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Clarity is emerging regarding the position of directors of companies to which examiners have been appointed

September 15, 2017

The decisions of Mr Justice Clarke in In re Tony Gray & Sons Limited (“Tony Gray”)[1], and Ms Justice Finlay Geoghegan in In re Eylewood Limited and In re Woodman Inns Limited (“Eylewood and Woodman”)[2] spell out the entitlements of company promoters in companies in examinership having regard to typical roles they hold as directors, shareholders, employees, and as financiers, both as lenders and guarantors of company loans.

 

While it might appear that the interests of the promoter/shareholder/employee are so interlinked with the affairs of a company seeking Court protection so as to render their hostile removal impossible, it might be necessary to reduce their interests to manageable parcels to deal with them, albeit that the cost of completely extricating them from their employment with the company makes the investment opportunity presented to the investor commercially unattractive to third parties.

 

Shareholders

 

The issue of the entitlement of company promoters to retain their equity participation post examination was considered by Mr Justice Clarke in Tony Gray when the opposition of a creditor emerged at the confirmation hearing to the Examiner’s proposals for a scheme of arrangement (“the Proposals”).

 

In that case it was argued that the 5% dividend to the unsecured creditors was unfairly prejudicial in circumstances where the promoters were retaining ownership of the Company and where they were introducing no fresh equity. If it was unfairly prejudicial the Court was precluded by (s) 24.4(c) Companies (Amendment) Act 1990 (as amended) (“the Act”) from approving the Proposals.

 

In deliberating whether this was the case Clarke J first considered the fairness of the creditor’s position post examination as opposed to that if the company put into liquidation, where it was clear they would get nothing. He considered two matters; what would the company’s solvency position be post examination, which in turn would impact on the value of the company’s shares and the consequent benefit of any solvency to be derived by the shareholders retaining their shares whitewashed of all unsecured debts.

 

Having compared detailed (albeit contradictory) cash flows prepared by both the Examiner and the opposing creditor he concluded that there was no reason for concluding that the Examiner’s views were overly optimistic, and as a consequence that the prospect of saving the enterprise was not “remote, unlikely or unreal”.

In terms of the value of the company, the Court noted that the secured creditors’ agreement to a two year deferral of their liabilities limited the value of the shares because of the impact of the repayments on share value once recommenced.

 

Notwithstanding the lack of fresh investment (the Proposals provided for an internally funded scheme of arrangement paying a 5% dividend to the unsecured creditors, with the connected creditors waiving their claims against the Company and the secured creditors rescheduling their facilities), given that the return of shareholder value was limited, in particular after two years and taking into account the extent of the connected creditors writedowns, the Court held that the unsecured creditors had failed to demonstrate unfair prejudice and the Proposals were approved

 

In Eylewood and Woodman the Court considered the issue of shareholder entitlements to retain an interest in the Company in the context of a preferred investment proposal for all of the shares in the Companies that was hostile to the incumbent Directors and shareholders.

 

While the Court accepted that the provision in the Proposals which deprived the shareholders of their stake in the company represented an impairment of their interests as set out at (s) 22(6)(e) of the Act, when asked to consider whether this represented an unjust attack on the property rights of a member per Article 40.3.2 of the Constitution, Finlay Geoghegan J. said;

 

“Having regard to the nature of the property right inherent in holding shares in a company, it does not appear to me that shares which are worthless, in the sense of having no monetary value, do not continue to constitute a property right.”

 

She added that where the Proposals were fair and equitable, and where they did not represent an unjust attack on the property rights of the members, then they were not unfairly prejudicial and could be put to the Court for approval. This is consistent with the Act which specifically envisages a member being “deprived” of his shares[3]. 

 

Employees

 

Where the examiner’s proposals are prepared with the consent of the promoter (either with the promoter staying in the company or exiting by agreement), typically the promoter will assist with any issues that may need to be resolved so as to ensure the survival of the company.

 

When the promoter’s continued involvement as shareholder is not provided for in the Proposals against their wishes (for example, where the promoter’s proposal is made in a competitive process where it is less attractive than that of a third party), the examiner has no authority to dismiss the promoters qua employees in Proposals put to the Court without making provision for them in the Proposals.

