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High Court of New Zealand Decisions |
Last Updated: 24 July 2019
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IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY
I TE KŌTI MATUA O AOTEAROA TĀMAKI MAKAURAU ROHE
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CIV-2018-404-002472
[2019] NZHC 1664 |
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BETWEEN
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ESKO GROUP LIMITED (In liquidation) First Plaintiff
VIVIAN FATUPAITO as liquidator of Esko Group Limited (in Liquidation)
Second Plaintiff
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AND
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WILLIAM ROBERT ESKDALE
First Defendant
MICHAEL WILLIAM ESKDALE
Second Defendant
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Hearing:
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3 July 2019
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Appearances:
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P C Murray for the plaintiffs
No appearance by or on behalf of the defendants
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Judgment:
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17 July 2019
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JUDGMENT OF WOOLFORD J
This judgment was delivered by me on Wednesday, 17 July 2019 at 11:30 am pursuant to r 11.5 of the High Court Rules.
Registrar/Deputy Registrar Date:
Solicitors: Fortune Manning, Auckland
Counsel: P Murray, Akarana Chambers, Auckland
ESKO GROUP LIMITED (In liquidation) v ESKDALE [2019] NZHC 1664 [17 July 2019]
[1] By statement of claim dated 31 October 2018, the first plaintiff, Esko Group Limited (in liquidation) (the company), seeks judgment against the first defendant, a former director of the company, for the sum of $92,083.94, together with interest and costs. This was his current account debt as recorded in the company’s financial records as at the date of liquidation (27 November 2017). The second plaintiff, the company’s liquidator, also seeks a declaration that the first and second defendants breached their duties as directors of the company under ss 131, 135, 136 and 137 of the Companies Act. She seeks orders that the first and second defendants contribute such sum to the assets of the company by way of compensation as the Court thinks fit; calculated by reference to the losses pleaded. The second plaintiff alleges that the company suffered loss in the amount of $300,278 as a result of the first defendant’s breach of duties, while the company suffered loss in the amount of $246,700 as a result of the second defendant’s breach of duties.
[2] The first defendant was served with the proceeding on 5 December 2018 at his home address. He has taken no steps in the proceeding. On 6 March 2019, Lang J directed that personal service on the second defendant be dispensed with. He directed that instead of personal service, the proceeding would be deemed to be served on the second defendant upon completion of the following steps:
(a) personally serving the documents, together with a copy of the order as to substituted service, on the first defendant; and
(b) sending the documents, together with a copy of the order as to substituted service, to the second defendant’s email address.
[3] The second defendant was served in accordance with the order for substituted service on 19 March 2019. He has also taken no steps in the proceeding.
[4] Pursuant to r 15.9 of the High Court Rules 2016, the plaintiffs sought to proceed against the first and second defendants by way of formal proof on the basis judgment was sought by default for other than a liquidated demand as defined in r 15.7(5). The Court granted the application for a formal proof hearing, which was heard before me on Wednesday, 3 July 2019.
Background
[5] The company was incorporated on 3 November 2015 and traded as a freight forwarding business. The first defendant was a director of the company from its incorporation to his resignation on 22 December 2016. The second defendant was a director of the company from its incorporation to his resignation on 30 September 2016. Both the first and second defendants are shareholders of the company. There was a third director and shareholder of the company, James Johnston, who has co- operated with the second plaintiff and reached a settlement with her.
[6] The first defendant took drawings from the company which were not repaid. As at the date of liquidation, the first defendant’s shareholder current account was overdrawn in the amount of $92,083.94.
[7] In an affidavit dated 1 July 2019, the second plaintiff proffers her opinion that the company was unable to pay its debts as they became due in the normal course of business (that is, was cash flow insolvent) from at least 31 March 2016. She also says the company’s liabilities exceeded its assets (that is, was balance sheet insolvent) from May 2016. The tax debts that ultimately lead to the company being placed in liquidation began to accrue from March 2016.
