HENRY RAYMOND PATON, AS LIQUIDATOR OF RICKY MARTIN (RACING) LIMITED AGAINST KELLY MARTIN, ELIZABETH MARTIN AND RICHARD JOHN MARTIN
SHERIFFDOM OF SOUTH STRATHCLYDE DUMFRIES AND GALLOWAY AT AIRDRIE
[2016] SC AIR 57
L2/11
JUDGMENT OF SHERIFF DEREK O’CARROLL, ADVOCATE
In the cause
HENRY RAYMOND PATON, as liquidator of Ricky Martin (Racing) Limited
Noter
Against
KELLY MARTIN, ELIZABETH MARTIN AND RICHARD JOHN MARTIN
Respondents
Noter: Mr Tariq, Advocate, instructed by Kepstorn, Solicitors
Respondents: Mr Cheyne, Advocate, instructed by Fleming & Reid, Solicitors
AIRDRIE, 3 June 2016
The Sheriff, having resumed consideration of the cause:
Makes the following Findings in Fact:
1. That each of the respondents, Ms Kelly Lynn Martin (“Kelly Martin”), Mrs Elizabeth Martin (“Elizabeth Martin”) and Mr Richard John Martin (“Richard Martin”) were directors of the Company Ricky Martin (Racing) Ltd (“the Company”) from its incorporation in 2003 until its liquidation in 2011.
2. That the Company is a family-owned and family-run business, originally established by the eponymous and now deceased Ricky Martin, father to Kelly Martin and Richard John Martin and husband of Elizabeth Martin.
3. That the principal business of the Company was horse race betting.
4. That in late 2009 to April 2010 the only significant assets of the Company were racecourse betting pitches (“pitches”), located at various racecourses in Great Britain, and a betting shop in Moodiesburn.
5. That in or around September 2009, Kelly Martin approached Eddie Melville, a wealthy businessman who had been a friend of Ricky Martin and who was friend of the family. On behalf of the Company, she sought a loan from him of £10,000 to tide the Company over some financial difficulties. Eddie Melville gave that loan.
6. That late in 2009 the Company was in the process of purchasing a betting shop in Moodiesburn and encountered a delay in obtaining the necessary mortgage which led Kelly Martin, on behalf of the Company, to ask Eddie Melville for bridging finance of £119,000. Eddie Melville gave that loan on the footing that he would be repaid when the mortgage was received from the Clydesdale Bank.
7. That the Company then received mortgage funds from the Clydesdale Bank around January 2010 for the purchase of the Moodiesburn betting shop but it only repaid Eddie Melville £102,000 leaving a balance of £17,000 of the second loan owing to him. He was told by Kelly Martin that the Company had financial difficulties and was unable to repay the whole amount due to him at that point.
8. That Kelly Martin on behalf of the Company and Eddie Melville then entered into discussions about converting the outstanding amount due to Eddie Melville (£27,000 in total) into Company share capital. In pursuance of that proposal, Eddie Melville caused his accountant, Jim Wiley to examine the books of the Company to prepare draft management accounts.
9. That the draft management accounts were based on estimates and assumptions and incomplete information, are therefore are inaccurate and cannot be relied upon.
10. That on 24 January 2010, a meeting was held with regard to the proposal that Eddie Melville convert his outstanding loan into share capital and would make a further advance of cash to the Company in return for shares. At that meeting were Eddie Melville, Kelly Martin, Elizabeth Martin, James (Jim) Wiley, chartered accountant and John Murphy, chartered accountant.
11. That at that meeting, the parties were agreed that further steps should be taken with a view to Eddie Melville taking shares in the Company in due course.
12. That at that meeting, or immediately afterwards, Kelly Martin sought a further loan on behalf of the Company from Eddie Melville for the Company of £30,000 because of Company cash flow problems. That sum was advanced by him on 25 January 2010 to the Company.
13. That as at 25 January 2010, the Company owed Eddie Melville £57,000 all of which was repayable on demand.
14. That Eddie Melville decided that, on the basis of the information available to him for the purposes of the transaction that he intended to enter into with the Company, the value of the Company was £150,000 and that therefore a half share of the Company was worth £75,000. He instructed his solicitors to proceed with drawing up the necessary papers on the footing that he would receive 50% of the share capital of the Company in return for a total payment of £75,000.
15. That Eddie Melville advised his solicitors that since he had already advanced £57,000 to the Company, in order to acquire 50% of the Company at that valuation, an additional payment of just £18,000 was due by him.
16. That Kelly Martin, upon being advised that Eddie Melville proposed to make a further payment of only £18,000 to acquire a 50% shareholding in the Company, decided that the Company would not proceed with the proposal. This was communicated to Eddie Melville’s solicitors and thence to Eddie Melville.
17. That on 23 March 2010, Eddie Melville made it known to Kelly Martin that the proposed deal now not proceeding, he wished repayment of the outstanding £57,000. He was not prepared to postpone repayment.
18. That the Noter’s production 4.1 of process is an accurate copy of the email exchange on 23 March 2010 between the Company solicitor, Gerald Dunkey, and Kelly Martin with regard to the demand for repayment by Eddie Melville.
19. That the Noter’s production 5.1 of process is an accurate copy of the file note of telephone attendance on 23 March 2010 between Gerald Dunkey and Kelly Martin.
20. That on 23 March 2010, Kelly Martin was actively considering the disposal of Company assets including the pitches and the liquidation of the business.
21. That between 25 March 2010 and 14 April 2010, acting on behalf of the Company, Kelly Martin disposed of fifteen pitches to different buyers at different times.
22. That of the proceeds of the sale of those fifteen pitches, £78,458.08 was paid directly to the personal bank accounts of Elizabeth Martin, in several discrete payments, at various dates between 25 March 2010 and 14 April 2010.
23. That the sale of the pitches and the transfer of part of the proceeds to Elizabeth Martin’s personal bank account amounted to trading by the Company
24. That the transfer of £78,458.08 to the personal bank account of Elizabeth Martin was to the prejudice of the other unsecured creditors.
25. That trading was done by the directors of the Company on behalf of the Company as a result of learning that Eddie Melville wanted repayment of his loan.
26. That the Noter’s production number 15 contains a true and accurate record of the sale history of the pitches of the Company showing in particular in respect of pitch sales the dates upon which payment were made for the pitches and the destination of the proceeds.
27. That as of 23 March 2010:
(a) the net value of the pitches then owned by the Company was £109,084.58;
(b) the value of the betting shop before deduction of monies secured over it was about £140,000.
28. That as of 23 March 2010 the total value of the Company’s assets was about £250,000.
29. That as of 23 March 2010:
(a) the value of the mortgage secured over the betting shop was in the region of £120,000;
(b) the Company’s overdraft was approximately £30,000;
(c) the director’s loan owed to Elizabeth Martin by the Company was £172,973;
(d) the Company owed Eddie Melville £57,000 in repayment of the loans advanced by him;
(e) a reasonable estimate of the value of other sundry unsecured creditors was £20,000.
30. That a conservative estimate of the costs of winding up the Company would be between £5,000 and £10,000.
31. That a reasonable estimate of the Company’s total debts and liabilities, excluding the expenses of winding up, was as at 23 March 2010 in the region of £400,000.
32. That as at 23 March 2010, the Company’s assets were insufficient for the payments of its debts and other liabilities and other expenses of insolvent administration: the Company was insolvent.
33. That as at 23 March 2010, the directors of the Company knew or ought to have known that the Company was insolvent.
34. That as at 23 March 2010, there was no reasonable prospect that the Company would avoid going into insolvent liquidation.
35. That as at 23 March 2010, the directors of the Company knew or ought to have concluded that there was no reasonable prospect that the Company would avoid going into insolvent liquidation.
36. That the Company ceased trading on 18 April 2010.
37. That Eddie Melville obtained decree against the Company for £57,000 on December 2010; that decree remains unsatisfied.
38. That the Company went into insolvent liquidation and was wound up on 9 March 2011.
FINDS IN FACT AND IN LAW
That it is appropriate that the directors of the company be declared jointly and severally liable to make a contribution to the company’s assets of a suitable amount equivalent to the amount by which the Company was deprived of assets while the Company traded during a period in which there was no reasonable prospect that the Company would avoid insolvent liquidation.
THEREFORE:
FINDS AND DECLARES in terms of section 214(1) of the Insolvency Act 1986 that Mrs Elizabeth Martin, Ms Kelly Lynn Martin and Mr Richard John Martin, all being directors of Ricky Martin (Racing) Limited (“the Company”), from 23 March 2010 until 18 April 2010 inclusive, knew or ought to have concluded that there was no reasonable prospect during that period that the Company would avoid going into insolvent liquidation, and with that knowledge, then procured that the Company disposed of certain assets being racing course pitches causing part of the proceeds of that disposal, in the sum of £78,458.08, to be paid into the personal bank accounts of said Mrs Elizabeth Martin; declares that said Mrs Elizabeth Martin, Ms Kelly Lynn Martin and Mr Richard John Martin (“the respondents”) are jointly and severally liable to make a contribution in the sum of SEVENTY-EIGHT THOUSAND FOUR HUNDRED AND FIFTY EIGHT POUNDS AND EIGHT PENCE STERLING (£78,458.08) to the Company’s assets; GRANTS decree in favour of the Noter against the respondents jointly and severally for payment of the sum of SEVENTY-EIGHT THOUSAND FOUR HUNDRED AND FIFTY EIGHT POUNDS AND EIGHT PENCE STERLING (£78,458.08) together with interest on that sum at the judicial rate from 14 April 2010 until payment; FINDS the respondents jointly and severally liable to the Noter in expenses of the cause in so far as not previously dealt with; CERTIFIES the cause as suitable for the employment of junior counsel; ALLOWS an account thereof to be given in and remits the same, when lodged, to the auditor to tax and report.
