gathering the assets: the role of liquidation 581

floating charge was created has to be taken into account and the liquidator may have a complex and difficult case to make out: section 245(4) places the onus on the liquidator as challenger of the charge to show that the company was insolvent. Overall, then, section 245 is designed to increase fairness in the insolvency process but its effect is limited by the noted difficulties experienced by the liquidator. Where, however, an action might constitute a preference or a late floating charge (as where a floating charge is granted to a previously unsecured creditor just prior to liquidation) the liquidator might prefer a section 245 challenge rather than a preference avoidance action under section 239. A floating charge would be invalidated automatically if covered by section 245 and there is no need to show that the grantor was influenced by a desire to prefer. In the case of non-connected persons, moreover, the vulnerability period under section 239 is six months but, under section 245, it is twelve months. Finally, section 245 challenges are possible when the transaction occurs during solvency whereas, for section 239, the ‘insolvency’ requirement is absolute.277

Fairness to group creditors

In asking whether liquidation processes operate fairly, it is necessary to

consider the special position of creditors of groups of companies. What constitutes a group is not formally defined in English law278 but it is a

concept understood commercially as a family of related companies or businesses in which one company (the parent or holding company) maintains effective control over the others through shareholding and managerial controls.279 Issues of fairness arise if it is asked whether the

277See McCormack, ‘Swelling Corporate Assets’, p. 53.

278The Companies Act 2006 refrained from addressing the issue of liability within corporate groups: see pp. 592–3 below. Parent and subsidiary companies and undertakings are respectively dealt with in the Companies Act 2006 ss. 1159 and 1162. See also the Companies Act 2006 s. 399 for requirements for consolidated group accounts. On the definition of the corporate group for accounting purposes see Boyle and Birds’ Company Law, pp. 500–4. See also C. Napier and C. Noke, ‘Premium and Pre-acquisition Profits: The Legal and Accounting Professions and Business Combinations’ (1991) 54 MLR 810.

279On groups generally see T. Hadden, ‘The Regulation of Corporate Groups in Australia’ (1992) UNSW LJ 61; Lord Wedderburn, ‘Multinationals and the Antiquities of Company Law’ (1984) 47 MLR 87; C. Schmitthoff and F. Wooldridge (eds.), Groups of Companies (Sweet & Maxwell, London, 1991); J. McCahery, S. Picciotto and C. Scott (eds.), Corporate Control and Accountability (Oxford University Press, Oxford, 1993) chs. 16–20; R. Grantham, ‘Liability of Parent Companies for the Actions of the Directors of their Subsidiaries’ (1997) 18 Co. Law. 138; S. Wheeler and G. Wilson,

Directors’ Liabilities in the Context of Corporate Groups (Insolvency Lawyers’ Association, Oxfordshire, 1998); D. Milman, ‘Groups of Companies: The Path towards

582 gathering and distributing the assets

law imposes risks on creditors (of parent companies or subsidiaries) that are inequitable. This question is the first concern here. A second issue – whether any unfairnesses the law imposes in the group context are justifiable as efficient – is one which will be returned to. Unfairness in this discussion will be treated as being involved where risks are imposed on parties who are significantly less well placed than others to evaluate risks; to adjust their terms of business to reflect such evaluations; or to bear the consequences of economic harms that result from such risk bearing.280

Here we are dealing with no small issue. The corporate group has developed during the last century to become an almost uniform form of business and one that routinely crosses national and regulatory boundaries.281 Most businesses of any size or substance now conduct their operations through subsidiaries that are owned by a parent company. The essential problem, however, is that there is a disjuncture between the law’s vision of the limited liability company and the reality of commercial life. The law does not hold parent companies liable for subsidiaries because it treats companies as juristic persons with separate corporate personality.282 The reality is that groups operate as economically and managerially cohesive operations, often with high levels of unity. They move resources around and operate as organically whole institutions.

For managers and shareholders of the parent company there are a number of reasons for operating via the group mechanism.283 It has been

Discrete Regulation’ in D. Milman (ed.), Regulating Enterprise (Hart, Oxford, 1999); R. Austin, ‘Corporate Groups’ in R. Grantham and C. Rickett (eds.), Corporate Personality in the Twentieth Century (Hart, Oxford, 1998); J. Dine, The Governance of Corporate Groups (Cambridge University Press, Cambridge, 2000).

280See the discussion of non-adjusting creditors at pp. 607–14 below.

281On the development of the group see J. Wilson, British Business History 1720–1994 (Manchester University Press, Manchester, 1995); T. Hadden, ‘Inside Corporate Groups’ (1984) 12 International Journal of Sociology of Law 271.

