SHERIFFDOM OF GRAMPIAN, HIGHLAND and ISLANDS AT ABERDEEN

2014SCABE37

A399/11

                                                                               JUDGMENT

by

SHERIFF PRINCIPAL DEREK C W PYLE

in causa

McGREGOR GLAZING LIMITED (in liquidation), a company incorporated under the Companies Acts with the registered number SC340640 and having its registered office at 7 Queen’s Gardens, Aberdeen AB15 4YD

Pursuer and Respondent

against

GEORGE McGREGOR

Defender and Appellant

Aberdeen, 30 October 2013

The Sheriff Principal, having resumed consideration of the cause, Allows the appeal; Recalls the sheriff’s interlocutor of 15 May 2013; Repels the respondent’s 5^th plea-in-law and the appellant’s 1^st plea-in-law; Allows the parties a proof before answer; Remits to the sheriff to proceed as accords; Finds the respondent liable in the expenses of the appeal; Remits an account thereof to the auditor of court to tax and to report; Certifies the appeal as suitable for the employment of junior counsel.

[1] This an action by a company in liquidation for payment of certain sums which it avers were unauthorised loans to the two directors, one being the appellant. Following a debate the sheriff granted decree de plano in favour of the respondent. The appellant appeals that decision.

[2] The issues which arise in this appeal relate to the relevancy and specification of both parties’ pleadings. As I indicated during the hearing, it was unfortunate that this was not raised as a commercial cause. If it had been, I would have expected that some of the issues which came before me might well have been resolved at case management conferences. I do not know why that course was not adopted, but in fairness to the respondent it might well have been because its advisers took the view in 2011 that the commercial court in Aberdeen was not  receiving the priority in the court programme which it deserved. That problem has now been resolved and solicitors are encouraged in the future to take advantage of the commercial court which is now properly resourced and prioritised.

[3] In Article 2 of Condescendence the respondent sets out the background to its claim. The respondent is in creditors’ voluntary liquidation, from 3 March 2010. It was incorporated in April 2008 and commenced trading on 8 September 2008. The directors were a Denis Stewart and the appellant. The respondent’s management accounts for the first period of trading to 31 July 2009 are produced. These were prepared by accountants and, the respondent avers, “were seen and approved by the directors”. The appellant, in answer, denies that he ever approved the accounts. He avers that he was not responsible for the day to day running of the respondent’s business and that he took no part in its record keeping or financial affairs. Instead the day to day business was run by Mr Stewart.

[4] In Article 3 of Condescendence the respondent avers that the appellant and Mr Stewart kept directors’ loan accounts which are repayable on demand. By 31 July 2009 the appellant had borrowed over £45,000 and had authorised lending to Mr Stewart of over £46,000. By 1 December 2009 these sums had increased to £51,102 and £48,739. The appellant’s response to that specific averment is: “Not known and not admitted that, by 1 December 2009, the sums dues as averred by the Pursuer. [sic]”  After a general denial, he goes on to aver that esto the entries in the management accounts show that he had a director’s loan, he was unaware of that, and “believed and averred” that the entries are erroneous. (Although later on he avers expressly that the entries are inaccurate and erroneous.) Moreover, the appellant avers that when there is taken into account payments he personally made on behalf of the respondent when it was in financial difficulties and entries in connection therewith and other payments which were wrongly entered into various ledgers, the appellant is due from the respondent a net sum of over £7,000.

