439A Reports to Creditors and Administrators

Articles, Restructuring + Insolvency

The purpose of Part 5.3A

When considering how administrators fulfils their duties it must always be remembered that the Corporations Act 2001 (Cth.) specifies (see s435A) that the purpose of Part 5.3A is to provide for the administration of the company and its affairs in such a way that:

  1. Maximises the chance of the company’s business continuing in existence; or
  2. If that is not possible, maximises the return to creditors.

Role of Administrator

While it is clearly the case that the administrator has a number of functions to fulfil (including where the business continues to operate, taking control of that business, dealing with secured creditors, answering creditor’s queries etc.) one of, if not the most important feature of the administrator’s role is the preparation of the 439A report and the recommendation he/she is required to make with respect to the company’s future.

Section 438A reinforces the importance of that recommendation and requires that the administrator is to begin his/her investigations and form an opinion about his/her recommendation “as soon as practicable after the administration of a company begins.”

This opinion is the central plank of the administration process. It is one which ASIC has and continues to monitor. ASIC has published two reports critical of the contents of administrator’s reports and the basis on which his/her opinions are formed. It is an area in which continued monitoring and the instigation of disciplinary investigations may be seen more frequently.

It is assumed in the Australian Restructuring Insolvency and Turnaround Association (“ARITA”) Code of Professional Practice and by the Courts that an administrator would only accept an appointment to the extent his/her resources allow the administrator to properly fulfil their role.

It is no excuse to complain about delay or inadequate reporting, to say that the administrator was under resourced or did not have the necessary experience to prepare the required reports. If that situation arises, the appointment should not be accepted or if it becomes apparent during the course of the administration, an application should be made to the Court for the appointment of a new administrator able to fulfil the role.

The Act clearly recognises there may be times, in which notwithstanding the limitations expressly contemplated in the Act, that an adjournment of the convening period may be necessary.

There have been many cases decided on when such an application is justified. For current purposes, suffice if an administrator does not feel he/she has had cooperation and/or is in a position to come to an informed view enabling him/her to make a recommendation, then the administrator may be justified in seeking an adjournment of the convening period to enable that information to become available.

This paper does not discuss in detail the circumstances in which such an application would be justified.

Further information after the report is sent

There may be circumstances in which new information comes to the administrator’s attention after his/her report has been sent in accordance with section 439A of the Corporations Act 2001 (Cth.).

In these circumstances, there is no scope for a supplementary report to be sent which satisfies the requirements of the Corporations Act 2001 (Cth.).

This is not to say such a report should not be sent. It would be prudent wherever possible for the administrator to prepare such a supplementary report detailing the new matters and advising whether further investigations are required or such new information has caused the administrator to change his/her view as to the recommendation made.

That report however is not part of the 439A report. It is informative only.

If the administrator’s conclusion is that the meeting should be adjourned to enable further investigations, the administrator is not empowered of his/her own motion to adjourn the meeting of creditors. The administrator may recommend an adjournment to creditors but he/she cannot adjourn the meeting of his/her own motion.

If the administrator believes an adjournment of the meeting is appropriate but he/she does not approach the Court then the administrator must both recommend an adjournment to the creditors and give his/her opinion in accordance with 439A(4).

What does the report require?

As is well known, the Corporations Act 2001 (Cth.) (s.439A(4)) requires the administrator to give  to creditors his/her opinion about whether the administration should end in:

  1. The company executing a Deed of Company Arrangement.
  2. The company being placed into liquidation.
  3. The administration ending (in which case the company returns to the control of the directors).

The Act does not say what matters the administrator must take into account in coming to this view. The question then is how is the administrator to form this view and what matters ought he/she take into account when doing so?

