A High Court Judge has issued a reminder to take care when giving personal guarantees because they can be difficult to escape, even after exiting a business.
The Judge made this comment after determining that a former company director owed one of the company’s suppliers over $260,000 plus interest.
The case involved a contract between a printing company and a paper supplier. In return for the printing company being afforded 60 days’ credit, one of the printing company’s directors, Mr McCormack, was required to personally guarantee the printing company’s obligations to the paper supplier.
The printing company started to fall behind in its payments to the paper supplier. This continued over the next two years. By February 2013, approximately $157,000 was owed and the parties entered into a payment plan which required monthly payments to address the arrears. Mr McCormack signed the payment plan on behalf of the printing company. The paper supplier’s financial controller made it clear to Mr McCormack that “she would have a piece of him personally if the payments were not met”.
Not long after agreeing to the payment plan, Mr McCormack resigned as a director of the printing company. Upon hearing that Mr McCormack had left the printing company, the regional manager visited Mr McCormack at home. This visit, and each party’s recollection of it, was central to this case. Mr McCormack claimed that the regional manager gave him an assurance that he would be released from his guarantee. The regional manager, on the other hand, insisted that he visited as a friend, had nothing to do with the paper supplier’s financial activities, and did not have authority to make decisions about guarantees. He could not recall discussing the guarantee with Mr McCormack.
Ultimately the Judge did not accept that the conversation with the regional manager released Mr McCormack from his guarantee, which highlights the difficulty in relying on conversations instead of written documents. Mr McCormack argued that he was accustomed to verbal business dealings with the regional manager and had no reason to doubt the regional manager’s authority or to think that further written correspondence was required. The paper supplier’s lawyer suggested that Mr McCormack’s account of the conversation was “a fantasy”.
Mr McCormack also argued that the guarantee was ineffective because of variations to the contract between the paper supplier and the printing company. This relies on the established legal principle that if a contract is varied without the consent of a guarantor and the guarantor is prejudiced as a result, the guarantee will be discharged. Mr McCormack’s lawyer asserted that the 60 day credit was a key aspect of the contract, and the payment plan materially changed the terms of that contract. The paper supplier’s lawyer pointed to two issues with this argument. First, the payment plan allowed the printing company to trade out of its position, but was not a binding agreement to extend time for performance. Second, Mr McCormack signed the plan for the printing company, so he cannot claim that he did not consent. The Judge agreed with this approach, noting that the payment plan did not prejudice Mr McCormack; rather it benefited him by allowing the printing company a better opportunity to meet its obligations.
Mr McCormack was in a particularly vulnerable position because his two fellow directors were not a party to this guarantee, making him solely liable.
There are three key lessons to be learnt from this case. First, be alert when signing business contracts. Read them carefully and understand both the company’s obligations and your personal obligations. Ask questions and take advice if there is something you don’t understand. Second, keep a record of material contracts and guarantees that you have given. When you leave a business you should contact suppliers and banks and actively seek written releases of your guarantees to the extent possible. Third, ensure that your shareholders’ agreement allocates liability under guarantees fairly between shareholders.
Rosie Clark is a Partner in law firm Gallaway Cook Allan.
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