Madsen-Ries v Just

[2013] NZHC 2254

IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY

CIV 2012-404-003944 [2013] NZHC 2254

UNDER  the Companies Act 1993

IN THE MATTER             of the liquidation of Green Securities Limited (In Liquidation) and Presidential Homes New Zealand Limited (In Liquidation)

BETWEEN  VIVIEN JUDITH MADSEN-RIES and HENRY DAVID LEVIN as Liquidators of Green Securities Limited (In Liquidation) and Presidential Homes New Zealand Limited (In Liquidation)

Plaintiffs

ANDSTEPHEN RUSSELL JUST Defendant

Hearing:                   29, 30 July 2013

Appearances:           W Fotherby for Plaintiffs

Mr Just, Defendant in person

Judgment:                30 August 2013 at 4:30pm

(RESERVED) JUDGMENT OF ANDREWS J

This judgment is delivered by me on 30 August 2013 at 4:30pm pursuant to r 11.5 of the High Court Rules.

..................................................... Registrar / Deputy Registrar

Solicitors/Counsel:

Meredith Connell, Auckland

MADSEN-RIES and LEVIN v JUST [2013] NZHC 2254 [30 August 2013]

Introduction

[1]      Green Securities Limited (GSL) and Presidential Homes Limited (PHL) were placed  into  liquidation  by  the  High  Court  at  Auckland  on  5  May  2010,  in proceedings brought by the Commissioner of Inland Revenue (“the IRD”).   The plaintiffs were appointed liquidators of GSL and PHL.

[2]      The liquidators have issued this proceeding against the defendant, Mr Just, director of GSL and PHL, claiming he breached his duties as director under ss 135,

136, and 137 of the Companies Act 1993 (“the Act”).  The liquidators allege that Mr Just caused GSL and PHL to continue trading while they were insolvent, and thus engaged  in  reckless  trading  (s 135);  that  he  agreed  to  the  companies  incurring obligations without believing on reasonable grounds that they could perform them (s 136); and that he failed to exercise reasonable care, diligence, and skill when performing his duties as director (s 137).  The liquidators seek an order that Mr Just contribute such sum to the assets of each company as the Court thinks just, pursuant to s 301 of the Act.

[3]      Mr Just denies the allegations.

Factual background

[4]      Both  GSL and  PHL operated  “Rodney Wayne”  hair  salons:  GSL at  the Botany Town Centre and PHL at the Manukau Westfield Shopping Centre.  Mr Just was also director of a company, Southern Shores Limited, which operated a Rodney Wayne Salon in Nelson.

[5]      When  GSL  went  into  liquidation  its  debts  to  unsecured  creditors  were quantified at $597,143.44.  The IRD was GSL’s most significant creditor, with a total

$521,294.96 owed, of which $117,537.84 was preferential debt.   The majority of

GSL’s creditors (aside from the IRD) appear to be trade creditors.

[6]      As recorded in an updated creditors list provided at the hearing, GSL’s debt to the IRD was reduced by adjustments to $475,012.93, of which $124,613.54 is preferential.  In the updated creditors list, GSL’s total debts to unsecured creditors

were recorded as $576,016.26.  The updated list of creditors also records a debt of

$150,000 owed by GSL to Ms K Howes, a shareholder of GSL.  This debt was not included in the quantification of unsecured debts as at liquidation.

[7]      When  PHL  went  into  liquidation  its  debts  to  unsecured  creditors  were quantified at $343,121.19.  Again, the majority of unsecured creditors appear to be trade creditors, the largest of which was a debt to Manukau City Centre Limited (for rent) of $95,416.02.   The debt to the IRD was recorded as being $201,373.10, of which $86,453.32 was preferential debt.  An updated creditors list provided at the hearing records the debt to the IRD as substantially unchanged: the IRD is recorded as being owed $201,373.10, of which $86,453.32 is preferential.

[8]      GSL and PHL borrowed $355,000 in July 2008, to fund a fit-out of the Botany Downs salon operated by GSL.   The loan was pursuant to a term loan agreement dated 31 July 2008, secured by a general security agreement over GSL and PHL (“the GSA”).   Receivers were appointed to GSL and PHL following the liquidation, pursuant to powers conferred by the GSA.  GSL also had a secured debt of $39,924 owed to the National Bank.

