MENA BLR - Shareholder Bankruptcy Judgment

Oct 26, 2020

A Strict Approach by the Court of Appeal on the Bankruptcy of Shareholders in a Limited Liability Company

By: Sarrah ElJaili, Associate

In a recent judgment, the Qatari Court of Appeal set a high threshold for declaring individuals in a limited liability company bankrupt as a result of the company’s inability to pay its debt. The Court of Appeal utilised a strict approach in the application of the relevant legal provisions in this regard.

By way of background, in 2015, a dispute arose between two limited liability companies in respect of a construction project which was resolved through arbitration under the administration of the Qatar International Center for Conciliation and Arbitration of Qatar Chamber of Commerce and Industry (“QICCA”). In April 2016, a final award was issued for QAR 65 million (the “QICCA Award”) in favour of the subcontractor (the “Award Creditor”) and against the main contractor for the project (the “Award Debtor”).

The Award Creditor filed an enforcement case before the Qatari courts to enforce the QICCA Award. Throughout the enforcement process, it appeared that the Award Debtor’s bank accounts did not have sufficient funds to cover the awarded amount. Therefore, the Award Creditor filed a bankruptcy case against the Award Debtor, as well as two individual shareholders of the Award Debtor, who were also the authorized signatories for the Award Debtor (the “Shareholders”). The Award Creditor cited Article 731(1) of Law No. 27 of 2006 on the Commercial Code (the “Commercial Code”) as the basis of the bankruptcy application against the Shareholders, which states that “Where a petition of bankruptcy of a company is submitted, the court may, in addition to declaring the company bankrupt, decide the same in respect of each person who carries out commercial activities for his own account under the cover of such company and disposes/uses the company’s money as his own.”

In the QICCA Award, it was established that the performance bond and the advance payment bond were both unjustly liquidated by the Award Debtor. Based on this fact, the Award Creditor initiated a criminal case for a breach of trust against the Shareholders claiming that they had liquidated the bank guarantees and used the money for personal purposes. Pursuant to this claim, one of the Shareholders who signed the subcontract on behalf of the Award Debtor, was convicted of a breach of trust by the Qatari criminal court.

On June 27, 2018, the Court of First Instance declared the company and the Shareholders bankrupt. In its reasoning, the Court relied on the circumstances surrounding the liquidation of the bonds, as established in the QICCA Award, and inferred that the Shareholders (who were managers of the company as well) had used the company’s money for their personal interests, and accordingly found that the requirements under Article 731 to have been sufficiently met. Furthermore, the Court stated that the lack of funds in the Award Debtor’s bank accounts was supportive of the conclusion that the Shareholders had utilized the company’s funds for personal purposes.

The Shareholders challenged the judgment before the Court of Appeal. On July 8, 2020, the Court of Appeal overturned the Court of First Instance’s judgment in respect of the bankruptcy of the Shareholders. In its reasoning, the Court of Appeal noted that there was no evidence as to the particular fact that any amounts were transferred from the company’s bank accounts to the Shareholders’ personal accounts. Further, the Court of Appeal stated that as the liquidation of the bonds occurred during the performance of the subcontract works in 2013, it is presumed that the liquidation was for the purposes of the subcontract works. Therefore, there was no basis for assuming bad faith on part of the Shareholders for seeking the liquidation of the bonds on behalf of the company.

However, it should be noted that the Court of Appeal did not give any weight to the criminal court’s judgment that was issued against one of the Shareholders (being the manager who signed the subcontract on behalf of the Award Debtor), despite that the judgment stood as evidence of bad faith.

Although the Court of Appeal’s judgment was correct at emphasizing on the strict requirements for the application of Article 731 of the Commercial Code and maintaining the presumption of good faith, the Court of Appeal was mistaken as it did not investigate the facts that were not investigated by the Court of First Instance. In other words, the Court of Appeal only condemned the Court of First Instance for deciding bankruptcy based on insufficient facts, while it should have conducted a further factual investigation instead. It is likely that the matter will be taken further to the Court of Cassation.

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