Director disqualification—deciphering unfit conduct (Secretary of State for Business, Innovation and Skills v Pawson)

In Secretary of State for Business, Innovation & Skills v Pawson, a director was disqualified for eight years, owing to his conduct of the affairs of nine companies he had formed, all with the same business model. Katherine Hallett, barrister at 13 Old Square Chambers, explores the issues and emphasises the importance of assessing changing circumstances in corporate affairs.

Original news

Secretary of State for Business, Innovation and Skills v Pawson [2015] EWHC 2626 (Ch), [2015] All ER (D) 125 (Aug)

The Chancery Division granted an application by the Secretary of State for Business, Innovation and Skills (BIS), under section 8 of the Company Directors Disqualification Act 1986 (CDDA 1986), to disqualify the defendant from acting as a director in respect of his conduct in the affairs of nine companies which were wound up.

What was the background to the application, briefly?

This was a claim brought by the Secretary of State for BIS for the disqualification of Mr Pawson as a director pursuant to CDDA 1986, s 8. The claim was not brought under the more usual CDDA 1986, s 6 because none of the nine relevant companies were insolvent at the time of its winding up.

The companies had been formed as vehicles for the promotion of recovery schemes, arising out of a number of unlawful collective investment schemes. Each scheme had involved the marketing of plots of land as part of a land banking scheme. High yields had been promised once planning permission was obtained. However, there had been no realistic prospect of that happening. Plot owners were therefore invited to subscribe for shares in the companies in an effort to get their money back. The objective was to bring together a critical mass of plot owners, at a rate of 5% of their original investment, in order to seek planning permission.

What were the legal issues the judge had to decide in this application?

The judge needed to determine whether the Secretary of State had made out his case that Mr Pawson was unfit to be concerned in the management of a company and, if so, whether the case was:

  • not particularly serious—meriting disqualification of up to five years
  • particularly serious—meriting disqualification in excess of ten years
  • serious, but not particularly serious—meriting disqualification of between six and ten years (see the tripartite division stemming from Re Sevenoaks Stationers (Retail) Ltd [1991] Ch 164, [1991] 3 All ER 578)

What were the main legal arguments put forward?

The Secretary of State argued that Mr Pawson was unfit and that the case was at the top end of the middle bracket. He had breached his duties as director and had demonstrated a lack of probity and integrity. A number of key points were made:

  • Mr Pawson was drawing a salary of £18,000 pa from not just one but each of the nine companies
  • Mr Pawson charged each of the companies £5,000 in respect of identical legal advice, which was not disclosed to investors

Mr Pawson was a professional man, a chartered accountant and a non-practising barrister. He had not disclosed adverse judicial findings—made on the winding up petitions—to the Institute of Chartered Accountants in England and Wales (ICAEW). At para [151] he sought to maintain a stance contradictory to those findings, and had refused to disclose financial information to his co-director of two of the companies—but Mr Pawson had sole control.

Mr Pawson argued that the Secretary of State’s case relied on the benefit of hindsight.

What did the judge decide, and why?

The judge decided that the Secretary of State had made out his case that Mr Pawson was unfit—it was appropriate to exercise his discretion to disqualify. The case was a serious one, in the middle of the middle bracket. The judge therefore disqualified Mr Pawson for eight years.

The judge concluded that Mr Pawson could not be trusted to put the interests of shareholders above his own personal interests. While there was no breach of duty in adopting the remuneration package as originally applied to the first of the companies, it was ‘seriously misleading’ to carry that package over into the other companies (para [186]). As each new company was incorporated and the package carried over, the breach of duty became more serious and more clear. Mr Pawson had not given any actual consideration to the interests of the later companies.

The proper test was therefore objective—ie whether an intelligent and honest man, in the position of a director of the company concerned, could, in the circumstances, have reasonably believed that it was for the benefit of the company to carry the remuneration package forward. Here, such a man could not have reasonably believed that. If Mr Pawson did give any consideration to whether it was in the companies’ best interests, he did not honestly believe that it was. Mr Pawson formed the view that he needed to, and should, achieve a certain level of remuneration, whether or not it was for the benefit of the shareholders.

A subsequent reduction in Mr Pawson’s remuneration was simply because of the companies’ straitened financial circumstances, once it became apparent that they were going to run out of money. He reduced his contractual entitlement by 50%. However, he gave no consideration to whether even that reduction was appropriate in the interests of the companies—Mr Pawson’s concern was to maintain a level of remuneration on which he could survive.

Even if the judge was wrong that there was a breach of duty, he was satisfied that Mr Pawson’s conduct was such as to make him unfit in any event. The judge might have been prepared to countenance charging £5,000 in respect of the initial legal opinion, as against the first of the companies, even though it was not mentioned—as it should have been—on the website. However, it was ‘wholly unacceptable’ (at para [190]) to continue to charge the same amount to each of the succeeding companies.

This was particularly so as regards the last of the companies. Mr Pawson made the charge as soon as sufficient money to do so was received from shareholders. Mr Pawson’s evidence that he intended to tailor his remuneration to reflect the legal opinion fee was rejected as inconsistent with his contemporaneous conduct.

This was not simply a case of incompetence to a high degree—it went beyond that, indicating a lack of probity and integrity. It was not honest to charge repeat legal opinion fees. Nor was it honest to do so on the basis of an accountant’s letter which clearly contemplated the incorporation of only one company. Mr Pawson had effectively billed repeatedly for the same work. Even if the judge was wrong on that, there was ‘clearly’ incompetence to a very high degree (para [193]).

To what extent is the judgment helpful in clarifying the law in this area?

The judge applied the tripartite division stemming from Re Sevenoaks. It is a helpful example of how courts may view particular conduct under CDDA 1986, s 8.

The judge applied the subjective/objective distinction when considering breach of duty under section 172 of the Companies Act 2006 (see Re HLC Environment Projects [2014] BCC 337). He confirmed that the starting point is subjective—that is, whether the director honestly believed that his act or omission was in the interests of the company. However, one exception to that general principle is where there is no evidence of actual consideration of the best interests of the company. Thus, here, an objective test was applied—ie whether an intelligent and honest man, in the position of a director of the company, could, in the circumstances, have reasonably believed that the transaction was for the benefit of the company.

What practical lessons can those advising take away from this case?

It is important to assess changing circumstances over time—even if conduct or a contractual arrangement was acceptable originally, it may become unacceptable and therefore render a director unfit as circumstances change. Here, the incorporation of the succeeding companies rendered unacceptable Mr Pawson’s otherwise broadly acceptable conduct—failing to mention the legal opinion fee on the website.

Interviewed by Anne Bruce.

The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.

Further Reading

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First published on LexisPSL Restructuring and Insolvency

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