Unlawful distributions enjoyed by directors: no sanctuary in the Limitation Act

March 2, 2018

Claims against directors who transfer assets away in breach of their fiduciary duties are not subject to a 6-year limitation period simply because the assets were held by and transferred to corporate vehicles controlled by those directors. So held the Supreme Court in Burnden Holdings (UK) Limited v Fielding [2018] UKSC 14.

By David Mohyuddin QC

Facts

The facts assumed in the Supreme Court were:

• The Claimant was a holding company with a number of trading subsidiaries operating in (a) the supply and construction of conservatories and (b) a combined heat and power business. K2 Conservatory Systems Limited and Cestrum Conservatories Limited operated in the conservatory business. Vital Energi Utilities Limited carried on the heat and power business
• The Defendants were the directors of the Claimant at all material times and its controlling shareholders.
• An offer was received for 30% of the shares in Vital in return for £6m subject to conditions including the complete separation of Vital from the conservatory business.
• Then, a number of corporate transactions took place:- The shareholders in the Claimant exchanged their shares for shares in a new holding company, BHUH in which the new shareholdings precisely mirrored those in the Claimant

  – A distribution in specie of the Claimant’s shareholding in Vital was made to BHUH, having been approved by the directors of the Claimant (the Defendants) and the Claimant’s then sole shareholder, BHUH

  – BHUH went into members’ voluntary liquidation and, pursuant to s 110 reconstruction agreements, BHUH transferred the share in Vital to another new company, VHL and the shares BHUH held in the Claimant to yet another new company, BGHL. Those two new companies issued shares to the former shareholders in BHUH, precisely mirroring the shareholdings in BHUH and, previously, in the Claimant.

  – One of the defendants sold a 30% shareholding in VHL for £6m, lending half that sum to the Claimant and using the balance to assist in the purchase of a property.

• The Claimant, K2 and Cestrum went into administration and then liquidation.

 

Claim

The Claimant alleged that:

• The distribution in specie of its share in Vital to BHUH was unlawful
• The Defendants’ participation in the distribution amounted to a breach of their fiduciary duties
• Because the distribution was made to BHUH in which the Defendants were the majority shareholders and directors, they derived a substantial benefit from the distribution

 

Proceedings

The Defendants applied for summary judgment on the claim on the basis that the claim against them was statute-barred under s 21(3) of the Limitation Act 1980, there being a six-year limitation period and succeeded at first instance.

The Claimant appealed, relying on section 21(1)(a) and (b) and section 32(1)(b) (which were different points to the ones the Claimant had originally taken). In the Court of Appeal [2016] EWCA Civ 557, the Claimant company succeeded on the grounds (a) that, under section 21(1)(b), no limitation period applied and (b) that it could not be determined on an application for summary judgment whether a postponed period of limitation applied under section 32.

The Defendants appealed.

 

Supreme Court decision

The Court of Appeal had held that, in order to achieve its purpose, section 21(1)(b) had to be construed so as to include within its terms a transfer (in breach of trust) to a company directly or indirectly controlled by the defaulting trustee.

The Defendants attacked that conclusion, but to no avail.

Lord Briggs, with whom all the other members of the Court agreed, said that:

• The starting point for in the construction of section 21(1)(b) is to pay due regard to its purpose which was to give trustees the benefit of the lapse of time when, although they had done something legally or technically wrong, they had done nothing morally wrong or dishonest but it was not intended to protect them when, if they relied on the expiry of a limitation period, they would come off within something they ought not to have – for example trust money received by them and converted to their own use
• Section 21 is primarily aimed at express trustees, some examples of which (such as the trustee of a strict settlement) might not be in possession or receipt of trust property. Company directors were different, each being treated as being in possession of the trust property from the outset, regardless of the extent, if any, of their shareholding in the company. They are the fiduciary stewards of the company’s property.

On the assumed facts:

• The Defendants converted the Claimant’s shareholding in Vital to their own use when they procured or participated in the unlawful distribution to BHUH
• It was a conversion because, if the distribution was unlawful, if was a taking of the Claimant’s property in defiance of the Claimant’s rights of ownership of it
• It was a conversion of the shareholding to the Defendant’s own use because of the economic benefit they stood to derive from being the majority shareholders in the company to which the distribution was made.
• By the time of the conversion, the Defendants had previously received the property because, as directors of the Claimant, they had been the fiduciary stewards of that property from the outset.

Accordingly, the Defendants were not entitled to summary judgment on the basis that a six-year limitation period applied to the claim against them.

The Court declined to reach any conclusion on the section 32 arguments.

 

Comment

This decision clearly demonstrates that company directors who unlawfully take the company’s assets for themselves, cannot escape liability due to the passage of time by relying on their use (as is commonplace) of corporate vehicles to hold those assets. It is a decision consistent with the Supreme Court’s earlier decision in Prest v Petrodel Resources Limited [2013] UKSC 34, even though in Burnden questions of anti-avoidance did not arise. The theme that appears is that it would be unjust to allow a person who has illegitimately received company property to use the fact that the property was held in corporate vehicles to keep it. This is consistent with the approach taken to other provisions aimed at the avoidance of antecedent transactions with and breaches of duty by company directors.

Click here for a copy of the judgement.

 

David Mohyuddin QC

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