Fatupaito v Montagu

[2019] NZHC 2333

IN THE HIGH COURT OF NEW ZEALAND CHRISTCHURCH REGISTRY

I TE KŌTI MATUA O AOTEAROA ŌTAUTAHI ROHE

CIV-2019-409-000358

[2019] NZHC 2333

UNDER

the Companies Act 1993

IN THE MATTER

of the liquidation of Monty’s Roofing Limited (in liquidation)

BETWEEN

VIVIAN JUDITH FATUPAITO

Plaintiff

AND

ELLWOOD JOHN MONTAGU

Defendant

Hearing:	Determined on the papers
Counsel:	C R Vinnell for Plaintiff
Judgment:	16 September 2019

JUDGMENT OF GENDALL J

This judgment was delivered by me on 16 September 2019 at 3:00 p.m. pursuant to Rule 11.5 of the High Court Rules.

Registrar/Deputy Registrar Date:     16 September 2019

FATUPAITO v MONTAGU [2019] NZHC 2333 [16 September 2019]

Introduction

[1]    The plaintiff seeks judgment by way of formal proof against Mr Ellwood Montagu who was the only formally appointed director of Montys Roofing Limited (in liquidation).

[2]    The proceedings were served on Mr Montagu on 9 July 2019 and he has taken no steps in response. In the absence of a statement of defence the plaintiff has filed affidavit evidence in support of her formal proof application together with a memorandum of counsel setting out the legal principles relied on.

Context

[3]    Montys Roofing Limited (in liquidation) (“Montys Roofing”) was incorporated on 15 June 2011. The defendant, Mr Montagu, was the sole director of the company from the date of incorporation through to its liquidation by this Court on 4 July 2018 as a result of proceedings brought by the Inland Revenue Department for unpaid income tax, PAYE and GST and other amounts.

[4]    From the date of incorporation Montys Roofing employed Mr Ellwood Montagu’s son, Brendon, and paid him wages.

[5]    It appears that Brendon was responsible for the management and day to day operation of the roofing business operated by Montys Roofing and exercised control over its management and finances at all material times. In addition to Brendon receiving wages as an employee, Brendon received drawings from Montys Roofing amounting to $298,981  between  2012  and  2017.  The  advances  made  by  Montys Roofing to Brendon were recorded in the company’s financial statements.

[6]    Brendon however was adjudicated bankrupt on 5 February 2014 and remains an undischarged bankrupt.

Solvency position of the company

[7]    The evidence filed in support of the application analyses the company’s financial statements for the years ended 31 March 2015 and 2016 to the year ended 31 March 2017. In summary:

Year ended 31 March 2015

Total assets $168,318 - including Brendon’s related party debt of $134,222. Total liabilities $136,335.

Year ended 31 March 2016

Total assets $265,173 - including Brendon’s related party debt of $236,837. Total liabilities $220,579.

Year ended 31 March 2017

Total assets $357,656 - including Brendon’s related party advance $298,980. Total liabilities $291,580.

[8]    Accordingly, the company’s financial statements for each relevant year included as the major asset Brendon’s related party debt. That debt owing to Montys Roofing increased incrementally each year, notwithstanding that Brendon was bankrupt from 2014. No repayment arrangements were in place.

[9]Ms Keene who has filed the evidence on behalf of the plaintiff says:

“Brendon’s bankruptcy, lack of assets and lack of ability or intention to repay the related party receivable meant that there was no reasonable prospect of Brendon repaying the related party receivable.”

[10]   As a result, the true position of the company was that it was balance sheet insolvent from 31 March 2015, as liabilities exceeded recoverable assets by at least

$100,000 in year ended 2015, nearly $200,000 for year ended 2016 and over $230,000 for year ended 2017.

[11]   Coupled with this, Montys Roofing was not meeting its tax obligations from as early as March 2016. Ms Keene’s opinion as an accredited insolvency practitioner is that a failure to pay tax debts on a regular basis over an extended period of time is a sure sign of a company in trouble.

