L9/09

SHERIFFDOM OF TAYSIDE, CENTRAL AND FIFE AT KIRKCALDY

JUDGMENT of ALASTAIR G D THORNTON, ESQ in Note for an order in terms of section 212 of the Insolvency Act 1986 (as amended) by JOHN PATRICK THOMSON and SHEILA ISABEL THOMSON, as trustees of the Dyglen Engineering Limited Pension Scheme No. 2 Noters against THOMAS HENRY RUSSELL, Respondent Relative to the winding up of DYGLEN ENGINEERING LIMITED (Company Number SC084641), a company incorporated under the Companies Acts and formerly having its registered office at 68 Cavendish Way, Southfield Industrial Estate, Glenrothes, Fife, KY6 2SB and now at Allan House, 25 Bothwell Street, Glasgow ("the company") _____________

For the noters: G.S. Lindhorst, Advocate; Thorntons, Solicitors, Dundee

For the respondent: G.J. Walker, Advocate; McClure Naismith, Solicitors, Edinburgh

Kirkcaldy, 30 August 2013.

The sheriff having resumed consideration of the cause, FINDS in FACT:

[1] Dyglen Engineering Limited ("the Company") is a company incorporated under the Companies Acts having its registered office formerly at 68 Cavendish Way, Southfield Industrial Estate, Glenrothes, Fife and now at Allan House, 25 Bothwell Street, Glasgow. On 11 May 2009 Mr Graeme Smith of Henderson Loggie, Chartered Accountants was appointed provisional liquidator of the Company on the Petition of the noters. At the first creditors' meeting Mr Douglas Jackson and Mr Stewart MacDonald of Scott-Moncrieff Accountants were appointed as joint liquidators of the Company.

[2] The Dyglen Engineering Limited Pension Scheme No. 2 ("DELPS 2") is a creditor of the Company. The noters, John Patrick Thomson and Sheila Isabel Thomson are the Trustees and beneficiaries of DELPS 2. They are the Petitioners in the winding up proceedings of which the present Note forms part. Mr Thomson was a director of the Company from August 2004 until 1 May 2009.

[3] Thomas Henry Russell was a director of the Company within the meaning of section 250 of the Companies Act 2006 between 16 September 1983 and 11 May 2009.

[4] Following the appointment of the provisional liquidator his senior insolvency manager Christine McTavish attended with colleagues at the Company's premises in Glenrothes on 12 May 2009. She wished to obtain access to the premises and to the Company's books and records therein. Mr Russell would not allow her entry to the premises. He contacted his business adviser Robert Barr who attended at the car park outside the premises and spoke to Ms McTavish. Mr Russell communicated with Ms McTavish by relaying comments through Mr Barr on the latter's mobile phone. Mr Russell advised that there were no books, business or computer records on the premises. Mr Barr told her that the Company's accounts as at March 2008 showed that it was balance sheet insolvent, and that assets had been transferred out of the Company to address the negative balance. It was agreed that Mr Russell and Mr Barr would attend at the offices of the provisional liquidator the following day, 13 May 2009 and would bring books and records with them.

[5] On 13 May 2009 Mr Russell and Mr Barr duly attended at the provisional liquidator's offices and met Mr Smith and Ms McTavish. Mr Russell handed over boxes containing some of the Company's records, bank statements and other papers, and separately a flash drive with financial records from the Company's computerised accounting system. The items provided were not the complete records of the Company. At that meeting Mr Russell told Mr Smith and Ms McTavish that the Company had ceased trading on 30 April 2009 and the utility suppliers had been informed, although it subsequently transpired that the electricity supplier was not aware of this. Mr Russell stated that the Company had no cash and no assets other than title to a single machine.

[6] Subsequently Mr Thomson examined the records provided to the provisional liquidator by Mr Russell. He noted a number of payments or transactions by the Company which caused him concern. These payments were made and these transactions arose while Mr Russell was involved in the management of the Company. They form the basis of the present Note in the winding proceedings in terms of which an order is sought that Mr Russell misapplied monies and assets of the Company, together with decree against him for payment to the Company of the sum ascertained to have been misapplied.

[7] Mr Thomson came to the Company in about July 2004. He and Mr Russell had discussed the possibility that Mr Thomson might buy the Company from Mr Russell. There was no written agreement between them. In particular there was no agreement of any kind between them to the effect that Mr Thomson would pay an agreed price for the Company.

[8] Shortly after Mr Thomson came to the Company he was made a director. He was involved in the management of the employees in the factory and the manufacturing operations, but he had no financial control of the Company, which remained with Mr Russell throughout the whole period until the appointment of the provisional liquidator on 11 May 2009. Mr Thomson was not shown the financial books and records of the Company. Mr Russell kept the books of the Company, was in control of paying bills and receiving money, and controlled the Company's bank accounts.

[9] The Company had earlier set up a pension scheme for Mr Russell ("DELPS 1"). In 2007 the Company agreed to set up a pension scheme for Mr Thomson ("DELPS 2") and paid £100,000 into this scheme. At the same time DELPS 2 loaned £90,000 back to the Company. This loan was to be repaid according to a repayment schedule set out in the relative loan agreement. A similar contribution was made at that time to DELPS 1 and a similar loan arrangement was entered into.

[10] There was no agreement between Mr Thomson and Mr Russell, or between any of the parties to the loan agreement between DELPS 2 and the Company, that the purpose of the creation of DELPS 2 was to assist Mr Thomson in obtaining funding to acquire the Company. There was no agreement that the repayment of the loan was conditional upon Mr Thomson proceeding with a purchase of the Company. Although the loan agreement between DELPS 2 and the Company provided that the loan should be secured by way of a floating charge over the Company's assets , no security of any kind was put in place.

[11] Following upon the creation of DELPS 2 and the said loan agreements, repayments of the loans were made by the Company to DELPS 1 and DELPS 2 for a period. In August 2008 the Company was in a difficult financial position. Mr Russell decided unilaterally to stop repayments to both loans. In November 2008 Mr Russell learned from the Company's pensions adviser via Mr Barr that substantial tax penalties could be imposed if the Company failed to make the payments to the two pension schemes. After August 2008 no further payments were made to DELPS 2, but payments totalling £43,611.55 were made by the Company on the instruction of Mr Russell to DELPS 1 between 24 March 2009 and 7 April 2009. Mr Russell's decision to make these payments to DELPS 1 was motivated by an intention on his part to improve his own position as a beneficiary of the scheme and to prefer that scheme over other creditors of the Company.

[12] During the summer and autumn of 2008 discussions took place in relation to the purchase of the Company by Mr Thomson. These discussions were conducted between Robert Barr on behalf of Mr Russell and Les Livingston CA on behalf of Mr Thomson. Mr Barr had acted as a business adviser to the Company and to Mr Russell since 1998. Mr Livingston was appointed by Mr Thomson specifically to advise him in relation to the possible purchase of the Company and to represent him in the said discussions. Mr Livingston requested financial information to satisfy him that the Company was profitable. This information was not provided to him. The discussions did not bear fruit and no agreement was reached for Mr Thomson to buy the Company. Mr Livingston considered the Company to have been balance sheet insolvent as at 31 March 2008 and to have remained so, and he advised Mr Thomson not to proceed.

[13] On 19 November 2008 the noters served a notice of default demanding immediate repayment by the Company to DELPS 2 of the full outstanding balance of the loan and interest. The balance then demanded remains unpaid.

[14] Between January and April 2009 Mr Thomson had serious concerns about the ability of the Company to pay its debts. In addition to the outstanding loan repayments to DELPS 2, suppliers were not being paid on time and some suppliers were refusing to deliver items to the Company until their invoices were paid.

[15] On 1 May 2009 there was a meeting between Mr Russell and Mr Thomson. By that time the men did not have a good relationship. At that meeting Mr Russell stated that the Company was going through a bad time financially and was to cease trading. He stated that Robert Barr was to be instructed to take steps to wind the Company up.

[16] After that meeting Mr Thomson took legal advice and the noters' Petition for the Company to be wound up was presented to this court.

[17] In addition to the sums due to DELPS 2, as at the date of liquidation the Company had 51 trade creditors who between them were owed in excess of £34,000. The Company was not paying its debts as they fell due.

[18] Between 18 February 2009 and 2 April 2009 Mr Russell caused sums totalling £33,300 to be paid by the Company to Elbalite Ltd ("Elbalite"). Mr Russell is a director of Elbalite, and his son is the company secretary. Mr Russell is the shareholder in Elbalite. These sums were purported to be rental payments due to Elbalite in respect of plant and machinery sold by the Company to Elbalite during the financial year to 31 March 2008 and leased back to the Company by Elbalite. Mr Thomson as a director of the Company was not aware of the purported transaction. No such transaction took place.

[19] On 18 April 2009 the Company sold three machines to Southfield Properties Ltd ("Southfield") for a price of £12,000. These machines had a book value of £134,662.29. The directors and shareholders of Southfield are friends of Mr Russell. He has no interest in Southfield nor any role in relation to its management.

[20] The open market value of the three machines at the time of the sale was approximately £72,500. However the Company required to continue to have the use of the machines back from Southfield after the sale. Further the Company wished to have the possibility of buying the machines back from Southfield in the future. These conditions had a material effect on the value of the machines and the price which the Company could obtain from any purchaser who was willing to acquire the assets subject to those conditions. On that basis the price of £12,000 reflected a reasonable figure for the three machines and Mr Russell was acting in what he genuinely believed to be the best interests of the Company in agreeing that price.

[21] The Company's accounts as at 31 March 2008 indicated that the Company owned stock with a value of £49,080. This was an historical figure essentially carried forward from accounts in previous years. No inventory of stock was taken as at 31 March 2009. No stock was removed from the Company's premises between 11 May 2009 when the Company was wound up and September 2011 when the liquidators' valuer placed a value of £200 on the stock. Because the Company was not a going concern, the stock possessed only scrap value. The value of stock owned by the Company at the date of liquidation was £200.

FINDS in FACT and in LAW:-

[1] Mr Russell did not have a reasonable belief that repayments did not fall to be made by the Company to DELPS 2. He did not have a good reason for not paying DELPS 2. There was no legitimate or bona fide dispute in relation to this debt.

[2] The payments by the Company to DELPS 1 on 24 March 2009 and 1 to 7 April 2009 amounted to a preference in favour of DELPS 1 to the prejudice of the general body of the Company's creditors.

[3] The said payments to DELPS 1 were not a transaction in the ordinary course of trade or business.

[4] They were made in cash for a debt which had become payable.

[5] They were collusive with the purpose of prejudicing the general body of creditors.

[6] Accordingly they are challengeable as an unfair preference.

[7] Such an unfair preference is a misapplication of the Company's funds and a misfeasance on the part of Mr Russell as a director of the Company.

[8] Mr Russell is liable to make payment to the Company in the sum of £43,611.55 with interest in respect of his said misapplication of the Company's money in making the unfair preference in favour of DELPS 1.

[9] There was no transfer of plant and machinery to Elbalite, nor was there a lease back to the Company of the relative assets.

[10] There was no proper legal basis for the payments made by the Company to Elbalite.

[11] Mr Russell had no genuine or honest belief that the Company had entered into a binding contract with Elbalite.

[12] Mr Russell did not act reasonably in making the said payments to Elbalite.

[13] The payments to Elbalite were gratuitous.

[14] The Company was insolvent when it made the said payments to Elbalite between 18 February and 2 April 2009.

[15] The payments by the Company to Elbalite amounted to a gratuitous alienation.

[16] Such a gratuitous alienation was a misapplication of the money of the Company, and a misfeasance, on the part of Mr Russell as a director of the Company.

[17] Mr Russell is liable to make payment to the Company in the sum of £33,300 with interest in respect of his said misapplication of the Company's money in making the said gratuitous alienation in favour of Elbalite.

[16] The sale of the three machines by the Company to Southfield was not at undervalue, and it was not a misapplication of the Company's assets, nor a misfeasance, on the part of Mr Russell.

[17] There was no misappropriation of the Company's stock by Mr Russell. Nor was there a failure by him to account for the stock.

[18] Mr Russell as a director of the Company did not act honestly nor reasonably in relation to the unfair preference in favour of DELPS 1.

[19] Mr Russell as a director of the Company did not act honestly nor reasonably in relation to the gratuitous alienation in favour of Elbalite.

[20] He is not entitled to relief from liability in respect of the unfair preference in favour of DELPS 1 and the gratuitous alienation in favour of Elbalite.