282Salomon v. A. Salomon & Co. Ltd [1897] AC 22. See also the reaffirmation of the separation of parent and subsidiary obligations in Adams v. Cape Industries [1990] 2 WLR 657 (CA). If a subsidiary acts as an agent for the parent company the latter will incur liability on ordinary agency principles: see Canada Rice Mills Ltd v. R [1939] 3 All ER 991; E. Ferran, Company Law and Corporate Finance (Oxford University Press, Oxford, 1999) p. 35. On a parent company liability through guarantees or in tort see Ferran, Company Law and Corporate Finance, pp. 35–7; P. Muchlinski, ‘Holding Multinationals to Account’ (2002) 23 Co. Law. 168.

283See, for example, Austin, ‘Corporate Groups’; T. Eisenberg, ‘Corporate Groups’ in M. Gillooly (ed.), The Law Relating to Corporate Groups (Butterworths, Sydney, 1993); CLRSG, Modern Company Law for a Competitive Economy: Completing the Structure (DTI, November 2000) ch. 10.

gathering the assets: the role of liquidation 583

suggested that a primary reason is to distribute risks in a manner that serves the group as a whole.284 The group device, however, also provides a degree of managerial autonomy for buying, selling or operating certain business activities; it allows geographically dispersed businesses to be managed separately; it caters for compliance with local laws (where, for example, a country demands a home-based corporate presence); it can allow tax advantages to be achieved; it may usefully limit the influence of anti-trust laws or a regulator (by removing parent companies from the regulator’s domain); it allows legal liabilities of various kinds to be shifted and limited in ways that protect the parent company; it provides a means of keeping labour costs down;285 and it allows for investments, profits

and losses to be distributed in ways that maximise benefits to the group.286

In spite of the prevalence of the group, insolvency law very largely fails to take on board the interdependency of many companies.287 The law is still focused almost exclusively on the individual company; there is no legally developed doctrine of group enterprise or notion of ‘group interest’; there are no clear rules on the liability of the parent company for the firms within its group; and there is virtually no legal control over the complexity of the group’s structure.288 The creditors of companies within a group can only assert claims against their particular debtor company, not the group. The potential for unfair treatment stems from the ability of a parent company’s directors to manipulate the rules governing limited liability companies to the group’s or parent company’s advantage. A typical large group may involve more than a hundred subsidiaries or subsidiaries of subsidiaries and some of the latter may be placed as far as five removes from the main board of directors.289 These extended organisations are tied together by arrangements of ownership, contract, management and economic interdependence yet the

284See CLRSG, Completing the Structure, p. 177.

285See H. Collins, ‘Ascription of Legal Responsibility to Groups and Complex Patterns of Economic Integration’ (1990) 53 MLR 731.

286See T. Hadden, ‘Insolvency and the Group: Problems of Integrated Financing’ in R. M. Goode (ed.), Group Trading and the Lending Banker (Chartered Institute of Bankers, London, 1988).

287The legislature failed to take the opportunity to address or resolve the issue under the Companies Act 2006. See further pp. 592–3 below.

288See T. Hadden, ‘Regulating Corporate Groups: International Perspectives’ in McCahery, Picciotto and Scott, Corporate Control.

289Collins, ‘Ascription of Legal Responsibility’, p. 733; Hadden, The Control of Corporate Groups (Institute of Advanced Legal Studies, London, 1983) p. 9.

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companies involved are regarded by the law as so many independent units.

This difference between commercial reality and legal framework can result in unfair allocations of risk to creditors for a number of reasons. The creditors of a subsidiary face at least the following difficulties.290 They may face enormous costs in calculating the risks they are bearing, because the parent company enjoys freedom to move resources and risks around the group in a manner that favours the group rather than the subsidiary.291 Corporate decisions will be made with a view to maximising overall returns rather than ensuring the health of any subsidiary and it may be extremely difficult to assess the financial or risk position of a subsidiary at any one time. Creditors of subsidiaries within a group may be misled about the ownership of assets that are available to pay their debts; transactions within groups may not be conducted at arm’s length; assets may be transferred, or loans given, at non-market rates; and guarantees and dividends may be given without reference to the interests of the companies affected.292 A firm may be made excessively dependent on other group firms for funds, business or both, and one firm may be used clandestinely within the group as a dumping ground for losses, liabilities and risks. A further problem for a subsidiary creditor is that amidst the above complexities it may be difficult to find out such basic matters as which companies are members of the group and which intercompany dependencies are intra-group.293 Nor can creditors of subsidiaries take comfort in the rules governing directors’ duties. The tradition of the law dictates that directors owe duties to their own company, not to the subsidiaries that their decisions may affect.294 The directors of a

290See J. Landers, ‘A Unified Approach to Parent, Subsidiary and Affiliate Questions in Bankruptcy’ (1975) 42 U Chic. L Rev. 589 (see reply by R. Posner, ‘The Rights of Creditors of Affiliated Corporations’ (1976) 43 U Chic. L Rev. 499; and reply by Landers, ‘Another Word on Parents, Subsidiaries and Affiliates in Bankruptcy’ (1976) 43 U Chic. L Rev. 527).

