Green v Walkling & Ors

This is an application by the Liquidator of a company called Ortega Associates Ltd (‘Ortega’) under section 212 of the Insolvency Act 1986 for an order against the first respondent (“Mr Walkling”) declaring that he had acted in breach of his fiduciary duty and/or common law duty as a director of Ortega and/or acted in breach of trust and/or was guilty of misfeasance in procuring authorising or permitting the payment and misappropriation of the sum of £443,000 from Ortega; that the payment of £443,000 from Ortega was a transaction at an undervalue; he seeks an order for the payment of the sum of £443,000 plus interest since March 2004 and ancillary declarations and orders.

Mr Walking denies that he acted in breach of duty. He claims that at the material time he was constrained in his freedom to act by a duty to comply with the provisions of the Proceeds of Crime Act 2002 and that the applicant has given him no credit for the influence of those considerations upon him. He disputes the applicant’s entitlement to the orders claimed, alternatively asks the court to relieve him of his liability pursuant to section 727 of the Companies Act 1985.

The application was heard by me on 21^st and 22^nd November 2007 when the applicant gave evidence in writing and Mr Walkling gave evidence in person and was cross-examined at some length. I will say at this stage that I had a good opportunity to form a view about Mr Walkling’s veracity and integrity; he is a man of about 60 years of age who impressed me as a person of integrity. I accept that he told me the truth in all material respects. The facts therefore which I find are as follows.

Mr Walkling has been a salesman all his life, working for fairly small enterprises and reaping a fairly modest financial reward. In the latter part of his career he was promoted to Sales Manager, a title which paid respect to his many years in selling but overstated his management role and experience.

From 1997 until 2001 he was responsible for the sales (and some low-level general management) of a company called Mobility Now Limited, which specialised in bathing products for those with mobility problems. In July 2001 he was first contacted out of the blue by telephone by a person one of whose names was Mr Stephen Edwards Moate (“Mr Moate”) an apparently successful and wealthy British entrepreneur in his late twenties who claimed to have made most of his money by buying and selling companies. He had purchased the assets of Mobility Now Limited from the administrator and asked Mr Walkling if he would run the sales side of the business of Ortega, a newly incorporated company under whose umbrella the business would be run.

All of Ortega’s issued shares were owned by American Bright Futures Corporation (“ABF”) a company incorporated in the state of Nevada in the USA, which was owned and controlled by Mr Edwards Moate; initially Ortega itself was managed by Mr Moate and his wife Elizabeth Edwards, a chartered accountant, but in August 2002 Mr Moate told Mr Walkling that the demands made on him to travel abroad to the US in connection with an associated business, meant that there was a need for another director to be appointed and asked him to consent to act; Mr Walkling was probably flattered by the invitation and, even though the position did not come with increased income to reflect the increased responsibility, accepted and he and Mrs Edwards were appointed Directors on 28^th August 2002. What neither Mr Moate nor his wife told Mr Walkling was that the need for the appointment arose because on the 27^th December 2001 Mr Moate was disqualified from being a director of any company for 7 years, in circumstances which are not known to me, and although he formally resigned as a director he quite clearly carried on to act de facto as the managing director of Ortega entirely as before. But that is how it came about that Mr Walkling became a director. And thus it was that when the accounts for the year ended 2002 required the signature of a director, he was prevailed upon by Mrs Edwards (who was now Company Secretary) to go to the offices of the company accountants and sign them. Before doing so, since he had not compiled them himself, he required and obtained an assurance, which he received, from both Mrs Edwards and the accountants that they were absolutely reliable and correct and accorded with the books of account of the company. There is no suggestion that the accounts were inaccurate, although I think they probably were because of an ongoing but as yet undiscovered fraud to which I will shortly come.

As may be inferred from the above, Mr Walking was somewhat inexperienced in the duties and responsibilities of directors. He was, however, in my judgment adequately guided as to the manner in which he should conduct his duties by an innate sense of propriety; he knew that he owed a duty to act in the best interests of the company, had duties of good faith and fidelity; and that duties were owed not merely to the company but also to its creditors; in particular he knew that the company assets belonged to the company and not to the shareholders; he had also a clear sense of the integrity which was required in relation to his and other persons’ dealings with company property.

