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The Supreme Court of the Russian Federation will consider the claim of minority shareholders for damages from "smearing" during the reorganization of a credit institution

On 29 November 2016, the Supreme Court of the Russian Federation will consider case number A40-51672/2015, which was the first time that minority shareholders managed to recover damages resulting from "smearing" during the reorganization of shares of a bank. The appeals process overturned the decision of the Arbitration Court of the City of Moscow, which had awarded the damages.

Shareholders of Timer Bank PJSC (hereinafter the defendant or the Bank), Hermes LLC, and Flagman OOO (hereinafter the plaintiffs or shareholders) applied to the Moscow Arbitration Court with a lawsuit for the recovery losses resulting from "smearing" during the rehabilitation of the authorized capital of the Bank. The "smearing" resulted from the decision of the Central Bank to reduce the authorized capital of the rehabilitated bank to RUB 1.

The trial court agreed with the arguments of the plaintiffs and allowed them to recover damages. It found that the losses resulted from the purchases, based on misleading and distorted financial statements of the Bank, and mismanagement of the Bank.

The Ninth Arbitration Court of Appeal overturned the decision of the court of first instance. The court of appeal concluded that there was no causal connection between the actions of the Bank and the decrease in the value of the plaintiffs’ shares since the decrease resulted from the Bank of Russia’s decision to reduce the authorized capital of Timer Bank to RUB 1. At the same time, a legal ban made the participation of shareholders in additional shares of the Bank impossible.

The appeal also stated that, in the matter of the Bank’s obligations to its shareholders, the court of first instance had applied the Civil Code improperly.

The Moscow District Arbitration Court disagreed with the findings of the court of appeal and upheld the decision of the Arbitration Court of Moscow.

The court of cassation stated that, in order to recover damages from the defendant, the plaintiffs had based their lawsuit on Article 15 of the Civil Code, and it found a causal link between the actions of the Bank and the injury to the plaintiffs, resulting from the decreased value of their shares. The court rejected the arguments about the corporate nature of the dispute.

The Arbitration Court of Moscow District said that, when buying shares of the Bank, the plaintiffs had used the Bank’s published financial statements and had concluded that the Bank was financially solvent and reliable. It maintained that the Bank’s shareholders were liable to cover the damages resulting from the Bank officials’ actions.

When making the decision, the Moscow District Arbitration Court noted that the position of the plaintiffs prevented them from influencing the Bank’s activities and from forming their own shareholder association.

Disagreeing with the decisions of the Arbitration Court of Moscow and siding with the court of cassation and the Bank of Russia, New Petrochemicals OOO (an investor that became involved after the reorganization) and the GC Deposit Insurance Agency appealed to the Supreme Court, based on the Article 42 of the Arbitration Procedure Code.

The applicants in the Supreme Court case believe that the rules for reimbursing creditors’ losses, resulting from the issuer’s failures or improper performance, and for resolving the contentious relationship between the issuer of shares and shareholders may not apply, in this instance, and that the rules for joint-stock companies should govern the court’s decision. Thus, the shareholders would not be liable for the obligations of the company or for losses associated with its activities.

The applicants also point out that, since the dispute is closely connected to the implementation of measures to prevent the credit institution’s bankruptcy, the courts did not resolve questions concerning the individuals involved in the case.

The applicants have applied to suspended enforcement of the judgment before the conclusion of the proceedings in the Supreme Court of the Russian Federation.

For the first time in the history of measures to prevent the bankruptcy of credit institutions, the appeal court sided with the shareholders to recover damages caused by the "blurring" of shares during the rehabilitation process, involving the issuance of additional shares.

It appears that the courts of first instance and appeals provided a very dubious assessment of the case and did not take into account the peculiarities of the legal measures associated with the bank’s rehabilitation.

The plaintiffs’ case is against the Bank, which is a corporate matter. In addition, current legislation does not provide shareholders the benefit of recovering damages from a company, so they would have to seek restitution from the management of the firm.

The position of the courts of first instance and cassation that provided for the recovery of damages, based on the lawful issue of additional shares that took place during the course of rehabilitation, is questionable.

In this regard, it is possible that the Supreme Court would agree with the position of the appellate court, whose arguments are more reasonable and logical. When overturning the decision of the Arbitration Court of Moscow, the appellate court took into account the corporate nature of the dispute and concluded that the plaintiffs may file claims for damages against individuals in the Bank’s governing bodies since the actions of these bodies and their constituent parties brought the Bank on the verge of bankruptcy.

Furthermore, the appellate court has taken the reasonable position that current legislation does not provide for the possibility of compensation for damage resulting from the "blurring" of shares in the charter capital of a credit institution. Compensation for damage to minority shareholders is contrary to the intent of reorganization since the participating in the additional issue of shares, created in the process of rehabilitation, may endanger the stability of the banking system and increase the risk of those investing in the banking sector.