Supreme Court allows examinership petition despite Revenue concerns, favoring creditor protection over winding up.

THE SUPREME COURT

[Appeal No. 449/2013]

Denham C.J.

O’Donnell J.

Laffoy J.

IN THE MATTER OF STAR ELM FRAMES LIMITED

AND

IN THE MATTER OF THE COMPANIES ACTS 1963 – 2012

Judgment of Ms. Justice Laffoy delivered on 10th December, 2013

Background

1. Star Elm Frames Limited (the Company) was incorporated on 19th July, 2011. In September 2011 it acquired the assets and

goodwill of the business of another company, Star Elm Limited (SEL), which was being wound up, from the liquidator at the price of

€130,000, of which the sum of €65,000 remains due and owing to SEL (in liquidation). Since the acquisition was completed, the

Company has carried on the business acquired, the manufacture and delivery of casement windows, doors and patio doors, from

premises at Raheen Business Park, Raheen, County Limerick, which are held by it on lease. At present the Company has thirty one

employees.

2. During its first year of trading, to mid-August 2012, the Company incurred an operating loss of €329,739, which represented 8.28%

of turnover. In the following trading year, to mid-August 2013, it incurred an operating loss of €166,276, which represented 4.85% of

turnover, which had diminished by 14.03% in that year. However, expenses as a percentage of turnover had also been reduced in

that year.

3. On 26th September, 2013, the first date in respect of which the Court has an estimated statement of affairs, the Company had a

deficit of €277,638 on a “going concern” basis. The Revenue Commissioners were the Company’s largest creditor. According to the

Revenue Commissioners, the Company has a total tax liability of €418,237, comprising €384,374 in respect of VAT for periods

November/December 2012, March/April 2013, May/June 2013 and July/August 2013 and €33,863 in respect of PAYE/PRSI for 2013.

While there had been engagement between the Company and the Revenue Commissioners prior to October 2013, what appears to

have precipitated the Company’s actions which led to these proceedings was the fact that on 1st October, 2013 the Revenue

Commissioners placed an attachment on the Company’s bank account, in consequence of which the Company was going to be unable

to discharge wages which were due to be paid on 3rd October, 2013.

The petition

4. On 3rd October, 2013 the Company presented a petition to the High Court seeking an order pursuant to s. 2(1) of the Companies

(Amendment) Act 1990, as amended (the Act of 1990) appointing an examiner to the Company, On the same day, the Company

applied ex parte to the High Court for the appointment of an interim examiner. By order of the High Court (Butler J.) made on 3rd

October, 2013, Joseph Walsh (the Interim Examiner) of Hughes Blake, Chartered Accountants, was appointed as interim examiner until

after the hearing of the petition on 4th November, 2013. There was before the Court on the hearing of the ex parte application a

report dated 2nd October, 2013 of John Tobin, Certified Public Accountant, of J. P. O’Donohoe & Co., which was presented as the

report of an independent accountant for the purposes of s. 3(3A) and (3B) of the Act of 1990 (the Independent Accountant’s

Report).

5. When the petition came on for hearing before the High Court (Charleton J.) on 4th November, 2013, in addition to the Independent

Accountant's Report, there was before the Court an affidavit of the Interim Examiner, which exhibited a report of the Interim Examiner

covering the period from his appointment on 3rd October, 2013 to 4th November, 2013 (the Interim Examiner’s First Report). There

was also before the Court an affidavit sworn by Philip Moloney, an officer of the Revenue Commissioners, on 1st November, 2013. It

was made clear in that affidavit that, while the Revenue Commissioners were bringing certain concerns they had to the attention of

the Court to assist the Court’s adjudication on the petition, they were neutral as to the Company’s application for protection. At the

hearing of the petition counsel for the Revenue Commissioners maintained the “guardedly neutral” approach to the application to

appoint an examiner.

The decision of the High Court on the petition

6. By order of the High Court (Charleton J.) made on 4th November, 2013 it was ordered that the protection of the Court afforded to

the Company be lifted forthwith and that the Interim Examiner be discharged as Interim Examiner of the Company. On 5th November,

2013 the said order was stayed until 8th November, 2013.