NOTE:
Introduction
[1] This is an action in which the Noter makes an application to the court in terms of section 214 of the Insolvency Act 1986 (“the Act”) seeking declarator that the three directors of Ricky Martin (Racing) Limited (“the Company”), Kelly Martin, Elizabeth Martin and Richard John Martin (“the directors”) are liable in terms of section 214 of the Act to contribute the sum of £78,458.08 (“the contribution”) to the Company’s assets and an order that they pay, jointly and severally, the contribution to the Noter, together with interest and expenses. A number of other ancillary declarators are also sought.
[2] The thrust of the claim made by the Noter is that at a time in 2010 when the Company was in a poor financial position, the directors sold significant parts of the Company’s assets, being racecourse betting pitches on UK racecourses (“pitches”), and diverted £78,458.08 of the proceeds into the personal bank account of Elizabeth Martin instead of the Company. The Noter claims that this was done when the directors knew or ought to have known that the financial state of the Company was such that that the directors knew or ought to have known that there was no reasonable prospect that the Company would avoid going into insolvent liquidation. It is claimed in particular that the trigger for that knowledge was the decision by Eddie Melville, a creditor of the Company, not to make further investment in the Company but to demand repayment of £57,000 which he had previously loaned to the Company. That decision to cease any further investment and to seek repayment was indirectly communicated to Kelly Martin on 23 March 2010.
[3] The respondents, who at all material times were the only directors of the Company, deny liability to make payment of the contribution. Their position is that they did not know and could not have been expected to know that the Company could not avoid going into insolvent liquidation until a time later than the disposal of the pitches and payment to Elizabeth Martin of that sum. The directors’ position is that it was only after suffering unexpected and catastrophic losses following the Scottish Grand National and the Grand National in late April 2010 that the Company reached that position, by which time payment to Elizabeth Martin of £78,458.08, in part repayment of her director loan to the Company, had already been made. After swiftly reviewing the financial position of the Company following those losses, the Company ceased trading.
[4] On 2 December 2010, Eddie Melville obtained decree against the Company in the sum of £57,000. On 18 January 2011 a petition for the winding up of the Company was presented at this court by Edward Melville who is the petitioning creditor and the Noter was appointed as provisional liquidator of the Company on that date. A winding up order was made at this court on 9 March 2011 and on 20 April 2011 a meeting of the creditors of the Company was held in terms of section 138 of the Act.
Procedural matters
[5] This action has had a somewhat lengthy and chequered history. Although Eddie Melville obtained decree against the Company for £57,000 in December 2010 and the Company was wound up in 2011 it was not until December 2013 that the Noter lodged the Note which forms the subject matter of this action. It took some time apparently for the Note to be served on the respondents and the matter then continued on a large number of occasions in this court for various reasons before a proof was allowed in September 2014. That proof was discharged and further diets of proof were set down in 2014 and 2015 all of which for one reason or another did not take place. Further diets were set down again being discharged again for a variety of reasons. It was not until 2 November 2015 that the matter first called before me for the first day of the rescheduled proof. At that stage and thereafter, the parties were each represented by counsel. The proof continued to 3 November 2015, 25 January 2016, 26 January 2016, 22 March 2016 (discharged shortly before that date due to a diary clash on the part of counsel for the respondents) and 19 April 2016. On 4 May 2016 I heard lengthy submissions from the parties (which were helpfully preceded by detailed written submissions and, in the case of the Noter, copies in advance of the authorities upon which that party wished to rely). I am grateful to counsel for their detailed and careful written and oral submissions which I have found very helpful.
The evidence
[6] The Court heard evidence from the following witnesses. On behalf of the Noter, the court heard from the Noter, James G Wyllie, chartered accountant and adviser to Eddie Melville and Gerald Dunkley, solicitor to the Company. On behalf of the respondents, Kelly Martin, fellow director Elizabeth Martin, John Murphy, chartered accountant for the Company and Eddie Melville, the petitioning creditor all gave evidence.
[7] Although the court heard a sizeable quantity of evidence on a range of matters concerning the affairs of the directors, Eddie Melville and the Company, it became tolerably clear by the conclusion of evidence that there was a certain amount of agreement between the parties as to the facts. So, for example it was agreed that various pitches had been sold by the Company and those sales were effected in several transactions, mainly in March and April 2010. They agreed that some of the proceeds of those sales had gone to pay debts of the Company including the Clydesdale Bank which was a secured creditor (secured by a guarantee from Elizabeth Martin). It was agreed that repayment of the Clydesdale Bank as a secured creditor was not a transaction impugned by section 214 of the 1986 Act. It was agreed that the contribution claimed by the Noter represented that part of the proceeds of the sale of the pitches which was paid into Elizabeth Martin’s personal bank account by her daughter Kelly Martin acting as director of the Company between 25 March and 14 April 2010. It was agreed that Eddie Melville was owed £57,000 by the Company and that he obtained decree for that sum in December 2010 which has thus far not been satisfied. Furthermore, the parties were agreed that a central issue was whether during any of the period that the pitches were being sold and the proceeds being put into Elizabeth Martin’s bank account, the company was insolvent, and whether the directors knew or ought to have known that the Company could not avoid going into insolvent liquidation. Another important issue was the nature of the sums given by Eddie Melville and the circumstances in which they came to be paid, to whom and for what reason.
[8] Thus, while I have taken careful note and account of all of the evidence in this case in making my decision, it is not necessary for present purposes to summarise all the evidence given. Instead, I shall briefly summarise those parts of the witnesses’ evidence pertinent to the central issues before going on to summarise counsels’ submissions, then provide my assessment of the witnesses’ evidence, my conclusions arising from that evidence and my final conclusions.
[9] Henry Paton, Noter, chartered accountant and insolvency practitioner, appointed liquidator of the Company on the petition of Eddie Melville who was a qualified creditor. He prepared a table showing which pitches were sold and when and for how much. That table is at number 15 of the Noter’s inventory of productions. That table shows that with the exception of the first pitch at Kelso (sold in October 2009) the date on which payment was received for the remaining 15 pitches were various dates from 25 March 2010 to 9 April 2010 for sums between £1,500 to £19,000. In addition, the table shows that the proceeds of the sale of two Musselburgh pitches on 25 March 2010 went to the Company bank account but that the proceeds of every other sale totalling £78,458.08 went directly to Elizabeth Martin. That sum was the contribution sought in this Note. The payments were authorised by Kelly Martin and he saw emails to that effect. He looked at the material provided by the racecourse pitch administrator (Administration of Gambling on Tracks Ltd), has taken that into account in giving his evidence and is satisfied that his table is correct.
[10] Production 4.1 contains copies of emails to and from Kelly Martin on 23 March 2010 timed at 15.58 and 16.16. They show that Gerald Dunkley, solicitor, had emailed Kelly Martin telling her what he had recently learned which was that Eddie Melville would no longer be entering into a deal with the Company and wanted to know when he would get his £57,000 loan back; that James Wiley, the accountant, had mentioned 3 to 4 weeks to him suggesting also that Eddie Melville “would not be too patient and may resort to serving a statutory notice on the Company as a precursor towards petitioning for liquidation.”. Mr Dunkey went on to say “It sounds as if my hope that the passage of time would calm down matters a little is unrealistic and there is little chance of persuading Eddie to meet face to face or to resurrect any sort of deal involving an injection of capital… I think you probably have to explore the option selling the Musselburgh pitches to see what this could raise. I do not want to go back to Jim Wiley to say anything at this stage as I think I have exhausted any possible negotiations….”. A postscript made reference to a temporary loan by Eddie Melville to finance the purchase of a betting shop and noted that Jim Wiley had told him that Eddie Melville had put up an additional £40,000 also “as a short-term solution to your cash flow dilemma”. The reply from Kelly Martin stated inter alia that “Eddie transferred the money straight into the business account we did not sign anything or agree any payment terms so can repay him any time as we are putting him last in payment order.”