It was towards the end of 2003 that Mr Walking began to overhear a casual remark which caused him to suspect that something improper financially was going on. He investigated one weekend in early January and discovered that Mr Moate was involved in a dishonest enterprise to defraud HM Customs & Excise (“the C&E”) of a substantial amount of money. This was done by substantially inflating the inputs on the Company’s VAT return so that claims for repayment of VAT were being presented in the sum of £30,000 -£80,000 per quarter, rather than the normal level which was in region of only £6,000 to 9,000 per quarter. The money fraudulently received from the C&E was being credited directly to Ortega’s bank account in the usual way; however, as soon as the credit appeared in the Company’s bank account the amount of the credit was withdrawn by cheque. The company bank statements then were ‘doctored’ to conceal both transactions, by folding over the relevant two entries and producing photocopies as thereby redacted which were kept in place of the originals. Mr Walkling estimated that the total amount of money obtained from the C&E by the fraud was in the region of £1.3 million. The Company was itself being defrauded of the VAT rebate to which it was entitled.

Mr Walkling’s immediate instinct was to approach Mr Moate directly at his home, confront him with the evidence, and attempt to recover the money and pay it back. However he thought it would be prudent to seek advice and obtain assistance from his solicitor first of all, Mr Timothy Elliott of Vincent Roe and Company.

On 10^th January 2004, Mr Elliott met with Mr Walkling at his home and the latter explained about the fraud and Mr Elliott explained about the money laundering implications and the appropriate course of action; it is clear from an attendance note that he persuaded Mr Walking not to confront Mr Moate but to follow the guidance he gave which was to act consistently with the Proceeds of Crime Act 2002 (“POCA”). Under the Act it was first necessary to make an authorised disclosure of the fraudulent activities to the appropriate authority. After consulting the Money Laundering Officer at Vincent Roe, Mr Elliott the following day reported the matter to the Scotland Yard Fraud Investigations Unit but they declined to act and suggested that the report be made to the C & E.

On the 13^th January Mr Elliott made the report to the C&E and they arranged for two officers to attend at Ortega’s offices on the following day, because Mr Moate was then going to be away. Two officers duly attended and took away copies of all relevant documents and entries in the company’s books and left saying that they would conduct an investigation and make contact again in due course. Mr Walkling felt that a great weight had been lifted from his shoulders and awaited the early date when the C&E would - like the cavalry - doubtless arrive, arrest and carry away the dishonest Mr Moate and enable the recovery of the stolen money.

As Mr Walkling put it in his statement, “I could hardly have been more wrong” - despite repeated approaches the cavalry never did arrive. Despite being reminded of the increasing urgency of an intervention by them, it became apparent in March that no one at the C&E had yet read the file and the matter was being transferred to Ipswich; in late March it was reported that someone had read the file and was now “very interested”; and in May that the C&E “wanted to make an arrest, but would like to do it in a subtle manner”. By June they indicated that they were “under resourced” and there was some doubt whether they would in fact undertake an arrest but wanted to meet with Mr Walkling. Although Mr Walkling agreed to a meeting it seems that the C&E did not commit to a date for the meeting. In the result, the C&E never managed to take any active step at all and Mr Moate and his wife took the opportunity to disappear along with the whole of the proceeds of the fraud.

The “increasing urgency” which was pointed out to the C&E by Mr Elliott related back to a course of events beginning in about November 2003 when Mr Moate told Mr Walkling that he was in negotiation with Arrow Mobility Ltd (“Arrow”) who wished to purchase the assets and goodwill of Ortega for a substantial price. Since it had from the start been the express intention of Mr Moate to build up the business with a view to selling it as soon as it was profitable, Mr Walkling plainly had no objection to the proposed sale, it was the right thing to do in principle since the price achieved was in his view fair. However, after he discovered the fraud, he felt in a very difficult position in the light of representations which he imagined had been made to Arrow and warranties which Arrow then insisted were provided by himself as well.