The Code of Professional Practice prepared by ARITA sets out what the contents of the 439A report need to be. These are well known and unsurprisingly find their way (or should find their way) into every 439A report. In summary, the report must contain:

  1. A summary of its purpose.
  2. Background information concerning the company.
  3. Details of shareholders, officers and security and any changes to officers and shareholders in the last 12 months.
  4. An opinion as to whether the books and records have been maintained in accordance with the Act.
  5. The date to which the financial statements were prepared by the company prior to the administrator’s appointment (though notably it is not necessary to attach these statements to the report).
  6. A summary of the company’s historical financial statements.
  7. Details of any prior involvement the administrator has had with the company (this is supplementary to the DIRRI).
  8. A summary of the RATA.
  9. Explanations given by the directors for the company’s difficulties.
  10. Details of any outstanding winding up applications, including details of who the petitioning creditor is.
  11. Details of related party creditors, and what efforts have been taken to verify claims made by those creditors.
  12. If any offence has been committed by an officer that may materially affect the company’s future that offence should be disclosed.
  13. Details of any voidable transactions.
  14. Details of any insolvent trading.
  15. Such public information as is available or such information is authorised by any relevant director to be disclosed with respect to director’s assets.
  16. Estimated return from a winding up.
  17. Details of impact of proposal on employees (I will return to this later).

If a deed is proposed:

  1. Key features of it.
  2. Monitoring and reporting arrangements under the deed.
  3. Estimated return to creditors.
  4. How related party claims are dealt with.
  5. Comparison of an estimated return to creditors contrasted with return on winding up.
  6. Summary of the administrators reasoning for recommending for (or against) acceptance.
  7. Details of any creditors holding guarantees.

If the deed proposes a return from ongoing trading the report also requires disclosure as to:

  1. How the intended trading will enhance the return to creditors.
  2. Subject to commercial confidentiality, a summary of the financial information relied upon.
  3. If that information was prepared by a third party, comment on any of the validity of the assumptions made by the third party.
  4. If the information was prepared by the administrator, a summary of the key assumptions relied on by the administrator.
  5. Comments on the prospects of the company achieving the contribution.
  6. If a third party is paying funds into the deed, commentary on:
    1. Arrangements to ensure the third party is bound by the deed.
    2. Any securities or steps to be taken if the third party fails to make the payments.
    3. Commentary on the ability of the third party to make the payments.
  7. If a creditors trust is proposed consideration needs to be had to ASIC regulatory guide 82 for other matters to be taken into account and this paper does not cover those matters.

The details set out above relate to matters that should be disclosed to creditors in the 439A report.

It follows that these are matters which the administrator should consider in coming to his/her opinion in accordance with s.439A(4).

Notwithstanding that these matters are set out in the Code of Professional Practice is critical to appreciate that these are not the only matters the administrator must have regard to in forming his/her view.

Other matters to be taken into account

It is not possible to specify a list of matters the administrators should take into account.

The cases (see for example Deputy Commissioner of Taxation v Comcorp Australia Limited) suggest that the intention is that creditors should, as far as possible, be placed in a position to arrive at a “proper conclusion.”

The Harmer Report states that the report “should contain information enabling creditors to make an informed decision.”

There are not many cases on the adequacy or otherwise of the recommendation made by the administrator. The Courts have made it clear however that the report is not limited to those matters specified in the Corporations Act 2001 (Cth.). The Courts assume that there will always be a number of significant matters which should be conveyed to the creditors.

It is a fair summary of the case law to say that if something of significance is omitted from the report to creditors and it would have assisted creditors in coming to a decision, that fact may provide a ground for setting aside or terminating a Deed of Company Arrangement.

One particular report that was the subject of criticism was set out in McVeigh v Linen House Pty Limited & Rugs Galore Australia Pty Limited. In that case the Court found that the report failed to inform creditors as to:

  1. The true shareholding of the company.
  2. Its acquisition by the new shareholders.
  3. A significant commercial arrangement between the old and the new shareholders on the takeover.
  4. Certain liabilities assumed by the shareholder.
  5. The fact that the company had always traded at a loss.
  6. The fact of there being no reference to the involvement of significant related parties in the business.
  7. The fact that there appeared to be no investigation of the director’s ability to pay compensation if sued.
  8. A complete failure to set out the position of possible de facto directors.

Unsurprisingly in that matter the deed was set aside.

This case is of note not only because of the poor quality of the report but the fact that many of the criticisms made by the judge were not in fact with respect to matters required by the Code of Conduct.

