Marra Developments Ltd v B W Rofe Pty Ltd

[1977] 2 NSWLR 616
3 ACLR 185

---

(Judgment by: HUTLEY JA)

Marra Developments Ltd
v B W Rofe Pty Ltd

Court:

Judges: Moffitt P
Hutley JA
Mahoney JA

Subject References:
Companies
Dividend declared out of profits earned
Before dividend paid, assets written down and accumulated profits reserve, but not retained earnings reserve, written off
Dividend a debt immediately due and payable by company to shareholder
Statutory enactment that 'no dividend - be payable - except out of profits' no defence to shareholder's action against company

Legislative References:
Companies Act 1961 - section 376

Case References:
Ammonia Soda Co Ltd v Chamberlain - [1918] 1 Ch 266
Archibald Howie Pty Ltd v Commissioner of Stamp Duties (NSW) - (1948) 77 CLR 143
Re, Artisans' Land and Mortgage Corporation - [1904] 1 Ch 796
Re, Associated Electronic Services Pty Ltd (In Voluntary Liquidation) - [1965] Qd R 36
Australasian Oil Exploration Ltd v Lachberg - (1958) 101 CLR 119
Re, Barrow Haematite Steel Co - [1900] 2 Ch 846; [1901] 2 Ch 746
Blackburn v Industrial Equity Ltd - (1977) 385 ACLC 29; (1977) 52 ALJR 89
Bond v Barrow Haematite Steel Co - [1902] 1 Ch 353
Re, Bridgewater Navigation Co - [1891] 2 Ch 317
Chancery Lane Safe Deposit and Offices Co Ltd v Inland Revenue Commissioners - [1966] AC 85
Dickson v Federal Commissioner of Taxation - (1940) 62 CLR 687
Dimbula Valley (Ceylon) Tea Co Ltd v Laurie - [1961] Ch 353
Dovey v Cory - [1901] AC 477
Exchange Banking Co Re; Flitcroft's Case - [1882] 21 Ch D 519
Federal Commissioner of Taxation v Miller Anderson Ltd - (1946) 73 CLR 341
Gibb v Federal Commissioner of Taxation - (1966) 118 CLR 628
Glenville Pastoral Co Pty Ltd (In Liq) v Commissioner of Taxation - (1963) 109 CLR 199
Re, Hoare & Co Ltd and Reduced - [1904] 2 Ch 208
Industrial Equity Ltd v Blackburn - (1977) 52 ALJR 89
James v Eve - (1873) LR 6 HL 335
Lagunas Nitrate Co Ltd v Schroeder and Co and Schmidt - (1901) 85 LT 22
Latilla v Inland Revenue Commissioners - [1943] AC 377
Lee v Neuchatel Asphalte Co - [1889] 41 Ch D 1
Lucas v Fitzgerald - (1903) 20 TLR 16
McBride v Hudson - (1962) 107 CLR 604
Marra Developments Ltd v B W Rofe Pty Ltd - [1977] 1 NSWLR 162
Massy v Lloyd - (1863) 10 HL Gas 248; [1863] 11 ER 1021
Meares v Acting Federal Commissioner of Taxation - (1918) 24 CLR 369
Nadir Pty Ltd v Federal Commissioner of Taxation - (1973) 129 CLR 595
Russell v Town and County Bank Ltd - [1888] 13 App Cas 418
Re, Severn and Wye and Severn Bridge Railway Co - [1896] 1 Ch 559
Re, Spanish Prospecting Co Ltd - [1911] 1 Ch 92
Stapley v Read Brothers Ltd - [1924] 2 Ch 1
Re, Sydney Permanent Freehold Land and Building Co Ltd - (1932) 51 WN (NSW) 146
Trevor v Whitworth - [1887] 12 App Cas 409
Verner v General and Commercial Investment Trust - [1894] 2 Ch 239
Wall v London and Provincial Trust Ltd - [1920] 1 Ch 45; [1920] 2 Ch 582
Webb v Australian Deposit and Mortgage Bank Ltd - (1910) 11 CLR 223
Westburn Sugar Refineries Ltd v Inland Revenue Commissioners - (1960) 39 TC 45
Blackburn v Industrial Equity Ltd (Needham J) - (1976) 2 ACLR 8 (CA)
Case G15 (No 2 Board of Review) - 75 ATC 81
Commissioner of Taxation (NSW) v Hardie Investments Pty Ltd - (1946) 73 CLR 490
Federal Commissioner of Taxation v Blakely - (1951) 82 CLR 388
Federal Commissioner of Taxation v Uther - (1965) 112 CLR 630
Hill v Permanent Trustee Co of New South Wales - [1930] AC 720
Re, National Bank of Wales Ltd - [1899] 2 Ch 629
Potel v Inland Revenue Commissioners - [1971] 2 All ER 504
Wallaroo & Moonta Mining & Smelting Co Ltd v Commissioner of Taxes - [1907] SALR 64
Warren v Federal Commissioner of Taxation - (1959) 101 CLR 162