[9]      In  the  course  of  the  receivership,  the  secured  debts  were  paid  from  the proceeds of sale of the GSL business.   The receivers also made payment of preferential debts of holiday pay, KiwiSaver deductions, and student loan deductions for employees. A balance of $135,699 has been paid to the liquidators.

[10]     It is relevant to record that GSL made advances to PHL.  As at March 2009 these totalled $241,609.   The debt owed by PHL to GSL is not included in the amounts owed to creditors, as set out above.

[11]     As will become clear when the parties’ submissions are outlined, Mr Just

placed stress on his dealings with IRD. Those dealings appear to have begun in early

2009, when the IRD wrote to Mr Just recording that GSL had outstanding arrears of

PAYE,   KiwiSaver   and   student   loan   deductions,   and   income   tax,   totalling

$137,423.01.  It was also noted that GSL had outstanding income tax returns for the years ending 2005, 2006, 2007, and 2008.  At the same time, the IRD recorded that

PHL had outstanding arrears for PAYE, KiwiSaver and student loan deductions, and income tax, totalling $168,940.64.  PHL had also failed to file an income tax return for 2004, and had failed to file a GST return for 30 November 2008.

[12]     There was then correspondence, and at least one meeting, between the IRD and Mr Just and his tax agent.  The companies were advised in October 2009 that if their debts were not settled, and if they failed to meet their continuing obligations, an application would be made to put the companies into liquidation.   Mr Just then advised that he believed there were tax losses for PHL which could be used to offset liability for income tax.  Mr Just was advised by the IRD in November 2009 as to GSL’s failure to make GST and PAYE payments and the total amount outstanding, and similar failures by PHL, and the outstanding amount owed by PHL.  It was also noted that PHL had not filed income tax returns for the 2008 and 2009 years.

[13]     In response, Mr Just acknowledged GST and PAYE arrears, and tax arrears, but did not acknowledge any liability for interest and penalties imposed as a result of the arrears.   He said that he had exhausted all his cash resources, and proposed a repayment plan which was premised on the sale of the Nelson salon operated by Southern Shores Ltd, the elimination of losses from PHL and the Nelson business, a freeze on repayment of principal on the borrowing for the fit-out of the Botany Downs salon, and additional borrowing. That proposal was rejected by the IRD.

[14]     Subsequently, Mr Just disputed the amount claimed by the IRD, and his liability for penalties and interest.   At a meeting in March 2010, Mr Just made a further repayment proposal, which would require him to incur further borrowing, but this was also rejected.   Mr Just was advised that the rejection was because of the companies’ poor  history  of  compliance,  the  companies  were  still  in  default  in meeting current obligations, Mr Just had provided insufficient information to support his proposal, and the IRD had concluded that the companies were insolvent.

Submissions

[15]     For the liquidators, Mr Fotherby submitted that Mr Just allowed both GSL and PHL to continue to trade long after they each became insolvent, and thereby caused significant loss to the companies’ creditors.

[16]     Mr Fotherby submitted that it was particularly relevant that neither GSL nor PHL filed  income  tax  returns  on  time,  if  at  all,  and  that  each  company began missing payments of PAYE and GST from October 2008 (GSL) or September 2008 (PHL).  He submitted that Mr Just allowed GSL to continue to trade after it became insolvent on (at the latest) 31 March 2009, and that he allowed PHL to continue to trade after it became insolvent on (at the latest) 31 March 2008.  Accordingly, he submitted that Mr Just should be held to have breached his duty under s 135 of the Act.

[17]     Mr Fotherby also submitted that Mr Just should be held to have breached his duty under s 136  of the Act.    He submitted that from  the  date  on  which  each company became insolvent, it would not have been reasonable for Mr Just to believe that each company could pay the debts they were incurring, as they fell due.   He submitted that Mr Just should reasonably have known that each company had significant debts that had not been paid as they fell due and were still owing, and that those debts represented a significant obstacle to the companies’ meeting other debts as they became due.

[18]     Mr Fotherby further submitted that Mr Just should be held to have been negligent in performing his duties as director, so should be held to have breached his duty under s 137 of the Act.  In particular, he submitted that Mr Just failed to ensure that the companies kept financial records that would inform him as to their true state of insolvency, that he failed to draw a proper distinction between the separate legal personality of each company, and failed to put the interests of the companies, and their creditors, before his own interests.

