PAUL BURNESS (AS LIQUIDATOR OF DENWARD LANE PTY LTD (ACN 065 418 411) (IN LIQUIDATION)) v SUPAPRODUCTS PTY LTD

Federal Court of Australia|2009-08-18|Before: Gordon J

INTRODUCTION 1 Supaproducts Pty Ltd (ACN 057 134 522) ("the Defendant") manufactures and supplies building hardware by way of sale and hire to builders. Between 1997 and 23 June 2005 (a period of some eight years), the Defendant supplied building hardware to Denward Lane Pty Ltd (ACN 065 418 411) ("Denward Lane"). At all relevant times, Denward Lane had two directors - Mr Stephen Smith and, his father, Mr Keith William Smith. 2 On 13 July 2005, Denward Lane was wound up and Paul Burness ("the Liquidator") was appointed liquidator of Denward Lane. The relation back date was 19 April 2005, being the date application was made to wind up Denward Lane. The relation back period commenced on 19 October 2004 (the "Relation Back Period"): s 588FE(2) of the Corporations Act 2001 (Cth) ("the Act"). 3 The following facts and matters are not in dispute: 1. Denward Lane was insolvent at all times during the Relation Back Period; 2. the dealings between the Defendant and Denward Lane took place under a running account (see Sutherland (as liquidator of Sydney Appliances Pty Ltd (in liq)) v Eurolinx Pty Ltd (2001) 37 ACSR 477 at [142], [148] - [163]; Queensland Bacon Pty Ltd v Rees (1966) 115 CLR 266 at 286; Airservices Australia v Ferrier (1995) 185 CLR 483 at 492, 502 - 504; Sutherland v Lofthouse (2007) 64 ACSR 655 at [35]); 3. during the Relation Back Period, the peak indebtedness of Denward Lane's account with the Defendant was $203,128.35; 4. the Defendant received the following payments in reduction of the running account balance from Denward Lane Pre Cast Panels Pty Ltd (ACN 112 550 848) ("Pre Cast Panels"), not Denward Lane, during the Relation Back Period: Date Amount 10/06/05 $39,241.70 28/06/05 $33,164.41 12/07/05 $42,127.62

ISSUES AND CONCLUSIONS 4 There are two issues to be resolved. First, were the first two payments in para [3(4)] an unfair preference and insolvent transaction within the meaning of ss 588FA and 588FC of the Act? Initially, the Liquidator sought to recover the third payment but abandoned that claim during the course of the hearing when it became evident that there was no debtor / creditor relationship between the Defendant and Denward Lane on 12 July 2005. If one or both of the other two payments is an unfair preference, then it becomes necessary to consider whether the Defendant has a defence under s 588FG(2) of the Act. 5 For the reasons that follow, the first payment made to the Defendant listed in para [3(4)] was an unfair preference. The second was not. The Defendant has a defence under s 588FG(2) of the Act to the recovery of the first payment.

STATUTORY PROVISIONS 6 Section 588FA(1) relevantly provides: A transaction is an unfair preference given by a company to a creditor of the company if, and only if: (a) the company and the creditor are parties to the transaction (even if someone else is also a party); and (b) the transaction results in the creditor receiving from the company, in respect of an unsecured debt that the company owes to the creditor, more than the creditor would receive from the company in respect of the debt if the transaction were set aside and the creditor were to prove for the debt in a winding up of the company; … 7 Section 9 of the Act provides that for the purposes of Part 5.7B a "transaction": means a transaction to which the body is a party for example (but without limitation): (a) a conveyance, transfer or other disposition by the body of property of the body; and (b) a charge created by the body on property of the body; and (c) a guarantee given by the body; and (d) a payment made by the body; and (e) an obligation incurred by the body; and (f) a release or waiver by the body; and (g) a loan to the body; and includes such a transaction that has been completed or given effect to, or that has terminated. Section 588FA of the Act is in Pt 5.7B. 8 Before turning to consider the facts giving rise to the issues in dispute, a number of principles are worth restating. First, at the time that a preference is given by a company, the recipient of the payment in issue must be a creditor of the company. In other words, a debtor / creditor relationship must exist: see s 588FA(1) and Capital Finance Australia Ltd v Tolcher (2007) 164 FCR 83 at [79], [80], [117] and [140]. Secondly, s 9 of the Act does not define "transaction". It merely provides a list of examples. The common characteristic of each example is "that the conduct or dealing engaged in by the debtor company has the consequence of effecting a change in the rights, liabilities or property of the company itself": Re Emanuel (No 14) Pty Ltd (in liq); Macks v Blacklaw & Shadforth Pty Ltd (1997) 147 ALR 281 at 288. 9 Thirdly, the transaction in issue must result in the creditor receiving from the debtor in respect of the unsecured debt that the debtor owes to the creditor more than the creditor would receive from the debtor in respect of the debt if the payment were set aside and the creditor was to prove for the debt in the winding up of the debtor: s 588FA(1)(b).

