Supreme Court dismisses claim against distributor of Lehman notes
Author: Péter Gárdos
The defendant was the exclusive Hungarian distributor of structured notes issued by Lehman Brothers Treasury Co BV and guaranteed by Lehman Brothers Holding Inc. The claimant and the defendant concluded a commission agreement, on which basis the defendant acquired and transferred the notes to the claimant. After the issuers and the guarantor became insolvent, the client initiated a lawsuit against the defendant on various grounds, seeking full restitution (ie, repayment of the notes' face value and the fee paid to the defendant, plus interest).
The claimant based its claim primarily on Section 6 of the Capital Markets Act, which states that only securities in dematerialised form can be offered to the public in Hungary. The Lehman notes were not dematerialised within the meaning of the act, but they were issued in immobilised form, in accordance with the rules on new global notes. The difference between global notes and dematerialised notes is significant from a legal point of view, but technically they are two almost identical solutions to the problems of the paperwork crisis. In the case of global notes, the issuer issues one note which represents all notes issued in a given programme. It is deposited by an international central securities depository, which acts as common safekeeper. In the case of dematerialisation, no notes are issued; rather, the notes are held on securities accounts through a chain of intermediaries.
The defendant maintained that Section 6 of the act does not apply to the secondary distribution of securities issued in a foreign country. This position is supported not only by the wording of the act itself, but also by the fundamental principle of the free movement of capital, as enshrined in Article 63 of the Treaty on the Functioning of the European Union. The purpose of the EU Prospectus Directive (2003/71/EC) is to facilitate the widest possible access to investment capital on an EU-wide basis by granting a single passport to the issuer. The single passport ensures that where a security is offered to the public in one or more member states, or in a member state other than the home member state, the prospectus approved by the home member state is valid for the public offer in any host member state, provided that the competent authority of each host member state is notified.
The Supreme Court agreed with the defendant's interpretation and stated that Section 6 of the act does not apply to a secondary distribution. If a security is issued in a member state of the European Union, and if the prospectus is approved by the home member state, the security can be freely distributed in Hungary if the Hungarian Financial Supervisory Authority is informed in accordance with the directive.
The claimant's petition was also based on the alleged invalidity of the contract because of the deception committed by the defendant. The claimant stated that the defendant had wilfully withheld information about the issuer's and the guarantor's financial situation in order to induce the claimant to conclude the commission contract. The defendant's position was that the duty to inform is split between the issuer and the distributor. The distributor is required to inform the client of the most significant terms of the note, including the risks associated with investing in the note, but the issuer is required to supply information about the issuer and the guarantor's financial position. This mandatory element of any prospectus had been included in the prospectus prepared by the issuer, and which the defendant had properly advised the claimant to study.
The court held that the defendant had not deceived the claimant. The claimant failed to prove that any of the summaries provided by the defendant had contained false information about the note, the investment or the financial position of the issuer or the guarantor. Furthermore, the claimant could not prove that the defendant had been aware of Lehman's poor financial position when the commission contract was concluded.
The defendant argued that neither claim should be allowed, as full restitution is impossible in the case of a commission contract that has already been performed by the parties. Restoration to the parties' original condition is possible only for contracts concluded purely for the transfer of ownership. In all other cases, if the contract is invalid, the court should treat the contract as if it were valid until the date of the court's judgment. In this case, if any performance had been left without counter-performance, it was for the court to order payment for such services. However, in the case of a commission contract performed by both parties, such a claim would be unfounded, as the claimant had paid the fees and the defendant had transferred the notes to the claimant in accordance with the contract. The court accepted the defence and stated that both petitions should be dismissed, primarily on this basis.