THEREFORE Grants the noters' crave to the extent of granting Decree against the respondent for payment to Dyglen Engineering Ltd ("the Company") of (1) the sum of £43,611.55 in respect of the unfair preference in favour of the Dyglen Engineering Ltd Pension Scheme No. 1, and (2) the sum of £33,300.00 in respect of the gratuitous alienation to Elbalite Ltd, both sums being misapplications by Mr Russell as an officer of the Company of the money or property of the Company in terms of section 212 of the Insolvency Act 1986, together with interest on the said sums at the rate of 8 per cent per annum from the date of decree until payment; quoad ultra Refuses the noters' crave; Sustains the noters' plea-in-law to the extent hereinbeforementioned; Sustains the respondent's second and third pleas-in-law in relation to the noters' claims of (a) the sale of assets at undervalue to Southfield Properties Ltd, and (b) the failure to account for the stock owned by the Company; quoad ultra Repels the respondent's second and third pleas-in-law; Repels the respondent's first and fourth pleas-in-law; Appoints parties to be heard on the question of expenses on Friday, 27 September 2013 at 2.00 pm within the Sheriff Court House, Whytescauseway, Kirkcaldy.

Sheriff Alastair G D Thornton

NOTE

[1] These proceedings relate to a company, Dyglen Engineering Limited (hereinafter "the Company"). The Company is in liquidation, having been found to be insolvent in earlier petition proceedings in this court at the instance of the noters. The principal actors in these proceedings are John Thomson ("Mr Thomson"), one of the noters and Thomas Russell ("the respondent"). They were the former directors of the Company at the date of its winding up. The present proceedings involve allegations by Mr Thomson of misfeasance on the part of the respondent during the period leading to the winding up of the Company.

Procedural History

[2] The noters lodged their note in court on 1 April 2011, and it was served on the respondent on the same date. Answers were received on 20 April 2011 and after sundry procedure the matter called before me for evidence to be led over several days. I heard evidence on 1-4 November 2011 inclusive, again on 20-22 February 2012 inclusive, once more on 16, 18, 19 and 20 April 2012 and finally on 5 November 2012. This was a total of 12 days of evidence. The unfortunate hiatus between 20 April 2012 and 5 November 2012 came about as a result of an injury which I suffered requiring surgery and a period of recuperation. At the close of evidence I ordered written submissions to be lodged and allocated 16 and 17 January 2013 as a diet of hearing on the submissions. I made avizandum at the close of submissions on 17 January 2013.

[3] Both parties were represented by counsel. The following witnesses gave evidence for the noters:-

• John Thomson
• Gordon Jude, a dealer in and valuer of industrial machinery
• Christine McTavish, a senior insolvency manager at Henderson Loggie, CA, Dundee, who assisted the provisional liquidator of the Company
• Leslie Livingston, CA who advised and represented Mr Thomson in relation to the possible purchase of the Company

Evidence for the respondent was led from:-

• Thomas Russell
• Robert Barr, who acted as a business adviser to the Company and to Mr Russell
• Leslie Reid, operations manager, Thainstones Specialist Auctions Ltd, who valued certain machinery on behalf of Mr Russell
• Lynn Cunningham, CA who was the Company's accountant and prepared its statutory accounts
• Jennifer McQueen, a director of Southfield Properties Ltd and a friend of Mr Russell
• Michael Natta, a credit executive at Clydesdale Bank plc and former relationship manager for the Company
• Brian Ferguson, an independent engineer who serviced and repaired machines for the Company until about 2007 and was subsequently instructed to provide a valuation of three of the Company's machines for Southfield Properties Ltd

A significant number of productions were lodged by both parties and referred to during the proof.

The pleadings

The crave of the note

[4] The noters seek an order in the following terms:-

"...To order, in terms of section 212 of the Insolvency Act 1986 (as amended), that the said Thomas Henry Russell taking part in the management of the company misapplied and dealt with in breach of his fiduciary duties as a director monies and assets of the company, and to grant decree against the said Thomas Henry Russell for payment to the company of the said (sic) sum of £334,899.38 or such other sum as may be ascertained to be the amount misapplied or retained by the person, with interest thereon from the date of decree to follow hereon until payment; and to find the said Thomas Henry Russell liable in expenses; or to do further or otherwise as to the court shall seem proper."

The noters' averments

[5] The allegations made by the noters are set out in Articles 4 to 8 of Condescendence. They are in the following terms:

"Cond. 4 Mr Thomson on behalf of the noter having examined the bank accounts and other documents pertaining to the assets of the company has discovered certain irregularities in the affairs of the company and certain monies and assets of the company misapplied, missing or misappropriated, including:

(a) payments made to the pension fund of Mr Russell

(b) payments made to Elbalite Limited

(c) the transfer of assets to Southfield Properties Limited

(d) disposal of stock of the company.

These irregularities arose while Mr Russell was involved in the management of the company. Mr Russell has failed to provide satisfactory reasons for the payments made or for the transfer of assets made under his direction. It is believed by the noter that these sums and transfer of assets were misapplied or misappropriated by Mr Russell. Accordingly the present proceedings are necessary in terms of section 212 of the Insolvency Act 1986 (as amended) to examine the conduct of Mr Russell and to obtain compensation for the company in respect of the misfeasance."

[6] "Cond. 5 Mr Thomson examined the contents of a box of papers provided to the Provisional Liquidator of the Company by Mr Russell on or about 12 May 2009. Mr Thomson found one used cheque book for the Company's account which disclosed on a cheque stub a payment to Mr Russell's pension fund of £23,711.55 made on 18 September 2008. An examination of the Company's bank account statements disclosed that between 1 April and 7 April 2009 Mr Russell made payments to his pension fund totalling £19,900. The total sums paid to Mr Russell's pension fund amount to £43,611.55. At the same time the payments were made by the Company it was in a state of insolvency and diminished the assets of the Company to the benefit of Mr Russell alone. The Company had ceased making monthly payments to the noter under and in terms of the Loan Agreement dated 5 April 2007 ("the Agreement") in August 2008. The payments represent an unfair preference in favour of Mr Russell. Those sums ought to be paid back to the Company by Mr Russell."

[7] "Cond. 6 Mr Thomson also discovered that irregular payments were being made to a company called Elbalite Limited of which Mr Russell is a director and shareholder. Mr Russell's son Brian Russell is also a director of Elbalite. His business associate, Mrs Helen McQueen is a shareholder in Elbalite. Mr Russell had accepted that Elbalite was a dormant company but claimed that it had been brought back to life in early 2009. Mr Russell has also claimed that Elbalite Limited leased machines to the Company. No valid lease has ever been produced and Mr Thomson, in his capacity as director of the Company, had never been advised that the Company had entered into a lease with, or disposed of assets to, Elbalite Limited. Believed and averred that no such lease or any arrangement was entered into with Elbalite in respect of the machines. The Company's bank account statements disclose between 18 February and 2 April 2009 Mr Russell transferred the sum of £33,300.00 to Elbalite Limited. Those payments ought not to have been made and amount to a gratuitous alienation of the Company's assets by Mr Russell. Those sums ought to be paid back to the Company by Mr Russell."

[8] "Cond. 7 Mr Thomson also discovered an invoice from Southfield Properties Limited ("Southfield") whereby the Company had purportedly disposed of assets with a book value of £208,907.83 to Southfield for £12,000 on 18 April 2009. Mr Thomson, as director of the Company, was not aware of any sale of assets to Southfield. The transaction was instructed by Mr Russell and assets transferred to Southfield at under value. Mr Russell was a connected person in that he had a business relationship with the directors and shareholders of Southfield. The daughters of Mr Russell's business associate, Mrs Helen McQueen, namely the Misses Jennifer and Lisa McQueen, are Southfield's sole shareholders and Miss Jennifer McQueen its director. To the knowledge of the noter no record of the £12,000 payment has been entered into the Company's accounts. Mr Russell was depleting the Company of assets while the Company was insolvent. Mr Russell should be ordered to compensate the Company for the loss to it in the sum of £208,907.83."

[9] "Cond. 8 The Company had assets in the form of stock valued by Mr Russell and shown in the Company's accounts at 31 March 2009 in the sum of £49,080. Mr Russell has claimed that the Company had no stock at cessation of business and none has been delivered up to the Liquidators. Mr Russell has failed to account for the stock to the Company. The loss to the Company is £49,080 and Mr Russell should be ordered to compensate the Company for its loss in that sum."

The plea-in-law for the noters

[10] This is in the following terms:-

"In respect that the said person, who took part in the management of the company, has misapplied or misappropriated or failed to account for assets and money of the company, his conduct should be examined in terms of section 212 of the Insolvency Act 1986 (as amended) and decree should be pronounced as craved."

I have set out the material averments by the noters in full because the respondent has attacked their relevance and quality.

The respondent's answers

[11] The respondent states that he does not know of and does not admit any examination having been carried out by Mr Thomson on behalf of the noters, nor any discoveries made by the noters. He explains that the Liquidator of the Company has declined to raise any proceedings against him in respect of the matters which are the subject of the Note. He also explains that he has acted at all times in accordance with his duties to the Company and has not been involved with the misapplication or misappropriation of the monies or assets of the Company.

[12] In relation to the unfair preference claimed in Article 5 of Condescendence the respondent denies the allegation and explains that the Company was obliged to make payments to the respondent's pension scheme in the normal course of business and on the advice of the pension scheme's advisor and that all payments to the pension scheme were legitimate payments of sums due by the Company to the scheme. He avers that the Company had delayed making regular payments to the pension scheme which led to lump sum payments being made in arrears. He also states that in July 2008 Mr Thomson told the respondent that he would not acquire Dyglen with, the respondent argues, the result that Mr Thomson's loan to the Company was no longer repayable.

[13] In relation to the payments to Elbalite Limited he avers that at the start of 2008 he identified that the Company had excessive balance sheet borrowings which were being utilised to fund under-utilised machinery, which in turn was leading to a significant annual charge to depreciation in the Company's accounts, thus hampering the Company's ability to trade profitably. He further states that he identified that it would be in the interests of the Company to address the situation, and so certain assets of the Company were sold to Elbalite in about April 2008. The assets had a book value of £163,024 but were reasonably estimated to have a real market place valuation of only £55,000, according to the respondent. He goes on to aver that there was little demand in the market for engineering assets at the time or for the foreseeable future and that it was decided to sell the under-utilised assets for £144,231 to Elbalite. He further explains that payment in respect of the assets was made by way of extinguishing two loans amounting to £114,231 which had been made to the Company by the respondent and his aunt, and a payment of £30,000 to the Company. He further argues that the creditors on the Company's balance sheet fell from a total of £655,505 as at 31 March 2007 to £415,349 as at 31 March 2008. He said that the Company thereafter leased the equipment from Elbalite and payments were made to Elbalite in respect of rental of that equipment. He contends that Mr Thomson was given the original lease or a copy thereof around 20 August 2008. Finally in this connection he avers that a later valuation of the equipment by Thainstone Specialist Auctions Ltd estimated the value of the equipment at £52,935 on a going concern basis and £20,080 on the basis of a forced sale on the open market.

[14] In response to the noters' allegations about the transfer of assets to Southfield at undervalue, the respondent avers that the price of £12,000 was well within the range of reasonable values for the equipment, and that the price of £12,000 was indeed paid by Southfield to the Company by means of the Invoice Discounting scheme operated by the Company's bank.

[15] In respect of the stock, the respondent avers that no stock count was ever taken in March or April 2009, and that the figure of £49,060 relates to the estimated stock in the Company's accounts as at 31 March 2008. No stock count or estimate was done after that date. The respondent states that there was stock on the premises as at the date of liquidation, but it had no value and remains within the factory premises.

Submissions on the pleadings

[16] Notwithstanding the use of the phrase "breach of fiduciary duties" in the noters' crave, there are no averments in Articles 4 to 8 of Condescendence that Mr Russell breached any fiduciary duties. No such duties are mentioned. What the noters allege is:-

(a) An unfair preference (the payments to DELPS 1);

(b) A gratuitous alienation (the payments to Elbalite);

(c) Depleting the Company of assets while it was insolvent (the sale to Southfield at alleged undervalue);

(d) The failure to account for stock.

