Fortress Credit Corporation (Australia) II Pty Ltd v Fletcher

Introduction 1 This is an application by the liquidator of Sales Express Pty Ltd (Sales Express) for approval of a litigation funding agreement which may exceed three months. The applications were brought ex parte and various orders were made preserving the confidentiality of affidavits and submissions related to this application and an application for the issue of summonses for examination. 2 For the reasons below, my view, which is subject to submissions from any contradictor or application to set aside, is that the funding agreement should be approved. The background details to the funding application are described in abbreviated detail in circumstances in which the funding application is concerned with funding for the conduct of proposed examinations.

Background 3 Sales Express was an importer and wholesaler of electrical goods. It was incorporated in 1986. It has had various directors but its current sole director is Mr Matthew Gerard who has been a director since March 1998. 4 On 19 December 2013, judgment was granted by consent against Sales Express for $1.64 million in favour of RankArena Group Australia Pty Ltd (RankArena). Shortly thereafter, on 20 February 2014, administrators of Sales Express were appointed. At that date, the unsecured debts of Sales Express, other than to RankArena, were to two related corporations: Gerard Corporation Pty Ltd (Gerard Corporation) ($46,743,398) and Snapdragon Investments Pty Ltd ($436,951). 5 On 22 April 2014, Brereton J made orders ending the administration of Sales Express and winding the company up in insolvency: In the matter of Sales Express Pty Ltd (Administrators Appointed) [2014] NSWSC 460; (2014) 9 BFRA 251. His Honour observed (at 253 [5]) that on 12 February 2014, Gerard Corporation (a related company of Sales Express) gave notice that from 22 February 2014 when RankArena's debt fell due it would no longer provide financial support to Sales Express. There may be disputes about the financial support provided by Gerard Corporation, and whether Sales Express had the benefit of that support before 22 February 2014 to keep it solvent. In particular, there may be disputes as to whether Gerard Corporation had provided support for the payment of the RankArena debt from 19 December 2013 (or 30 June 2013 when that debt was recorded as a liability in the Sales Express accounts). 6 The question for Brereton J was whether Sales Express should be wound up in insolvency. His Honour observed that Sales Express had a bank balance of $5,833 and liabilities which far exceeded assets. Mr Gerard had proposed a deed of company arrangement which was said to produce a dividend to RankArena of six cents in the dollar. Mr Gerard said that this was a substantially higher return than would otherwise be payable (if there were any return at all) in a liquidation. 7 The administrators recommended that it would be in the interests of creditors to resolve that Sales Express execute the deed of company arrangement with some other subsequent amendments that had been made. RankArena opposed the deed of company arrangement and sought to wind up the company. In making orders to wind up Sales Express, Brereton J said (at 255 [14]) that in the circumstances involving a debt of a mere $1.64 million, "questions might be raised and explored as to whether, notwithstanding the professed support of Gerard Corporation referred to in accounts brought into existence on the eve of and in contemplation of the administration, there was nonetheless insolvency at a significant earlier date". His Honour remarked about the Deed of Company Arrangement (at 258 [27]): the only person who will benefit from the deed of company arrangement is in substance Mr Gerard, who will avoid the prospect of companies in which he has a very substantial interest from being pursued for debts owed to Sales Express; he will also avoid examination of his conduct in connection with the transfers of the trademarks; and he will avoid any investigation of the solvency of the company and when in truth it became insolvent. It can only be to procure substantially those benefits for him that the related creditors under his control would endeavour to foist the deed of company arrangement on the unrelated creditor Rank Arena. 8 The issues to which Brereton J referred have been investigated by the liquidator. The investigations have suggested a number of matters to which I refer in broad outline below. The discussion is in broad outline because although my present view is that these reasons should not be publicly available while the examinations are in progress, it is appropriate that they be made available after that, although the details of the investigations may still give rise of confidentiality concerns which should be preserved by avoiding the specifics of some details in the material before the Court. 9 Sales Express has had dealings with a number of companies which are related to it or to Mr Gerard or members of his family. Those dealings include the following: (1) a 30 June 2006 asset sale and purchase agreement between Sales Express and GSMH Holdings Ltd (GSMH) (the 2006 Agreement); (2) a deed of assignment between Sales Express and GSMH dated 8 October 2008 (the 2008 Agreement); (3) a deed of assignment between Sales Express and GSMH dated 16 December 2010 (the 2010 Agreement); and (4) a deed of assignment between Sales Express and True North Corporation Pty Ltd dated 16 December 2010 (the 2010 True North Agreement). 10 At a high level of generality, based on the information before me the following observations can be made about these agreements. 11 The 2006 Agreement provided for Sales Express to sell brand names and intellectual property to GSMH for US $31 million. A report from Ernst & Young accountants valued the trade marks at between US $25.3 million and US $28.6 million. 12 The $31 million price was to be paid by an "offset" of US $26 million which was said to be owing from Sales Express to GSMH and $5 million payable within 18 months. The $26 million said to be owing may relate to five debts which GSMH assigned to Sales Express. 