administrators held liable for the costs of a creditor's application to remove them from office (case of Coyne & Another –v- DRC Distribution Limited)

In May 2008, the High Court decision in the case of Coyne & Another -v- DRC Distribution Ltd & Another came before the Court of Appeal. The High Court Judge had ruled that the Joint Administrators of Ulva Limited (the company) were to be jointly liable (along with a former director of the company) for the costs of an application by a creditor of the company to remove the joint administrators from office. The joint administrators appealed the decision.

the facts

• On 16 January 2007, Mr Foster, the managing director of the company, met with an insolvency practitioner (MH) (who would later become one of the joint administrators). At that time, the company owed a significant debt to HMRC and was defending Court proceedings that had been brought against it by DRC Distribution Limited (DRC), a major creditor of the company. MH advised Mr Foster to either pay the debt or agree a payment plan.
• Throughout May and June 2007, Mr Foster caused the company to enter into a series of transactions whereby the vast majority (if not all) of the company's tangible and intangible assets were transferred either to him or to a new company that he had set up named Ulva International Limited (UIL).
• In a judgment dated 13 July 2007, the company was found by the High Court to be liable to DRC for breach of contract. A further hearing (which never took place) was listed to establish the quantum of DRC's claim.
• On 23 and 25 July 2007, Mr Foster had further meetings with MH. At those meetings, Mr Foster made MH aware that the company had disposed of certain of its assets to either Mr Foster or UIL and that UIL were using the company's workforce. MH advised Mr Foster that the company should go into administration despite the fact that he appeared to have doubts at the time as to whether the statutory purpose of administration could be served.
• On 14 August 2007, Mr Foster, appointed MH and a colleague as joint administrators of the company. The joint administrators filed their consents to act.
• Upon becoming aware of DRC's concerns over the way in which Mr Foster had stripped the company of its assets, MH arranged a meeting with Mr Foster to take place on 23 August 2007. The purpose of the meeting was to ensure that Mr Foster's asset-stripping transactions were unwound. Mr Foster promised to make an offer for the company's business and assets (even though he had already purportedly transferred the business and assets to himself and UIL) and to grant access to the company's premises, from which UIL was trading.
• Over the next two weeks, both UIL and DRC made offers to purchase the company's business and assets, notwithstanding the fact that the Company appeared to have little or no assets.
• Upon learning that the joint administrators were prepared, in principle, to sell the company's business and assets to Mr Foster/UIL, DRC applied, on 11 September 2007, to: (i) remove the joint administrators from office and bring the administration to an end because Mr Foster had been motivated by an improper motive in appointing the administrators (paragraph 81 of Schedule B1); (ii) remove the joint administrators (paragraph 88 of Schedule B1); and (iii) various other relief in the alternative.
• On 21 September 2007 – the day before DRC's application fell to be heard in the High Court – Mr Foster/UIL withdrew their offer to purchase the business and assets of the company because the joint administrators were not prepared to waive any claims that they/the company had against Mr Foster as part of the deal.
• MH therefore concluded that the purpose of administration could not be achieved and the joint administrators therefore issued an application for an order that their appointment cease to have effect and for the making of a compulsory winding up order.
• Once the joint administrators had made their application, the need for DRC's application fell away; DRC's aim from the outset had been to put the company into liquidation and this aim would be achieved if the joint administrators' application was successful. The company was duly wound up by the court.
• The only remaining issue between the parties was therefore who should bear the costs of DRC's application. Although it was no longer necessary for DRC's application to be heard, the only way that the High Court could decide the issue of costs was to reach a view on the merits of the application; whichever party would have been unsuccessful should pay the other party's costs. After considering the evidence, the High Court summarily (i.e. without the cross-examination of witnesses or a full trial on the merits) ordered that DRC's costs be paid jointly by Mr Foster on the one part and the joint administrators on the other.

the decision

The joint administrators appealed the High Court decision. The Court of Appeal concluded that:

• the High Court judge was entitled to reach a summary decision on costs (ie there was no need to hold a full trial)
• even if the joint administrators were justified in accepting their appointment, they should not have entertained any thought of selling the business and assets of the company unless and until they had taken steps to recover the business and assets from Mr Foster/UIL
• by failing to take steps to claw back the business and assets of the company from Mr Foster/UIL, the joint administrators "did not act expeditiously and with the robustness of purpose that one would have hoped for and which one is entitled to expect"
• by failing to make it clear to Mr Foster that they would not be prepared to waive any claims that they had against him in connection with his asset-stripping activities, the joint liquidators "were attempting to negotiate with someone, Mr Foster, whom they knew to be bereft of the basic instincts of commercial morality. He was not to be trusted. If they were disposed to deal with such a man, they should…at least have had the commercial foresight and prudence to spell out to him in writing the basis on which they might consider dealing with him and the extent to which they would anyway wish to pursue claims against him"
• the joint administrators' appeal was therefore dismissed and accordingly their liability to pay DRC's costs personally was upheld

implications for insolvency practitioners

• The Joint Administrators were criticised by the High Court for signing the consent to act form, which contained the standard statements that they: (i) thought that the purposes of administration were reasonably likely to be achieved; and (ii) had no prior professional relationship with the company. The High Court took the view that it should have been obvious to the joint administrators that the purpose of administration could not be achieved and that they should have disclosed in their consent to act form that MH had attended meetings with Mr Foster prior to their appointment. This case is an important reminder that a proposed administrator's consent to act form is not simply a box-ticking exercise, but is an important document which will be scrutinised carefully by the court in the event that a creditor applies to remove an administrator.
• The costs order imposed on the joint administrators was imposed on them personally, and their right to an indemnity out of the company's assets (arising under Insolvency Rule r.7.39) was expressly excluded. DRC claimed costs of £116,000. Although the joint administrators had a claim in contribution against Mr Foster for half of these costs, there were question marks over whether he would be able to pay this. The joint administrators were therefore left potentially facing a liability of £116,000 or more.
• Perhaps the most important lesson to be taken from this case is the importance for an insolvency practitioner to maintain a certain distance between himself and the directors and officers of the company over which he/she is appointed. The insolvency practitioner must retain his ability to exercise independent thought about the course of the administration/liquidation and if he/she suspects foul play, he/she should act swiftly and decisively despite the fact that he/she may have established a good working relationship with the directors.

For further information, please contact Dan Geddes or Mike Pavitt of Blake Lapthorn's Insolvency and Business Recovery team