Mason v Lewis CA267/04 [2006] NZCA 55; [2006] 3 NZLR 225; (2006) 9 NZCLC 264,024 (30 March 2006)

Last Updated: 16 January 2018

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IN THE COURT OF APPEAL OF NEW ZEALAND

CA267/04

BETWEEN KAREN BETTY MASON & JEFFREY PHILIP MELTZER AS LIQUIDATORS OF GLOBAL PRINT STRATEGIES LIMITED (IN LIQUIDATION)
Appellants

AND CONWAY LEWIS
First Respondent

AND JOHANNA LEWIS
Second Respondent

Hearing: 7 December 2005

Court: Hammond, Chambers and Robertson JJ

Counsel: P L Rice for Appellants
P J Davey for Respondents

Judgment: 30 March 2006

JUDGMENT OF THE COURT

A The appeal is allowed.

B The proceeding is remitted to the High Court to determine:

(a) whether a declaration should be made under s 300 of the Companies Act 1993 and, if so, its terms; and

(b) whether an order should be made under s 301(1) of the Companies Act 1993 and, if so, its terms.

100. The appellants’ application for leave to adduce further evidence is referred to the High Court for determination by the Judge who determines the remission.

4. The costs order in the High Court is set aside.
5. All costs in the High Court, both on the trial and on the remission, are to be determined by the Judge who determines the remission.
6. In this Court, the appellants will have costs of $8,000 and usual disbursements.

REASONS
(Given by Hammond J)

Table of Contents

Para No

Introduction [1]
Background [5]
Liability
(a) The claims in the High Court [36]
(b) The basis of the appeal [42]
(c) The law: s 135 [44]
(d) This case: s 135 [53]
(i) The law [53]
(ii) Application of the law to the facts [57]
(c) This case: s 300 [84]
Quantum
(a) A remission to the High Court? [90]
(b) The principles to be applied [107]
(c) Culpability [112]
(d) The format of the revised hearing [119]
(e) Towards a resolution [122]
Conclusion [124]

Introduction

[1] The appellant liquidators brought this proceeding against the two respondents, as directors of Global Print Strategies Ltd (Global Print), for the debts incurred while that company was trading, but insolvent. The liquidators said this was in breach of the obligations of the directors not to allow the company to trade recklessly (s 135 Companies Act 1993), and to keep proper books of account (s 300 Companies Act 1993).
[2] Salmon J found in favour of the respondents (HC AK M459-IM03 25 November 2004).
[3] The liquidators appeal on the basis that, in some important respects, the Judge misstated the relevant legal test under s 135; and that, on the facts, judgment should have been entered for them.
[4] The quantum of the claim, if successful, was not fixed by the High Court Judge. If the liability appeal succeeds, we have been invited to fix the quantum of recompense to be made to the company. For reasons we will canvass later in this judgment, although we think the liquidators are entitled to favourable findings on both causes of action, we are not able to assess the quantum of an award in this Court, and the proceeding will be remitted to the High Court, for that purpose.