Following a proposal from a third party which was preferred by the examiner in Eylewood and Woodman it was submitted by one of the shareholders that (s) 24 of the Act;

 

does not provide that a scheme of arrangement, when confirmed by the Court, is binding on directors or other office holders, as it does in relation to members and creditors”.

 

In that case evidence of the promoter’s office as employee (managing director) of the Companies in the form of an employment contract and PAYE/PRSI returns had been entered into evidence, and as the Proposals made no provision for the shareholder’s continued employment the Proposals were seriously undermined.

 

Following the Examiners acceptance of an investment proposal that was hostile to that of the shareholder/directors In re Map Dance Limited t/a Jackie Skelly Fitness, until a last minute intervention by the secured creditor rectified the position, the Court indicated that because the Proposals submitted to the Court for approval made no provision for the directors it was unfairly prejudicial to their interests and could not be confirmed.

 

Guarantors

 

Most insolvent SMEs have bank debt which is personally guaranteed by company promoters. In cases where an examiner favours an investment proposal which envisages the takeover of the company against the wishes of the promoters (as guarantors), special care must be taken regarding the treatment of this debt.

 

In Eylewood and Woodman the Proposals envisaged a takeover which was hostile to the directors and shareholders of the Companies who also had guaranteed significant amounts of company debt. Unusually, the director/shareholders were seeking to collapse the examinership in the hope of buying back the assets at a cheaper price through either receivership or liquidation.

 

Once the required notice seeking to rely on the guarantees are served on the guarantors in accordance with (s) 24A(1)(c) of the Act, the guarantees given by the promoters survive the examination period and they become personally liable for the debt so guaranteed.

 

The Proposals put to the Court for confirmation made no provision for a dividend to the guarantors, notwithstanding their entitlement arising from their subrogated claim against the companies. Finlay Geoghegan J relied on Chitty on Contracts Vol. II[4]

 

“A surety is in principle entitled to be indemnified fully for monies paid to a creditor in respect of a principal debtor’s liability”[5] and

 

“A surety who pays the creditor is subrogated to the creditor’s rights as against the debtor. This means, inter alia, that he is entitled to the benefit of all securities belonging to the debtor and charged with the liability which the surety has been called on to meet. As in the case with the right to an indemnity and/or contribution, this right does not arise until actual payment by the surety, but the surety’s potential right is recognised even before payment “[6] (emphasis added)

 

She went on to say that it is permissible for the examiner to include, as contingent creditors, persons who have given guarantees of the debts of the company in examinership, and then to write down the contingent liability of the company to the guarantor arising out of the guarantor’s right of indemnity against the company.

 

The investment proposal envisaged a substantial write down of a debt secured by way of a fixed and floating charge by agreement with the secured creditor, with the result that this was the contingent subrogated claim against the company by the guarantors regarding which no provision had been made in the Proposals. The examiner argued that (s)24 A(1)(d) of the Companies (Amendment No 2) Act 1999 specifically wrote down any subrogated claim; however the Court found that it did not.  

 

If the debt was written down per the Proposals, the going concern values in the scheme for the assets were greater than the lower values that the Bank had accepted as part of the Proposals. The Court held this was further unfair prejudice to the shareholder who had given personal guarantees and refused to confirm the Proposals.

 

Conclusion

 

Very serious practical difficulties still exist to the complete removal of promoters from a company in examinership, in particular where they are employees and have guaranteed the debts of the company.

 

In such circumstances, and where liquidation is the only other alternative, it must be the examiner’s role to seek to agree by consent a package of measures to allow the company to transition to new owners if this is in the best interests of the Company and the general body of employees whose livelihoods depend on its survival.

 

[1] Ex tempore decision of Mr Justice Clarke dated 26th November 2009

[2] Unreported, 5th March 2010

[3] (s) 22(6) (e) Companies (Amendment) Act 1990 (as amended)

[4] Specific Contracts (30th ed). Sweet & Maxwell 2008

[5] Ibid at para.44.116

[6] Ibid at para 44.128

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