Australian Securities and Investments Commission v Plymin and Ors

Applicable principles

1. The relevant principles are well-established. It is sufficient to refer to the following matters, drawing upon what I said in Shaw v KPR Recruitment Australia Pty Ltd [2017] NSWSC 539 at [23]-[29] and [36]-[39].
2. Section 588FC directs attention to the solvency of the company at the time of the transaction, which in turn directs attention to the provisions of s 95A of the Corporations Act: (1) A person is solvent if, and only if, the person is able to pay all the person's debts, as and when they become due and payable. (2) A person who is not solvent is insolvent.
3. Whilst s 95A is principally concerned with the cash flow test of insolvency, the state of the company's balance sheet remains of subsidiary relevance: Sutherland & Another (as joint liquidators of Australian Coal Technology) v Hanson Construction Materials Pty Ltd and Others (2009) 254 ALR 650; [2009] NSWSC 232 at [8]-[9] and the cases there cited.
4. Solvency or insolvency is a question of fact to be ascertained from a consideration of the company's financial position taken as a whole. An assessment of solvency requires regard to commercial realities when considering what resources are available to the company to meet its liabilities as they fall due, whether resources other than cash are realisable by sale or borrowing upon security, and whether such realisations are achievable. It is proper to have regard to the commercial reality that, in normal circumstances, creditors will not always insist on payment strictly in accordance with their terms of trade, but that does not result in the company thereby having a cash or credit resource which can be taken into account in determining solvency: Southern Cross Interiors Pty Ltd (in liq) v Deputy Commissioner of Taxation (2001) 53 NSWLR 213; [2001] NSWSC 621 at [54] (Palmer J).
5. In Lewis (as liq of Doran Constructions Pty Ltd (in Liq)) v Doran and Others (2005) 219 ALR 555; [2005] NSWCA 243 at [103] Giles JA (Hodgson and McColl JA agreeing), after noting that the test of insolvency is objective, emphasised the need for consideration to be given to the immediate future: … Section 95A speaks of objective ability to pay debts as and when they become due and payable, but ability must be determined in the circumstances as they were known or ought to have been known at the relevant time, without intrusion of hindsight. There must of course be "consideration … given to the immediate future" (Bank of Australasia v Hall (1907) 4 CLR 1514 at 1528; 14 ALR 51 at 54-5 per Griffith CJ), and how far into the future will depend on the circumstances including the nature of the company's business and, if it is known, of the future liabilities. Unexpected later discovery of a liability, or later quantification of a liability at an unexpected level, may be excluded from consideration if the liability was properly unknown or seen in lesser amount at the relevant time.
6. Further and importantly, as Barrett J observed in Australian Coal Technology at [10], "s 95A requires a decision whether the company is suffering from a temporary lack of liquidity or an endemic shortage of working capital" [citations omitted]. Barrett J continued at [11]: The emphasis must be upon the extent of cash and other liquid assets compared with the quantum of debts due and payable and to become due and payable in the immediate future. Insufficiency of cash or liquid resources to pay those debts is indicative of insolvency. The insufficiency becomes determinative if it is shown that it is more than a temporary lack of liquidity. In essence, there is a question whether the inability to pay is purely temporary.
7. Finally, the liquidator has the onus to prove that the company was insolvent at the relevant time(s): Welcome Homes Real Estate Pty Limited v Ziade Investments Pty Limited [2007] NSWCA 167 at [40], [46(2)] and [70] (Hodgson JA, Spigelman CJ and Santow JA agreeing).Application of principles to the facts.