[11] He also spoke to production 5.1 which contains a file note timed at 4.15 on 23 March 2010 recording a telephone conversation between Kelly Martin and the solicitor Gerard Dunkey. The file note was prepared by the solicitor. The file note referred to the email exchange noted above. It recorded that Kelly Martin “is now considering the worst scenario or nuclear option.” By “nuclear option” was meant insolvent liquidation in his view. That meant that possibility was being considered as at that date. It recorded that “they have been looking at transferring the pitches out of the Company into Liz Martin’s name” and she told the solicitor that her accountant, John Murphy, had suggested “there should be nothing to stop this and that he would carry out the book exercise of transferring the value for the Company and setting the value against director loans”. The solicitor suggested various points to consider. Firstly, whether the pitches are transferred into Liz Martin’s name and then sold or whether sold by the Company with the net proceeds being paid over to Elizabeth Martin amounts to the same thing as far as any liquidator appointed to the Company is concerned. Second, the solicitor pointed to the difficulty of paying Liz Martin in reduction of her loan if the remaining assets of the Company did not exceed the Company’s liabilities so far as subsequent liquidation is concerned. He warned that there was “the possibility that the liabilities would exceed the assets and a potential problem may arise on liquidation”. Furthermore, he warned that the loan and property loan are being serviced through the overdraft “which of course is now beyond the agreed £30,000 maximum. It may not be too long therefore before the bank foreclose.” He suggested that Kelly Martin “should immediately contact the interested party in the Musselburgh pitches to see if she can agree a reasonable sale value for the pitch and convert these into cash. Subject to the above provisos the cash could then be paid to Elizabeth to repay some if not all of the mortgage she took out to invest money in the business.” The first sale of the pitches, starting with the Musselburgh pitches, was the following day. The Company ceased trading on 18 April 2010; after the last sale.
[12] In his view, there was as at 23 March no reasonable prospect of the Company avoiding insolvent liquidation. As of that date it would be unable to pay its liabilities as they fell due. In particular, the sum demanded by Eddie Melville of £57,000 was a liability due as of that date since such a debt was repayable on demand. The latest date on which the directors ought to have known that there was no reasonable prospect of avoiding insolvency was the date when they knew the support of Eddie Melville was withdrawn. That was 23 March 2010. On that date, the Company could not meet its debts as they fell due.
[13] He concluded that there had been a breach of the directors’ duties in terms of section 214 of the 1986 Act when he first learned of the sale of the pitches and then investigated and found there was a fairly major problem as at that date. If any director removes assets prior to a liquidation, that alerts him to potential problems. He agreed that identifying assets which were sold before liquidation was only half the problem and that as the liquidator he would need to identify whether the Company was solvent at that time. He was quite clear that the Company was insolvent at the time the assets were sold and in fact in his opinion, the Company had been insolvent throughout the period 8 October 2009 to 9 April 2010. As regards the management accounts which are found at item 3 on the respondent’s first inventory of productions, he reached his view as to insolvency before he had seen them. He very much doubted the accuracy of the figures contained in those management accounts and doubted that the management accounts would be sufficient to form a view as to solvency of the Company.
[14] In his view, where a Company is in an insolvent position, it has a duty to secure the position of all creditors and not to favour one creditor over another. Kelly Martin was not entitled to conclude that the Company was not insolvent. He did take the view that Eddie Melville was owed £57,000 as at 23 March 2010 and that he was pressing at that point for repayment of the loan.
[15] Item 10 of the Noter’s inventory is a statement of affairs prepared by him just before the meeting of creditors which shows an estimated total deficiency of about £94,000. That deficiency does not take account of the director’s loan by Elizabeth Martin of £172,973. The effect of the sale of the pitches was to worsen the Company’s ability to repay its creditors and was therefore detrimental to the interests of the Company’s creditors. The insolvency was caused by the disposal of the Company’s assets, being the pitches and the proceeds being paid not to the Company but to one of the directors, Elizabeth Martin.
[16] Item 7 of the Noter’s inventory of productions comprises another file note prepared by Barrowman Solicitors following attendance at their offices with Kelly Martin and Elizabeth Martin on Tuesday 13 April 2010. That note records discussions about the sale of pitches, paying off overdrafts, the possible sale of the bookmaker’s unit [meaning the bookmaker shop premises] and a meeting with DM Hall that afternoon in connection with that possible sale, liabilities of the shop and payments to the solicitor of his fees from the funds when sold. It appeared from that note that the bank was pressing for payment and so were the solicitors.
[17] If all the pitches and the shop had been sold and the assets kept within the Company, there would not be a business as the pitches and the shop were the only means of doing business. Yet there would still be outstanding debts due by the Company to its creditors including Elizabeth Martin in excess of its assets.
[18] James G Wylie, chartered accountant, advisor to Eddie Melville. He advised Eddie Melville concerning investments in the Company at the end of 2009 and in early 2010 as the Company had cash flow difficulties and Kelly Martin asked Eddie Melville for cash to assist with those difficulties. In addition, the Company was buying a betting shop and it needed a bridging loan for the mortgage. Eddie Melville provided bridging finance. He loaned £119,000 to the Company in one payment and £10,000 in another payment making a total of £129,000 which included £10,000 of working capital. However, when the mortgage was finally advanced, the Company was only able to repay Eddie Melville £102,000 leaving a balance of £27,000 due to him. That then led to discussions between him and Kelly Martin about Eddie Melville possibly purchasing shares in the Company. This was at the beginning of 2010. The proposal was that Eddie Melville acquire 50% of the share capital of the Company. He was to look at the deal and give advice. At the end of 2009 or early 2010, he looked at the financial position of the Company as at 30 September 2009 and produced management accounts. The management accounts were prepared using information provided by Kelly Martin and her accountant John Murphy. He was also given Company records by Kelly Martin. The management accounts provided a snapshot of the Company’s position. However, they were not accurate because the information he had been given by Kelly Martin was incomplete.
[19] There was a meeting on 24 January 2010 about the proposal. Eddie Melville, Elizabeth Martin, Kelly Martin, John Murphy and he were present. At the meeting, Kelly Martin asked for a further £30,000 since she said the Company was short of cash and needed money to pay creditors. Eddie Melville then advanced a further £30,000 the following day by cheque; meaning that the total sum due to Eddie Melville in respect of loans to the Company was £57,000. The proposal at the meeting was (on the footing that the value of the Company was £150,000), that Eddie Melville would acquire 50% of the value of the Company by converting loan capital into shares up to £75,000 and Elizabeth Martin would advance the same amount. That meant that once the full accounts were prepared, Eddie Melville would then advance a further £18,000 making a total of £75,000 for 50% of the Company. Brian Wood, solicitor, drafted a document giving effect to this agreement at the beginning of March 2010. However, Kelly Martin would not agree to what was drafted as she believed Eddie Melville should advance not a further £18,000 but the full £75,000 for 50% of the share capital. Eddie Melville spoke to Kelly Martin, but they could not come to an agreement. So Eddie Melville instructed his solicitors to seek recovery of the loans he had already paid.
[20] In his view, the money advanced by Eddie Melville was essential for the Company. The Company could not pay its debts. Kelly Martin had asked for the £30,000 for that reason. The effect of Eddie Melville not entering into the agreement and seeking repayment of the £57,000 he had already advanced was that the Company could not pay that back. The management accounts he prepared showed that the Company was trading at a loss and withdrawing Eddie Melville’s money would certainly make matters worse. A debt is payable on demand unless there is an agreement to the contrary. He had advised Eddie Melville not to invest anything at all but if he was to invest in the Company, it had to be by way of a shareholder agreement for 50% of the Company whereby he would keep the records and his accountants would keep control over the funds. In his view, the Company was not profitable and was not in a position to pay its debts to other bookmakers and HMRC. The management accounts he prepared could not be relied upon by anyone for a proper understanding of the trading position of the Company. The management accounts could be used as a tool but there was important information missing particularly as regards creditors of the Company such as HMRC. He did not know anything about the sale of the pitches by the Company during March and at the January meeting there was no mention of the sale of pitches.
[21] Three days after the January meeting, a draft agreement was entered into between the Company and Elizabeth Martin for transfer of the pitches to her but he did not know about that at that stage. If he had known that was what the Company and Elizabeth Martin had in mind, he would have advised Eddie Melville that there was no point in discussions with the Company.
[22] Gerald Dunkey, partner in Barrowmans Solicitors, agents for the Company. He was responsible for sending the emails in the name of Suzanne Taylor which are found at 4.1 of the Noter’s productions. The emails were dated 23 March 2010 but he had not seen his file for many years. From his email, it was clear that whatever deal had been contemplated between the Company and Eddie Melville, it was no longer available. The Company was in difficulty and monies had been made available by Eddie Martin. He also prepared the file note at 5.1 of the Noter’s productions and he had the conversation referred to in that file note with Kelly Martin on 23 March 2010. The worst scenario or “nuclear option” he understood was to cease trading. He had no access to the Company accounts at all so could not say what the value of the Company was or its assets or liabilities around that time. All he knew about such matters was what he had been told by the directors, including Kelly Martin.