13 Under the 2008 Agreement, Sales Express transferred five trade marks to GSMH. 14 Under the 2010 Agreement, Sales Express assigned trade marks to GSMH. On 2 April 2014, Mr Penniment, the Chief Financial Officer of Gerard Corporation sent an email to the former administrators of Sales Express saying that the trade marks were transferred to GSMH for no consideration so that GSMH could make use of them because Sales Express had ceased its business. 15 Under the 2010 True North Agreement, the trade marks for "Ringgrip" were transferred from Sales Express to True North Corporation Pty Ltd. 16 On the evidence before me, and at a very high and tentative level of assessment, there appear to be a number of potential claims. They include a potential claim for repayment of a debt of US $5 million under the 2006 Agreement from GSM Holdings Ltd (a related company in Hong Kong). The claims also include claims that various agreements are voidable transactions, insolvent trading claims against any director or holding company, claims to rescind loans made to Sales Express in breach of fiduciary duty, and claims against Gerard Corporation based on its support of Sales Express during a period where Sales Express might otherwise have been insolvent. 17 There are also issues that arise concerning deeds of release entered into between Sales Express and various related parties, and a documentary reference to a loan of $3 million which the liquidators say is from Sales Express to Mr Robert Gerard.

Legal principles 18 Section 477(2)(m) of the Corporations Act 2001 (Cth) provides for a liquidator's general power to "do all such other things as are necessary for winding up the affairs of the company and distributing its property". That power is qualified in relation to the entry into a litigation funding agreement in the circumstances in s 477(2B). 19 Section 477(2B) provides: (2B) Except with the approval of the Court, of the committee of inspection or of a resolution of the creditors, a liquidator of a company must not enter into an agreement on the company's behalf (for example, but without limitation, a lease or a charge) if: (a) without limiting paragraph (b), the term of the agreement may end; or (b) obligations of a party to the agreement may, according to the terms of the agreement, be discharged by performance; more than 3 months after the agreement is entered into, even if the term may end, or the obligations may be discharged, within those 3 months. 20 The approach to be taken to s 477(2B) is well settled. The principles, based on the authorities cited at the conclusion of this paragraph, concerning the grant or refusal of approval by the Court can be summarised as follows: (1) the role of the Court is to grant or refuse approval. It is not to develop an alternative proposal; (2) the notion of necessity in the power of the liquidator to do "things as are necessary" has a broad meaning and empowers a liquidator to do anything expedient in relation to the beneficial completion of the winding-up of the affairs of the corporation and the distribution of its assets; (3) however, notwithstanding this breadth, the Court must be satisfied that there is a good and solid reason for concluding that the processes of winding up and distribution would be enhanced by the funding agreement, compared with the ordinary deployment of surplus funds. The enhancement must be demonstrated by some informed and independent assessment of the separate and selfish interests of the funding company; (4) although the Court must be satisfied that it is appropriate for the exercise of power under s 477(2B), the Court will not generally review a liquidator's commercial judgment or second guess its decision; (5) circumstances in which the Court will scrutinise a liquidator's decision closely include where there appears to be a lack of good faith, an error of law or principle, or a real or substantial ground for doubting the prudence of the liquidator's conduct; (6) the Court will rarely approve an agreement which has important terms that are unclear; (7) in considering whether the Court's power under s 477(2B) should be exercised, any relevant matter can be considered. Matters that are commonly relevant include: (a) the manner in which the funding or indemnity will be provided under the agreement; (b) the extent to which the liquidator has considered other funding options; (c) the interests of creditors other than the proposed or potential respondents and the extent to which the liquidator has consulted them; (d) the liquidator's prospects of success in the litigation although this factor will rarely be able to be assessed at anything other than a high level of abstraction; (e) possible oppression in bringing the proceedings; (f) the nature and complexity of the cause of action; (g) the risks involved in the claim (including the amount of costs likely to be incurred in the proposed litigation, the extent to which the funder is to contribute to those costs, and the extent to which the funder is to contribute to the costs of the defendant in the event that the action is not successful, or towards any order for security for costs); (h) any particular premium or benefit which is promised in consideration of the provision of the funding or indemnity including whether that benefit is proportionate to the risk undertaken by the funder; (i) whether the liquidator is subject to any control over the conduct of the litigation, other than the usual obligation to keep the funder fully informed of all matters relating to the action; and (j) whether the agreement provides for a clear mechanism for resolving any dispute between the funder and the liquidator about the compromise of the litigation which is funded, see Fortress Credit Corporation (Australia) II Pty Ltd v Fletcher [2015] NSWCA 85; (2015) 295 FLR 13; Sheahan, in the matter of BCI Finances Pty Ltd (in liq) [2015] FCA 121; Re McGrath (in their capacity as liquidators of HIH Insurance Ltd) [2010] NSWSC 404; (2010) 266 ALR 642; Re Ascot Vale Self-Storage Centre Pty Ltd (in liquidation) [2014] VSC 75; Re ACN 076 673 875 Ltd [2002] NSWSC 578.

