De Facto Director Ordered to Compensate Unpaid Supplier Following Insolvent Trading
Tremco Pty Ltd ACN 000 024 064 v Thomson & Ors [2018] QDC 101
Case Facts
The plaintiff (Tremco) was the principle supplier of waterproofing materials to a waterproofing business (Kadoe). The defendant (Thomson) was the wife of the formally appointed director of this business. In this proceeding, Tremco sought to recover compensation from the wife under s 588M(3) Corporations Act 2001 (Cth) for losses suffered in relation to unpaid debts.
The debt arose from unpaid invoices beginning in March 2010. In November 2010, the defendant’s account was put on hold. By December 2010, the amount owing to the plaintiff totalled $146,410.20.
In 2015 Tremco brought proceedings against Kadoe for the outstanding debts and obtained a judgment in their favour. Subsequently, Kadoe failed to comply with a statutory demand based on the judgement and was wound up in insolvency on 29 April 2015. The defendant’s husband was made bankrupt in June 2015. Tremco sought compensation for the expenses incurred in this process.
Legal Principles
Section 588M(1) sets out several conditions which must be satisfied before compensation under section 588M(3) can be recovered. The condition in dispute in this case was s 588M(1)(a), which imposes a requirement that, in order to recover compensation, a person (a director) has contravened s 588G(2) or (3) in relation to the incurring of a debt by a company. The key question was therefore whether the defendant was a director within the meaning of director as defined in s 9 of the Act during the alleged period of insolvent trading.
Tremco argued that the defendant was a de facto director of the company due to her involvement in the setting up of the company in 2009 and subsequent management position in the company. The defendant disputed this claim arguing that the company was supposed to be incorporated as a trust. The defendant’s argument was that the setting up of the trust had failed and hence the company had not been trading in its own right.
In support of their claim that the defendant was a de facto director, Tremco pointed to several factors. First, that by the defendants own account, she had been responsible for setting up the Company and the Trust. Second that the defendant had significant involvement and control over the day to day operations of the business including a self-identification as the ‘General Manager’.
In response to Tremco’s assertions, the defendant argued that she had only been a conduit on behalf of her husband in setting up the trust and in any event the incorporation of the trust had failed. In regard to her involvement the defendant relied on the case of Re Swan Services Pty Ltd (In Liquidation) [2016] NSWSC 1724, arguing that her role was only as wife who became involved in the affairs of the company to address the emergency of the invalidity of the Trust. This claim was rejected on the basis that her involvement went far beyond emergency assistance and involved conducting the dispute over the alleged invalid trust for the Company over many years.
Decision
Porter DCJ QC held that the plaintiff was entitled to recover for loss or damage under s 588M. His Honour found that the defendant was a de facto director of the company at all times due to the system of shared management; the husband was responsible for onsite activities whilst the wife was responsible for the operational and administrative affairs of the company. His Honour, in reference to the authority of Grimaldi v Chameleon Mining NL (No 2) (2012) 287 ALR 22, noted the presence of several factors leading to this decision:
- the defendant had independent authority to negotiate and manage matters of importance on behalf of Kadoe and could go further and bind Kadoe in relation to those matters;
- The defendant’s husband had little, if any, oversight or involvement in those matters and largely left executive decision making to her in many areas.
With the question of the defendants status settled, his Honour found that the defendant was in a position to determine the solvency of the business and had reasonable grounds to suspect the company was insolvent during the relevant time period.
Federal Court: Gated Housing Renders Personal Service Impractical
In the recent case of bCode Pty Ltd (in liq) v Holford [2018] FCA 798 the court was required to consider whether an order for substituted service may be granted where multiple attempts to personally serve a notice have been unsuccessful.
The case involved bCode, a mobile technology company, who had unsuccessfully attempted to serve documents on Troy Holford on numerous occasions. Mr Holford lived within a gated community in Sanctuary Cove. The community was monitored by a security team, and thus in order to gain access to Mr Holford’s residence, one was required to first contact the security team via intercom, who was to then contact the residence for access approval.