291‘Firms enjoy considerable freedom both in law and practice to determine the limits of their boundaries’: see Collins, ‘Ascription of Legal Responsibility’, pp. 736–8, on ‘the capital boundary problem’.

292See Cork Report, para. 1926. On the ‘implied statutory duty’ (under the Insolvency Act 1986 s. 238) of a lending bank to consider, in seeking the security of a corporate guarantee, the interests of the surety’s creditors, see D. Spahos, ‘Lenders, Borrowing Groups of Companies and Corporate Guarantees: An Insolvency Perspective’ [2001] JCLS 333.

293See Milman, ‘Groups of Companies’, pp. 222–3.

294Lindgreen v. L & P Estates Ltd [1968] 1 Ch 572; Charterbridge Corp. Ltd v. Lloyds Bank

[1970] 1 Ch 62.

gathering the assets: the role of liquidation 585

parent company, moreover, may use cross-holdings to entrench themselves in control of the group, yet they may have very small commitments of capital themselves.

The above considerations may make creditors of a subsidiary nervous.295 Other consequences of the law may move them towards indignation. The Cork Report noted a scenario in which a wholly owned subsidiary is mismanaged and abused for the benefit of a parent company but in which loans from the parent company are employed. When the subsidiary goes into liquidation its creditors find that the parent company submits a proof in respect of its loan and a substantial proportion of the funds realised by the liquidator go to the parent company and (where

the loan is secured) do so before the unsecured creditors of the subsidiary are repaid.296

Cork saw such a legal position as ‘undoubtedly defective’297 and one commentator has noted widespread criticism of the process by which ‘the liberal creation of undercapitalised subsidiaries [creates] a second level of limited liability protection for businesses wishing to insulate themselves from enterprise liabilities’.298 Realigning the law so as to deal with the problems posed by groups has, however, not proved easy. The difficulties can be outlined by considering the main proposals that have been canvassed to date. These can be grouped into three broad responses: subordinating debts owed to companies within the group to the claims of non-group creditors; consolidating group debts; and tightening directors’ obligations and liabilities.

295If a subsidiary becomes insolvent the parent and other subsidiaries may still prosper ‘to the joy of the shareholders without any liability for the debts of the insolvent subsidiary’: see Re Southard [1979] 1 WLR 1198 (CA), per Templeman LJ.

296The rules on transactional avoidance may come into play: see Insolvency Act 1986 ss. 239 and 245; Re Shoe Lace Ltd (sub nom. Power v. Sharp Investments) [1994] 1 BCLC 111; Milman, ‘Groups of Companies’, p. 225. Proof of debt between group members was allowed in Re Polly Peck International plc (No. 3) [1996] 1 BCLC 428. On instances where the parent company may not deny liability see Milman, ‘Groups of Companies’, pp. 226–8.

297Cork Report, para. 1934; the words ‘seriously inadequate’ are used of the law at para. 1950. See also paras. 1924 and 1928 for reflections of views that the position was ‘offensive to ordinary canons of commercial morality’ and that it was ‘absurd and unreal to allow the commercial realities to be disregarded’.

298See Milman, ‘Groups of Companies’ p. 225, and for judicial concern see Staughton LJ in

Atlas Maritime Co. v. Avalon Maritime Ltd (No. 1) [1991] 4 All ER 769 at 779. On the capacity of groups to avoid the legal regulation of business transfers and TUPE (on TUPE see ch. 17 below) see Michael Peters Ltd v. Farnfield & Michael Peters Group plc

[1995] IRLR 190.