FACTS 10 The Defendant, under the trading name "Shisham Products", manufactures and supplies building hardware by way of sale and hire to builders. Its principal products are props which are used in the building and construction industry to support prefabricated concrete walls and slabs and other structures during the construction process. 11 As noted earlier, for eight years from 1997 until 23 June 2005, the Defendant supplied props to Denward Lane. Denward Lane was a regular customer of the Defendant. Denward Lane was wound up on 13 July 2005. 12 Initially Denward Lane's terms of trade with the Defendant were cash on delivery. After approximately 12 months, trading terms were extended to one week's credit, then 14 days credit and subsequently 30 days. The terms of trade were not documented and were reached as a result of face to face or telephone discussions. 13 The Defendant separately invoiced Denward Lane for purchases and for hire. Purchases were invoiced and charged to Denward Lane's account on the day of the transaction. Hire charges would accrue from the day the equipment was delivered to Denward Lane or to a site but would be invoiced monthly at the end of each month. Throughout Denward Lane's eight year relationship with the Defendant, the Defendant's sales manager (Mr Kelly) would visit Denward Lane's premises to collect cheques and Denward Lane would provide post dated cheques. 14 Mr Messina, a director of the Defendant, gave evidence that he was not concerned to receive post dated cheques from Denward Lane or any other account customer as he had been dealing with builders for more than 30 years and it was a common practice in the building industry. In particular, Mr Messina gave evidence that it is common for builders to pay their own suppliers from a project's revenue or progress payments. As a result, delays in principal contractors making progress payments necessarily causes builders to pay their suppliers later than usual. 15 By 2001, Denward Lane was a significant customer of the Defendant. The Defendant was regularly raising invoices with monthly totals exceeding $10,000. During 2002, the volume of business increased substantially. By December 2002, monthly charges had reached approximately $34,000. 16 In October 2003, Denward Lane paid the August 2003 invoices totalling $12,284.06 by cheque. The cheque bounced. The cheque was re-presented and honoured. Mr Messina was not concerned. This was not the first occasion on which a cheque provided by Denward Lane was not met. Mr Messina gave evidence that usually he knew about the cheque bouncing before the bank notified him because the Defendant (he or Mr Kelly) received a telephone call from Mr Smith at Denward Lane advising him of the fact. Mr Messina's evidence was that the explanations provided were credible - a cheque deposited into Denward Lane's account and against which the cheque had been drawn had not cleared or he was waiting on a progress payment from a contractor. At no time did a bounced cheque bounce a second time. 17 In March 2004, it happened again. A cheque paying the January 2004 invoices totalling $23,137.42 bounced, was re-presented and then honoured. At about this time, Mr Messina was told by Mr Kelly that Denward Lane had taken on two big building jobs. Mr Messina expected that Denward Lane would be putting in substantial orders for prop hire and other building hardware. That is what occurred. During 2004, the volume of Denward Lane's business with the Defendant escalated. 18 On 17 September 2004, the Defendant received a cheque from Denward Lane in payment of the June invoices ($48,265.76). This cheque bounced. Again, it was re-presented and honoured. 19 In late September 2004, Denward Lane's account with the Defendant stood at approximately $170,000. Mr Messina put arrangements in place to cap Denward Lane's credit limit at $100,000, for Denward Lane to reduce the existing debt by weekly payments of $10,000 until the credit limit was reached and for Denward Lane to make payment of current accounts within trading terms, namely 30 days. The first instalment of $10,000 was paid on 6 October 2004. Denward Lane then made regular weekly payments of $10,000 until 10 December 2004. 20 By November 2004, Denward Lane's trading account had increased to $182,841.02. On 10 December 2004, a cheque for $10,000 was presented and bounced. 21 In mid-December 2004, Mr Messina wrote to Mr Smith at Denward Lane in the following terms: Attention: Steve Smith I have reviewed our arrangement with you and found an amount of $172,841 outstanding as at 1/12/04. Your credit limit with Shisham is $100,000. The amount outstanding is as follows, August - $16,477 September - $61,477 October - $58,812 November - $35,802 Total $172,841 I require you to pay today (August $16,477). You have made claims to me that you would be able to bring your account in order 5 weeks ago. I can not afford to continue with $10,000 per week. You must pay $15,000 per week so you can catch up. 22 On 17 December 2004, Denward Lane paid both the August invoices ($16,748.17) and an instalment payment of $15,000. The building industry largely closes down over the Christmas / January period. 