During the trial, Mr Russ, a commercial agent for bCode, gave evidence that on four occasions, he attempted to serve notice at the Sanctuary Cove address. Specifically, Mr Russ contended that on the first occasion, the guard told him that Mr Holford was abroad, however gave permission for Mr Russ to enter the premises and leave the documents with his son. Mr Russ declined this offer on the basis that he was required to personally serve the notice on Mr Holford.
When he returned a third time, Mr Russ once again contacted the security guard who subsequently phoned Mr Holford’s premises and spoke with a woman, who informed him that Mr Holford was still overseas. Mr Russ notified the guard that he now had authorisation to leave the documents with a resident at the address, however when the guard called back, there was no answer at the premises. On both other occasions Mr Russ was notified that there was no answer at Mr Holford’s address.
In considering bCode’s application, the court was required to determine whether personal service was ‘not practicable’ pursuant to r10.24 of the Federal Court Rules 2011. In doing so, the Gleeson J contended ‘that it is impracticable to effect personal service on Mr Holford since he resides in a secure housing estate where access is only permitted by security guards authorised by a resident’.
The court also heard evidence from bCode’s solicitor Laura Scotten, who verified that; Mr Holford is the owner of the Sanctuary Cove address, that his address in ASIC records is the Sanctuary Cove address and that he is the director and shareholder of Holford Properties Pty Ltd, which lists its principal place of business as at the Sanctuary Cove address. Ms Scotten also gave evidence that in late February 2018, Mr Holford had sent emails from a known email address.
According to this information, Gleeson J submitted that pursuant to the Federal Court Rules 2011, it was appropriate to substitute an alternate method of service. It was ultimately held that notice may been served on Mr Holford by post to the Sanctuary Cove address and by transmitting the documents to his email. Her Honour contended that the documents will be taken to be served seven days thereafter.
Federal Budget Introduces Anti-Phoenixing Measures
In the recent federal budget, the Government has vowed to combat illegal phoenix activity by reforming existing corporations and tax laws and granting the Australian Taxation Office additional power. Accordingly, the proposed changes are credited as complementing the work of the Government’s Phoenix, Serious Financial Crime and Black Economy taskforces, with Federal Treasurer Scott Morrison asserting they will ensure small businesses “don’t get ripped off by other businesses who deliberately go bust to avoid paying their bills.”
Illegal phoenixing occurs when a company’s directors allow a business to collapse in order to avoid paying creditors, either through directors resigning or through the business going into administration. All too often the practice results in customers not receiving goods or services they have paid for, lost payments for small businesses and lost wages and entitlements for affected employees. Ultimately, it has an adverse impact on the economy, with illegal phoenix operators gaining an unfair advantage over honest businesses.
Under the proposed budget, the government has allocated $40million to be spent over the next four financial years, introducing new phoenix offences to target those who conduct or facilitate illegal phoenixing. Specifically, these measures endeavour to prevent directors from backdating their resignations, limiting the ability of directors to resign and restricting the ability of related creditors to appoint or remove external administrators.
Moreover, it will expand the ATO’s power to retain refunds where there are outstanding tax lodgements and will extend the Director Penalty Regime to include GST, luxury car tax and wine equalisation tax, making directors personally liable for the company’s debts.
England: Court Upholds Rock Solid Contract
Rock Advertising Limited v MWB Business Exchange Centres Limited [2018] UKSC 24
The Supreme Court has held that a clause in a contract, which required modifications to that contract be in writing and signed by both parties, invalidated a subsequent oral agreement to vary the contract. Specifically, the issue before the court was whether the No Oral Modification (NOM) clause was legally effective.
Background
Rock Advertising entered into a licence with MWB to occupy office space for a fixed term of 12 months. The licence contained a clause requiring all variations to be set out in writing and signed on behalf of both parties.
However, it was later agreed that the payment schedule would be varied. Despite this, MWB treated the variation as merely a proposal and rejected the new schedule before excluding Rock Advertising from the premises for failing to pay the arrears. Ultimately, MWB terminated the licence.
At first instance, the County Court found that the oral agreement did not satisfy the formal requirements of the NOM Clause. The Court of Appeal subsequently reversed the decision, holding that the oral variation amounted to an agreement to dispense with the NOM clause. MWB consequently brought proceedings to the Supreme Court.
