Capital Flashcards
Bairstow v Queens Moat Houses plc [2001] 2 BCLC 531
Bairstow v Queens Moat Houses Plc [2001] EWCA Civ 712 is a UK company law case concerning shares.
The court considered the liability of directors for an unlawfully paid dividend.
Held: Robert Walker LJ: ‘The prospect of the former directors being able to obtain contribution from innocent recipients of unlawful dividends was debated (somewhat inconclusively) in the course of the appeal hearing. The statutory remedy in s.277 of the Act is not in point (since it is available only to the company, and only against a shareholder with actual or constructive knowledge of the unlawfulness of the dividend).’
Facts
Counsel argued that directors should be liable for unlawful distributions even when the company was solvent.
Judgment
Robert Walker LJ held that the idea that investors were getting a windfall was wrong. However it may be possible that in suing the directors, an equitable contribution from shareholders could be payable. That argument was not, however, raised here.
In considering this windfall objection it is no doubt right to ignore the fact that the appellants are in practice unlikely, in view of the very large sums involved and the costs orders already made against them, to be able to meet even a small part of any judgments against them. It is not so easy to ignore the fact that the present shareholders in Queens Moat are probably a very different body of investors than those who received the unlawful dividends ten years ago. Some of those early investors may have cut their losses by selling their shares at the bottom of the market. Some of the present investors may have been astute enough or lucky enough to have bought their shares at the bottom of the market. Some may even have formed a view, in deciding to invest in Queens Moat, as to the prospects of a successful recovery on the counterclaim. These considerations put some flesh on the Salomon v Salomon point. They are matters which the court cannot easily take into account, however strong its instinct to achieve a fair result and avoid anything which resembles double recovery. Nevertheless it may be assumed that some of the present shareholders did receive and benefit from unlawful dividends paid between 1991 and 1993.
Sedley LJ concurred.
Re Exchange Banking Co, Flitcroft’s Case (1882) 21 ChD 519
Key Takeaways:
- Dividends must be paid after companies profits
- Books must be in order to do so
- Directors liable if they pay dividend anyway
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In re Exchange Banking Company or Flitcroft’s case (1882) LR 21 Ch D 519 [1] is a UK company law case concerning the payment of dividends. It was decided when the law required that dividends should only be paid out of a company’s profits, although the courts deferred to company directors to define their own rules for determining when that was so.
Facts
The directors of the Exchange Banking Company had presented account reports before shareholder meetings, which were untrue. Between 1873 and 1878 they paid half yearly dividends totalling £,192, when they knew items in the accounts were bad debts, irrecoverable and consequently there were no distributable profits. The shareholders acted on the reports and declared dividends. The liquidator issued a summons against five former directors, Flitcroft, Simpson, Grundy, Bardsley and Ramwell, alleging joint and several, or partial, liability, depending on the periods when they had been in office.
Judgment
High Court
James Bacon VC found that the directors were liable to repay the unlawful dividends.
I should say they are trustees and nothing else. They have interests of their own, but they are trustees of the money which may be collected by subscriptions, and of all the property that may be acquired; they have the direction and management of that property, and at the same time they have incurred direct obligation to the persons who have so entrusted them with their money.
Court of Appeal
Lord Jessel MR agreed the directors must repay the money. Capital invested by shareholders (at this time the aggregate of the nominal share value, not including share premiums, as legal capital is defined under Companies Act 2006) could not be returned to them, and dividends should be paid out of profits only. He said the following.
It follows then that if directors who are quasi trustees for the company improperly pay away the assets to shareholders, they are liable to replace them. It is no answer to say that the shareholders could not compel them to do so. I am of the opinion that the company could in its corporate capacity compel them to do so, even if there were no winding up… diretors in each case are to be declared jointly and severally liable and not only jointly liable.... The creditor has no debtor but that impalpable thing the corporation, which has no property except the assets of the business. [He...] gives credit to the company on the faith of the representation that the capital shall be applied only for the purposes of the business, and he has therefore a right to say that the corporation shall keep its capital and not return it to the shareholders, though it may be a right which he cannot enforce otherwise than by a winding-up order. It follows then that if directors who are quasi trustees for the company improperly pay away the assets to the shareholders, they are liable to replace them…
Re Halt Garage (1964) Ltd [1982] 3 All ER 1016
Key Takeaways
Company Directors can not be paid out of what is essentially reduction of capital as a disguised distribution to the shareholder. Excessive sums must be repaid/restored by the distributee/receiver
Re Halt Garage (1964) Ltd [1982] 3 All ER 1016 is a UK company law case concerning reduction of capital and executive pay. It held that money can be ordered to be returned if a sum paid to a director is in substance a reduction of capital, because the amounts cannot seriously be regarded as remuneration.
