SRM Global Master Fund Lp & Ors, R. (On the Applications of) v The Commissioners of Her Majesty's Treasury

This Divisional Court considered whether the statutory scheme for assessing compensation payable to former shareholders of Northern Rock following its nationalisation was compatible with Article 1 of the First Protocol to the European Convention on Human Rights (A1P1). The key legal issues were the statutory valuation assumptions (in particular section 5(4) of the Banking (Special Provisions) Act 2008 and paragraph 6 of the Northern Rock Compensation Scheme), the proper meaning of solvency in a banking context, the role and unpredictability of the Bank of England as lender of last resort, the existence (or otherwise) of any legitimate or reasonable expectation of continued public support, and whether alleged regulatory failures or the prospect of State profit rendered the scheme disproportionate.

The court held that the statutory assumptions were lawful and not manifestly without reasonable foundation. The valuation assumptions required the valuer to exclude value attributable to the extraordinary public support that kept Northern Rock operating, which the court treated as policy legitimately within the legislature's margin of appreciation. The Claimants’ arguments based on regulatory failure, legitimate expectation, subsequent treatment of other banks, or the prospect of a Treasury profit did not establish a breach of A1P1. The procedural machinery for independent valuation and review was adequate. Accordingly the judicial review claims were dismissed.

Background and parties: The claimants comprised two hedge funds (SRM and RAB) and representative small shareholders, who challenged the statutory regime under which compensation for the transfer of Northern Rock shares to the Treasury was to be assessed after nationalisation in February 2008. The Treasury (defendant) and Legal & General (interested party) were represented. The nationalisation followed extensive Bank of England liquidity support and Treasury guarantee measures during the 2007–2008 financial crisis.

Nature of the claim/application: The applicants sought judicial review on the grounds that the statutory compensation assumptions—requiring the valuer to assume that all extraordinary financial assistance by the Bank or the Treasury had been withdrawn and that Northern Rock was not a going concern (and was in administration)—were unfair and incompatible with A1P1.

Issues framed by the court:

• Whether the statutory assumptions produced an unfair deprivation incompatible with A1P1.
• Whether regulatory failure by Tripartite Authorities affected fairness of compensation.
• Whether shareholders had a legitimate or reasonable expectation of continued lender-of-last-resort assistance that should affect valuation.
• Whether the Treasury’s receipt of a reward or profit from support or nationalisation rendered the scheme disproportionate.
• Whether differences in the later treatment of other banks were relevant.
• Whether the valuation procedure complied with the procedural guarantees of A1P1.

Court's reasoning (concise): The court explained the special meaning of solvency in banking (balance-sheet solvency versus cash-flow/liquidity) and summarised the Bank of England's LOLR principles (including unpredictability of support, requirement to seek a clear exit and that support is aimed at system stability rather than protecting shareholders). The undisputed essential facts were that Northern Rock had a good-quality mortgage book and was balance-sheet solvent but cash-flow insolvent in September 2007; its continued operation depended on on-demand public support; no private replacement funding was available; and the support was provided on penal terms and was repayable on demand.

The court held that fairness for A1P1 purposes required valuation to reflect relevant facts and legal obligations of the State. Because continued trading depended on exceptional public support that the company had no enforceable right to, it was not unfair as a matter of law that the valuer be required to exclude value attributable to that support. The claimants’ arguments based on regulatory failure failed for multiple reasons: any regulatory loss to share value had largely crystallised by 13 September 2007; regulators owed duties to the system and depositors rather than to shareholders; and alleged failures could not, in the proceedings, demonstrate that absent such failures Northern Rock would have survived without public support. The claimants’ contentions of legitimate expectation of continued LOLR were rejected: there was no clear, unambiguous statement creating a binding expectation, the on-demand character of facilities and Lord George’s LOLR principles negatived any entitlement, and many claimants had bought shares after public statements making the valuation assumptions clear. The court accepted that a margin of appreciation applies to the legislature on economic measures and concluded the Compensation Scheme was not manifestly without reasonable foundation. Finally, the statutory procedure for appointment of an independent valuer and review was adequate for A1P1 purposes.

Procedural posture: First-instance Divisional Court judgment on judicial review; nationalisation itself was not challenged.

The claim is dismissed. The court held that the statutory valuation assumptions (in particular the assumptions in section 5(4) of the Banking (Special Provisions) Act 2008 and paragraph 6 of the Compensation Scheme) were lawful and not manifestly without reasonable foundation. The assumptions fairly reflected the factual and legal position that Northern Rock’s continued operation depended on extraordinary public support to which the company had no enforceable right. Allegations of regulatory failure, assertions of a legitimate or reasonable expectation of continued LOLR, and arguments based on prospective Treasury profit did not establish a breach of Article 1 of the First Protocol. The procedural arrangements for independent valuation were adequate.