[5] In Article 4 of Condescendence the respondent sets out the bases in law for its claims against the appellant. It avers separate bases in law for repayment. First, the appellant is liable to repay the sums borrowed by him. Secondly, as no resolution was passed by the members approving the loans, they were prohibited by Section 197 of the Companies Act 2006. (Nor was a members’ resolution passed within a reasonable period affirming the loans in terms of Section 214 of the Act.) Accordingly, the appellant is liable to account to the respondent under Section 213 of the Act. Thirdly, the appellant is “liable to indemnify the pursuers [sic] for their loss and damage arising from the loans made to him”. Fourthly, the appellant is liable to indemnify the respondent for its loss and damage resulting from the loans authorised by him to Mr Stewart. Fifthly, the appellant is liable jointly and severally with Mr Stewart under Section 213(3)(b) of the Act to indemnify the respondent for its loss from the loans to Mr Stewart. While each of these bases of claim are described as separate, they are not treated in the same way in the respondent’s pleas-in-law, which are, first, a liability to repay the appellant’s loans, secondly, a liability to account for the same loans and, thirdly, a joint and several liability to indemnify the respondent for loss suffered from the loans to Mr Stewart. The appellant, in answer, avers that it is not known and not admitted whether any members’ resolution was passed. There is then a general denial and an express denial of joint and several liability for Mr Stewart’s loans under reference to Section 213(7) of the Act.

[6] I should also mention the averments about a limited company, The Heritage Window and Door Company Limited. The respondent avers that the directors’ loans included a sum of over £49,000 which was provided to that company. The appellant was a director and shareholder of it. That sum was allocated on a 50:50 basis to each of the directors’ loans. In answer the appellant avers that the company was a debtor of the respondent for over £8,000. (A point made clear only by a later averment.) It is in compulsory liquidation. The appellant admits that he was a director and he owned one of the two shares which formed the issued share capital. He goes on to aver that in September 2008 the respondent paid the company “on behalf of the [appellant] and Denis Stewart” £15,000 for use by the company as working capital. Further payments were made by the respondent to the company and suppliers on behalf of the company. Again, these were “on behalf of the [appellant] and Denis Stewart”. The total of such payments, including the £15,000, was the figure of over £49,000 as averred by the respondent, and that it was rightly treated as directors’ loans equally to the appellant and Mr Stewart.

[7] The respondent has an esto case that any payments to the appellant qua creditor were an unfair preference in terms of Section 243 of the Insolvency Act 1986.

[8] Before the sheriff, the appellant criticised the crave which seeks recovery from him of the loans to Mr Stewart. The appellant has averred that he was unaware of the loans. In terms of Section 213(7)(b) of the 2006 Act a director is not liable under Section 213(4)(b) if he shows at the time of the transaction or arrangement he did not know the relevant circumstances constituting the contravention. It was insufficient for the respondent to aver only that the appellant had either authorised the loans or seen or approved the management accounts, without specifying how, in what form and when such authorisation or approval had been given. The sheriff rejected this argument. He considered that there were relevant facts and circumstances which are sufficiently specific and, if proved, set out a relevant case under Section 213. The management accounts are produced. The appellant admits that he was a director and there are detailed averments about e-mail correspondence after the period of the accounts which, if proved, are facts from which the appellant’s approval of the accounts can be inferred. He also founded upon the dictum of Chadwick LJ in Neville v Krikorian [2006] BCC 937 (at p 951E):

“And to my mind, it can properly be said that a director who knowingly allows a practice to continue under which lending by the company to his co-director is treated as acceptable has authorised the individual payments which are in accordance with that practice notwithstanding that he did not have actual knowledge of each individual payment at the time when it was made.”

He also took into account the substantial degree to which the facts and circumstances ought to be peculiarly within the appellant’s knowledge.

[9] In my opinion, the sheriff was right to conclude that the respondent’s averments which form the basis of the claim for payment of Mr Stewart’s alleged loans are relevant. The appellant admits that during the relevant period he was a director. The respondent is now controlled by liquidators whose principal means of obtaining information about its financial affairs are from the books of account and whatever information can be gleaned from its employees, present and former, its customers and suppliers and the directors. No matter what the appellant avers about his restricted role in the management of the respondent, he was still a director and had certain statutory responsibilities which he was bound to discharge. He is, at least in theory, therefore in as good, if not better, a position to know the answers to the questions raised by the management accounts, and whether he approved them or not. Moreover – and it seems to me that this is the crucial point – the respondent offers to prove that the management accounts are an accurate record of its financial affairs. Whether or not they were seen or approved by the appellant is nothing to the point. All that the respondent needs to prove is that loans were made to Mr Stewart without a members’ resolution. In particular, they do not need to prove that the appellant knew or authorised them. That is the effect of Sections 213(1) and 213(3). It is for the appellant to rely upon the exception created by Section 213(7) and to prove that he did not know the relevant circumstances constituting the contravention. The relevancy and specification of the respondent’s case is further bolstered by the e-mail correspondence which post-dates the management accounts but from which the appellant’s knowledge of the financial affairs of the respondent and its management accounts could be inferred. But I do not regard these averments to be essential to support the relevancy and specification of the respondent’s plea. Unlike the sheriff, I do not consider that Neville is in point, given that in that case it was not in dispute that the director knowingly allowed the borrowing even if the exact details were alleged not to be within his knowledge. Moreover, on the facts the court held that it had been established that from and after the relevant date when the statutory accounts were approved by the board the director did know of the company’s practice of lending to the other director.