It is important to appreciate that the failure to disclose information may not result in termination of the deed. The question is whether the issue is important enough to justify terminating the deed.

It should be appreciated however that a failure to provide information contained in the Code of Conduct may not necessarily justify terminating the deed, it may very well lead to disciplinary proceedings being initiated by ASIC against the administrator.

How to form a view

In fulfilling his/her duties to the creditors, the administrator should exercise an independent mind and apply objective and impartial reasoning.

While it is not expressed in these terms, many of the guiding principles set out in the ARITA Code of Professional Practice regarding the use of the casting vote apply to the manner in which the administrator should form his/her view.

As indicated the law recognises the balance between the speed with which an administration is conducted as against the need for a full investigation.

In balancing those matters and in forming his/her opinion, the administrator is considered to act as an impartial expert. He/she must exercise his/her professional judgement in not only forming an opinion but in deciding whether he/she has sufficient information to in fact form that opinion.

The Act does not contemplate the administrator concluding that he/she does not have sufficient information to form a view. If that circumstance arises before the 439A meeting is convened, the administrator should apply for an extension of the convening period to enable him/her to obtain that information.

If no such application is made, the administrator must form a view as to which of the alternatives set out on 439A is to be recommended. The administrator cannot simply recommend an adjournment.

In addition to the matters required to be commented on, the administrator needs to take into account:-

  1. What is in the interest of all creditors.
  2. Does the proposed deed contemplate unfair advantages accruing to the director?
  3. Will the end result of the deed be the returning of an insolvent company to the market place? (e.g. if related party debt is merely deferred not forgiven).
  4. The administrator is not a moral gatekeeper. As much as a small return to creditors may not seem morally satisfying, the question for the administrator is whether in fact that return is in the interest of creditors bearing in mind the overriding provisions of Part 5.3A as to the purpose of the part.

The Courts are divided on the effect of a small return to creditors.

In Allied Express Transport Pty Limited v Exalt Group Pty Limited (administrator appointed) the Court failed to grant an adjournment of a winding up application even though the proposed DOCA returned somewhere between 2c and 12c in the dollar. The return was over three years. The court cited with approval the previous judge’s decision and quoted:-

“No one with an eye to their own financial interests would regard such a return as worth pursuing with any greater vigour than one might expect in picking up a coin found lying on the pavement.”

Contrasting with this decision was Andrew Learmont and Tracey Learmont v Love Childcare Pty Limited. There the Court commented that 3c over no cents seemed to be a benefit to creditors. Notably that payment was to be made over 12 months and was guaranteed by directors.

There can be no uniformly applicable set of guidelines as to what should be recommended, as the contrast in the cases shows. Each case will turn on its own circumstances.

The administrator is not the moral gatekeeper but must bring his/her professional skill to bear on what is in the interest of creditors overall.

An example will suffice. M & Butler investments Pty Limited v Granny May’s Franchising (albeit a decision 17 years old but one which is likely to be followed) held that a material omission in the report was the fact that it did not disclose that significant legal action had been commenced against the director by the holder of a guarantee. Essentially, the Court questioned how in the face of that liability the director would be able to perform the deed.

Employee meeting

Section 444DA provides that a deed must preserve the priority given to employees in a winding up pursuant to section 556 of the Corporations Act 2001 (Cth.).

Of course a trade on deed where the employees keep their jobs does no such thing. In such a case employee entitlements are ordinarily paid out of continued trading, not out of the deed fund.

In those circumstances the administrator must convene a meeting of eligible employee creditors, to be held prior to the main 439A meeting.

When convening that meeting, the administrator must send a report to the eligible employee creditors setting out the administrator’s opinion as to whether the fact that such a provision is not included will result in the same or better outcome for eligible employee creditors. The administrator must set out his/her reasons for coming to that view.

This is not the same as simply repeating the reasons set out in the 439A report. The report must be prepared specifically with the interest of the employees in mind and having regard to their particular circumstance. It may very well be the case that there could be a different recommendation to employees rather than the general body of creditors.

