London law firm Fladgate is being sued over its alleged role in a multimillion-pound business fraud. The case is due to come before the High Court in March and has been brought by the directors of former quoted dotcom company Izodia.
Izodia was defrauded of more than £34 million by Dr Gerald Smith, former head of Orb Estates, in 2002. Smith was caught and sentenced to eight years in prison in 2006 following an investigation by the Serious Fraud Office, but most of the money has never been recovered.
Smith is a doctor-turned-financier who pleaded guilty to ten charges of theft and one of false accounting. The court heard that Smith used the money to buy a yacht and pay off interest on business loans. In 2002 Smith, as director of Orb, acquired a stake in Izodia and proposed turning the software firm into a property vehicle. Later it emerged that Izodia’s single major asset, a cash pile of £34 million, was missing and had been transferred to companies controlled by Smith.
Izodia has already sued Royal Bank of Scotland International over its unwitting role in the fraud, whereby around £27 million was transferred from Izodia to a Jersey bank account and from there to a Smith company called Lynch Talbot. Izodia claimed that RBSI had breached the duty of care owed to it and in 2007 RBSI agreed to pay Izodia £24 million in compensation after the Jersey Royal Court found the bank liable for the money transferred to Lynch Talbot.
The matter did not rest there. Having won a claim against RBSI, Izodia launched a claim against Fladgate – then known as Fladgate Fielder – for £8 million, alleging ‘dishonest assistance’ by the law firm to Smith in defrauding Izodia. The claim also alleges that Fladgate breached its duty of care to Izodia.
The claim alleges that Fladgate acted as solicitor to both Smith and Izodia at the time the fraud took place, although the law firm in its defence says it never worked on a general retainer for Izodia but acted on several different, discrete projects.
The £8 million sought by Izodia is in compensation for a second tranche of money stolen by Smith from Izodia just months after he stole the first £27 million. In response, Fladgate says the claim of dishonesty has no foundation and its solicitors were ‘unwittingly caught up in Dr Smith’s fraudulent schemes’.
The defence document also argues that Izodia’s claim has been developed with the benefit of hindsight, but at the time, its solicitors had ‘no sufficient basis’ for believing that Smith was defrauding Izodia.
The claim against Fladgate has been instigated by two directors who joined Izodia in 2003 after the fraud took place. They are Christopher Mills, who runs London-based fund management company JO Hambro Capital Management, and Rory MacNamara, who spent most of his career in investment banking and who was instrumental in floating Izodia on the London stock market during his time at Lehman Brothers.
The pair say they are pursuing legal action on behalf of the 8,000 Izodia shareholders whose money was stolen. Although Izodia was a quoted dotcom that had failed, Smith was able to steal most of what remained of the company’s cash pile. No one at Fladgate, which is based in London’s West End and has around 45 partners, was available for comment.
Mills has previous experience of suing law firms. His JO Hambro Capital Management holds a controlling stake in Hampton Trust, a property company. In 2008 he sued former incarnations of the law firm DLA Piper, namely DLA LLP, DLA, Dibb Lupton Alsop and Alsop Wilkinson, alleging that between 1996 and 2004 it knowingly helped directors take shareholders’ money out of the Hampton Trust and also gave negligent advice that cost the Hampton Trust millions.
The case was settled; in its year-end accounts for 2008, Hampton Trust records that it received £8 million as a result of a claim ‘against one of its former advisors’. Izodia’s claim against Fladgate describes how it advised Smith’s Orb group of companies during the period that he sought to take and retain control over Izodia in 2002.
It alleges that the law firm had a conflict of interest because it also acted as solicitor to Izodia during the time that the thefts took place. ‘Fladgate breached its fiduciary duty and duty of care to Izodia by... placing itself in a position where its fiduciary duty to Izodia conflicted with its interest in and perceived duty to Smith, the Orb Nominees and the Orb Entities,’ it says.
The claim also alleges that a Fladgate partner, Nicolas Greenstone, dishonestly assisted Smith in the first stage of the fraud by signing a forged and fraudulent minute of an Izodia board meeting, authorising the opening of an RBSI account in Jersey. Smith later transferred Izodia money from this account to one of his own companies. The claim says Greenstone delivered this minute to Smith despite having ‘solid grounds’ to suspect that Smith wanted access to Izodia’s cash.
The claim also says that Fladgate had worked with Smith for several years by this point and ‘must have known’ about Smith’s previous conviction and two-year prison sentence in 1993 for fraudulently misappropriating £2 million from the pension fund of a company called Farr, of which he was then chief executive. It is understood that Greenstone is no longer at Fladgate. He was reprimanded by the Solicitors Regulatory Authority in 2008 for professional misconduct for signing the minute.
The claim also argues that Fladgate failed to raise the alarm once it became apparent that the £24 million had been transferred out of Izodia’s Jersey bank account to a Smith company, Lynch Talbot.
