Sentry Boxes Back

Who goes where?

Originally published in the December 2012/January 2013 issue

The Court of Appeal of the Virgin Islands in its decision of 13 June 2012 confirmed Mr Justice Bannister’s judgment handed down on 16 September 2011 in the matter of Fairfield Sentry Limited (in liquidation) in which Sentry’s clawback claim was defeated.

As a result of the Court’s failure to have sufficient regard to relevant procedural and substantive matters, which are discussed further in this article, the strength of the authority of the Court’s decision is uncertain. It is therefore advisable that investors in hedge funds consider expressly to exclude or to limit a claim for unjust enrichment by revisiting, or where appropriate, seeking to incorporate appropriate clauses into their contractual arrangements of investments until the issues dealt with in this case are revisited by another court in another case or by the Privy Council, the ultimate court of appeal for the British Virgin Islands, if this matter falls for its consideration, as seems likely to be the case.

The facts and issues at the centre of the Sentry saga are well known; hence there is no need for elaborating them save for a brief introductory paragraph in order to highlight the relevant issues, which are at the centre of this article. In short, Sentry had invested its funds with Bemard Madoff Investment Securities LLC who, unknown to Sentry and its shareholders, had been running a Ponzi scheme. Madoff’s company and thereafter Sentry went into liquidation when Madoff’s criminal activities were uncovered. Before the Ponzi scheme became public, a group of Sentry’s shareholders (the defendants) had redeemed their shares in Sentry for a sum of US$135,405,694.70. There was no allegation of anything illegal or notice of illegality on the part of the defendants. Sentry argued that in redeeming the shares, their price1 was calculated under a mistake of fact since Madoff was in fact operating a Ponzi scheme and Sentry’s investments in Madoff’s company were lost from the beginning. Accordingly, Sentry’s net asset value was at all times nil, so that the redemption sums should have also been nil. Sentry therefore contended, inter alia, that the defendants had been unjustly enriched at its expense and were liable to make restitution to the company of the sum of US$135,405,694.70 paid to them when the shares were redeemed. The defendants contended that in surrendering their shares they gave good consideration for the payment of the redemption price and as such this was a complete defence to Sentry’s claim.

Pursuant to a summary judgment application made by one of the defendants, Justice Bannister found in favour of the defendants. Sentry appealed against Justice Bannister’s finding in respect of the good consideration defence but the Court of Appeal dismissed the appeal. The Court acknowledged that Sentry’s clawback claim was sound in principle in that a claimant may be entitled to restitution if he can show that a defendant was unjustly enriched at the claimant’s expense. However, the Court also held that such a claim may be excluded where a claimant is contractually required to pay in particular the sum by which a defendant is claimed to have been unjustly enriched. On its face, this decision appears sound, but this article contends that it has only scratched the surface of what is a complex legal matter. In fact, as one digs even only slightly beneath the surface, this exercise reveals a number of problems with the finding of the Court in respect of the good consideration defence.

First, as a matter of procedure, the Court’s reliance on Lord Scott’s judgment in Deutsche Morgan Grenfell2 fails surprisingly to take into consideration that Lord Scott was a dissenting voice on the restitutionary issue in that case. This means that the House of Lords’ decision in Deutsche Morgan Grenfell should not be relied on, as the Court purported to do, to dismiss the appeal against Justice Bannister’s finding in respect of the good consideration defence because Deutsche Morgan Grenfell is actually authority for the opposite principle rather than the principle enunciated by Lord Scott in his dissenting position. Secondly, as a matter of substance and relevant to this article, the Court seems to have overlooked the fact that the defendants’ defence did not provide an absolute shield against a restitutionary claim. The purpose of this article is to scrutinise this particular aspect of the judgment. This article first explores the grounds for a claim based on unjust enrichment, particularly in respect of benefits transferred under a contract. It will then consider the underlying rationale of the defence upon which the defendants relied and, finally, whether the Court correctly applied it in dismissing the appeal brought by Sentry.