[19]     Mr Just, who was not represented by counsel, provided written submissions at the hearing, together with a folder of documents, and made oral submissions.  I have also had regard to extensive memoranda (with documents annexed) provided to the Court by Mr Just on 21 June 2013 and 26 July 2013, and his amended statement of defence filed on 3 April 2003.

[20]     Mr Just accepted that there had been “a lot of late payments”, but submitted

that responsibility for the companies being put into liquidation, and the losses to

creditors, fell completely on the IRD.  He submitted that if the IRD had not acted in the way it did, there would have been no need for liquidation and the whole foundation of the liquidators’ proceeding would disappear.

[21]     First, Mr Just submitted that the IRD refused to “correct” their statements as to the amounts owed by GSL and PHL during the course of his dealings with them before liquidation, notwithstanding that he had provided information to the IRD.  He submitted that, as a consequence, the debts owed by the companies to the IRD had been improperly inflated, in particular by the accrual of interest and penalties.

[22]     He  further  submitted  that  prior  to  liquidation  be  had  a  “handshake” agreement to sell the Botany and Manukau salons to the Rodney Wayne group, which he could not progress to a formal agreement for sale and purchase before the two companies were put into liquidation.  He submitted that there should have been an orderly sale of the businesses, upon which all creditors would either have been paid, or debts to creditors would not have been incurred, given that he had to keep the businesses going during a period in which he was dealing with the IRD.  Mr Just submitted that the equity in the companies as at 2010, and in the absence of penalties and interests incurred on his debt to the IRD since that time, would have satisfied all liabilities.

[23]    Finally, Mr Just submitted that even when put into liquidation and then receivership, the proceeds of sale of the businesses would have been sufficient to pay liabilities,  had  the  liquidators  not  delayed  and  incurred  significant  costs  in challenging the debt owed to the secured creditor, and incurring liquidators’ fees.

[24]     I understand Mr Just to have submitted that, even if I were to find that he had breached one or more of his duties as a director, I should not exercise the discretion under s 301 to make any order that he make a contribution to the assets of either company.

Mr Just’s management of GSL and PHL

[25]     An assessment of Mr Just’s management of GSL and PHL is central to the matters to be determined in respect of each of the liquidators’ claims.

[26]     I set out below my findings as to factual matters which are significant in this assessment.

(a)      The income tax return for GSL for the year ending 31 March 2004 was filed on 4 March 2008.  The returns for the years ended 31 March

2005, 2006, 2007, and 2008 were filed on 31 August 2009.  The tax returns for PHL for the years ending 31 March 2005, 2006, and 2007 were filed on 5 December 2007.  No returns for PHL were filed after that date.

(b)From  October  2008,  GSL either  did  not  pay  at  all,  or  made  late payment of, income tax, GST, PAYE, KiwiSaver employee and employer contributions, and student loan deductions.  PHL similarly failed to pay, or made late payment of, the same liabilities as from September 2008.  The accounts of GSL for the year ended 31 March

2008 show a working capital deficit of $111,171, when corrected to remove the advance to PHL.   I accept that this advance was, given PHL’s financial position, unrecoverable.

(c)       For the year ended 31 March 2009, GSL’s working capital deficit was

$524,384, and the company made a loss of $9,115.

(d)      PHL had a working capital deficit of $271,671 for the year ended 31

March 2007, and a deficit of $326,429 for the year ended 31 March

2008.  PHL made a loss of $73,228 for the year ended 31 March 2008.

(e)      The GSL accounts for the year ended 31 March 2009 record that Mr Just took drawings in that year of $164,077.  The accounts also record “capital introduced” that year, of $430,809.  The draft accounts show drawings of $209,655 and capital introduced of $75,809.  When asked about the significant difference between the draft and final accounts, Mr Just said that the “capital” included the loan of $355,000 from Ms Bercht.

(f)      Mr Just provided personal guarantees for the loans from Ms Bercht and the National Bank to GSL, and for payment of rent by PHL.

(g)The correspondence between the IRD and Mr Just discloses repeated requests by the IRD to Mr Just to provide information in support of his claims that he had made various payments, or that he had tax losses which could be applied in respect of the liabilities currently in dispute.1      The correspondence discloses a reference to some information provided on 8 November 2009, but it is evident from subsequent correspondence that that information was taken into account by Inland Revenue and that substantial amounts remained

owing.

