It's A Wrap (UK) Ltd v Gula and Another

JurisdictionEngland & Wales
JudgeLord Justice Sedley,Lord Justice Chadwick
Judgment Date11 May 2006
Neutral Citation[2006] EWCA Civ 544
Docket NumberCase No: A3/2005/2186
CourtCourt of Appeal (Civil Division)
Date11 May 2006
Between:
It's a Wrap (Uk) Ltd
and
(In Liquidation)
Appellant
and
Gula & Anr
Respondents

[2006] EWCA Civ 544

Before:

Lord Justice Chadwick

Lord Justice Sedley and

Lady Justice Arden Dbe

Case No: A3/2005/2186

IN THE SUPREME COURT OF JUDICATURE

COURT OF APPEAL (CIVIL DIVISION)

ON APPEAL FROM the Chancery Division

Mr Nicholas Davidson QC

HC04C03156

Royal Courts of Justice

Strand, London, WC2A 2LL

Mrs Jane Giret QC and Stephen Tudway (instructed by Messrs Sprecher Grier Halberstam) for the Appellant

Stephen Robins (appeared pro bono) for the Respondents

Lady Justice Arden

Lady Justice Arden

1

This appeal raises a short point of law. Section 277(1) of the Companies Act 1985 ("the Act") provides a statutory remedy against a shareholder for recovery of an unlawful distribution paid to him if he knew or had reasonable grounds to believe that it was made in contravention of the Act. I will call the first kind of knowledge actual knowledge, and the second kind of knowledge constructive knowledge. The question that we have to decide is this: if a company brings a claim against a shareholder under this section, is the actual or constructive knowledge that the section requires actual or constructive knowledge of :

i) the relevant facts constituting the contravention, or

ii) those facts and in addition the fact that the Act was contravened?

2

The judge held that the second of these alternatives was correct. In my judgment, the judge was wrong on this question of law. I reach my conclusions by the following steps:

A. section 277(1) has to be interpreted in conformity with article 16 of the Second EC Directive on Company Law (77/91/EEC) ("the Second Directive") , which it is designed to implement.

B. article 16 has to be read in the context of the rules on distributions in article 15 of the Second Directive and the general principles of Community law.

C. the provisions of sections 263 to 276 of the Act are designed to implement article 15 of the Second Directive.

D. on its true interpretation, article 16 means that a shareholder is liable to return a distribution if he knows or could not have been unaware that it was paid in circumstances which amount to a contravention of the restrictions on distributions in the Second Directive, whether or not he knew of those restrictions.

E. accordingly section 277 must be interpreted as meaning that the shareholder cannot claim that he is not liable to return a distribution because he did not know of the restrictions in the Act on the making of distributions. He will be liable if he knew or ought reasonably to have known of the facts which mean that the distribution contravened the requirements of the Act.

3

I explain each of these steps more fully below. Then I consider the application of the law to the facts of this case. I use the phrase "fact-based knowledge" to denote knowledge of the facts making the particular distribution unlawful.

A. Section 277(1) has to be interpreted in accordance with article 16 of the Second Directive

4

Section 277 of the Act provides as follows:-

" (1) Where a distribution, or part of one, made by a company to one of its members is made in contravention of this Part and, at the time of the distribution, he knows or has reasonable grounds for believing that it is so made, he is liable to repay it (or that part of it, as the case may be) to the company or (in the case of a distribution made otherwise than in cash) to pay the company a sum equal to the value of the distribution (or part) at that time.

(2) The above is without prejudice to any obligation imposed apart from this section on a member of a company to repay a distribution unlawfully made to him; but this section does not apply in relation to-

(a) financial assistance given by a company in contravention of section 151, or

(b) any payment made by a company in respect of the redemption or purchase by the company of shares in itself.

(3) Subsection (2) of this section is deemed included in Chapter VII of Part V for purposes of the Secretary of State's power to make regulations under section 179."

