honest and reasonable man on enquiry. There was of course the payment to Jonathan Dunn Associates which KEM himself authorised. Moreover I cannot shut my eyes to the fact that he had been a party on other occasions to misappropriation of the Plaintiff company's funds. It could be, of course, that in respect of the No 10 Chester Street transaction he has an explanation for authorising the one withdrawal from the Plaintiff's account which he did and that he had cogent reasons for thinking that the purchase was being funded by his parents from their own resources or from the Plaintiff company's resources with the company's permission but if so he could have attended the trial and explained his position. He did nothing of the kind and I am not prepared, as he was absent, to accept the assertion in his Civil Evidence Act statement of the 24 November 1993 that he did think his parents were paying for No 10 Chester Street and that he understood it to be a reward for his services to the company and compensation for their promise to him of shares in the company not having materialised. The Defendant company's knowledge as to the impropriety of the funding of No 10 Chester Street having been, as I find, established, the Plaintiffs are entitled to a charge on the property to the value of their funds which they can trace into the property. It cannot be said that the Defendant company acquired the property or the cost of its refurbishment in good faith without notice of the Plaintiff's claim and that it gave value.

The Plaintiff claims that it should be subrogated to Schroders rights because its funds were used to redeem the £350,000 mortgage on the 20 November 1989. The value of the claim, under this head, if maintainable, will be the total amount paid to Schroders by way of principle and interest in respect of the mortgage. Mr Lord submitted on behalf of the Defendant that for the doctrine of subrogation to apply it would have to be shown that the Plaintiff intended to be subrogated to Schroders rights and that as it was unaware of what was going on it could not be said to have had the requisite intent and no such intent should be implied.

The doctrine of subrogation can be simply stated but not always easily applied. No case was cited to me in which, as here, one person's debt was discharged with another's funds without knowledge on the part of that other person or his duly authorised agent.

In Burston Finance Ltd v. Speirway Ltd [1974] 1 WLR 1648 Walton J said at p 1652 --

"... the doctrine of subrogation ... is simply that where A's money is used to pay off the claim of B, who is a secure creditor, A is entitled to be regarded in equity as having had an assignment to him of B's rights as a secured creditor".

However in Wylie v. Carlyon [1922] 1 Ch 51 Eve J had said at p 63 --

"an individual who advances money to another for the purpose of enabling that other to pay specific debts does not in the absence of a special bargain thereby acquire the rights of the persons whose debts are discharged out of his monies against the property of the debtor. No case has been cited to show that even in circumstances in which the doctrine of subrogation is properly applicable the subrogated lender has been held to be entitled to the benefit of the security held by the creditor to whose rights he is subrogated".

In Paul v. Speirway Ltd [1976] Ch 220 Oliver J said at p 230 with reference to what Eve J had said in the passage I have cited from Wylie's case --

"... what I think Eve J was saying was that the mere fact that you provide the money which goes to pay off somebody else's debt does not entitle you to be subrogated to the creditor whose debt is paid. There must, I think, be something more".

At p 232 Oliver J gave some guidance as to what he meant by "something more". He said --

"it seems to me ... that the question of subrogation or no subrogation cannot be divorced from a review of the rights proved or presumed to be intended to be created (my underlining) between the payer of the money and the person requiring its payment".

In a passage just before the passage I have cited Oliver J said --

"I think ... the wide general formulation in Ghana Commercial Bank v. Chandiram [1960] AC 732 is the right one, and that when the given circumstances exist subrogation applies unless the contrary appears".

The "wide general formulation" in the Ghana Bank case was the way Lord Jenkins put it at p 743 --

"it is not open to doubt that when a third party pays off a mortgage he is presumed, unless the contrary appears, to intend that the mortgage shall be kept alive for his own benefit".

In re Diplock, Diplock & Wintle (& Associated Actions) [1948] 1 Ch 465 the contrary did appear. The Leaf Homeopathic Hospital, was one of several charities to receive part of a testator's residuary estate from his executors who acted under a mistake of law. The grant was made for the express purpose of enabling the charity to discharge an encumbrance on its property and it was held that the judicial trustee, acting for the beneficiaries, could not be subrogated to the mortgagee's rights.