When did GSL and PHL become insolvent?

[27]     The “solvency test” is set out in s 4(1) of the Act:

4        Meaning of solvency test

(1)      For the purposes of this Act, a company satisfies the solvency test

if—

(a)      The company is able to pay its debts as they become due in the normal course of business; and

(b)      The value of the company’s assets is greater than the value

of its liabilities, including contingent liabilities.

[28]     I accept Mr Levin’s evidence that GSL failed to pass the solvency test from

31 March 2009, as by this stage it was generating trade deficits, had a working capital deficit, and its liabilities exceeded its assets.

[29]     I also accept Mr Levin’s evidence that PHL failed to pass the solvency test from 31 March 2008, as at that date it had a trade deficit, a deficit in working capital, and its liabilities exceeded its assets.

Section 135: Reckless Trading

[30]     Section 135 of the Act provides:

135     Reckless trading

A director of a company must not—

1      IRD applied available tax losses for PHL to that company’s tax liabilities for the years ended 31

March 2005 and 2006.

(a)       agree to the business of the company being carried on in a manner likely to create a substantial risk of serious loss to the company’s creditors; or

(b)       cause or allow the business of the company to be carried out on in a manner  likely  to  create  a  substantial  risk  of  serious  loss  to  the

company’s creditors.

[31]     In  Mason  v  Lewis,  the  Court  of Appeal  reviewed  authorities  concerning s 135.2   The Court noted the requirement for “a substantial risk of serious loss”,3 and the need for a distinction to be drawn between “the taking of legitimate and illegitimate risks”.4  The Court then set out “the essential pillars” of s 35 as being:5

the duty which is imposed by s 135 is one owed by directors to the company (rather than to any particular creditors);

the test is an objective one;

it focuses not on a director’s belief, but rather on the manner in which a company’s business is carried on, and whether that modus operandi creates a substantial risk of serious loss; and

what is required when the company enters troubled financial waters is  ...  a “sober assessment” by the directors, we would add of an ongoing character, as to the company’s likely future income and prospects.

[32]     The Court further observed:6

The purpose of the statutory provision is the avoidance of inappropriate loss to the company’s creditors through reckless trading.   Hence the financial position of the company at all relevant times is central to any action under s 135.

[33]     Mr  Fotherby  submitted  that  the  circumstances  of  the  present  case  were similar to those in Boutique Tanneries Ltd (In Liq) v Handley.7    In that case, liquidators had claimed against the sole director of the company in liquidation, under s 131 of the Act (the general duty to act in good faith and in the best interests of the company), and ss 135 to 137.  Mr Fotherby pointed to the fact that in both Boutique Tanneries and the present case, the most significant debts were those owed to the

IRD.

2      Mason v Lewis [2006] 3 NZLR 225 (CA), at [44]–[51].

3      At [47] and [48].

4 At [49].

5 At [51].

6 At [57].

7      Boutique Tanneries Ltd (in iq) v Handley HC Auckland CIV-2006-404-2713, 24 July 2008.

[34]     In Boutique Tanneries, Dobson J expressed his conclusion that:8

... the company had been kept afloat for a number of years by paying all creditors and suppliers, with the exception of the IRD, and in a sense it has been the Department’s forbearance that prolonged the company’s trading.

[35]     His Honour also referred to evidence given by a forensic accountant, Mr

Weir:9

Mr Weir’s evidence was that businesses with cash flow difficulties may be tempted  to  defer  obligations  to  IRD  because  that  Department  does  not provide services or materials required to continue trading.   However, the reality is that the penalties imposed for late payment mean that deferral of obligations to the IRD for any significant period reflect very poor business judgment and, in Mr Weir’s experience, companies that have unpaid PAYE and  GST for six months or  more often have  a fundamental issue as to whether they are able to pay their debts as they fall due.

[36]     I accept Mr Fotherby’s submissions as to the similarities between this case

and Boutique Tanneries.

[37]     Mr Just accepted that, as director, it was his responsibility to ensure that tax returns were filed on time, and that in the absence of returns being filed, the IRD would make a default assessment.  Mr Just’s failure to ensure that tax returns were filed on time meant that the IRD prepared default assessments, and penalties and interest for late payment, or non-payment, accrued.  As a consequence, the liabilities of both GSL and PHL increased markedly.