Background

[5] In 1984, the respondents, Mr and Mrs Lewis, set up their own printing business. It traded as Rocon Printing Limited. They were the directors of that company. They have run it ever since.
[6] Mr Lewis got to know a Mr Graeme Grant. He was a manager with Communication Arts Limited. That was a successful business, which had grown from what was described at trial as a “$4 million to a $20 million” business.
[7] Nevertheless, Mr Grant decided to leave Communication Arts. He entered into a joint venture with an enterprise called Corporate Express. This was expected to provide an initial income of perhaps $300,000 per month.
[8] The vehicle for this enterprise was the appellant, Global Print Strategies Ltd (now in liquidation). This was a print brokering business which was to be established to service the print management requirements of Corporate Express.
[9] Mr Grant invited the Lewises to invest in Global Print. They were shown a memorandum and business plan. They decided to invest $100,000. This “investment” was to be paid back out of profits within the first year of trading.
[10] Global Print was incorporated on 4 November 1999. The Lewises invested their $100,000 (which they borrowed from Marac Finance) in $1 ordinary shares. They were appointed as directors, together with Sarah Grant (Mr Grant’s wife), and Messrs Shanks, Spier and Carter (employees of Communication Arts who had left that company with Mr Grant).
[11] Mr Grant was appointed as the manager of Global Print. He advised Mr Lewis that he could not be appointed as a director because of legal proceedings with his former employer. It was only much later that the Lewises learned that Mr Grant's probity was very much in issue in that dispute.
[12] Global Print commenced trading in November of 1999.
[13] The first board meeting for the company was held in December 1999. No minutes were taken. Mr Lewis did ask at that time if minutes were going to be circulated, but no minutes were ever prepared or circulated for any board meeting of Global Print.
[14] At some point in early February 2000, Corporate Express terminated its contract with Global Print. This was a hugely significant event in the life of the company. Global Print had hoped to attract other business (and had done so in small quantities) but Corporate Express’s work was to be the economic heart of the new venture.
[15] Notwithstanding this calamity, the Lewises did not learn of the cancellation of the Corporate Express contract until April 2000. When they did, Mr Grant assured Mr Lewis that Global Print had obtained other clients to replace this loss of business. He said this included a significant amount of work from The Warehouse Limited. But it is quite apparent that Global Print was in serious financial trouble from the end of March 2000 on. As only one indicator, PAYE tax was not paid from that point on.
[16] Further indications that things were not at all well came when Messrs Shanks, Spier and Carter resigned as directors on 20 April 2000. In May 2000 their shares in Global Print were transferred to Mrs Grant (so that she then owned 80 percent of the company shares, with the Lewises owning the remaining 20 percent). Thereafter, Mrs Grant and Mr and Mrs Lewis were the only directors of Global Print.
[17] Mr Lewis had been dropping by Global Print’s premises from time to time to speak to Mr Grant about the “progress” being made by the company. He claimed that Mr Grant assured him that everything was “under control” and had showed him printouts suggesting an upward trend in income.
[18] Nevertheless, things were in fact far from well. On 23 June 2000 there was a meeting attended by Mr Grant, Mr Lewis, Mrs Rowe (an accountant), and a Mr McLaren (who was representing a family trust that had loaned $80,000 to Global Print). There is no hard evidence as to what transpired at that meeting. Mr Rice, for the appellants, contended that it was in the nature of a meeting to discuss the need for the injection of new capital. Mr Davey, for the respondents, contended that it was more of a general meeting, and that most of the meeting seemed to have been taken up at looking at the work prospects of the company.
[19] However that matter is viewed as to detail, there was plainly a concern as to the financial position of the company. This is borne out by the fact that on 29 June 2000 Mrs Rowe attended a meeting with Mr Grant and Mr Lewis’s brother to seek further funding from him. Mrs Rowe had prepared cash flow forecasts for Global Print, which purported to show that positive cash flows would arise from August 2000. This would have been the first time the company was in profitable territory.
[20] Mr Lewis’s brother had already advanced (through associated entities) a total of $275,000 to Global Print, in sums of $50,000 in December 1999, $100,000 in March 2000, and $125,000 in April 2000. Extraordinarily, the basis on which that funding from the Lewis family had been forthcoming does not appear to have been explicitly articulated.
[21] Mrs Rowe was a chartered accountant. But it appears that she was not the “company accountant”, in the usual sense of that term, nor was she giving management accounting advice to the company. She was in private practice and simply doing the books, as and when required. From time to time she did some specific calculations for the company, on a fee basis.
[22] On 20 July 2000 Mrs Rowe prepared a draft set of accounts for Global Print for the period ending 31 March 2000. These covered a period of approximately five months from November 1999. Those accounts showed a gloomy picture: Global Print had made a trading loss of approximately $376,760 in that period, although it had a small balance sheet surplus of $44,739.
[23] Mrs Rowe advised Mr Lewis that Global Print was technically not insolvent, although she appears to have considered that, from a trading point of view, the company was insolvent.
[24] On 18 August 2000 the Lewises received debtor and creditor reconciliations (drawn as at 31 July 2000) showing payables of $413,739, and receivables of $392,224. Not only was the company still trading at a loss, but the payables included $93,681 owed to the IRD. And those figures did not include wages. So things had not improved at all. Nevertheless, the company traded on.
[25] At the beginning of October 2000 Mr Grant approached Mr Lewis. He now wanted to factor at least some of the company’s debts to Commercial Factors Limited. On the advice of his personal accountant, Mr Lewis refused to sign this factoring agreement. Extraordinarily, Mrs Grant signed the agreement as a director of Global Print, although her authority to do so does not appear to have been scrutinised. Mr Grant then proceeded to factor debts to Commercial Factors.
[26] That the factoring agreement was signed is, in and of itself, of significant moment. Upon becoming aware that this had occurred, Mr Lewis rang Commercial Factors, but was told that they would not speak to him. This should surely have caused him anxiety as to both Mr and Mrs Grant’s actions. There are indications this was indeed the case, as Mr Lewis gave evidence that he had told his accountant that he was concerned that decisions were being made without him being consulted.
[27] In late March or April 2001 the Lewises received a letter from the IRD (which had been sent to Global Print, with copies to them as directors) in relation to outstanding tax totalling over $163,000. But even this did not spur the Lewises to any action.
[28] Some time later - on 11 June 2001 - Mrs Rowe sent the Lewises a letter which advised that regular updates of the tax arrears were being provided to Mr Grant, and that there had been communications with the IRD. It said: “it is expected that the situation will shortly be resolved”.
[29] Around this time, Mr Lewis considered resigning as a director. But he remained in office out of loyalty to his brother, who had “invested” in the company.
[30] Mrs Lewis resigned as a director of Global Print in September 2001.
[31] Quite unknown to the Lewises, Mr Grant was totally dishonest. He had been arranging for false invoices to be made out by Global Print to third parties, and these invoices had then been factored to Commercial Factors.
[32] On 24 December 2001 Mr Lewis went to the offices of Global Print. He was then informed, for the first time, by a senior staff member of the false invoicing. He sought professional advice, particularly from a Mr Parsons, a forensic accountant, who undertook an investigation of the company’s financial records.
[33] On 27 February 2002 the Lewises and Mrs Grant signed a shareholders’ resolution appointing the appellants as liquidators of Global Print.
[34] A complaint was made to the Serious Fraud Office. Mr Grant was charged with five charges of fraud totalling approximately $1 million, for which he was ultimately convicted and sentenced to two and a half years imprisonment.
[35] Later, the liquidators commenced these proceedings against the respondents for alleged breaches of their duties as directors, ostensibly for the benefit of unsecured creditors in general. We will return to this point later in this judgment.

Liability

(a) The claims in the High Court

[36] The liquidators relied principally upon s 135 of the Companies Act 1993. That section provides:

135 Reckless trading

A director of a company must not—

(a) Agree to the business of the company being carried on in a manner likely to create a substantial risk of serious loss to the company's creditors; or

(b) Cause or allow the business of the company to be carried on in a manner likely to create a substantial risk of serious loss to the company's creditors.

