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Avoiding potential pitfalls when pursuing directors - lessons from Reynolds v Stanbury

In the recent decision of Mark Reynolds (Liquidator of CSB 123 Limited) v Caroline Stanbury [2021] EWHC 2506 (Ch), the Court considered a range of issues in respect of the liquidator’s actions in intimating claims against a director.

From the perspective of an office-holder contemplating claims against directors, the decision highlights the importance of conducting thorough investigations before issue and of obtaining high quality independent expert reports. The Court also addressed issues of delay and the recollection of events, highlighting the importance of obtaining and preserving adequate books and records and contemporaneous documentation.

Background

Caroline Stanbury, the Director, is a highly regarded fashion stylist. In 2008, she incorporated Gift Library.com Limited, an online luxury gift business, of which she was a director and a shareholder. As well as running Gift Library, the Director was also providing her styling services to a select group of extremely high net worth individuals, initially as a sole trader and from 2010 through Style Counsel Limited, which was incorporated following advice from her accountants. The styling business included selling luxury bags and jewellery for a commission. The Director was Style Counsel's sole director, and a shareholder together with her three children and her personal assistant.

In 2012, Gift Library experienced financial difficulties and secured £1,500,000 in external funding, which required a restructuring to make Style Counsel a wholly-owned subsidiary of Gift Library. Integral to the value of Style Counsel was the involvement of the Director, a highly regarded fashion stylist with high profile contacts, and Gift Library wanted the Director to be focused on the Gift Library business. For the purposes of the transaction, short-form valuations were obtained for Gift Library, in the sum of £400k, and Style Counsel, in the sum of £1.4m.

It was later agreed to split away the Director’s personal stylist business for a nominal £1, with Gift Library retaining other profitable elements, such as the handbag business. Following advice, this was completed in 2013 by Style Counsel ceasing trading and changing its name to CSB123 Limited, Newco, and at the same time Style Counsel Limited was incorporated. Newco held no stock and its business was based solely on the Director sourcing items for high net worth clients and styling wardrobes. The jewellery and handbag business from Style Counsel was integrated into Gift Library.

In October 2014 the Director stood down as CEO of Gift Library due a relationship breakdown with an investor. At the same time the Director decided to cease trading Newco as she was losing significant clients and her career was changing direction. Newco entered members' voluntary liquidation in October 2014 and there was a distribution in specie to the Director.

Following poor Christmas trading and missed repayment deadlines for secured funding, Gift Library entered administration in February 2015. It was always the intention for Gift Library to dissolve Style Counsel, but this was overlooked. Style Counsel was struck off the register at Companies House for non-filing of accounts in February 2016.

Having asserted claims against the Director on Gift Library’s behalf back in August 2015, Gift Library’s liquidator restored Style Counsel to the register of companies, placed it into liquidation and was himself appointed its liquidator, seemingly to enable the claims against the Director to be pursued on behalf of Style Counsel.

Claims against Director

Claims were issued by the Liquidator in relation to Style Counsel in 2019. The allegations against the Director centred around the Director’s statutory duties to Style Counsel and an alleged failure to separate the duties she owed to that company from her own personal interests. The Liquidator claimed the sum of £1.4 million, being the value as at the date of the First Valuation, on the basis that the business and assets were transferred out and then back to Newco for £1.

Considerations for the court

The court assessed the directors’ duties owed by the Director and whether the goodwill of the business was held by her personally or by Style Counsel as discussed further in our article here.

The judge also considered points raised in defence of the claims, including that there had been unreasonable delays, and failure to collect appropriate books and records which had both prejudiced the Director.

Prejudicial delay

The court considered the timing of the application, which was made some six years after the events alleged, four years after the Liquidator first alleged analogous claims as liquidator of Gift Library and three years after the Liquidator obtained ATE insurance. The court was critical of the Liquidator, stating that he “wasted time pursuing a claim on behalf of [Gift Library] rather than [Style Counsel]” and that the delay was “entirely of his own making”.

Although not statute-barred under limitation rules, the judge decided that the claims should be barred under the doctrine of laches, which is an equitable defence where a claimant/applicant has significantly delayed in asserting a claim and, as a result, should be prevented from bringing the claim. The court was not satisfied with the Liquidator’s explanations for the “woeful” delay and found that the Director had been seriously prejudiced in defending the claims as a result of it. The court also criticised the Liquidator’s conduct generally in obstructing and delaying the Director from obtaining documentation from third party sources.

Collection of books and records

The court also found the prejudice caused to the Director by the Liquidator’s delay was exacerbated by the loss of electronic and hard copy documentation on the Liquidator’s watch.

Data on Gift Library’s server was transferred to an external drive shortly after the Liquidator’s appointment, as administrator at that time, however the external drive failed before a backup of the data could be taken resulting in the loss of all the data. Further, Gift Library’s IT equipment, including iPads, computers, iPhones and laptops were all disposed of by the Liquidator shortly after Gift Library entered administration. Paper records relating to Style Counsel and Newco, which were held at Gift Library’s premises, also went missing during the course of the Liquidator’s appointment.

The court was critical of the Liquidator’s refusal to accept responsibility for the substantial loss of data and documentation, a large portion of which was relevant to the claims asserted by the Liquidator. The court’s decision highlights the importance of preserving contemporaneous documentation and the timely collection of all books and records by office holders, absent which adverse inferences may not be drawn against directors as a result of any gaps in the records.

Expert Reports

The Director and the Liquidator each instructed separate experts to prepare reports. The experts were asked to value Style Counsel as at (1) the date of the First Valuation and (2) the date of the alleged loss, being the date of the transfer to the Director for the nominal sum of £1.

The court was highly critical of the Liquidator’s expert, stating that the report was “unimpressive”, “results-driven”, of poor quality, the expert was unable to defend it in the witness box and that very little weight could be placed on it. The expert had failed to address the issue of personal goodwill and had not conducted any in depth analysis.

By contrast, the court found that the Director’s expert was thorough and methodical and had provided clear explanations for the valuation methodology. Crucially, the report addressed the issue of personal goodwill and concluded that an asset-based valuation method was the correct approach, with which the court agreed. This resulted in a valuation of Style Counsel as at the date of the alleged loss at just over £3k, which the court accepted.

The claims against the Director were dismissed in their entirety.

Comment

The criticism of the Liquidator’s conduct, particularly in respect of the delay in bringing the claims and the loss of books and records, is a useful reminder to office holders on the importance of preserving data documentation and the approach to conducting litigation.

The court expressed surprise about the degree of personal hostility the Liquidator displayed towards the Director at times; a useful reminder that office holders should not let personal opinion interfere with the conduct of claims against individuals.

Lastly, in cases where expert evidence is deployed, the court will expect experts to have been instructed to prepare their reports on an independent and justifiable basis and that their reports are not manipulated to support the case of those instructing them.

For further information on this article, please contact Cathryn Butler or another member of our Restructuring & Insolvency team.

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