The proper procedure for reduction of capital is now found in Companies Act 2006, sections 641-653.
Facts
Mr and Mrs Charlesworth started Halt Garage (1964) Ltd. After Mrs Charlesworth became ill, the business declined, from £106,000 turnover in 1967 to voluntary liquidation in 1971. From 1968 to 1971 Mr Charlesworth worked full time and got £3500 as a director, while Mrs Charlesworth did not work due to her illness but was still paid £500 to £1500. The liquidator claimed this represented an illegal reduction of capital.
Judgment
Oliver J said that creditors are entitled to assume that what is paid as remuneration is so in substance, and not a disguised distribution to shareholders. Here it was a genuine payment of remuneration to Mr Charlesworth. For Mrs Charlesworth, the facts were more problematic. There was nothing as a matter of construction to prevent someone being paid during absences for illness, but although it was irrelevant that she was paid when the company was unprofitable, it appeared that some of the sums could not really be considered remuneration and she would have to restore the excessive sums. Those were not “a genuine award of remuneration” but rather a “disguised gift out of capital”.
I do not think that, in the absence of evidence that the payments made were patently excessive or unreasonable, the court can or should engage on a minute examination of whether it would have been more appropriate or beneficial to the company to fix the remuneration at £X rather than £Y, so long as it is satisfied that it was indeed drawn as remuneration. That is a matter left by the company’s constitution to its members... I find it really impossible on the facts to hold that the whole of these sums… can be treated as genuine director’s remuneration in any real sense of the term...
Aveling Barford Ltd v Perion Ltd [1989] BCLC 626
Key Takeaways:
To sell a company asset under value will usually be seen as an unlawful reduction of capital.
As the company did not have distributable reserves, the sale was in consequence an unlawful reduction of capital.
The law in relation to the transfer of assets at an undervalue has been clarified in CA 2006, and the amount of the distribution arising in consequence of a sale at undervalue is now determined in accordance with section 845.
Aveling Barford Ltd v Perion Ltd [1989] BCLC 626 is a UK company law case concerning reduction of capital. It held that a sale at an undervalue of an asset was a dressed-up distribution. As the company did not have distributable reserves, the sale was in consequence an unlawful reduction of capital.
The law in relation to the transfer of assets at an undervalue has been clarified in CA 2006, and the amount of the distribution arising in consequence of a sale at undervalue is now determined in accordance with section 845.
Facts
Mr Lee owned and controlled both Aveling Barford Ltd and Perion Ltd. Aveling Barford owned a country house and 18 acres of land in Grantham, which it sold to Perion £350,000, rather than the £1,150,000 it had been valued for prospective mortgagees. Aveling Barford subsequently went into liquidation, and the liquidator sued to have Perion be declared a constructive trustee of the proceeds realised by Perion on the resale of the property.
Judgment
Hoffmann J held that it was a breach of the directors’ fiduciary duty to sell the property at an undervalue. Given the relationship between the parties, the sale at an undervalue represented a distribution, and as the sale amounted to an unlawful reduction of capital, it was incapable of ratification. The transferee was therefore accountable as a constructive trustee. ‘This was a dressed up distribution’, it was ultra vires and incapable of ratification.
The rule that capital may not be returned to shareholders is a rule for the protection of creditors and the evasion of the rule falls within what I think Slade LJ had in mind when he spoke of fraud on creditors.
Re Chatterley-Whitfield Collieries Ltd [1948] 2 All ER 593
Key Takeaways:
- Capital to Preference Shareholder can be returned (if contractually in line)
- Company must not be bound to keep them forever
“In Re Chatterley-Whitfield Collieries Ltd. the court were considering the rights of preference shareholders to whom it was proposed to return the whole capital paid up on their shares. In that case it was stressed that reducing the capital of a company by returning to the preference shareholders the whole capital paid up on their shares is completely consistent with the preference shareholders’ contractual rights. There is no question of a company which has once issued preference shares being bound either to keep them forever or to arrange its affairs so that it is always left with a certain amount of preference capital.”
Brady v Brady [1989] AC 755
- Prohibition on financial assistance
- Subjective Test when it comes to in good faith.
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Brady v Brady [1989] AC 755 is a UK company law case decided by the House of Lords relating to the prohibition on financial assistance.
Facts
T. Brady & Sons Ltd and its subsidiaries went through restructuring after the two brothers that owned the majority of shares fell out and wished to divide the company’s assets. One part of the process involved paying financial assistance to reduce liability on the company buying some of the shares. The fact that it was financial assistance was accepted, but it was argued that this was not the main purpose, relying on the exception in section 153(2) of the Companies Act 1985 (now the Companies Act 2006 section 678(4) exception).