[37] That section works in tandem with s 301 of the Act, which provides for consequential orders, as follows:

301. Power of Court to require persons to repay money or return property

(1) If, in the course of the liquidation of a company, it appears to the Court that a person who has taken part in the formation or promotion of the company, or a past or present director, manager, liquidator, or receiver of the company, has misapplied, or retained, or become liable or accountable for, money or property of the company, or been guilty of negligence, default, or breach of duty or trust in relation to the company, the Court may, on the application of the liquidator or a creditor or shareholder,—

(a) Inquire into the conduct of the promoter, director, manager, liquidator, or receiver; and

(b) Order that person—

(i) To repay or restore the money or property or any part of it with interest at a rate the Court thinks just; or

(ii) To contribute such sum to the assets of the company by way of compensation as the Court thinks just; or

(c) Where the application is made by a creditor, order that person to pay or transfer the money or property or any part of it with interest at a rate the Court thinks just to the creditor.

(2) This section has effect even though the conduct may constitute an offence.

(3) An order for payment of money under this section is deemed to be a final judgment within the meaning of section 19(d) of the Insolvency Act 1967.

[38] Reliance was also placed by the liquidators on s 300 of the Companies Act 1993, as to the obligation to keep proper accounts.

300 Liability if proper accounting records not kept

(1) Subject to subsection (2) of this section, if—

(a) A company that is in liquidation and is unable to pay all its debts has failed to comply with—

(i) Section 194 of this Act (which relates to the keeping of accounting records); or

(ii) Section 10 of the Financial Reporting Act 1993 (which relates to the preparation of financial statements); and

(b) The Court considers that—

(i) The failure to comply has contributed to the company's inability to pay all its debts, or has resulted in substantial uncertainty as to the assets and liabilities of the company, or has substantially impeded the orderly liquidation; or

(ii) For any other reason it is proper to make a declaration under this section,—

the Court, on the application of the liquidator, may, if it thinks it proper to do so, declare that any one or more of the directors and former directors of the company is, or are, personally responsible, without limitation of liability, for all or any part of the debts and other liabilities of the company as the Court may direct.

(2) The Court must not make a declaration under subsection (1) of this section in relation to a person if the Court considers that the person—

(a) Took all reasonable steps to secure compliance by the company with the applicable provision referred to in paragraph (a) of that subsection; or

(b) Had reasonable grounds to believe and did believe that a competent and reliable person was charged with the duty of seeing that that provision was complied with and was in a position to discharge that duty.

(3) The Court may give any direction it thinks fit for the purpose of giving effect to the declaration.

(4) The Court may make a declaration under this section even though the person concerned is liable to be convicted of an offence.

(5) An order under this section is deemed to be a final judgment within the meaning of section 19(d) of the Insolvency Act 1967.

[39] Salmon J succinctly summarised the respective cases of the parties as follows:

[20] It is the plaintiffs’ contention that the defendants allowed the business of the company to be carried on in a manner likely to create a substantial risk of serious loss to the company's creditors. The plaintiffs contend (and this is really not in dispute) that the company was insolvent from at least 31 March 2000. The plaintiffs claim that the defendants should be required to pay to the company a sum representing the debts incurred by the company from that time or at least from the time when they became aware of the results shown in the accounts prepared in July 2000.

[21] The defendants’ case is that they did their best to ascertain the state of the company, that there were no directors meetings called other than one at the time of the commencement of the company, and that their inquiries of Mr Grant and Mrs Rowe were met by assurances that everything was under control and that the company’s business was increasing. They say that they took action immediately [when] they knew that Mr Grant’s assurances could no longer be believed.

[40] The Judge concluded that the Lewises had acted honestly and in good faith throughout the life of the company, and that they had acted as reasonable directors in the circumstances in which they found themselves.
[41] On the question of keeping accounts, the Lewises were “aware” that Mrs Rowe was doing the books and that “sofar as [the Lewises] were concerned a competent reliable person [Mrs Rowe] was responsible for seeing that appropriate accounting records were kept.”

(b) The basis of the appeal

[42] Mr Rice summarised the basis of the appeal this way:

The essence of this appeal is that the trial Judge’s obvious sympathies for the Respondents caused him to take a wrong approach. By focusing on their subjective belief and experience His Honour was able to exonerate them from any liability because they were unsophisticated and naively trusted in positive assurances about the company’s financial position given to them by others, particularly their dishonest manager. Had he followed the correct objective approach, there was abundant evidence to support a finding that there the Respondents allowed the company to be run in a manner likely to create a substantial risk of serious loss to the company’s creditors. Accordingly, His Honour should have found that a breach of section 135 occurred but made appropriate discounts for the Respondents’ culpability when assessing quantum under s 301.

[43] Mr Davey supported Salmon J’s decision.