Lord Greene MR said at p 549 --

"the case of the Leaf Homeopathic Hospital is different in that (a) the loan was a secured loan, (b) the grant was made in terms for the purpose of enabling the charity to pay off the loan, and (c) the £6000 in question cannot be said to have been used indirectly in the execution of works as in the case of the Heritage Craft Schools. It was used simply and solely for the purpose of clearing off an existing encumbrance. Here, too, we think that the effect of the payment to the bank was to extinguish the debt and the charge held by the bank ceased to exist. The case cannot, we think, be regarded as one of subrogation, and, if the appellants were entitled to a charge, it would have to be a new charge created by the Court. The position in this respect does not appear to us to be affected by the fact that the payment off of this debt was one of the objects for which the grant was made. The effect of the payment off was that the charity, which had previously held only an equity of redemption, became the owners of unencumbered property. That unencumbered property derived from a combination of two things, the equity of redemption contributed by the charity and the effect of the Diplock money in getting rid of the encumbrance. If equity is now to create a charge (and we say "create" because there is no survival of the original charge) in favour of the judicial trustee, it will be placing him in a position to insist upon a sale of what was contributed by the charity.

The case, as it appears to us, is in effect analogous to the cases where Diplock money is expended on improvements on charity land. The money was in this case used to remove a blot on the title; to give the judicial trustee a charge in respect of the money so used would, we think, be equally unjust to the charity who, as the result of such a charge, would have to submit to a sale of the interest in the property which it brought in. We may point out that, if the relief claimed were to be accepted as a correct application of the equitable principle, insoluble problems might arise in a case where in the meanwhile fresh charges on the property had been created or money had been expended upon it".

The important points in the Leaf Homeopathic Hospital case were, as it seems to me, --

First, the executors, the charity and the original lender all acted in good faith;

Second, the executors were the testator's appointed representatives;

Third, the grant was made to pay off a loan to clear an encumbrance on property the equity of which belonged to the charity;

Fourth, as the charity's debt to the original lender was paid off there was no longer any need for the charge which was, accordingly, released and therefore the judicial trustee could not be subrogated to the original lender's rights.

The present case can be distinguished on several grounds --

First, on my findings of fact, KHM and the Defendant company did not act in good faith;

Second, KHM was not the Plaintiff's appointed representative to disperse their funds;

Third, the equity in No 10 Chester Street had been acquired with the Plaintiff's money.

However there can be no doubt that Schroders' debt was discharged and with it their security and so, it seems to me, that there are no longer any rights of Schroders left to which the Plaintiff can be subrogated. The Plaintiff was not a party to its funds being used to pay off the outstanding loan to Schroders. If it had been then it would be proper for me to apply the presumption to which Lord Jenkins referred in the Ghana Bank case but as the Plaintiff was not a party it must seek redress in some other way.

In the passage I have cited from Diplock's case Lord Greene considered whether equity could create a new charge in place of the old and explained why, on the facts of that case, it might be unjust to the charity. It seems to me, however, that on the facts of the present case, where, in the end result, No 10 Chester Street turned out to have been wholly funded by the Plaintiff, that no injustice of the kind to which Lord Greene drew attention could result and that if there is no survival of the original charge in favour of Schroders, justice requires that the Court should create a new charge in its place.

In my judgment this is the most straightforward of the various ways in which counsel, appearing for the Plaintiff, have sought to make out their case. In Lipkin Gorman v. Karpnale Ltd (HL) [1991] 2 AC 548 it was held that an innocent recipient of stolen money was obliged to pay an equivalent sum to the true owner where he had not given full consideration for it and had thus been unjustly enriched at the expense of the true owner. In that case a partner in a firm of solicitors withdrew money from his firm's client's account and exchanged it at a casino for chips which he used for gambling. The transaction being a gaming transaction the club gave no valuable consideration when bets were accepted so that the solicitor's firm was able to recover the money he had paid over to the casino on the basis that the casino had been unjustly enriched. It seems to me that all the money belonging to the Plaintiff which KHM paid out on behalf of the Defendant company, including the £120,000 used for the refurbishment of No 10 Chester Street, is recoverable on the basis of unjust enrichment which is a species of a quasi-contractual claim for money had and received to the Plaintiff's use. The knowledge of KHM and KEM was the knowledge of the Defendant company. It had no other means of knowledge. It gave, as I have found, no consideration in a contractual sense for the money advanced nor indeed did it give value insofar as the giving of value may be different to providing consideration. Accordingly it would be unconscionable to allow the Defendant company to retain its ill gotten gains. There is no question here of the company having changed its position in good faith -- there was no good faith nor has it changed its position.

I would add that in my view the Plaintiff's case can be put forward on the basis of constructive trust, which was also mentioned by the Plaintiff's counsel. KHM knew that he was misappropriating the Plaintiff's money and through him KEM and the Defendant company knew. Therefore the Plaintiff's money, or its product, in the hands of KHM or the Defendant company, was subject to a constructive trust in favour of the Plaintiff.

For the reasons I have given the Plaintiff company is entitled to a money judgment for £669,063.82 to which must be added statutory interest and to a charge on No 10 Chester Street in that amount, alternatively to a declaration that the Defendant company holds the property in trust for the Plaintiff. I will hear counsel on the appropriate form for the order and, of course, on any other matter.