7. In an ex tempore judgment Charleton J. set out his reasons for refusing the application. First, the petitioner had failed to satisfy

him that the Company was in a position where it had a reasonable prospect of survival as a going concern. Secondly, he was not

satisfied that he should exercise the discretion conferred on the Court by the Act of 1990 in favour of the Company, which had

collected VAT but had not remitted it to the Revenue Commissioners over a period of a year going back to November 2012, in

circumstances where the Company had already defaulted on a “scheme to repay” insisted on by the Revenue Commissioners.

The Appeal

8. The Company served notice of appeal against the decision of the High Court on 6th November, 2013. Subsequently, the Company

applied for a stay on the order of the High Court. That relief was granted and the position is that the Court protection and the

appointment of the Interim Examiner have remained in place pending the determination of the appeal.

The sources of evidence before the Court on the hearing of the appeal

9. As has happened in the past, for example, in In the Matter of Gallium Limited [2009] 2 ILRM 11, there was new evidence before

this Court on the appeal, which, adopting the words of Fennelly J. in his judgment in the Gallium Limited appeal, “had the effect of

placing an entirely different complexion on matters as they had appeared before the High Court”. The new evidence consisted of:

(a) an affidavit of David Sage, a director of the Company, sworn on 6th November, 2013;

(b) an affidavit of the Interim Examiner sworn on 8th November, 2013, which exhibited a report of the Interim

Examiner covering the period from 5th November, 2013 to 7th November, 2013 (the Interim Examiner’s Second

Report);

(c) a further affidavit of the Interim Examiner sworn on 12th November, 2013, which exhibited a further report of

the Interim Examiner covering the period from 8th November, 2013 to 12th November, 2013 (the Interim Examiner’s

Third Report), to which there was appended a document entitled “Proposals for a Compromise and Scheme of

Arrangement between the Company and its Members and Creditors” (the Scheme Proposals), which had been

prepared by the Interim Examiner; and

(d) an affidavit sworn by the Interim Examiner on the 26th November, 2013 exhibiting a further report of the Interim

Examiner for the period from 13th November, 2013 to 26th November, 2013 (the Interim Examiner’s Fourth Report).

10. There was also before this Court a second affidavit sworn by Mr. Moloney on behalf of the Revenue Commissioners on 12th

November, 2013, which raised issues in relation to the viability of the Company having regard to matters asserted in the Independent

Accountant's Report and in the Interim Examiner’s Second Report. It was suggested that clarification of those matters would assist

this Court in its consideration of the viability of the Company and its consideration of the prospects of the Company’s survival as a

going concern. On receipt by the Revenue Commissioners of the Interim Examiner’s final affidavit sworn on 26th November, 2013,

there was an exchange of correspondence between the Revenue solicitor and the solicitors for the Interim Examiner. The Revenue

solicitor’s letter dated 26th November, 2013 identified certain issues arising out of the Interim Examiner’s Fourth Report which required

further consideration. The response dated 27th November, 2013 was from the Interim Examiner to the Revenue solicitor and it

included an appendix setting out an updated cash flow projection for six weeks, the first being the week ending on 29th November,

2013. That correspondence was furnished to the Court on the hearing of the appeal on 27th November, 2013.

Hearing of the Appeal

11. On the hearing of the appeal there were submissions from counsel for the Company, counsel for the Interim Examiner and counsel

for the Revenue Commissioners. Counsel for the Revenue Commissioners reiterated that the Revenue Commissioners were not opposing

the appointment of an examiner. However, they continued to have significant concerns in relation to the evidence and were

continuing to assist this Court in its consideration of the issues. There was no appearance by or on behalf of any creditor of the

Company other than the Revenue Commissioners.

The law

12. There was consensus between the parties as to the relevant legal principles to be applied in determining the issues before this

Court.

13. Sub-section (1) of s. 2 of the Act of 1990 empowers the Court to appoint an examiner to a company which complies with the

requirements set out in paragraphs (a), (b) and (c) of that sub-section, which I am satisfied are complied with by the Company, “for

the purposes of examining the state of the company’s affairs and performing such duties in relation to the company as may be

imposed by or under” the Act of 1990. Sub-section (2) of s. 2, as amended, provides:

“The court shall not make an order under this section unless it is satisfied that there is a reasonable prospect of the

survival of the company and the whole or any part of its undertaking as a going concern.”