Application of principles to the facts

1. The liquidator provided separate expert reports for MK NSW and MK QLD in which he expressed the opinion in relation to each company that it was insolvent from 29 February 2016, and remained insolvent from that date. The reports adopted a common methodology of conducting a cash flow test, focusing on the liquidity and viability of the business of each company.
2. In each report, the liquidator analysed the extent of the cash and other assets of each company that could be readily converted into cash, compared with debts due and payable and to become due and payable in the immediate future. In examining the cash position of each company, the liquidator undertook a review of the available books and records of each company and identified five categories of liquid assets which could potentially have been used to pay debts as and when they fell due: cash at bank and a Commonwealth Bank of Australia (CBA) overdraft facility; debtor receivables; work-in-progress; stock; and plant and equipment and other non-circulating assets.
3. As to the CBA overdraft facility, the liquidator observed that the maximum amount available to the MK Group was $1,000,000 and that this facility was cancelled by CBA on 21 September 2016. The liquidator conducted a monthly analysis of how much of the CBA overdraft was available to each of the companies within the MK Group, including MK NSW and MK QLD.
4. The liquidator identified the debtor receivables of each company for each month from January 2016 to October 2016, as recorded on the monthly balance sheets in the management accounts for each company. He considered that a 5 per cent provision for uncollectable debts was appropriate and sufficiently generous. That assumption was reasonable.
5. The liquidator considered that as the work-in-progress shown in the management accounts was not converted and invoiced, the amounts were not collectable and, accordingly, were not readily available to meet each company's debts. That assumption was reasonable, particularly given the nature of the company's clients, being builders and developers where progress payments are earned upon performance of certain milestones.
6. As to stock, the liquidator obtained valuations from Grays Asset Services which disclosed a market value of $617,500 (MK QLD) and $85,000 (MK NSW) and a forced liquidation value of $371,885 (MK QLD) and $51,000 (MK NSW). The liquidator considered that the values shown in the management accounts did not reflect the true realisable value of the stock and noted that the stock was subject to CBA's circulating security interest and may also have been the subject of retention of title claims by suppliers, and given CBA's security interest, MK NSW and MK QLD may not have been able to sell the stock other than in the ordinary course of business. Accordingly, the amount shown for stock was not readily available to meet the company's debts. That assumption was reasonable.
7. As to plant and equipment and other non-circulating assets, the liquidator obtained valuations from Grays Asset Services which recorded a market value of $240,515 (MK QLD) and $144,655 (MK NSW) and a forced liquidation value of $137,760 (MK QLD) and $91,150 (MK NSW). The liquidator noted that the non-circulating assets were subject to CBA's security interest over MK QLD and MK NSW and that the motor vehicles were leased from SG Fleet Australia Pty Ltd with an estimated value of $60,000 and a forced liquidation value of $50,000 and that these leased vehicles were leased in the name of MK QLD despite being stored at MK NSW premises and utilised by staff at MK NSW. The liquidator considered that these non-circulating assets are not usually available for debt reduction and payment of liabilities as the sale of such assets would cause major disruption to business and would typically also require the consent of the secured creditor, in this case the CBA. That assumption is reasonable.
8. The liquidator noted that the unsecured creditors recorded in the monthly management accounts of MK QLD were $4,590,629.48 in January 2016, $5,266,940.55 in April 2016 and $3,952,698.89 in September 2016. As to MK NSW, the unsecured creditor recorded in the monthly management accounts were $2,601,437.43 in January 2016, $3,954,052.87 in April 2016 and to $4,407,748.96 in October 2016.
9. In addition, both MK QLD and MK NSW had other monthly financial obligations for property and equipment leases, rental obligations and employee entitlements: MK QLD's monthly obligations were approximately $391,000; MK NSW's monthly obligations were $96,000.
10. In respect of MK NSW, the table reproduced below from the liquidator's report illustrates the significant cash deficiency for each month from January 2016 to October 2016, applying a 5 per cent deduction / provision in relation to the debtors of MK NSW: Month/Year Total Available Funds at Month End Unsecured Creditor Debts Outstanding at Month End Deficiency Position ($) ($) ($) Jan 2016 2,077,570.95 2,601,437.42 (523,866.47) Feb 2016 2,086,432.05 3,176,573.29 (1,090,141.24) Mar 2016 2,391,198.15 3,503,543.37 (1,112,345.22) Apr 2016 3,490,078.10 3,958,052.87 (463,974.77) May 2016 3,703,304.41 4,344,906.88 (641,602.47) Jun 2016 3,067,797.29 4,292,916.73 (1,225,119.44) Jul 2016 2,470,186.96 4,392,133.51 (1,921,946.55) Aug 2016 3,255,844.30 4,683,480.26 (1,427,635.96) Sep 2016 2,759,525.75 4,166,233.48 (1,406,707.73) Oct 2016 2,687,865.36 4,407,748.96 (1,719,883.60)

