In Mainzeal1 the former directors were held liable for a breach of section 135 of the Act. Richard Yan, (who was the founder and main shareholder of Mainzeal's parent company, Richina Pacific) was ordered to pay compensation of $36M. Each of the other directors (Shipley, Tilby and Gomm) were held liable to contribute $6M each towards that $36M.
Section 135 provides:
135 Reckless Trading
A director of a company must not –
(a) agree to the business of the company being carried on in a manner likely to create a substantial risk of
serious loss to the company's creditors; or
(b) cause or allow the business of the company to be carried on in a manner likely to create a substantial risk
of serious loss to the company's creditors.
In general, the Act contemplates two ways a company could be insolvent (known as the "Solvency Trust"). It either cannot meet its debts as they fall due or its liabilities exceed its assets.
In the Mainzeal case, the balance sheet deficit was very significant and was for a period of many years. The directors had relied on non-enforceable assurances from group members and verbal assurances of support from Mainzeal's parent company, Richina Pacific ("Richina"). The board members argued that as the parent company had provided substantial support to Mainzeal over the years reliance on the expressions of support was reasonable. Richina had also supplied construction bonds or guarantees of the bonds in Mainzeal's favour - which meant that if Mainzeal failed, Richina itself would have a large contingent liability. However, the Court (quite rightly in our view) found it was entirely unreasonable to rely on unenforceable promises, particularly given the extent of the liability and the period of time for which Mainzeal had been balance sheet insolvent – any support Richina gave was purely at its option and it was not reasonable for the directors to rely on that support (which of course was not in fact forthcoming, leading to Mainzeal's failure).
In summary, the Court found:
It is notable that the Court found it significant that the board seldom took any formal legal advice in respect of the significant issues it faced and found that was reflective of their failure to comply with their duties. In 2012, when legal advice was taken, that advice was that the board needed to ensure the commitments from Richina were documented in a legally binding way. The Court considered that was sound advice and not acted on.
The case highlights:
All of the directors have appealed the judgment, the liquidators have counter appealed on the basis that the Court erred in applying a discount to the starting point of a loss of $110M. The liquidators have also claimed Shipley – who was chairperson of Mainzeal, as well as being a director of other companies in the group and having interests in the parent company had a higher level of culpability than Gomm and Tilby.
The appeal is yet to be heard, although other cases of breach of section 135 have generally found directors fully liable for the debts the company from the date the breach has been found (setting aside losses that were entirely unforeseeable). We, and other company lawyers are waiting for the appeal impatiently as the outcome will likely have a very significant effect on this area of the law.
If your company has potential solvency issues or you have other serious company issues you need help with, or you wish to understand your duties in more detail and get advice, please contact:
© McVeagh Fleming 2019
This article is published for general information purposes only. Legal content in this article is necessarily of a general nature and should not be relied upon as legal advice. If you require specific legal advice in respect of any legal issue, you should always engage a lawyer to provide that advice.
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1 Mainzeal Property and Construction Ltd (in liq) v Yan and Others  NZHC 255