[17] However the respondent submits that the noters' pleadings are in fact alleging breaches of fiduciary duty on Mr Russell's part, albeit that that phrase is not used in Articles 4 to 8 of Condescendence. The respondent argues that stripping a company, whether by making preferences, gratuitous alienations, selling assets at undervalue or misappropriating assets (as the noters allege) is a breach of fiduciary duty. There is no suggestion in the Note that the claim is based on breach of any other duties, such as the duty to exercise reasonable skill and care, a duty to avoid conflicts of interest, or a duty not to trade while insolvent. The respondent goes on to argue that where the noters allege behaviour on the part of the respondent which amounts to breach of fiduciary duty, it is incumbent upon them to set out in their pleadings a proper and adequate specification of the basis upon which it is contended that the director has breached that duty.

[18] I shall address below the respondent's detailed attack on the fairness of the noters' pleadings in relation to each of the four matters about which they complain.

The legal tests

[19] The noters rely in their submissions on Revenue and Customs Commissioners v Holland [2010] 1 WLR 2793 and in particular dicta by Lord Hope. They argue that if any misapplication by Mr Russell is established by the evidence, his liability to make that good is strict, subject to any claim to relief under section 1157 of the Companies Act 2006. Lord Hope's dicta upon which the noters rely are to be found at paragraphs 44 to 47 of the Supreme Court's judgment.

[20] I do not consider that the noters' reading of Lord Hope's dicta is correct. Firstly Lord Hope makes clear in paragraphs 44 and 47 that his remarks are obiter dicta. Secondly strict liability only arises in the case of the payment of an unlawful and ultra vires dividend (see the terms of paragraphs 45, 46 and 47 of Holland). The first sentence of paragraph 46 is in the following terms:

"The trend of modern authority supports the view that a director who causes a misapplication of a company's assets is in principle strictly liable to make good the misapplication, subject to his right to make good, if he can, a claim to relief under section 727 of the Companies Act 1985".

Although that sentence appears to be quite general in its terms, Lord Hope makes it clear in paragraph 47 that the strict liability to which he refers is in the context of the payment of unlawful dividends. The last sentence of paragraph 47 states:

"But the better view seems to me that in cases such as this, where it is accepted that the payment of dividends was unlawful, a director who causes their payment is strictly liable, subject of course to his right to claim relief under the statute".

Lord Hope does not indicate that strict liability will arise in other forms of misapplication or misfeasance.

[21] Moreover to read Lord Hope's comments as indicating that a director who causes a misapplication of a company's assets in a more general way than the unlawful payment of dividends is strictly liable would be inconsistent with numerous cases, upon which the respondent relies, including

• Re. Brian D Pierson (Contractors) Ltd [1999] BCC 26
• Wilson v Masters International [2010] BCC 834
• Extrasure Travel Insurance Ltd v Scattergood [2003] 1 BCLC 598
• Dryburgh v Scotts Media Tax Ltd [2011] CSOH 147
• Swan v Sandhu [2005] EWHC 2743
• In Re. Smith & Fawcett Ltd [1942] 1 Ch 304
• Regentcrest plc v Cohen [2001] 2 BCLC 80

These cases demonstrate to me that a director who causes a misapplication of a company's assets other than the unlawful payment of dividends is not strictly liable to make good that misapplication.

[22] Section 212 does not impose duties on a company director. It merely provides a convenient means for directors of insolvent companies to be brought to account for misapplications, misfeasances or breaches of fiduciary or other duties in relation to the company. This is made clear at paragraph 15.724.1 of Palmers Company Law, and by the decisions of the Court of Appeal in Re. Simmon Box (Diamonds) Limited (Cohen v Selby) [2002] B.C.C. 82 at paragraph 20, the Court of Session (Lord Penrose) in Ross v Davy 1996 SCLR 369 at page 379F - 380B, the English High Court in Swan v Sandhu [2005] EWHC 2743 at paragraph 26, and the Court of Appeal in Re City Equitable Fire Insurance Co 1925 Ch. 407 at page 507.

[23] Extrasure Travel Insurance Limited v Scattergood [2003] 1 BCLC 598 at paras 87-90 (following Smith & Fawcett Ltd [1942] 1 Ch. 304, Bristol and West Building Society v Mothew [1998] Ch. 1, and Regent Crest Plc [2001] 2 BCLC 80) provide authority that a director can only be guilty of misfeasance for breach of duty if he can be shown not to have acted in what he, rather than the court, honestly considers to be in the best interests of the company. Even if his honest belief in that regard was ultimately held to have been unreasonably held, if it was actually held, then there is no misfeasance.

[24] Extrasure and the other cases to which I have referred in the foregoing paragraph were followed in the Court of Session by Lord Glennie in Dryburgh v Scotts Media Tax Limited [2011] CSOH 147 at paragraph 92 et seq. Extrasure has also been followed in Swan v Sandhu supra at paragraphs 29-30 and Cook v Green [2009] BCC 204 at page 214.

[25] The test to be applied in respect of each of the noters' claims is the general law which is applicable to that respective claim. In other words, for example, where the noters allege an unfair preference, they must adduce evidence which is sufficient to establish as a matter of law that an unfair preference has been made, and where they allege that a gratuitous alienation has taken place, they must lead evidence which is sufficient to establish as a matter of law that such an alienation has been made, and so on. As indicated I shall address each of the noters' heads of claim separately below.

[26] There is a proviso to be found in section 243(5), namely that the duty on the court to grant decree for restoration of property to the Company's assets or other redress is without prejudice to any right or interest acquired in good faith and for value from or through the creditor in whose favour the preference was created.

Relief under section 1157 of the 2006 Act

[27] In the event of the court finding that a liability under section 212 arises in relation to a director, it is given a wide discretion under section 1157 (formerly section 727 of the Companies Act 1985) to relieve that director of liability, in whole or in part, and on such terms as it thinks fit.

[28] However the court may only grant such relief if it appears to the court that the director has acted honestly and reasonably, and that, having regard to all the circumstances of the case, he ought fairly to be excused. That is the proviso set out in the section. That proviso has been considered by Hoffmann LJ (as he was) in Re D'Jan of London Limited [1993] BCC 646 at page 649 A in which he stated:-

"It may seem odd that a person found to have been guilty of negligence, which involves failing to take reasonable care, can ever satisfy a court that he acted reasonably. Nevertheless the section clearly contemplates that he may do so and it follows that conduct may be reasonable for the purposes of section 727 despite amounting to lack of reasonable care at common law."

That statement of the law is cited with approval in Re. Brian D Pierson (Contractors) Limited [1999] BCC 26 at pages 47 to 48. I respectfully agree with Lord Hoffmann's statement of the legal position.

[29] The extent to which a director has sought appropriate advice and followed it is a relevant factor in the court's consideration of whether the director can be said to have acted honestly and reasonably. The respondent in the case before me submits that he did obtain and follow advice in respect of some of the transactions and payments of which the noters complain, and I shall consider later whether the taking of advice by Mr Russell is such that I may exercise my discretion to grant relief to him from any liability under section 212.

The correct approach to the pleadings

[30] Palmers Company Law at paragraph 15.724.1 states that section 212:-

"is intended to permit proceedings incidental to a pending liquidation, and strict rules of pleading do not apply. Nevertheless, the application must aver the facts upon which it is based, and section 212 is not the appropriate procedure for investigating the facts which might found a claim under this section, for which other sections provide."

[31] In Gray v Davidson 1999 SLT (Sheriff Court) 61, Sheriff Stoddart at page 64 J-K stated:-

"It seems to me that sufficient information has to be in the hands of a prospective applicant under section 212 before he can bring himself within subsection (1) thereof. The information which he has must be sufficient for it to "appear" to him that a particular individual "has" done the acts specified in the subsection, or any of them. I construe the section as requiring as a minimum that an applicant state what information he has and the basis on which it appears to him that there have been any of the abuses mentioned."

[32] In Blin v Johnstone 1988 SLT 335 at page 338F the Lord Justice Clerk (Ross) stated in connection with an application under the precursor provision to section 212, namely section 333 of the Companies Act 1948:-

"In proceedings of this kind, such pleadings as there are do not fall to be construed with the strictness that would be appropriate for the construction of a conveyancing document or a commercial contract."

[33] At page 338J-K the Lord Justice Clerk goes on to state:-

"So far as Scotland is concerned, it has been made plain in Liquidators of City of Glasgow Bank v McKinnon (1882) 9R.535 that the strict rules of pleading do not apply. Lord President Inglis in that case referred to proceedings under section 165 of the Companies Act 1862 (the precursor of section 333 of the Act of 1948) as very special, and he opined that it was not necessary for the court in an incidental proceeding of this kind in a liquidation to resort to the forms of process appropriate for ordinary actions in the Court of Session. He pointed out that the court would be entitled to direct the inquiry to be made in any way the court thought expedient. He added at page 564:

'We are not, therefore, I think, bound by any of the ordinary rules of pleading, and all that we ought to do, I think, is to make sure that no injustice is done to the respondent here by reason of the want of notice of which he complains."

[34] So it seems to me that what is required is that the terms of the noters' averments in this case should provide the respondent with fair notice of the basis upon which each of the allegations made against him arise.

The earlier judgment granting the winding up order

[35] There are a number of areas of overlap between the evidence which was led before me and that which was adduced in 2010 before my brother sheriff, Sheriff Williamson, when he considered the original Petition for the winding up of the Company. Sheriff Williamson made certain findings in fact which are relevant to consideration of the current Note and Answers. In particular he made findings in fact numbers 10, 15, 16, 17 and 18, which are in the following terms:

"10. Mr Thomson met with Mr Russell on 1 May 2009 to discuss the company's future. At that meeting Mr Russell stated that the company was going through a bad time financially and was to cease trading within 14 days. He stated that Robert Barr was to be instructed to wind the company up."

"15. Mr Russell divested the company of assets for less than market value over the period November 2008 to May 2009. During that period he sold items of plant and machinery with a book value of £130,000 to Southfield Property Company ("Southfield") for the sum of £12,000. He is unable to account for the sum of £12,000.

16. Mr Russell and his son Brian are directors of Elbalite Limited ("Elbalite"). Mr Russell's business associate Mrs Helen McQueen is a shareholder in the company. Over the period 18 March - 7 April (2009) the company on the instructions of Mr Russell made payments to Elbalite in the sum of £29,000.

17. Between the period 18 March 2009 - 7 April (2009) the company on the instructions of Mr Russell made payment to DELPS in the sum of £19,900.

18. The company had insufficient funds to meet the petitioner's claim for repayment of the petitioner's loan as at 11 May 2009."

Sheriff Williamson also made the following findings in law:-

"1. As at 11 May 2009 the petitioners were creditors of Dyglen Engineering Limited to the sum of £78,038.61 being the balance of the loan made to it by them.

2. Dyglen Engineering Limited was unable to make payment of that debt to the petitioners as it fell due."

[36] Sheriff Williamson's findings were made in the same proceedings as those with which I am concerned. The present Note and Answers are part of the original winding up proceedings. In my view therefore, I must have proper regard to the findings of Sheriff Williamson.

[37] Sheriff Williamson does not make any finding in terms that the payments to Mr Russell's pension scheme were an unfair preference. The terms of his finding in fact 17 demonstrate the extent of the evidence which was adduced before him. They do not in my view preclude me from holding (on the basis of evidence led before me) that sums in excess of £19,900 were paid by the Company on the instructions of Mr Russell to his own pension scheme in the period prior to the appointment of the Provisional Liquidator on 11 May 2009. In the same way, his finding in fact 16 to the effect that the Company on the instructions of Mr Russell made payments to Elbalite in the sum of £29,000 does not preclude me from finding, on the basis of the evidence adduced before me, that the payments to Elbalite exceeded £29,000.

[38] Sheriff Williamson did not find in terms that the divesting of assets by the Company for less than market value was dishonest or fraudulent. However he found that the assets had a book value of £130,000 and were sold for £12,000, and that Mr Russell was unable to account for the £12,000. I do not consider that Sheriff Williamson's finding in this connection precludes me from making a finding that the assets disposed of to Southfield had a book value greater than £130,000, if I am persuaded that that is the correct inference to draw from the evidence which I heard.

[39] I turn now to consider each of the noters' heads of claim.

The payments to the respondent's pension (DELPS 1)

[40] In Condescendence 5 of the Note, the noters aver that Mr Russell caused payments to be made by the Company to his own pension fund ("DELPS 1") while the Company was insolvent and thus diminished the assets of the Company to the benefit of Mr Russell alone. They aver that the payments total £43,611.55 and represent an unfair preference in favour of Mr Russell. They do not aver the specific terms of section 243 of the 1986 Act which deals with unfair preferences in Scotland. In particular they do not specifically aver that the effect of the payments was to create a preference in favour of a creditor to the prejudice of the general body of creditors, being a preference created not earlier than 6 months before the commencement of the Company's winding up. The respondent submits that the noters should have made specific averments of this nature.