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Subordination was a route advocated in limited form by Cork.299 Several parties who gave evidence to the Cork Committee argued that all debts owed by a company in liquidation to other companies in the same group should be deferred to the claims of external creditors. Cork, however, drew a distinction between debts arising from ordinary trading activities between group companies and debts ‘which in substance represent long term working capital and which arise from finance provided by the parent company’.300 In making this distinction, Cork drew on the US courts’ equitable jurisdiction to subordinate, as preserved by statute,301 under which the courts examined the conduct of parties and tended to look for fraud, mismanagement, wrongful conduct or undercapitalisation where finance was by the controlling shareholder.302 Cork suggested that it would not be equitable to subordinate in the case of ordinary trading debts but it would be fair to do so in the case of liabilities, secured or unsecured, which are owed to connected persons

or companies and which represent all or part of the long-term capital of the company.303

One problem with Cork’s approach (which has not been implemented) is that the distinction upon which it builds constitutes an invitation to lengthy and expensive litigation.304 A further issue, however, relates to the broad exemption of ordinary trading debts. In a group there are, as noted, real dangers that transactions at other than market value will be entered into for manipulative reasons (for example, to load risks onto a subsidiary whose creditors are ill-placed to respond to such a risk shift). There seems no reason why such transactions should

299 Cork Report, paras. 1958–65. 300 Ibid., para. 1960.

30111 USC s. 510(C) 1978, giving statutory recognition to the ‘Deep Rock’ doctrine (the name being taken from a subsidiary company featuring in Taylor v. Standard Gas and Electric Co. (1939) 306 US 307) where the claims (as a creditor) of a controller of a company can be subordinated to the claims of the other creditors: see Landers, ‘Unified Approach’, pp. 597–606.

302See Milman, ‘Groups of Companies’, p. 230; R. Schulte, ‘Corporate Groups and the Equitable Subordination of Claims on Insolvency’ (1997) 18 Co. Law. 2; Taylor v.

Standard Gas and Electric Co.

303Cork recommended that where such liabilities were secured by fixed or floating charges that security should be invalid as against the liquidator, administrator or any creditor to the company until all claims to which it had been deferred were met: Cork Report, para. 1963.

304See Milman, ‘Groups of Companies’, p. 229. Cork’s rejection of subordination for ‘ordinary trading activity’ claims was not argued out: the Committee merely reported hostility in the United States Congressional hearings and the fact that it was ‘not persuaded’ on its own account.

gathering the assets: the role of liquidation 587

escape subordination because they are encountered in an ordinary trading context. If the objective is fairness to creditors of subsidiaries, debts to group companies relating to such transactions should be subordinated.

A second major response to unfair risk shifting is to consolidate (to lift the veil on the group)305 to deal with the commercial realities and to order a pooling of the assets of related companies in liquidation so as to improve the dividend prospects for creditors. There are a number of ways to implement such an approach. In Germany the legislation of 1965 (Konzernrecht) dealt with the issue in a formalistic way by seeking to lay down the parameters of formal legal relations between the companies in a group.306 The drawback of such a strategy is that it produces a somewhat rigid legal framework that may unduly restrict enterprise, prove unresponsive to change and yet not remove the need for judicial intervention. An alternative method relies more explicitly on the use of judicial discretion. In New Zealand, legislation passed in 1980 empowered the courts to order one company in a group to contribute towards the assets of a fellow group company in the event

305On the English courts’ approach to lifting the veil in the group context see Adams v. Cape Industries [1990] 2 WLR 657; discussed by S. Griffin in (1991) 12 Co. Law. 16. See also Boyle and Birds’ Company Law, pp. 76–80; Schulte, ‘Corporate Groups’. The European Court of Justice shows more inclination to treat a group of companies as a single economic entity: see Istituto Chemioterapico Italiano SpA v. EC Commission, Case 6, 7/73 [1974] ECR 223; SAR Schotte GmbH v. Parfums Rothschild SARL, 218/86 [1992] BCLC 235. In the USA the flexible concept of equitable subordination has been adopted and piercing the veil of incorporation is also resorted to. On piercing the veil in the United States context, see Landers, ‘Unified Approach’, who would pierce the veil whenever the parent company has failed to endow the subsidiary with sufficient resources to make it economically viable or failed to observe the legal formalities for creating a separate corporation.

