Auden McKenzie (Pharma Division) Ltd v Patel

A director who causes a company to make unauthorised payments for no value is ordinarily liable in equitable compensation for the resulting depletion of its assets. It remains legally arguable, however, that compensation may be reduced where the director can prove that the same sums would otherwise have been paid lawfully to the same recipients, who were the company’s only shareholders and could procure those payments.

The transactional-trust principles in Target Holdings and AIB do not determine that question. They address losses that would have occurred had trustees fully performed obligations defined by the relevant transaction. The proposed defence raises a developing question of equitable principle which should be resolved after trial, rather than by summary judgment.

The company’s managing director dishonestly caused it to pay more than £13.7 million against sham research and development invoices. The company received no value, and most of the money was transferred for the personal benefit of the director and his sister, who were its only directors and shareholders.

The Commercial Court gave the company summary judgment for equitable compensation of £13,149,479 plus compound interest. It rejected the director’s contention that, but for the misappropriation, equivalent sums would lawfully have been paid to the same shareholders as dividends, remuneration or other benefits.

The director appealed. The central question was whether that counterfactual could afford a legally sustainable defence to the claim for equitable compensation. A subsidiary issue concerned whether compensation should be reduced for corporation tax that the company would have paid had the sham expenditure not reduced its profits.

1. Appeal allowed. The summary judgment against the director was set aside. His proposed defence was not shown to be unsustainable in law, although the court did not decide that it would succeed at trial.
2. Equitable compensation is a personal remedy against trustees and other fiduciaries. Where a director causes a company to make unauthorised payments for no value, the ordinary restorative measure is the amount by which the company’s assets were depleted, with appropriate interest. A direct claim for compensation may be brought without first obtaining an account.
3. Target Holdings v Redferns (a firm) [1996] AC 421 and AIB Group (UK) plc v Mark Redler & Co [2014] UKSC 58 establish that compensation for an unauthorised payment is not invariably equal to the sum paid. In a trust created to implement a particular transaction, the trustee need restore only the position that would have existed had the defined obligations been properly performed. Those decisions concerned benefits actually obtained or losses which would have occurred upon full performance. They did not directly determine the effect of hypothetical, discretionary payments which the company had no obligation to make.
4. A company is legally distinct from its shareholders and beneficially owns its assets. Payment to shareholders is therefore not equivalent to payment to the company. Nevertheless, the assumed facts were exceptional: the recipients were the only shareholders, they could procure lawful distributions, and precisely the same sums would allegedly have reached precisely the same people. Equitable remedies retain sufficient potential flexibility that the court could not reject the defence as a matter of law on a summary judgment application. The issue required fuller submissions and findings of fact at trial.
5. Money taken without authority is not itself a profit for the purpose of an account of profits. The company could instead elect to claim profits subsequently made through use of the misappropriated money, but it had not done so.
6. The tax issue did not arise for decision after the summary judgment was set aside. Whether compensation should reflect different corporation tax rates in the years of the payments and the year of recovery remained seriously arguable on both sides.

• Court of Appeal (Civil Division): By [2019] EWCA Civ 2291, unanimously allowed the director’s appeal and set aside the summary judgment.
• Commercial Court: Robin Knowles J gave the company summary judgment for £13,149,479 plus compound interest on its claim for equitable compensation. No neutral or report citation is stated.