[8] Despite that, the first and second defendants continued to trade the company and caused it to incur further tax and other obligations, including obligations to Motor Trade Finance Limited under credit contracts for the purchase of vehicles in the period after May 2016. The company was placed into liquidation by the High Court at Auckland on 27 November 2017. A total of 13 creditor claims were received, totalling
$585,842.50 as follows:
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Creditor
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$ amount
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Baigents Office Products
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2,468.38
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Byron Penaia-Smith
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4,300.42
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Crown Equipment Ltd
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10,195.94
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Cowley’s Hire Centre Ltd
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4,728.00
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Eskdale Freight Ltd (in liquidation)
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32,640.17
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Heemi Turetahi Hohaia
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18,432.02
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Inland Revenue Department (proof of debt)
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458,679.57
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Inland Revenue Department (Court order)
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4,267.07
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Lion Finance Ltd
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7,321.79
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Northern Forklifts Ltd
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578.45
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O’Neill Rentals Ltd
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41,526.17
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Uber Group Ltd
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297.00
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Whangarei Mobile Locksmiths
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407.50
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$585,842.50
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First cause of action: Overdrawn current account
[9] At all material times, the first defendant had a current account with the company. The company’s Xero financial statements record that as at the date of liquidation (27 November 2017), the first defendant owed the company the sum of
$82,083.94 under his current account. The company’s Xero financial statements also record a payment of $10,000 to the first defendant on 23 June 2017, which had not been reconciled in the current account. Absent a company resolution to the contrary, which has not been adopted, the amount of $10,000 is an advance also repayable on demand.1 The first defendant therefore owes the company the sum of $92,083.94 under his current account. The current account debt is repayable by the first defendant
on demand.2 Demand has been made, but no payment has been received by the company.
[10] The company is therefore entitled to judgment against the first defendant for the sum of $92,083.94 as a debt due.
Second cause of action: breaches of director’s duties
[11] In the second cause of action the second plaintiff relies on director’s duties under ss 131, 135, 136 and 137 of the Companies Act 1993:
(a) Section 131 provides that the director of a company, when exercising powers or performing duties, must act in good faith and in what the director believes to be the best interests of the company.
(b) Section 135 provides that a director must not agree to, 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.
(c) Section 136 provides that a director must not agree to a company incurring an obligation unless the director believes, on reasonable grounds, that the company will be able to perform the obligation when required to do so.
(d) Finally, s 137 of the Act provides that a director must exercise the care, diligence and skill of a reasonable director in the same circumstances.
[12] The second plaintiff has undertaken a comprehensive assessment of the financial records of the company, the findings of which are detailed in her affidavit dated 1 July 2019.
[13] The financial statements for the company for the year ended 31 March 2016 recorded a total equity of $14,503 with a net profit of $13,504. In her view, however,
2 EBR Holdings Ltd (in liq) v Dan Duyn (No 2) [2017] NZHC 1698 at [67].
the financial statements do not accurately record the financial position of the company as at 31 March 2016 and subsequently. The company’s current assets recorded in its financial statements as at 31 March 2016 included a loan owing to the company by Eskdale Freight Limited of $119,178. Eskdale Freight Limited went into liquidation on 12 September 2016 owing $426,847.17 to creditors.
[14] Mr Johnston, the third director, advised the second plaintiff that the purpose of the loan to Eskdale Freight Limited was to allow that company to pay down debt as it was under financial pressure. There are no documents or emails relating to the loan. In the circumstances, the second plaintiff is of the view that the loan owing by Eskdale Freight Limited was never realistically recoverable by the company. It was never going to be, and was not, repaid.
[15] The second plaintiff therefore adjusted the current assets in the financial statements to remove the balance of the loan due from Eskdale Freight Limited. Once that adjustment is made, the company was cashflow insolvent as its current liabilities exceeded its realisable current assets.
[16] Furthermore, the company’s Xero financial statements recorded that by May 2016, the company’s current liabilities exceeded its realisable current assets (excluding the loan owed by Eskdale Freight Limited) by approximately $44,000. The company’s liquidity declined further throughout the financial year with current liabilities exceeding realisable current assets by $210,235 by December 2016. The bank balance recorded in the company’s monthly Xero financial statements was overstated due to it not being reconciled. The second plaintiff is of the view that the company did not have the ability to meet its existing or future obligations from March 2016. This, she says, is further evidenced by the company having insufficient funds to meet its trading costs.