Here, the Court is concerned with the survival of the Company.

14. Of particular relevance to the application of those provisions, by reference to the requirements of sub-sections (3A) and (3B) of

s. 3 of the Act of 1990 in relation to the report of an independent accountant which must accompany the petition under s. 2 and the

contents of the report, to the circumstances of this petition is the approach adopted by the Supreme Court to the application of

those provisions in In the Matter of Gallium Limited. Having stated that the onus of proof is on the petitioner, Fennelly J. stated (at

para. 46):

“However, the statutory requirement is to show that ‘there is a reasonable prospect of the survival of the company . . .’.

A petitioner does not, by getting over that threshold, acquire a right to have an order made. I still think it is fair to say

that the section confers a ‘wide discretion’ on the court, or alternatively, that the court should take account of all the

circumstances. The establishment of a reasonable prospect of the survival merely triggers the power, which remains

discretionary.”

The manner in which the Court exercises its discretion under s. 2 was elaborated on by Fennelly J. in succeeding paragraphs as

follows:

“47. The entire purpose of examinership is to make it possible to rescue companies in difficulty. The protection period is

there to facilitate examination of the prospects of rescue. However, that protection may prejudice the interests of some

creditors. The court will weigh the existence and degree of any such prejudice in the balance. It will have regard to the

report of the independent accountant.

48. The Court has to take account of all relevant interests. The independent accountant must consider whether

examinership would ‘be more advantageous to the members as a whole and the creditors as a whole than a winding-up of

the company . . .’. This does not limit the range of interests to be taken into account by the court under section 2. The

interests of employees cannot be excluded. In the case of an insolvent company, it is natural that the creditors will have

the greatest interest in the future, if any, of the company. The court will take a balanced approach, as suggested by the

reference to the creditors as a whole.”

The evidence

15. The opinion of Mr. Tobin in the Independent Accountant's Report, based on the projections of the Company’s profit or loss over

the twelve months to September 2014 which had been prepared by the directors of the Company and which, in his opinion, appeared

to be viable, was that, subject to certain conditions, the Company has a reasonable prospect of survival as a going concern. The

conditions he stipulated were:

(a) the securing of investment to fund a Scheme of Arrangement;

(b) the ability of the directors to implement and maintain efficiencies which were planned and were already

implemented on an ongoing basis; and

(c) the approval of a Scheme of Arrangement by the members, creditors and the High Court.

In relation to the first condition, when the matter was before the High Court, the prospective investor had been named in the

petition, which had been verified by an affidavit sworn by Michael Quaid, the owner of 100% of the issued share capital and a director

of the Company, on 2nd October, 2013. In Mr. Moloney’s first affidavit, which was before the High Court, it was averred that the

Revenue Commissioners had a judgment against the prospective investor for a sum in excess of €45,000, which remained unsatisfied

and that the Revenue Commissioners had serious concerns with regard to the prospective investor’s ability to invest money in the

Company. The factual position has changed materially since the matter was in the High Court, because that prospective investor has

fallen out of the picture. In the Scheme Proposals alternative investors have been identified and no issue has been raised as to their

ability to invest the agreed sum, €120,000.

16. In the Interim Examiner’s First Report, which was before the High Court, the Interim Examiner, who had then been in place for

thirty three days, expressed the view that the conditions set out in the Independent Accountant's Report are achievable. In his

subsequent reports, which were prepared for this Court, the Interim Examiner maintained the belief that the Company has a

reasonable prospect of survival based on projected trading, which, in turn, was based on current turnover and reduced cost. In the

Interim Examiner’s Third Report his view was expressed in a very forthright manner. He stated that he was firmly of the view that the

projections are reasonable and achievable. In the Interim Examiner’s Fourth Report, the belief of the Interim Examiner that the

Company has a reasonable prospect of survival was reiterated in similar terms.