[38]     Mr Just cannot lay responsibility for that increase on the IRD; the increase arose from his own management of the companies.   When the company’s returns were eventually filed, adjustments were made, but the companies had already been put at risk by the accruing penalty, interest and overall liability.

[39]     Further, Mr Just displayed either a lack of understanding, or a disregard, of the distinction that he was required to maintain between the separate legal identities of each of the companies, and himself.  He said in evidence that “it was all my, my investment, my equity, my businesses”.  That led to a confusion as to what was in the

best interests of the companies, particularly in the light of Mr Just’s own position as

8 At [12].

guarantor.   This was particularly demonstrated by the advance from GSL to PHL, which gave needed cash to PHL, and helped Mr Just’s position as guarantor of PHL, but exposed GSL, and GSL’s creditors.

[40]     Further, I accept Mr Levin’s submission that the evidence shows that Mr Just either failed to ensure that he understood, or simply disregarded, the tax liabilities of each of GSL and PHL, and in particular the consequences of failing to comply with the requirements to file returns and make payments on time.  He also failed to ensure that he was at all times fully informed as to the financial position of each company.

[41]     The overall debt position of both GSL and PHL as at liquidation demonstrates the serious financial position each company was in as at liquidation.  Looking at Mr Just’s management of both companies objectively, focusing on the manner in which he carried each business on rather than his own belief as to what could be achieved, I am satisfied that he failed to carry out the “sober assessment” required of him.  I am satisfied that, in terms of s 135, he has caused the business of both companies to be carried on in a manner which was likely to create a substantial risk of serious loss to the company’s creditors.

Accordingly, I find that the liquidators have proved the cause of action under s 135 of the Act.

Section 136: Incurring obligations

[42]     Section 136 provides:

136      Duty in relation to obligations

A director  of  a  company  must  not  agree  to  the  company  incurring  an obligation unless the directors believes at that time on reasonable grounds that the company will be able to perform the obligation when it is required to

do so.

[43]     As O’Regan J observed in Fatupaito v Bates, a distinction must be made between the subjective test (as to what the director believed) and the objective test (as  to  whether  the  director’s  belief  was  on  reasonable  grounds)  that  are  to  be

considered in respect of the claim under s 136.10

10     Fatupaito v Bates [2001] 3 NZLR 386 (HC), at [80]

[44]     An  allegation  of  a  breach  of  the  duty  under  s 136  was  central  to  the consideration by Clifford  J of the liquidators’ claim against directors in Jordan v O’Sullivan   in respect of long-term leases entered into by the company.11     The liquidators’ case was that at the time the leases were entered into, the company’s financial position was such that the directors were required to act with heightened caution.  It was alleged that they failed to assess properly, or provide for, the risks associated with entering into the leases.12

[45]     In his analysis of s 136, his Honour observed:13

The need for the director’s belief to be based on objectively reasonable grounds   means   the   director   must   have   sufficient   knowledge   of   the company’s position and ability to meet the obligation so as to give rise to reasonable grounds.  It is implicit that the director must take sufficient steps to obtain this knowledge – claiming ignorance will not be a defence.

Section 136 does not appear to require that the company’s ability to meet the obligation  arises  from the  company’s  separate  resources,  as  long  as  the director believes on reasonable grounds that the company will be able to do so.  Therefore, it would appear that a director who believes, on reasonable grounds, that the obligation will be met by means of shareholder or director contributions will not breach the duty.  ...

Under s 136, the required belief is that at the time the obligation is incurred

...

[46]     His Honour further noted the different focuses of ss 135 and 136:14

Taken overall, perhaps what can now be said is that, particularly in terms of the statutory expression of directors’ duties found in sections 135 and 136, directors owe duties to a company, that would appear to be designed, in the overall scheme of the Companies Act, to protect, at least to a certain extent, the position of the creditors of the company at all times.  Whether or not, at a particular point in time, the directors are likely to breach those duties will, fairly obviously, depend on the financial position of the company.  Where a company is in a strong financial position, adequately capitalised and making sustainable profits, it is most unlikely the directors will be engaging in a course  of  action  (s 135),  or  incurring  specific  obligations  (s 136),  that involve the taking of illegitimate risks.  They will, therefore, in all likelihood be meeting the duties they owe to the company which are designed to protect the interests of its creditors.   If, however, the financial position of the company deteriorates significantly so that the position of the creditors becomes significantly more risky, the directors may, again by reason of the duties the Act provides they owe to the company, need to pay more attention

11     Jordan v O’Sullivan HC Wellington CIV-2004-485-2611, 13 May 2008.

12 At [18].

13 At [56], [59], and [60].

to the position of the creditors.  That need becomes most pressing where a company is  insolvent,  or near to  insolvency,  and  the  directors  have  the difficult decision to make as to whether to cease trading or, on a rational and reasoned  basis  having  appropriate  regard  to  the  interests  of  creditors, continue trading with a view to returning the company to a sound financial position.

