Applicant v Respondents

2 By an interlocutory process filed on 19 August 2011, Mario Giudice made application to the associate judge for the liquidation of Kitchen Dimensions to be terminated pursuant to s 482 of the Act.

3 The application was dismissed.[1] Judgment was handed down on 15 December 2011. Mr Giudice filed a notice of appeal on 19 December 2011. The hearing of the appeal was adjourned until 5 March 2012. On that occasion orders were made to temporarily stay the winding up from 4pm on 6 March 2012 until 22 March 2012 subject to Mr Giudice giving a guarantee in favour of the company for the liquidator's costs, some trade debts, and for outstanding taxes, penalties and interest.

4 At the same time, Mr Giudice was restored as director of the company, with limited powers to (i) advise the Official Trustee in Bankruptcy of the withdrawal of the company's claim against his wife, Cherise Giudice, so that the trustee may in turn withdraw caveats over properties owned by Mr and Mrs Giudice; (ii) procure the return of shares, held by the trustee, to Mrs Giudice; and (iii) sign and lodge outstanding income tax returns and business activity statements.

5 Mrs Giudice had been made a bankrupt on 8 May 2007 and one of her liabilities was a loan due to the company. The financial position of the company was complicated by loan arrangements with the Giudices, and the bankruptcy. The trustee had lodged caveats to support repayment of sums owed by Mrs Giudice to the company, but had informed the parties that the bankruptcy would be annulled on payment of $35,000. The existence of the caveats limited the Giudices' ability to recapitalise the company and meet the demands of existing creditors, by borrowing against their properties. Mr Giudice proposed to satisfy all unchallenged debts by borrowing against the family home and other property in which the Giudices had more than adequate equity.

6 The proceeding was adjourned from time to time as arrangements progressed to file income tax returns and business activity statements, procure the necessary loan funds, and pay creditors. What was commenced as an appeal from an associate judge became in substance an entirely fresh application to terminate the liquidation. Numerous further affidavits were filed, and the liquidator provided a helpful report to the Court.

7 In his report, the liquidator pointed out a variety of failures on which he based his opposition to a termination of the winding up. Several of these failures demonstrated a lack of diligence in meeting statutory obligations. They were:

(1) Business activity statements and instalment activity statements had not been lodged with the ATO for the 11 quarterly reporting periods between 1 October 2008 and 30 June 2011.

(2) Mr Perrett, the applicant's new accountant, revealed that the income tax return for the 2010 year had not been lodged.

(3) The ATO had submitted a formal proof of debt for $252,828.76. This sum includes unpaid tax, penalties, and interest. The liquidator had been advised by the ATO that it intended to submit a revised proof of debt. While the ATO's claim may be the subject of dispute, $98,132.33 of the original assessment remained unpaid.

(4) There was a failure to make payments in respect of employees' superannuation guarantee entitlements. The liquidator stated that the ATO had garnisheed the company's bank account in February 2011. Following the appointment of the liquidator, the ATO submitted formal proofs of debt claiming $29,093.26 in respect of the Superannuation Guarantee Charge.

8 The liquidator also noted three additional acts of misconduct:

(1) Mrs Giudice, who had been declared bankrupt on 8 May 2007, continued to act as a Director until 2 June 2010.

(2) Money was borrowed by the company from the Giudice Superannuation Fund. As at the date of his report, the sum of $358,655 had not been repaid. While the borrowing did not so much demonstrate misconduct in the operation of the company, the liquidator noted, correctly in my view, that the directors of the company "were involved in an unlawful transaction, and a serious breach of the Commonwealth legislation concerned with protection of superannuation funds."

(3) The liquidator also pointed out the possibility that loans made by the company to Mr and Mrs Giudice may have contravened division 7A of the Income Tax Assessment Act 1936 (Cth). Mr Perrett said that the loan had been restructured, on the basis of new advice, so that any contravention would cease.

9 The restructuring of the loans, and the speed with which Mr Perrett was able to prepare business activity statements and income tax returns once engaged, suggested that the potential for future problems and possible misconduct of the kind identified by the liquidator may be avoided if the directors made use of good advisors.

10 Once the Giudices were able to have the caveats removed from their properties they took steps to discharge liabilities, including their tax obligations, repay the superannuation fund and to reach agreement with the liquidator for payment of his costs and expenses. These steps took far longer than anticipated, but in the end, the liquidator no longer opposes the application.

