Fraud Account Management – Criminal Law

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Galleria (Hong Kong) Ltd v DBS Bank Ltd (Hong Kong Branch) [2021] HKCA 611

Hong Kong Court of Appeals (“Court of Appeal“) decided on the claim filed by the liquidator against the bank for three reasons related to fraud in relation to the banking services provided to the borrower. The court discussed the mental elements required on the part of the offender and ultimately concluded that the bank’s actions were not fraud.

Facts

Galleria (HK) Ltd (“GHK“), financed by loans from DBS Bank Ltd, Hong Kong branch (“bank“) and other banks. During 2004-2009, the directors of GHK used falsified bills of lading (“B / Ls“) for the permanent receipt of loans and other credit lines from the Bank and other banks. In 2006, the Bank requested from the International Maritime Bureau of the International Chamber of Commerce (“ICC-IMB“) as part of a scheduled audit and was notified that some of the letters of credit were false. Through an internal investigation, the Bank found plausible reasons for the inaccurate information in the letters of credit and subsequently decided to increase its credit facilities for GHK.

However, during the subprime crisis, the Bank reduced its lending to GHK, while other banks increased their funding. GHK’s fraudulent activities were discovered by other banks in 2009, which petitioned to liquidate GHK and other related companies. The GHK liquidators sued the Bank for three fraud reasons: (a) receiving notice; (b) dishonest help; and (c) fraudulent trading, allegedly resulting in losses of approximately USD 185.5 million.

Problem

Given that this was the same factual case for each of the three reasons for the claim, the question was whether Bank employees knew, suspected, or turned a blind eye to GHK’s fraud.

Judgment of the Court of First Instance of Hong Kong (“The Court of First Instance”)

Legal principles

Each of the three reasons for action required proof of a dishonest mental element on the part of the offender. In short, the court highlighted the following legal principles applicable to the case:

a) whether a person is honest or dishonest, given what he knows, is subject to an objective assessment, even if the question of the person’s state of mind is subjective;

b) negligence or negligence is not in itself dishonesty;

c) The knowledge of innocent minds of different people in a company cannot be combined to create an “imaginary superintelligence” that is considered dishonest; as well as

d) blind knowledge requires a person to be suspicious of facts and make a conscious decision to refrain from taking measures to confirm the existence of such facts.

It is important to note that the trial court upheld a high threshold for such fraud claims by requiring proof based on compelling and “irrefutable evidence”. In light of this, the First Instance Court examined in detail various emails and reports (“Modern documents“), as well as the actions of the Bank’s employees during the GHK fraud period.

Application to facts

The trial court ultimately dismissed all three reasons for the claim and found that the bank’s employees were not dishonest in continuing to lend to GHK.

Until 2006, GHK and the Bank maintained a successful banking relationship for three years. After receiving the ICC-IMB report questioning the authenticity of the B / L, the Bank’s internal checks showed that it was not unusual for some B / Ls to be out of order. Given the level of experience of Bank staff in fraud cases at the time, especially with respect to ICC-IMB checks, they did not have sufficient grounds to suspect that GHK was engaging in fraudulent activities, and in this regard, “fraud” was only mentioned in two bank documents.

The first instance court ultimately found that the Bank’s employees were not aware of the fraud, had no motive to act dishonestly, and were seriously unaware of foul play. It was simply unacceptable for all the employees of the Bank involved, without personal motives, collective interests or discussion, to simultaneously close their eyes and continue to lend to the fraudster. The decision of the Bank’s officials to discontinue the SB’s internal investigation is in fact “incompatible with the suspicion of serious fraud against the Bank.”

Court of Appeal Decision

The GHK liquidators appealed against this decision on the grounds that the first instance court:

a) misapplied the law to the mental element of the three causes of action; as well as

b) made incorrect factual conclusions and made, on their basis, inaccurate conclusions regarding the awareness and dishonesty of the Bank’s employees.

However, the Court of Appeal ultimately upheld the trial court’s decision and agreed that the evidence did not suggest that the officers acted dishonestly or fraudulently in their behavior towards GHK. The Court of Appeal found that the trial court carefully considered the simultaneous documents and oral testimony in the light of all the relevant circumstances and did not lose sight of any relevant evidence in analyzing the case. Moreover, the court of first instance did not consider the inherent improbability that the Bank would have acted dishonestly, or the lack of motivation on the part of the Bank’s officials, as decisive, and did not apply the law incorrectly.

The GHK liquidators emphasized that the trial court did not take into account the “opposing evidence” and focused on the only significant decision-maker, the senior loan officer (“Senior Loan Officer “), which include dishonesty of the Bank. It was alleged that the senior loan officer had a motive to act dishonestly by continuing to lend to GHK in order to avoid the collapse of GHK and allow the Bank to exit the lending relationship in a controlled manner. However, the Court of Appeal found the “countering evidence” to be “completely speculative”, insufficient to overturn the findings of the trial court and did not suggest that the Bank had colluded with GHK. Firstly, the senior loan officer was not the only or the most senior decision-maker, and there was no reason that his knowledge alone should belong to the Bank. The decision to discontinue the investigation was also taken by the collective employees of the Bank, and not only by the Senior Loan Officer. That such further investigation could have been easily carried out but not carried out is evidence of the absence of suspicion on the part of Bank staff. Finally, the decision by Bank officials to cut back on the Bank’s services came in response to the subprime finance crisis, coupled with concerns about “overfunding” that predated the first ICC-IMB report.

Thus, the trial court was entitled to conclude that the Bank’s employees did not know, suspect, or did not turn a blind eye to GHK’s fraud, and there was no reason to refute its findings of fact or conclusions from such facts. It was also clear that DBS was the victim of a GHK scam and there was no dishonesty on the part of the Bank.

In delivering its judgment, the Court of Appeal also referred to the following additional principles applicable to the case:

a) Purpose of contemporary documents and oral testimony: The Court of Appeal stressed that modern documents “speak for themselves” and are “the most important piece of evidence” in determining whether bank employees were dishonest or knew about GHK’s fraud. Factual conclusions and conclusions should be drawn on the basis of documentary evidence and known or probable facts. On the contrary, oral testimony should be primarily used to assess the credibility, personality, motivation and working methods of the witness.

b) Incompetence is not the same as dishonesty: The Court of Appeal confirmed that the level of dishonesty is higher than the level of negligence, and added that “the inability and even incompetence to see what others can reasonably or easily see is not dishonesty.”

c) Subsequent behavior can be used as evidence of bad faith: in determining the mental state of the offender, the court is not prohibited from examining the subsequent behavior of the offender to determine whether he has acted dishonestly, and that this is consistent with common sense. It was therefore acceptable for the trial court to take into account the relationship between the officers of the Bank and the GHK following the 2006 ICC-IMB report. In doing so, he found that their behavior was consistent with “a perfectly normal and genuine relationship between a bank and a large corporate borrower.”

Conclusion

This case is a timely reminder to banks regarding fraudulent account management. It is important for bankers to understand the potential legal obligations and risks that may arise when dealing with a fraudulent account. Bankers should also consider both external and internal correspondence, which plays a vital role in the outcome of a case and can either improve or jeopardize their position on controversial issues.

The content of this article is intended to provide general guidance on the subject. You should seek professional advice regarding your specific circumstances.

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