The case focused on whether the agreement to vary the payment schedule was effective, despite being in breach of the requirements of the NOM clause.
Decision
The Supreme Court overturned the Court of Appeal’s decision, unanimously holding that the absence of the writing and signatures required by the NOM clause rendered the oral agreement to vary the contract invalid. In doing so, Lord Sumption found that the proper understanding of party autonomy is that parties may agree to bind their future conduct, however that agreement will be definitive. Consequently, as the contract stipulated that variations to the contract were to be in writing, the oral variation was deemed invalid.
In this instance, Rock Advertising argued that MWB acted on the agreement and that the doctrine of estoppel should therefore apply to prevent unfairness. Specifically, they contended that MWB should not be able to rely on the NOM clause to invalidate the oral variation. However, the court ruled that estoppel did not arise on the facts of this case.Rather, the court held that for estoppel to arise, there needed to be evidence of words or conduct which unequivocally represented the variation as valid, and that it needed to be something more than the informal promise itself.
Business Implications
This case serves as a timely reminder for businesses whose contracts are governed by English law, that they should seek to ensure all stakeholders are aware that informal and oral variations to contracts containing NOM clauses will not be enforceable. They should also note that the defence of estoppel may be difficult to establish and should be careful to follow the strict provisions of any NOM clause.
Ultimately, it provides that where a contract contains a NOM clause, the parties can be certain that the written contract represents the contract in entirety.
Federal Government to Introduce Harsher Penalties for White-Collar Crime
In the wake of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry, the Federal Government has announced it will crack down on penalties for corporate misconduct. In doing so, it has accepted the majority of recommendations made by the Senate Economics References Committee and the Australian Securities and Investments Commission (ASIC) Enforcement Review Taskforce reports, with harsher penalties to apply to both directors and corporations who have breached their duties.
Relevantly, ASIC infringement notices will also be expanded to cover a broader range of financial services and managed investments infringement.
The amendments will also introduce new maximum penalties.
For Individuals:
- the greater of 5,000 penalty units (currently $1.05 million);or
- three times the value of the benefits obtained or losses avoided; and
For Corporations:
- greater of 50,000 penalty units (currently $10.5 million); or
- three times the value of the benefits obtained; or
- Losses avoided, or 10% of annual turnover in the 12 months before the misconduct, up to a total of one million penalty units ($210 million).
The proposed changes signal a significant reform of current legislation, in which the maximum civil penalty for individuals is $200 000, and $1million for corporations.
Whilst individuals and corporations who are found to have breached their duties must be held accountable, in upholding the rule of law, it is equally important that individuals and corporations are made aware of the impending amendments.
Court Rules Against Setting-Off Unfair Preference Claim
In the recent case of Stone v Melrose Cranes & Rigging Pty Ltd, in the matter of Cardinal Project Services Pty Ltd (in liq) (No 2) the Federal Court was required to determine whether a set-off was available to Melrose Cranes, pursuant to s 553C of the Corporations Act 2001 (Cth).
Here, the liquidators of CPS submitted that $308 544.58 worth of payments made to Melrose Cranes constituted unfair preferences.
In defending the claim, Melrose Cranes unsuccessfully raised the defence of 'good faith', the doctrine of ultimate effect and the 'running account' defence, before asserting an entitlement to set off $80 774.23, pursuant to s553C of the Act. In supporting this claim, Melrose Cranes maintained that this figure represented the amount CPS was indebted to it at the date of the appointment of the administrators.
The liquidators urged the Court not to adopt this view, arguing that setting-off should not be available in the context of preference claims. In doing so, they contended that the application of existing case law including Re Parker was 'plainly wrong' in this context as it related to setting-off voidable transaction claims and not preference claims. Ultimately, they argued that applying such cases here would be contrary to the statutory purpose of the Act.
However, the court upheld the finding of Re Parker, contending that a set-off in section 553C applies to voidable transaction claims, including unfair preference claims.
The liquidators subsequently relied on s553C(2) to argue that setting-off is expressly prohibited where a person has notice of a company's insolvency, and thus was not available to Melrose Cranes. The Court agreed, concluding that Melrose Cranes had notice of the company's insolvency at the time it gave credit in respect of the outstanding indebtedness.