The substantial awkwardness and discomfort arose from the application of the Proceeds of Crime Act 2002. Although he had acted properly in making the original authorised disclosure to the C&E, he was under a continuing obligation not to act in such as way as to be guilty of the offence of “tipping off” pursuant to section 333 (1) (b) of the Act. Such an offence is committed where a person “makes a disclosure which is likely to prejudice any investigation which might be conducted following the [authorised] disclosure [under s. 337 - that is say, the authorised disclosure which he had already made to the C&E on 12^th January 2004].

The policy objective which underlies the offence is clear enough: that criminal investigations into money laundering should not be “...prejudiced...” by doing anything which might alert the wrongdoer to the fact thereof. But the offence is widely drawn and requires no bad faith or dishonesty. It simply requires (a) knowledge (or suspicion) of an authorised disclosure (and he knew of that because he had caused his solicitor to make it) and (b) that the further disclosure was “... likely to prejudice the investigation ...” And there are very limited defences to an allegation of breach, and effluxion of time is not one of them.

It is not in dispute that Mr Moate had continued to act de facto as the Managing Director of the company; he conducted, I find, virtually all of the negotiations leading to the eventual exchange of contracts and completion of the sale; it was he who gave instructions to Ortega’s Solicitors and all relevant directions as to the conditions of sale and ultimate disposal of the proceeds of sale.

As regards the terms of the sale, little need be said. It was on the face of it a sale at a reasonable price and a director who approved or facilitated it could not be subject to criticism at the instance of the Company. There was however one provision about the significance of which there has been some argument and that is a provision whereby Mr Walkling would accept employment and, if certain sales targets were achieved, would be entitled to a bonus of up to £140,000; a matter to which I will return.

Completion was set for 5^th March and as the time approached without any intervention from the C&E Mr Walkling became increasingly concerned: he hoped they would arrive and arrest Mr Moate leaving him in the position as director to pay off the creditors. In the absence of any action from the C&E he would have liked to prevent the transaction going ahead, but felt powerless to do so since there was no good reason for preventing it, absent the fraud, and he was convinced that if he did seek to do so for no justifiable reason that he could give, this would probably lead to Mr Moate directly or indirectly discovering that he was under investigation - which would expose Mr Walking to criminal liability under s. 333 of the POCA for tipping him off. During this period he regularly consulted his solicitor as to what to do and was in receipt of advice that he should go along with the procedure for sale and completion - in the hope that the C&E would arrive and for fear of exposing himself to liability for “tipping off”.

A contemporaneous note kept by Mr Elliott records a telephone conversation with Mr Walkling on the date of completion - 5^th March 2004 when the latter was in London attending the completion meeting and briefly left the meeting together with Ortega’s Solicitor for a cigarette and a chat; and immediately afterwards telephoned Mr Elliott to report what had happened and seek advice. Mr Elliott’s Attendance Note reads as follows:

“... Peter is in London they are negotiating the sale of the business. Peter feels very awkward indeed, he has met the new owner and he thinks he is an honest and sincere chap but he cannot tip him off for fear of breaching the regulations. Feels that Customs & Excise are taking too long ... He is very concerned because he has met with [Ortega’s Solicitors] he has told them his view with regard to the payment of the outstanding amount owed to the creditors he thinks the creditors should be paid out of proceeds and he has demanded it. [Ortega’s Solicitors] have ignored his view in fact they have belittled him and trying to marginalise him both in terms of the meeting and subsequent to the meeting. It has become clear to Peter that [Ortega’s Solicitor] and Stephen Moate Edwards are going to ignore the client [sc. Ortega]. Peter has resigned as director as part of the overall agreement, he doesnt want anything to do with being director of anything. He has found the whole thing far too stressful.