11 The misconduct identified by the liquidator was not sufficient for the Australian Securities and Investments Commission to move to disqualify either Mr or Mrs Giudice from managing corporations under pt 2D.6 of the Corporations Act 2001 (Cth) or under s 12GLD of the Australian Securities and Investments Commission Act 2001 (Cth). In the absence of such an order, the Giudices are at liberty to establish a new company, or acquire an existing company to carry on their business. At one point the liquidator informed the court that Mr Giudice has already registered a new company, Spazio Kitchens Pty Ltd. Mr Giudice's counsel conceded that the purpose of doing so was to enable his client to recommence business should his application fail.

12 This presented a conundrum. Before withdrawing his opposition to the application, the liquidator had argued that, even if the company could demonstrate solvency, the winding up should not be terminated because of the misconduct of the directors in relation to its operation. But even if the liquidator's concerns are soundly based, Mr Giudice would be free to operate his business through a new company and, in so doing, imperil future creditors if his management practices did not improve. Thus, the very act of commercial immorality complained of by the liquidator could emerge again in the operation of a new company.

13 To understand the force of the liquidator's contention it is necessary to consider the relevance of the concept of commercial morality on an application to terminate a winding up, where the affairs of the company have been regularised by the payment of its creditors; and the company is the alter ego of the director who is free to start again with a new company.

14 The Australian authorities, discussed below, refer to the decision of Buckley J in In re Telescriptor Syndicate, Limited.[2] There, Buckley J introduced a concept of "commercial morality", drawn from bankruptcy cases, as a discretionary element when deciding whether winding-up proceedings should be stayed.[3] Buckley J considered that:[4]

The Court should not assume a different attitude or act upon a different principle in the winding-up of a company and in the bankruptcy of an individual.

15 It is interesting to note that in Telescriptor Syndicate, the report records that counsel for the applicant identified the same conundrum. The report indicates that the applicant's counsel argued that:[5]

Winding-up is in many respects different from bankruptcy. In bankruptcy a man by obtaining his discharge or having his bankruptcy annulled is set free to trade again in his own name. A company when wound up is dissolved and ceases to exist, and there is nothing to prevent those connected with it from forming other companies.

16 In that case, Buckley J found that there had been secret agreements for the issue of bonus shares, and concluded that:[6]

Further, and principally, this company, loaded as it is with bonus shares and having a nominal capital which is, and has from the first been, largely fictitious, ought not I think to be allowed to resume business. And, at any rate, I think that the liquidation ought to proceed so as to settle the list of creditors and contributories, and to ascertain more fully the circumstances under which each of the three directors received the 2000 bonus shares. It is not, therefore, proved to my satisfaction that the winding-up ought to be stayed.

17 The approach to commercial morality employed by Buckley J was drawn from the reasoning of Fry LJ in In re Hester (1889),[7] which concerned the annulment of a bankruptcy. There, Fry LJ set out the nature of the discretion to be exercised by the Court:[8]

The Court has far larger and more important duties to perform than merely to consider whether the creditors have consented to the rescinding of the order. We are bound in the exercise of our discretion in such a matter, and I think I might almost say in all matters under this Act, to take a wider view. We are not only bound to regard the interests of the creditors themselves, who are sometimes careless of their best interests, but we have a duty with regard to the commercial morality of the country.

Of particular concern was the need to prevent bankrupts entering into private arrangements with their creditors. His Lordship said that such arrangements have 'often been scandalous, and that they have given opportunities for misrepresentation, for private bargains, and for undue preferences.'[9]

18 Also in In re Hester, Esher MR made reference to the need to protect the future creditors of a discharged bankrupt. Esher MR said:[10]

The Court has gone still further, and I think rightly so, and has said that under the present Bankruptcy Act it will consider not only whether what is proposed is for the benefit of the creditors, but also whether it is conducive or detrimental to commercial morality and to the interests of the public at large; and they will take into consideration the position of the bankrupt with regard to his creditors, and see whether what is proposed will not place his future creditors, who must come into existence immediately, in a position of imminent danger. The Court has said this before, and I adhere to it now.

The Master of the Rolls also expressed concern about private arrangements with creditors.

19 Thus, the application of a concept of commercial morality, as a relevant matter on a bankrupts application to be discharged, had two objectives: (i) to ensure that private arrangements with some creditors did not disadvantage others; and (ii) to ensure that future creditors were not disadvantaged.