Leave should be granted for entry into the funding agreement 21 There are six reasons in this case, in combination, why leave should be given for entry into the funding agreement. 22 First, the funding agreement has been proposed after the liquidator's consideration of potential claims. Both the liquidator and the funder have received independent legal advice concerning the funding agreement. There is no reason to doubt the liquidator's judgment in entering the agreement on the basis of a lack of good faith, or an error of law. Nor is there reason to question the prudence of the liquidator's decision. 23 Secondly, although the liquidator has not explored any other means of funding, the provision of funding from the funder appears to be the likely and obvious source. The funder is the only unrelated and unsecured creditor of Sales Express. Given the identity of the other creditors, I accept the liquidator's submission that it would be futile to call a meeting of the creditors of Sales Express to obtain their approval of the funding agreement. 24 Thirdly, the quantum of the potential claims could be in excess of US $31 million. Without the funding agreement there is little prospect of those claims being fully investigated and made. Although I am not able to assess those potential claims at anything other than the most abstract level, they are not claims that appear to be without merit. 25 Although the funding is limited to the examinations process, it is not unusual for a liquidator to seek approval for a funding agreement in order to fund the process of examination: see, for example, Re ACN 076 673 875 Ltd [2002] NSWSC 578. The funding provided by the agreement is limited to $63,000 for the amount that the funder is required to contribute to "any costs, conduct money, witness expenses and costs orders made against [the liquidator] or [Sales Express]". 26 It is not possible at this early stage to make any concrete evaluation of prospects of success in any proceeding which might be brought. However, given the background to potential claims, the nature of any potential recovery, and the relatively much smaller cost of the examinations, it is in the best interests of the company that the funding proceed. 27 Fourthly, the process of the proposed examinations is not complex, and there is no undue risk to the liquidator, to Sales Express, or to any creditors of Sales Express. Nor is there any evidence of any potential oppression to any creditor other than the funder. 28 Fifthly, this is not a case where the most likely outcome of any litigation is that it will benefit only those professionals involved in the winding up (see, in any event, Re Imobridge Pty Ltd (in liq) (No 2) [1999] QSC 342; [2000] 2 Qd R 280, 296-297 [39] (Fryberg J)). 29 Sixthly, the balance of rights between the liquidator and the funder is appropriate. The funding agreement does not provide for any premium to be paid to the funder, nor does it give the funder any right of control over the litigation. And the funder must meet the legal costs of this application for approval. There are also dispute resolution provisions to deal with any dispute between the liquidator and the funder concerning whether any potential claims should be compromised. There is a benefit to the funder in a requirement that the liquidator make an application to seek preferential payment of a dividend to the funder under s 564 of the Corporations Act 2001 (Cth). Whether that application is ultimately made will depend upon numerous contingencies. At this stage, the provision for such an application is appropriate based on the funder's support for the examination process. Finally, any "Resolution Sum" from the settlement of any potential proceedings is appropriately prioritised by reference to (i) any adverse costs order, (ii) any unpaid legal costs or disbursements, and then (iii) reimbursement of the funder.