(c) The law: s 135

[44] Under the heading “[r]eckless trading”, s 135 of the Companies Act 1993 provides that a director of a company must not permit the business of the company to be carried on in a manner likely to create a substantial risk of serious loss to the company’s creditors; or cause or allow the business of the company to be carried on in a manner likely to create a substantial risk of serious loss to the company’s creditors.
[45] The enactment of s 135 attracted its own measure of controversy. The section, as enacted, departs from the New Zealand Law Commission’s draft which would have given a real measure of protection for business judgment in cases of reasonable risk taking. (See Elias J (as she then was) “Company Law after Ten Years of Reform” and Perkins “Corporate Governance and the Companies Act of 1993” in the Company Law Conference of the New Zealand Law Society (1997)). The preamble to the 1993 Act does however affirm “the value of the company as a means of achieving economic and social benefits” by, amongst other things, the “taking of business risks”.
[46] The section has been strongly criticised as potentially unduly deterring directors from taking business risks. Mr Hugh Rennie QC and Professor Peter Watts, in “Directors’ Duties and Shareholders’ Rights”, (New Zealand Law Society Seminar, Wellington, August-September 1996 at page 336) suggest that the section may give rise to “a virtual warranty of solvency”. In the view of those authors, the section has the potential to operate particularly harshly due to its application before insolvency. And in their view, the test more closely resembles a test for negligence than a test for recklessness.
[47] The courts have been alive to these concerns. First, in Nippon Express (NZ) Limited v Woodward (1998) 8 NZCLC 261, 765 (HC), Anderson J held that the duty under s 189 of the Companies Act 1955 (the equivalent to the present s 135) was not breached by directors until disclosure of a large debt made it clear that the company was hopelessly insolvent. In respect of the period before this disclosure, Anderson J noted:

Of course if a company operates at a loss for an extended period and has few, if any, realisable assets, there must be some risk to creditors. Section 189 is concerned, however, with not mere risk but substantial risk of serious loss (at 261, 773). (Italics added.)

[48] As to what is meant by “substantial risk” and “serious loss” Ross, Corporate Reconstructions: Strategies for Directors (1999) suggests:

The first phrase, “substantial risk” requires a sober assessment by directors as to the company’s likely future income stream. Given current economic conditions, are there reasonable assumptions underpinning the director’s forecast of future trading revenue? If future liquidity is dependent upon one large construction contract or a large forward order for the supply of goods or services, how reasonable are the director’s assumptions regarding the likelihood of the company winning the contract? Even if the company wins the contract, how reasonable are the prospects of performing the contract at a profit? (at 40)

[49] Secondly, both the High Court and this Court have drawn a distinction between the taking of legitimate and illegitimate risks. See Re South Pacific Shipping Ltd (In Liquidation) (2004) 9 NZCLC 263,570 (HC). This was a case under s 320 of the former Companies Act. That approach was confirmed on appeal in this Court in Löwer v Traveller [2005] NZCA 187; [2005] 3 NZLR 479. Leave has been given to appeal to the Supreme Court in that proceeding (see [2005] NZSC 79). The distinction between legitimate and illegitimate business risks was also utilised by Ellen France J in Walker v Allan HC NEL CP13/00 18 March 2004, in respect of an action under s 135 of the current Act.
[50] Thirdly, in addition to the risk being a substantial and illegitimate one, the weight of authority is that in deciding whether particular conduct is inappropriate under s 135, New Zealand courts will take an objective approach. See in particular Fatupaito v Bates [2001] NZHC 401; [2001] 3 NZLR 386 (HC). There O’Regan J pointed out that where a company has little or no equity, directors will need to consider very carefully whether continuing to trade has realistic prospects of generating cash that will service both pre-existing debt and meet the commitments that such trading inevitably attracts.
[51] The essential pillars of the present section are as follows:

• the duty which is imposed by s 135 is one owed by directors to the company (rather than to any particular creditors);
• the test is an objective one;
• it focuses not on a director’s belief but rather on the manner in which a company’s business is carried on, and whether that modus operandi creates a substantial risk of serious loss;
• what is required when the company enters troubled financial waters is what Ross (above at [48]) accurately described as a “sober assessment” by the directors, we would add of an ongoing character, as to the company’s likely future income and prospects.

[52] We observe that it is important not to conflate the provisions of s 135 and s 301 of the Companies Act 1993 when determining the “liability” issue. The issues are twofold: should there be liability, then, what is the appropriate relief?

(d) This case: s 135

(i) The law

[53] It was central to the reasoning of Salmon J in this case that there must be either a conscious decision to allow the business to be conducted in a way which creates a substantial risk of serious loss to the company’s creditors, or a wilful or grossly negligent turning of a blind eye to the particular situation. It appears that the Judge considered that, conceptually, there must be some element of subjectivity when it comes to determining whether what a director has failed to do constitutes reckless trading.
[54] We do not agree. In the first place, that reasoning is outside existing New Zealand authority. That said, as a matter of statutory construction, s 135(b) in particular does not contain, or even hint at, any limitation of the kind suggested by Salmon J on the section. To put it at its simplest, if Parliament had wished to import an element of subjectivity it could have used, for instance, the words “knowingly cause or allow ...”. It would be difficult if not impossible to draft a requirement of the kind Salmon J seems to have had in mind, because it would likely have to be all or nothing: some element of subjectivity is an unworkable legal yardstick. Either the test would have to be entirely objective, or real knowledge would be required.
[55] What the legislature has done is to enact an objective requirement in s 135(b). But if there is a breach, the Court has a discretion as to what recovery should be required under s 301 of the Act. This is why it is important not to conflate the two sections at the outset.
[56] We therefore agree with Mr Rice that the Judge erred in principle as to his view of the ambit and operation of s 135, under which the proceeding was brought. Inevitably that affected his disposition of the case.