20 That the concept of 'commercial morality', as a relevant factor on an application for discharge or termination, should find its origins in bankruptcy, is understandable. There is, however, a difficulty in the uncritical adoption of the bankruptcy formulation of 'commercial morality' where the application concerns the winding up of a company. The court is given a broad jurisdiction to control the action of a bankrupt individual. Yet, in the absence of an application brought by ASIC to disqualify an individual from management of corporations, the scope of the commercial morality doctrine seems of limited application insofar as it relates to misconduct of a director.

21 Commercial morality as a concept has nonetheless made its way into the Australian law as relevant on applications such as this. In Master Lee's judgment in Re Warbler Pty Ltd[11] there is found a list of factors to be considered when determining whether winding up should be stayed, including commercial morality and public interest. Telescriptor Syndicate, along with the decisions of Gillard J in Krextile Holdings Pty Ltd v Widdows[12] and of Mason JA in Re Data Homes Pty Ltd[13], explain the modern basis for the application of the concepts in a winding up.[14]

22 There are no clear categories in which courts have refused to terminate or stay a winding up because of concerns about commercial morality, where the company is otherwise solvent. In Re Data Homes Pty Ltd, Mason JA conceived of commercial morality and public interest as giving 'expression to the very broad discretion' conferred upon the court.[15] However, Mason JA decided that commercial morality and public interest could be used to describe a situation where a company was perhaps technically solvent due to an agreement with creditors, but where its liabilities greatly exceeded its assets.[16]

23 In Krextile Holdings, while referring to commercial morality, Gillard J proposed a much broader test. His Honour proposed an all-encompassing test by asking - '[w]hat are the consequences that would flow from staying proceedings in this case?'[17] As with Re Data Homes Pty Ltd, this test recast the question of commercial morality so as to focus on the future, and in particular ask whether future creditors would be imperilled. Presumably it may also extend to whether a history of failure in meeting statutory duties would cause future difficulties. Gillard J found that:[18]

The answer is simple on the evidence placed before me. The companies would continue their successful businesses with the present management and the present personnel without any risk to any creditor or any other person. The report of the liquidator that I required satisfies me that this is so. On the present position of the companies there could be no threat to the public interest. On the other hand, looking at the matter commercially and pragmatically, it could well be urged that it would be against the public interest to dissolve the companies and to close down or transfer to other ownership or management a business which has successfully catered for a large section of the textile industry for some years.

24 Unsurprisingly, these cases have been applied in a variety of ways. In the recent decisions of Prendergast v Rolcross Pty Ltd (In Liq)[19] and Apostolou v VA Corporation of Australia Pty Ltd,[20] commercial morality was regarded as engaged where there had been serious impropriety or, expressing reasoning similar to Krextile Holdings, where future creditors were imperilled.

25 In Apostolou, Finkelstein J considered that commercial morality was generally unlikely to trouble the court:[21]

In considering whether it is in the company's best interests to stay the liquidation, the liquidator will need to consider the factors relevant to the court's discretion as regards whether to grant a stay. A stay order will usually be made if all creditors are paid out, the liquidator's costs and expenses are covered and the members agree. It may be accepted that there will be exceptional cases where it would not be appropriate to stay the winding up of a company simply because it is solvent. For example, where it is "detrimental to commercial morality and to the interests of the public at large" a stay will not be granted: Re Telescriptor Syndicate Ltd [1903] 2 Ch 174 at 180. See also Re Warbler Pty Ltd (1982) 6 ACLR 526; Anderson v Palmer [2002] NSWSC 192.

26 In Prendergast, White J was not persuaded that Telescriptor Syndicate should be employed as authority to find that a failure to meet statutory reporting obligations was indicative of a sufficient lack of commercial morality that a winding up should not be stayed:[22]

As I read the judgment, it was not the failure of the directors to comply with their statutory duty to provide information to the Official Receiver and a report as to affairs which, by itself, was the occasion for refusing the stay. Rather those matters, amongst others, gave reason to apprehend that the affairs of the company and the conduct of its directors were not 'fair and above-board'.

In the present case I do not consider that the orders sought should be refused as a mark of the Court's disapproval of the directors' conduct or to provide an additional sanction against non-compliance with statutory duties. The question rather is whether it appears that it would be, or may be, contrary to the public interest if the company were permitted to resume operations. In a case such as the present where all of the shares are held by the plaintiff, the pubic interest means primarily the interests of existing and future creditors.

