ERA Legal recently acted for the liquidator of Hawden Property Group Pty Ltd (in liquidation) (Company) seeking directions from the Court pursuant to section 90-15 of Schedule 2 (IPSC) to the Corporations Act 2001 (Cth) (Act) in relation to:

1. the application of a set off under section 553C of the Act in respect of proofs of debts lodged by creditors of the Company, David Hawes (Mr Hawes) and Glenside Group Pty Ltd (Glenside Group); and
2. the basis on which the surplus of the assets of the Company were to be distributed to its two contributories, Mr Hawes and Trevor Dean (Mr Dean) in particular, the application of the so-called rule in Cherry v Boultbee (1839) 4 Myl & Cr 442; 41 ER 171 (Cherry v Boultbee).

Background

At all relevant times, Mr Hawes and Mr Dean were the directors of the Company and each held one of the two issued shares in the Company. The Company in turn held the only issued share in Hawden Constructions Pty Ltd (Hawden Constructions).

Between 1988 and 2005, Mr Hawes and Mr Dean engaged in various property development projects involving both the Company and Hawden Constructions.  Between 2004 and 2005, Mr Hawes and Mr Dean decided to go their separate ways.  The separation of their affairs was effected by a number of settlement deeds.

In 2009, Mr Hawes and his related entities commenced proceedings against Mr Dean and his related entities.  Mr Hawes and his related entities sought, amongst other things, contribution and rectification in respect of a number of deeds.   Mr Dean and his related entities sought to recover monies owing under a deed by way of cross-claim.

In 2013, Brereton J delivered judgment in those proceedings (Hawes v Dean [2013] NSWSC 745) and on 3 September 2013, his Honour delivered a further judgment and ordered that:

1. Hawden Constructions and Company be wound up and John Vouris (Mr Vouris) be appointed liquidator; and
2. that Mr Hawes and Glenside Group jointly pay the Company the sum of $534,187.23 (inclusive of interest of $190,187.23 to 14 August 2013) (Judgment Debt).

On 9 November 2015 without paying the judgment, Mr Hawes became bankrupt (Hawes Estate); on 9 October 2016 Glenside Group was deregistered; on 12 October 2017 the winding up of Hawden Constructions was finalised; and on 30 October 2017, Mark Roufeil replaced Mr Vouris as liquidator of the Company.

Directions under section 90-15 of IPSC

Section 90-15(1) the IPSC applied to the application, given the repeal of section 479(3) of the Act.  Section 90-15(1) provides that the Court may make such orders as it thinks fit in relation to the external administration of a company.

In Walley, In the Matter of Poles & Underground Pty Ltd (Admin Appointed) [2017] FCA 486 at [41], Gleeson J remarked that the question of whether to exercise the power in s 90-15 was “to be answered by reference to the principles applied to the exercise of the discretions previously contained in s 479(3) and s 511 of the Act”.

 Gleeson JA at [8] noted that:

“[while] this may be accepted insofar as the external administrator seeks the directions of the Court, but the power under s 90-15 to “make such orders as it thinks fit in relation to the external administration of a company” (s 90-15(1)) including “an order determining any question arising in the external administration of a company” (s 90-15(3)(a)), is wider and accommodates the determination of substantive rights.”

Application of set off under section 553C of the Act

 Despite some differences in wording, section 553C is based upon the concepts embodied in section 86 of the Bankruptcy Act 1966 (Cth) (the Bankruptcy Act).

In Gye v McIntyre (1991) 171 CLR 609 [at 623-624], a case involving a composition under the Bankruptcy Act, the Court analysed the operation of section 86 and that reasoning has been applied in relation to section 553C (see, for example Frigger v Kitay [2017] FCA 1278 at [47]).

The object of insolvency set-off is to do substantial justice between the parties.  As the High Court explained in Gye v McIntyre [at 618-619] (citations omitted):

“Where there are genuine mutual debts, credits or other dealings, it would be unjust if the trustee in bankruptcy could insist upon having 100 cents in the dollar upon the whole of the debt owed to the bankrupt but at the same time insist that the bankrupt’s debtor must be satisfied with a dividend of some few cents in the dollar on the whole of the debt owed by the bankrupt to him. It was to prevent such injustice that the “mutual credits” and “mutual debts”, and later “mutual dealings”, provisions were introduced into bankruptcy legislation.”

In considering this issue, Gleeson JA at [32-35] considered that the Hawes and Glenside Group debts and the Judgment are each debts between Mr Hawes and Glenside Group on the one hand, and the Company on the other hand, in their own right; they are for specific sums; and they existed at the time of the winding up of the Company.