Unjust enrichment in respect of benefits transferred under a contract
Understanding a claim based on unjust enrichment
The law of unjust enrichment is a creature of the common law developed only during the course of last century even though decisions dealing with the subject matter can be traced back to many centuries ago.3 By contrast, in the countries of civil law jurisdictions, grounds for claims based on unjust enrichment can be traced back many centuries in their civil codes, which were inspired by similar provisions which can themselves be traced back to the ius civile of the Roman law.4 This article is not the place to delve into the reasons for this stark contrast in evolution. It suffices to state that the relative novelty of the law of unjust enrichment in the common law system perhaps helps to explain the reasons why many common law lawyers neglect it or misunderstand its implications.5

In its simplest form, a claim based on unjust enrichment seeks that a person who has been unjustly enriched at the expense of another be required to make restitution to the other. By analogy, a claim based in tort seeks that a person who has committed a wrong to another be required to pay compensation to the other. The late Professor Birks explained, with characteristic simplicity, that within the realm of the laws of obligations, entitlements to, for instance, compensation or restitution, arise from contracts, torts, unjust enrichment and other miscellaneous events. In his own words, unjust enrichment, similarly to a contractual breach or tortious event, is one more example of events which may trigger a legal response: in the case of unjust enrichment, the entitlement to restitution; in the case of a contractual breach or tortious event the entitlement to compensation.6

A fortiori it follows that a claim based on unjust enrichment belongs to a category of claim that is different from a contractual breach or tortious event. This does not mean that there may not be circumstances where, for instance, a claim based on a tortious event may be limited or excluded where the victim had previously provided consent for such an event to take place, e.g., a patient being operated on by a surgeon. Similarly, a claim based on unjust enrichment may be limited or excluded by the terms of a contract between the parties.7 In both cases, the rationale, for which consent serves as a shield, derives from a policy choice – a choice that is made by the judiciary in some cases or by the legislature in other cases. The defendants’ defence against Sentry’s clawback claim relies on a judiciary’s policy choice which states that where a contract has been discharged by performance, there is generally no remedy in unjust enrichment in respect of benefits transferred under that contract.8 However, as Goff & Jones state, it would be incorrect to assume that because there is a contract in place that has been discharged by performance, there is never room for a claim based on unjust enrichment.9 The defendants’ good consideration defence accepted by the Court seems to rely on such an assumption. It is therefore necessary to examine the rationale of the defence.

The underlying rationale of the defence
The rationale of the defendants’ defence is that where a claimant, who has performed and received his benefit as agreed under a contract, attempts to bring a claim based on unjust enrichment, this claimant should be barred because allowing him to proceed with such a claim would enable him to obtain a benefit different from the value to which he was contractually entitled.10 This means that a claimant, who has obtained what he had bargained for, should not be allowed to use the law of unjust enrichment to obtain an uncovenanted bonus. The authority for this is the English case of The Olanda.11 This case involved a contract for the supply of wheat and linseed. The cargo should have contained no more than 50% of linseed. The contractual price agreed for the linseed component was 33s per ton. The claimant delivered a cargo that in fact contained in excess of 50% of linseed. The defendant accepted the cargo and paid for the excess linseed at the contractual price agreed per ton. The claimant brought a claim based on unjust enrichment in order to recover the benefit conferred to the defendant in relation to the linseed delivered in excess of the contractual obligation, i.e., calculating the value of linseed seeds delivered in excess at the prevailing market rate, which was significantly higher than the one contractually agreed. The House of Lords unanimously rejected the claim holding that the contract stipulated a specific rate of 33s per ton, rather than a market rate;12 the contract had therefore been discharged by performance according to the contractually stipulated intentions of the parties.