[41] I do not agree. I am satisfied that the terms of Condescendence 5 of the Note are adequate to give the respondent fair notice of the nature of the noters' allegations against him in relation to the payments made to DELPS 1. The averments identify the noters' concern that these payments represent an unfair preference. It is clear from the authorities to which I have referred above that strict rules of pleading do not apply to a Note of this kind, but fair notice must be given of the basis on which any alleged abuse has occurred. In my view, while the noters' pleadings in this regard are certainly brief, they nevertheless put the respondent fairly on notice as to the nature of the allegation he faces.

[42] However, having averred that the payments to DELPS 1 represent an unfair preference, it is for the noters to establish on the evidence that such an unfair preference has occurred. It is not averred that the respondent is responsible for the making of a fraudulent preference, and it is not in my view open to the noters to argue that a fraudulent preference has been established on the evidence. The respondent has not been given fair notice that the nature of the allegation he faces in relation to the DELPS 1 payments is one of fraudulent conduct.

[43] There was some argument between counsel in the course of their submissions to me (both written and oral) about the burden of proof. They contested which party that burden lay upon in relation to establishing whether the DELPS1 payments were, or were not, an unfair preference. In my view, the burden of proving the unfair preference lies upon the noters who make this allegation. Since the payments would not be an unfair preference if any of the exceptions in section 243(2) applied, I consider that it is for the noters to prove that none of the exceptions apply, rather than for the respondent to prove that any of these exceptions are applicable in this case.

[44] In order for an unfair preference to be held as established, I consider that the noters have to prove that the legal requirements for an unfair preference have been met in this case.

[45] The respondent submits that the note alleges a payment of £23,711.55 to DELPS 1 on 18 September 2008. He argues that the evidence placed before the court was that no such payment was made as at that date. There was evidence from the Company's bank statement of a payment in that precise sum being made on 24 March 2009, but the respondent complains that the noters did not seek to amend their pleadings to reflect this. It is clear to me that in fact the noters averred that Mr Thomson found a used cheque book containing a stub for a payment in that sum made on 18 September 2008. I do not know whether that was simply the date marked on the used cheque stub because I was not taken to any evidence of that stub, but it is also clear to me that the noters seek to rely on the evidence from the bank statements that payment of that sum was made to DELPS 1 on 24 March 2009. If the dicta in the cases I have referred to above at paragraphs [31] - [34] (to the effect that the strict rules of pleading do not apply in section 212 Notes) are to be given proper effect, in my view they must mean that the noters cannot be prevented by the terms of their averment about the date of a used cheque stub from leading evidence to demonstrate when that payment was actually made out of the Company's bank account. In my view the noters' pleadings in Article 5 of Condescendence fairly put the respondent on notice that the payment which they claim represented an unfair preference was one for £23,711.55 and was made by means of a cheque drawn on the Company's bank account. Furthermore common sense dictates that the date on a cheque stub will very often not be the same as the date of payment which may appear in a subsequent bank statement.

[46] Accordingly I am not prepared to hold that the discrepancy between the date of the cheque stub averred by the noters and the date in the bank statement about which I have heard evidence is such that the noters cannot succeed in relation to this head of claim.

[47] With reference to section 243 of the Insolvency Act 1986, in order to establish that the payments to DELPS 1 were an unfair preference, the court requires to be satisfied, on the balance of probabilities:

• That the payments were made less than 6 months before the commencement of the winding up.
• That the payments had the effect of creating a preference in favour of DELPS 1 to the prejudice of the general body of creditors.
• That they were not made in the ordinary course of business.
• If the payments were payments in cash for a debt which when it was paid had become payable, that the transactions were collusive with the purpose of prejudicing the general body of creditors.

[48] In this connection I am satisfied on the uncontested evidence from both of the parties that payments to DELPS 1 were made by the Company as follows:-

£23,711.55 on 24 March 2009

£19,900 on 7 April 2009.

The winding up of Dyglen commenced when the relative petition was presented to the court, namely on 11 May 2009. The payments to DELPS 1 therefore fall within the six month period referred to in section 243(1).

[49] Mr Thomson gave evidence that he came to the Company with the possibility of buying the business. I took from his evidence that at the time he came he was very interested in buying the Company. He said that there was no written contract between himself and Mr Russell, and he had not agreed to pay a fixed price. Soon after he arrived he was made a director. While he was involved in the management of the factory operations, he had no financial control. This remained with Mr Russell, who undertook all the bookkeeping together with an employee Margaret (also known as Helen) McQueen, and ran the Company's SAGE accounting system. In 2007 Mr Thomson asked if the Company could set up a pension scheme for him as it had previously done for Mr Russell. It was agreed that the Company would pay £100,000 into a new pension scheme for Mr Thomson ("DELPS 2"), and at the same time it was also agreed that £90,000 of this would be loaned back to the Company by DELPS 2, to be repaid according to a repayment schedule set out in the relative Loan Agreement (No. 6/6/6 of process). A similar contribution was made at that time to DELPS 1 for Mr Russell and a similar loan arrangement entered into. The purpose of the loan to DELPS 2 was to assist the Company to acquire new machinery. He denied that the sum paid into DELPS 2 was to be used to assist with acquiring the Company. He stated that there was no agreement that repayment of the loan was conditional upon him buying the Company. According to the Loan Agreement the loan was to be secured by a floating charge over the Company's assets, but no security was ever provided. Some repayments were made to DELPS 1 and DELPS 2 but in August 2008 Mr Russell took the decision to stop the repayments because of the Company's poor financial position. However Mr Thomson subsequently discovered that payments totalling £43,611.55 were made to DELPS 1 between 24 March 2009 and 7 April 2009, while no further payments were made to DELPS 2.

[50] Mr Thomson stated that in 2008 discussions took place about his purchasing the Company. He instructed Les Livingston, CA to represent him and advise him in relation to these discussions. Mr Russell was represented by Robert Barr who had been a business adviser to the Company and to Mr Russell for a number of years. Following those discussions and enquiries made by Mr Livingston of Mr Barr in relation to the Company's financial situation, Mr Livingston informed Mr Thomson that he considered the Company to be insolvent and advised him to "walk away" from any purchase. Shortly thereafter he as a Trustee of DELPS 2 served a Notice of Default upon the Company in respect of the unpaid loan. Around this time Mr Thomson was aware that the Company was not paying its suppliers on time and that suppliers were refusing to provide items to the Company until the sums due to them were paid. He said that in January 2009 the Company did not appear to be financially viable, although he did not know the Company's figures then, as Mr Russell had the financial control. Eventually on 1 May 2009 there was a meeting between the two directors at which Mr Russell told Mr Thomson that the Company was to be wound up. Mr Thomson said that following advice from his solicitor he then took steps to present a Petition to this court seeking the winding up of the Company and the appointment of a provisional liquidator with a view to trying to secure what was due to his pension scheme.

[51] Christine McTavish who attended at the Company's premises on 12 May 2009 (the day after the appointment of the provisional liquidator, Graeme Smith, CA) said that Robert Barr told her that day that the Company's accounts as at March 2008 showed that it was balance sheet insolvent. He also told her that in order to deal with this, some Company assets had been transferred out of the Company and this had allowed some loans to be paid off. It was clear to her that the Company had ceased trading, although its Bank had not been informed of this. There were difficulties in communicating with Mr Russell that day as he would not come out of the premises and speak to her and communications took place from the car park via Mr Barr who attended and spoke to Mr Russell over the telephone. It was eventually agreed that Mr Russell and Mr Barr would attend at the provisional liquidator's office on 13 May 2009 with the Company files and records. At that meeting Mr Russell told Mr Smith that the utilities had been informed that the Company had ceased trading, although it subsequently transpired that the electricity supplier was not aware of that. Mr Russell and Mr Barr brought a box containing some Company records but this did not include some items which she would expect to have been provided by them to the provisional liquidator, but which only came to light later. She expressed the view that a report from a different accountant instructed by Mr Russell (No. 5/39) in which the author indicated that the Company was balance sheet solvent appeared to be based on a number of incorrect assumptions, and she would not accept that the Company had been paying its creditors up to the end. She said that the latter view was supported by the extent of the creditors (excluding Mr Russell and the pension schemes) and depended upon the age of the debts due to the creditors.

[52] Les Livingston, CA spoke to his involvement on behalf of Mr Thomson in discussions during 2008 with Robert Barr relative to the possible purchase of the Company. He obtained figures from Mr Barr and from these he proceeded to produce his own set of accounts for the period to 31 March 2008. He said that the resulting balance sheet showed a marked reduction in the value of the shareholders' capital from around £96,000 in 2006 to about £18,000 in 2008. While the Company had generated sizable profits in 2006 and 2007, it showed a loss in 2008. He confirmed that Mr Thomson was not a party to the financial records of the Company. At a meeting on 10 October 2008 Mr Livingston put it to Mr Barr that there were differences in Mr Barr's own figures in relation to the value of plant and machinery which required to be explained but for which he did not receive any clarification. He took the view on the basis of the figures he saw that the Company was balance sheet insolvent as at 31 March 2008. He said that he was told by Mr Barr on 10 October 2008 that the Company was trading profitably again, but although Mr Livingston requested financial information down to 30 September 2008 to support that contention, none was ever produced. He was told by Mr Barr at the meeting that if no sale was agreed, Mr Russell would have to consider ceasing trading, which Mr Livingston took to be a threat. He said that he made it perfectly clear to Mr Barr that Mr Thomson could not proceed further with any acquisition of the Company without financial management information being made available, because he could not advise Mr Thomson to pay any particular price without knowing the true value or worth of the Company, but that the information sought was never provided. Mr Barr did provide forecast balance sheets for future years which suggested that the Company was trading profitably, but that was inconsistent in Mr Livingston's view with the rider on these forecasts that a purchaser of the Company would be buying a situation not materially worse than the March 2008 balance sheet. That balance indicated to him that the Company was not trading profitably. In addition Mr Livingston stated that he had been told by Mr Thomson that suppliers and the loan repayments to DELPS 2 were not being paid, and so he informed Mr Barr that that information cast doubt on the contention that the Company was trading profitably.

[53] Mr Russell stated that in 2004 Mr Thomson agreed to pay him the fixed price of £360,000 for the Company. He said that he showed Mr Thomson "the full accounts" of the Company in May or June that year. When he was asked whether he showed the Company's books and records at any point after 2004, he answered that Mr Thomson received a copy of the signed off accounts. It was clear to me that this was a very different thing to showing Mr Thomson the Company's books and records. Apart from anything else it was clear to me that the Company's statutory accounts were not finalised and signed off until several months after the financial year end, so they could not provide up-to-date accounting information for the benefit of someone managing the Company. He agreed in cross-examination that he kept the books of the Company, was in control of paying bills and receiving money, and controlled the Company's bank accounts. He also accepted that the minutes of management meetings were not given to Mr Thomson. Mr Russell operated the SAGE accounting system, but he accepted that the system was not kept up to date. He admitted that he was very lax in keeping Company paperwork up to date. He professed to be unable to understand why Mr Livingston became involved on behalf of Mr Thomson in discussions to acquire the Company as a deal had already been done and Mr Thomson had agreed in 2004 to pay £360,000 for it. He also said that he never discussed with Mr Barr the negotiations which took place between Mr Barr and Mr Livingston, which I found to be implausible given the other evidence I heard to the effect that Mr Russell was keen to sell the Company and retire.

[54] He said that the purpose of contributing £100,000 to DELPS 2 for Mr Thomson was to assist him to obtain funding to purchase the Company. He also confirmed that DELPS 2 loaned £90,000 back to the Company subject to a contractual schedule for repayment of the loan. After DELPS 2 had been created and further sums paid by the Company to his own pension scheme, DELPS 1, and loaned back to the Company, Mr Russell said that he stopped the repayments to DELPS 1 and DELPS 2, because (1) Mr Thomson had made it plain that he was not going to proceed with his purchase of the Company and so he did not consider that Mr Thomson (sic) was entitled to have the loan repayments made, and (2) the cash situation was tight and there had to be a moratorium on expenditure which the Company did not need to spend. He accepted that there was no provision in the Loan Agreement between the Company and DELPS 2 that the repayments would not be due in the event of Mr Thomson not acquiring the Company. Some time later the pensions adviser, David Carlisle, told Mr Barr that there could be serious adverse tax consequences if the Company failed to make the repayments. Tax penalties of 40% could be imposed, so Mr Carlisle advised that the payments to DELPS 1 and DELPS 2 had to be brought up to date. The Company brought the repayments to DELPS 1 up to date, but not those to DELPS 2. Mr Russell maintained that all the Company's trade creditors continued to be paid.

