The issue in the appeal was whether in the case there might have been an unlawful distribution of capital when the appellant company, Progress Property Company Ltd (“PPC”), sold the whole issued share capital of a wholly-owned subsidiary, YMS Properties (No. 1) Ltd (“YMS1”) to another company, Moorgarth Group Ltd (“Moorgarth”). All these companies were indirectly controlled by Dr Cristo Wiese, a South African investor. The transaction between PPC and Moorgarth was vigorously attacked by the appellant PPC on the ground that it was at an undervalue.
YMS1, a company whose net assets might on PPC’s most ambitious case had been worth as much as £4m, was sold for little more than £60,000.
PPC alleged that there was a huge undervaluation. It suggested that the circumstances were such as to call for close enquiry; and the deputy judge enquired into them closely in the course of a fourteen-day trial. He dismissed the action on the basis that it could not succeed even if there had been an unintentional sale at an undervalue, and even if Mr Moore was in breach of duty in failing to recognise it.
The Court of Appeal  EWCA Civ 629,  1 BCLC 1 unanimously upheld the deputy judge’s dismissal of the action. In doing so it held that there was no dispute before the deputy judge that Mr Moore genuinely believed that the price of the shares in YMS1 sold by PPC to Moorgarth was their market value. It was not alleged that there was any intention on his part to prefer Moorgarth or to commit a fraud on the creditors of PPC. He acted in the honest belief that the sale of the shares in YMS1 was a commercial transaction.
PPC’s case, as finally formulated at first instance, relied not on section 263 of the Companies Act 1985 (now replaced by sections 829 and 830 of the Companies Act 2006) but on the common law rule which was devised for the protection of the creditors of a company. As per the rule, a distribution of a company’s assets to a shareholder, except in accordance with specific statutory procedures, such as a winding up of the company, was a return of capital, which was unlawful and ultra vires the company. The essential issue was how the sale by PPC of its shareholding in YMS was to be characterised. The deputy judge roundly rejected the submission made on behalf of PPC that there was an unlawful return of capital whenever the company has entered into a transaction with a shareholder which results in a transfer of value not covered by distributable profits, and regardless of the purpose of the transaction. A relentlessly objective rule of that sort would be oppressive and unworkable. It would tend to cast doubt on any transaction between a company and a shareholder, even if negotiated at arm’s length and in perfect good faith, whenever the company proved, with hindsight, to have got significantly the worse of the transaction. In the Court of Appeal Mummery LJ developed the deputy judge’s line of
thought into a more rounded conclusion and held that in this case the deputy judge noted that it had been accepted by PPC that the sale was entered into in the belief on the part of the director, Mr Moore, that the agreed price was at market value. In those circumstances there was no knowledge or intention that the shares should be disposed of at an undervalue. There was no reason to doubt the genuineness of the transaction as a commercial sale of the YMS1 shares.
In seeking to undermine that conclusion PPC argued strenuously that an objective approach was called for, but the Supreme Court held that if there were a stark choice between a subjective and an objective approach, the least unsatisfactory choice would be to opt for the latter. But in cases of this sort the court’s real task was to inquire into the true purpose and substance of the impugned transaction.
The Supreme Court held that if a company sell to a shareholder at a low value assets which were difficult to value precisely, but which were potentially very valuable, the transaction may call for close scrutiny, and the company’s financial position, and the actual motives and intentions of the directors, would be highly relevant. If after considering all relevant circumstances the conclusion was that it was a genuine arm’s length transaction then it will stand, even if it may, with hindsight, appear to have been a bad bargain. But if it was an improper attempt to extract value by the pretence of an arm’s length sale, then it will be held unlawful. But either conclusion would depend on a realistic assessment of all the relevant facts, not simply a retrospective valuation exercise in isolation from all other inquiries.
The Supreme Court finally held that in this case as there were concurrent findings that the sale of YMS1 to Moorgarth was a genuine commercial sale, it dismissed the appeal.