In a more recent application of this principle, in the English case of Taylor v Motability Finance Ltd13, Mr Taylor, who was the finance director of Motability, was dismissed. He brought a claim, inter alia, for unjust enrichment alleging that he had delivered services to Motability beyond the parties’ contractual expectations by securing a rather beneficial settlement of an insurance claim, which benefited Motability in excess of £80 million. Taylor claimed 0.5% of this figure alleging that this value represented his service to Motability delivered beyond his contractual duties. The court rejected summarily this part of the claim holding that “in the context of contract and restitution, it is clear that the parties, in agreeing a contract, intend that to apply and there is no room for restitution at all where there is full contractual performance”.14

Goff & Jones highlight that these cases are authority for a narrow principle that where the parties have made their own calculation of risk and valuations in order to enter into a contractual relationship whose result is reflected in the price contractually agreed, the law of unjust enrichment should not be used to subvert this calculation after the contract has been discharged (the Principle).15 In Taylor, the employee took the risk of performing his duties based on a financial value agreed in his contract (specific salary and the bonus scheme), just as the claimant agreed in The Olanda to deliver linseed at the contractually specified rate of 33s per ton. In bothcases, the price contractually agreed may for instance fall below the market rate for those types of transacted benefits at the time of performance, yet the law on the matter is that a claim based on unjust enrichment is inappropriate because the parties’ calculation of risk and valuation would be subverted if such a claim were allowed. This brings us back to Sentry. The question that must be answered is whether the Court was right or not in applying the Principle, properly understood.

The application of the Principle
The price for the redemption of the shares
In The Olanda, the House of Lords held that the claimant might have had a case if the circumstances had given rise to a contract to pay at the market rate of freight, but such was not the case.16 Conversely, both parties had intended that the linseed should be carried under the charter party, and the charter party provided that linseed should be carried at the contractually agreed rate of 33s per ton.17 It is necessary therefore to assess whether the circumstances in Sentry had given rise to a contract to pay for shares submitted for redemption at the market rate or at a contractually agreed rate. In this respect, the Court shed some light:

“For the shareholder it may be said firstly to subscribe for the shares by payment of the subscription price based on the NAV. Sentry’s obligation on receipt of the subscription price was to issue to the subscriber, the shares for which payment was made. […] The next stage contemplated by the contract was the redemption of the shares. To trigger this process, the shareholder submits a redemption request. On receipt of the redemption request, Sentry’s obligation to redeem the shares and pay the redemption price based on the NAV as determined, (not by the redeeming shareholder but by Sentry) was activated.”18

But what was the NAV? And by whom was it to be determined? Article 11 of the Articles of Association makes provision for the determination of the NAV and provides:

“11(1) The Net Asset Value per Share of each class shall be determined by the Directors as at the close of business on each Valuation Day …[and]

… shall be calculated at the time of each determination by dividing the value of the net assets of the Fund by the number of Shares then in issue or deemed to be in issue and by adjusting for each class of Shares such resultant number to take into account any dividends …

… Any certificate as to the Net Asset Value per Share or as to the Subscription Price or Redemption Price therefore given in good faith or on behalf of the Directors shall be binding on all parties.” (emphasis added).

A couple of relevant points can be drawn from these passages. First, the defendants took the risk that the price of the shares (i.e., NAV) will be determined by the directors of Sentry. Secondly, the defendants accepted the risk that the directors would make this determination according to the market fluctuation of the value of the fund. A fortiori, the price of the shares in Sentry is therefore not equivalent to the specific rate of the linseed in The Olanda nor the specific salary agreed in Taylor. Article 11 of the Articles of Association provides for a different kind of price; one that is neither specific nor ascertained in the contract, but whose determination is made by one of the parties (in this case, Sentry). It is therefore clear that the circumstances in Sentry have given rise to a contract to pay at the market rate and it is not the case of a contract with a contractually agreed rate. In such a situation, the Principle seems no longer to be applicable. Whereas in cases in which the unjust enrichment claim was not allowed, this was on grounds that the law should not permit a party to avoid the burden of allocation of risk and valuations agreed in the contract, in Sentry the contractual price for the redemption of the shares could vary from nil to millions of pounds sterling by effect of the NAV. In such circumstances, a successful claim based on unjust enrichment could not possibly change or undermine ex post any valuation of the shares that the parties could have freely agreed ex ante because none had been agreed. The rationale for preventing a claim based on unjust enrichment by relying on the Principle is weakened or even arguably eliminated altogether.19