[55] He was asked during cross-examination about the extent of the Company's indebtedness to creditors at the date of liquidation. An objection was taken by his Counsel to this question on the ground that there was no record for it. An objection was also taken to putting a Statement of Affairs (No. 5/44) to Mr Russell on the basis that it had not previously been lodged as a production. I decided to allow the Statement of Affairs to be lodged and to hear the evidence under reservation of the objections. I have now determined that the objections should be repelled. I have already held that the strict rules of pleading do not apply in a section 212 application, and all that is required is that fair notice be given to the other party (see paras. [30] to [34] above). In this connection Mr Russell himself gave evidence that he had never failed to pay a bill in his life. Moreover the evidence is clearly relevant to the issue of whether Mr Russell caused the Company to make an unfair preference in favour of his own pension scheme. The provisions of section 243 of the 1986 Act in relation to unfair preferences require the court to be satisfied that the effect of the payment was to create a preference to the prejudice of the general body of creditors. It therefore seems to me to be unanswerable that it is entirely relevant to seek to lead evidence that there were other creditors. It also seems to me to be proper that the noters should have an opportunity to attack the credibility of Mr Russell's testimony in cross-examination by reference to the extent of creditors not paid by the Company as at the date of liquidation. The Statement of Affairs had in fact been signed by Mr Russell, so it could hardly be said to have been sprung on him, and I consider that it was much fairer to him as a witness that the Statement of Affairs be lodged in process and clearly placed before him for reference, rather than asking him to rely entirely on his memory. Mr Russell accepted that the Company had over £34,000 of trade creditors at the date of liquidation, and this balance was made up of debts to 51 individual creditors, of whom one, Scottish Power, was owed nearly £9,000. He stated that £34,000 would equate to about 11/2 months' worth of debt. Questions put to Mr Thomson during cross-examination about the re-employment of the Company's employees by another company were objected to and evidence was heard under reservation. I am not satisfied that the evidence is relevant to the issues before me in this Note and I have had no regard to that evidence. However I do consider that questions put to Mr Russell about Mr Thomson's management style with the staff were relevant because they provided information about the context in which Mr Russell viewed Mr Thomson's decision not to buy the Company and Mr Russell's decision not to pay DELPS 2. The objection which I reserved in that connection therefore falls to be repelled.

[56] Mr Russell was referred to a letter which Mr Thomson had sent to him on 3 May 2009 (No. 5/22) following the meeting between them on 1 May 2009. He denied that the letter contained an accurate record of the meeting. In particular he denied that during the meeting he had stated his intention to allow Dyglen to cease trading. He denied that Mr Thomson had expressed concern about treating the employees unfairly by not informing them of the intention to cease trading. He said that Mr Thomson made up the terms of that and other letters simply in order to justify his own future position. However he accepted that he did not reply to Mr Thomson's letters, saying that it was obvious that Mr Thomson was going to create a problem and Mr Russell had enough on his hands to deal with. Accordingly he did not correct any comments in the letters that were wrongly recorded. In my view it is simply not credible that Mr Thomson would set these matters out in writing as comments he made during the meeting if there was no foundation for that. I do not accept on my view of the evidence and on the impression which I gained of Mr Thomson during his testimony that it is probable that he was as Machiavellian as Mr Russell would have the court believe.

[57] Robert Barr had worked for a number of years for the Scottish Development Agency and Scottish Enterprise. He started working for Dyglen as a consultant and business adviser in 1998. He said that the information that Mr Thomson was going to buy the Company for £360,000 came from Mr Russell. He was sure that Mr Thomson did not demur from that figure, and thought that it had been recorded in a letter to the Company's bank which Mr Thomson had seen. However he could not specifically recall Mr Thomson confirming that the price was agreed, and although he was taken to a number of productions he could not identify any document in which the alleged agreement was, in terms, set out. He confirmed that in 2008 he was involved on behalf of Mr Russell in discussions with Mr Livingston on behalf of Mr Thomson about a sale of the Company to Mr Thomson. He accepted that the claimed price of £360,000 was not part of those discussions, and much lower figures had been mentioned. During cross-examination he accepted that for Mr Livingston to advise Mr Thomson on what to pay, Mr Livingston needed up-to-date financial information. Mr Barr said he had asked Mr Russell for access to financial information to pass to Mr Livingston, but this had not been provided. He agreed that the request from Mr Livingston was very reasonable. He conceded that it would be naïve for someone to agree to buy a company for a fixed price without having investigated the company's financial position.

[58] He said that in July and August 2008 the Company's cash position was not good. It was losing money and could not continue trading. He considered that the failure of the Company would hurt Mr Russell the most as he had the largest financial stake in it. He said that the Company's accountant, Lynn Cunningham, had expressed concerns that the accounts to 31 March 2008 showed an insolvent and negative balance which had to be rectified by Mr Russell injecting £30,000 for which he received preference shares. In her evidence Lynn Cunningham confirmed that she asked Mr Russell and Mr Barr for reassurance that the Company was still a going concern, and received verbal assurances from them backed up by a document prepared by Mr Barr which provided the reassurance she sought.

[59] Mr Barr knew about the creation of DELPS 2 for Mr Thomson and the loan of £90,000 from that pension scheme back to the Company. He said that Mr Russell understood that the scheme had been set up as a way of helping Mr Thomson to buy the Company. That was what he believed too. He accepted that there was no documentation which referred to repayment of the loan being dependent upon Mr Thomson purchasing Dyglen. He confirmed that Mr Russell put a hold on repayment of loans to DELPS 1 and DELPS 2 in August 2008, but that he (Mr Barr) was told by the Company's pensions adviser, David Carlisle, on 26 November 2008 that there could be serious adverse tax consequences if the repayments were not made. Mr Barr informed Mr Russell of this, and some time thereafter the repayments to DELPS 1 were recommenced. He said that he advised Mr Russell to make the repayments to DELPS 2 as well, but Mr Russell identified DELPS 2 and Mr Thomson as one and the same entity, and believed that if Mr Thomson had not honoured his agreement, he did not deserve to receive the loan repayments.

[60] I prefer the evidence given on behalf of the noters in connection with this head of claim. In my view it is not credible that a businessman such as Mr Thomson would enter into a binding agreement to purchase a Company at a fixed price without reference to the true value of the Company which could only be reasonably ascertained by reference to analysis of its trading performance. To say that Mr Thomson took account of the possibility of the value going up, without at the same time having regard to the risk of the value falling, does not make sense to me and is not credible in my view. Nor do I find it credible that DELPS 2 was set up and £100,000 contributed to it by the Company on the understanding that the purpose of the fund was to assist with purchase of the Company, when there is no reference in any documentation at all that that was what the fund was intended for, nor that if the purchase did not proceed the loan repayments to the fund would not be due. I do not accept that Mr Russell had a reasonable belief that repayments to the loan by DELPS 2 did not fall to be made. He was told by Mr Barr that Mr Carlisle had stated that the repayments to both loans (i.e. by DELPS 1 and DELPS 2) had to be brought up to date if tax penalties were to be avoided and he was advised by Mr Barr to pay DELPS 2 as well because the Loan Agreement was between the Company and DELPS 2. I consider that Mr Russell knew full well that repayments should be made to DELPS 2, but he chose for his own reasons not to make those payments.

[61] The payments to DELPS 1 in March and April 2009 did have the effect of creating a preference in favour of DELPS 1 over the general body of creditors. The respondent argues that the only creditor of the Company which was not being paid was Mr Thomson's pension scheme ("DELPS 2"). He claims that he had a good reason for not paying DELPS 2. I have just held above that he did not have a good reason and had no reasonable belief that a good reason existed. He further claims that the evidence shows that all other debts payable by the Company were being paid as they fell due. However the statement of affairs of the Company signed by Mr Russell after the provisional liquidator had been appointed on 11 May 2009 did indeed show that there were creditors other than DELPS 2 who were owed money at the time the winding up commenced.

[62] A number of Mr Walker's written submissions in relation to this head of claim were predicated on the need for allegations of unfair preference to meet the terms of section 239 of the 2006 Act. But that section only applies to England and Wales, whereas the rather different terms of section 243 are applicable in Scotland. Mr Walker accepted this during his oral submissions.

[63] In my view the effect of the payments to DELPS 1 was to diminish the sums available within the Company to meet the claims of other creditors. But for the payments to DELPS 1 on 24 March 2009 and 7 April 2009 there would have been an additional £43,611.55 within the Company to meet sums due to other creditors. Mr Walker made the point that other creditors were being paid in the normal course of Dyglen's business. The "snapshot" in time which is the date of the winding up is the point at which creditors are identified. It may well be correct that if the Company had not been wound up as it was, other creditors would continue to have been paid, but the reality is that the Company did have creditors as at the date of liquidation, and the payments to DELPS 1 resulted in less being available to the creditors as a whole. Accordingly I am satisfied that these payments had the effect of creating a preference in favour of DELPS 1 to the prejudice of the general body of creditors.

[64] It is clear to me from Mr Russell's own evidence about the reasons for the decision to suspend payments to DELPS1 from August 2008, and the substantially delayed reaction to Mr Carlisle's advice in November 2008 about the legal requirement to bring the payments up to date - payments were not made until late March and early April 2009 - that the payments of £23,711.55 and £19,900 were not a transaction in the ordinary course of trade or business. The arrangements which formed the basis for the payments were arrangements personal to Mr Russell or for his personal benefit, and on no basis were they ones made in the normal course of business. The decision of Mr Russell to put a moratorium on payment and then the further delay between receiving advice in November 2008 and recommencing payment in late March 2009 demonstrate to me that these were not ordinary business transactions. Moreover his own explanation that he knew that these payments were not ones which the Company "required" to make illustrates to me that they could not reasonably be considered to be ones which, when they were eventually made, were in the normal course of the Company's business.

[65] It seems to me that these payments were made in cash for a debt which had become payable. "Payment in cash" includes a payment by cheque drawn on the Company's bank account (see Liquidator of Walkraft Paint Co Limited v James H Kinsey Limited 1964 SLT 104 and Whatmough's Trustee v British Linen Bank 1934 S.C. (H.L.) 51 per Lord Thankerton at page 59). There was evidence from Mr Russell and Mr Barr that the sums were due to DELPS1 and had been so due for some time before the payments were made. In terms of section 243(2)(b), the payments can only amount to an unfair preference if the transaction was collusive with the purpose of prejudicing the general body of creditors. The exception in subsection 243(2)(b) falls to be construed in accordance with long-standing authority to the effect that for the exception to apply the payments require to have been made bona fide and in the ordinary course of business (see Baillie Marshall Limited (in liquidation) v Avian Communications 2002 SLT 189 at page 194J-L).

[66] Were the payments to DELPS1 collusive with the purpose of prejudicing the general body of creditors? I have already held that the effect of these payments was to prejudice the general body of creditors. The phrase "collusive with the purpose of prejudicing" requires the court to consider the intention of the respondent when he caused the payment to be made by the Company to his own pension scheme. Collusion in this context necessarily involves the collusive agreement of the creditor who has been preferred by the payments, namely DELPS1 (see Baillie Marshall Limited (in liquidation), supra at para 24 of Lord Kingarth's judgment). Since the director who made the decision to pay DELPS1, Mr Russell, is the same person who is both a trustee of and the beneficiary of the pension scheme, I consider that the noters have little difficulty in establishing that the transaction was intended by him to prefer his own pension scheme over other creditors such as DELPS2 and other trade creditors, and was therefore collusive, and on the evidence I am satisfied that they have done so.

