Brown & Anor v Stonegale Ltd & Anor [2016] UKSC 30

Companies controlled by Mr Pelosi senior transferred four properties to entities connected with his son after misleading their bank into discharging securities using sale proceeds from a fifth property. The Supreme Court held these were gratuitous alienations challengeable under section 242 of the Insolvency Act 1986.

Facts

The case concerned three conjoined appeals arising from alienations made by Oceancrown Ltd, Loanwell Ltd and Questway Ltd, companies forming part of a group controlled by Ralph Norman Pelosi (‘Mr Pelosi senior’). The group had a secured facility of approximately £17.3m from Anglo-Irish Bank, with the other companies cross-guaranteeing Oceancrown’s debt. The bank held standard securities over five properties: 278, 110, 260 and 210 Glasgow Road, and 64 Roslea Drive.

Mr Pelosi senior had agreed to sell 278 Glasgow Road to Clyde Gateway Development Ltd for £2,467,500, far exceeding an earlier valuation of £762,000. The Lord Ordinary found that the subsequent transactions were ‘machinations designed to protect the “profit” on the sale of number 278’ by keeping it from the bank.

The bank’s solicitor was informed that the five properties would be sold for a total of £2,414,000, with 278 Glasgow Road purportedly selling for only £762,000. On the strength of this representation, the bank executed discharges of all five standard securities. In fact, 278 Glasgow Road was sold via Strathcroft Ltd (an intermediary controlled by Mr Pelosi senior) to Clyde Gateway for £2,467,500, and no sales had been agreed for the other properties.

Once the securities were discharged, the four remaining properties (valued at £1.525m) were disponed in November 2010 to Stonegale Ltd (owned by Mr Pelosi junior) and to Mr Pelosi junior personally, with no payment being made. A purported loan agreement produced in evidence was found by the Lord Ordinary to be a sham ‘concocted purely for the purpose of the defence of these proceedings’.

Issues

The central issue was whether the four dispositions to Stonegale and Mr Pelosi junior constituted gratuitous alienations challengeable under section 242 of the Insolvency Act 1986, or whether they were made for adequate consideration within the meaning of section 242(4).

Arguments

The appellants argued that the dispositions were made for adequate consideration, being the reduction of £2,414,000 in the companies’ contingent liabilities under their cross-guarantees following the payment to the bank, which exceeded the open market value of all five properties.

On appeal to the Supreme Court, the appellants additionally contended that the administrators had selected the wrong remedy. They submitted alternative remedies could have been pursued: challenging the alienation of 278 Glasgow Road from Oceancrown to Strathcroft; proceeding against Mr Pelosi senior for breach of fiduciary duty; or the bank claiming damages for fraudulent misrepresentation. They argued that failure to challenge the Oceancrown-Strathcroft transfer meant the onward transfer to Clyde Gateway could not be impeached, and that the £762,000 reflected a professional valuation constituting market value.

The administrators maintained that the four dispositions were plainly gratuitous, the companies having received nothing in return.

Judgment

The Supreme Court, in a judgment delivered by Lord Reed (with whom Lord Neuberger, Lord Sumption, Lord Carnwath and Lord Hodge agreed), dismissed the appeal.

The Lord Ordinary’s reasoning, endorsed by the Inner House and the Supreme Court, was that the consideration argument fundamentally disregarded the fact that the four properties were disponed gratuitously in subsequent transactions. As the Lord Ordinary found:

No one paid anything for 110, 210, 260 Glasgow Road and 64 Roslea Drive. The sellers, namely Oceancrown, Loanwell and Questway, did not receive anything in return for the dispositions under challenge. They gifted the properties to the dispones. … That the bank was prepared to discharge the standard securities over all five properties in return for the monies forwarded to it does not create a consideration given in return for the subsequent dispositions to Stonegale.

The dispositions under challenge were gratuitous alienations. Were it otherwise the bank would have received in excess of £4m, and the overall indebtedness would have been reduced by that amount.

Lord Reed observed that whilst the administrators might have pursued various remedies, the issue was whether they were entitled to the remedy actually sought. The chosen remedy did not require a challenge to the disposal of 278 Glasgow Road, but rather a challenge to the four other dispositions as gratuitous alienations. Before the conveyances the companies owned five properties; after the sale of 278 Glasgow Road, £2.4m was paid to the bank in reduction of borrowings, and the companies retained four properties worth £1.525m which were then conveyed to the appellants for nothing. There was no reciprocity between those disposals and the earlier payment to the bank. The purpose and effect of the transactions was to divert assets away from the companies’ creditors, which Lord Reed observed is ‘exactly what section 242 is intended to prevent’.

Implications

The decision confirms the proper application of section 242 of the Insolvency Act 1986 to attempts to divert company assets away from creditors through interconnected transactions. The case demonstrates that consideration must be given in return for the specific alienation challenged; an indirect benefit arising from a separate transaction will not constitute adequate consideration where there is no reciprocity between the payment relied on and the disposition under challenge.

The judgment is significant for insolvency practitioners in Scotland, confirming that administrators may target the specific gratuitous transfers that diverted assets, without being required to unwind earlier transactions in the chain. Where companies, in the run-up to administration, dispose of property without receiving anything in return, such alienations are vulnerable to challenge regardless of the wider commercial structure that may have been constructed to disguise their gratuitous character.

The decision also illustrates that the court will look at the substance of transactions and will not be deflected by sham documents or elaborate corporate structures designed to retain value within a controlling individual’s wider interests at the expense of creditors.

Verdict: The appeal was dismissed. The Supreme Court upheld the decision of the Lord Ordinary, affirmed by the Inner House, that the four dispositions were gratuitous alienations under section 242 of the Insolvency Act 1986, reducing the dispositions to Stonegale and ordering Mr Pelosi junior to repay £125,000.

Source: Brown & Anor v Stonegale Ltd & Anor [2016] UKSC 30