[10] Before I turn to the sheriff’s decision, it is useful to summarise what appears to be the appellant’s position, however confusing his pleadings might be, in his defence to the action.

In the face of the management accounts, which the respondent offers to prove are its accounts, the appellant’s first response is that he denies approving them. He explains that he was not responsible for the day to day running of the respondent’s business and took no part in its record keeping or financial affairs. That was all done by Mr Stewart. His position on the issue of the Heritage transactions is that he admits that the sum of over £49,000 was paid by the respondent to Heritage, but that this sum ought to have been treated as a debt due to the respondent by Heritage and not as directors’ loans. Consistent with his lack of knowledge of the respondent’s affairs, he does not know, nor does he admit, that the respondent may have loaned monies to Mr Stewart or the amount of these loans. He avers specifically that he did not authorise a director’s loan to Mr Stewart. Specifically in relation to the monies allegedly paid to him, the appellants avers:

“Esto the company records show that the defender had the benefit of a Directors’ Loan then the Defender was unaware that a loan had been recorded against his name. The Defender believes and avers that the entries on the Management Accounts which bear to show the Directors’ Loans as having been obtained by the Defender are erroneous.”

There are obvious problems with these averments: first, they avoid the issue of whether the appellant admits or denies that he received a loan from the respondent - the issue is not whether he was unaware that a loan was recorded, but rather whether he received the loan in the first place; secondly, the averment that he believes and avers something is not supported by averments from which the belief may reasonably be inferred. (Leslie v Leslie 1983 SLT 186 (at p188))

[11] But matters do not end there, because later on in Answer 3 the appellant makes further averments:

“The Defender at no time borrowed any money from the company or received any advances which could be classed as Directors’ Loans and accordingly the entries which show him to have Directors’ Loans are inaccurate and erroneous.”

Thus, albeit in a disjointed manner, the appellant appears to plead that he did not receive any director’s loan and that if there are entries in the management account which show that, they must be wrong - albeit that, for a reason which is impossible to fathom, the last point is stated merely as “believed and averred”, which is illogical: if the appellant did not receive a loan, it follows that any entries stating otherwise must be wrong.

[12] The appellant makes further averments about some of the entries in the management accounts which the respondent avers are payments by way of a director’s loan. The appellant avers that from Autumn 2008 the appellant used his own funds to pay monies into the respondent’s bank account and to pay various bills on its behalf. He refers to a ledger in the management accounts, which sets out these payments. The net result is that the appellant was a net creditor of the respondent for £7,800, albeit that he did not make a claim for payment in the liquidation.

[13] The sheriff was critical of all of these averments on a number of grounds. First, he concluded that on the latter point about reimbursement by the respondent of monies paid on its behalf by the appellant he has not given any specification of what the various bills were which he paid. Secondly, the appellant is inconsistent in that he founds on parts of the management accounts and challenges other parts without proper explanation. Thirdly, the appellant’s “alternative case” that he was unaware that the loans were recorded against him cannot be reconciled with a position that he had no director’s loan because he borrowed no money: “it is self-evident that the defender either had loans or he did not”.