[67] On his own evidence Mr Russell was aware of the difficult financial state of the Company, and on the basis of that knowledge he took the decision in August 2008 not to make payments which he knew the Company did not "need to spend money on". He says he knew in November 2008 that there was a legal requirement to bring the DELPS1 payments up to date, but he did not actually attend to this until March and April 2009. He provides no good explanation in my view for the delay. The evidence demonstrated to me, on the balance of probabilities, that the decision to make the payments to DELPS1 in March and April 2009 was motivated by a clear intention on Mr Russell's part to improve his own position as a beneficiary of the pension scheme, and thus to prefer that scheme over other creditors of the Company. In particular it is clear from the evidence of Mr Russell and Mr Barr that when Mr Russell caused the Company to make these payments to his own pension scheme, he had no intention of paying anything to Mr Thomson's pension scheme (DELPS2). As a matter of law DELPS2 was in a similar position to DELPS1. It was owed money by the Company which had failed to make scheduled payments to it. It has already been held in these proceedings, following the proof on the petition to wind Dyglen up, that the loan by DELPS2 fell to be repaid by the Company. Mr Russell had argued then, as he does now, that repayment of the DELPS2 loan was conditional upon Mr Thomson purchasing Dyglen. The order for winding up was made on the basis that no such condition applied to the setting up of DELPS2 or repayment of its loan to the Company, and therefore there was no legitimate or bona fide dispute in relation to the debt. The respondent has not challenged the earlier decision of the court in relation to this matter. In any event, on the basis of the evidence which was led before me, I am satisfied on the balance of probabilities that Mr Russell did not have a genuine and honest belief that Mr Thomson had misrepresented his intentions to purchase the company. Nor do I accept on the evidence that the debt due to DELPS 2 is disputed bona fide and on substantial grounds (see para. [62] above). On the contrary I have concluded that Mr Russell has invented this contention as a false excuse for preferring his own pension scheme over that of Mr Thomson. In all the circumstances, I find that none of the exceptions set out at paras (a)-(e) of section 243(2) apply in the present case.

[68] Accordingly I am of the view that the payments made by the Company to DELPS1 on 24 March 2009 and 1-7 April 2009 fell within the scope of section 243(1) and are therefore challengeable under section 243(4)(a)(i) as an unfair preference. Such an unfair preference is a misapplication of company funds within the meaning of section 212(1) of the 1986 Act. As a consequence of the view I have formed that it was collusive with the purpose of prejudicing the general body of creditors, it follows that the preference is also a misfeasance within the meaning of section 212(1). Where I am satisfied that Mr Russell as a person who was an officer of the Company has misapplied the money of the Company or been guilty of a misfeasance, as I am here, the court may, having examined into his conduct, compel him to repay, restore or account for the money or any part of it with interest at such rate as the court thinks just, or compel him to contribute such sum to the Company's assets by way of compensation in respect of the misfeasance as the court thinks just (section 212(3)). The crave of the Note seeks decree against Mr Russell for payment to the Company of such sum as may be ascertained to be the amount misapplied by him with interest from the date of any decree to follow thereon, and I propose to deal in that way with the misapplication and misfeasance which I have held to have been established in relation to this particular head of the noters' claim. I find on the evidence that the extent of that misapplication and misfeasance is £43,611.55 for which I am prepared to grant decree for payment by Mr Russell to the Company with interest from the date of decree as craved. I shall deal with the matter of relief at para. [97] below.

The payments to Elbalite

[69] In Article 6 of Condescendence the noters aver that no lease between the Company and Elbalite existed. Accordingly they claim that there was no reason or basis for the payments of £33,300 made by the Company to Elbalite between 18 February 2009 and 2 April 2009, and therefore those payments amount to a gratuitous alienation. They do not aver whether the payments to Elbalite are challenged as gratuitous alienations at common law or under section 242 of the 1986 Act. This makes a difference. At common law the onus lies with the challenger to establish that the alienation was gratuitous, and that the Company was insolvent at the time of the alienation (see Goudy on Bankruptcy (4^th Ed.), Chapter III; Palmers Company Insolvency In Scotland, para 506 at page 225; Abram Steamship Co Limited (in liquidation) v Abram 1925 SLT 243). On the other hand the provisions of section 242 of the 1986 Act effectively shift the burden of proof from the challenger to the person seeking to uphold the transaction. In the absence of any specific reference in the noters' pleadings to section 242 or its terms, I consider that they must be held to be undertaking the burden of proving that the payments are reducible at common law.

[70] Mr Thomson gave evidence that while he was working at the Company he was unaware of any transfer of the Company's plant and machinery to Elbalite. He only discovered that a transaction was alleged to have taken place after the provisional liquidator had been appointed and he had an opportunity to inspect Company records provided to the provisional liquidator by Mr Russell. He saw that the Company had made payments to Elbalite in February and April 2009. He went to Companies House and checked Elbalite's records there. He found that it was a dormant company. Mr Russell was a director, and his son was the company secretary. The shareholders at that time were listed as Mr Russell and Helen McQueen. This lady is the same person as Margaret McQueen who worked with Mr Russell doing the bookkeeping for Dyglen. Mr Thomson and Mr Livingston both gave evidence that the claimed transfer of assets from the Company to Elbalite was not genuine and did not truly happen. They pointed to a number of documents to support this conclusion. Mr Thomson referred to an invoice from the Company to Southfield setting out three machines which were sold by the Company to Southfield on 18 April 2009 (no. 5/14). However these three machines were also included in a document which appeared to be a receipt from Elbalite to the Company dated 28 February 2008 (No. 6/6/19). How could the Company sell the same machines to Southfield if they had truly been transferred to Elbalite more than a year earlier? Mr Thomson said that while he was at the Company he had never seen any lease between Elbalite and the Company for the use by the Company of the machinery which the respondent claimed to have been transferred to Elbalite. He had subsequently seen a copy of such a lease, but Mr Russell had not been able to produce a signed lease. Both Mr Thomson and Mr Livingston made the point that if most of the Company's assets had truly been transferred to Elbalite, there was no value in Mr Livingston trying to negotiate a price for the Company with Mr Barr. Much of the worth of the Company lay in its assets, and if these were not owned by the Company, there was certainly no justification for the price being sought by Mr Barr on Mr Russell's behalf. An objection was taken to questions put by the noters' Counsel to Mr Thomson relative to the value of the items which the respondent claimed had been transferred to Elbalite on the basis that there was no record for this. I heard evidence under reservation of the objection. It subsequently became clear that the noters' were not seeking to bring out that there was any misfeasance by virtue of any undervalue. I consider that that objection to relevancy is well-founded. I have not had regard to any evidence given by Mr Thomson which indicated that the items alleged by the respondent to have been transferred to Elbalite were sold at undervalue. There was also an objection to Mr Thomson being asked by the noters' Counsel about whether plant and machinery which Mr Russell claimed had been transferred to Elbalite was under-utilised. Again I heard that evidence under reservation. I consider that this objection was not a good one because the respondent's pleadings at Answer 6 set out that the machinery was under-utilised, and it seems to me that the noters' Counsel was entitled therefore to address this issue with Mr Thomson. Mr Livingston gave evidence that the Particulars of Sale of the Company which were given to him by Mr Barr on 2 October 2008 (No. 5/28) made reference to the trial balance from the SAGE accounting system as at 31 March 2008, and to a list of the Company's plant and machinery. The balance showed no transfer of plant and machinery out of the Company to Elbalite. Moreover the Particulars of Sale stated that the balance constituted a global list of all the assets to be included in the Company at the time of sale. The plant and machinery now claimed to have been transferred to Elbalite was still with the Company according to the information provided by Mr Barr. The Particulars went on to state that all of the current assets of the Company will remain with the Company, and that there was not expected to be any diminution in value between March 2008 and the date of an agreement for sale. They stipulated that any diminution will be attributable to ongoing depreciation of such assets. No information was provided to Mr Livingston to the effect that the list of assets had changed, so it was clear to him that the list of machinery included with the Particulars of Sale specified those items of Company property which were to be included in a sale. It was put to him that the Company's statutory accounts to 31 March 2008 which were subsequently prepared did disclose a sale of equipment to Elbalite, but he said that these accounts did not tally with the trial balance from the SAGE accounting system provided to him by Mr Barr in October 2008. Mr Livingston was also taken through a draft Business Plan prepared by Mr Barr for the Company dated 8 April 2009 (No. 5/41). He said that there were very significant contradictions within the Business Plan in relation to the value of assets, and that it stated that under-utilised assets had been transferred to Elbalite, whereas he had never been made aware in any negotiations with Mr Barr that there were any assets which were under-utilised. Mr Thomson specifically denied that any assets were in fact under-utilised. Mr Livingston also said that in his view it made no commercial sense for the Company to receive about £144,000 from Elbalite as claimed, of which only £30,000 was cash (the rest allegedly going to clear interest free loans), but then paying £22,200 per annum in order to lease the machinery back. So far as he could see, the beneficiary of such a transaction in the event of the subsequent liquidation of the Company would be the person or persons who had made the loans.

[71] Ms McTavish too did not see that it made sense for Mr Russell to say at the time of the provisional liquidator's appointment that offers were being made by Mr Thomson for Company assets and for the Company itself if these assets had in fact already been sold. She agreed with the respondent's Counsel that selling assets to pay off loans is balance sheet neutral, but said that Mr Russell and his aunt would benefit because their loans would be paid off, and she considered that the creditors of the Company would suffer. When it was put to her that Mr Russell put in £30,000 of his own on 18 March 2009 and that this was inconsistent with "asset stripping", she accepted that it would be counter-intuitive but said that in other cases she had seen directors make payments to companies in such a situation. For her part Lynn Cunningham confirmed that she had never seen a signed copy of the claimed lease between Elbalite and the Company. She was hesitant when asked whether the reasons given by Mr Russell and Mr Barr for the claimed transaction amounted to a sensible strategy. When pressed she said that it was sensible to make the Company more saleable, but she also said that if assets were immediately leased back after sale and never actually left the factory, the transaction might not make sense. She also accepted that the Company's statutory accounts to 31 March 2008, which she prepared, should have included lease payments to Elbalite if these had been paid during that year, and that the omission could be a mistake which she could not explain.

[72] Mr Russell was adamant that the Elbalite transaction took place and that Mr Thomson knew about it, although he said that he did not specifically discuss it with Mr Thomson. He said that the lease of the equipment back to the Company had been signed, but he did not have the signed document. He blamed Mr Thomson for this, stating that Mr Thomson had taken Mr Barr's papers (which would have included the signed lease) from the office in the factory when he left. He said that when the transaction took place it had not been signed off by the Company's accountant "before we were totally committed". This suggested to me that Mr Russell considered the claimed sale and leaseback to be a provisional arrangement which was subject to the accountant's approval. This was confirmed later in his evidence when he said that if the accountant had not approved the arrangement, it would have been reversed. He said that a result of the transaction was a balance sheet deficit of some £26,000, which led the accountant to require him to inject £30,000, which in fact was paid by his wife. He explained that the Elbalite transaction was entered into as a consequence of Mr Barr's advice that a sale and leaseback of the Company's machinery would produce a saving on depreciation in the Company's accounts and would reduce the break-even figure which the Company required to achieve in relation to sales. He had confidence in Mr Barr and would accept any advice he gave. He stated that invoices were raised by the Company for the transfer to Elbalite, but accepted that none were before the court. He said that they could be obtained from Elbalite, but again accepted that they had not been produced. He accepted that the Company's payments to Elbalite were not paid in accordance with the terms of the purported lease, which he said was because the accountant had not signed the accounts off. When asked about the apparent receipt from Elbalite (No. 6/6/19) he accepted that he had prepared it, but said that it did not actually mean anything and "just confuses us". He accepted that it contradicted the unsigned lease because it included a number of items which according to the lease were excluded from the transfer. He stated that it could not be what was agreed between the parties. His evidence demonstrated to me that he seemed to take an inappropriately flexible and relaxed approach to Company paperwork and to transactions which he claimed the Company had entered into. Mr Russell's lack of precision extended to the loans which had made to the Company. He agreed there was no documentation for the sum of £114, 231 which had been loaned to the Company. He said that the loan was given on an interest-free basis, but that he could change the terms of the loan at any point in time that he liked, and could decide from one year to the next whether to charge interest. While I accept that a lender may be entitled to opt not to charge interest on a loan, Mr Russell's apparent lack of precision in relation to contractual matters, if true, indicated to me an alarming tendency to treat arrangements as being changeable and capable of reversal at will. I do not accept that there was no need to document a transfer to Elbalite because both Dyglen and Elbalite were Mr Russell's companies. Transactions which materially affect the property and worth of any company should be clearly and effectively documented in order to provide certainty and reliability to its officers and those responsible for its management as well as those with an interest in ascertaining its value. In the absence of such clear and effective documentation I did not find Mr Russell's evidence to be credible or reliable.