(ii) Application of the law to the facts

[57] The purpose of the statutory provision is the avoidance of inappropriate loss to the company’s creditors through reckless trading. Hence the financial position of the company at all relevant times is central to any action under s 135.
[58] There are, however, some contextual factors in this case which bear noting. The Lewises seem to have had little or no appreciation of the duties of directors of a company. As with trustees, one of the first duties of a director of a company is to actually come to grips with those duties. Practically nothing about the internal workings of this company was ever regularised or recorded. That pattern continued throughout the life of the company. The financial structure was never properly settled; board meetings were (at best) ad hoc; minutes of meetings (even when a meeting was held) were not taken and distributed. The Lewises simply allowed the affairs of the company to repose in the hands of Mr Grant, a manager, who subsequently turned out to be a crook.
[59] That said, undoubtedly the matter of greatest moment, and the central concern of the legislation, is that as directors the Lewises paid no or no proper attention to the financial affairs of the company.
[60] The uncontradicted evidence was that the company was set up in the last quarter of 1999 to capture business from Corporate Express, which would be far and away the largest client. Yet that major client had been lost by February 2000. Unsurprisingly the company was therefore, on a trading basis, insolvent from at least March 2000. It never achieved solvency, but traded on for a long time.
[61] Related to this is the fact that the Lewises were not made aware that Corporate Express had ceased to be a client until at least six weeks after that event. This alone should have caused the Lewises to be on guard with respect to Mr Grant and his assurances. However, Mr Lewis gave evidence that, while this factor alarmed him, he accepted Mr Grant’s assurances that there were “customers on board”. A cashflow projection was not provided, nor did Mr Lewis insist on one. Mrs Lewis similarly accepted Mr Grant’s assertions.
[62] At this point the keeping of proper accounting records became highly relevant: without such it was impossible to monitor or manage the company’s trading performance closely. Indeed, on good business practice, around the end of the first quarter in 2000 very serious attention should have been paid to the following facts: a trading loss of $376,760 had been incurred in the first five months of trading, PAYE tax was not being paid, and cheques were being dishonoured.
[63] From the very early days of this company it therefore faced a severe and very much uphill financial problem. The directors needed to be paying the closest attention to the company’s financial state.
[64] Things did not get any better. In April 2000 three of the directors resigned and left the company without making the investment they had envisaged. None of these former directors were called as witnesses, but Mr Lewis gave evidence that he knew that the three had resigned as directors and understood that that was because they had been asked to invest $25,000 each and were not prepared to do that. Mr Lewis claimed that he did not know why they did not wish to invest and said that when he spoke to them they told him that sales progress was going very well. It should be noted that the three men were also employees of the company.
[65] The Lewises had not received any dividends or loan repayments from the company, even though it had been said that the $100,000 investment was to be paid back within the first year.
[66] Certainly by the middle of 2000, the Lewises were aware that things had simply not “picked up” as Mr Grant had been suggesting would happen. By that time Mr Grant was actively looking for more investors. Mr Lewis said that he expected either Mr Grant or Mrs Rowe to advise him if there was any cause for alarm.
[67] Such material of an accounting character as became available to the Lewises could give rise to no confidence whatsoever as to the solvency and financial survivability of the company.
[68] It is common ground that in mid-August 2000 Mr Lewis received trade debtor and creditor statements as of 31 July 2000 showing receivables of $392,224 as against payables of $413,739. The payables still included PAYE and fringe benefit taxes of $93,681, and that list did not include salaries. Mr Lewis made some hand-written workings on the bottom of those documents showing that he calculated a loss for the month of June alone at $58,000.
[69] The evidence is overwhelming that by August 2000 this company was in very serious financial trouble. There was an urgent need for a close investigation to accurately determine the company’s financial position, and whether it could and should continue trading. On any view of the matter, solvency was by that time an absolutely critical issue.
[70] All the expert evidence in the High Court was that in that kind of situation the appropriate steps to have taken were to determine the financial position of the company; place immediate controls over any cash drains; create an accurate cash flow forecast for the next 12 months; look to restructuring of any trade debts that existed; establish costs savings on a narrow (ie, weekly or monthly) basis; do what could be done to improve accounts receivable; consider laying off under-performers; consider selling receivables (ie, factoring); restructure any long-term bank debts; sell unproductive assets; and look at any other sources of financing or bringing further investment into the company.
[71] The only difference between the expert evidence for both parties at the hearing was how quickly these things ought to have been done. Mr Meltzer (one of the appellant liquidators) considered that real urgency was required - as little as 30 days for establishing the financial position of the company. Mr Parsons (the forensic accountant instructed by the respondents) thought that perhaps 90 days might have been required to stabilise the business and determine its future, although he admitted that such a period would have been “generous” in the particular circumstances.
[72] But all that happened was that some forecasts were prepared for the period May 2000 to March 2001, and then June 2000 to March 2001 respectively. These contained little of substance. Unsuccessful attempts were made in August 2000 to find further capital; and in October 2000 the factoring agreement with Commercial Factors was entered into. Even the Lewises’ own expert forensic accountant agreed that these steps were too little, too late.
[73] In our view, any reasonable and prudent director would have known by July 2000, or at the very latest by mid-August 2000, that the company was in deep trouble, that even radical surgery might not save it, and that the cessation of trading had to be contemplated.
[74] What in fact happened thereafter is that matters simply drifted on until January 2002. Of course, in the meantime trade debts mounted. And from June to December 2001, Mr Grant had begun to factor a number of forged invoices. By Christmas 2001 Mr Lewis had discovered that staff had not been paid and that fraud was suspected. In January 2002 he took possession of all of the books of the company, and after Commercial Factors issued its statutory demand even then there was a delay of some two weeks before Global Print was placed in voluntary liquidation.
[75] Hence, for a period of 15 months (at a minimum) creditors were left at the mercy of a hopelessly insolvent company, which was in any event being run by a crooked manager.
[76] In our view, the Judge was plainly wrong. This is a paradigm case of reckless trading under s 135 of the Companies Act 1993. The only real issue at trial should have been as to the appropriate relief to be afforded.
[77] In reaching this conclusion, we have not overlooked a matter on which the trial Judge placed considerable emphasis. Section 138 of the Companies Act 1993 provides a defence to a director who reasonably relies on the advice of others when performing his or her duties as a director. This is really an affirmative defence. It was not pleaded as such, but the Judge considered the point. “Reliance” on others may also be relevant to a determination under s 301.
[78] Salmon J suggested that the Lewises had relied on assurances from three people: Mr Grant, Mrs Rowe, and their own accountant.
[79] Certainly Mr Lewis said that he received assurances from Mr Grant and Mrs Rowe. Mrs Rowe denied in her evidence that she gave any such assurances concerning the financial position of the company. She said the only time she recalled Mr Lewis asking her for information was the day after the August 2000 meeting. She denied giving Mr Lewis assurances about the future prospects of the company. We recognise at once that the Judge specifically held: “[i]nsofar as there is a conflict between her evidence and that of Mr Lewis, I prefer Mr Lewis’ recollection.”
[80] The holding is not however nearly as strong as, on its face, it appears. The discussions between Mrs Rowe and Mr Lewis were limited, and there appears to be no conflict that, by mid-August, Mrs Rowe was of the view that the company was insolvent, but whether it could trade through that or not was a different issue. Nothing in that evidence precluded the necessity for the Lewises to reach their own informed view on precisely that issue.
[81] As to Mr Grant, the Lewises simply relied on him and what he said without the proper inquiry they should have made as directors.
[82] As to their own accountant, Mr Lewis suggested in evidence that he had reassured them as to the company’s prospects. But that accountant was never called. We share Mr Rice’s concern that little if any weight could appropriately have been given to this evidence.
[83] In the result, we find ourselves a considerable distance from the weight the trial Judge placed on this factor in the proceeding before him. Directors must take reasonable steps to put themselves in a position not only to guide but to monitor the management of a company. The days of sleeping directors with merely an investment interest are long gone: the limitation of liability given by incorporation is conditional on proper compliance with the statute.