17. The attitude of the largest creditors has not changed since the matter was before the High Court. As has been made clear, the

largest creditor, the Revenue Commissioners, while having raised issues which have been of considerable assistance to the Court,

have made it clear that they are not opposing the petition. The second largest creditor is the Company’s main supplier, Profile 22

Systems (Profile 22), which is based in England. The Interim Examiner had put before the High Court an undated letter from Profile 22

confirming that it had continued to supply the Company since the petition was presented and would continue should the appointment

of an examiner be confirmed. Further, it was stated that Profile 22 supports the application for the appointment of an examiner. The

Interim Examiner appended to the Interim Examiner’s Fourth Report a letter dated 19th November, 2013 from the landlord of the unit

occupied by the Company at Raheen Business Park, which is a creditor of the Company. That letter stated that the landlord supports

the application to appoint an examiner. This Court was informed by counsel for the Company that the liquidator of SEL (in liquidation)

also supports the appointment of an examiner, although no written communication to that effect has been put before this Court.

18. The most significant difference between the factual picture which was presented to the High Court and the evidence before this

Court is that the Interim Examiner has put before this Court the Scheme Proposals. While it is no function of this Court to express a

view on the Scheme Proposals, which will be the function of the High Court under s. 24 of the Act of 1990 if the examinership

proceeds, the information contained in the Scheme Proposals, which was not before the High Court, is pertinent to the determination

of the core issue which this Court has to determine on the appeal – whether it can be satisfied that the Company has a reasonable

prospect of survival as a going concern. In broad terms, the Scheme Proposals envisage funds of €150,000 being available to

implement the proposals. Those funds are to be made up of –

(a) input in the sum of €120,000 by two outside investors, who have been identified, comprising a long-term loan in

the sum of €60,000 to the Company and an investment in shares of the Company in the sum of €60,000, and

(b) Company funds in the amount of €30,000, which have been generated since the Interim Examiner was

appointed.

The proposed treatment of the creditors differentiates between various classes of creditors and, in very broad terms, provides as

follows:

(i) the so-called “Retention of Title” creditors, which class I assume primarily relates to Profile 22, will have the

option of exercising their retention of title rights;

(ii) the so-called “Lien Creditor”, meaning the liquidator of SEL, will be repaid the debt due to SEL (in liquidation) by

sixty equal monthly instalments, the first instalment to be paid on 1st January, 2014;

(iii) the Revenue Commissioners’ debt is to be paid in full, 21% of it, which amounts to €87,500, to be paid within

thirty days of the Scheme becoming effective and the balance over a period of seven years by three monthly equal

instalments, the first instalment payable on 31st March, 2014; and

(iv) the Company’s landlord and the unsecured creditors will be paid 2.5% of their respective debts within thirty

days of the Scheme becoming effective.

Apart from meeting the foregoing payments, the funds available will have to meet the costs of the examinership, which have been

estimated at €52,000. As regards the owner of 100% of the issued share capital of the Company, Mr. Quaid, counsel for the Company

pointed out that his shareholding will be diluted on the allotment of shares to the outside investors.

19. The Revenue Commissioners have reserved their rights as regards the Scheme Proposals and, in particular, the right to make

submissions in respect of the proposals if and when the issue of confirmation of such proposals has to be determined by the Court in

accordance with s. 24 of the Act of 1990. Counsel for the Revenue Commissioners submitted that this Court should be sceptical as to

whether an injection of €120,000 is going to transform the fortunes of the Company and enable it to pay back the Revenue

Commissioners and to avoid further arrears of tax accruing in the future. In particular, he highlighted that the costs of the

examinership (€52,000) and the first payment to the Revenue Commissioners (€87,500) is coming out of that investment, the

conclusion this Court was invited to draw being that there is no clear evidence before this Court now that the Company has a

reasonable prospect of survival as a going concern.

20. Counsel for the Revenue Commissioners also questioned the reliability of projections in relation to cash flow and profitability

contained in the Independent Accountant's Report, which was before the High Court, when compared with the actual performance of

the Company during the eight weeks of the interim examinership prior to the hearing in this Court and of the projections of the Interim

Examiner appended to his letter dated 27th November, 2013 for the following six weeks. There are undoubtedly inconsistencies in that

data, which are difficult to reconcile or rationalise. The strongest point made by the Interim Examiner in support of his recent

projections is that they were based on a very strong order book and the current debtor’s ledger as at 27th November, 2013.