23 On 21 January 2005, Denward Lane forwarded a cheque for $95,290.23 for the balance of the September and October 2004 invoices. The cheque bounced. On 28 January 2005, a sum of $95,290.23 was paid directly into the Defendant's bank account. That payment reduced Denward Lane's indebtedness to about $66,213.80, well below the $100,000 credit limit. Mr Messina no longer required instalment payments of $15,000. 24 On 11 February 2005, the Defendant received a cheque for $35,802.00 in payment of the November 2004 invoices. On 11 March 2005, the Defendant received a cheque for $27,108.43 in payment of the December 2004 invoices. Both cheques were met on presentation. 25 On 13 April 2005, the Defendant received a cheque for $26,610.45 in payment of the January 2005 invoices. The cheque bounced. On 19 April 2005, a sum of $26,610.45 was paid directly into the Defendant's bank account. 26 In June 2005, Mr Stephen Smith visited the Defendant's premises. He told Mr Messina his father was ill and would soon be retiring from the business. Mr Smith said he would be continuing the business but had set up a new company in which his father would have no interest. That new company was Pre Cast Panels (see [3(4)] above). Mr Smith told Mr Messina that when Pre Cast Panels took over, the Defendant should transfer the balance of the Denward Lane account to Pre Cast Panels. Neither the basis of the transfer, nor the terms of the transfer, were the subject of evidence. 27 On 10 June 2005, the Defendant received payment of the March invoices totalling $39,241.70. That payment was made by Pre Cast Panels and is one of the payments in dispute: see [3(4)] above. 28 On 23 June 2005, Mr Smith contacted Mr Messina and told him that Denward Lane had ceased to operate and that Pre Cast Panels would continue to carry on the business. All subsequent payments to the Defendant were received from Pre Cast Panels including the disputed payments on 28 June and 12 July: see para [3(4)] above. 29 The Defendant maintained a handwritten customer ledger and a computer record of the account for Denward Lane. Mr Messina's evidence was that the handwritten record was maintained during the course of the month and at the end of the month, the entries were transferred to the computer ledger and an invoice was raised. The computer ledger for Denward Lane records a nil balance on 23 June 2005 being the date on which Mr Messina was informed that Denward Lane had ceased to operate and that Pre Cast Panels would continue to carry on the business. The handwritten manual customer ledger contains two relevant entries. First, a double line had been inserted between the entries for 18 June and 24 June and secondly, to the right of the entry for 18 June, a handwritten note had been inserted which read "(TAKEN OFF COMPUTER)". 30 Counsel for the Defendant submitted, and I accept, that the entries in the computer ledger and the handwritten ledger were evidence that the debt owed by Denward Lane to the Defendant had been transferred or taken over by Pre Cast Panels. Not only does the computer ledger evidence that fact (see ss 1305 and 1306 of the Act) but the manner in which both parties conducted the accounts provides further support for such a finding. Pre Cast Panels made all payments after that date (see [26] to [28] above). The Defendant "closed off" the account of Denward Lane and transferred the outstanding debt to Pre Cast Panels. The Defendant continued to trade with Pre Cast Panels until 2008. The Defendant did not lodge a proof of debt with the Liquidator. 31 As noted earlier, the Plaintiff accepted that as at 12 July 2005 (the date of the third payment), there was no debtor / creditor relationship. However, Counsel for the Liquidator identified a number of handwritten entries in the manual customer ledger which bear a date between 23 June 2005 and the payment made by Pre Cast Panels to the Defendant on 28 June 2005 (recorded in the computer ledger and then reversed) as evidence of a debtor / creditor relationship up to and including 28 June 2005. I reject that submission. I accept the evidence of Mr Messina that those entries were made in error. I accept that the entries on the handwritten ledger were made by office staff who drew no distinction between Denward Lane and Pre Cast Panels and that the entry in the computer ledger recording the payment on 28 June 2005 as a payment against a debt owed by Denward Lane was reversed when the office staff realised their error. 32 Denward Lane was wound up in insolvency on 13 July 2005. Mr Messina did not become aware of that fact until 20 March 2008, when he received a letter of demand from the Liquidator's then solicitors. 33 As noted above, from 23 June 2005, the Defendant traded with Pre Cast Panels for more than two years until Pre Cast Panels was itself wound up in insolvency.