[12]   Ms Keene’s opinion is that, based on her view that the amounts owed by Brendon were not a collectable asset of the company and its history of tax default, Montys Roofing was unable to pay its due debts from at the latest 31 March 2015 and it remained insolvent with a worsening position until its liquidation.

Discussion – insolvency

[13]   Given Brendon’s bankruptcy, it is not clear on what basis a reasonable director could treat amounts owed by him both prior to his bankruptcy on 5 February 2014 and advanced  after  as  being  recoverable.  The   evidence  is   that   the   defendant,   Mr Ellwood Montagu left the operation of the company’s finances to Brendon. It appears the defendant did not undertake a proper assessment of the recoverability of the amount owed by Brendon. The commercial reality is that amounts advanced to Brendon were not likely to result in any recovery at all. There would have to be some additional factor before debts owed by a bankrupt could be included in the current assets of a business at face value.1

[14]   With there being unpaid GST from 30 September 2016 to 31 March 2018, unpaid child support employer deductions for a similar period, unpaid Kiwi Saver deductions from 31 December 2017 to 31 May 2018, and unpaid PAYE deductions from 30 November 2016 to 31 May 2018 along with other unpaid tax liability, all of which resulted in the company incurring non-payment penalties and interest totalling nearly $100,000, I accept the submission of counsel supported by the evidence of  Ms Keene that the company was insolvent from at least 31 March 2015.

1      For example where there was security held or a guarantor available.

Role of the defendant

[15]   The plaintiff’s case is summarised in counsel’s submission that, despite the financial position of the company, the defendant continued to allow the company to trade and it to incur further predominantly tax obligations between March 2016 and July 2018, making no provision for that debt. It is said that the defendant having permitted the company to incur those obligations means the defendant is in breach of his duties under ss 131, 135 and 137 Companies Act 1993. In short, the liquidator says a prudent director of the company could not have allowed the debts to accrue as they did.

[16]   The plaintiff notes that, perhaps unusually for such cases as this, but for the advances to Brendon, the company would have been able to meet its obligations to the Inland Revenue and returned a modest profit to shareholders. However, it is that proposition that underlies the plaintiffs’ case. The submission is that had the defendant made an appropriate assessment of the company it would have been clear that allowing Brendon to take further drawings from the company was not in the company’s best interests. Rather than having the company use the funds available to meet its obligations, in particular to the Inland Revenue, the defendant as sole director continued to allow Brendon to take drawings over and above his wages from the company leaving the company unable to pay the Inland Revenue. Notwithstanding the company being insolvent and with growing tax arrears the defendant permitted the company to continue to trade, incurring but not paying still further tax liabilities, with the surplus other than that required to meet trade creditors being taken as drawings by Brendon.

[17]   The defendant’s failure is summarised in the proposition that he apparently allowed Brendon (a bankrupt) to have unfettered access to the company’s cash flow. Doing so prevented the company from meeting its increasing tax liabilities and causing it to trade while it was insolvent. It also created the risk that Inland Revenue would suffer serious loss.

Legal analysis

Failure to act in good faith and in the best interests of the company

[18]I adopt Mr Vinnell’s submissions on this point. Mr Vinnell submitted:

At a basic level the defendant should have ensured that the company met its financial obligations where financial circumstances allowed. In GL Investment and Development Limited (in liq) v Gau² the director caused the company to pay funds to himself, making it unable to meet its GST obligation. Justice Peters found:

“[10] I am also satisfied that GL’s income was more than sufficient to pay the GST and income tax that was due. Sums were not paid because Mr Gau ignored GL’s obligations in this regard. GL would have had sufficient funds to pay the IRD had Mr Gau not withdrawn the funds he did, and,

[50] Any director acting in good faith and in what he or she believed to be the best interests of the company would ensure the company met its obligations to the IRD, if financial circumstances allowed, as they did. Likewise, a director exercised in the care, diligence and skill a reasonable director would exercise in the same circumstances”.