In particular, the claim says Fladgate, which is alleged to have been acting as company secretary to Izodia by then, should have advised Izodia that there was ‘strong evidence’ that Smith or other Orb directors had misappropriated £24 million of Izodia’s money and committed forgeries to cover this up. It should also have alerted the police, the stock exchange and the Department for Trade and Industry. Immediate steps should also have been taken to ensure that Izodia’s remaining assets were safeguarded from Smith and/or Orb directors, the claim says.
The claim goes on to say that Fladgate’s failure to take any of these actions, combined with its conflict of interest in acting as company secretary to Izodia and adviser to Orb, allowed Smith to steal a further £7.8 million from Izodia. This theft occurred in seven tranches during October and November 2002 and the money was dissipated through various Orb companies.
Fladgate’s defence wholly rejects Izodia’s allegations. ‘The claimants’ central premise is that the defendants should have realised that Dr Gerald Smith was acting dishonestly,’ it says. However, ‘[Fladgate] were not alone in failing, like many others at the time, to detect Dr Smith’s fraud.’
The defence argues that Izodia has already given up its right to seek compensation from Fladgate or any other parties connected with the fraudulent transfer of Izodia’s £24 million to Lynch Talbot, under the terms of the settlement made with RBSI in 2007. It warns that Fladgate may seek to enforce this clause, before going on to refute each of Izodia’s allegations.
The defence admits that Fladgate’s lawyers knew of Smith’s previous conviction and imprisonment for the Farr theft, but they had been told that Smith was trying to keep the company trading and had not benefited personally. It adds, ‘Dr Smith appeared to have reformed his ways and had been accepted by the City as a man with whom it could do business.’
It denies that Fladgate was ever on a ‘general retainer’ to Izodia, but says it acted for the company on six separate matters. It denies that its duties to Orb were ever in conflict with its duties to Izodia, nor did it have any personal interest in Smith’s transactions.
When RBSI alleged that the transfer of money out of its account to Talbot Lynch had been improper, Fladgate urged Izodia to seek independent legal advice. In addition, the defence argues there is nothing unusual or inherently improper about Orb’s desire to acquire a shell company such as Izodia with the aim of using the cash reserves to invest in other businesses, subject to shareholders’ approval. On the issue of the forged minute of a board meeting signed by Fladgate’s Nicolas Greenstone, the defence invokes the judgment of the Jersey Royal Court in Izodia’s claim against RBSI in 2007, which found that the board ratified the opening of the Jersey bank account and the transfer of £27 million to it a day later.
The defence goes on to point out that it was a Fladgate lawyer who, while working on documents related to re-listing the company from the main stock market to the Alternative Investment Market, advised Izodia to retrieve the money from the RBSI account, as Orb, by then the major shareholder in Izodia, held an account at the same bank. “[He] did not believe and had no grounds for believing that any impropriety had occurred; this was a question of appearance,” the defence says.
Fladgate denies ever knowing more about Izodia’s funds than the chairman of the board of Izodia directors at the time, Sir Anthony Joliffe. In addition, Fladgate would have needed ‘very strong and clear evidence’ of wrongdoing to have reported the activities of its client, Orb, to a third party, the defence says, evidence which it did not have. Even if it had raised the alarm, Fladgate argues this would not have prevented the subsequent theft of a further £7.8 million, which occurred after Joliffe and others had already gone to the Serious Fraud Office on or after 4 October 2002.
The defence concludes that Izodia failed to take reasonable care of its own interests. It says Joliffe did not inform Fladgate that Smith had admitted to him on 3 October 2002 that he had taken Izodia’s money from the Jersey account, nor that Smith had attempted to bribe Joliffe into assuring the company’s financial advisers that the cash was safe.
‘Had Fladgate been so informed, they would not have continued to act for Izodia or Dr Smith/Orb and would have supported Sir Anthony Joliffe in his report to the SFO,’ the defence says, adding, ‘It is denied that this would have prevented further thefts by Dr Smith.’
These are strongly contrasting versions of events and in a few weeks the High Court will have to decide which is the more credible. The risk for Izodia is that if the claim fails, yet more of shareholders’ money will be lost, on both its own legal bills and those of the defendants. Should the claim succeed, Fladgate risks a large payout in damages and legal costs, plus damage to its reputation.
Timeline:
2002: Gerald Smith defrauds Izodia of £34 million after his Orb group becomes a large shareholder
2003: Christopher Mills and Rory MacNamara become directors of Izodia
2006: Smith imprisoned for the thefts from Izodia following an SFO investigation
2007: Following court action by Izodia, Royal Bank of Scotland International agrees to pay £24 million compensation over its role in the transfer of cash to Smith
2008: Izodia launches High Court claim against Fladgate and its secretarial services company Walgate over its alleged role in the defrauding of Izodia March
2010: Trial due to begin