[14] In my opinion, there is confusion about the appellant’s true position – a confusion which is caused in part by the poor drafting of his defences. I deal first with the third criticism. As I read the answers the appellant is not being inconsistent. All that he is averring is that he was unaware of the entries in the management accounts which purport to disclose director’s loans. He is not averring that he was unaware that he received loans – that is expressly denied, albeit at the wrong place in the Answers. He also admits that monies were paid to him, but that these were in refund of monies he had paid on behalf of the respondent. The second criticism is also, in my view, unfounded. The appellant is offering to prove that some of the entries in the management accounts are correct, while others are wrong. I do not see what other explanation he requires to give. The position might be different if he admitted that he had approved the accounts, but in the absence of that it seems to me that there is no inconsistency. There is, in my opinion, more force in the first criticism. Nevertheless, the entries upon which the appellant founds are set out in a nominal ledger within the management accounts. While it is true that the appellant must have knowledge of these, it can also be said that the respondent might have documents which formed the basis of the entries in that ledger. Each entry has an explanation with, presumably, the name of the respondent’s creditor. It seems to me that these entries are matters for proof. The only entry which is not in that form is one for “wages”, but which again is a matter for proof.

[15] I should add that after enquiry by me about how the net sum of £7,800 averred to be due to the appellant was made up, counsel took instructions after which he advised me that this figure is incorrect and that in fact it should be £8,079.69. I do not go into the detail of how that error arose; suffice it to say that it can be explained under reference to the parts of the management accounts which were produced. It was obvious that within the context of what the appellant offers to prove this is a simple error which causes confusion but makes no material difference to the substance of the defence as averred.

[16] In relation to the appellant’s averments in answer in respect of the Heritage transactions, the sheriff also concluded that they were irrelevant. This was because the appellant simply calls upon the respondent to explain the basis upon which the 50:50 treatment of the loans was carried out. Again, I do not agree that this makes the defences irrelevant. The principle answer to the respondent treating the payments to Heritage as directors’ loans is, according to the appellant, that these were monies paid to Heritage and have nothing to do with the directors. Accordingly, says the appellant, they were simply debts due by Heritage directly to the respondent. That seems to me is properly a matter for proof. The call is merely bringing into focus a secondary point being on the hypothesis that the payments to Heritage should indeed be treated as payments to the respondent’s directors whether it is correct in law and fact to treat them as equally divisible between the appellant and Mr Stewart on the basis that each held one half of the issued share capital of Heritage.

[17] The sheriff was also critical of the appellant’s averments about his lack of knowledge of the affairs of the respondent and that the day to day business was run by Mr Stewart. The sheriff concluded, under reference to authority, that this chapter of the defence was irrelevant. I would have agreed with him if the appellant had made out such a defence. But as I understand his position, that is not so. Instead these averments are, in my opinion, merely background narrative which the appellant offers to prove by way of explanation of his lack of knowledge of the management accounts and how various transactions were (erroneously) dealt with in them. There is no plea in law which proposes that his lack of involvement in the respondent’s affairs means that he is not responsible for its actings.

[18] Accordingly, for all the foregoing reasons, I respectfully disagree with the sheriff in his conclusion that the answers in respect of the first crave, being the claim for recovery of the appellant’s alleged director’s loan, are irrelevant and lacking in specification. I will allow a proof before answer in respect of the parties’ averments in respect of that crave.

[19] In reaching that conclusion I acknowledge the criticism by the respondent’s counsel that on the one hand the appellant avers that he took no part in the financial affairs of the respondent but on the other hand avers that he lent monies to it. In Answer 2 the appellant avers that he “took no part in the record keeping or financial affairs of the company”. In Answer 3 he avers that he “took no part in the day-to-day running of the business and was not involved to any extent in the financial affairs of the company”. Pleadings should not be scrutinised as if they are a conveyancing document. They will pass muster provided they give fair notice of what a party’s position in fact and law is and what he offers to prove. In my judgment, these averments are simply untrue and are contradicted by the appellant’s other averments about his involvement in the business by the lending of monies to pay off some of the respondent’s creditors. Of course, it would have been better if the appellant had expressly qualified his averments about his lack of involvement in the business under reference to the contradictory averments. But in the context of poorly constructed answers it is tolerably clear what the appellant’s true position is, namely that he was not involved in the financial affairs of the respondent except in so far as he lent monies to it or was involved in the various Heritage transactions.  These are matters for proof.