306See Milman, ‘Groups of Companies’, p. 231; E. Hintz, ‘German Law on Cash Pooling in

the I nsolvency C ontext’ (20 07) I n t. LR 7 8; J. Rinze, ‘ Konzernrecht: La w o Companies in Germany’ (1993) 14 Co. Law. 143; K. Hopt, ‘Legal Elements and Policy Decisions in Regulating Groups of Companies’ in Schmitthoff and Wooldridge, Groups

of Companies; D. Sugarman and G. Teubner (eds.), Regulating Corporate Groups in Europe (Nomos, Baden-Baden, 1990). In the European Draft Ninth Directive (Commission Document III/1639/84-EN) an approach modelled on the German group regime was promoted but this measure received a hostile reception and has not been implemented. On the possibility of future European initiatives regarding regulation of corporate groups see K. Hopt, ‘Legal Issues and Questions of Policy in the Comparative Regulation of Groups’ [1996] I Gruppi di Società 45. On the German courts’ developing jurisprudence concerning the ‘de facto group liability’ of private companies see M. Shillig, ‘The Development of a New Concept of Creditor Protection for German GmbHs’ (2006) 27 Co. Law. 348.

a voluntary administrator has the power to propose (without court approval) a pooling arrangement as part of a deed of company arrangement (Mentha v. GE Capital Ltd (1997) 154 ALR 565; Re CAN 004 987 866 Pty Ltd [2003] FCA 849) and the Australian

gathering the assets: the role of liquidation 589

(Insolvency) Act 2007 introduced legislative amendments to provide that the courts may, by order, determine (on ‘just and equitable’ criteria)313 that a group is a ‘pooled group’.314 The effect of such an order is that unsecured creditors are able to claim against any or all of the companies in the pooled group – who are rendered jointly and severally liable for the unsecured debts owed by each member.315 The court’s power here requires that each company in the group is being wound up and the pooling order applies to debts or claims that are present or future, certain or contingent, and whether ascertained or sounding only in damages.316

In the USA, the court may order consolidation (known as ‘substantive consolidation’)317 under the auspices of its general equitable powers and

courts allowed pooling on the basis that where it is impracticable to keep the assets and liabilities of different companies in a group separate they may be consolidated if consolidation is for the benefit of creditors generally: see Dean-Willcocks v. Soluble Solutions Hydroponics Pty Ltd (1997) 13 ACLC 833, 839; Re Ansett Australia Ltd (2006) 151 FCR 41: discussed by J. Harris, ‘Seeking Court Approval for Pooling Arrangements: Lessons from the Ansett Case’ (2006) 24 C&SLJ 443.

313See Corporations Amendment (Insolvency) Act 2007 Sch. 1, s. 579E(12)(a)–(f): for example, the court must have regard to the extent to which a company in the group, officers or employees of a company in a group was/were involved in the management of any other companies in the group; the conduct of a company in the group or officers or employees of a company in the group towards the creditors of any of the other companies in the group; the extent to which the circumstances that gave rise to the winding up of any companies in the group are directly/indirectly attributable to the acts/omissions of any of the other companies in the group or the officers or employees of any of the other companies in the group; the extent to which the activities and business of the companies in the group have been intermingled; the extent to which creditors of the companies in the group may be advantaged or disadvantaged by the making of the order; and any other relevant matters.

314Section 579E(1).

315Section 579E(2) and (3). For discussion see Harris, ‘Corporate Group Insolvencies’, pp. 91–2. The court must not make a pooling order if it is satisfied that such an order would disadvantage an eligible unsecured creditor materially and that creditor has not consented to the order: s. 579E(10)(a); or if the company in the group is being wound up under a members’ voluntary winding up and the court is satisfied that a member (not being a company in the group) would be materially disadvantaged and has not consented to the making of the order: s. 579E(10)(b).

316Section 579E(3). Note that provision is also made for a voluntary pooling ‘determination’ by administrators and liquidators: see Corporations Amendment (Insolvency) Act

20 07 Sch. 1, Part 4, ss . 571 – 2. See f urther M. Hughes , ‘ Pooling, Part 1’ (2

Insolvency Journal (January–March) 12.

317As opposed to procedural consolidation where the bankruptcy proceedings of different entities are consolidated for procedural purposes only, having no effect on creditors’ substantive rights. On US ‘substantive consolidation’ see further A. Borrowdale, ‘Commentary on Austin’ in Grantham and Rickett, Corporate Personality, pp. 91–2.

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will do so where the companies’ affairs are inextricably linked or the creditors can be shown to have dealt with the debtor companies as a single economic unit. In such consolidations the group assets and liabilities are dealt with as a single unit as part of a pooling arrangement.318 A further route to consolidation, parent company contributions and an acknowledgement of commercial realities, lies through holding the parent liable for debts of the subsidiary where there is insolvent or wrongful trading. Section 588V of the Australian Corporations Law 2001, as amended, for instance, renders a parent company liable for a subsidiary’s debt when the latter has carried on trading while insolvent or likely to become insolvent and the parent or any of the parent’s directors was aware or should have been aware of such trading.319 The strength of this approach is that it does not rely on a finding that the parent company is a shadow director of the subsidiary but imposes a positive duty on the parent to safeguard the interests of the subsidiaries’ unsecured creditors. The weakness is that it relies on finding a relationship of parent to subsidiary and legal definitions of this relationship may both fail to capture instances of de facto control and be vulnerable to circumvention

through manipulation of shareholdings.320

In English law, liability for wrongful trading under section 214 of the Insolvency Act 1986 also applies to shadow directors,321 who are defined (in section 251) as persons ‘in accordance with whose directions or instructions the directors of the company are accustomed to act’.322 The concept of a shadow director can encompass a parent company

