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Directors have a wide range of legal duties that do not always coincide with their own interests, and seeking expert legal advice is the best way of ensuring that these are performed. In one case in which that did not happen, two directors of a phoenix company who showed little grasp of their obligations were hit hard in the pocket.
After their furniture production company became insolvent, the two men acquired its business out of administration and set up a new company with a similar name. The new company was never well capitalised, however, and it was not long before it too became insolvent and entered creditors' voluntary liquidation.
During the months it traded, the new company paid sums to the directors that totalled over £185,000. They argued that the payments were remuneration for their hard work. However, after launching proceedings, the liquidators successfully argued that the majority of the sums were unlawfully paid dividends. The directors were ordered by a judge to repay the sums concerned to the company.
In dismissing the directors' challenge to that ruling, the High Court noted that, in the absence of either statutory accounts or distributable profits, no lawful dividends could have been paid. One of the directors also could not have qualified to receive dividends as he was not a shareholder.
The fact that the directors had agreed to make the payments, and that they had been approved by the company's sole shareholder, did not render the dividends lawful. However well-intentioned the directors may have been, distributions described as dividends, but actually paid out of capital, were by their nature unlawful.
The liquidators, who also appealed against those parts of the judge's decision that were unfavourable to them, successfully challenged his ruling that a sum of just over £10,000 paid to the directors should be treated as lawful remuneration. The liquidators' appeal was in other respects dismissed.