[23] During the discussion on 23 March 2010, he carried out very broad calculations which however did not include the value of the director loans. He had no independent understanding of the amount and value of Company assets: all information was from Kelly Martin. The file note is accurate so far as he can recall. He was not told by Kelly Martin about sales of pitches. His advice was that if the value of the business outside the value of the shop premises was £250,000, the business was solvent. If the value of the business was £200,000, it was likely to be insolvent. He would also at the meeting on 23 March 2010 have explained what was meant by giving unfair preferences to creditors. He did not advise Kelly Martin that the company was insolvent and to stop trading. That was because he did not have the accounts and he did not therefore know the true value of the assets and liabilities. On the basis of the information Kelly Martin gave him, he believed that the full value of the Company was within the range £250,000 to £200,000. He did not give her any advice to take any particular action. Rather he gave her the consequences of two different scenarios and she then had to make a decision. He did not advise her that repayment of the bank’s loan should be made from the sale of the pitches. He simply advised her on different scenarios. He did not advise her to sell the pitches as soon as possible: as a solicitor he had certain duties which he took very seriously. He advised her to take the advice of her accountant before selling pitches or repaying loans. He did suggest to Kelly Martin that she should find out if she could sell the pitches but that advice was subject to the provisos which he made and which are referred to earlier in the note: that is to say, considerations of whether the Company was solvent or not. So, he did not advise her that she could pay her mother money from the sale of the pitches; he advised her that she could do that if the Company was solvent but he could not advise her that the Company was definitely solvent or not.
[24] As at 23 March 2010, he knew that the Company’s overdraft had been exceeded and that the Company had financial difficulties. The bank held a floating charge over the Company’s assets. The bank also held a security over Kelly Martin’s house and also had personal guarantees. A floating charge meant that if the overdraft were called in, a receiver could be appointed very quickly with consequences for the Company. He made reference to the bank foreclosing in his note. There was a threat of liquidation. There was no doubt that as of that date Eddie Melville was owed £57,000 and there was no doubt that Eddie Melville as at that date was seeking payment of that money and would not be patient. The Company was clearly struggling with trading and although he was not able to advise on the basis of the information he had been given whether the Company was in fact insolvent it certainly might have been. He knew that in addition to the debts he had discussed with Kelly Martin, the Company owed directors for their loans.
[25] At 7.1 of the Noter’s productions is a file note of his meeting with Kelly Martin and Elizabeth Martin. The note was made contemporaneously and is accurate so far as he can recall. The file note at 8.1 of the productions is a file note made by his fellow partner, Stewart McGarrigan. He was not at that meeting. He cannot speak to its accuracy.
[26] Kelly Martin, director of the Company. She, her mother Elizabeth Martin and her brother Richard John Martin were the directors of the Company at all material times. She played the greatest role in running the Company. The other directors had lesser roles in the Company. The Company held the licences for operation of the racecourse pitches. She was the authorised operator of those licences and required personally to be present at the pitch to operate the betting there. Pitches have a value according to their location. Pitches can be sold by auction or privately. Negotiations for sale of pitches can be lengthy.
[27] Eddie Melville was a family friend. He had always been interested in the racing business. He offered to help the Company out in September 2009. At that time, she was driving 1000 miles per week up and down the country to different racecourses. The business was not in financial difficulty at that time. Eddie Melville nonetheless offered her money. Eddie Melville always said that he had a lot of money and that he had a yacht and would invite her and her family out for dinner, providing Cristal champagne. He wanted her to go with him on his yacht and said that he married his mistress and therefore created a vacancy. She was not interested in any romantic connection but he continued to express interest in the family and the Company and asked her if more cash would be useful. She said it would be useful so that she could lay larger bets but the Company did not need it. Eddie Melville nonetheless pressed the money on the family talking about six-figure sums. The cash could have increased exposure to punters. Eddie Melville loaned £10,000 in September 2009 which was paid to the Company. She was not 100% sure how the debt to Eddie Melville grew to £57,000. He did provide a bridging loan for the purchase of a betting shop in Moodiesburn but was unsure about the details. But she did not ask him to invest anything in the Company. The balance of the funds to buy the shop was from Company funds. When he made payments to the Company there was no mention of when the money was to be repaid and she was happy to accept the money. There was no agreement that Eddie Melville would lend £57,000 but Eddie Melville was always offering money to her.
[28] The shop purchase price was £135,000 to be financed by a mortgage. She was not sure of the size of the mortgage, it might have been 70% or 100%. However, the mortgage might have been only 70%. The Company had the resources to pay the balance of the purchase price. She remembered something about a bridging loan but it was 6 years ago and she could not remember exactly what happened. She became pregnant in October 2009. That meant that she could not go to the racing course pitches and therefore she needed to think about the business. After she knew she was pregnant, she decided to sell the pitches. There were loans due by the Company to her mother who had put money into the business after her father died and her mother had also spent some money fitting out the shop but she had no urgent need to get her money back.
[29] As regards the sale of pitches, she said that as a director, she decided the Company should sell the pitches in October 2009. The first pitch sold was in Kelso which was in October 2009. It sold quickly. The next pitches sold were in Musselburgh and Ayr. She put an advert in Racing Post and the AGT Gazette for the pitches so the pitches took 6 months to sell. It can take time and one needs time to negotiate the price. So the start of the decision to sell the pitches was well before March 2010 although the final agreement on price and payment of the price was mostly after 23 March 2010. She had not told her solicitor on 23 March 2010 that she had arranged for sale of pitches but did not remember why. She did not remember any conversation with her solicitor on that date with regard to selling the business or the conversation which is recorded in that file note, 5.1 of the Noter’s productions. She did not remember Mr Dunkey telling her that her accountant had said that the value of the business was £250,000 or that Mr Dunkley had said the value of the business might be less than £250,000. She did not remember Mr Dunkey advising her not to sell anything without speaking to her accountant or getting advice not to sell the pitches and not to repay her mother in respect of her outstanding loans. There was no financial or business information which she had as of March 2010 suggesting that the Company was insolvent.
[30] As regards the file note at 7.1 of the Noter’s productions dated 13 April 2010, that conversation took place after the sale of all of the pitches, bar one. She did not remember that meeting and does not recall the nature of the financial problems referred to in that file note. She was sure however that the Company did not have at that date financial problems. There had been no letters seeking return of the £57,000 to Eddie Melville and the bank had not sought repayment of the overdraft. As for the phrase “cut down the bookmakers this weekend”, she did not know what that meant. At that time, the only business being done by the Company was at the betting shop. She could not explain page 2 of the note where it states that the pitches had not been sold as at that date as she had already sold almost all of them by that date. Her solicitor had never told her that what she was doing with the Company assets at that date was wrong.
[31] The Company stopped trading on 18 April 2010. She never thought when selling the pitches that the Company would go into insolvent liquidation. It was sheer coincidence that it was very shortly after Eddie Melville said that he would not be investing further money in the Company and he wanted his £57,000 back that most of the sales of the pitches went through. There had recently been a race meeting at Cheltenham which had produced good returns for bookmakers who then had spare money to buy pitches. The business was doing well in March 2010. She denied that the Company had any cash flow problems in March or any time prior to that. She denied that the loans from Eddie Melville were cash injections which were needed by the Company. She did not remember anything about the mortgage for the betting shop in Moodiesburn being delayed. However, she imagined it was true that Eddie Melville was approached by her for bridging finance because of the delayed mortgage. However, she did not remember asking him for £119,000 because the mortgage was delayed. Neither did she remember whether he lent the Company that money. Nor did she remember that after the mortgage funds were remitted that Eddie Melville was left owing £27,000. Nor did she remember that at the January meeting she had said that the Company was in financial difficulty and that the Company needed a loan of £30,000 from Eddie Melville. She did however accept that Eddie Melville gave the Company an extra £30,000 by way of a loan. She did not remember whether that additional £30,000 was in respect of an agreement which was being proposed between Eddie Melville and the Company for Eddie Melville to take a shareholding in the Company. She did not remember why the deal fell apart but thought perhaps it was because she was pregnant.
[32] She accepted that the proceeds of the sale of the pitches apart from the first 3 went to her mother’s bank account. Elizabeth Martin knew that the pitches will be sold. She accepted that the management accounts prepared in early 2010 by Eddie Melville’s accountant were inaccurate and speculative and that James Wylie thought so. She accepted that the Company owed £57,000 to Eddie Melville but said that there was a dispute as to when that sum was due. She said that as at March 2010 the Company did have sufficient funds to repay Eddie Melville but it chose not to. She accepted that there had been discussion of a deal whereby Eddie Melville would put capital into the Company. However, she denied that the Company had any cash flow problems and asserted that the Company was completely healthy as regards cash flow in 2010. She did not remember the term “nuclear option” being used in any conversation on 23 March 2010 involving her. She did accept that during the conversation that she had with her solicitor, there was discussion as to whether or not the Company was solvent. She also accepted that when the rough calculations were being carried out as regards solvency of the Company on 23 March 2010, missing from the calculations was the whole of the sum due to directors for directors’ loans amounting to between £160,000 and £170,000. Nonetheless, she did not accept that taking account of that liability of the Company together with the other figures as regards assets and liabilities that the Company was insolvent as 23 March 2010.
[33] Returning to the file note, 5.1 of the Noter’s productions, she did accept that as at 23 March 2010, the Company had exceeded its overdraft limit and that the loans were being serviced through the overdraft. She was aware that if the bank foreclosed, the effect would be that the Company would have to stop trading. She maintained however that her solicitor had told her it was alright for her to sell the pitches. She accepted that the value of the pitches as at March 2010 was about £109,000 net. She now accepted that the betting shop was bought for £135,000 on a 70% mortgage, that £57,000 was owed to Eddie Melville and there were directors’ loans of £160,000 to £170,000. However, she said that no claim for repayment had been made in writing by Eddie Melville. She accepted the Company had also other trade debts and also an overdraft of at least £30,000. However, no one was pressing for payment.