(e) This case: s 300

[84] Salmon J found that proper accounting records had not been kept. But he made no declaration to that effect because of the “defence” provided by s 300(2), see [38], above.
[85] Section 300 is important in its own right. It works in tandem with s 135: a director cannot be heard to say “I did not realise we were in such a pickle, because we did not have any, or adequate, books of account.” It is fundamental that such books must be kept, and directors must see to it that they are kept.
[86] We are alive to the problem that in complex situations, the adequacy of financial accounts may be a real issue, and there may be issues as to how far, if at all, a director was misled.
[87] The problem in this case was much more fundamental - the Lewises did not adhere to the requirement for standard accounts to be kept and tabled from the outset, when they had both selfish, and institutional, reasons to do so. It was necessary for proper accounting records to be kept so that the company’s financial position could be determined at any time with reasonable accuracy. Clearly that did not happen here.
[88] We do not consider the s 300(2) defence is made out. We have already traversed the way in which the Lewises “relied” on others (see [77] - [80], above). The Lewises actually knew that no adequate system was in place and they were not themselves getting any accounts.
[89] In our view, the liquidators were entitled to a holding that there was here also a breach of s 300 of the Act. This may be of some practical significance, because the remedies under s 300 are not on all fours with s 135.

Quantum

(a) A remission to the High Court?