[73] Robert Barr confirmed Mr Russell's evidence that the transaction was a consequence of advice given by Mr Barr about the sale of assets being beneficial for the business. He conceded that he had made an incorrect assumption and that the benefit to the Company was not as great as he had thought at the time. He was clear that the transaction had taken place before 31 March 2008. He said that he would have witnessed the signature of the lease in about February or March 2008. He would have kept the signed lease with his files in the Company's office which he shared with Mr Thomson. He also claimed that he had sent Mr Thomson a copy of the lease in August 2008. He referred to an email from him to Mr Thomson dated 20 August 2008 in which he wrote that he had let Mr Thomson have copies of the lease for the Company's factory and a machinery lease. There is no specification in the email that the lease related to machinery transferred to Elbalite, and it is clear that the Company was using some other machines which it did not own. I find it difficult to be satisfied from this email that the claimed Elbalite lease was indeed given to Mr Thomson. Mr Barr was taken at length through his Particulars of Sale (No. 5/28). When asked why these Particulars listed machinery which had already been transferred to Elbalite, he said that if Mr Thomson had bought the Company, Elbalite would have cancelled "this paper transaction" and would have returned the assets to the Company. Elsewhere in his evidence he referred to the transfer to Elbalite as a "paper transfer". I found his evidence on this point to be unsatisfactory. It suggested to me that Mr Barr shared Mr Russell's inappropriately flexible attitude to precision in the documenting of significant transactions affecting the Company's property and worth. He accepted that the list of assets in the Particulars of Sale was incomplete and that the figures in the Particulars cannot be relied upon. He said the figures were provided to him by Mr Russell and that he was unable to comment whether they reflected accurately what was in the Company's books. He also accepted that the Company's filed accounts to 31 March 2008 do not show any rental payments to Elbalite, and that these payments should have appeared, however he subsequently thought that rental payments were not made during that financial year because the Company was struggling financially. He thought that Mr Thomson must have taken the signed lease with him when he left the Company, but later he conceded that he did not know what items Mr Thomson had taken because he did not know what company records Mr Thomson had. Mr Barr was referred to a number of items which were prepared by him, but which had in fact been provided to the court by Mr Russell (Nos. 6/6/1, 6/6/5, 6/6/10 and 6/6/20). He conceded that it was possible that Mr Russell might have taken his (Mr Barr's files) from the office.

[74] Again I prefer the evidence led on behalf of the noters in relation to this aspect of their claim. I have already commented on the lack of precision which appears to have been adopted by both Mr Russell and, to a lesser extent, Mr Barr to the documenting of transactions. They both indicated that the Elbalite transactions were capable of cancellation and reversal, if not approved by the Company's accountant. In my view this is entirely the wrong way to go about matters. Transactions (even between companies which are both controlled by Mr Russell) which have a material impact on one company's property and value cannot be treated in this conditional way. Either the transaction was genuinely carried out at the time claimed, or it was not. Mr Russell and Mr Barr cannot have it both ways. I cannot accept their position on this transaction. Their evidence, combined with the absence of any documentation to clearly support the alleged transaction and the contradictions in the Particulars of Sale produced by Mr Barr, leads me to conclude that there was no transaction which can properly be said to have been implemented as claimed. I believed the evidence of Mr Thomson that he was not aware of the claimed transaction till after the appointment of the provisional liquidator. That evidence was supported by the testimony of Mr Livingston, in which I had considerable confidence. It was also supported in my view by Ms McTavish's evidence and, to an extent, by what Ms Cunningham told the court. I was not satisfied that I could place reliance on what Mr Russell said in this connection, and it seemed to me that Mr Barr's concessions undermined a number of Mr Russell's assertions. In so far as Mr Barr recollected the lease being signed and a copy being given to Mr Thomson in August 2008, neither point was borne out by the weight of evidence in this case which indicates to me that there was no transfer of assets to Elbalite, and I consider that his memory of these aspects must be faulty. I do not accept that Mr Russell's payment of £30,000 (actually paid by his wife) displaces the inference that the transaction did not in fact take place. It is clear from the evidence of Mr Russell and Mr Barr that this sum would not have been paid if the Company's accountant had not insisted upon it, and notwithstanding its payment, the redemption of the loans in the sum of £114,231 would nevertheless result in a substantial net benefit to Mr Russell and his family. Accordingly I consider that Mr Russell had a material and significant interest in presenting the transaction as one which definitely happened. Although I am satisfied on the evidence that there was discussion between Mr Barr and Mr Russell during the year to 31 March 2008 of ways in which assets might be taken out of the company, resulting in a saving on depreciation and the repayment of loans, I am not prepared to accept that the transaction was ever actually put into effect as claimed by the respondent. If it had been there would have been more evidence to document the transaction. That documentation is lacking and what is produced does not in my view support the carrying into effect of the claimed transaction. Rather it supports the noters' contention that no such transaction took place. I conclude that there was no actual transfer to Elbalite, nor a leaseback to the Company of the relative machinery. Mr Russell's evidence about the "cancellability" of the transaction or the possibilities for its reversal in the event of it not being approved by the Company's accountant at a later date, indicated to me that in different circumstances he would have been prepared to contend that it had not taken place, or had been cancelled ab initio. The inference I drew from Mr Russell's evidence was that he was prepared to be economical with the truth. His evidence about the transaction being cancelled or reversed leads me to conclude that he had no genuine or honest belief that the Company had entered into a binding contract with Elbalite. It is clear to me in any event that Mr Russell did not act reasonably. It is not reasonable for the director of a company to make payments in pursuance of an alleged transaction which did not in fact take place. It is particularly unreasonable when the main consequence of the transaction is a benefit to Mr Russell in that his loan (and that of his aunt) to the Company is paid off, and a further benefit to another company owned by him (Elbalite) by way of the alleged rental payments.

[75] It is submitted on behalf of the respondent that the noters' pleadings in this respect fail to provide proper notice of the case which was actually led in evidence before the court. It is argued that the evidence adduced by the noters suggests two possible scenarios. Firstly it might indicate that Mr Barr presented Mr Thomson (through his adviser Mr Livingston) with figures which valued the Company on the basis that it still owned the machines which were later said to have been transferred to Elbalite. In other words, Mr Barr was effectively trying to hoodwink Mr Thomson into paying more for the Company than it was worth. If that scenario was the correct one, it could not form the basis of a gratuitous alienation as pled by the noters. According to the respondent the alternative scenario which the noters say is suggested by the evidence is that the equipment never left the Company and that the lease with Elbalite was a sham. The respondent argues that, taking the evidence at its very highest, all that it demonstrates is that the manner of negotiation utilised by Mr Barr might be thought to be inconsistent with there having been a lease to Elbalite. But that inconsistency is claimed to be a far cry from proving that the transfer to Elbalite and the lease were all a fiction.

[76] Again I do not agree with the respondent's submissions in relation to this head of the noters' claim. I am of the view that the terms of Article 6 of Condescendence for the noters are adequate to give the respondent fair notice of the nature of the noters' allegations against him in relation to the payments made to Elbalite. The averments identify the relationship between Mr Russell and Elbalite. They also set out that Mr Thomson in his capacity as a director of the Company was unaware of any lease between the Company and Elbalite or any disposal of assets by the Company to Elbalite. The averments make plain Mr Thomson's stated belief that no such lease nor any arrangement was entered into with Elbalite in respect of the machines. The alienation of funds claimed by the noters will only be reducible as a matter of law if they can demonstrate that the consideration was gratuitous and that the Company was insolvent at the time. These are the essential elements which the noters require to prove. Since the strict rules of pleading do not apply to a Note of this kind, I do not consider it necessary that the noters specifically aver in Article 6 of Condescendence that the Company was insolvent at the time of the payments to Elbalite, particularly when they have already averred at Article 5 of Condescendence that at the time the payments were made to DELPS1 (on 1 September 2008 and on dates from 1 to 7 April 2009) the Company was in a state of insolvency. In my view the averments in Article 6 of Condescendence are sufficient to provide fair notice to the respondent of what the noters offer to prove.

[77] As I have set out above, I am satisfied on the evidence that the Company did not in fact transfer any assets to Elbalite and that there was no valid lease between Elbalite and the Company which could provide a legal basis for the payments made by the Company to Elbalite totalling £33,300 between 18 February 2009 and 2 April 2009. It follows from this that, without a legal basis for the payments, the payments to Elbalite were gratuitous. Furthermore it has already been found in these proceedings (by Sheriff Williamson) that the Company had insufficient funds to make payment of the sums due to Mr Thomson's pension scheme as they fell due. The evidence that the Notice of Default in relation to the failure to make these repayments was served on the Company in November 2008 and remained unpaid through to the appointment of the provisional liquidator on 11 May 2009, taken together with the evidence from both sides about the poor financial position of the Company over this time, the evidence from Mr Thomson about suppliers not being paid, the Statement of Affairs signed by Mr Russell, and the decision taken by Mr Russell to stop payment of non-essential debts, satisfies me on the balance of probabilities that the Company was insolvent when it made the payments to Elbalite between 18 February 2009 and 2 April 2009.

[78] Accordingly I find that the payments to Elbalite amounted to a gratuitous alienation, and as such were a misapplication of the money of the Company, and a misfeasance, on the part of the respondent as an officer of the Company. In terms of section 212(3) of the 1986 Act, the court is entitled to compel him to repay the money or contribute such sum by way of compensation in respect of the misfeasance as the court thinks just. The noters' crave seeks decree against Mr Russell for payment to the Company of the sum misapplied by him. In relation to the gratuitous alienation I find that the extent of the misapplication is £33,300 for payment of which I am prepared to grant decree against Mr Russell with interest from the date of decree as craved. I shall deal with the matter of relief at para. [98] below.

[79] The logical corollary of my decision that the Elbalite transaction did not take place is that any claimed movement of monies from Elbalite to the Company was not legitimate or justified. It appears to me that the consequence of this would be that Elbalite may have a claim in the Company's liquidation in relation to monies paid by it. However that is not a matter which is formally before me in relation to the Note and Answers and I offer no opinion as to whether such a claim would be a valid one in all the circumstances of the case.

The transfer of equipment to Southfield Properties Limited

[80] In article 7 of condescendence the noters aver that Mr Russell instructed a purported disposal by the Company of assets with a book value of £208,907.83 to Southfield for £12,000 on 18 April 2009. They go on to aver that Mr Thomson, as a director of the Company, was not aware of any sale of assets to Southfield and that Mr Russell had a business relationship with the directors and shareholders of Southfield and was thus a connected person. They also aver that the £12,000 payment has not been recorded in the Company's accounts, and that Mr Russell was depleting the Company of assets while the Company was insolvent. The respondent states that Southfield had the assets valued at £15,500 on a going concern basis and £10,500 on a forced open market basis. The price of £12,000 fell between these two valuations, and the price was paid by Southfield through the Company's invoice discounting arrangement with Clydesdale Bank. It is submitted on behalf of the respondent that the evidence shows that the machines were not sold at an undervalue, that there was no fraud to denude the Company and its creditors of valuable assets, and that the price achieved was a fair one in all the circumstances and was in the best interests of the Company.

[81] It was clear on the evidence that the book value of the assets transferred to Southfield set out in the noters' pleadings (£208,907.83) was overstated. The evidence of both parties was that assets transferred to Southfield and their net book values were as follows:-

1. Chiron Palletised Mill and Tool - £76,579.15

2. Leadwell Lathe 12 Station and Tools - £21,346.84

3. Sodick AW 550 Wirer and Tools - £36,736.30.

The total net book value for these three items is £134,662.29.

[82] Mr Thomson gave evidence that he had experience of machines of this kind and ascertaining their true values. He said that he had also communicated with the manufacturers of the three machines in question to obtain information from them on the true market values. These communications produced figures which were substantially less than the written book values.

