ENSafrica Uganda bring clarity to a recent court ruling that has shaken the country’s financial sector

  • A Kampala High Court declaration that cross-border lending is illegal if done without permission of the Bank of Uganda (BoU) (central bank) in October upset East Africa’s nascent syndicated loan market.  The 7th October ruling arose from a case filed by controversial Kampala businessman Ham Kiggundu and others against Diamond Trust Bank-DTB (U) Ltd and Diamond Trust Bank (K) Ltd, seeking among others “the recovery of monies unjustly and illegally obtained from the first applicant’s [Kiggundu’s] bank accounts and for various breaches of contractual, fiduciary and statutory duties”

    On 21st October, ENSafrica’s country head, Phillip Karugaba and partners Rachel Musoke and Rehema Nakirya Ssemyalo, gave investors much needed clarity in the first major interactive session that has been held since the landmark ruling. The panellists from ENSafrica were joined by Executive Director of the Bank Supervention Directorate of the Bank of Uganda, Dr. Tumubweine Twinemanzi. The event was hosted by Afriwise.

    ·     The ruling has rattled everyone in the banking and legal sector with some fearing the decision sets a bad precedent, as other such borrowers may take similar actions.

    ·      ENSafrica Uganda posit that the decision was wrong and that according to Ugandan law Diamond Trust Bank (U) was authorised to give loans to HAM enterprises and there was no basis for the judge finding the loans illegal

    ·      ENSafrica has expressed confidence that the body of legal opinion amongst banking practitioners is that the decision is wrong and therefore it will be repealed

    ·      A pre-hearing process has been fixed for 27th November 2020. Given the speed at which the appeal has been filed and scheduled, ENSafrica expect to see the matter resolved within 2021, particularly given the uncertainty it has created in the financial markets

    ·      It is hoped that the court of appeal will answer the questions as they relate to the Financial Institutions Act (FIA). This will be necessary to assure foreign lenders that it still safe to lend

    A borrower called Ham enterprises borrowed money from Diamond Trust Bank (K) in 2017. Diamond Trust Bank (K) then appointed its Ugandan subsidiary as an agent for collection. This was not a syndicated transaction but rather a Kenyan lender, Ugandan borrower, and a Ugandan agent appointed for collection. HAM defaulted on the loan and subsequently sued the lenders. Initially he sued in respect of monies he claimed were illegally taken off his account. The plaint was amended to then challenge the legality of the lending by Diamond Trust Bank (K) without a license from the Bank of Uganda.

    In his ruling the judge agreed with the contest on illegality and he found that Diamond Trust Bank (K) had no license from the Bank of Uganda and therefore the loans to HAM were illegal, void and unenforceable. The judge also found the appointment of Diamond Trust Bank (K) of an agent was illegal and ordered a recovery of all the money unlawfully taken from HAM’s account. These were debits made in respect of loan repayments amounting to around 34.2 billion Ugandan shillings and 42.5 million US dollars. The judge also ordered all money owed by HAM to both banks was deemed to have been settled and that all securities by HAM should be released.

    The written ruling was not available for a few days after the announcement on 7th October. This delay sent shockwaves across East Africa’s syndicated loan market, sparking speculation that syndicated loans had been invalidated and that all foreign lenders, whether or not they were banks, were required to be licensed in Uganda. There is still concern that the decision will have repercussions for the banking sector’s international lenders who may change their attitude towards Uganda.

    ENSafrica’s session helped to assuage some of the ongoing uncertainty in the industry and among stakeholders. The message was clear, once the written ruling had been assessed and read carefully, it was evident that a comprehensive appeal could be pulled together and that the judge’s ruling was erroneous.

    ENSafrica presented three clear points of contestation which they believe prove reasonable grounds for appeal.

    On licensing: The Financial Institutions Act (FIA) which is the law governing financial institutions in Uganda was amended in 2016 and the relevant definition of financial institutions business means the lending or extending of money held on deposit. When making loans under the FIA, it is in respect to money held on deposit and because of the nature of legislation not being extra-territorial, it would mean that the money must then be held on deposit in Uganda. Therefore, the FIA and by extension the central bank only regulates lending from monies held on deposit in Uganda and does not require licensing of foreign lenders to Uganda entities as it does not regulate monies that are pooled outside of Uganda.

    On the appointment of an agent: The judge cited the FIA and said under the regulations the approval of the Bank of Uganda is required for the appointment of an agent in jurisdictions where agency banking is well known (such as Kenya). An agent is the agent of a licensed financial institution and is appointed to assist the financial institution to reach its clientele and serve them – an agent is appointed by a licensed financial institution to reach the customer. These regulations do not envisage an appointment by somebody outside of the jurisdiction appointing someone local to perform one function – where in this case it was to collect the debt owed by HAM. These regulations were not intended to cover this scenario, the agent banking regulations have no application to this particular appointment leading industry experts to view the judge’s decision as incorrect. The use of the word “agent” in the letters from Diamond Trust Bank (K) to Diamond Trust Bank (U) was intended as ordinary parlance, not agent within the meaning of the agent banking regulations.

    On a foreign representative office: Under the financial services act, a foreign bank “may” apply to the central bank for permission to establish a representative office. The provision is in permissive terms as it says “may” seek permission to establish a representative office, once permission has been sought, the bank of Uganda may grant that permission. If granted it can restrict the kind of activities the entity engages in.  If an office is opened without central bank approval, that a penalty will be prescribed.  However, there is no penalty if you fail to establish an office as according to the provision the establishment of a representative office is not mandatory. A foreign lender can remain offshore and extend credit to Ugandan entities. Therefore, in controversion to the judge’s ruling, a foreign bank does not need a representative office in Uganda.

    The Central Bank Executive Director Dr. Tumubweine Twinemanzi gave listeners further reassurance: “Until the appeal is heard, no other orders made can be implemented which should give some re-assurance. As for the bank, the stay of execution gives comfort for now. If there is a need to make changes to the law, in terms of providing extra protection to foreign lenders, by all means the Bank of Uganda will do so. The Bank of Uganda remains committed to ensuring a resilient, sound and stable financial sector.”

    “We strongly believe that this ruling is going to be overturned and that another high court judge will decide differently.  At ENSafrica we are recommending that the industry continues with business as usual, there is no need to change any process or paperwork at this point. Fortunately, this decision is not a weakness in testimony – it is simply read and apply the correct law. There is really not much to contemplate here, so hopefully it will be speedily heard. If the court of appeal is not successful, there is the Supreme Court and I would expect that there would be as fast an appeal as possible.” Phillip Karugaba, Executive Head, ENSafrica (Uganda).

    ENSafrica is an Afriwise contributing firm in Uganda. Get in touch now to find out more about our legal solution and how we can assist your business in Africa.