That section provided that:[2] “Section 151(2) [of the Companies Act 1985] does not prohibit a company from giving financial assistance if (a) the company’s principal purpose in giving the assistance is not to reduce or discharge any liability incurred by a person for the purpose of the acquisition of shares in the company or its holding company, or the reduction or discharge of any such liability is but an incidental part of some larger purpose of the company, and (b) the assistance is given in good faith in the interests of the company.”
Judgment
Lord Oliver held the requirement is the assistance is given in good faith and in the best interests of the company, a subjective standard . He rejected that a ‘larger’ purpose of freeing deadlock would suffice for almost anything, and so on this ground the exemption was not fulfilled.
The acquisition was not a mere incident of the scheme devised to break the deadlock. It was the essence of the scheme itself and the object which the scheme set out to achieve.
Chaston v SWP Group plc [2003] 1 BCLC 675
Judgement for the case Chaston v SWP Group Plc D was director of a subsidiary of a parent company which was subject to a takeover bid. Subsidiary company incurred liability to pay accountants’ fees in respect of the transaction (£20,000); actual cost of takeover itself was £2.5 million. D, as director of company alleged to have given financial assistance, was sued.
Held: ·
Paying of accountants’ fees was financial assistance ·
This because it smoothed the path to the acquisition of shares Ø i.e. reduced the transaction cost for purchaser Ø thus acted as a financial incentive to buy parent company’s shares ·
This even though cost of accountant’s fees were dwarfed by cost of takeover!
Where the payment of services or advise smooths the path for a takeover/purchase it will be seen as financial assistance.
Parlett v Guppy’s (Bridport) Ltd [1996] 2 BCLC 34
In Parlett v. Guppys (Bridport) Ltd [1996] BCC 299 the court rejected 5% as a rule of thumb and indicated that the percentage would depend on the circumstances. In the Paros decision 1% was referred to as a guide but exceptionally in that instance the company had negative net assets and so the issue did not arise.
MT Realisations Ltd v Digital Equipment Co Ltd [2003] EWCA Civ 494
Judgement for the case MT Realisations Ltd (in liq) v Digital Equipment Co Ltd
Purchase acquired a target company from the vendor. Vendor assigned purchaser the benefit of an on-demand loan due from the target company; purchaser agreed to pay vendor for the assignment of loan. Purchaser was later unable to make payment to the vendor, so agreement was later restructured – target was made to make payments directly to the vendor, and this was set-off against the money still owed to the vendor by the purchaser under the loan assignment. Was argued that set-off of money owed by purchase was unlawful financial assistance.
Held:
· Was no financial assistance
· For there to be financial assistance, something has to be given to someone that he does not have already
Ø here, purchaser had not been given any new rights against target company
Ø rather, it had already acquired the right to a loan payable by target company
– had purchaser wished to use this to pay off the vendor for the loan assignment, could have simply demanded payment in full at any time
Ø by making loan payable to vendor and setting this money off against money due to vendor under loan assignment, was simply short-circuiting the process
· Thus purchaser was simply exercising a pre-existing legal right
Ø this cannot constitute financial assistance
Dyment v Boyden [2005] 1 WLR 792;
Judgement for the case Dyment v Boyden
Partnership within a corporate shell was dissolved; one of three shareholders took the other two’s shareholdings, and other two took exclusive ownership of business premises which were leased to company for certain rent. Later, remaining shareholder claimed that rental value of property was much less, and that difference between what he was paying and rental value was unlawful financial assistance given by company.
Held:
· Is true that company acquiring the lease was a condition for dissolving of partnership.
· However the company’s decision to enter into the lease was not undertaken ‘for the purpose’ of allowing C to acquire its shares
Ø rather it took the lease in order to acquire the premises it needed to continue in business
Ø and it paid an excessive rent because the owners of the freehold were in a position to demand it
Sample examination question
To what extent, if at all, is the law on financial assistance destructive of genuine
transactions? Is there any rational policy running through the legislation or case
law? How could the law in this area be improved?
Advice on answering this question
This is a wide-ranging question and your answer will require careful planning if you are
to cover its scope in the time allowed. The principal points you should address are the
following.
u An examination of the policy concerns underlying the capital maintenance
doctrine.
u The prohibition in s.678 CA 2006 against providing financial assistance for the
acquisition of shares. You should describe what amounts to financial assistance.
Note ‘pre’ and ‘post’ acquisition assistance.
u The policy underlying s.678 (see Chaston v SWP Group plc).
u The principal purpose exception. Analyse Brady v Brady with particular reference to
Lord Oliver’s speech.