In reaching this conclusion, the court submitted that a person will have notice of a company's insolvency if, pursuant to s95, the person has actual notice of the facts that indicate the company lacks the ability to pay its debts when they fall due.
Accordingly, Markovic J rejected Melrose Cranes' application to have the proposed sum set-off on the basis that it was "clear that a reasonable person in Melrose Cranes' circumstances would have had grounds for suspecting insolvency at the time of each of the transactions."
Court Rejects Mossgreen's Art Collection Levy
White, in the matter of Mossgreen Pty Ltd (Administrators Appointed) v Robertson [2018] FCAFC 63
In December 2017 administrators were appointed to Mossgreen Pty Ltd, a well-known Australian auction house and gallery. The administrators sought to recover over $1 million in costs from consignors by charging $353.20 per lot for the return of goods. In some instances this meant that the total value of a consigners property was exceeded by the collection charge, and so many consigners opposed the directions.
Subsequently the administrators applied to the court in March this year, seeking approval for their nominated course of action. They argued that they held an equitable lien over the consigned items and were therefore entitled to recover costs by imposing a levy for the release of items.
At first instance, Perram J dismissed the directions sought, concluding the stocktake did not relate to Mossgreen's property and subsequently did not fall within the administration of their affairs.
On appeal, the court opposed this view, finding that it was within the statutory functions of the administrators to continue to perform the function of holding the consigned items, and as part of doing so, take steps to manage and return the items. It concluded that in certain circumstances, a lien could arise in favour of administrators for costs incurred dealing with claims for the return of items, even where there was no ownership claim by the company under administration.
Despite this, the court ultimately rejected the appeal, arguing that there was no basis for an equitable lien of the kind sought here because:
- Many of the costs incurred related to items which the administrators knew had been abandoned and were of little value;
- If a stocktake were needed, this need arose from a breach of Mossgreen's obligations as a bailee, being the failure to maintain an adequate inventory system for consigned items; and
- Much of the costs had been incurred for the benefit of the general body of creditors, including in relation to the sale of a part of Mossgreen's business. The owners of the consigned items had no interest in this, as they would not benefit from such a sale.
Does the Rejection of a Calderbank Offer Automatically Give Rise to the Award of Indemnity Costs?
Linville Holdings Pty Ltd v Fraser Coast Regional Council (No 2) [2018] QSC 62
On the 6 November 2017, Jackson J of Brisbane’s Supreme Court handed down his decision in the matter of Linville Holdings Pty Ltd v Fraser Coast Regional Council [2017] QSC 252. Ultimately, his Honour concluded that for each of the financial years ending 30 June 2015, 30 June 2016 and 30 June 2017, the Fraser Coast Regional Council (FCRC) failed to validly make and levy rates and charges in accordance with the Local Government Act 2009.
Following this, Linville applied for an order for costs of the proceeding on the basis that on 23 March 2017, FCRC had rejected their offer to compromise. In doing so, Linville relied on the principle in Calderbank v Calderbank to argue that costs should be assessed on the indemnity basis.
However Jackson J contended that the refusal to accept a Calderbank offer did not of itself warrant the exercise of the courts discretion to award indemnity costs. Instead, he argued that a court must also consider whether the rejection of the offer was unreasonable in the circumstances.
Here, the Calderbank offer of compromise required that the FCRC compromise both the present proceeding and the related Magistrates Court proceeding. Although this was unusual, Jackson J concluded that “if FCRC agreed to waive those rates and charges in order to make the declarations sought in the present proceeding unnecessary, it was not unreasonable for Linville to propose the settlement of the Magistrates Court on similar terms.”
Despite this, the court held that just as Linville’s offer was not unreasonable, nor was FCRC’s rejection of it. Specifically, Jackson J contended that it was reasonable for FCRC to take into account that the course proposed by Linville would have favoured Linville over other ratepayers and that FCRC instead sought to have the matter resolved by judgment.
Thus, it was held that while FCRC should be ordered to pay Linville’s costs, the costs should not be assessed on the indemnity basis.