Hearing date: August 3 - 5
Judgment date: 12 December 1977

---

Judgment by:
HUTLEY JA

This is an appeal from the judgment of Sheppard J. in proceedings for declarations: see Marra Developments Ltd. v. B. W. Rofe Pty. Ltd..

The appellant had issued a District Court summons on 30th April, 1976, against the respondent, claiming that the respondent was indebted to it in the sum of $5,189,59, being the amount of a dividend declared with respect to its shares in the respondent on 16th December, 1974, and not paid. The proceedings were removed to the Supreme Court by its order on 10th June, 1976, prior to taking out of the summons on 14th July, 1976. Once removed, subject to any terms inserted in the order, the proceedings continue as an ordinary Supreme Court action.

The declarations sought were:

"(1)

A declaration as to whether in the events which have happened the plaintiff is prohibited by section 376 of the Companies Act 1961 (as amended) and/or by its Articles of Association from paying the final ordinary dividend purportedly declared at the General Meeting of the plaintiff held on 16th December 1974 to the holders of ordinary shares in the capital of the Company either:

(a)

altogether, or

(b)

until the holders of preference shares have received their entitlement pursuant to Article 3 of the Articles of Association of the plaintiff.

(2)

A declaration as to whether in the events which have happened the plaintiff has any defence to the proceedings brought by the defendant against the plaintiff in the District Court of New South Wales holden at Sydney instituted by the Statement of Liquidated Claim No. 29489 of 1976 and removed from the said District Court to this Court by order of this Court on 10th June 1976."

The declaration made was: "Declaration that the defendant is not presently entitled to payment of the ordinary dividend declared by the plaintiff in favour of ordinary shareholders on 16th December 1974."

In addition, his Honour, by consent of the parties, stood over generally the District Court proceedings, with liberty to either party to restore it to the list on seven days notice.

Though the facts appear complicated and the accounts are, the relevant facts in my view are few and undisputed, and may be summarized as follow:

(1)

The appellant was at all relevant times a shareholder of the respondent.

(2)

The respondent made trading profits for the year ended 30th June, 1974, which profits were disclosed in the accounts prepared by the company.

(3)

It was conceded that the accounts were properly prepared and the profit disclosed in them was a true profit earned by the company in its trading operations during that year or previously and available to permit a dividend to be declared.

(4)

The profit was sufficient to permit the declaration of the dividend which was in fact declared on 10th December, 1974.

(5)

The dividend became immediately due and payable by the respondent on its declaration, but was not in fact paid. It became a debt which did not bear interest against the respondent: art. 120.

(6)

The respondent, after the declaration of the dividend, re-valued its assets, with the result that their value was written down by $21,220,117, with the result that the accounts for the year ended 30th June, 1975, showed accumulated losses of $20,061,913.

(7)

The accounts for the year ended 30th June, 1976, disclosed a further deterioration of the financial position of the respondent's overall financial position.

Despite the many questions debated, the only issue for the Court is a simple and narrow one, namely, at the time the appellant sued the respondent in the district Court, had it a defence to the action for debt? The suggested defence was illegality, that is supervening illegality. As the debt came into existence, this means that the respondent must allege and prove that something occurred after the declaration of the dividend which made it illegal for it to pay the debt.

The refusal of the respondent to pay the sum sued for was based solely upon s. 376 of the Companies Act, 1961, which reads as follows:

"(1)

No dividend shall be payable to the shareholders of any company except out of profits or pursuant to section 60.