1. In respect of MK QLD, the table reproduced below from the liquidator's report illustrates the significant cash deficiency for each month from January 2016 to October 2016, again applying a 5 per cent deduction / provision in relation to the debtors of MK QLD: Month/Year Total Available Funds at Month End Unsecured Creditor Debts Outstanding at Month End Monthly obligations Deficiency Position ($) ($) ($) ($) Jan 2016 3,961,699.98 4,590,629.48 391,447.46 (1,020,376.96) Feb 2016 4,264,784.29 5,066,216.90 391,447.46 (1,192,880.07) Mar 2016 4,173,956.48 4,908,401.88 391,447.46 (1,125,892.86) Apr 2016 3,558,794.16 5,266,940.55 391,447.46 (2,099,593.85) May 2016 3,488,785.94 5,158,254.59 391,447.46 (2,060,916.11) Jun 2016 4,159,443.35 4,925,595.97 391,447.46 (1,157,600.08) Jul 2016 2,852,790.38 4,530,821.86 391,447.46 (2,069,478.94) Aug 2016 2,346,081.42 4,109,446.93 391,447.46 (2,154,812.97) Sep 2016 1,243,303.74 3,952,698.89 391,447.46 (3,100,839.61) Oct 2016 1,397,207.88 4,389,622.31 391,447.46 (3,383,861.89)

1. I now turn to the other circumstances which the liquidator says support a conclusion of insolvency.
2. The first concerns the inability to raise further equity capital or alternative finance. This requires reference to some further facts.
3. On 21 December 2015, CoVest Capital Pty Ltd (CoVest) submitted an offer of a capital injection of $5,375,396 to the MK Group in exchange for the issue of 5,375,397 ordinary shares. The offer noted that CoVest's investigation had revealed additional debts and a working capital shortfall which "impacted the net value of the business" and that significant levels of creditors were outside of agreed terms with suppliers. Subsequently on 28 February 2016 CoVest sent a letter to the MK Group stating that it had decided to withdraw its investment offer as it took the view that the "business remains uninvestable" and that the value of the MK Group had deteriorated to almost nil.
4. Also during 2016 another undisclosed party represented by Constantinidis Accountants, expressed an interest in acquiring the MK Group which would involve the injection of a working capital facility of $3,000,000. This expression of interest was the subject of letters from Constantinidis Accountants dated 7 March 2016 and 10 May 2016. However, no injection of working capital eventuated. The liquidator noted that he had not seen any documents that would suggest there was any real prospect of an acquisition by any interested party.
5. The liquidator assumed, correctly in my view, that both MK QLD and MK NSW did not have an ability to raise further equity capital or alternative finance.
6. The second matter is the evidence of continuing losses incurred by MK QLD and MK NSW. The management accounts for MK QLD show that the company traded at a loss during the period from 1 April 2016 until 31 October 2016 of $10,382,751, and recorded similar levels of loss in the years April 2014 to March 2015 and April 2015 to March 2016. The management accounts for MK NSW show that the company traded at a loss during the period from 1 April 2016 until 10 October 2016 of $524,024.98, and recorded similar levels of loss in the years April 2014 to March 2015 and April 2015 to March 2016.
7. The third matter is the liquidity ratio of each company. In analysing the liquidity ratio by reference to the company's balance sheets in its management accounts, the liquidator adopted the approach of making certain adjustments to exclude amounts recorded for inter-company loans, work-in-progress, retentions, and stock. Those adjustments were reasonable and appropriate. On that basis, for MK QLD the adjusted current ratio as calculated by the liquidator was 0.63 in January 2016, 0.55 in April 2016, 0.45 in July 2016 and 0.15 in September 2016. In respect of MK NSW, the adjusted current ratio as calculated by the liquidator was 0.46 in January 2016 0.56 in April 2016, 0.41 in July 2016 and 0.50 in September 2016.
8. There is also evidence in this case of a number of the other "indicia of insolvency" referred to in Australian Securities and Investment Commission v Plymin and Ors (2003) 46 ACSR 126; [2003] VSC 123 at [386] (Mandie J). See also: Lewis v Doran at [75] (Palmer J). In particular: 1. there is evidence of overdue Commonwealth and State taxes. MK NSW entered into instalment payment arrangements with the ATO in March 2015, June 2015, November 2015, January 2016, and June 2016. In each case, MK NSW failed to comply with the arrangement. Relevantly, with respect to the arrangement entered into in November 2015 in respect of a debt due to the ATO of $699,478.45, MK NSW failed to pay each monthly instalment commencing on 4 December 2015. With respect to the arrangement entered into in January 2016, MK NSW paid the instalments due on 8 February, March and April 2016 and thereafter failed to pay the monthly instalments of $35,000 commencing on 8 May 2016; 2. the deteriorating relationship between each of MK QLD and MK NSW and their trade creditors is made clear by the liquidator's reports which record the receipt of numerous letters of demand, statutory demands and court processes by MK QLD in the period May to October 2016 and by MK NSW in the period January to September 2016; 3. both MK QLD and MK NSW had increasing difficulties in procuring supplies. There is evidence of at least 14 suppliers to MK QLD and 9 suppliers to MK NSW having placed their accounts on hold and refused to continue to supply stock each company.