[20] I turn now to the appellant’s averments in respect of the alleged loans to Mr Stewart. As I have said, the appellant’s position is that he simply does not know whether or not the respondent loaned monies to Mr Stewart. He did not authorise them. The sheriff is critical of that position, which he describes as “one of mere ignorance”. He goes on:

“He does not aver that the situation was concealed from him, or that any form of fraud or deception was used to prevent him discovering the loans. If he had troubled to look at the records on which the liquidator [sic] discovered the loan entries, he would have been aware of the position. The cases founded upon by the pursuer demonstrate a consistent strand of judicial authority to the effect that passive ignorance will not protect the director who has through inactivity, lack of enquiry or the abdication of his own responsibilities allowed other directors to act to the prejudice of the company. In my opinion, more than this needs to be averred to justify enquiry into a defence based on section 213(7). For the reasons given earlier, I am satisfied on the authorities that the defender’s position in law as a director fixes him with liability in respect of borrowing by his co-director and accordingly a defence based on the pursuer failing to prove any positive act of giving permission or consent is irrelevant.”

[21] With all due respect to the sheriff, I have difficulty understanding his reasoning. As I understand the appellant’s averments, he is not saying that the respondent must prove that the appellant gave permission or consent for Mr Stewart’s loans. That would be an absurd position to adopt standing the provisions of Section 213. All bar one of the authorities to which he alludes do not deal with a defence under Section 213(7). Instead, they merely set out various circumstances which can arise during the lifetime of a limited company – and indeed afterwards. Thus, in Dorchester Finance Co Ltd v Stebbing [1989] BCLC 498, the court was dealing with an action against directors for negligence, as was Norman v Theodore Goddard [1992] BCC 14.  Secretary of State for Trade and Industry v Griffiths (Re Westmid Packing Services Ltd (No 3)) was a case under the Company Directors Disqualification Act 1986. Another authority which the respondent’s counsel relied upon before me was Baker v Secretary of State for Trade and Industry [2001] BCC 273 which, again, was a director disqualification case. The only case which was directly relevant to a defence under Section 213(7) was Neville.  That case concerned the antecedent of Section 213, namely Section 341 of the Companies Act 1985. For present purposes the defence under Section 213(7) is the same as the defence set out in Section 341(5) of the 1985 Act. But it is a case where the facts were materially different, in that the court was satisfied that the director knew of the practice of the company in lending to the other director and that he took no steps to bring it to an end. The question before me and before the sheriff at this stage in the action is whether the appellant should be given the opportunity to prove that he did not know about the alleged loans to Mr Stewart. In my opinion, it is not a requirement of the Section 213(7) defence that, as the sheriffs says, a fraud or deception needs to be averred. The defence is merely lack of knowledge; it is not whether it was reasonable that the director did not know. Doubtless, what a diligent director could or should have done will be a factor for the court to take into account in assessing the credibility and reliability of the evidence led by the appellant. But that is a matter for proof. In my opinion, the averment by the appellant that he simply did not know is a relevant one and ought to be allowed to go to proof.

[22] In reaching that conclusion, I readily accept that this construction of the defence rests uneasily with the statutory responsibilities of a director and the court’s interpretation of them that mere ignorance or inactivity is no defence. But, in my opinion, Section 213(7) must be read on its own terms, namely that simple lack of knowledge will suffice.

[23] I will allow a proof before answer in respect of the appellant’s averments in answer to the second crave.

 [24] I have repelled the two preliminary pleas-in-law which obviously cannot remain if a proof before answer is being allowed. That leaves the respondent’s plea which founded the motion for decree de plano. It really ought to be repelled but to do so would leave no relevancy plea. I have therefore left it untouched, not least to avoid unnecessary delay. Doubtless the respondent will consider whether that plea should be amended into the conventional form of plea for a proof before answer.

[25] Expenses follow success. It was agreed that I should sanction the employment of junior counsel.