[90] If there is liability on the Lewises in this case, counsel were anxious that the proceedings should be finally resolved here. We have some sympathy for that concern, and this Court will normally use every reasonable endeavour to finalise a proceeding before it, without a remission back to the trial court. But in the result, regrettably, we have come to the view that a remission is inevitable in this case, for these reasons.
[91] The first and foremost concern relates to the way in which the quantum issues were handled for the liquidators.
[92] The statement of claim seeks, as to s 301, an order requiring the defendants to pay to the company a sum of $2,177,785 and interest. The figure of $2,177,785 is made up of two schedules. Schedule A is “trade creditors” of $1,554,685 and Schedule B is “unsecured investors” of $623,100. The claim under s 300 is for a declaration or order that the Lewises “are personally liable” for all the debts set out in those two schedules. Before us, Mr Rice accepted that a fair sum for which the Lewises should be liable was $560,000.
[93] These schedules contain some surprising entries and some equally surprising omissions. The Grants are in the list of unsecured creditors. On what conceivable basis did the liquidators consider that the Lewises could have any liability to the Grants, when their culpability for what occurred is much greater than the Lewises? The only reason presumably why Mrs Grant was not a defendant to this proceeding is the fact that she has been declared bankrupt.
[94] There are two omissions worth noting. First, Mr Lewis’s brother does not appear. Mr Rice was not able to explain why he was not listed. Secondly, Commercial Factors does not appear as a creditor on whose behalf this proceeding was taken. Yet Mr Rice candidly admitted to us, when questioned, that Commercial Factors is likely to be the only creditor who would benefit from this action. That is because, so Mr Rice told us from the bar, Commercial Factors holds a secured debenture over the assets of the company. Precisely how much is owing under that debenture is not known to us. Nor do we know the terms of any agreement between the liquidators and Commercial Factors.
[95] There is nothing wrong, in principle, in liquidators bringing a claim such as this, even though only a secured creditor or secured creditors will benefit from it.. The legislation itself does not distinguish between secured and unsecured creditors. But where that course is followed there ought to be proper disclosure made to the Court, as to the basis on which the claims are being advanced. Here the proceeding as pleaded is positively misleading - monies owing to unsecured creditors are given as a reason for why there has been a breach of the statute, when in reality it may be only a secured creditor who might recover anything.
[96] Secondly, even when the true position as to the basis of the quantum claim by the liquidators is appreciated, there are what could broadly be termed, problems of “proof” of the claims.
[97] To take first the position of the unsecured creditors, there is a dispute between the accounting experts as to the extent to which the proofs of debt for unsecured creditors will stand scrutiny. Clearly there is a respectable amount of unsecured debt. Even the Lewises’ investigating accountant concedes that something in the order of $200,000 could be properly admitted, but the balance of the claims are more problematical and might require further investigation.
[98] We can well appreciate why a liquidator would not wish to go to the trouble of having to investigate proofs of debt until it is known whether there would be a successful liability claim. But how badly unsecured creditors were affected by the activities of the directors, and the extent to which they had legitimate claims, is a matter of distinct relevance on the question of remedies.
[99] Thirdly, we have some real reservations as to the status of the debenture held by Commercial Factors. It was not contested in the evidence that there was a debt factoring facility agreement entered into between Commercial Factors and Global Print on 5 October 2000. This agreement was signed by Mrs Grant as a director of Global Print and witnessed by Steven Speir, an employee of Global Print. The agreement was registered, along with the debenture, with the Companies Office on 9 October 2000. Mrs Grant signed the supporting director’s resolution for Global Print. This was because Mr Lewis refused to have Global Print involved in that agreement after he spoke to his own accountant, Yvonne Payne. She told him not to proceed with it. Mr Lewis had in fact signed this agreement, but he then wrote “cancelled” across what he had already filled in.
[100] After the facility came into existence, substantial payments were made from funds from Commercial Factors. Mr Parsons said that between 6 October 2000 and 21 December 2000 these amounted to a gross amount of $2,433,194. He said, and this was not challenged, “Commercial Factors Limited directed these funds to various bank accounts at the direction of Mr Grant. Payments were made to Print creditors, employees, Jingella Enterprises Limited Strategic, and personal accounts/creditors and Mr Grant”.
[101] There may very well be a distinct issue as to whether Mrs Grant was able to proceed in the manner she did. Under s 129 of the Companies Act 1993, where the value of the debtors sold to Commercial Factors equates to more than half the value of a company’s assets at the time, a special resolution of shareholders would be required. Where (as Mr Lewis said) the Lewises were opposed to this there may well be a question whether Mrs Grant was able to make the resolution she in fact made. Presumably this was made under s 122 of the Companies Act 1993.
[102] There is also room for argument as to what steps the Lewises could have taken when this transaction with Commercial Factors was foisted on them. It may be (we put it no higher than that) that they could have given notice to Commercial Factors under s 18 of the Companies Act 1993 that they were opposed to the transaction, which would at least have put Commercial Factors on explicit notice of their concerns.
[103] The Lewises’ own investigating accountant detected this general problem and advised them “should CFL seek to appoint a receiver in terms of this debenture the legality of their appointment could be questioned in the court given the questions that surround the establishment of that charge document”. But, presumably because of the way the claim was pleaded, the standing of the debenture was never put in issue, let alone closely traversed, at trial.
[104] Fourthly, we are uncertain how the remedies should be framed. If the sole beneficiary of an order under s 301(1)(b) will be Commercial Factors (which Mr Rice accepted was likely, even at his suggested $560,000 figure), then is it appropriate to make an order under that section at all? After all, the Commercial Factors arrangement was the one deal the Lewises tried to block. There must be an argument that Commercial Factors is the one creditor the Lewises should not have to recompense, given that the arrangement was entered into by Mrs Grant, perhaps unlawfully and certainly without the Lewises’ consent. This is a question which was not really explored at all at the hearing before Salmon J. It needs further investigation (and evidence) before any court can determine what is the appropriate relief in the unusual circumstances which have arisen in this case.
[105] Finally, under this head, it appears that there is a distinct sum of money owing to the Inland Revenue Department. Quite what that sum is (as there could well be penalties and interest) and what the preferential status of that claim might be, is not clear.
[106] To summarise at this point: what was before the High Court was misleading, we do not know what the size of the pool of unmet debts created by the directors’ actions is, and the status of secured creditors is problematical. Further evidence is required on these matters, and fairness to unsecured creditors, as well as Commercial Factors, requires further evidential investigation.

