Legal
Can pay but won’t – solvency not good enough

By Joanna Pidgeon, partner, Hesketh Henry

In these troubled financial times, statutory demands1 are often used as a form of debt collection even if that is not their legislated purpose. Failure to pay the amount demanded in a statutory demand gives the creditor grounds to liquidate a company, which is a dire enough outcome to compel debtors to pay outstanding amounts if they can. In the recent case of AMC Construction Ltd v Frews Contracting Ltd2 it was held that proof of solvency will only very rarely enable a statutory demand to be set aside – there must be a good reason for failing to pay a debt, otherwise it should be paid.

Background
Frews Contracting had contracted with AMC Construction to carry out excavation work on a property at Port Hills Road, Christchurch. A statutory demand had been issued for about $190,000 worth of work.

Section 290(4) allows the Court to set aside a statutory demand in three instances if it is satisfied that:
(a) There is a substantial dispute whether or not the debt is owing or is due; or

(b) The company appears to have a counterclaim, set-off, or cross-demand and the amount specified in the demand less the amount of the counterclaim, set-off, or cross-demand is less than the prescribed amount; or

(c) The demand ought to be set aside on other grounds.

The High Court had held that AMC, the alleged debtor, had to show that it had a fairly arguable case for saying it was not liable for the amount demanded, or in support of any cross-claim, and that it was not enough to assert there is one, they must be able to point to evidence to show a real basis for the claim.

It was found on analysing the affidavit evidence that there was not sufficient substance to AMC’s claim. AMC argued that a ground under s290(4)(c) was that it was solvent. The Court held that it had to prove it was solvent, and the information provided was not enough.

Appeal
AMC appealed the decision arguing that it had given enough proof that it was arguably solvent and that the Judge was wrong to draw inferences as to the assessment of evidence regarding solvency.

AMC also claimed that to find that AMC could not claim for delay in the absence of a contractual term binding Frews to a completion date or referring to liquidated damages was wrong.

Decision
In considering the grounds under s290(4)(a) and (b) “the Court must make an assessment whether the case is one where, as frequently occurs, the account is disputed as a means of buying time to pay, or whether the grounds for the dispute are genuine. An examination of the company’s solvency will often be a useful aid in determining whether the refusal to pay is the result of a bona fide dispute as to liability or whether it reflects an inability to pay.”3

Solvency may be a separate ground under subsection (c) as well as a relevant consideration under subs (4)(a) and (b), however, these cases will be extremely rare. If there is no dispute as to liability under subs (a) and (b), it is difficult to think of circumstances in which a company should be able to avoid paying a debt. If it is owing, it should be paid. If the debtor will not pay, the statutory demand process should continue.

If it is not paid and the creditor applies to liquidate the company in reliance on s 287(a) of the Companies Act 1993 that the company is unable to pay its debts then the company can rebut that statutory presumption at that stage.

In the rare case where solvency may be a stand alone ground to set aside the statutory demand, the test will be whether the company is in fact solvent, not just arguably solvent. The Court agreed with the Associate Judge’s approach to the evidence about solvency in the preliminary hearing.

The remaining issue was whether there was a substantial dispute as to liability or the appearance of a counterclaim. The allegation is that the company suffered losses as a result of delays by the contractor under the excavation contract which means either the full amount is not payable or there is a cross-claim for damages for delay. The work was also allegedly poorly performed.

There was not much documentation – there was a quote, a letter setting out a weekly programme (a 4 week programme) and a revised quote. Monthly invoices were issued. Although it is a construction contract under the Construction Contracts Act 2002, neither party operated under the framework for progress payments etc. The initial Judge found that there was no binding completion date or an agreement to pay liquidated damages. As the original quote was not accepted and the revised quote made no reference to a programme, there was no contractual requirement to meet a 4 week programme, so the work had to be completed within a reasonable time. Frew alleged that delays were caused by AMC’s changing requirements, which AMC did not respond to and provided little detail to support the allegations of delay. A resource consent for further work had not been obtained by AMC either. There was also not enough evidence of poor performance and the initial judge was correct in his assessment.

The appeal was dismissed.

Conclusion
In very rare cases solvency may be a stand alone ground for setting aside a statutory demand. Usually, if there is no reason why a company should not pay a debt it should be paid, and refusal to pay should not hold up the statutory demand process. In these troubled financial times, solvency will be used as part of a Judge’s tools for assessing whether there is a bona fide dispute or cross claim when amounts are owed. The statutory demand process will not be halted to allow unsubstantiated claims to delay the requirement to pay bills when they fall due, when the real issue is that the debtor is insolvent.

1 A statutory demand is a demand by a creditor for payment of a debt by a company that complies with section 289 of the Companies Act 1993
2 CA CA145/2008 25 September 2008
3 Supra at paragraph 5

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