[47]     I accept Mr Fotherby’s submission that, from the date on which GSL and PHL became insolvent, Mr Just did not have reasonable grounds for believing that the debts the companies were incurring would be able to be paid as they fell due.

[48]     I have accepted Mr Levin’s evidence that GSL was insolvent from 31 March

2009, and that PHL was insolvent from 31 March 2008. At that time, each company had a significant working capital deficit. Also at that time, as a consequence of their failure to file income tax returns, default assessments of tax had been issued, and penalties and interest had accrued.  Further, penalties and interest had accrued as a result of the companies’ failure to pay, or their making late payment of, GST, PAYE and KiwiSaver and student loan deductions.  Notwithstanding those significant (and increasing) debts, Mr Just continued to trade the companies, and continued to incur obligations which neither company could meet.

[49]     I do not accept Mr Just’s submission that at all material times, including throughout  2009,  he  reasonably  believed  that  the  companies  would  be  able  to perform their obligations when required to do so.   He referred to his “efforts to restore the profitability of the companies, and to explain and clarify with the IRD the

correct amount of income tax payable by them”.15   He also referred to “an agreement

to sell both the [GSL and PHL] businesses to the Rodney Wayne Group”, and said that “the proceeds of sale would have resulted in IRD receiving 100% of the money owed”.16

[50]     Mr Just’s submissions reflect a hopeless degree of optimism. They ignore the fact that the IRD was entitled to issue default assessments, and that interest and penalties accrued immediately upon non-payment of the assessments.   Pursuant to

s 109  of  the  Tax Administration Act  1994,  the  IRD’s  assessment  could  not  be

15     Amended statement of defence dated 2 April 2013, at 9.

challenged, except in specified proceedings.  Mr Just’s dealings with the IRD could not result in a substantial reduction of the debt.

[51]     Further, Mr Just’s assertion of a sale, and the expected proceeds of sale, do not alter the fact that he traded both companies, and incurred further obligations, after they became insolvent and unable to pay those obligations.   It must also be noted  that  I  accept  Mr  Fotherby’s  submission  that  Mr  Just’s  dealings  with  the Rodney Wayne Group did not come close to being a concluded agreement for sale.

[52]     Accordingly, I find that the liquidators have proved the cause of action under s 136 of the Act.

Section 137: Negligence

[53]     Section 137 provides:

137      Director’s duty of care

A director of a company, when exercising powers or performing duties as a director, must exercise the care, diligence, and skill that a reasonable director would exercise in the same circumstances taking into account, but without limitation, —

(a)       The nature of the company; and

(b)       The nature of the decision; and

(c)       The position of the director and the nature of the responsibilities undertaken by him or her.

[54]     In his judgment in Boutique Tanneries, Dobson J observed that consideration of a claim that a director has breached s 137:17

...  requires  an  objective  assessment  not  giving  credit  for  a  particular director’s lack of any requisite experience or knowledge, but being tested by the requisite skill required of a reasonable director in the same position as the defendant.   Here, that is someone assuming responsibilities as sole director of a relatively small trading business, without the opportunity for detached guidance from a board, in particular one that might contain non- executive directors.

[55]     For essentially the same reasons as I have found that the liquidators have proved that Mr Just breached the duties under ss 135 and 136, I am satisfied that the

liquidators have proved that he breached the duty under s 137.

17     Boutique Tanneries, above n 7, at [31].

Should an order be made under s 301?

[56]     Section 301 provides, as relevant:

Power of Court to require persons to repay money or return property

(1)      If, in the course of the liquidation of a company, it appears to the

Court that a ... past or present director, ... has ... been guilty of negligence,  default,  or  breach  of  duty or  trust  in relation  to  the

company, the Court may, on the application of the Liquidator ..., —

...

(b)      Order that person —

...

