News

Can deed administrators sell company shares?

One of the benefits of a Voluntary Administration and Deed of Company Arrangement (“DOCA”) is the flexible restructuring options that can be promoted to creditors.

New investors into an insolvent company restructuring through a DOCA may want to take an equity position in the company. In these cases, the existing shareholder's equity in the company can either be diluted or lost entirely.

In the matter of Nexus Energy Ltd (Subject to Deed of Company Arrangement) [2014] NSWSC 1910 (“Nexus”) the Court was called upon to consider whether shareholders who were required to transfer all their ordinary shares in Nexus to the proponent of a DOCA without any consideration payable were ‘unfairly prejudiced’ against.

The NSW Supreme Court granted leave under Section 444GA of the Corporations Act 2001 (“Act”) to give effect to the transfer of shares noting the following key principles:

• the law applies where it is necessary for a DOCA to be implemented;

• the notion of unfairness only arises if prejudice is established;

• whether a transfer of shares is unfairly prejudicial to shareholders depends on the value of their shares in a (hypothetical) liquidation scenario; and

• members do not suffer any prejudice if the shares have no value.

In this specific matter, it was established that the value of the shares in liquidation would be nil and the company’s creditors would achieve a worse result under liquidation than the DOCA.

The outcome of this decision shows that whilst it is important to safeguard the interests of shareholders, in certain circumstances their interests are secondary to the interests of creditors.

What are your obligations to a liquidator?

In recent months several of our accountant contacts have reported the receipt of aggressive and pushy correspondence from interstate liquidators demanding answers to a range of probing questions concerning their past clients’ business activities and transactions. This, therefore, begs the question of what are the duties and obligations of an accountant/adviser to a liquidator of a company that is now insolvent?

To analyse this we must first refer to Section 530A of the Act which refers to ‘Officers’ duties when helping a liquidator. Included in those duties is to deliver the books and records of the company and to comply with the reasonable requirements of a liquidator. Therefore, the definition of what constitutes an officer is important.

The broadest definition of Officer that can be drawn from Section 9 of the Act includes persons not formally appointed to a position of director or secretary but who participate and influence significantly the decision-making of the company.

In most companies, accountants are advisers, not Officers; however, the accountant's past involvement with the management of the company must be closely considered if a liquidator is being insistent with their enquiries. This is important because liquidators have the power to examine certain persons about the conduct and affairs of an insolvent company pursuant to either Section 596A or 596B of the Act.

Again, the definition of Officer is relevant to the application of these provisions. If the accountant is found to be an Officer, a mandatory examination can be ordered. If the accountant is not an officer but may have taken part in, been concerned with or have knowledge of the affairs of the corporation, a discretionary examination can be sought.

An examination involves appearing before Court, handing over relevant books and records and answering questions while under oath.

Having considered the above we believe accountants should, as far as possible, assist with liquidator enquiries in an efficient and timely manner. The motivation for accountants to do so is to mitigate the risk of them becoming personally embroiled in detailed investigations and lines of enquiry. The risk and trouble of such investigations can be avoided with the early provision of documents.

We understand the tension that exists when trying to assist clients in their hours of need; however, at the point of insolvency, the past transactions of the company will need to stand or fail based on the evidence provided by the document trail.

Turning to the issue of documents brings us to Section 530B of the Act and the liquidator’s power to claim the books and records of the company. Whilst tempting, it is not effective for an accountant to seek to assert a possessory lien as security for payment of overdue accounts. It is wise to deliver up the records that are expressly requested to the liquidator who asks.

In short, it is our recommendation that when a liquidator is pursuing explanations or the recovery of relevant books and records, being part of the solution is better than being part of the problem. This also allows accountants/advisers to get on with their business unhindered by the past affairs of the now insolvent client.

What are employee priorities in a receivership?

Receivership is a form of external administration that has the primary objective (except in Court initiated matters) to realise the secured assets in order to provide for the repayment of the secured creditor who in most cases appointed the receiver.

Prima facie, the receiver pays the secured creditor in priority to any other claim holders and remits the balance (if any) to the company or its liquidator, if one is appointed.

However, this position is affected by statutory provisions which give priority to certain claims.

The priorities payable by a receiver depend on the type of security interest held by the secured creditor (circulating or non-circulating) and whether or not the company is being wound up or likely to be wound up.

Circulating security interests are typically over collateral such as cash, debtors, WIP or inventory over which the grantor of the security interest retains control. All other collateral is broadly covered by non-circulating security interests.
 
