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Directors Loans and Duties to UK Companies

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A director may be held responsible for the effect of transactions of which he is not fully aware, if he is aware that such transactions occur and takes no action to prevent them. The Court of Appeal has made a ruling dealing with this point of law, involving the ex-directors of a pharmaceutical company, where a director did not discharge his director’s duties under the Companies Act.

Background

At all material times up to 18 July 2001, 68 per cent of the company’s issued shares were held by Mr Avo Krikor Krikorian (‘Avo Krikorian’) and 30 per cent were held by his son, Mr Krikor Avo Krikorian (‘Krikor Krikorian’). Both were directors of the company.

From 1997 to 2000, loans to directors totalling over £2 million (in contravention of Section 330 of the Companies Act 1985) built up on the company’s balance sheet. The majority of the money had been lent to Krikor Krikorian. Administrators were appointed to the company in 2002. They sought repayment of the loans made to the directors. Avo Krikorian appealed against a decision which made him jointly and severally liable for Krikor Krikorian’s debts to the company. Avo Krikorian argued that he had been unaware of any of the transactions since 1996, the last year for which he signed the annual accounts. In evidence he claimed that he first became aware of his son’s outstanding loan account in February 2001 and was ‘so shocked to hear of it and angry’ that he immediately asked the board to sell the company as quickly as possible to pay the debts owed to creditors. He also claimed that he did not sign any cheques or otherwise make or authorise any payments which formed part of the loan accounts to his son.

The Court’s Decision

Although evidence was given of Avo Krikorian’s correspondence with the bank over the company’s indebtedness, the Court of Appeal was satisfied that he had no actual knowledge of the individual payments made to his son at the time each was made. However, the judge ruled that since he took no steps to bring the practice of making loans to directors to an end and, in particular, took no steps to cause the company to call in the outstanding loans, he had in effect authorised the lending by the company to Krikor Krikorian which took place after 27 July 1999, the date on which Avo Krikorian was regarded as first becoming aware of the loans to Krikor Krikorian. The judge concluded that Avo Krikorian was therefore in breach of his duty as a director by failing to take the steps which (plainly) were open to him to cause the company to call in the indebtedness outstanding. His duty as a director required not only that he put a stop to that practice but also that he take steps to recover the indebtedness. In consequence of this, Avo Krikorian was found to be liable to indemnify the company for loss resulting from the lending.

The importance of this case is that it emphasises that directors who become aware of improper practice and who do not take action to investigate and correct it and to prevent such activity from happening again may be judged by the court to have tacitly agreed with the practice and thus found liable as appropriate. Directors who do not pursue their duties with diligence are at risk.


About the Author

Gillhams Solicitors advise on corporate risk management and assist directors to avoid personal liability for breach of their duties under the Companies Act.


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Article Published/Sorted/Amended on Scopulus 2006-07-11 20:44:50 in Legal Articles

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