Reductions of capital

Q 213: Where a private company undertakes a solvency statement reduction, is it possible to

adapt the wording of the solvency statement?

No. As seen in Q&A 210, where a private company seeks to reduce its capital using the solvency statement
procedure in CA 2006, each of its directors is required to make a statement giving prescribed opinions as to
the company’s solvency.

The solvency statement should mirror the prescribed wording set out in s 643(1) CA 2006 and not vary or add
to the wording, nor qualify it in any way. This was confirmed by the former Department of Trade and Industry
when consulting on the implementation of CA 2006 , which commented that: ‘it is intended that the solvency
statement should not contain extraneous information which is unhelpful to the company’s members or other
persons who may have cause to examine it (for example, creditors searching the public register). It will not, for
example, be permissible to qualify the solvency statement in any way’: paragraph 2.175 Implementation of the
Companies Act 2006: Chapter 2 [URN 07/666b] (source: The National Archives).

This means that companies should not attempt to adapt the solvency statement better to fit their
circumstances: if it cannot be given in the prescribed form, it should not be given at all.

One example of where questions have arisen in practice regarding adapting the solvency statement is in the
context of the prescribed wording in s 643(1)(b)(i) (which requires the directors to give an opinion as to the
company’s ability to discharge its debts where it is intended to commence the winding up of the company
within the next 12 months). Any such adaptation is impermissible (as seen above) and is, in any event,
unnecessary (see Q&A 217).

Q 214: What is the nature of the opinions the directors must give where a private company
undertakes a solvency statement reduction?

As seen in Q&A 210, where a private company undertakes a solvency statement reduction each of its
directors is required under s 643(1) CA 2006 to make a statement giving prescribed opinions as to the
company’s solvency. In broad terms, s 643(1) can be described as imposing both a ‘ balance sheet test’ and a
‘cash flow test’ as to the company’s solvency where the company is not proposed to be wound up within a
period of 12 months from the date of the making of the solvency statement, and ‘now and then’ solvency tests
when a winding up is so proposed.

Opinion required by s 643(1)(a)

The ‘balance sheet test’ is required by s 643(1)(a) in both cases. This requires the directors to state that each
of them: ‘has formed the opinion, as regards the company’s situation at the date of the statement, that there is
no ground on which the company could then be found to be unable to pay (or otherwise discharge) its debts’.

In practice this will involve the directors assessing, at the date of the solvency statement, the relative values of
the company’s assets and liabilities (including contingent and prospective liabilities) in a similar way to the
‘balance sheet test’ in s 123(2) IA 1986 (clarified by the decision of the Supreme Court in BNY Corporate
Trustee Services Ltd v Eurosail-UK 2007-3BL plc [2013] UKSC 28 ). However, the test imposed by s 643(1)(a)
is broader because it does not refer to this calculation, but instead requires the directors to be satisfied that
there is no ground on which the company could be found unable to discharge its debts at the relevant date.
This means that the directors must look at the company’s solvency in the round and satisfy themselves that
the company will be able to meet its obligations as at that date.

At first instance in BTI 2014 LLC v Sequana SA [2016] EWHC 1686 (Ch) (see Q&A 211), the claimants

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argued that the reference to ‘no ground’ in s 643(1)(a) required the directors to form the opinion that there was
no basis, even assuming a worst case scenario, for concluding that the company is unable to pay its debts.
However, Rose J held that any such test would be unworkable and would render the solvency statement
procedure unusable in most cases. It would require the directors to go through every contingent or prospective
liability facing the company, work out (and attempt to put a value on) the worst case scenario and then
measure the company’s assets against that figure. Instead, Rose J’s view was that: “the opinion that the
directors must form is not whether, if calamity were to strike on some or all fronts, the company might be
unable to pay its debts nor is it whether the court would have jurisdiction to wind up the company under [s 123
IA 1986] on a petition issued on the day the solvency statement was signed. The test is not a technical one
but a straightforward one applying the words of the section. The directors must look at the situation of the
company at the date of the statement and, taking into account contingent or prospective liabilities, form an
opinion as to whether the company is unable to pay its debts”.

In LRH Services Ltd (in liquidation) v Trew [2018] EWHC 600 (Ch) , HHJ David Cooke was content to apply a
similar approach to that in Sequana (see Q&A 211). Although expert accountancy evidence was given, HHJ
David Cooke found this of limited assistance on the basis that it largely consisted of the experts’ views on the
legal standards applicable under CA 2006 and reported cases, issues which were for the court to determine.

Opinion required by s 643(1)(b)

It will not be sufficient for the directors to make a valid solvency statement having regard solely to the
company’s position at the date of the statement. As seen in Q&A 210, other than in a case where it is intended
to wind up the company, s 643(1)(b) requires a further statement that, as at the date of the statement, each of
the directors has also formed the opinion that the company will be able to pay (or otherwise discharge) its
debts as they fall due during the year immediately following that date (s 643(1)(b)(ii)). Therefore, in addition to
analysing the ability of the company to discharge its debts at the date of the solvency statement, the directors
will need to look at the anticipated income and expenditure of the company for the 12-month period following
the making of the statement. Q&A 215 considers whether the directors need to take account of any longer
period.