Although the Judgment Debt is a joint obligation of Mr Hawes and Glenside Group, the set-off under section 553C requires that a separate account be taken as at 3 September 2013, being the date of the liquidation of the Company, in respect of the mutual debts as between Mr Hawes and the Company, and as between Glenside Group and Hawden Property.

The combined effect of the two set-offs required by section 553C(1) is that the Judgment Debt owing by Mr Hawes and Glenside Group to the Company is reduced to $424,539.18 as at 3 September 2013 (Net Judgment Debt); and Mr Vouris was correct in determining that the set-off applied and the admission of those proofs of debt for nil should be confirmed by declaration.

Cherry v Boultbee

The liquidator contended that the Hawes Estate, as a contributory of the Company, was not entitled to receive any distribution from the surplus assets in the liquidation of Company without contributing to the assets of Company in the amount of the Net Judgment Debt (plus interest up to the date of Mr Hawes’ bankruptcy).

The so-called “rule in Cherry v Boultbee” is a somewhat inaccurate expression.  The rule originated in Jeffs v Wood (1722) 24 ER 668 and Cherry v Boultbee is in fact an example of an exception to the rule.

In Re Peruvian Railway Construction Company Ltd [1915] 2 Ch 144, Sargant J at [150] described the rule in the following terms:

“… where a person entitled to participate in a fund is also bound to make a contribution in aid of that fund, he cannot be allowed so to participate unless and until he has fulfilled his duty to contribute.”

More recently, Lord Walker observed In Re Kaupthing Singer & Friedlander Ltd (In Administration) [2011] UKSC 48; [2012] 1 AC 804 that the rule is not a complex technical rule and does nothing more than provide a method of netting-off reciprocal monetary obligations. Lord Walker said at [8]:

“The expression “the rule in Cherry v Boultbee” suggests a technical rule of some complexity.  Any such impression would be misleading.  It is basically a simple technique of netting-off reciprocal monetary obligations, even where there is no room for legal set-off, developed and used by masters in the Court of Chancery in giving directions for the administration of the estates of deceased persons.  Complication arises only in a situation of insolvency, where the equitable rule produces a different outcome from that produced by statutory set-off.”

Where the contributor’s insolvency occurs after the event which precipitated the establishment of the fund, the principle in Cherry v Boultbee prevents a person who was at the commencement of the liquidation, both a debtor to the company and a shareholder of the company, from receiving a rateable proportion of this surplus, without contributing to the assets of the company, the amount of his debt.

However, different considerations apply where the insolvency of the contributor occurs before the event which precipitated the establishment of the fund. If, at the commencement of liquidation, a shareholder is already a bankrupt, the only sum that has to be contributed is the dividend (if any) payable from the insolvent estate (see Peruvian Railway at [151-152].)

Gleeson JA, accepted the liquidator’s submission that since Mr Hawes was not a bankrupt at the time of the liquidation of Company, Mr Hawes and accordingly, the Hawes Estate, is not entitled to receive any distribution of the surplus without contributing to the Net Judgment Debt (plus interest to the date of bankruptcy) to the assets of the Company.  In practical terms, given the relative size of the surplus in the liquidation of the Company and the Net Judgment Debt, Mr Dean will receive the entirety of the surplus and the Hawes estate will receive nothing.

Leave to distribute surplus

 The primary relief sought by the liquidator is an order pursuant to s 488(2) of the Act, that he have special leave to distribute the balance of the surplus funds in the liquidation of Company to Mr Dean and the Hawes Estate.

Gleeson JA noted at [56-57] that the phrase “special leave” only requires that an application be made to the Court, rather than the matter being dealt with as part of some other administrative process.  The purpose of the provision is to ensure that there is, in reality, a surplus, in that creditors’ claims have been recognised and met in full, and that the correct relativities among the contributories have been observe.

Upon satisfaction of the above, Gleeson JA granted leave to distribute the surplus under section 488(2) and also dispensed with the requirements under regulation 5.6.71 of the Corporation Regulations 2001 (Cth) and rule 7.9 of the Supreme Court (Corporation) Rules 1999 (NSW).

Takeaway points

 The decision clarifies the court’s powers under 90-15 of the IPSC to make such orders as it thinks fit in relation to the external administration of a company.  Relevantly, it also reaffirms the application of the rule of Cherry v Boultbee in the context of companies in liquidation and also highlights the risk, having regard to the exception created by the rule, that is, where the insolvency of the contributor occurs before the event which precipitated the establishment of the fund.

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