318For an account of the informal pooling arrangements in the BCCI group liquidations see C. Grierson, ‘Issues in Concurrent Insolvency Jurisdiction: English Perspectives’ in Ziegel, Current Developments. On US consolidation see further C. Frost, ‘Operational Form, Misappropriation Risk and the Substantive Consolidation of Corporate Groups’ (1993) 44 Hastings LJ 449; C. Grierson, ‘Shareholder Liability, Consolidation and Pooling’ in E. Leonard and C. Besant (eds.), Current Issues in Cross-Border Insolvency and Reorganisations (Graham and Trotman, London, 1994). Note can also be made of

the possibility of consolidated legal insolvency procedures apropos groups of companies spread within the EU under the Council Regulation (EC) No. 1346/2000: see I. Fletcher, Insolvency in Private International Law (2nd edn, Oxford University Press, Oxford, 2005) ch. 7.

319See I. Ramsay, ‘Allocating Liability in Corporate Groups: An Australian Perspective’ (1999) 13 Connecticut JIL 329.

320Ibid. One suggestion for limiting such vulnerability to evasion is to resort to definitions of subsidiarity that are founded in economic substance rather than legal classification.

321On shadow directors see ch. 16 below.

322The concept was borrowed from the Companies Act 1985 s. 741. See now Companies Act 2006 s. 251.

gathering the assets: the role of liquidation 591

and this paves the way for liability for wrongful trading and contributing to the insolvent company’s assets by order of the court (under section 214(1)). Such use of the shadow direction concept does not make parent companies generally liable for the debts of subsidiaries but it may cover situations of wrongful trading and it looks to the realities of economic control rather than the formalities of ownership.323

The courts have dealt with the matter of parent companies as shadow directors. In Hydrodan324 it was made clear that the issue was whether the directors of a subsidiary exercise their own independent discretion and judgement and that, to prove shadow directorship, it had to be shown that the board of the subsidiary did not exercise this discretion and judgement but acted in accordance with the directions of the parent company. A broadening of approach can be discerned in Deverell325 where, in the Court of Appeal, Morritt LJ suggested inter alia that the fact that the board of directors may be characterised as subservient clearly indicates the existence of a shadow directorship.326 Deverell thus opens the door to the liability of a parent company to a subservient subsidiary’s creditors, but there are limitations to this remedy. As noted, it only applies where wrongful trading is established and, second, it looks to instances in which the parent board dominates the subsidiary board as a matter of governance. Whether it will cover situations where the companies are commercially linked but are formally and managerially independent is far less certain.327

It is noteworthy that Cork declined to recommend that a holding company be liable for an insolvent subsidiary company’s debts.328 Some of the Committee favoured the radical view (that the parent company should always be liable) and other members of the Committee favoured the New Zealand discretionary approach. Cork, however, drew back from making a recommendation because of anticipated effects on entrepreneurship, difficulties of apportioning liability, potential impacts on long-term existing creditors and other ramifications

323See Collins, ‘Ascription of Legal Responsibility’, p. 741, who argues that the concept opens the possibility of offering a powerful response to the ‘capital boundary problem’.

324Re Hydrodan (Corby) Ltd [1994] BCC 161.

325Secretary of State for Trade and Industry v. Deverell [2000] 2 WLR 907, [2000] BCC 1057.

326[2000] 2 WLR 907 at 919–20.

327See Collins, ‘Ascription of Legal Responsibility’, p. 742. See also J. Payne, ‘Casting Light into the Shadows: Secretary of State for Trade and Industry v. Deverell’ (2001) 22 Co. Law. 90; D. Milman, ‘A Fresh Light on Shadow Directors’ [2000] Ins. Law. 171.

328See the discussion in Ferran, Company Law and Corporate Finance, pp. 39–40.