With respect to claims ranking in priority to the secured creditor from the proceeds of realisation of assets secured by circulating security interests, it is well acknowledged that Sections 433 and 556(1)(e) of the Act require payment of wages, superannuation contributions and superannuation guarantee charges due and payable to employees as at the date of appointment of a receiver.

But what about post appointment employee entitlements, where the position is far less clear?

In the matter of Challenge Australia Dairy Pty Ltd (Administrators Appointed) (Receivers and Managers Appointed) [2011] FCA 10, the Federal Court of Australia held that Section 558 of the Act does not apply to receiverships and unlike liquidations, post-appointment entitlements do not have priority over circulating security interests.

This decision is consistent with earlier judgements that a receiver is not required to pay post appointment entitlements in priority to a secured creditor’s circulating security interest (at least where a receivership was not followed by a winding up). However, the Court acknowledged that this decision is not without difficulty.

On 22 February 2012, the WA Supreme Court handed down its decision regarding Great Southern Ltd (Receivers and Managers Appointed) (in liq); Ex parte Thackray [2012] WASC 59. This decision helps shed some light on the priority of employee entitlements over circulating security interests where both receivers and liquidators have been appointed. The decision suggests:

• Receivers must separately identify the proceeds of sale from circulating and non-circulating charged assets.
• If receivers are on notice that a winding up may commence at any time before the receivership terminates, Section 561 of the Act may have the effect of imposing a trust over the proceeds of the realisation of assets subject to circulating security interests.
• As employee entitlements are wider under Section 561 than Section 433 (i.e. leave entitlements which are accrued but not payable) any surplus proceeds recovered by the receivers may be impressed with a trust. The trust funds cannot be paid to the secured creditor until a liquidator has determined whether those funds are required to pay the wider employee entitlements.

Litigation words of wisdom

As liquidators, we are often involved in litigation and see first-hand the real costs, risks and implications associated with it.

It was especially refreshing to read recently in a newsletter issued by a respected Adelaide Law Firm the following comment:

“Generally speaking, the most commercially minded (and successful) parties in litigious matters are those which give proper consideration to, and make, reasonable offers to settle the matter before it reaches the point of a trial.”

We encourage all readers to consider these wise words if ever you are involved in litigation.

Is your business under financial stress?

In our discussions with SME business owners over recent months, we have noticed an increase in the amount of business pessimism, but without a corresponding increase in the number of formal insolvency appointments. This suggests to us that many businesses are struggling to make ends meet and are not seeking relief through a formal insolvency appointment.

Whilst it is admirable to battle on in the hope of a financial turnaround, it is also not responsible to continue battling on when the prospects of a turnaround are unlikely. It’s important to recognise the obvious indicators of financial stress, which include:

• Increasing pressure from suppliers whose bills cannot be paid on time;
• Not meeting essential tax and superannuation payments by the due dates; and
• Increasing list of creditors aged over 45 days. When faced with these difficulties, solutions to the problems are hard to implement quickly and for that reason, many businesses find themselves unable to successfully implement a financial restructuring.

Those businesses that have recognised the problems early enough will be able to address their circumstances as follows:

• Prepare a financial budget that identifies the extent of cost savings, GP margin improvements and cash flow creation strategies that are necessary to achieve a cashflow turnaround in a reasonable timeframe;
• Off the back of this budget, identify GP improvement strategies, alternate marketing plans and overhead reduction targets to achieve and implement them quickly;
• Talk to key stock suppliers to extend trading terms or return stock for credit in order to improve cash flow and reduce debt overhang;
• Sell surplus or non-core stock or assets quickly (consider the use of auction clearing houses) in order to improve cash flow; and
• Renegotiate with key suppliers such as landlords who may be willing to provide short-term financial relief in order to secure long term viability for the company.

It is tempting for SME business owners to tap into additional lines of credit (such as re-drawing on home loans) to fund businesses that are struggling; however, we caution against this unless it is clear that further investment in the company will assist the implementation of a successful restructuring plan.

If implementing the above strategies does not relieve the financial stress in a relatively short time frame (3 months) then battling on in the hope of a financial turnaround will achieve very little.

If a restructuring is impossible to achieve, then the sale of the business to another entity with the capital or capacity to restructure the business may be the only other option to consider. The success of that strategy depends significantly on the ability to quickly identify a suitable purchaser and the capacity of the company to trade viably through a sales campaign.