Mistaken calculation of the price
The problem with circumstances such as those that arose in Sentry is the tendency to approach them from a contract law perspective. It is therefore not surprising to find it argued that where a defendant raised a defence based on good consideration, it is required that the claimant show actual lack of consideration in order for the defendant’s defence to fail.20 From a contract law perspective, the Principle would prevent Sentry from using the law of unjust enrichment to claim back what it had been contractually obliged to pay in circumstances in which the defendants showed that Sentry obtained what it had bargained for. This was indeed what the Court concluded. This is sound policy save for the fact that the defence’s rationale is not linked to a finding of lack of consideration in the contractual sense of the term, whose absence would indeed preclude the formation of a contract ab initio. In Sentry, there is a valid contract. The good consideration defence against a claim based on unjust enrichment therefore refers to something else. Birks explains that it refers to a failure of the basis of a transfer or reciprocation.21 Palmer explained that it refers to the “effect of the mistake on the economic equivalence of the agreed exchange”.22 In situations where the parties understand and consciously agree a particular allocation of risk and valuation as part of their agreed exchange, (e.g., The Olanda), the defence should protect the defendant and the transaction should stand because the enforcement of contractual obligations does not depend upon their being equivalent.23 However, in situations where a valuation or allocation of risk has not been contractually agreed, but is left to be ascertained a posteriori, the effect of a mistake in this determination is that it may actually place the contractual obligations beyond the parties’ intentions as expressed in or implied from the contract.

In Sentry, the mistake alleged in the claim refers to the price of the shares. The directors could not fix the price at whatever level they chose; the price was to be determined by applying a formula contractually agreed and by reference to the value of the assets of the fund (the price indeed was the quotient between the value of the net assets of the fund and the number of shares in issue or deemed to be in issue at the time of the redemption). In these circumstances, a mistake that affects the price of the shares could have been a mistake as to their value because of a mistaken application of the formula in which case restitution should have been allowed (i.e., type one mistake with which we are not concerned in Sentry’s case).24 But a mistake may also affect the facts used in determining the value of the assets (i.e., type two mistake which is at the centre of Sentry’s saga). This mistake would inevitably also affect the price particularly where the price of the shares is not determined by the mere opinion of the buyer willing to buy them notwithstanding their price but it is determined by reference to external elements (i.e., the value of the assets of the fund) upon which the price is determined.25 Garrett v Halsey,26 a New York case, illustrates this point. The claimant brought a claim to rescind the contract for the transfer of shares when it transpired that the defendant provided a mistaken statement of the financial condition of the company to the claimant upon which the offer for the purchase of at least 65% of the shares of the company by the claimant relied. Shortly after the shares had been delivered and paid for, it was discovered that the statement was in fact wrong in almost every respect; the company was worthless. The court held that the claimant was entitled to rescission of the contract because the defendant acted in good faith, but in mistake and ignorance of the real facts. The evidence showed that the claimant relied upon the statement absolutely and would not have made the purchase had he been aware of the true financial state of the company. As a consequence, the court concluded that the mistake and ignorance of fact disappointed the intention of the parties.27

It follows from Garrett v Halsey that where the net value of the company is ascertained by the seller on mistaken facts due to ignorance of the real facts, whoever buys the company relying absolutely on the seller determination may have an equitable claim to restitution.28 As a matter of law, in a claim based on unjust enrichment, if the buyer proves that he was mistaken and that, but for the mistake, he would not have made the payment, in principle, he is entitled to restitution.29 Furthermore, it is irrelevant whether the mistake could only be detected subsequently and not at the time of payment. In this respect, a majority of the House of Lords has held that he who pays on the basis of what later are proved to be incorrect facts, has made a mistake even though the proof of the mistake was only possible after the payment.30

In light of Garrett v Halsey, Sentry’s claim that the NAV was at all times nil, because unknown to Sentry its investments had been effected in a Ponzi scheme, recovers some substance. Sentry’s claim aimed to challenge its own determination of the price of the shares (i.e., type two mistake).31 In fact, Sentry argued that the NAV, at the time when the defendants redeemed their shares, was determined based on a mistaken valuation of the fund due to their ignorance of the real facts and evidence related to Madoff’s criminal activities. The defendants could contend that the key factual issue remains the market value on which basis the assets of Sentry would have been sold on the day of the redemption. They argued that, as a matter of fact, Sentry could have sold its assets at the value it used to calculate the price it paid to redeem the shares and that ignorance of the real facts and evidence related to Madoff’s criminal activities could not provide grounds to allege mistake. This may be the case in circumstances where the price of the shares is determined by the mere opinion of a buyer willing to buy and a seller willing to sell notwithstanding their price, e.g., pepper corn. But in Sentry, determination of the price of the shares does not rely on anybody’s opinion, but it is determined by reference to an external element, i.e., the value of the assets of the fund, upon which the buyer absolutely relies.