What Mr Walkling feared in fact occurred. The sale of the assets for the total sum of £750,000 (£300,000 of which was to be held in escrow for 3 months) proceeded to completion on 5^th March 2004; the sum of £443,000 was paid to Ortega’s solicitor on completion and, despite Mr Walkling’s demands, was transferred the same day from the solicitor’s client account direct to the bank account of ABF, and the money has of course disappeared. It is the disposal of that sum which the liquidator regards as a “transaction at an undervalue” and Mr Walkling’s part in it forms the basis for this application.

The end of the story can be shortly told. It was a term of the agreement that Mr Walkling should continue working for the purchasers. The latter became aware that the business was much poorer than they had been led to expect; the deferred instalment was unpaid (indeed at the instance of Mr Walkling it was later returned to Arrow). Ortega failed to pay its creditors and on 13^th August 2004 a Winding up Petition was presented against it by a trade creditor based on a debt in excess of £94,000. The total deficiency was in the region of £1,035,673 including a debt to Her Majesty’s Revenue and Customs of £795,945. The Liquidator instituted proceedings for various declarations against each of the parties named as Respondents in the headnote to this action: neither Mr Moate, Mrs Edwards or ABF made an appearance to contest the application and on 8^th December 2006 appropriate orders and declarations were made by Chief Registrar Baister against them, none of which was capable of enforcement.

For their part, Arrow found that the purchase was an unmitigated disaster; in October 2004 they made Mr Walkling redundant and he ended up unemployed for two and a half years, until February 2007 when he secured employment as a salesman for Jewsons the Builders’ Merchants at a salary of £19,000 per annum.

The case against Mr Walking in brief:

Apart from this, it is alleged that he was in breach of his fiduciary duty in that he entered into the transaction when he was affected by considerations of personal advantage, that is to say, in the hope of getting a bonus of about £140,000 out of the tranche of consideration that had been put into escrow.

Mr Walkling’s Response:

To which the liquidator responds that the obligation to comply with the duties under the POC Act, which he acknowledges, do not provide a defence; that is because as a matter of fact Mr Walkling could have taken the necessary and effective steps without tipping off Mr Moate and it is not appropriate to relieve him of his liability because of the seriousness of his breach.

The law is straightforward and not in dispute.

As regards his common law duties: it is clear that a director owes a duty at common law of skill, care and diligence to his company. There is a degree of objectivity in the application of the common law test. A director performing active duties on behalf of a company needs to exhibit the degree of skill and care which may reasonably be expected from a person undertaking those duties. The extent of the duty, and the question whether it has been discharged depends on the facts of each particular case, including the director’s role in the management of the company: see Re Baring plc & Others [1999] 1 BCLC 433.

As regards his fiduciary duty: it is clear that a director stands in a fiduciary position to the company, and owes fiduciary duties to it including:

In order to determine whether Mr Walkling was in breach of his duty of care at common law, it seems to me that I have to apply an objective test - that is to say to ask what would the court reasonably expect from persons undertaking a directorship of Ortega in the circumstances which transpired, or to put it another way, what would and should a reasonably competent director have done, had he been in a situation such as that which confronted Mr Walking, where his ability to act freely was constrained by the need not to breach section 333 of the POCA, that is to say, not to do anything which might lead to Mr Moate being ‘tipped off’.

As regards the first of those steps which the liquidator contends should have been taken: I do not accept that it was realistic for Mr Walkling to stop the sale by refusing to sign. It had been the plan from the start that Ortega or its business should be sold; Mr Walkling had no good reason to object to a sale since it accorded with the wishes of the person whom he believed to be Managing Director and was the owner of the holding company, ABF, and the transaction was objectively not a bad deal. If he had objected, he would not have been able to provide a rational reason for his objection. He might well be afraid that in the discussion which followed Mr Moate might get the idea that his fraud had been discovered.

