In my last article I commented on events which would entitle a lender to take action against a borrower. If the borrower having financial difficulties is a company, the conduct of the company and its directors may be put under the microscope.

 

In the rural sector the interests of the directors/shareholders of a company and those of the company itself can be very similar. This can lead to directors treating company property as if it was their own. In doing so, those directors might become personally liable to reimburse the company.

 

An Example

 

The case of National Trade Manuals Ltd (in liquidation) v Watson is an example of a situation where money was paid to the director by the company when the company was in financial difficulties and its continued viability in doubt.

 

Mr Watson was the sole shareholder and director of NTM. Mr Watson had received a salary of $267,000 from the company. In 2004 the Inland Revenue Department served a statutory demand on the company for about $150,000. This led to the company’s liquidation. The liquidator accepted that a fair salary would have been $52,000 and claimed the balance from Mr Watson.

 

A shareholder’s resolution had been signed purportedly authorising the payment of the salary to Mr Watson by the company. The difficulty here was that, because Mr Watson was also a director of the company, additional laws had to be complied with before the payment could potentially be carried out legitimately.

 

The Companies Act requires a director to sign a certificate stating that in the director’s opinion the payment to him is fair to the company and detailing the grounds for that opinion. Mr Watson had not signed any such certificate. As he had failed to comply with the statutory requirement and as he could not show that the payment to him was fair, the liquidator’s claim was successful. Mr Watson was ordered to repay $204,000 to the company because the payment had not been properly authorised.

 

Under section 56 of the Companies Act, a distribution to a shareholder which is made at a time when the company does not satisfy the solvency test may be recovered by the company unless the shareholder receives the payment in good faith and without knowledge of the company’s failure to satisfy the solvency test. In Mr Watson’s case, he knew of the Inland Revenue claim at the time payment was purportedly authorised to him and accordingly a liability to repay the company arose under section 56 also.

 

Moral of the Story

 

If financial difficulties arise, paperwork will probably be checked and a failure to comply revealed. Mr Watson’s case demonstrates that directors of companies need to take care to ensure that the requirements of the Companies Act are always met.