Realistic Examination of Solvency
Bucci v Carman [2014] EWCA Civ 383
The Court of Appeal has held that when considering whether a company is insolvent, the court should apply a commercial approach as opposed to simply stopping at the question: is the company for the time being paying its debts as they fall due? The Court must go on to inquire: how is it managing to do so? It was considered to be counter-intuitive for a company to be deemed as being solvent if it managed to prevent cash flow insolvency by going deeper and deeper into long term debt.
The issue arose in the context of an application by the liquidator of Casa Estates (UK) Ltd (Casa UK) to recover monies paid out by a company to Mrs Bucci under transactions considered to be transactions at an undervalue pursuant to section 238 of the Insolvency Act 1986 (Act). Mrs Bucci received payments totalling £103,988 from Casa UK between 2007 – 2008. Mrs Bucci, was the company secretary of Casa UK, and her husband Mr Bucci was a director of Casa UK. Accordingly, Mrs Bucci was a person connected to Casa UK, and she had the burden of rebutting the statutory presumption that Casa UK was not insolvent at the time the payments were made.
Casa UK introduced investors to property in Dubai via its agent Casa Dubai Real Estate Brokers LLC (Casa Dubai). Casa UK agreed to pay Casa Dubai a monthly retainer of £10,000. Casa Dubai agreed to pay Casa UK commission on all sales at an average rate of 6%. Casa UK would receive monies from investors in the UK, which in theory Casa UK would transmit to Casa Dubai for onward transmission to the developer. The arrangements between Casa UK and Casa Dubai were subject to a set-off arrangement, where the retainer payment from Casa UK to Casa Dubai could be set-off from the commissions payable by Casa Dubai to Casa UK. In effect, Casa Dubai would withhold commission due to Casa UK by setting off those commissions against new client monies received by Casa UK.
When Casa UK received customer deposits, it had a duty to account to the customer for those deposits until such time as the deposits had been correctly applied towards the purchase of the property in Dubai by payment to the developers. Casa UK did not maintain a client account and mixed deposit monies with its own. This resulted in the Casa UK processing many millions of pounds that passed through its accounts which it treated as its own. Casa UK went through a phase of rapid expansion of its business, which resulted in additional liabilities to customers whose deposits had not reached the developer (either because the development had not reached the appropriate phase or the developer could not hold deposits).
On the facts of the case, notwithstanding that the Casa UK had managed to pay its debts as they fell due, it did so by misapplying deposit monies, which (on the basis of such misapplication) further increased the liabilities of Casa UK. Accordingly, Casa UK was found to be insolvent when it made payments to Mrs Bucci.
Section 123 of the Act sets out the tests for cash flow and balance sheet insolvency. If it is proven to the satisfaction of the Court that the company is unable to pay its debts as they fall due, the company is deemed cash flow insolvent. A company is also deemed to be unable to pay its debts if it is proved, to the satisfaction of the Court, that the value of the company’s assets is less than the amount of its liabilities, taking into account its contingent and prospective liabilities. In reaching its decision, the Court of Appeal relied on the case of Eurosail, which set out guidance that the cash flow and balance sheet tests are not alternate tests but they stand side by side in considering the solvency of a company. A realistic examination may reveal that a company is on any commercial view, insolvent even if it continues to pay its debts for the time being.
For more information, help or advice please speak to Imran Malik on 0191 211 7880.