As regards the criticism, that Mr Walkling “failed to insist that the creditors be paid or ensure that the proceeds of sale were put into a ringfenced account until they had been”, I do not believe that this criticism has been made out. In my judgment, the truth of the confrontation between Mr Walkling and Ortega’s solicitors is recorded in the attendance note from which I quoted in paragraph 19 above. I am satisfied that Mr Walkling did give firm instructions and indeed “demand” that the proceeds of sale were applied to pay the creditors but he was ignored. The documentary evidence shows that the £443,000 of the proceeds was transferred by BACS to Ortega’s solicitors on the afternoon of 5^th March and transferred from that account within about an hour. There is no reason to think that he would not have been similarly ignored had he demanded that the money be put into a ring-fenced account.

As regards the suggestion that he should have made an immediate application to the Court, it seems to me that arrangements for such an application would need to have been made at least a day or two prior to completion. Although such an application is one which, objectively speaking, a director exercising reasonable care might think to take, I can understand why Mr Walkling feared that such an application would cause Mr Moate to suspect that there was an investigation and cause him to be “tipped off” and an offence to be committed. It also, it seems to me, is a relevant factor that no such proceedings were suggested by Mr Elliott on the many occasions when they communicated with each other with a view to deciding what Mr Walkling should be doing for the best.

The relevance of a director taking advice is accepted where there is an analogous duty upon him arising in the area of trusts, where the propriety of conduct of a trustee is under consideration: see e.g. Allsop, Whittaker v Bamford [1914] 1 Ch. 1 where Cozens-Hardy MR stated:

“He cannot be considered to have acted reasonably if he has neglected to obtain skilled advice. In considering what is reasonable, regard must be had to the estate of which he is trustee. In a large estate it may be only reasonable that he should consult counsel of the first rank or apply by originating summons for the direction of the court, whereas it would not be reasonable to insist upon all this where the estate is small.”

The taking of advice is also accepted as a relevant and important, though not decisive, consideration for the purposes of section 727: see per Stanley Burnton J in Murray v Leisureplay plc [2004] 1827.

In my judgment it cannot be a requirement that a director should take advice from a solicitor in a case such as this because many directors may not need to do so. However, the POCA is in some respects a specialist area, which is why some firms of solicitors have appointed one amongst their number as the ‘Money Laundering Officer’ so as to be in a position to offer advice to other solicitors within the firm on this issue. There will be many directors who are not familiar with the Act and its implications. In a case such as the present one I can well see that those directors who are unfamiliar with the ambit of the Act will seek advice to determine how their conflicting duties can be resolved and both duties discharged. The fact that a director has taken advice will be a relevant and important factor to be taken into account when determining the validity of an allegation against him that he has acted in breach of his duties.

In my judgment a director who did take advice from a solicitor and acted upon the advice to the best of his ability, would prima facie have fulfilled his duty.

The content of the contemporaneous attendance note, from which I quoted in paragraph 19 above, is compelling corroboration of Mr Walkling’s evidence that in the difficult situation which faced him, he took appropriate advice as to what to do from his solicitor. The advice he received at all stages was that he should “go along with” the transaction in the expectation that intervention from the C&E was imminent and he should not do anything which might lead Mr Moate to be tipped off. The advice might be right or wrong; it may be that a different solicitor might have given different, possibly even better advice (perhaps, for example, because another solicitor might have had greater expertise in the area of director’s duties). The important thing in my judgment however is that, faced with a difficulty as to how he should discharge his conflicting duties, the director has taken care to seek appropriate advice as to how he should act and, believing that advice to be correct, has followed it. This is exactly what Mr Walking did and by doing so it seems to me that he acted in conformity with his duty as a director to the Company.

The Breach of Fiduciary Duty: The applicants argue that the sale was structured to benefit Mr Walkling as well as Mr Moate because Mr Walking stood to gain approximately £140,000 by way of a bonus, “a huge personal reward” payable by virtue of the sale contract at the end of the first year of trading from the sum of £300,000 held in escrow and that he therefore appears to have given either no thought at all to the interest of the Company or disregarded them in preference to his own.