(2)

Every director or manager of a company who wilfully pays or permits to be paid any dividend out of what he knows is not profits except pursuant to section 60-

(a)

shall without prejudice to any other liability be guilty of an offence against this Act; and

(b)

shall also be liable to the creditors of the company for the amount of the debts due by the company to them respectively to the extent by which the dividends so paid have exceeded the profits and such amount may be recovered by the creditors or the liquidator suing on behalf of the creditors.

Penalty: One thousand dollars.

(3)

If the whole amount is recovered from one director or from the manager he may recover contribution against any other person liable who has directed or consented to such payment.

(4)

No liability by this section imposed on any person shall on the death of such person extend or pass to his executors or administrators nor shall the estate of any such person after his decease be made liable under this section.

(5)

In this section 'dividend' includes bonus and payment by way of bonus."

It was contended that the words "payable ... out of profits" could not be understood literally, in that the profits of a company were not a segregated fund from which something was physically extracted for the purpose of distribution. I find no difficulty in giving a literal meaning to the words. Profits of a company, for the purpose of paying a final dividend, can only be understood against the accounts which have to be laid before the company: see Companies Act, 1961, s. 162. These accounts have to disclose profits and losses, and the directors of the company have the duty to ensure that the profit and loss account gives "a true and fair view of the profit or loss of the company": s. 162 (11). When s. 376 (1) provides that no dividend shall be payable except out of profits, what it means, in relation to a final dividend, is that the laying before this company of a profit and loss account and balance sheet which truly and fairly discloses a profit out of which the dividend may be paid is a pre-condition of the shareholders acquiring any right to a dividend. Article 116 requires that this company declare dividends. Subject to the shareholders voting in favour of the directors' recommendation, there is no other condition to their right to the dividend prescribed by s. 376. The conditions having admittedly been fulfilled in this case, the dividend was payable out of profits.

The position of an interim dividend is different but, in relation to s. 376, may be similarly explained. The profits out of which it is paid may be estimated, not disclosed in a formal balance sheet or profit and loss account: Lucas v. Fitzgerald; Blackburn v. Industrial Equity Ltd. The dividend is wholly provisional and anticipates the profits to be disclosed in the final accounts. Its declaration requires that the directors form opinions that there are profits from which it can be paid. The profits from which an interim dividend is paid are profits which the directors anticipate would be disclosed when the final accounts are produced. The profits out of which it is to be paid are profits which the directors believe will be disclosed in anticipated accounts. In my opinion, s. 376 (1) can also be applied to interim dividends, with this difference-the profits only have to be disclosed in such accounts as enable the directors to form a genuine opinion that the profits out of which they will be paid will actually exist. In the case of interim dividends, there is no distinction between "payable" and "paid", as only on payment does the shareholder acquire a right: Lagunas Nitrate Co. v. Schroeder and Co. and Schmidt. Even if I am wrong in the way s. 376 (1) should be applied to interim dividends, the analysis of the way it applies to a final dividend could stand.

As it is conceded that the 1974 accounts of the respondent were true and correct, and the dividend was regularly declared in accordance with the articles of association, the company committed no breach of s. 376 (1) by declaring a dividend which it did, and as the dividend became payable on declaration, each shareholder became entitled to be paid the debt thereby created, unless this is affected by a subsequent illegality.

The argument for the respondent was that s. 376 (2) prevented the payment of the dividend, in that it operated independently of s. 376 (1). From the moment of the write-off of capital losses in 1975, it was said, it became illegal for the company to pay the dividend.

Section 376 (2) does not directly apply to the company at all, it only affects a director or manager. The distinction is not without significance. In my opinion, it may justify a director in refusing to go along with the payment of a dividend, but it does not give the company a defence. Any defence of the company must be founded on s. 376 (1). I consider that s. 376 (2) does not directly affect any of the obligations of the company to its shareholders. It does not provide any defence to the action for debt against the company. If a judgment were entered, any payment of the judgment by a director or manager would not be a payment of dividend at all, it would be a payment pursuant to a judgment. Once the shareholder has acquired a vested right, the proper construction is one which does not take it away without clear words. Section 376 (2) should, therefore, be strictly construed. This is reinforced by the fact that the subsection creates a criminal offence.

