Directors’ duties – a company is not a piggy bank!

Posted by RM2 at 15:24 on 8 Feb 2018

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While there is not an obvious connection with employee share schemes, the recent case of Ball (PV Solar Solutions Ltd) v Hughes and another (2017) caught our eye as a salutary reminder that private companies cannot be treated as personal piggy banks by the directors. While people may wail in despair at the ineffectiveness of corporate governance (particularly in the wake of current Carillion related matters), this case shows that the insolvency legislation and directors’ duties can and are being deployed against errant directors.

The case itself involved a modified employer-financed retirement benefit scheme but that fact was not pertinent to the outcome of the case. The main issue was whether the directors (who had both decided against a contract of employment with the company) were entitled to withdraw remuneration and make three credit entries against their director’s loan accounts in the way they did. The articles of association in this case did also not allow the directors to withdraw remuneration.

Fairly shortly thereafter, the company was placed into administration with a fairly similar deficiency as regards creditors to the amounts of the three credit entries.

The liquidators launched a legal claim under the Insolvency Act 1986 (s212) arguing that the directors, in entering into these arrangements when there were questions over the company’s solvency and creditors were being left unpaid, had breached their director’s duties under section 171 Companies 2006 (“CA 2006”) (to act in accordance with the company’s constitution) and more particularly under section 172 CA 2006 (as regards creditor’s interests) to consider those creditor interests as paramount (where a company is insolvent or of doubtful solvency).

The directors tried to argue that there had been informal unanimous consent by the two directors (often referred to the Duomatic principle) but the High Court held that the Duomatic principle did not apply. The party invoking the principle is required to prove, if disputed, that the company was solvent at the relevant time. This was beyond the directors in this case as there was a large absence of documentation at the trial!

The High Court found that there had been misfeasance (under section 212) in this case and ordered the directors to pay back £750,000 plus interest.

There may also have been tax avoidance taking place in relation to this retirement benefit scheme but the High Court did not in fact have to opine in this regard. One can only presume that the pension arrangements might also have been struck down by the “disguised remuneration” rules. The High Court also noted that the directors were aware that the professional adviser responsible for the introduction of the pension provision vehicle was not providing company and insolvency advice and that such advice should have been taken.

RM2 notes that executive directors should ensure that they have a contractual right to be paid for their services. Otherwise our view is that the creditors’ rights clearly had precedence in this case and the directors’ personal liability was the only likely outcome.