Conclusions

21. Adopting the approach adopted in In the Matter of Gallium Limited, the first question to be addressed is whether the petitioner

has got over the threshold stipulated in s. 2(2) of the Act of 1990 and has satisfied this Court on the evidence adduced both before

and since the order of the High Court that the Company has a reasonable prospect of survival as a going concern. Although, having

regard to the analysis of the evidence conducted by counsel for the Revenue Commissioners, it must be acknowledged that this is

very much a borderline case, the conclusion I have come to is that the Company has got over the threshold. The fact that both the

Independent Accountant's Report and the various reports of the Interim Examiner clearly and unequivocally support it, is the most

important factor in reaching that conclusion.

22. On an application to court under s. 2, the court is usually to a very considerable extent reliant on the report of the independent

accountant which is required to accompany the petition in accordance with s. 3(3A) and (3B) of the Act of 1990, although it may be

supplemented, in a case where an interim examiner has been appointed by the court, by the report furnished by the interim examiner

to the court at the hearing of the petition, in determining the crucial question as to whether it is satisfied that the company has a

reasonable prospect of survival as a going concern. That being the case, while it is appreciated that the directors of the company will

be the primary source of the material on which they form their respective opinions as to the prospect of the company surviving, both

the independent accountant and the interim examiner must act independently of the company and of its directors and members in

giving their respective opinions to the court. Further, s. 4A of the Act of 1990 imposes a strict duty of “utmost good faith” in the

preparation of the presentation of the petition on the petitioner and on the independent accountant. It is particularly important that

both the independent accountant and where appropriate the interim examiner are scrupulous in discharging their duty which involves

giving the Court the benefit of their independent opinion, setting out the reasons for it and where appropriate indicating any contrary

factors. In this case, genuine concerns have been raised and cogent arguments made on behalf of the Revenue Commissioners. I am

of the view on balance however that there is not a sufficient basis for rejecting the opinions put before this Court in the Independent

Accountant’s Report and in the various reports furnished by the Interim Examiner that the Company has a reasonable prospect of

survival, and, accordingly, on balance, I accept that is so.

23. Turning to the “wide discretion” which, the petitioner having got over that threshold, is reposed in the Court, having regard to all

of the circumstances, I consider that the discretion should be exercised in favour of continuing the protection of the Court and

appointing the Interim Examiner as examiner for the purposes of s. 2(1) of the Act of 1990. On the evidence now before this Court, it

is reasonable to conclude that an examinership would be more advantageous to the creditors as a whole than a winding up of the

Company, which is the only alternative. It is of particular relevance that no creditor has opposed the appointment of an examiner.

Three of the major creditors, Profile 22, the liquidator of SEL (in liquidation) and the Company’s landlord, have signified support for the

petition. While the Revenue Commissioners, the largest creditors, apprised the Court of their concerns, it was made clear that they

were not opposing the petition. The interests of the Company’s thirty one employees, who would inevitably become unemployed if the

application were refused, favour continuing the protection of the Court and appointing the Interim Examiner as examiner. At this point

in time the interim examinership has been in place for over two months and a considerable amount of work has been done by the

Interim Examiner in examining the affairs of the Company and in formulating the Scheme Proposals. Subject to the observations in the

next paragraph, the overall picture at this point in time indicates that the continuance of the protection and the appointment of the

Interim Examiner as examiner is the course which is least prejudicial to the interested parties and, in particular, to the creditors as a

whole.

24. As has been made clear earlier, although they have been outlined in very general terms, nothing in this judgment is to be

construed as an endorsement of the Scheme Proposals which will, if appropriate, be considered at a hearing under s. 24 and where

interested parties will have the opportunity of making their views known. On the contrary, it does seem that a very meagre provision

is made in the Scheme Proposals for the Company’s unsecured creditors. It is recommended that the proposed provision for the

unsecured creditors should be re-assessed by the Interim Examiner on his appointment as examiner.