(b) The principles to be applied

[107] An appellate court remitting a matter to a trial court on a quantum issue has to be particularly cautious. Quantum issues are notoriously fact specific. However, we consider it is appropriate in this case to make some short observations as to the general principles to be applied, for such assistance as they might afford the trial Judge.
[108] The general issue is the amount (if any) which the Lewises or either of them should be required to contribute towards the assets of the company (under s 301), or for all “or any part of the debts and other liabilities of the company as the court may direct” (under s 300).
[109] The standard approach has been to begin by looking to the deterioration in the company’s financial position between the date inadequate corporate governance became evident (really the “breach” date), and the date of liquidation.
[110] Once that figure has been ascertained, New Zealand courts have seen three factors - causation, culpability, and the duration of the trading - as being distinctly relevant to the exercise of the Court’s discretion (see Re Bennett, Keane & White Limited (in liquidation) (No 2) (1988) 4 NZCLC 64,317 per Eichelbaum J; and Löwer v Traveller [2005] NZCA 187; [2005] 3 NZLR 479, which endorsed those principles).
[111] Of those factors, “causation” appears to cause us no difficulty in this case, insofar as there is a clear link between the Lewises allowing the company to carry on trading beyond August 2000 and the indebtedness to creditors which subsequently arose. And even on a “generous” view to the Lewises, the relevant trading period was clear enough, as being from August 2000 to the end of 2001, or say 15 months.
(c) Culpability
[112] As to “culpability” this is clearly going to determine how much the Lewises have to contribute to the liabilities over the relevant period. They were two of three directors in a company which they permitted to be effectively under the control of Mr Grant. Even when they tried to intervene, their fellow director Mrs Grant facilitated what her husband wanted.
[113] The trial Judge thought the Lewises had no “culpability” in this case. We differ. We are acutely conscious of the difficulties for another trial Judge, on a remission (Salmon J having retired) in assessing something of this character. In recognition of that difficulty, we make these further observations.
[114] The Lewises simply cannot be compared to Mr Grant as to “culpability”, in the sense of moral blameworthiness. They were taken in by a thoroughly devious and dishonest man who rightly went to jail for what he did. Mr Grant was sufficiently adroit that he was able to keep a number of balls in the air and financial institutions at bay for quite some time, and we accept that his actions were not apparent to a number of people for some time.
[115] But what has to be firmly borne in mind here is that the inquiry is as to culpability qua the Lewises’ position as directors. Any suggestion that a director can simply abrogate his or her functions, such as occurred in this case, is quite inappropriate in the face of the legislation. As we have said, directors must take proper steps to place themselves in a position to guide and monitor the management of the company. It was the Lewises’ ultimate responsibility to monitor the company’s business (see further the comments of Thomas J in Dairy Containers Limited v NZI Bank Limited [1995] 2 NZLR 30 at 79-81 (HC)). It was the Lewises’ underlying failure to see this company properly set up, with adequate and ongoing books of account, and monitored, which created the very context in which Mr Grant’s unauthorised steps, expenditure and dishonesty could thrive. The neglect of their duties by the Lewises in this case can fairly be described as “reckless”. In all the circumstances, we view the culpability of the Lewises as being significant.
[116] That said, it does not follow that the liability of Mr and Mrs Lewis is exactly the same, or that their liability should be joint and several. What is required is a “just contribution” having regard to the culpability of each of them.
[117] As to the position of Mr Lewis, in particular, the events surrounding the Commercial Factors transaction are distinctly relevant. We do not presently know whether the debenture will be held to be a valid one. If it is not, presumably Commercial Factors are simply another unsecured creditor. Mr Lewis endeavoured to have no part of the transaction, it was foisted on the Lewises by Mrs Grant. That in turn is coloured by whatever steps Mr Lewis could have taken to avoid the transaction.
[118] Finally, claims of this character necessarily have to be approached in a relatively broad-brush way. The jurisdiction to order recompense is of an “equitable” character.

(d) The format of the revised hearing

[119] The liquidators will need to clarify the exact position as to the company’s indebtedness so that the High Court knows who will benefit from any orders under ss 300 and/or 301.
[120] Additional evidence will be required, although the Judge will be able to determine the final orders substantially on the basis of the existing record. The application made before us to adduce further evidence is referred to the High Court for determination by the Judge who determines the remission.
[121] The further hearing would not be a de novo hearing. Its purpose is solely to determine what orders are appropriate, bearing in mind the findings outlined in these reasons for judgment. Any new evidence should be limited to material relevant to remedies as the further hearing would proceed on the basis of the following findings:

(a) The Lewises were in breach of s 135 from September 2000;
(b) Section 138 does not provide them with a defence;

(c) Proper accounting records were not kept at any stage;
(d) The defence under s 300(2) is not available to the Lewises.

(e) Towards a resolution

[122] It would be in everyone’s interests if this proceeding could now be settled without the need for the further round in the litigation that we have felt it necessary to direct. In that regard, we note what we consider the outer limits of liability.
[123] While there are still unknown factors, it is difficult to see how the Lewises contribution, either to the company or to the creditors, could be less than a minimum of $100,000. At the other extreme, it would be inappropriate for them to be held liable for more than $560,000. That was the sum sought by the liquidators on the appeal before us. It may be, as we discussed at the hearing, that this figure considerably understates the indebtedness which flowed from the Lewises’ defaults, which is likely well over $1 million. But given that the remission is in large part a result of the liquidators’ failure properly to plead this matter, it would not be right for the Lewises now to be exposed to a greater sum than they would have had to pay had we been able to determine the case ourselves and had found in accordance with the liquidators’ submissions in this court. At the same time, that sum of $560,000 is merely a cap on quantum for the particular reasons we have given. The culpability of Mr or Mrs Lewis may still be right up to that sum, if the Court, having heard relevant evidence, so determines.

Conclusion

[124] In the result, the appeal is allowed.
[125] The proceeding is remitted to the High Court to determine:

(a) whether a declaration should be made under s 300 of the Companies Act 1993 and, if so, its terms; and

(b) whether an order should be made under s 301(1) of the Companies Act 1993 and, if so, its terms.

[126] The costs order of Salmon J in the High Court is set aside.
[127] All costs in the High Court, both on the trial and on the remission, are to be determined by the Judge who determines the remission.
[128] In this Court, the appellants will have costs of $8,000 and usual disbursements.

Solicitors:
Grove Darlow & Partners, Auckland for Appellants
Gill Coutts & Co, Auckland for Respondents