In my opinion, s. 376 (2) is wholly subordinate to s. 376 (1), and can have no operation at all in a case where there is a proper declaration of a dividend out of real profits. For a director or manager to be guilty of a breach of s. 376 (2), he must, in my opinion, know facts which show that the declaration which constitutes the title of the shareholder to the dividend infringed s. 376 (1), that is, he must know facts which would establish that there was no proper declaration of a dividend, because there were not profits, or sufficient profits, out of which the dividend could be declared. He may, after the declaration and before payment, come to know of such facts, but the facts which he must know are facts which existed during the time in respect of which the company's profits are struck. Section 376 (2), in my opinion, does not justify any director or manager refusing to pay a dividend to which a shareholder has once become entitled. What a director or manager should do if, subsequently to a declaration of a dividend but before payment, he discovers that the dividend, if paid, will not be paid out of profits, was not explored in argument. A shareholder may apply by injunction to restrain the payment of a dividend: Lee v. Neuchatel Asphalte Co.; Verner v. General and Commercial Investment Trust, or to have a declaration declared void: Blackburn v. Industrial Equity Ltd. Directors and managers may not be shareholders and may not always have the locus standi to prevent payment. As a director, except a managing director, acts only as part of a board, a director would ordinarily pay or permit the payment of a dividend out of capital by voting at a board meeting. The manager presumably would be guilty, if he failed to bring information to the board which he had pointing to the invalidity of the declaration. It is not the responsibility of each director or manager to decide whether a dividend duly declared and payable should be actually paid. The board which discovers that a dividend has been declared, when there are no profits, could cause the company to take proceedings to have the declaration of the dividend declared void, but its directors cannot, while the debt remains, select it as a debt which it does not have to pay. Its board has no power to declare its own private moratorium.

Any construction of the section which would require a director or manager to have regard to what has occurred after the period of the accounts in respect of which a dividend is declared in deciding whether to pay it would, in my opinion, lead to chaotic administration in a company. If, for example, after the declaration of the dividend but before the actual date specified in the resolution for payment, a director or manager of the company had any reason to suspect a substantial change in its profitability he would have to obtain a new set of company accounts; if the argument for the respondent were correct, this would involve a consideration of the whole structure of the company both as to capital and income. If the company had shares on the Stock Exchange in any quantity, and there was a substantial fall in their value, even though all the directors regarded the fall as based upon misleading and erroneous information, they might be compelled to withhold the payment of the dividend. As the responsibility in s. 376 (2) is individual to each director and manager, each would have to make an individual decision; and where, for example, a company had a number of directors, each with authority to sign dividend cheques, some shareholders might be paid and others not paid. It is not always possible for a company to pay its dividends to all shareholders at the one time. If a shareholders died prior to the payment of the dividend, and there was delay in the obtaining of representation of his estate, the argument for the respondent would, in my opinion, require the conclusion that that shareholder's estate would lose the right to dividends, if any subsequent losses reduced the company's assets to the extent that it could be argued that honouring the dividend cheque after the grant of representation could reduce the capital of the company. In my opinion, merely to instance these examples is to show that the proposition advanced must be misconceived.

The case was argued by counsel for the appellant upon the basis that changes in the financial structure of the company between the end of the financial year in respect of which the dividend was declared and the date of the declaration of the dividend could be considered in the application of s. 376. Suggestions that what happened in this interim period should be disregarded, he either rejected or adopted tepidly. I am of the opinion, in determining whether a dividend is payable out of profits, events between the end of the financial year and the declaration of the dividend, unless they are of a nature to demonstrate that the accounts which disclosed the profits were false (for example, the discovery that stock shown as existing in the accounts must have disappeared prior to the close of the financial year) cannot be regarded. For example, in a field where prices fluctuate rapidly, such as the mining industry (to simplify the matter assume the company does not have carry-over stocks) the declaration of a dividend based upon profits obtained from sales at very high prices surely cannot be turned into a declaration of a dividend payable not out of profits, because there has been a collapse of prices such that the production of the company between the end of the financial year and the date of the declaration of the dividend was at a loss. The declaration, in the most literal sense, would have been a declaration of a dividend payable out of profits, and it did not cease to be a declaration payable out of profits because, in respect of an entirely different period, there were crippling losses. In any event, having regard to the time that is involved in the preparation of accounts for a company, the deliberations involved in fixing a dividend and then having it declared, in my opinion, it is in respect of the period of account, and that period alone, that the question whether there are profits to enable a dividend to be declared has to be determined. When I say that period alone, I do not exclude the past history of the company, in the sense that the profit and loss account records a continuing development and has to be brought forward so that at the end of the accounting year true and proper accounts have absorbed and dealt with in various permitted ways past losses and past profits. If from the profit and loss account, or from other accounts created out of the profit and loss account, there is sufficient to permit the declaration of the dividend, the losses between the end of the financial year in which these accounts are produced cannot be used to prevent, on legal grounds, the declaration and payment of a dividend, unless the subsequent revealed losses invalidate the accounts themselves. Any other approach makes the right of a shareholder to a dividend which has been declared entirely capricious and involves conferring a power upon individual directors and managers which is contrary to one of the fundamental understandings of company law. As Pennington, Company Law, 3rd ed., says at p. 357: "An important difference between final and interim dividends is that once a final dividend has been declared, it is a debt payable to the shareholders and cannot be revoked or reduced by any subsequent action of the company; but where directors have power to pay interim dividends, their decision to do so is not a declaration of a dividend, and so can be rescinded or varied at any time before the dividend is paid."

