Published on:
20 Sept 2022
3
min read
On directors incurring personal liability, due to a company's debts.
F was the director of an interior design firm.
In 2013, the firm provided fitting out works for a clinic. In 2014, the clinic suffered from flooding. In 2015, the clinic sued the firm, alleging that it was responsible.
In 2017, the Court held that the firm was liable to the clinic for damages. In 2019, the Court ordered the firm to pay to the clinic S$534,189.19, plus interest and costs.
The firm presumably failed to pay the judgment sum to the clinic. In 2020, the clinic obtained a Court order for the firm to be wound up.
In 2022, the Court ordered F, the director, to pay the sum of S$1,182,394.00 to the firm.
Hold on - what? Isn't it the firm that is liable, and not F personally? And why should F be making any payment to the firm, as opposed to the clinic?
---
Let's rewind to 2020. After the firm was wound up, liquidators were appointed to look into its financial affairs. It turns out that from 2015 to 2017, the firm had paid dividends, and repaid loans, to F.¹
The pending lawsuit meant that at the time when the firm transferred money to F, the firm owed a contingent liability² that was reasonably likely to materialise. Taking this contingent liability into account, the firm was insolvent at the time when some of the transfers took place.
F should not have arranged for transfers while the firm was insolvent. F was therefore ordered to repay, to the firm, sums that had been wrongfully paid out.³
---
3 observations:
(a) If you are a director of a company that is being sued, it may be unwise to arrange for the company to make payments (especially to yourself!) that may affect the company's ability to pay any judgment sum that may eventually be ordered. Consider first obtaining legal advice, specifically on whether the payments should be made.⁴
(b) Even if the company has been advised that it has a "strong defence", directors cannot assume that the company will successfully defend itself from the lawsuit, such that there is no contingent liability. In this case, the Court held that it would be reasonable for F to understand that the clinic might only have a 35% or 40% chance of winning, and apply such a discount to the sum claimed in order to value the contingent liability.⁵ Even though the advice was "couched in strong terms", F should not have taken the view that there was no contingent liability at all.
(c) Directors cannot assume that so long as time has passed, they will avoid liability for historical events. In this case, the flooding happened in 2014. 8 years have passed since. Yet F must now pay over a million bucks to the firm. If he cannot, he may be made bankrupt. Directors should not hesitate to seek advice before deciding whether to make big payments, even if these decisions appear purely commercial or entirely within their area of expertise.
Disclaimer:
The content of this article is intended for informational and educational purposes only and does not constitute legal advice.
¹ To recap, these payments were made after the clinic had already filed its lawsuit against the firm.
² A contingent liability is a potential liability that may or may not occur, depending on the outcome of a uncertain future event: https://en.wikipedia.org/wiki/Contingent_liability.
³ The sums repaid will be added to the pool of assets to be paid out to creditors, including the clinic.
⁴ In this case, although F argued that he had acted on his legal advice, the Court held that it was not enough for him to rely on advice on the merits of the firm's defence against the clinic's claim. He did not obtain advice on whether dividends should be paid. If he had done so, he may have been able to avoid liability.
⁵ This appears to be the same logic behind expected value analysis: https://en.wikipedia.org/wiki/Expected_value.
[2022] SGHC 225