[34] She did not accept that as at 23 March 2010 the Company was heading towards insolvent liquidation. She denied selling the pitches because the Company was in financial difficulties insisting that it was because she was pregnant. She denied that the steps taken from 23 March 2010 were to put assets out of the hands of creditors and said the timing was just a coincidence.
[35] If it had not been for the “double whammy” of losses at the Grand National and the Scottish Grand National on 10 and 17 April 2010, the betting shop would have continued trading and the Company could have continued in business. Unfortunately, no books or accounts concerning the losses at the betting shop are available because they were all destroyed, by accident, after the shop was closed down.
[36] When selling the pitches, she’d already made up her mind that the proceeds were going to be passed to her mother and not the Company. It was decided to sell the betting shop after it was decided to stop trading, that is after 18 April 2010. She did not remember when the shop was sold or how much it fetched although she accepted that a ballpark figure of £140,000 might be accurate.
[37] Elizabeth Martin, director and mother of the other two directors. She has had a number of serious health issues in the last 10 years including two brain aneurysms. That has badly affected her memory. She had very little memory of the events of 2009 and 2010 and very little memory of the affairs of the Company over that time. Kelly Martin dealt with all matters relating to the Company. She accepted receiving about £78,000 from the Company in 2010.
[38] Eddie Melville was a friend of the family from before the time her husband, Ricky Martin died. She vaguely recalled that he gave some money to the Company and that was in order to impress her daughter. She vaguely remembered a meeting in her house but did not recall the contents of that meeting. She had no recollection of a draft agreement at Noter’s production number 6 concerning the proposed transfer of pitches to her. The date of 23 March 2010 had no significance for her except that it is her son’s birthday. She knew nothing about cash flow problems or other financial difficulties of the Company. She knew nothing about the cost of the shop or the mortgage over the betting shop or the deposit. She was aware that race course pitches were sold in March and April 2010. She accepted that she had a director’s loan of about £172,000 to the Company. She accepted also that Eddie Melville believed that he was owed £57,000 by the Company. As at 23 March 2010, she could not say what the Company’s assets and liabilities were.
[39] John Murray, chartered accountant, adviser to the Company. He had had dealings with the business for at least 20 years and he incorporated the business about 12 years ago on behalf of the deceased Ricky Martin. After his death, Kelly Martin took over running the business with her mother and brother as the three directors and shareholders. The betting shop price was £140,000, with VAT of £28,000 in addition, an unexpected extra which had led to cash flow problems. In 2009, Eddie Melville came on the scene. The Company had cash flow problems at that time because of the unexpected VAT on the shop and in addition the overheads in the shop were higher than expected. The cash flow problems however were not serious enough to cause the business to stop trading. Elizabeth Martin used her savings to assist the Company.
[40] He was introduced to Eddie Melville at a meeting in January 2010. Discussion at the meeting concerned Eddie Melville taking on half of the share capital of the business. His accountant, Jim Wiley, was there. Jim Wiley had produced a set of management accounts, based on books he had supplied, up to September 2009 which indicated that the business was worth £10,000 and that it had lost money up to September 2009. The accounts were not distributed. At the end of the meeting, it was agreed that Eddie Melville would take a 50% stake in the Company.
[41] The last accounts he had prepared were up to December 2008, which was over a year previously. He did not prepare management accounts for the 2009 period because all the records were with Eddie Melville’s accountants. He was not given a copy of the management accounts. However, the advice that he generally gives to directors as regards management accounts is that they are of little value. He terms them “Mickey Mouse accounts” and advises his clients not to rely on anything in them. In his view, the Company was still solvent in January 2010. However, he never got the books back. Therefore, his knowledge of the Company’s affairs ended early in 2009 and his opinion as to the state of the Company affairs after that time could only be a matter of conjecture.
[42] At the end of the meeting, he had thought that there would be a deal done between Eddie Melville and the Company. He advised Kelly Martin that the business was worth more than £10,000 and she should be looking for more. He suggested that share capital of £100,000 be issued which would then be taken on a 50-50 basis by the Company and Eddie Melville. Therefore, Eddie Melville would be paying £50,000 for the business. He put that proposal to his accountant, Jim Wiley who said that seemed a fair valuation and said he would put it to Eddie Melville. Jim Wiley reverted to him and said that the valuation was agreeable. These discussions took place in February or March 2010. Then from his perspective, it all went quiet. He wanted action to be taken in order to stop the Company from becoming insolvent so he suggested that there should be a further issue of share capital in any event with a conversion of the directors’ loans to equity.
[43] Eddie Melville lent the Company £27,000 in 2009 without any document of debt and after the January 2010 meeting he injected a further £30,000 into the Company. There was no document of debt concerning that sum either. Kelly Martin told him that £30,000 was for a loan which by definition is normally repayable on demand. There was no discussion with Kelly Martin regarding a time limit for payment of the loan.
[44] However, the share transaction was not completed. Eddie Melville withdrew. He did not know why. He did not know about the sale of the pitches until after the event. He did not give advice that the pitches should be sold except to say that if they were sold then all proceeds should go to the Company’s bank. If the proceeds were in fact paid to Elizabeth Melville, that would have been against his advice. He was not consulted by Kelly Martin concerning selling of pitches. The pitches were sold, so far as he understood, because she was pregnant. He did not know whether there was a pressing business need to sell the pitches as he has not seen the Company’s books. If one removed the value of the pitches from the company’s accounts, the only asset left in the Company was the betting shop which was valued at nowhere near £200,000, not even £150,000. He did not know until it was put to him in cross-examination that there was a debt owed to the bank in respect of the shop. He did not know that the Company had exceeded its overdraft limit. He knew that the Company had a term loan from the bank but not the size of that loan or the term.
[45] In April 2010 he gave advice to the directors that the Company ought to be voluntarily dissolved. He had been told that the Company had lost heavily at the Grand National one week and the Scottish Grand National the following week although he had never seen any financial information to that effect. This is what he had been told by Kelly Martin. He had no direct knowledge of how the Company was operating financially.
[46] When assessing the expenses of winding up a Company, he would not be surprised if they came to £20,000 but would not be surprised if they came to £10,000 either.
[47] If the Company had been solvent at the time that it made the payment to Elizabeth Martin, there would have been nothing wrong with a payment to her to offset her loan to the Company. It could however amount to an unfair preference if the Company were insolvent at that time or if there were a pending insolvency. If the payment were to make the Company technically insolvent, that would not be wrong unless another creditor was looking for payment. A mere cash flow blip would not oblige a firm to stop trading and here a director had injected money in the past. He did not recommend a transfer of pitches on 23 March 2010 although he may have mentioned it. His preference was to create a second ranking security of the pitches in favour of Liz Martin. However, that could not be put in place because it would have been attacked as an unfair preference to her. The option suggested in the first paragraph of the file note of 23 March 2010 would not have been permissible as that too would have amounted to an unfair preference.
[48] Eddie Melville, businessman, company director and creditor of the Company. He knew Ricky Martin for 20 years before he died. He had an interest in bookmaking at one point, had an interest in horses and knew something about the business. He liked and trusted Ricky Martin and after he died, remained friendly with his family including Kelly Martin and Elizabeth Martin. There was no formal documentation for the loans he subsequently made to the Company because he had known the family for so long and thought he could trust them.
[49] The Company, through the agency of Kelly Martin, borrowed £10,000 from him at some point when the Company was buying a shop to use as a betting shop. Then Kelly Martin told him that there was a delay in the mortgage coming through and she asked him for a further loan of £119,000 to bridge the loan. He lent the Company that money. However, when the mortgage came through Kelly Martin told him that she could only pay him back £102,000 leaving him £17,000 short and a total sum outstanding due to him of £27,000. Kelly Martin then asked him whether he would be interested in buying 50% of the business. He said that he might be but would first of all have to get his accountant to have a look at the books. The £27,000 then outstanding was a loan to the Company which was on an open ended basis and he understood the Company was going to pay him back when the Company had the money.
[50] There then followed a meeting at Elizabeth Martin’s house with accountants, Kelly Martin and Liz Martin. It was agreed at the meeting that the value of the business was £150,000 so that a half share would be worth £75,000. The Company owed him £27,000. He agreed to that. They shook hands on a deal. Then Kelly Martin asked him for a further £30,000 which she said she needed to keep the Company going; to pay bills for the shop. That was in anticipation of completion of the purchase of 50% of the share capital of the Company. He then arranged for the £30,000 to be paid to the Company the following day. As far as he was concerned, it was very clear that the total amount that he would pay for a 50% share was under deduction of the sums that he had already paid.