[17] As at March 2016, the company had accrued unpaid tax obligations totalling
$8,683. In the period from 31 March 2016 to 31 December 2016, the company’s outstanding tax obligations increased to $199,430, excluding additional interest and penalties accrued. The tax debts which ultimately led to the company being placed into liquidation began to accrue from March 2016. The second plaintiff says that it is
her experience that the failure to pay tax debts on a regular basis over an extended period of time is “a sure sign of a company in trouble”.
[18] The Xero financial statements show the company was operating at a substantial loss from as early as January 2016. The company was not recording PAYE in its income statements and salaries were stated net of PAYE. Once the company’s income statement is adjusted to include the PAYE expense, for the 12 month period from January 2016 to December 2016 the company’s expenses exceeded receipts by
$142,124.
[19] Finally, the second plaintiff also points to the goodwill recorded in the company’s financial statements. In her view the goodwill did not have any realisable worth given the company’s chronic indebtedness and lack of trading profits. No third party would have paid goodwill for the business and, in her view, it must be set aside. Once the required adjustments to the company’s balance sheet to remove the uncollectable loan balance from Eskdale Freight Limited, correctly state the company’s tax debt and reduce the value of its goodwill (given the lack of trading profits), the company’s total liabilities exceeded its total assets and was balance sheet insolvent as early as May 2016. It remained insolvent until its liquidation.
[20] As to liabilities incurred after insolvency, the second plaintiff has calculated that the company incurred total debts in the amount of $242,433 in the period from 31 March 2016 to 30 September 2016 (when the second defendant resigned as a director), to which can be added $4,267 in respect of Inland Revenue’s court costs and disbursements, making the total loss to the company $246,700.
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Eskdale Freight Limited (in liquidation)
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$32,640
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Inland Revenue (proof of debt)
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$173,223
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O’Neill Rentals Limited
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$36,570
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Petitioning creditor costs and disbursements
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$4,267
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Total
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$246,700
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[21] In the period from 31 March 2016 to 22 December 2016 (when the first defendant resigned as a director of the company), the company incurred liabilities of
$296,011, to which can be added $4,267 in respect of Inland Revenue’s court costs and disbursements, making the total loss to the company $300,278.
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Baigents Office Products
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$2,437
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Crown Equipment Ltd
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$2,658
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Eskdale Freight Ltd (in liquidation)
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$32,640
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Inland Revenue Department (proof of debt)
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$216,810
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O’Neill Rentals Ltd
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$41,466
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Petitioning creditor costs and disbursements
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$4,267
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Total
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$300,278
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[22] As part of her investigations, the second plaintiff considered the actions of the first and second defendants as directors of the company. From her experience, she has seen many instances where directors regularly make decisions involving an element of risk in the normal course of business. In making those decisions, a competent director considers the financial position of a company and determines whether the action contemplated gives rise to a risk to creditors. This involves an assessment of the prospects of success in accordance with commercial practice.
[23] The second plaintiff says she has seen competent directors in such situations make good conditions. She has also seen directors who make very poor decisions in these circumstances. They fail to adequately monitor the company’s financial position, allow significant further unmet obligations to be incurred, take funds for personal use, and do not use those funds to make payment towards the company’s urgent debts.
[24] Based on her experience, the second plaintiff has formed the view that the first and second defendant’s actions fall into the latter category of directors. A prudent director of the company would not have continued to trade and allowed the debts to accrue as they did. The company was insolvent by March 2016 and did not have the
ability to service any further obligations. Had the first and second defendants made an appropriate assessment of the company, it would have been clear that committing the company to further obligations (in particular, the Motor Trade Finance loans) would not have been in the company’s best interests. There is nothing in the company records that shows the first and second defendants undertook a “sober assessment” as to the company’s likely future income and prospects.