27 Under this conception of the law, Gematech Pty Ltd v Bardi Investments Pty Ltd[23] provided an example of serious impropriety giving the court reason to consider commercial morality. There, Hammerschlag J found that:[24]

In my view, the principal motivation on the part of Mr Crockford for casting the Company adrift was to thwart Gematech, leaving it with a judgment against a shell.

Hammerschlag J concluded that 'to terminate the winding up would, in these circumstances, not be in the public interest, nor would it serve the ends of commercial morality'.[25]

28 Set against this background, which tends to focus broadly on the likely impact on future creditors, Tadgell J's decision in Re Skay Fashions Pty Ltd (in liq)[26] has sometimes been cited as authority for the proposition that previous neglect of obligations was sufficient reason to refuse an application to stay a winding up. Thus, in Metledge v Bambakit Pty Ltd, Barrett J found it convenient to employ Re Skay Fashions where the sole director 'has shown himself to be unconcerned about the responsibilities that attach to the office of company director'.[27] Yet, Tadgell J said,[28]

The court also has to consider whether the termination of the winding up will be conducive or detrimental to commercial morality and the interests of the public at large. It is a clear axiom that insolvent companies should be wound up and that they should stay in liquidation unless solvency can be demonstrated. If solvency could be demonstrated here, it would be no more than bare solvency. That is about as much as could ever be expected if an adjournment were allowed. The court would, if making an order to terminate a liquidation, probably, and in the ordinary course should, give directions for the resumption of management and control of the company by its officers. As I say, here I am given no information at all as to who might conduct the company's affairs or how they might be conducted. For all one knows, they would be conducted in the same sloppy fashion as they have been conducted heretofore.

29 It was a lack of information, similar to that mentioned by Buckley J in a preliminary decision in Telescriptor Syndicate, which appears to have persuaded Tadgell J against finding that there was no danger to the public interest from staying the winding up. On this basis, Re Skay Fashions also indicated that it was the interests of future creditors for which Tadgell J was concerned, rather than punishing former directors for earlier failures. Chan v Austgrove Enterprises Pty Ltd (in liq) presents just such an example, where an indication that past practices would be corrected, including a failure to make an annual return, was material in persuading Seaman J to grant an application that the winding up be stayed.[29]

30 The most frequent references to a failure to lodge documents with ASIC or to file income tax returns and business activity statements, arise where a company has already been found to be insolvent, and the presence or absence of commercial morality was not determinative of a winding up being stayed.

31 White J noted a failure to lodge business activity statements and income tax returns as relevant to the question of commercial morality in Re Enviro Energy Australia Pty Ltd (In Liquidation),[30] but in that case, the company was also 'clearly insolvent'.[31] Similarly, Ashley JA in Von Risefer v Mainfreight International Pty Ltd considered that there was a lack of commercial morality where an insolvent company[32] had failed to perform a variety of statutory obligations. They were,[33]

(1) The company did not inform ASIC of the details of its registered office at any time after late 1991; (2) The company did not provide regular reports of its affairs to ASIC after May 2003; (3) The company had not lodged tax returns or business activity statements at any time after its commencement; (4) The company was not shown to have any proper accounting records; (5) The directors gave the liquidators minimal assistance in the latter's attempts to ascertain the true position of the company.

A note concerning Re Data Homes Pty Ltd and Krextile Holdings Pty Ltd

32 These cases were decided under earlier statutory provisions which placed a higher burden on an applicant applying to stay winding up. The Companies Act 1961 (Vic) s 243(1) stated that:

At any time after an order for winding up has been made the Court may, on the application of the liquidator or of any creditor or contributory and on proof to the satisfaction of the Court that all proceedings in relation to the winding up ought to be stayed, make an order staying the proceedings either altogether or for a limited time on such terms and conditions as the Court thinks fit.

33 By contrast, s 482(1) of the Corporations Act 2001 (Cth) states:

At any time during the winding up of a company, the Court may, on application, make an order staying the winding up either indefinitely or for a limited time or terminating the winding up on a day specified in the order.

34 In Krextile Holdings, Gillard J noted that 'the statutory provisions require that the Court must be satisfied it ought to grant a stay. It is not merely necessary for the applicant to establish that a stay is reasonable in the circumstances.'[34] The absence of the words 'on proof to the satisfaction of the Court' from the modern statute may indicate that the bar has been lowered for applicants.