[51] He went on holiday. Shortly after arriving on holiday, he got a phone call from Kelly Martin who was at his lawyer’s office. She was upset that she was only going to be given an additional £18,000 in return for the 50% share of the business. He explained to her that the £18,000 simply represented the balance of the £75,000 agreed and that he had already paid £57,000. Kelly Martin said that she could not take that. She did not agree that the £75,000 was subject to deduction of the £57,000 he had already paid to the Company. He then asked about repayment of the money already loaned to the Company and Kelly Martin told him that she would sell some pitches and pay him back which would take about 6 weeks. On his return from holiday, he discovered that pitches had been sold but he had not been repaid any money. He tried to speak to her about it but he got no answer. He then instructed solicitors to attempt to recover the £57,000 due to him and then obtained decree. He has not yet been paid.
[52] It was completely untrue that he wanted a relationship with Kelly Martin, or that he was courting her, or that was why he had lent the Company money or that his feelings for her changed when he discovered she was pregnant.
Submissions
[53] Because both counsel helpfully provided detailed written submissions (which were then supplemented orally), it is unnecessary for me to recount the whole of what was submitted to the court. What follows is a brief summary of the principal points made on behalf of each of the parties. The parties however should be assured that I have taken into account all of the evidence and everything that was submitted to me, orally and in writing, in making my decision.
[54] Counsel for the Noter first dealt with the law in relation to section 214 of the 1986 Act (all references hereon to sections being to the 1986 Act) and submitted as follows. Section 214 is directed to situations such as where directors pay themselves large fees or run up credit when the Company is obviously going into liquidation or where they recklessly overtrade. The duty on directors is to cut potential losses to the Company’s creditors which involves having regard to the interests of creditors as a class. A director cannot have regard to the interests of one unsecured creditor alone to the detriment of others. Reference was made to St Clair and Drummond-Young, The Law of Corporate Insolvency in Scotland pages 298, 300. There were two conditions for the section to apply. First, the Company must have gone into insolvent liquidation and secondly, at some time before the commencement of the winding up of the Company the director knew or ought to have known there was no reasonable prospect that the Company would avoid going into insolvent liquidation. Where those conditions are met the court may, on the application of the liquidator, declare that the director in question is liable to make a contribution to the Company’s assets. The power of the court is a discretionary power having regard to all the circumstances. Guidance as to exercise of this power may be found in the leading case of Re Produce Marketing Consortium Ltd (No. 2) (1989) 5 B.C.C. 569. Here, the Noter seeks a contribution to the Company’s assets which is compensatory rather than penal and represents the sum by which the Company’s assets were depleted by the respondents’ conduct, being the sum which was paid into Elizabeth Martin’s bank account following the sale of the pitches, which was done to the detriment of the general class of creditors.
[55] There is a defence in section 214(3) if a director can show that he took every step with a view to minimising the potential loss to the Company’s creditors that he or she ought to have taken. The onus of proof is on the director. In this case, the three directors concerned have not pled that defence and have led no evidence in support of that defence and therefore that defence is not available to them.
[56] Insolvent liquidation is defined in section 214(6) and reference was made to St Clair and Drummond Young at paragraph 8.13 for a definition. The liabilities include the costs of the winding up. The assets are valued on a breakup basis.
[57] In terms of section 214(4) there are two tests in assessing the facts which a director ought to know or ascertain, the conclusions that s/he ought to reach and the steps which s/he ought to take. The first test is an objective test where the court asks what would a reasonably diligent person having the general knowledge, skill and experience reasonably to be expected of any person carrying out the same functions have concluded about the prospects of the Company avoiding insolvent liquidation and have done to minimise the loss. In addition, the court takes account of the general knowledge, skill and experience that the director actually had. Thus the test is twofold having both objective and subjective elements. The subjective test only increases the standard incumbent on the director, the objective test setting the minimum standard.
[58] Finally, so far as the law regarding loans is concerned, there is clear authority from the House of Lords that a loan is repayable on demand unless there is some agreement to the contrary: Neilson v Stewart 1991 SC (HL) 22.
[59] So far as the evidence was concerned, counsel invited the Court to accept the evidence of the Noter’s witnesses preferring that in particular to the evidence of Kelly Martin where there was any difference between them and invited the Court to find that on the evidence, at least by 23 March 2010, the directors knew or ought to have known not only that the Company was insolvent but that the Company had no means of avoiding going into insolvent liquidation. Furthermore, I was invited to disbelieve the evidence of Kelly Martin that the Company was trading solvently throughout March 2010 and that it was only the “double whammy” of the results of the Scottish Grand National and Grand National in April which brought about the insolvency of the Company. I was also invited to disbelieve her evidence that the timing of the sale of the pitches was not causally connected to the decision by Eddie Melville to seek repayment of his loan and that closeness of time between the two events was mere coincidence.
[60] Counsel for the respondents invited me to dismiss the Note. So far as the law is concerned, he also took me through the terms of section 214 of the 1986 act. He emphasised that the relevant question to be determined by the court is whether the directors knew or ought to have concluded that there were no reasonable prospects of avoiding insolvent liquidation, that the test is not a retrospective one and depends on the rationality of the behaviour of the directors (see also Re Kudos Business Systems [2011] EWHC 1436 (Ch) in that respect) and referred me to what was said in Hawkes Hill Publishing Company Ltd [2007] BCC 937, paragraph 28 to 41. I was also taken to Re CS Holidays Ltd [1997] 1 WLR 407 and BNY Corporate Trustee Services v Eursail UK2007 [2013] 1 ELR 1408 for the propositions that section 214 does not impose an obligation not to trade whilst insolvent if there is an anticipation of future profitability, and the directors may sell or borrow to avoid an insolvent situation as long as there is a reasonable prospect of avoiding insolvent liquidation. From Re continental Assurance Co Ltd [2001] BPIP 733 and Roberts v Frolich [2011] EWHC 257 (Ch), one can see that the court has a certain amount of discretion available when assessing the conduct of the directors at the material time. The professional advice given to a director is of significance in determining whether a director ought to be found liable: see Grant v Ralls [2016] EWHC 243 (Ch) (which at paragraph 191 also provides an analysis of the correct approach to the application of the test contained within section 214).
[61] He submitted that on a proper construction of section 214, before liability can be established against a director there must be: an insolvency; no reasonable prospects on an objective basis of the Company avoiding insolvent liquidation before trading begins or has continued; the trading in question must be incompatible with the director’s obligation to take every step with a view to minimising potential loss to the Company’s creditors; there must be evidence of actual or imputed knowledge on the part of the directors, at the time of the impugned trading, that the Company could not avoid insolvent liquidation; and finally that any actions or omissions on the part of the director would make that prospect more or less likely.
[62] Despite having made such submissions at the outset, during the course of subsequent discussion, counsel appeared to suggest that the duty on a director to take all reasonable steps with a view to minimising potential loss to the Company’s creditors, which is incumbent on all directors in a situation of insolvency, was not relevant to considering whether a director should be liable under section 214. I have to confess that I did not understand that part of his submission. Finally, he accepted that the law is quite clear that in the absence of agreement to the contrary, a loan is repayable on demand.
[63] Turning to the facts, counsel invited the court to conclude that on the evidence, the disposal of the Company assets, being the pitches, did not amount to “trading” at all and therefore the question of “wrongful trading” arose. That was because the business of the Company was betting and not buying and selling of pitches.
[64] Counsel submitted that if that proposition was wrong and the disposal of the pitches was trading for the purposes of section 214, there was no evidence of wrongful trading by any of the directors. In selling the pitches and paying the proceeds to Elizabeth Martin, the Company extinguished the indebtedness it had to her to that extent. The directors’ obligation was to the whole body of creditors including Elizabeth Martin and Eddie Melville. By paying Elizabeth Martin the directors reduced the potential losses to the Company’s creditors. There is nothing, it was submitted, in section 214(3) that obliges the Company to treat the Company’s individual creditors equally.
[65] Furthermore, on the evidence, it could not be concluded that the directors knew or ought to have known that the Company had no reasonable prospect of avoiding insolvent liquidation on 23 March 2010. As at that date, there were no pressing debts that might have precipitated such a liquidation. The loan by Eddie Melville was informally constituted and did not require repayment until the Company was able to repay it. On the evidence of Mr Murphy and Kelly Martin, the decision by Eddie Melville not to proceed with investment in the Company had no impact on the question of the Company’s ability to trade.
[66] In any event, the decision to sell the pitches had been embarked on some time prior to 23 March 2010 and was due to the pregnancy of Kelly Martin and not in any way due to any decisions made by Eddie Melville. The timing of the sale of the pitches was coincidence. Furthermore, the evidence of Kelly Martin was that the Company ceased to trade because of poor results at the Grand National and the Scottish Grand National. Had it not been for those results, the Company would still be trading, on the evidence of Kelly Martin, and it was only that unfortunate combination of events that led to the insolvent liquidation. That could not have been anticipated and therefore the selling of the pitches before the date of those two races in April was not wrongful trading.
[67] Finally, on the evidence, it is clear that Kelly Martin took professional advice from her solicitor and she acted prudently with regard to her obligations as a director. She did not receive advice that the Company should cease to trade and John Murphy agreed with the proposition that the Company was not in a position in March 2010 of being unable to avoid insolvent liquidation. On all the evidence therefore the conditions in section 214 were not made out and the Note ought to be dismissed.