[83] On behalf of the noters evidence was led from Mr George Gordon Jude, who has been involved for 44 years in buying and selling new and used machine tools, and in valuing such machines. He was presented to the court as an expert witness, and although he has no formal qualifications, the details which he provided in relation to the extent of his experience allow me to treat him as an expert. He had provided a report which had been lodged in these proceedings (production no 5/40 of process). Although Mr Jude had not had an opportunity to examine any of the machines used by the Company, he provided open market values for various machines contained on a list provided to him by Mr Thomson. He said that these values were what he would expect the machines to achieve if they were sold on the open market using either the internet or any other means. He also said that he had valued them on an "as is" basis meaning, as I understand it, that he was proceeding on the basis that the machines would be sold in situ in their current condition and the purchaser would have to take the risk of the equipment having any faults. He explained that certain faults were irrelevant to value, and that very few people actually inspect second hand machines when buying them. He said that people who buy such machines over the internet on online auctions accept that there will be faults and put prices on machines which they are interested in buying which reflect this. He said that from 2008 to the present time the strong buyers in the market came from Asia, mainly India. These buyers were prepared to purchase machines with any faults and ship them to India where it would be much cheaper to repair them. He said that in 2009 his advice to Dyglen would have been to sell any plant and machinery over the internet in order to obtain access to a worldwide market. Mr Jude's valuation of the three machines in question was £72,500. He thought that the values which Mr Thomson had derived from speaking to manufacturers were too high, but he considered that the £12,000 paid by Southfield was a very low price. He also considered that the valuation obtained by Southfield from Brian Ferguson of Machine Tool Technical Services Ltd (£10,500 to £15,500) was too low, and he took the same view of the valuation (£52,935 as a Going Concern value and £20,080 as an open market value under forced sale conditions) by the respondent's expert, Leslie Reid of Thainstone Specialist Auctions of the plant and machinery in the Company's premises excluding the three machines sold to Southfield which he was not asked to value. Mr Jude took exception to the Machine Tools Technical Services Ltd valuation on the basis that they are not dealers in machines, rather they are engineers who repair machines. He said that their valuation was too greatly influenced by what they saw as the cost of repairing the machines rather than what they could achieve on the open market. In relation to the Thainstone's valuation, he considered them to be principally agricultural auctioneers, and not in the mainstream of the machine tool business. He did not consider them to have expertise in valuing machine tools. He fundamentally disagreed with the view taken by Thainstone that the demand for machine tools in 2009 was not strong because there was a lot of surplus equipment on the market. Mr Jude said that there was a lot of international demand at that time and that dealers like him were trying to get hold of all the equipment they could.

[84] Mr Brian Ferguson of Machine Tools Technical Services Ltd was also of the view that in March 2009 there was no great demand for second hand engineering equipment. Even new machines were being offered at crazily low prices. He found a number of faults with the three machines requiring significant repairs and said that this affected the values he was prepared to give to Southfield. He had examined the machines himself, and while he had limited experience of the international market, he thought that buyers from India were careful about how much they paid for second hand equipment. He thought that his approach to valuation was more appropriate, at least for the local market.

[85] Mr Leslie Reid of Thainstone Specialist Auctions had 12 years' experience of valuing commercial assets including engineering equipment. That experience related to the UK market - he did not have experience of selling such equipment to buyers from India. He explained that he had valued the Company's plant and machinery on the basis of the forced sale value because it was clear that the opportunity to fully expose the machinery to the open market was restricted. Where the Company was under pressure to sell assets, the time available to find a willing buyer is restricted and this has a negative impact upon the value that can be achieved upon sale. He also stated that the forced sale value was further restricted by the fact that the market for machinery of this type was saturated in 2009. If there were no time restrictions to market and sell the goods, then a significant price might be achieved for them. Furthermore if the circumstances were such that the Company's business were being acquired by a buyer, the machinery would have a significantly higher value on a going concern basis. It transpired that Mr Reid had not actually valued the three machines transferred to Southfield. Accordingly it was impossible to compare the differing valuations provided by Mr Jude and Mr Ferguson with any figures supplied by Mr Reid. He explained that Thainstone Specialist Auctions do not undertake agricultural valuations, only commercial valuations including engineering assets.

[86] I am inclined to prefer the evidence of Mr Jude as to the open market value of the three machines. Although he did not see the machines in question himself, he possesses extensive experience of buying and selling machinery of this kind as well as valuing it and his approach to valuing other machine tools appears to have been generally not too dissimilar to that taken by Mr Reid of Thainstone, notwithstanding their difference of opinion in relation to saturation of the market. It seemed to me from Mr Ferguson's evidence, that his primary focus was on maintaining and repairing machines, and that led him to place a very considerable emphasis on the cost of repairing any defects when he came to put a value on such machines. I thought that this was an undue emphasis because I generally accepted Mr Jude's much wider experience of the global market. Mr Reid of Thainstone also agreed that to obtain the best price, it would be appropriate to look to the internet. It was submitted on behalf of the respondent that Mr Jude's view that the existence of certain defects would be relatively unimportant to valuing the machines was not credible. However it seemed to me that Mr Jude explained very clearly the approach which, in his experience, overseas buyers in need of such machines might take on the matter of condition. I was persuaded by that explanation.

[87] Accordingly I accept that a true open market valuation of the three machines would be in the order of £72,500 as at March 2009. However that is not an end of the matter. Mr Russell gave evidence that the sale of the machines to Southfield came about because the Company required to raise some cash in order to pay Mr Barr's outstanding fees. The implication was that the funds required to be raised quickly. Mr Russell also explained that he wished the Company to be able to lease the equipment back from the buyer, or to buy it back at a later stage. He did not think he would have been able to buy the machines back from most buyers, and he thought that it would have taken some time to find a buyer who was prepared to lease the equipment back to the Company. In her evidence Jennifer McQueen confirmed that Southfield bought the machines from the Company as a favour and on the basis that the Company would continue to have the use of the machines even after the sale. Jennifer McQueen and her sister Lisa are the shareholders of Southfield and Jennifer McQueen is a director of that company. They are the daughters of Helen McQueen (also known as Margaret McQueen) who assisted Mr Russell in relation to the Company's bookkeeping. Mr Russell has no other connection with Southfield. He is not a shareholder or an officer of that company. Both Mr Russell and Miss McQueen spoke to Southfield having made payment of the price of £12,000 for these three machines by way of the invoice discounting agreement operated by the Company with the Clydesdale Bank. The bank paid 85% of the invoice value to the Company. Southfield then paid the bank under deduction of a further loan made to the Company. The bank accepted the reduced figure in satisfaction of the original invoice for £12,000. The evidence of Mr Russell and Ms McQueen about this transaction was not contradicted, and it is fair to say that the noters' concern in this connection relates to the adequacy of the valuation from Mr Ferguson and the resultant price paid by Southfield for the machines.

[88] It was submitted on behalf of the respondent that there was a very limited market available to the Company for the sale of the machines on the basis that a quick sale was required and the Company wished to continue to use the machines even after the sale and possibly buy them back in the future. I accept that submission. The conjunction of those various factors would clearly restrict the available market very substantially, and I agree with the respondent that it would have a material impact on the price which could be obtained. The machines were clearly not being sold on the open market, and I find it difficult to criticise either Mr Russell or Southfield for accepting the valuation provided by Mr Ferguson. In fact Mr Russell's evidence was that he was somewhat disappointed by Mr Ferguson's valuation, as he had hoped to be able to sell the machines for more.

[89] It is also submitted on behalf of the respondent that, even if Mr Ferguson hopelessly undervalued the machines, Mr Russell was acting in what he genuinely believed to be in the best interests of the Company. I accept that there was a need to raise cash in order to pay off an outstanding debt for Mr Barr's fees. I accept that there was insufficient time to go about trying to sell the machines on the open market in a worldwide sense, as spoken to by Mr Jude. There was also the matter of the benefit to the Company (which seems to me to be quite substantial) if the seller were prepared to let the Company continue to use the machines even after their sale, and potentially to sell the machines back to the Company at some point in the future. Southfield needed a valuation of the machines and Mr Russell suggested that they engage Mr Ferguson who knew the machines since he had previously maintained them. Although Mr Ferguson's valuation was in strict terms provided to Southfield, I consider that Mr Russell was entitled have regard to it and to place reliance on its accuracy, and to agree a price with Southfield which generally reflected that valuation. I do not consider that in all the circumstances the Company was obliged to obtain its own separate valuation, and that point was not made to me by either party in this case.

[90] I accept the respondent's submission that, applying the appropriate legal test for section 212 misfeasance, the noters' claim under this head must fail. A director is entitled to do what he thinks is in the best interests of the company. He is entitled to rely on the views of specialist professionals, such as Mr Ferguson. I agree that a director cannot be said to have committed misfeasance for doing what is necessary to raise funds in order to pay a debt, on appropriate terms which protect the company's interest. No evidence was led to suggest that in all the circumstances Mr Russell was not entitled to rely on Mr Ferguson's valuation, and I accept that it is not misfeasance for him to have done so. Accordingly this part of the noter's claim cannot succeed.

The failure to account for stock

[91] Mr Thomson gave evidence that the stock on the Company's premises as at May 2009 was worth no more than about £20,000. In fact he doubted that it had ever been more than £20,000 at any previous time. Objection was taken on behalf of Mr Russell to this line of questioning, and I heard this evidence under reservation of the objection. It seems to me that the objection is not a good one. In the respondent's Answer 8 he avers that the stock had no value, and I consider that the noters' Counsel was entitled to raise the question of value with Mr Thomson in order to address this point. He explained that the stock consisted of various types of raw material, consumable tools which would be used on a daily basis, some component stock for customers in excess of orders received and some consumable wire stock for an EDM wire machine. Mr Russell said that at the date of winding up there was very little or no work in progress but quite a lot of finished component parts. However without customers these parts had no value. There had been no inventory of stock taken as at 31 March 2009. He said that between the date of the winding up and September 2011 when the liquidator's valuer provided a report, there was no change in the amount of stock and work in progress, since everything had been left exactly as it was when the Company went into liquidation. The report provided by the liquidator's valuer set the value of "small precision engineered components." at £200. Mr Russell stated that the valuer had removed that quantity of stock. The value attributed to it was simply scrap value. It would have been higher if the Company had been a going concern. He stated that this accounted for the difference between the figure of £49,080 which appeared in the Company's accounts to 31 March 2008 and the very low figure stated by the liquidator's valuer. He categorically denied any misappropriation of stock.

[92] The noters asked me to draw the inference that a considerable value of stock must have been misappropriated by Mr Russell because of his alleged failure to account for stock to the value of £49,080 being the figure set out in the March 2008 company accounts. However in my view, and in the absence of any specific evidence that Mr Russell took away items of stock from the premises, his explanation in evidence has supplied the account which the noters say is missing. It seemed to me that the explanation offered made sense, and in all the circumstances I found it to be credible and reliable. On the evidence, accordingly, this aspect of the noters' claim must also fail.

[93] I am satisfied on the evidence that the figure of £49,080 does not accurately reflect the true value of the stock as at the date of liquidation. The evidence indicated to me that on a forced sale basis the true value was probably the £200.00 assessed by the liquidators' valuer. Moreover in the absence of any evidence of actual misappropriation or interference with the stock by the respondent, I am not prepared to find that he has misapplied the stock or done anything else which might amount to a misfeasance in this connection.

Relief

[94] I have held that there has been a misapplication on Mr Russell's part of the Company's monies in relation to (a) the payment to his pension (DELPS1), and (b) the payments to Elbalite. As set out above the court is given a wide discretion under section 1157 of the Companies Act 2006 to relieve a director of liability, in whole or in part, and on such terms as it thinks fit, but only if it appears to the court that the director has acted honestly and reasonably, and that, having regard to all the circumstances of the case, he ought fairly to be excused. It is submitted on the respondent's behalf that he had a good reason for not paying Mr Thomson's pension scheme (DELPS2), namely that he honestly believed that repayment of the DELPS2 loan was conditional upon Mr Thomson purchasing Dyglen. I have already held (see para [62] above) that no such condition applied to the setting up of DELPS2 or repayment of its loan to the Company, and that there was no legitimate or bona fide dispute in relation to the debt. Furthermore I have already held that Mr Russell did not have a genuine and honest belief that Mr Thomson had misrepresented his intentions to purchase the company, and rather I have reached the conclusion that Mr Russell has invented this contention as a false excuse for preferring his own pension scheme over that of Mr Thomson. That is sufficient for me to hold that relief cannot be given to the respondent in relation to the misapplication by way of unfair preference in favour of his own pension scheme.

[95] I have held (see paragraph [74] above) that the Elbalite transaction did not take place. I have also held that Mr Russell did not have a genuine and honest belief that the Company had entered into a binding contract for the sale of the plant and machinery to Elbalite. I have further held that in any event Mr Russell did not act reasonably in making the payments to Elbalite in pursuance of an alleged transaction which did not in fact take place. Accordingly Mr Russell cannot be said to have acted honestly and reasonably, and in my view it would be quite inappropriate to grant him relief in connection with this aspect of the noters' claim.

Conclusion

[96] The payments to DELPS1 totalled £43,611.55, and the payments made to Elbalite totalled £33,300. I shall therefore grant decree for payment of both these sums against Mr Russell in favour of the Company. Interest will be due thereon at the judicial rate from the date of decree until payment as craved by the noters.

Expenses

[97] The noters have been successful in respect of certain heads of claim, but not others. In all the circumstances the case will be put out for a hearing in relation to expenses.