This test is modified where it is intended to commence the winding up of the company within 12 months of the
date of the solvency statement: in that case the statement required is that the company will be able to pay (or
otherwise discharge) its debts in full within 12 months of the commencement of the winding up. The
application of this test is considered in Q&A 216.

For discussion of the balance sheet and cash-flow bases of solvency and the test that applies under s 123 IA
1986 see Introduction to insolvency procedures, Q&A here .

Q 226: When will directors of a private company undertaking a solvency statement reduction be
treated as not having made the solvency statement on reasonable grounds?

As seen in Q&A 208, s 643 CA 2006 sets out certain requirements as to the form and content of the solvency
statement made by the directors of a private company undertaking a solvency statement reduction. S 643(4)
provides that if the directors make a solvency statement without having reasonable grounds for the opinions
expressed in it, and the statement is delivered to the registrar of companies, an offence is committed by every
director who is in default (see Q&A 224).

Although reasonable grounds for the opinions given may not be a requirement of s 643(1) going to the validity
of the solvency statement (see Q&A 231), the fact that this forms part of the test for commission of the offence
in s 643(4) means that, in practice, the directors must ensure that they have reasonable grounds for giving
their opinions in order to avoid committing the offence (and/or liability for breach of duty). This imposes an
objective test: not by reference to what the directors believe are reasonable grounds but by reference to what
are, on an objective basis, reasonable grounds.

In the editors’ view, the test contains two elements:

(a) the exercise undertaken by the directors to reach their conclusions must be objectively reasonable (see
Q&A 227); and

(b) the conclusions reached by the directors must be objectively reasonable (see Q&A 228).

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Thus, the directors must adopt an objectively reasonable process to determine whether they can make a
solvency statement in accordance with s 643, and must then apply the information they have gathered from
that process in an objectively reasonable way in reaching their conclusions.

Q&A 229 looks at whether the directors need to obtain an auditor’s report on the opinions expressed in the
solvency statement.

Q&A 230 considers the extent to which directors should document the investigations they carry out in forming
the opinions given in the solvency statement.

Q 229: Must directors of a private company undertaking a solvency statement reduction obtain
an auditor’s report on the opinions expressed in the solvency statement?

No. Where a private company undertakes a solvency statement reduction there is no requirement under
Chapter 10 Part 17 CA 2006 for the company’s auditor to report on the opinions expressed by the directors in
the solvency statement (see Solvency statement: form ).

As seen in Q&A 196, this is in contrast to the position as regards a purchase of own shares out of capital. In
those circumstances, the directors’ statement as to the company’s solvency required by s 714 CA 2006 must
have annexed to it a report by the company’s auditor confirming various matters, including that the auditor is
not aware of anything to indicate that the opinion expressed by the directors in their statement is unreasonable
in all the circumstances.

In certain circumstances, directors making a solvency statement in accordance with s 643 CA 2006 may wish
to seek third party advice (for example, from their auditor or another adviser) on the steps undertaken in
forming their opinions and the conclusions they have reached. Whether this will be appropriate will depend
upon the circumstances, in particular the company’s financial and trading position and the directors’
confidence in their conclusions.

The CLLS Company Law Committee has commented on this (and other aspects of the solvency statement
procedure) in its Memorandum on Reductions of Capital Supported by a Solvency Statement (available from
the CLLS website). In the Memorandum, the CLC notes in relation to the obtaining of independent third party
advice that: ‘Where directors give proper instructions and take account of the advice or comfort received that is
likely to be helpful in showing that the directors had reasonable grounds for their opinions.’ However, the CLC
believes that if the directors do not obtain such advice, ‘this will not necessarily prevent the directors from
demonstrating that they have reasonable grounds for the opinions expressed’. In the editors’ view, the
approach taken by the CLC is correct.

Q 230: How should directors of a private company undertaking a solvency statement reduction
document their grounds for making the solvency statement?

As seen in Q&A 224, s 643(4) CA 2006 provides that if the directors of a private company undertaking a
solvency statement reduction make a solvency statement without having reasonable grounds for the opinions
expressed in it, and the statement is delivered to the registrar of companies, an offence is committed by every
director who is in default.

The prescribed form of the solvency statement itself contains no analysis of the process undertaken by the
directors in reaching the opinions required to be given (see Q&A 210).

Given the requirement that the directors have reasonable grounds for the opinions given in the solvency
statement in order to avoid committing the offence under s 643(4) (see Q&A 226) the directors should, in the
editors’ view, fully document the process they have undertaken in reaching their opinions.

This should ideally be set out in minutes of a directors’ meeting or associated documentation (for example, a
board briefing paper). This should also summarise the obligations of the company and its directors under
Chapter 10 Part 17 CA 2006 and set out both the process the directors have undertaken to comply with these
obligations and the key grounds for the opinions given in the solvency statement.

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Glossary

balance sheet an accounting document that states the assets and liabilities of a company, or of a
group of companies, as at a particular date (also known as a ‘statement of financial
position’)

CA 2006 Companies Act 2006

CLLS City of London Law Society

IA 1986 Insolvency Act 1986

solvency a reduction of capital by a private company limited by shares by special resolution

statement supported by a solvency statement under Chapter 10 Part 17 CA 2006
reduction

UK United Kingdom of Great Britain and Northern Ireland

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