Discussion and decisions
[68] The law. It seems to me that there was, with one notable exception, little dispute between the parties as to the applicable law in this case and I accept the submissions of both of the parties as regards the law and the approach that should be taken when applying the law to the evidence. That exception relates to the duties of a company director where a company is in an insolvent situation. While the submissions of counsel for the respondents did appear to change as discussion proceeded, I do not accept his proposition, as I understood it, that although it is almost trite law that a company director owes a duty to all creditors as a class to safeguard the assets of the company for that group as a class and not to favour one creditor over another when the company is in an insolvent situation, that duty does not bite when one is considering liability under section 214 and that nothing in section 214(3) obliges a company to treat all creditors equally. He offered no authority for that proposition. I do not accept it.
[69] The witnesses. The first witness was the Noter himself who gave evidence for over one day and who was subject to robust and searching cross-examination. I found him to be an honest and reliable witness who gave his evidence to the best of his ability, conscious of his obligation to answer all questions fully and to the best of his ability. He is a very experienced accountant and insolvency practitioner who had spent a considerable period of time prior to this proof investigating the financial circumstances of the Company and exploring in particular the series of transactions undertaken by the Company in selling the pitches, most of which resulted in a sale after 23 March 2010. He gave clear evidence which I accepted that at least as at 23 March 2010 the Company was insolvent. Not only that, he concluded that the directors ought to have known that. Furthermore, he concluded that the directors ought to have known in addition that standing the condition of the Company finances as at that date and particularly standing the decision by Eddie Melville, communicated to Kelly Martin on that date, that there were no reasonable prospects of the Company avoiding insolvent liquidation. I accepted that evidence.
[70] The court heard from James Wiley, chartered accountant and adviser to Eddie Melville. I had no difficulties in accepting the evidence of this witness as credible and reliable. I also find he was a knowledgeable and experienced chartered accountant experienced in the business world and well used to the way in which Eddie Melville did his business.
[71] Gerald Dunkley, solicitor, similarly gave his evidence in my view credibly and reliably, in so far as matters were within his knowledge. On some matters, he was unable to give clear evidence because he had not received up-to-date information about the affairs of the Company since around the beginning of 2009 and accordingly his understanding of the Company was somewhat out of date. It is also quite apparent from the evidence that he therefore had to rely for information about the Company’s affairs on what he had been told by Kelly Martin. In that regard, it was quite clear that he had not been given complete and accurate information by Kelly Martin before he gave advice. In that regard, he of course cannot be faulted. On the matters of whether the Company was insolvent and whether the directors ought reasonably to have known that the Company could not avoid insolvent liquidation, I prefer the evidence of the Noter and James Wiley to his given their greater knowledge and understanding in this area and the greater knowledge that they had of the Company affairs.
[72] I did not regard Kelly Martin as a credible or reliable witness. I consider that her evidence was not in all respects credible or reliable. In particular, I do not accept her evidence with regard to the way in which Eddie Melville came to loan money to the Company. I regarded her evidence in that regard is unsound, inherently unlikely in parts and in places wholly fanciful. I do not accept that money was offered to the Company by Eddie Melville because of a personal attraction that Eddie Melville had for her. I do not accept that the Company was not in financial difficulties in late 2009 and early 2010. On the contrary, the great weight of evidence is firmly to the effect that the Company was in financial difficulties at that time and that is why Eddie Melville, a family friend known to be wealthy, was invited to provide financial assistance. I do not accept Kelly Martin’s evidence that the only reason why the pitches were sold was because she was no longer able to operate the pitches personally due to her pregnancy. While I accept, without deciding the issue or needing to decide the issue, that she may well have had preliminary discussions with possible buyers prior to 23 March 2010, that is more likely to have been in the context of the financial difficulties which were already upon the Company by the end of 2009 and the beginning of 2010. The first Eddie Melville loan was in September 2009.
[73] Importantly, I accept the evidence that all of the sales of the pitches which are struck at by this application to the court took place very shortly after 23 March 2010 which was the date upon which she learned that Eddie Melville would no longer be proposing to invest in the Company and wanted return of his £57,000 which Kelly Martin must have known the Company could not afford to pay. The evidence is that where the parties are agreed on a price, transfer of the pitches can take place rapidly. This is what I find occurred. Furthermore, I do not accept her evidence that she did not believe that the Company was insolvent and unlikely to avoid insolvent liquidation as at 23 March 2010 after learning of Eddie Melville’s decision. The contemporaneous evidence constituted by the email exchange of that date and the file note of discussions with her own solicitor amounted in my view to powerful evidence that she knew that the effect of Eddie Melville’s demand for repayment was catastrophic for the Company. She knew that the Company could not afford to pay the £57,000 and she knew that Eddie Melville would not wait long for his money and she knew too, considering her knowledge of the rest of the financial position of the Company, that insolvent liquidation was inevitable. It is that which she had in mind when she referred to the “nuclear option” on that date. She knew or ought to have known that in selling the pitches, she was doing nothing to prevent the insolvency of the Company. On the contrary, by selling one of the only two income producing assets of the Company, she could only be hastening its end. She knew that in selling the pitches, the proceeds ought to have gone into a Company bank account. That indeed was exactly the advice that she was given by John Murray. She was told that choosing to pay her mother, another of the Company directors, would be struck at if the Company were to go into liquidation if the Company was insolvent, which it was and which she knew or ought to have known. Nonetheless, she chose to pay a large part of the proceeds of selling the pitches to her mother in part satisfaction of her mother’s Company loan. In doing so, she consciously chose to prefer one creditor, being a Company director, over any other creditor prior to the inevitable liquidation.
[74] Finally, I do not believe Kelly Martin’s evidence that the Company was trading satisfactorily throughout March and in the early part of April and that it was only the “double whammy” of bad results (from the Company’s point of view) in the Grand National and the Scottish Grand National (held on 10 April 2010 and 17 April 2010: see production 13.1) which put the Company into insolvency. I do not believe Kelly Martin not only because of the overwhelming evidence pointing to the insolvency of the Company prior to the date of those two race meetings and what must have been her knowledge of that but also because on 13 April 2010, she met with her solicitors and discussed the financial difficulties of the Company, the sale of pitches and also the sale of the bookmakers unit, an appointment already having been made with DM Hall on 13 April 2010 (see production 7.1 being the file note of the meeting with her solicitor). That in my view clearly demonstrated that even before the date of the second of those two race meetings, advanced steps had already been taken to dispose of the remainder of the assets of the Company. Furthermore, there were no financial records or other material of any kind whatsoever supporting the contention by Kelly Martin that not only was the Company in a good state financially before those two race meetings but also that it was the “double whammy” of losses from both of those meetings which brought the Company to its knees. I simply did not believe the unevidenced explanation for the lack of financial records being that those records were somehow accidently lost after the bookmaker shop was sold. In my view, throughout this action, and in her evidence, Kelly Martin has in material respects, provided to this court a fabricated account of her involvement with the Company and its financial affairs.
[75] The evidence from Elizabeth Martin was of very limited significance given that she claimed not to have any knowledge of the affairs of the Company owing to illness. I cannot say whether that ignorance of the affairs of the Company is feigned or not and it is unnecessary for me to decide that. It is however clear that even on her limited evidence, she knew she was a director of the Company, that the pitches had been sold and she knew that a large part of the proceeds of the sale of the pitches went into her bank account and that her daughter, Kelly Martin had authorised that and she knew that the reason for payment was because she had an outstanding directors’ loan, although she claimed she did not know the size of that loan. I conclude from that evidence that she was at the material time, that is March and April 2010, a director of the Company, had either actual or at least imputed knowledge of the affairs of the Company and had actual knowledge that the Company had paid her a sizeable amount of money in April 2010 resulting from the sale of the pitches. As regards her evidence about Eddie Melville being sweet on her daughter, I do not accept that evidence and much prefer that of Eddie Melville himself.
[76] John Murray, solicitor, gave evidence. I found him to be credible and that he did his honest best to be of assistance to those questioning him. However, that his evidence like that of Gerald Dunkey was affected by the fact that he had no first-hand knowledge of the affairs of the Company and that he was to a large extent relying on his historical knowledge of the Company and information provided to him by Kelly Martin. That information provided to him by Kelly Martin was not in all respects accurate and that necessarily would have influenced the advice that he gave to Kelly Martin. I therefore accepted his evidence subject to those considerations.
[77] Eddie Melville gave evidence in a rather direct, blunt and ingenuous fashion. While at times, his grasp of all the details of the different payments that he made and received from the Company and sequence of events was not always as secure as it might have been, that in my view was due simply to the passage of time and the fact that he was giving evidence without the benefit of any notes or productions with regard to those details. On the substance of the case and his involvement in the affairs of the Company, I had no hesitation in accepting his evidence as credible and reliable. His involvement in the Company and his generosity to the Company was based on his long association with the family and in particular his friendship with Ricky Martin who gave his name to the Company. I accept that his unusual manner of transacting sizeable loans without loan agreements was a particular characteristic of his based on his trust of the Martin family given his long association with the family and her father. I accept also his account of the reasons why the money was given (that is it was sought by Kelly Martin because the Company was in financial trouble) and that he was prepared to enter into a further financial arrangement with the Company, giving him a 50% shareholding but that deal was rejected at the last moment by Kelly Martin. I also accept his evidence that at that point he decided he had had enough and wanted return of his £57,000, that he was promised by Kelly Martin that he would get it back and she would be selling pitches to do so, but that she did not fulfil her promise which led to his raising an action for payment.
