Morphitis v Leonardo Bernasconi Pasqualino Monti Nicholas Bennett & Co (a firm)

The liquidator sought a declaration under section 213 of the Insolvency Act 1986 that two former directors and the company’s solicitors were knowingly party to carrying on the company’s business with intent to defraud creditors. The trial judge found fraudulent trading from 12 November 1993 based on a promise to pay an instalment which the directors knew would not be made and ordered contributions including a punitive element, but held that a payment made by the solicitors satisfied the directors’ liability. On appeal the Court of Appeal held that, on the judge’s findings, the isolated deceptive promise did not establish that the company’s business was carried on with intent to defraud creditors within the meaning of section 213. The court also held that the power to order contribution under section 213 is compensatory and not punitive, and that no proper nexus existed between the misrepresentation and a contribution order.

Background and parties: TMC Transport (UK) Limited was wound up in December 1994. The liquidator applied under section 213 of the Insolvency Act 1986 against two former directors (Mr Bernasconi and Mr Monti) and a firm of solicitors, alleging they knowingly carried on the company’s business with intent to defraud creditors. At trial the judge found fraudulent trading from 12 November 1993 and ordered the directors to contribute to the company’s assets; he treated a payment by the solicitors as discharging the directors’ liability and included a punitive element in the contribution.

Procedural posture: The liquidator appealed and the directors cross-appealed to the Court of Appeal. Permission to appeal and cross-appeal was granted on limited grounds; the Court of Appeal heard full argument and treated applications for permission as additional grounds.

Nature of claim and issues: The claim was for contributions under section 213 (fraudulent trading). The Court identified the central issues: whether the business was carried on with intent to defraud under section 213; whether fraudulent trading occurred before 12 November 1993; whether any loss to creditors resulted from the conduct found; the correct assessment of contribution; whether a punitive element could be included in a contribution; whether the solicitors’ payment extinguished directors’ liability; and allocation of costs.

Facts and trial findings: The directors implemented a scheme advised by counsel to transfer the trading goodwill and enable a new company to trade under similar initials while leaving onerous leases with the old company. The judge found that, while the scheme as implemented aimed to preserve the former directors’ position under section 216, the liquidator’s pleaded case at trial relied only on deception of the landlord, Ramac, by promises to make instalment payments. The trial judge found that the directors knowingly misled Ramac on 12 November 1993 by promising a £10,000 payment on 23 December 1993 which they did not intend to make, and held fraudulent trading existed from that date. He assessed contribution (exclusive of a punitive element) at £17,500 and added a further £17,500 by way of punishment; he treated the solicitors’ payment of £75,000 as satisfying the directors’ liability.

Court of Appeal reasoning and outcome: The Court considered precedent (including In re Gerald Cooper Chemicals and In re Sarflax) and concluded that an isolated fraudulent misrepresentation to a single creditor does not automatically establish that the company’s business was carried on with intent to defraud creditors for the purposes of section 213. On the judge’s own findings the carrying on of the business was motivated by a permissible aim to implement counsel’s scheme to protect the directors from section 216 consequences; the only dishonest act found was the single promise of 12 November 1993. The Court held there was insufficient material to conclude that the carrying on of the business after that date was carried on with intent to defraud Ramac or creditors generally, and that no proper basis existed for ordering a contribution. The Court further held that the section 213 contribution power is compensatory, not punitive, and that the judge was wrong to include a punitive element. It dismissed the liquidator’s appeal, allowed the directors’ cross-appeal on the key ground, set aside the earlier order and dismissed the action against the respondents; costs were ordered against the appellant.

The appeal by the liquidator was dismissed and the directors’ cross-appeal (on the principal ground) was allowed. The Court held that, on the judge’s factual findings, the single deceptive promise made on 12 November 1993 did not establish that the company’s business was carried on with intent to defraud creditors within section 213 of the Insolvency Act 1986. The Court further held that orders for contribution under section 213 are compensatory rather than punitive and that there was no sufficient nexus on the evidence to order any contribution. Consequently the trial order was set aside and the action dismissed.

Appeal to the Court of Appeal (Civil Division) from the Companies Court, Chancery Division (Mr Anthony Elleray QC sitting as deputy High Court judge). The trial judgment was handed down February 2001; an order dated 18 June 2001 was not entered until February 2002. Permission to appeal and cross-appeal was granted in February–May 2002. This Court delivered judgment on 5 March 2003 ([2003] EWCA Civ 289).