[19]   I accept the submission in the present circumstances are almost identical to the Gau case and that here the defendant allowed his son to draw all available cash from the company other than it would seem cash required to pay trade creditors. Counsel appropriately have addressed the fact that the present case appears to be one where the defendant may have been motivated by nepotism or sympathy to his son rather than having actively mismanaged the company in other ways. Counsel recognises that the reality seems to be that Brendon had the day to day control of the company and that the defendant may have simply fronted as a director to avoid the consequences of Brendon’s bankruptcy. However, I accept the submission that such would not provide a defence to the defendant. The duties imposed on directors under the Companies Act apply to the defendant from the fact that he was so appointed. That the defendant left the day to day management of the company to Brendon does not absolve him from liability. It is long established that a “sleeping director” is not relieved from liability.

2      GL Investments and Development Ltd (in liq) v Gau [2018] NZHC 868

[20]   The same facts underpin all of the causes of action. A finding against the defendant under s 131 is sufficient to deal with the application for formal proof. The remaining causes of action duplicate the relief sought.

[21]   I am satisfied that the defendant failed to act in good faith and in what he could have believed to be the best interests of the company.

[22]   Similarly, there is a clear breach in my opinion of s 135 Companies Act 1993 which provides that a director must not agree or cause or allow the business of the company to be carried on in a manner likely to create a substantial risk of serious loss to the company’s creditors. Again, causing or allowing Brendon to remove surplus cash from the company left the company’s obligations to the Inland Revenue unpaid over an extended period with no prospect of the funds drawn by Brendon being recovered and no prospect of the indebtedness to the Inland Revenue being paid.

[23]   Section 137 Companies Act 1993 provides that a director must exercise care, diligence and skill of a reasonable director in the circumstances. I am satisfied that a reasonable director would not have allowed the funds the company needed to pay its tax liabilities to be drawn by a bankrupt or the company to be left in the management of a bankrupt. Again, Brendon’s bankruptcy commenced at the start of 2014. The company was insolvent from at least March 2015. It is difficult to envisage circumstances where the realising of an unsecured advance to a bankrupt could meet a director’s obligation to exercise the care, diligence and skill of a reasonable director where the company’s solvency was dependent upon the advance.

[24]   I find that the plaintiff has established that the defendant is liable in respect of the three causes of action set out in the statement of claim, that is breaches of ss 131, 135 and 137 of the Companies Act 1993.

Quantum

[25]   The creditor’s claim in the liquidation total $270,757 and is made up as follows:

(a)Petitioning creditors costs and disbursements $3537.28

(b)Inland Revenue non-preferential claim $118,077.46

(c)Inland Revenue preferential claim $146,280.73

(d)Other claims (ACC) $2862.01.

[26]   As at the date of the liquidation the company does not appear to have any realisable assets. The Liquidator estimates there will be no return to creditors. The amount for which judgment is sought is $268,971.35 because of an adjustment to the claim by ACC, part of which was received post-liquidation.

[27]I note that the total amount advanced to Brendon between 2012 and 2017 was

$298,981. Some of this money was drawn by Brendon prior to his bankruptcy. The amount claimed by Inland Revenue has all accrued after the company became insolvent i.e. after Brendon’s bankruptcy. The defendant’s failure to take control of the company and prevent it being run by his bankrupt son is a direct cause of the indebtedness having accrued.

[28]   Counsel submits that the standard approach is to look at the deterioration of the company’s financial position between the date that inadequate corporate governance became evident and the date of liquidation. It is contended here that the first point was reached well before the current creditor’s claims were incurred from late 2016 given that the company was insolvent from 31 March 2015. I agree.

[29]   I accept the submission that the defendant’s actions or inactions caused all of the loss to the company’s creditors after 31 March 2015 and that he should be personally liable to compensate the company for those amounts totalling $268,971.35. There is accordingly judgment against the defendant in that sum together with costs on a 2B basis plus disbursements as fixed by the registrar.

...................................................

Gendall J

Solicitors:

Anthony Harper, Christchurch Copy to Defendant