Consequently, in circumstances similar to Garrett v Halsey, the notion that the value of the net assets of Sentry’s fund is what the market would have paid for them seems irrelevant if that value was based on mistaken facts and it was this mistaken valuation that was the one used by the directors to ascertain the price of the shares at the time when they were offered for subscription. Neither is it relevant that they were ignorant of the true facts: a mistake even though proof of it was only possible subsequently is still ground for a claim based on unjust enrichment.32 Therefore, investors subscribing shares in Sentry relying absolutely on Sentry’s mistaken determination of the NAV due to total ignorance of the Ponzi scheme would have also had an equitable claim to restitution of their subscription money. A fortiori, as a matter of law, where the same mistake affects the redemption of the shares, this ought to provide grounds for an equitable claim in restitution. In Sentry, similarly to Garrett v Halsey, mistake and ignorance of facts led to a frustration of the mutual intention of the parties; the shares would have been neither bought nor redeemed, if true value of the fund had been known. Most importantly, the fact that this was not known and could not have been known by Sentry or the defendants, at the time of subscription or redemption, is not an obstacle to the success of a claim based on unjust enrichment.

The principle upon which Sentry’s claim was based is very simple: money paid under a mistake is prima facie recoverable because its receipt by the defendants led to their unjust enrichment. Sentry calculated that the defendants were entitled to US$135,405,694.70 when they were in fact entitled to nil. This was an honest mistake; indeed a mistake that affects the price beyond the consideration exchanged by the parties as part of their contractual arrangements. Sentry mistakenly relied on grossly false facts, unknown to the world, but false nevertheless, to determine the value that it offered for the shares. This in turn affected the price of the shares. In principle, Sentry established the grounds for a claim based on unjust enrichment.

The law of unjust enrichment does not leave payees totally unprotected. For instance, in a situation in which a claimant paid money to a defendant in order to discharge a contractual obligation, a claim based on unjust enrichment could be met by the defence that the defendant’s enrichment was justified in principle by the legal right that he had to receive such payment. This is what the defendants purported to achieve under the name of good consideration defence. In fact the trial court and the Court of Appeal agreed with them without realising that this defence may not be applicable to the facts of the case.

This does not mean that Sentry is inevitably entitled to restitution. There are other elements in a claim based on unjust enrichment that need to be looked at carefully. For instance, the defendants may be entitled to rely on the change of position defence. Alternatively, a claimant who seeks restitution must make counter-restitution of benefits received from the defendant at the court’s satisfaction and, if the court is not satisfied of the feasibility of such counter-restitution, Sentry’s claim ought to fail. Furthermore, in the particular circumstances of Sentry, it may be that the defendants may also have a counterclaim based on an unjust enrichment of Sentry by receiving the defendants’ subscription money (and the right to set it off against Sentry’s claim) based on Sentry’s claim that the value of the assets of the fund was at all times (which would include the time of the subscription) nil.

The Court appears to have rushed into adopting the defendants’ good consideration defence without delving beneath the surface of this complex legal area. It may be that the Court’s decision was understandably dictated by considerations of policy given the particular characteristics of this kind of transaction in the financial market and the perceived chaos in the investment world unleashed by a contrary decision. But the fact remains that the Principle, properly applied, seems ineluctably to lead to the conclusion that on the facts in Sentry, the defendants may not in fact have had available such a defence. The law in this complex area would benefit from revisitation by another court in another case or by the Privy Council, the ultimate court of appeal for the British Virgin Islands, if this matter falls for its consideration, as seems likely to be the case.