The allegation that there was ever a bonus of this size or that it was payable out of some part of the proceeds of sale has been shown to my satisfaction to be a misreading of the text of an email dated 6th February 2004. The reality is that after the sale of Ortega’s business, Arrow was going to employ Mr Walkling as a sales manager at the same level of remuneration as before. There was indeed a prospect of a bonus, but that would be payable, not out of the monies held in escrow, but by Arrow in the event that it achieved a profit over the financial year exceeding £400,000 and, if it did, Mr Walkling might get a percentage of between 27% and 30% of the amount of the excess as a reward for achieving the benefit to them. The idea for the bonus came from Arrow and was a means of incentivising Mr Walkling to work harder over the following year in order to produce a profit for Arrow, once he had joined them. As he put it,

I accept this statement. I accept also that what he knew of the ongoing business meant that at the time when completion took place he did not think that there was a realistic chances of securing any bonus at all. I am satisfied that the prospect played no part at all in his consideration whether to co-operate in signing the sale contract. Accordingly, I reject the allegation that he acted in breach of his fiduciary duty.

In the light of my findings on breach of duty the question of relief does not apply. I do however consider it briefly.

The terms of section 727 are well known and I do not need to set them out in this judgment. Commenting on the section the authors of Gore-Browne on Companies comment at 17 [6]

The fact that the section somewhat paradoxically envisages a negligent defendant acting reasonably has been the subject of remarks in various cases. I accept the submission of Mr Hardwick that I should follow the conclusion reached by Evans-Lombe J. In Barings plc v Coopers & Lybrand [2003] EWHC 1319 Ch. [at 1133-4] as to the test to be applied:

As for the requirement that Mr Walkling acted honestly: there can be no question about this. Even the applicant, as the case was ultimately put, did not argue for dishonesty, except possibly in relation to the breach of fiduciary duty, based largely on what I have found to have been a misreading of a document.

As for the requirement that Mr Walkling acted reasonably: should my finding, that Mr Walkling discharged his common law duty by acting at all times pursuant to the advice of his solicitor, be set aside, it remains valid to say that any breach was in good faith, “technical and minor in character” and not “pervasive or compelling”.

In these circumstances should I exercise my discretion to give relief from the “... harsh and oppressive consequence of the strict application of the law ...”? Mr Harwick drew my attention to the approval in Barings (op. cit.) by Evans-Lombe J at para 1131 of the observations of Olssen J. in Maelor Jones v Heywood Smith (1989) 54 SASR 285 who stated:

I have not the slightest doubt that I should. The relevant facts are as follows: Mr Moate became involved in a substantial VAT fraud against both Ortega and the C&E involving in the region of £1.3 million which he extracted from them for his own personal benefit and, one assumes, that of his wife Mrs Edwards. Mr Walkling had been duped into his first directorship, and for assuming that burden he was paid not an extra penny; he discovered the fraud and decided he would not stand by but reported it to his solicitor who reported it to the C&E. The latter had the whole case “put to them on a plate” together with all relevant documentary proof by Mr Walkling; they could have arrived and arrested the villain with minimal additional investigation and, had they done so, probably would have recovered a substantial amount of the money of which they had been defrauded. Had they arrived in good time prior to completion of the sale of Ortega’s business, Mr Moate would also have been prevented from misappropriating the sum of £443,000, the subject of this litigation. Instead, he and his wife have been allowed to evade justice and live comfortably probably in another jurisdiction on the proceeds of their crime.

Mr Walkling got not a penny piece by way of advantage out of the affair and never expected to. Instead he suffered the anquish of waiting in vain, while the problems unfolded and developed, for the arrival of the C&E who never came; he has also suffered ill health, redundancy and unemployment, much of which might have been avoided, had there been an earlier intervention; he has also, as a result of these proceedings hanging over him, suffered the worry over the last couple of years at the potential prospect of financial ruin.

If an order were made against him, the most likely financial consequence is that he would enter into retirement with the loss of his home. On the other hand, were an order to be made against him, there would be substantial financial benefit to the creditors – the most substantial of whom, I note, is the self-same C&E whose default made a highly significant contribution to the adverse consequences set out above.

I will not make an order which would permit such a grossly unjust result to occur. The application by the Liquidator herein must therefore fail.