Conclusion on insolvency

1. The essential question raised by the cashflow test of insolvency under Corporations Act, s 95A, is whether each of MK QLD and MK NSW was suffering from a temporary lack of liquidity or an endemic shortage of working capital in and after April 2016.
2. The financial picture of each company as at the beginning of April 2016 is one where the debts due and payable and to become due and payable in the immediate future far exceeded the extent of cash and other liquid assets available to each company. Each company had an endemic cash shortage. As to MK QLD, at the beginning of April 2016 it was suffering from a significant cash deficiency of $1,125,092.86, it had an adjusted liquidity ratio of 0.55 and it traded at a loss of $10,382,751 in the period 1 April 2016 to 10 October 2016.
3. As to MK NSW, it was also suffering from a significant cash deficiency of $1,112,345.22 at the beginning of April 2016, it had an adjusted liquidity ratio of 0.55 and traded at a loss of $524,024.98 in the period 1 April 2016 to 10 October 2016.
4. The evidence demonstrates that neither MK QLD nor MK NSW had resources other than cash and debtors which were readily realisable by sale or borrowing upon security to meet its debts as and when they fell due as at the beginning of April 2016 or thereafter. And neither company was in fact able to raise further equity capital or alternative finance to ameliorate its endemic cash shortage.
5. Both MK QLD and MK NSW was unable to pay all of its debts which were then due and payable as at 10 April 2016 and those which became due and payable in the immediate future. That inability to pay was not purely temporary. The inability to pay their respective debts continued throughout the period 10 April 2016 to 10 October 2016.
6. Viewed objectively, and taking into account the immediate future, I am well-satisfied that each of MK QLD and MK NSW was insolvent on 10 April 2016 and at all times thereafter to 10 October 2016.

Conclusion

1. The separate question should be answered as follows:

Question 1. Whether MK NSW Pty Ltd (in liq) and MK QLD Pty Ltd (in liq) were insolvent in the six months prior to those companies entering into external administration, or at some date in that period.

Answer 1. MK NSW Pty Ltd (in liq) was insolvent at all times during the six months prior to that company entering into external administration on 10 October 2016. 2. MK QLD Pty Ltd (in liq) was insolvent at all times during the six months prior to that company entering into external administration on 10 October 2016.

1. As requested by the liquidator, the costs of the separate question should be reserved.

Amendments 03 December 2020 - Amendment to surname of junior counsel for the plaintiffs DISCLAIMER - Every effort has been made to comply with suppression orders or statutory provisions prohibiting publication that may apply to this judgment or decision. The onus remains on any person using material in the judgment or decision to ensure that the intended use of that material does not breach any such order or provision. Further enquiries may be directed to the Registry of the Court or Tribunal in which it was generated. Decision last updated: 03 December 2020