1. Article 11 of the Articles of Association of Sentry stipulates that the price at which the shares were to be redeemed was to be calculated by reference to Sentry’s net asset value.
2. Deutsche Morgan Grenfell plc v Inland Revenue Commissioners and another [2007] 1 AC 558.
3. For the history and evolution of the law of unjust enrichment see R Goff & GH Jones ‘The Law of Unjust Enrichment’ 8th edn (London: Sweet & Maxwell, 2011) part 1.
4. P Birks, “Annual Miegunyah Lecture: Equity, Conscience, and Unjust Enrichment” (1999), 23 Melb U L Rev 1, 2-4.
5. id at 1-2.
6. id at 4-6.
7. Similarly where claims on different heads may actually overlap regardless of the different categories to which each belongs. For instance, a party to a contract may sue, in the alternative, the other party in tort where all elements for a tortious claim are met or a claim based on unjust enrichment may be permitted even where a claim for a subsisting contract is also available, provided that the unjust enrichment claim does not subvert the valid bargain.  See Goff & Jones (above n 3) 3-17.
8. id at 29-19.
9. id at 3-23 – 3-26.
10. id at 3-16.
11. Stoomvaart Maatschappij Nederlandsche Lloyd v General Mercantile Company Ltd (The Olanda) [1919] 2 KB 728.
12. id at 729.
13. Taylor v Motability Finance Ltd [2004] EWHC 2619 (Comm)
14. id at [23].
15. Goff & Jones (above n 3) 3-12.
16. Stoomvaart Maatschappij Nederlandsche Lloyd (above n 11) 729.
17. ibid.
18. Fairfield Sentry Limited (in Liquidation) (in the Court of Appeal of the Eastern Caribbean Supreme Court Territory of the Virgin Islands) (judgment 13 June 2012) [78].
19. Goff & Jones (above n 3) 3-25 – 3-26.  See Easat Antennas Ltd v Racal Defence Electronic Ltd (Unreported) Ch D 21 June 2000. See also Roxborough v Rothmans of Pall Mall Australia [2001] HCA 68
20. P Birks, ‘No Consideration: Restitution after Void Contracts’ (1993), 23 Western Australia Law Review 195, 208-210.
21. id at 209.
22. GE Palmer, ‘Mistake and Unjust Enrichment’, (Columbus: Ohio State University Press 1962) 37.
23. Freedom of contract is such a fundamental principle of English contract law that in principle, one could sell a house for £1 or a cup of coffee for £1 million and both contracts could perfectly be valid and enforceable provided that the imbalance was understood and consciously agreed by the parties. ibid.
24. Smart v Valencia 50 Nev 359; 261 P 655 (1927) (Nevada, USA).
25. Palmer (above n 22) 49-50.
26. Garrett Co v Halsey 88 Misc. 438 (1902) (New York, USA).
27. id at 443.
28. Rescission was grounded on mutual mistake, but as Palmer explains it could have also rested on innocent misrepresentation. Palmer (above n 22) n 77 at 50.  Or, as Birks explains “one mistake is still a causative mistake”. Birks (above n 20) 229-230.  
29. Barclays Bank Ltd v W.J. Simms (Southern) Ltd [1980] QB 677, 695. This wide principle operates with some limits articulated in defences such as the one brought by the defendants in this case or the defence of change of position.  
30. Kleinwort Benson Ltd v Lincoln City Council et al (1998) 2 AC 349, 399 (per Lord Hoffmann) 409-412 (per Lord Hope). Professor Burrows, upon whose academic opinion, inter alios, the majority of the House of Lords relied on to give judgment for the banks in this case, explains that it does not matter that verification of facts may be complex, and indeed, at the time, impossible. The fact is that the payer would have had his will impaired by wrong data being fed into the decision making process even though this could only be identified subsequently, as opposed to at the time of the payment. A Burrows “The English Law of Restitution: A Ten-Years Review’ in  JW Neyers et al (eds), ‘Understanding Unjust Enrichment’, (Oxford: Hart Publishing 2004) 17.
31. See text after n 24.
32. Kleinwort Benson Ltd (above n 30) 411 and Burrows (above n 30) 17.