35 There is no question that the Giudice's failed to discharge a number of important statutory and other duties, and to attend to the proper management of their business. Most of their shortcomings, however, seem to be the result of ignorance or circumstances overwhelming their ability to stay on top of important management issues, such as the timely payment of creditors. The circumstances in which Mrs Giudice was declared bankrupt, but then continued to act as a director, and was then able to procure an annulment, were extraordinary to say the least. The Giudice's had substantial assets available to them, and yet Mrs Giudice was declared bankrupt over a relatively small sum. The winding up order that was made against the company also followed a statutory demand for a relatively small sum.

36 I do not discern dishonesty on the part of Mr and Mrs Giudice in their dealings. It would appear that the Giudice's have now engaged professional advisors who will in future maintain the proper books and records for their business, whether conducted by Kitchen Dimensions or a new entity. They have learned a valuable but very expensive lesson. The cost to them in making this application has been very substantial. They might have been tempted to 'let the company go' and start a new business. Instead, they have chosen to take the more difficult path of regularising the affairs of the company. It has been necessary to borrow about $785,000 to pay creditors.

37 Notwithstanding the assistance of recently appointed advisors, I remain concerned about the ability of the Giudice's to manage the company into the future. If they continue to engage competent advisors they will have a much better chance of doing so; but there is always a risk that they will fail. If the do, their failure may prejudice future creditors. But in the absence of an order preventing Mr and Mrs Giudice from continuing to carry on business through a new entity, that risk will not be ameliorated by refusing this application.

38 As mentioned above, this proceeding is in form an appeal from a decision of an associate judge, refusing Mr Giudice's application to terminate the winding up. The state of the evidence at the time that decision was made justified the decision. Leave has been given to introduce a great deal of additional evidence and there has been a dramatic change in circumstances. The company may now be regarded as solvent. Its uncontested debts have been repaid, tax returns and business activity statements filed and Mrs Giudice's bankruptcy annulled. The liquidator no longer apposes the application.

39 Insofar as it is necessary to deal with the proceeding as an appeal, I would allow the appeal and order that the liquidation be terminated. But during the course of the hearing, the parties accepted that in reality Mr Giudice was making a fresh application to the court. That conception of the proceeding more accurately reflects the reality. Accordingly, I will order that the liquidation be terminated and make consequential order for Mr Giudice's reinstatement as a director and for notification of the order to ASIC.

[1] Re Kitchen Dimensions Pty Ltd (in liq) [2011] VSC 637.

[2] [1903] 2 Ch 174.

[3] [1903] 2 Ch 174, 181.

[4] [1903] 2 Ch 174, 181.

[5] [1903] 2 Ch 174, 179-180.

[6] [1903] 2 Ch 174, 195.

[7] LR 22 QBD 632.

[8] (1889) LR 22 QBD 632, 641.

[9] (1889) LR 22 QBD 632, 641.

[10] (1889) LR 22 QBD 632, 639.

[11] (1982) 6 ACLR 526.

[12] [1974] VicRp 83; [1974] VR 689.

[13] [1972] 2 NSWLR 22

[14] (1982) 6 ACLR 526, 532.

[15] [1972] 2 NSWLR 22, 26-27.

[16] [1972] 2 NSWLR 22, 27.

[17] [1974] VicRp 83; [1974] VR 689, 695.

[18] [1974] VicRp 83; [1974] VR 689, 695 (emphasis added).

[19] [2008] NSWSC 146.

[20] [2010] FCA 64; (2010) 77 ACSR 84

[21] [2010] FCA 64; (2010) 77 ACSR 84, 96 [58] (emphasis added).

[22] [2008] NSWSC 146 [24]-[25] (emphasis added).

[23] [2008] NSWSC 196.

[24] [2008] NSWSC 196 [56].

[25] [2008] NSWSC 196 [62].

[26] (1986) 10 ACLR 743.

[27] [2005] NSWSC 160 [37].

[28] (1986) 10 ACLR 743, 746.

[29] (1993) 12 ACSR 427, 430-431.

[30] [2010] NSWSC 1222 [38].

[31] [2010] NSWSC 1222 [45].

[32] [2009] VSCA 179; (2009) 25 VR 366, 380 [23], [25].

[33] [2009] VSCA 179; (2009) 25 VR 366, 380 [24].

[34] [1974] VicRp 83; [1974] VR 689, 694.