[78] On the whole evidence, I conclude that as at 23 March 2010, not only was the Company insolvent, the Company was inevitably heading for insolvent liquidation. Furthermore, I conclude that the steps then taken by Kelly Martin and her mother, being the sale of the pitches, the utilisation of the proceeds firstly to pay off a secured loan (which transaction has not been subject to any adverse criticism in these proceedings) and secondly, and crucially, to pay the sum of £78,458.08 into the personal bank account of Elizabeth Martin, amounts to trading within the meaning of section 214. Further, I conclude in terms of section 214(2) that Kelly Martin knew or ought to have concluded that there was no reasonable prospect that the Company would avoid going into insolvent liquidation applying the objective and subjective tests set out in subsection (4). I conclude on the evidence that she had actual knowledge of the true state of the Company finances, that she was the driving force in the Company’s affairs and that it was due to her actions that the Company commenced trading wrongfully in terms of section 214 and I conclude she knew at the time that she took the steps that she did in selling the pitches and paying a large amount of those proceeds into her mother’s bank account, that the Company was insolvent and that insolvent liquidation was inevitable. Even if I had not been persuaded that she had the actual knowledge of the state of the Company affairs that she did, I find on the basis of the evidence of the other witnesses, especially the Noter, and James Wiley, that on the objective test in subsection (4), she ought to have known or ascertained the true state of affairs and that the steps which she ought to have taken, judged objectively, would not have been to trade wrongfully at least from 23 March 2010 and in particular she ought not to have sold the pitches, transferring a large proportion of the proceeds of the sale into a fellow director’s bank account.
[79] So far as the director Elizabeth Martin is concerned, I cannot conclude that she had the same degree of actual knowledge as her daughter Kelly Martin had concerning the financial affairs of the Company. However, I do conclude that she had a significant actual knowledge as to the true state of the Company’s financial affairs. She was present at the meeting in January in which Eddie Melville agreed to provide financial support to the Company and an advance of £30,000. She knew that the pitches were sold and she knew that a large part of the proceeds entered her bank account. I conclude also that she knew or ought to have concluded there was no reasonable prospect that the Company would avoid going into insolvent liquidation, applying the objective test in subsection (4) taking account of the facts as she ought to have known or ascertained them.
[80] So far as the director Richard Martin is concerned, he gave no evidence and he was referred to only fleetingly in the evidence of others. It is clear that he did not play a major part in the operation of the Company. His practical role appears to have been concerned mainly with the operation of the betting shop in Moodiesburn. Nonetheless, he, like his mother and his sister, was a Company director and he had the same duties as they did in relation to the operation of the Company. In my view, it is no answer for a person in his position to say that he lacked detailed knowledge of what was happening within the Company of which he was a director. He is under certain duties and in particular, he has exactly the same duties as his mother and sister with regard to section 214. Accordingly, again I find that applying the objective standard, he ought to have concluded there was no reasonable prospect that the Company would avoid going into insolvent administration taking account of the facts as he ought to have known or ascertained them.
[81] I should add that while I have considered separately the position of each director, the position taken by counsel for the respondents made no attempt to distinguish between them or ascribe differing levels of responsibility.
[82] I have to consider whether the statutory defence in section 214(3): whether any of the directors took every step with a view to minimising the potential loss to the Company’s creditors as he or she ought to have taken is applicable. I agree with counsel for the Noter that this defence does not arise. That is because of the stance taken by the respondents in this case who have denied throughout that the Company was insolvent and inevitably destined for insolvent liquidation until four days before it was finally put into insolvent liquidation in April 2010. Consistent with that stance, there was no attempt to put the statutory defence on record even as an esto position. No evidence was led to support any such defence. Accordingly, I agree I need not consider whether that defence is made out.
[83] On the evidence I make the various conclusions in fact which are now found in the findings in fact set out above.
[84] It follows from these findings in fact and my conclusion that section 214(2) applies in relation to each of the three directors, being the three respondents in this action, that in terms of section 214(1), the court may declare that one or more of the respondents is liable to make such contribution (if any) to the Company’s assets as the court thinks proper. It is the contention of the Noter that I ought to make such a declarator together with an order for payment. I was reminded of the powers of the court and the law relating to the discretion which the court exercises in deciding whether to make an order in terms of subsection (1) and if so to what extent and against whom. I have taken all of that into account as well as the facts and circumstances in this case in deciding this matter.
[85] I deal first with whether in principle there should be any order to make such a contribution to the Company’s assets. I have no difficulty in concluding that in principle there ought to be a contribution to the Company’s assets. In my view, the facts clearly disclose a series of transactions involving the sale of Company assets, while the Company was known to be insolvent, part of the object being to recover for one of the directors a significant portion of her director’s loan. That the director, Elizabeth Martin, was one of several creditors is not to the point. In so being paid, she obtained preferential treatment as against the other creditors. Given that the Company was at the time of the transfer of the proceeds into her account insolvent, the proceeds of the sale ought to have been paid directly to the Company so that that asset, together with the rest of the assets of the Company would be available to meet the claims of the creditors as a class when the inevitable insolvency arose. That preferential treatment was done deliberately and for that purpose and specifically in the knowledge that Eddie Melville was seeking immediate payment of his loans. They were egregious transactions and quite unfair to the other creditors. It is not to the point that this transaction has not been attacked using some other statutory provision designed to deal with unfair preferences. The transactions were trading and fell within the scope of section 214 as I have found. In my view in all the circumstances, there ought to be a contribution.
[86] The next question is the amount of the contribution that should be made. The Noter seeks the precise sum, plus interest, which was deposited into Elizabeth Martin’s bank account. In my view, the logic for selecting that sum, £78,458.08, is unassailable. That represents the net benefit to Elizabeth Martin that she would not otherwise have received had it not been for the wrongful trading. It is that sum which ought to have gone into the Company bank account. Indeed, that was exactly the professional advice that was given to the Company which advice was ignored.
[87] The final question is who should be declared liable to make such a contribution. In my view, all three directors should be jointly and severally liable to make that contribution. I did give some thought to whether to exclude Richard John Martin from the ambit of such liability taking account of the fact that it was his sister who was the principal actor and his mother who was the sole beneficiary of the funds. However, in my view, that would be wrong to do so. That is because this was a relatively small Company and importantly was a family-owned business. It operated as a family business in an unincorporated form many years until sometime before Ricky Martin died when his family continued the business. All three were engaged in one way or another in the operation of the business. Furthermore, although the evidence did not disclose much by way of direct involvement by Richard John Martin in the steps leading to the Company finally ceasing trading and the selling of the pitches, as a director, he had a variety of responsibilities, breach of which carries consequences and it would not be right in principle for a director to evade the consequences of breach of his duties for lack of evidence of actual knowledge. That would also be quite inconsistent with the terms of section 214. Furthermore, there was no submission by counsel for the three respondents that I should distinguish between the three directors so far as liability was concerned in the event that I decided to make a declaration. Counsel for the respondents stated that it was a matter for my discretion. In all the circumstances, I conclude that I ought to grant declarator against all three and find all three respondents jointly and severally liable to make a contribution of £78,458.08 to the Company’s assets with interest thereon as explained above.
[88] So far as interest on that sum is concerned, interest is sought on the net individual sums realised by the sale of the pitches between 24 March 2010 and 14 April 2010 and interest is sought on the sums commencing on five different dates on five different sums. I am not persuaded of the practical or legal need to differentiate between the different payments in that fashion for the purposes of this interlocutor. It seems to me to be unnecessarily complicated and potentially productive of complications and confusion at a later stage. The court has a certain degree of discretion when it comes to the question of interest on sums found to be due. It seems to me that a sensible and fair way of dealing with interest would be to make interest payable on the whole sum of £78,458.08 from 14 April 2010. I was not addressed on the interest rate to be applied by counsel for the respondents or the date that interest should run from. Judicial interest is sought and counsel for the respondents made no contrary submissions. I apply that rate therefore.
[89] So far as expenses are concerned, the parties were agreed that expenses should follow success. Accordingly, I find the respondents liable to the Noter in expenses of this note as taxed except insofar as otherwise dealt with. So far as sanction for counsel is concerned, I must say that I am very grateful to both counsel for their able and adept involvement in this case and that I found their submissions and other contributions of great assistance in deciding this case. Counsel advised me that there was little by way of case law in this field in Scotland and, in my view, there were additionally quite a number of factual and legal complications in this case which made the employment of junior counsel entirely appropriate and reasonable. I certify this case as suitable for the employment of junior counsel.
Sheriff Derek O’Carroll, Advocate
Sheriff of South Strathclyde Dumfries and Galloway at Airdrie
3 June 2016
POSTSCRIPT
On 3 August 2016, on the unopposed motion of the first and second named defenders, both of whom it transpired were assisted persons, I modified their liability to expenses to nil.
5 August 2016