In that report the following matters must be commented on, in addition to the other matters which may be covered in the 439A report:-

  1. Specific returns to employees in the DOCA vs winding up.
  2. Treatment of different classes of employees.
  3. Explanation of related party claims and how they are dealt with.
  4. Details of any government schemes which may be available and any matters affecting rights under those schemes.

There are no reported cases yet on the adequacy of reports convened in accordance with section 444DA and it is difficult to speculate on what could constitute grounds for setting aside a deed based on the report convening that meeting.

The general principles about the administrators obligations include that they should:

  1. take into account all known circumstances;
  2. to act professionally; and
  3. to act as an expert.

The critical issue is that the obligation  is owed to employees specifically and not the general body of creditors.

Casting vote

The administrator has a casting vote in the event of a difference between value and number. Ordinarily there would be no warrant for the administrator to exercise his casting vote in any way other than the way in which he has given his/her opinion in the 439A report.

If however, new information comes to light which the administrator believes is relevant and would change his/her recommendation, he/she should recommend adjourning the meeting (see comments above) and considering the exercise of the casting vote; there is no inviolable rule to prefer number over value. If however, the value has an overwhelming interest then the casting vote should be exercised in their favour but it is difficult to see how a circumstance should arise where that has not been taken into account in forming the administrators opinion.

The central question is whether the exercise of the casting vote can be substantiated by independent objective and partial reasoning.

Much the same can be said when the administrator forms his/her opinion as to the outcome of the administration.

The reason for the administrator exercising the casting vote should always be minuted. It rarely, if ever is, but minuting the reasons could save the administrator regulatory and legal issues later. It is not often the case the reasons for exercising the casting vote are in fact minuted.

Application to set aside deed

If an application is made to set aside a deed, ordinarily that is a matter for the deed proponent and the applicant to dispute although the deed administrator should be joined as a party to the action. Ordinarily it is not for the administrator to defend the deed. His/her report should speak for itself. Unless new information has come to light the administrator should appear but not argue for or against the application.

If new information has come into light, the administrator should disclose that information to the Court and inform it as to whether that information would have changed the recommendation had it been known at the time.

Administrator’s liability

There has been no case in which it has been held an administrator will be personally liable as a consequence of the recommendation he/she made in his/her 439A report.

The Harmer Report however has suggested that an administrator would not be liable for damages for financial loss arising from the giving of his/her opinion unless the opinion was given fraudulently or recklessly.

There is no authority as yet on what constitutes forming an opinion recklessly but the above hopefully will give some guidance and if followed will prevent that accusation being made.

The administrator’s civil liability however is only part of the equation. The regulatory approach taken by ASIC needs to be taken into account. ASIC has already released two reports on what it views to be the inadequacy of 439A reports and this will be a matter which will in the author’s opinion be one featuring highly on the regulatory background in the immediate and near future.

An adequate explanation in the 439A report of all of the matters taken into account and which informed the administrators opinion will form the basis of establishing that the administrator did do his/her job properly and to take into account all such relevant matters were available to the administrator given the constraints imposed by the provisions of that part of the Corporations Act 2001 (Cth.)

Minuting the reasons for the exercise of the casting vote will also assist.

Conclusions

The preparation of a 439A report is not straightforward and insolvency practitioners would be prudent to ensure they are well informed and receive expert advice as required when preparing these reports.

People

With the technical skills, diverse backgrounds and practical experience to match, our teams care about their clients.

Our Expertise

We have a strong reputation for providing specialist, market-leading advice in the practices we offer. Our teams are experts in their field and provide an unrivalled service to clients.

News

We want to share our knowledge with you. A collection of news and insights into those areas in which we specialise.

Resources

We offer a relevant, easy access platform that allows clients and colleagues to gain access to relevant resources.

Contact Us

With offices in Sydney and Melbourne, our team pride themselves on always being available for their clients.

Careers

We are collaborative, respectful and inclusive. Recruiting the best talent is only half of the equation; providing a culture that enables development is the other.

See our exciting opportunities available for graduates, lawyers, legal support staff and business services professionals.