That this is so, in my opinion, is the explanation of s. 218 (1) (g) of the Companies Act, which, in the winding up, defers sums payable to a member in his character of a member by way of dividends in competition between himself and any other creditor, not a member. The payment of a debt which originated in a dividend in most cases of winding up would necessarily involve the payment out of capital at some date prior to the winding up order; and, if the argument for the respondent were right, would have been illegal as soon as a deficiency occurred. Section 218 (1) (g) makes special provision in winding up, and it would indeed be paradoxical if this deferment provision actually provided authority for payment of something which had previously ceased to be a debt. Rather, it must be assumed that, once the dividend has become a debt, it is an ordinary debt of the company except in winding up, in which case it is a deferred debt, unless of course by reason of irregularities in the declaration itself that is declared void.

The judgment of Mason J. in Industrial Equity Ltd. v. Blackburn is not inconsistent with this analysis. His Honour was not concerned with the question here raised, whether an admittedly valid dividend can in some way cease to be payable by reason of subsequent losses.

The Court was referred to a long line of cases, beginning with Lee v. Neuchatel Asphalte Co.(10) and ending with Ammonia Soda Co. Ltd. v. Chamberlain(11), to the effect that a dividend could be declared out of current profits without the restoration of lost capital. It was pointed out that in none of these cases was the declaration of a dividend followed by capital losses, and it was contended that this was a relevant distinction. Though I consider that the suggested distinction is quite irrelevant, in my opinion, it is not necessary to deal with these issues. They would be relevant, if the issue was whether the declaration of the dividend was illegal; and it is accepted in the judgment under appeal, and conceded in the argument, that the declaration was proper.

The treatment of the sum needed to pay the dividend in the accounts of the respondent was also analysed at length. If the respondent did create a debt, which was conceded, it cannot, by anything which it does subsequently in its own accounts, touch rights of others. It is immaterial, except when it is in liquidation, that the others are its own shareholders. Accounts must accommodate themselves to rights created, not vice versa.

In my opinion, this litigation is an example of the inutility of the declaratory procedure. If the true issue had been faced, namely, was there any defence to the District Court action, the argument would have been kept within bounds, and certain of the orders below, which the respondent which had procured them accepted were unsupportable, would never have been made.

An order which suspends, pro tempore, rights which by concession have validly come into existence can only be justified by special statutory authority, for example, a Moratorium Act. If payment of the dividend had become illegal, the proceedings to enforce it should have been dismissed with costs. A declaration which suspends rights until further order is not a declaration of right pursuant to s. 75 of the Supreme Court Act, 1970. A declaration of right is a final, not an interlocutory, order, as its effect is to create a res judicata or an issue estoppel.

Proceedings for a declaration, whether there is a defence to proceedings in the court are, in my opinion, objectionable, repeating that multiplicity of proceedings reminiscent of the separation of law and equity. The issue between the parties should have been resolved in the District Court proceedings as transferred, the respondent raising any issues which it wished by way of defence. Though the parties agreed to the standing over of the District Court action, this should not have been permitted.

In my opinion, the judgment and orders below should be set aside, the summons for a declaration should be dismissed, judgment in the District Court proceedings should be entered for the appellant, the plaintiff in these latter proceedings, and the respondent should pay the costs of the hearing before Sheppard J. and the appeal.