[25] The company records do not contain any assessment of the company’s financial position or any risk assessment. This lack of assessment meant that the company had no prospect of returning to a solvent position. Instead of paying creditors, the first and second defendants allowed drawings to be taken from the company. There is also a suggestion that they used company funds to pay creditors of their other businesses. Had they carried out an appropriate assessment of the company’s financial position as at March 2016, it would have been apparent that the company was unable to pay its tax and other liabilities. An appropriate assessment would also have shown that the company was unable to meet its obligations under the Motor Trade Finance loans.
[26] Based on the second plaintiff’s affidavit evidence, I am satisfied that the first and second defendants acted in breach of the Companies Act by allowing the company to continue to trade and incur further obligations it could not meet. They permitted the company to default on its obligations to Inland Revenue and other creditors and allowed funds to be extracted from the company as drawings and to pay non-company creditors.
[27] This amounted to:
(a) a failure to act in good faith and in the best interests of the company, which would have involved ensuring the company met its financial obligations where financial circumstances allowed,3 instead appearing to take personal drawings while the company was cashflow and balance
3 GL Investment and Development Ltd (in liq) v Gao [2018] NZHC 868 at [50].
sheet insolvent,4 and apparently using company funds to pay creditors of their other business;
(b) causing and allowing the business of the company to be conducted in a manner likely to cause loss to its creditors in failing to make the proper “sober assessment”5, or indeed any assessment, of how to avoid that outcome by halting trading or otherwise altering their borrowing and trading practices at a time at which any reasonable director would have strongly considered ceasing trading as the company approached insolvency;6
(c) the incurring of obligations that they lacked a reasonable belief that the company would be able to perform when required to do so, again having undertaken no reasonable analysis of the company’s ability to meet newly incurred obligations as required, even as the company was evidently insolvent, trading at a loss without reasonable prospect of recovery, and defaulting on its existing obligations;7 and
(d) failing to exercise the diligence and care that a reasonable director of a reasonably small trading business of this type would have exercised in these circumstances, on the basis of the above.8
[28] Having established that the first and second defendants are in breach of their duties as directors under the Companies Act, the Court must identify the appropriate relief under s 301 of the Act.
[29] The second plaintiff’s investigation has determined that the first and second defendants were primarily responsible for the finances of the company and were, therefore, responsible for the financial decline of the company. The period when the
4 Sojouner v Robb [2006] NZHC 1676; [2006] 3 NZLR 808 (HC) at [102].
5 Mason v Lewis [2006] NZCA 55; [2006] 3 NZLR 225 (CA) at [51].
6 Mainzeal Property and Construction Ltd (in liq) v Yan [2019] NZHC 255 at [164].
first and second defendants were directors was crucial to the fate of the company. I am of the view that there is a causative link between the first and second defendant’s breach of their duties and the losses suffered.
[30] In all the circumstances, I am satisfied that it is appropriate to direct the first and second defendants to contribute a sum equivalent to the amount of the creditor losses incurred by the company during the period of their directorships,9 together with Inland Revenue’s court costs and disbursements. As against the first defendant, the sum is $300,278. As against the second defendant, the sum is $246,700.
[31] Because of the overlap of debts incurred, the first and second defendants are jointly and severally liable for the sum of $246,700. The first defendant is solely liable for the difference between $300,278 and $246,700, being the sum of $53,578.
Result
[32] There will therefore be the following orders:
(a) Judgment against the first defendant for the sum of $92,083.94 in respect of the current account debt owing to the company, together with interest in accordance with the s 10 of the Interest on Money Claims Act 2016 from 9 May 2018 to the date of payment.
(b) A declaration under s 301(1)(a) of the Act that the first and second defendants have breached their duties under ss 131, 135, 136 and 137 of the Act in relation to the company.
(c) Judgment against the first defendant pursuant to s 301(1)(b)(ii) of the Act and an order that he contributes the sum of $300,279 to the assets of the company by way of compensation together with interest in accordance with s 10 of the Interest on Money Claims Act from 27 November 2017 to the date of payment.
(e) Costs are payable by the first and second defendant to the plaintiffs on a 2B basis together with disbursements.
Woolford J
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