Not a wind up?! - Sheriff Court confirms proper basis for liquidation petitions against debtor companies

A recent decision of the Commercial Sheriff Court at Perth in the case of Priority Construction UK Limited v Advanced Material Processing Limited, reported at [2024] SC PER 48, has confirmed the position in relation to the proper basis for liquidation petitions to be brought against debtor companies. The moral of this story is that liquidation petitions should not be used to try to recover a validly disputed debt - something that all creditors and practitioners should be alert to.

The facts 

The case concerned a contract between the parties for construction at a landfill site. Priority Construction UK Limited, appointed Advanced Material Processing Limited to conduct excavation works at the site, specifically in relation to the crushing and processing of excavated rock.

Advanced Material submitted two invoices to Priority Construction dated July 2020 and August 2020 seeking payment for the crushing and processing of the rock. The first invoice was paid, but Priority Construction explained that the second invoice, in the sum of £59,199.30, was disputed. The dispute - notified in writing on 20 November 2020 - concerned the calculation of the volume and weight of the rock claimed to have been processed. On 2 December 2020, Advanced Material presented a liquidation petition at Edinburgh Sheriff Court, to wind up Priority Construction on the basis that Advanced Material was a creditor of Priority Construction in respect of the sum of £58,608.71. This figure later proved to be wrong due to a credit issued prior to presentation of the liquidation petition. 

Advanced Material relied upon section 123(1)(e) of the Insolvency Act 1986, as the basis for the liquidation petition and explained that, by failing to pay the overdue invoice, Priority Construction was unable to pay its debts as they fell due.

Following service of the liquidation petition, there was an exchange of correspondence between the respective parties' solicitors, as follows: -

1. Priority Construction confirmed that the sum claimed by Advanced Material was disputed and requested that the petition be dismissed without advertisement. Advertising the petition would, of course, put the world at large on notice of the liquidation petition and could have caused problems with banks and other creditors who may - perhaps not unreasonably - take the view that a company who has had a liquidation petition advertised is in a degree of financial distress.
2. In response, Advanced Material - via their solicitor - said that they'd advertise the petition unless full payment was made.
3. Priority Construction then offered payment of the second invoice in full, plus ten days' interest, on the condition that Advanced Material agreed to dismiss the liquidation petition and did not seek to advertise the petition. In making this offer, it was made clear that Priority Construction still contended that the debt was disputed, and payment was offered despite that, with an express reservation of Priority Construction's right to seek recovery of the payment thereafter.
4. Advanced Material accepted this offer so long as their expenses were also paid. This was agreed between the parties and a total payment of £60,335.51 was ultimately made to Advanced Material and the liquidation petition was dismissed without advertisement. 

Priority Construction subsequently raised an action against Advanced Material seeking repayment of the sum of £60,335.51 it had paid to Advanced Material. The action was raised on the basis of unjust enrichment. To succeed in this action, Priority Construction required to show:

1. That Advanced Material had been enriched at the Priority Construction's expense;
2. That there was no legal basis for that enrichment; and
3. That it would be equitable to compel Advanced Material to redress the enrichment.

The decision

In his decision, the Sheriff found that on presenting the liquidation petition, Advanced Material knew:

1. Priority Construction disputed the sum sought in the petition;
2. Priority Construction had provided information as to the basis of the dispute; and
3. Priority Construction did not owe the sum stated in the petition due to the credit note having been issued by Advanced Material prior to the petition being lodged. 

Ultimately, after proof, when evidence was heard and significant consideration was given as to the correct way to calculate the weight and volume of rock, Priority Construction was successful and the Sheriff ordered Advanced Material to return the payment of the second invoice to the pursuer in full, together with the expenses of the liquidation petition, which had already been paid at Advanced Material's request.

Comment 

The Sheriff was critical of Advanced Material's tactical approach to try to secure payment by proceeding with a liquidation petition. 

Importantly, the Sheriff confirmed that "A winding up petition is not the process in which to establish a company's liability to pay a debt disputed in good faith and on substantial grounds." 

He also expressly noted that  "A winding up petition is not a normal legal process, such as an action for payment…The Courts recognise that disruption and damage may be caused to a company's business by presenting and advertising a winding up petition, and there is the need to ensure that this potential damage is not used by a petitioner to apply commercial pressure to obtain payment of a disputed debt."

In coming to his decision, the sheriff noted that Advanced Material lodged the liquidation petition when it was aware that Priority Construction disputed the second invoice. There was no evidence that Priority Construction was unable to pay their debts as they fell due, as is the test set out in 123(1)(e) of the Insolvency Act 1986 and the basis on which the liquidation petition was presented. The Sheriff was also critical of the "speedy lodging" of the winding up petition and the fact that it could have been perceived as having been done to apply commercial pressure on Priority Construction. 

It has long since been considered in Scotland, that to present a liquidation petition on the basis of a disputed debt could amount to an abuse of process and this decision serves to affirm that position. Practitioners - and creditors - should be aware and steer clear of liquidation processes when the debt is disputed on more than flimsy grounds.