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outside insolvency: notably that the directors of a parent company would have to have regard for not only the interests of that company but also the interests of other group companies. Such matters were so important, said Cork, that a wide review covering company and insolvency law issues was needed.329 The response to the point concerning a widening of directors’ duties, of course, may be that the directors of parent companies now possess such extensive powers to influence subsidiaries by methods of such extremely low transparency that such a broadening of directors’ obligations could be healthy.

A further method of making holding company assets available to creditors in subsidiaries is the proposal discussed by the CLRSG in 2000.330 In the mooted ‘elective regime’ the parent company would guarantee the liabilities of the subsidiary and would satisfy certain publicity requirements. The subsidiary, in return, would be exempted from Companies Act requirements relating to annual accounts and audit. By 2001, however, the CLRSG had been convinced by consultees that there was no solid case for ‘the elective regime’.331 Concerns were expressed to the CLRSG about the regime’s low potential to reduce burdens on groups significantly.332 Further worries were that the proposed regime would offer little help to the creditors of subsidiaries since parents could ‘ringfence’ valuable assets in subsidiaries kept out of the elective regime; and that the requirement that electing subsidiaries must be ‘wholly owned’ provided a way of evading the bite of the parental guarantee.333 It could, additionally, be objected that the regime could be abandoned by parental rescinding and that it did not pool the assets of the group for the benefit of the claimants, but only the assets of the parent, which may not amount to much if the parent is not asset-rich (perhaps because it had removed assets offshore).334 The proposal would, moreover, involve an unacceptable loss of publicly available information at the individual company

329 Cork Report, paras. 1951–2. 330 See CLRSG, Completing the Structure, ch. 10.

331CLRSG, Final Report, 2001, pp. 179–80.

332The requirements of HMRC would still have to be satisfied and this diminishes the reductions of costs that the elective regime offers: see A. Boyle, ‘The Company Law Review and Group Reform’ (2002) 23 Co. Law. 35. Assessment of risk would also still be necessary despite a guarantee of liabilities since there are residual risks of the parent company. For creditors of subsidiaries analysing parent company risks may be complex and time-consuming.

333See Boyle, ‘Company Law Review’, p. 36.

334See Muchlinski, ‘Holding Multinationals to Account’.

gathering the assets: the role of liquidation 593

level and would distance the creditors of a subsidiary from the information that they need in order to assess risks.

A third canvassed response335 to the difficulties faced by group creditors is to develop the concept of duties of dominant shareholders. Thus it has been suggested that a dominant shareholder (the parent company) should owe fiduciary duties (of loyalty and fairness) to its subsidiary and other subordinated companies and that the dominant parent should have the burden of proving that transactions with the dominated company are fair, unless those transactions have been authorised by ‘disinterested’ shareholders.336

All the above suggestions are designed to reduce the unfairnesses that stem from the facility with which the directors of a parent company can shift risks to the creditors of a subsidiary. The broad objections to this ‘family’ of proposals are that they would interfere unwarrantably with directors’ managerial freedoms, would violate the separate entity principle, would stifle enterprise and would create uncertainty – that it is better to tolerate present unfairnesses than to escalate overall costs very substantially in pursuit of fairness.337 This seems, however, no answer to the case for subordinating parent company debts to other debts. That case is based on the unfairness of allowing companies who control subsidiaries to prove for debts alongside other creditors of the subsidiary. The strategic and informational advantages enjoyed by the parent company are adequate compensation for subordination. As far as consolidation is concerned, the least legally uncertain proposal is the radical one – that a parent company should automatically be responsible for the liabilities of a subsidiary. It might be argued, however, that practical uncertainties would raise capital costs unduly. Objectors would contend that a

335One posited as building on US Principles of Corporate Governance, American Law Institute, Draft No. 5 (1986).

336See A. Tunc, ‘The Fiduciary Duties of a Dominant Shareholder’ in Schmitthoff and Wooldridge, Groups of Companies. See also M. Lower, ‘Good Faith and the Partly Owned Subsidiary’ [2000] JBL 232. On the ‘unfair prejudice’ remedy under the (then) s. 459 of the Companies Act 1985 (now Companies Act 2006 s. 994) (which allows (minority) shareholders to petition the court for relief when the company’s affairs are

being conducted in a manner that unfairly prejudices their interests) and the treating of conduct within the subsidiary as within the affairs of the parent company for s. 459 purposes, see Gross v. Rackind [2004] EWCA Civ 815 and R. Goddard and H. Hirt, ‘Section 459 and Corporate Groups’ [2005] JBL 247.

337 See, for example, the Law Council of Australia objections discussed by Austin, ‘Corporate Groups’, p. 86 and by J. O’Donovan, ‘Group Therapies for Group Insolvencies’ in Gillooly, Law Relating to Corporate Groups.