(ii)      to contribute such sum to the assets of the company by way of compensation as the Court thinks just;

...

[57]     The Court of Appeal discussed the approach to be taken to applications for relief under s 301 in its judgment in Mason v Lewis.18

The standard approach has been to begin by looking to the deterioration in the company’s financial position between the date inadequate corporate governance became evident (really the “breach” date) and the date of liquidation.

One that figure has been ascertained, New Zealand Courts have seen three factors – causation, culpability and the duration of the trading – as being distinctly relevant to the exercise of the Court’s discretion ...

Finally,  claims  of this character  necessarily have  to  be approached in a relatively broad-brush way.   The jurisdiction to order recompense is of an “equitable” character.

[58]     The two factors of causation and culpability were discussed by the Court of

Appeal in its judgment in Löwer v Traveller.19

The element of causation is concerned with the link between the carrying on with the company’s business recklessly, to the knowledge of the impugned director, and the indebtedness of the company for which it is sought to impose personal liability.   In a case such as the present that involves an assessment of how much the liabilities of the company were increased because of the illegitimate delay in its ceasing to trade and the identification of a point in time when the director knew that continuing to trade would be reckless.  The resulting figure, is no more than a relevant consideration for the Court although the amount of the directors’ liability would not exceed the sum identified as caused by the known reckless trading.

The relevance of culpability is linked to the deterrent purpose of the provision.  This factor calls for an assessment of the blameworthiness of Mr

18     Mason v Lewis, above n 2, at [109]–[110] and [118].

Löwer’s conduct, bearing in mind that at one end of the range the nature of a director’s involvement will be blind faith or muddleheadedness, while at the other end there will be actions or instances of action which are plainly dishonest  ...    The  deterrent  purpose  of  the  section  is  served  in  cases involving a high degree of culpability by orders which are punitive as well as compensatory.  ...

[59]     The Court of Appeal in Löwer v Traveller also observed that, in the face of uncertainty, the Court should be conservative in its approach.20    Mr Fotherby submitted that Mr Just’s continuing to trade after GSL and PHL became insolvent resulted in an increase in the liabilities of GSL of approximately $375,000, and an increase in the liabilities of PHL of approximately $328,000.  Those figures reflect the increase, over the relevant period, in the debts owed to IRD, together with the debts owed to unsecured creditors as at liquidation.  Mr Fotherby submitted that Mr Just should be ordered to make payment of approximately 80 per cent of each

company’s loss; that is, $300,000 in respect of GSL and $260,000 in respect of PHL. Mr Fotherby further submitted that if contribution in those sums were ordered then, in theory at least, preferential debts could be cleared, and all unsecured creditors would receive a pro-rata payment.

[60]     I am satisfied that an order under s 301 must be made.   In the light of my conclusions  as  to  Mr Just’s  breaches  of  his  duties  as  director,  it  would  not  be appropriate to, as Mr Just submits I should, exercise the discretion under s 301 against the liquidators and decline to make an order.

[61]     However, in my view, an order in the amount submitted by Mr Fotherby could only be made if Mr Just’s culpability were assessed at such a level (close to being “plainly dishonest”) where a deterrent order is required.  Such an order is not justified in this case.  Mr Just’s management of the companies cannot be described as “plainly dishonest”.   However, it cannot be described as “blind faith or muddle- headedness”.

[62]     As the Court of Appeal said in Mason v Lewis, the Court approaches a claim for an order under s 301 in a “relatively broad-brush” way, taking into account the

“equitable” character of the order.21

20 At [80].

[63]     Having considered the breaches, the amounts by which each company’s debts increased during the period of trading after they were insolvent, the duration of the trading  in  each  case,  and  Mr  Just’s  submissions,  I  have  concluded  that  the appropriate order is that, for each company, he should contribute a sum equivalent to half of the increase in indebtedness.  For GSL that sum is $187,500, and for PHL it is

$164,000.

Result

[64]     Pursuant to s 301 of the Act, I order that Mr Just is to contribute $187,500 to the assets of GSL, and $164,000 to the assets of PHL.

[65]     The liquidators sought costs.  Mr Just did not address the matter of costs.  As the liquidators have succeeded in their claim against Mr Just, they would appear to be entitled to costs on a 2B basis.  In the event that the parties cannot agree as to

costs, memoranda may be filed.

Andrews  J