5

The Second Directive was adopted on 13 December 1976 and its scope, as stated in the long title, is:

"coordination of safeguards which, for the protection of members and others, are required by Member States of companies within the meaning of the second paragraph of article 58 of the Treaty, in respect of the formation of public limited liability companies and the maintenance and alteration of their capital, with a view to making such safeguards equivalent" (77/91/EEC) .

6

Section 277(1) implements article 16 of the Second Directive. Article 16 provides as follows:-

"Any distribution made contrary to Article 15 must be returned by shareholders who have received it if the company proves that these shareholders knew of the irregularity of the distribution made to them, or could not in view of the circumstances have been unaware of it."

7

Under the Marleasing principle, or principle of conforming interpretation, the courts of the United Kingdom must interpret section 277(1) in a manner that is so far as possible in conformity with the provisions and objectives of article 16. That means that the court must find the meaning of article 16 and then see whether section 277(1) can bear that meaning. For this purpose the court may choose an interpretation of section 277(1) which is not its natural meaning. A fuller explanation of the principle of conforming interpretation can be found in the recent case of IDT Credit Card Services plc v Customs and Excise [2006] EWCA Civ.29.

B. Article 16 has to be interpreted in the light of the rules on distributions in the Second Directive and the general principles of Community law

8

Article 15 of the Second Directive provides that, except for reductions of capital, distributions to shareholders may not be made when on the closing date of the previous financial year the net assets as set out in the company's annual accounts are, or following the distribution would become, lower than the amount of the subscribed capital plus undistributable reserves (article 15.1(a) ) . Uncalled capital must be deducted from the amount of subscribed capital (article 15.1(b) ) . Furthermore, the amount of a distribution to shareholders may not exceed the amount of the profits as at the end of the financial year plus any profits brought forward and sums drawn from reserves available for distribution less any losses brought forward and sums placed in reserve in accordance with the law or the company's constitution (article 15.1(c) ) .

9

Article 15 further provides that, where interim dividends are permitted, interim accounts must be drawn up showing that the funds available for distribution are sufficient and the amount to be distributed may not exceed the total profits made since the end of the last financial year for which the annual accounts have been drawn up, plus any profits brought forward and sums drawn from reserves available for this purpose, less losses brought forward and sums to be placed to reserves pursuant to the law or the company's constitution (article 15.2) . Article 15 also makes provision for derogation from article 15.1(a) in the case of investment companies with a fixed capital (article 15.4) . It is not necessary to go into those provisions in this judgment.

10

The United Kingdom's treaty obligation in respect of directives such as the Second Directive is to ensure that its law achieves the result of that article in its domestic law, although it is free to choose the form and method of implementation: see now article 249(3) (formerly article 189) of the Treaty on European Union. Article 15.1 meant that a number of changes had to be made to United Kingdom company law. It is not necessary to analyse all the differences between article 15 and the law of the United Kingdom. However, it is important to note that under article 15 there had to be company accounts which showed the profits it was proposed to distribute. In other words it would be necessary to justify any distribution by reference to company accounts. The First EC Directive on Company Law (68/151/EEC) provided for the public filing of annual accounts of a company with limited liability. Our domestic law also provides for annual accounts to be circulated to members: see section 238 of the 1985 Act.

11

As to remedies against shareholders who receive dividends not lawfully made, the general law of the United Kingdom was, arguably at least, not to exactly the same effect as article 16. To make good this point, it is sufficient to compare some of the features of the liability of shareholders under section 277(1) with that of members under the general law, since no-one has suggested that section 277(1) does not properly implement article 16 in this respect. Liability under the general law is in fact preserved by section 277(2) (see above) . Liability under the general law attaches where the shareholder knew or ought to have known that the distribution was unlawful. Mr Robins submitted that it would apply where the shareholder had acted unconscionably, but the authorities under the general law on distributions impose the former test: see for example Moxham v Grant [1900] 1 QB 88.

12

The following are some of the differences between the two types of liability, that is, liability under section 277(1) and liability under the general law. First, section 277(1) only applies where the distribution contravenes the Act, and thus it does not apply where the distribution for instance violates a provision of the general law or the company's constitution. Secondly, there is no defence in section 277(1) for the member who acts on advice. The member is...

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