594 gathering and distributing the assets

welcome effect of limited liability is that the suppliers of credit know the risks they face, they know that these risks are limited and so are induced to lend on reasonable rates. Shareholders and creditors benefit by the certainties generated.338 If parent groups are liable for subsidiaries, it could be said, such benefits of limited liability are undermined because it is difficult to assess risks across groups.

This argument can, however, be overstated. The shareholders of the parent company will still be shielded from personal liability by the limited liability that they enjoy.339 It is true that inefficiencies are caused by the uncertainties that flow from the complexities of risk assessments within groups. These do have to be paid for, but non-liability of the parent company for its subsidiaries creates perhaps greater overall uncertainties through incentives to produce poor information flows to lenders to the group.340 Those lenders will charge rates that reflect uncertainties. Directors of parent companies that are not liable for subsidiaries will perhaps not be too worried: they will consider the balance between the higher capital costs they face across the group (due to the nervousness of lenders to group subsidiaries) and their ability to offload risks onto the creditors of subsidiaries, notably trade creditors. The banks lending to the parent company may not be very concerned either because they will have confidence that insolvency risks are being shifted away from the parent company to the subsidiary and its creditors. Such powerful decision-makers are likely, accordingly, to favour a regime that is highly uncertain and high cost, provided that other parties (the unsecured creditors of subsidiaries) are bearing those costs. Those other parties, however, would be unlikely to welcome such a system.

The advantage of making the parent company liable is that its managers may be induced to take risks responsibly and the parties bearing the risks will be those that are best informed and best able to control the flow of finances. Where the parent is not liable, its managers will be prone to engage in excessive risk taking because they can shift risks to subsidiaries.341 Indeed, without the liability of the parent, the managers of a subsidiary may also take excessive risks because they may be confident of relocation to another company within the group that has benefited from

338See Posner, ‘Rights of Creditors’, pp. 501–3.

339See Ferran, Company Law and Corporate Finance, p. 32.

340See Landers, ‘Another Word on Parents’, p. 539: ‘the present system effectively rewards owners who can hide from public view’.

341See P. Blumberg, The Multinational Challenge to Corporation Law: The Search for a New Corporate Personality (Oxford University Press, New York, 1993) p. 134.

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the excessive risk bearing of the first subsidiary.342 The creditors and the directors of the parent company will be more efficient risk bearers than the creditors of subsidiaries because the former have far better levels of information. Posner objects to the parent company liability approach on the grounds that lenders to the parent company will have to investigate the creditworthiness of the group’s subsidiaries343 but (given their access to group information) it is easier and cheaper for them to do this than for the subsidiary’s trade creditors to review the whole group’s financial risks. General levels of uncertainty, moreover, are likely to be lower where the parent company is liable because the broad incentives favour openness and transparency rather than manipulation and secrecy. Apart from anything else, parent company liability would reduce the tendency to construct massively complex group corporate structures for nonproductive reasons (for example, to avoid regulatory obligations or to create ‘dump’ subsidiaries).344 The answer to Posner, in short, is not that a parent company is losing its limited liability advantages but that it is retaining these and losing its facility to shift risks unfairly – losing the subsidy to entrepreneurship that is now being paid for by the creditors of insolvent subsidiary companies.

The case for parent company liability, accordingly, seems strong but, as has been seen above, such a radical reform is politically unlikely.345 A discretionary regime is more likely to be introduced but it is more vulnerable to attacks for uncertainty. Lenders to companies within the group are liable to charge rates that reflect the difficulties of assessing when and whether the courts will impose liability on the parent company. One proposed solution to this problem is to exempt the parent company from such potential liability where subsidiaries are specified: ‘provided that those subsidiaries are financially managed in a manner which segregates their assets and liabilities from the assets and liabilities of the rest of the group and that the segregation is documented in a manner that would permit a liquidator to trace the assets affected by

342F. H. Easterbrook and D. R. Fischel, The Economic Structure of Corporate Law (Harvard University Press, Cambridge, Mass., 1991) pp. 56–7.

343Posner, ‘Rights of Creditors’, p. 517.

344See further Hadden, ‘Regulating Corporate Groups’.

345See Milman, ‘Groups of Companies’, p. 231, and pp. 592–3 above. In December 2006, however, UNCITRAL (Working Group V) commenced consideration of the treatment of corporate groups in insolvency. At the time of writing, this work is still under way: see UNCITRAL Annotated Provisional Agenda for the 34th Session of Working Group V (Insolvency Law) March 2008.