Circumstances giving rise to a termination of a deed of company arrangement under sections 445D and 447A of the Corporations Act
Mustang Marine Australia Services Pty Ltd (admin apptd) – Perpetual Trustee Company Ltd v Mustang Marine Australia Services Pty Ltd  NSWSC 1429, Ward J, New South Wales Supreme Court, 10 December 2010
This case provides guidance on the circumstances in which a court will make an order terminating a deed of company arrangement (DOCA) under section 445D(c), (f), (g) and section 477A of the Corporations Act 2001 (Cth) (Act). Central to the decision of Ward J to make the order was that the fact that the date of insolvency was inaccurate and the information provided by the administrators in the section 439A Administrators Report (Report) was inadequate. The decision highlights that a full and thorough investigation and creditors report is required before creditors can make a fully informed decision when voting on a DOCA.
The decision also reinforces the statutory purpose of section 435A of the Act that underlies the provisions dealing with the administration of insolvent companies. In this case, Ward J considered that the DOCA could not achieve this purpose as a better return would result from a winding up.
The defendant carried on a boat building business. The business ran at a loss almost from the time of incorporation. It was funded largely by the Standard Bank of Asia Limited (SBAL), which essentially operated as shadow director of the defendant. The defendant became insolvent and a DOCA was proposed by SBAL, who became, shortly before the date of insolvency, the defendant’s largest secured creditor. The plaintiff was a creditor of the defendant, claiming outstanding monies due under a lease agreement. A meeting of the defendants’ creditors, which the plaintiff did not attend, resolved to execute a DOCA. This decision was based on the administrators’ recommendations in the Report that creditors would not receive a dividend in a winding up. The Report also dismissed any claims of insolvent trading by the defendant, its directors, or SBAL.
The plaintiff argued that the DOCA should be terminated under sections 445D(c), (f), and (g), and 447A of the Act, on the basis that the DOCA did not support the statutory purpose under section 435A of the Act because:
the defendant was insolvent at a much earlier date than calculated by the administrators;
the DOCA was oppressive, unfairly prejudicial to and unfairly discriminatory against the plaintiff or contrary to the interests of creditors as a whole, because the administrators failed to carry out a proper investigation of the company’s affairs (including to give consideration to the benefit that may be received by creditors in a winding up), and accordingly, information which could reasonably be expected to have been material to creditors voting on the DOCA was omitted from the administrators’ Report, in particular, the nature of the relationship and funding arrangement between the defendant and SBAL, and potential insolvent trading claims against the defendant, its directors, and SBAL; and
the DOCA was contrary to the public interest and commercial morality, because of the failure to investigate insolvent trading claims, and that insolvent companies should not be allowed to continue to trade on the completion of a DOCA.
The defendant argued that the DOCA should remain in force because:
there was no realistic prospect of any insolvent trading claims against the defendant, its directors or SBAL;
alternately, even if there was such a claim, there was no prospect of a better return to creditors in a winding up; and
the investigation carried out by the administrators was adequate.
Section 435A of the Act provides that the administration of an insolvent company under a DOCA should maximise the chances of the company continuing to exist, or if this is not possible, to ensure that administration results in a better return for creditors, than in a winding up. Section 445D(c), (f) and (g) of the Act allows the court to make an order terminating a DOCA if it is satisfied that (amongst other things):
there was an omission from a report and the omission can reasonably be expected to have been material to the creditors decision to enter into a DOCA;
the DOCA would be oppressive or unfairly prejudicial to, or unfairly discriminatory against, one or more creditors or contrary to the interests of the creditors as a whole; or
the deed should be terminated for some other reason.
Section 447A of the Act also allows the court to make any order it deems appropriate in relation to the operation of Part 5.3A of the Act.
Ward J decided it was appropriate to terminate the DOCA, make an order to wind up the defendant, and appoint a new liquidator.
Although the exact date of insolvency was not a matter for determination in the case, Ward J found that the defendant may have been insolvent at a much earlier date than calculated by the administrators. This would have had the effect of unearthing possible insolvent trading claims against the defendant, its directors and SBAL, resulting in a potentially greater return for creditors in a winding up than under the proposed DOCA. Ward J held these were crucial matters that would have been relevant to the creditor’s decision to enter into the DOCA.
Ward J stated that although she would not make adverse findings in relation to the administrators’ conduct, the inadequacy of their investigations provided in the creditors’ Report deprived creditors, including the plaintiff, of making an informed decision to enter into the DOCA.
Ward J reasoned that there is a balancing exercise required of administrators conducting an administration. Citing Barrett J in Re Diamond Press Australia Pty Ltd  NSWSC 313, , Ward J stated that there should be a weighing between a “relatively speedy” administration, and, conversely, “sensible and constructive actions directed towards maximising the return for creditors”. Ward J found that there was a reasonable prospect of an insolvent trading claim against the defendant, its directors and SBAL. This was a matter that should have been fully investigated by the administrators and put to the creditors in the Report. The court, citing DCT v Portinex (2000) 156 FLR 453, , , stated that “as a matter of public policy, creditors are entitled to a proper investigation of such matters notwithstanding the practical constraints faced by an administrator”. A more in depth investigation and Report by the administrators into potential insolvent trading claims would have allowed the creditors, particularly the plaintiff, to determine whether a better return would have been achieved in a winding up. The creditors were not given the opportunity to consider that information in their decision to vote for a DOCA.
Accordingly, Ward J was satisfied that the plaintiff established the grounds under section 445(D)(c),(f) and (g) so as to enliven the court’s jurisdiction to set aside the DOCA. She then considered the question whether she should exercise her discretion to do so.
The plaintiff submitted that there could be significant returns to the creditors from a successful insolvent trading claims. The plaintiff argued that if claims based on insolvent trading were to succeed, unsecured creditors would share in the proceedings from those claims ahead of SBAL as a secured creditor pursuant to section 588Y of the Act. Ward J commented on the operation of section 588Y, which allows, if a claim of insolvent trading is made out, secured creditors to have priority in proceeds from those claims, ahead of unsecured creditors. This is to provide a pool of quarantined funds to which unsecured creditors can have some access in priority to secured creditors, to provide some protection against those most at risk from insolvent trading. Referring to the Act’s Explanatory Memorandum and the Harmer Report, Ward J stated that there was nothing that prohibited a secured creditor from waiving their security to share the proceeds pursuant to this provision. Ultimately, Ward J concluded there was a not unrealistic prospect that there may be a return to creditors that is better than under the DOCA.
Ward J also considered questions of public interest and commercial morality. Ward J did not comment on whether there was moral turpitude in this case. However, the public interest factor weighed in favour of terminating the DOCA, in light of the prospect of a better recovery for creditors in a winding up and the inadequacy of the administrators’ investigation and Report.
Ward J exercised her discretion to terminate the DOCA on the basis that she was not satisfied that creditors were adequately informed as to the basis on which the comparison between the DOCA and the winding up was to be made or as to the prospect of a greater return from a winding up. The effect of the DOCA was to deprive creditors (in particular the plaintiff) from the opportunity for there to be a thorough investigation of the conduct of the company’s affairs.
Co-authored by Lauren Gore.
Published by SAI Global on behalf of Centre for Corporate Law and Securities Regulation, Faculty of Law, the University of Melbourne with the support of the Australian Securities and Investments Commission, the Australian Securities Exchange and the leading law firms.