The examination summons application 30 In addition to the application for approval of the funding agreement, the liquidator also brought an application for the issue of examination summonses under ss 596A and 596B of the Corporations Act. This application was also made ex parte, as is usually the case. The Australian Securities and Investments Commission was notified of the application but did not seek to appear. In circumstances in which I was hearing the application for approval of the funding agreement, I considered that it was convenient that I also determine the related questions involving issue of examination summonses. 31 Section 596A of the Corporations Act provides that the Court is to summon a person for examination about the corporation's examinable affairs if an eligible applicant applies for the summons and (amongst other circumstances) the Court is satisfied that the person is an officer of the corporation. If the jurisdictional facts in s 596 are met then the Court must summon the person for examination. 32 Section 596B of the Corporations Act provides that the Court may summon a person for examination about the corporation's examinable affairs if an eligible applicant applies for the summons and (amongst other circumstances) the Court is satisfied that the person "has taken part or been concerned in examinable affairs of the corporation" (s 596B(1)(b)(i)) or "may be able to give information about examinable affairs of the corporation" (s 596B(1)(b)(ii)). The power to summon in s 596B is discretionary. 33 Section 596D(2) provides that a summons to a person under ss 596A or 596B may require the person to produce at the examination specified books that: (a) are in the person's possession; and (b) relate to the corporation or to any of its examinable affairs. 34 The term "examinable affairs" is defined in s 9 of the Corporations Act as: (a) the promotion, formation, management, administration or winding up of the corporation; or (b) any other affairs of the corporation (including anything that is included in the corporation's affairs because of section 53); or (c) the business affairs of a connected entity of the corporation, in so far as they are, or appear to be, relevant to the corporation or to anything that is included in the corporation's examinable affairs because of paragraph (a) or (b). 35 Under s 9 of the Corporations Act (definition (b)) a liquidator of the corporation is an eligible applicant. 36 The persons whom the liquidator wishes to examine under s 596A are Mr Matthew Gerard and Mr Grant Price. Mr Matthew Gerard is the current sole director of Sales Express. Mr Price is the current sole secretary of Sales Express. The summonses must be issued for each of these persons. 37 The persons whom the liquidator wishes to examine under s 596B are as follows: (1) Mr Robert Gerard, a former director of Sales Express, a director of Gerard Corporation, and a potential debtor of Sales Express; (2) Mr Lescai, who is a former director of Sales Express; (3) Mr Penniment, the chief financial officer of Gerard Corporation; (4) Mr Drabsch, the current auditor of Sales Express who audited the company's financial statements for the financial years ending 30 June 2007 to 30 June 2013; (5) Mr Wingrove, who is the Chief Executive Officer of KPMG; (6) Ms Morison, who is the Oceania Lender - Risk and General Counsel of Ernst & Young; and (7) Mr McGrath, who is a partner at Norman Waterhouse Lawyers. 38 In In the Matter of Moage Ltd (in liquidation) John Sheahan v Robert Pitterino [1997] FCA 719; (1997) 77 FCR 81, 92 Mansfield J observed that: it is established clearly by authority that it is a legitimate use of that power by a liquidator to obtain information which might assist in the conduct of litigation. Such information may be sought whether or not proceedings are sought to be commenced or to be continued. It may be sought to identify the nature and extent of evidence available to support a claim in proposed or actual proceedings, and to determine the probability or otherwise of success in those proposed or actual proceedings. It may be sought to assess the prospects of recovery in proceedings. 39 As to Mr Robert Gerard and Mr Lescai, I am satisfied that each of these persons may be able to give information about examinable affairs of Sales Express. Mr Robert Gerard and Mr Lescai are former directors who took part in the management of Sales Express. Mr Robert Gerard is also a director of Gerard Corporation and he may be indebted to Sales Express for $3 million. Mr Lescai kept the books and records of Sales Express between 1994 and 2010. 40 As to Mr Penniment and Mr Drabsch, I am also satisfied that each of these persons may be able to give information about examinable affairs of Sales Express. Mr Penniment is the Chief Financial Officer of Gerard Corporation which has Mr Matthew Gerard as a common director and is relevant to the examinable affairs of Sales Express because of the financial support provided by Gerard Corporation, potential liabilities of Sales Express to Gerard Corporation, and for Mr Penniment's role in keeping the books and records for Sales Express. Mr Drabsch is the current auditor of Sales Express who audited its financial statements for the financial years ended 30 June 2007 to 30 June 2013 inclusive. 41 As to Mr Wingrove, I am also satisfied that he may be able to give information about examinable affairs of Sales Express. KPMG were the auditors of Sales Express listed with the Australian Securities and Investments Commission from 6 March 1989 until 6 January 2014. KPMG audited the financial statement of Sales Express for the financial year ending 30 June 2006. KPMG have maintained the confidentiality of their files concerning Sales Express but they have undertaken to retain those files for a period of greater than 7 years after which they would usually be destroyed, until the liquidation of Sales Express is complete. The examination summons to Mr Wingrove requires only that he produce records. 42 As to Ms Morison, I am satisfied that she may be able to give information about the examinable affairs of Sales Express. Ernst & Young provided valuation and advisory services to Sales Express. The liquidator seeks production of the books and records from Ernst & Young relating to the working capital review and brand valuations for Sales Express. 43 As to Mr McGrath, his firm acted on behalf of Sales Express prior to its liquidation. It is his firm's letterhead that appears on deeds by which Sales Express released significant debts. I am satisfied that he may be able to give information about examinable affairs of Sales Express.

Conclusion 44 The Court grants approval for the liquidator of Sales Express to enter the funding agreement with the funder. Each of the examination summonses should be issued. I certify that the preceding forty four (44) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice Edelman.