Federal Court: Asset Surplus Not Enough to Save Company from Insolvency
On 25 August 2017, the Deputy Commissioner of Taxation (DCT) filed an application to wind up Tank Sales Sydney Pty Ltd following the company’s failure to comply with a statutory demand issued in June 2017.
The demand related to an account deficit debt under the BAS provisions of the Income Tax Assessment Act 1977 (Cth) and amounted to $269,073.15 as at 16 June 2017. It included administrative penalties and general interest charges under the Taxation Administration Act 1953 (Cth) plus superannuation guarantee charges, and an additional charge for late payment.
Last November the company filed a notice of appearance, contending that it was not insolvent, but suffering a short term cash flow issue. Relevantly, the company argued that its assets outweighed its liabilities.
The matter was heard in the Federal Court on 27 March 2018, where the DCT relied on the judgement of Weinberg J in Ace Contractors & Staff Pty Ltd v Westgarth Development Pty Ltd [1999] FCA 728 to establish its entitlement to a winding up order (unless the Company could rebut the presumption of insolvency.)
In seeking to prove their solvency, the company produced financials in support of their claim - including its 2016 and 2017 tax returns. However the DCT argued that such documents should not be allowed to be admitted to evidence because they were not audited and accordingly amounted to hearsay.
Farrell J accepted the financials, however concluded that little weight could be given to them in the absence of direct evidence to support the values indicated. Moreover, his Honour asserted that where assets cannot be converted into cash within a relatively short time, their disclosure will not prove effective in establishing solvency.
Ultimately, the court ordered that:
-
- Tank Sales Sydney Pty Ltd be wound up in insolvency;
- David Lombe of Deloitte Financial Advisory be appointed the liquidator of the defendant corporation; and
- The Deputy Commissioner of Taxation's costs of proceedings be fixed at $2,897.98.
New Laws Urge ASIC to Consider Competition
On March 28, the Federal Government introduced the Treasury Laws Amendment (Enhancing ASIC’s Capabilities) Bill into Parliament, following recommendations of the Financial System Inquiry and the ASIC Capability Review. The Bill seeks to amend the Australian Securities and Investments Commission Act 2001 (“ASIC Act”) enabling ASIC to operate with greater flexibility and consider competition in its decision making processes.
The amendments outlined in Schedule 1 specify that ASIC must consider the effects its functions and powers will have on competition in the financial system. This serves to implement recommendation 30 of the Financial System Inquiry which encouraged the government to consider competition in ASIC's mandate.
According to the Bill’s explanatory memorandum, "an explicit reference to take competition issues into account would oblige ASIC to consciously consider how its actions may impact on competition in the financial system and will enable ASIC to favour one option over another due to its effects on competition."
In promoting competition, ASIC should have regard to;
- whether the decision will create a barrier to entry, making it more difficult for new firms to enter the industry;
- whether the decision will create regulatory advantages for some companies over others competing in the same sector, or generally across the industry as a whole;
- whether the decision will improve consumers’ ability to exert demand-side competitive pressure in a market;
- whether the decision will disproportionately impact small entities (for example by imposing obligations that do not appropriately scale the regulatory risks presented by those entities) and the impact that would have on competition; and
- whether alternative competitively-neutral approaches can be identified.
Schedule 2 amends the ASIC Act and removes the requirement for ASIC to engage staff under the Public Service Act 1999 (PSA). In doing so, the act adopts recommendation 24 of the ASIC Capability Report which endorsed more effective recruitment and retention strategies.
Removing the obligation for ASIC to engage staff under the PSA means ASIC will be able to compete more effectively for suitable staff. It will also allow ASIC to tailor management and staffing arrangements to suit its needs, ensuring it can effectively honour its mandate by recruiting staff with knowledge of financial markets and financial services.
Thus, the amendment serves to promote greater operational flexibility, bringing ASIC in line with Australia's other financial regulators, namely the Australian Prudential Regulation Authority and the Reserve Bank of Australia.
The bill will come into effect on 1 July 2019, at which time ASIC staff will maintain their continuity of service with ASIC, but cease to be employed under the PSA. They will instead be employed under the ASIC Act, subject to the same terms and conditions and will maintain the same accrued entitlements.