Were the two payments an unfair preference and insolvent transaction within the meaning of ss 588FA and 588FC of the Act? 34 The payments were received by the Defendant from Pre Cast Panels on 10 June and 28 June 2005: see [3(4)] above.

First payment - 10 June 2005 35 At the time of the first payment (10 June), there was a debtor / creditor relationship between the Defendant and Denward Lane: see [27] to [31] above. As will be seen from the analysis that follows, this payment was an unfair preference. 36 During the course of argument, Counsel for the Defendant submitted that the payment was not a "transaction" for the purposes of s 588FA(1) of the Act. 37 As noted earlier, s 9 of the Act does not define "transaction". It merely provides a list of examples where the common characteristic is "that the conduct or dealing engaged in by the debtor company has the consequence of effecting a change in the rights, liabilities or property of the company itself": Re Emanuel (No 14) Pty Ltd (in liq); Macks v Blacklaw & Shadforth Pty Ltd (1997) 147 ALR 281 at 288. The question which arises is what is the conduct or dealing engaged in by Denward Lane which effected a change in the rights, liabilities or property of Denward Lane itself? 38 To answer that question it is necessary to consider whether the payment made by a third party (Pre Cast Panels) and not the debtor (Denward Lane) falls within s 588FA(1) of the Act: Re Emanuel (No 14) 147 ALR 281 at 287 - 289. That question is necessary to answer because, on its face, there was no conduct or dealing engaged in by Denward Lane which effected a change in the rights, liabilities or property of Denward Lane itself. The conduct (the payment to the Defendant) was conduct of Pre Cast Panels. 39 In Re Emanuel (No 14) 147 ALR 281 at 287 - 289, the Court considered a payment made by a third party in discharge of a debt in the following terms: Before a payment made by B to C can be effective to discharge A's debt to C, ordinarily it must be made with A's authorisation or ratification: see Mason and Carter, Restitution Law in Australia, para 846, (Butterworths, Sydney, 1995); Goff and Jones, The Law of Restitution, 17, (4th ed, Sweet and Maxwell, London, 1993); and see generally on payment of another's debt, Beatson, The Use and Abuse of Unjust Enrichment, Ch 7, (Clarendon Press, Oxford, 1991). Where a payment is so made it can properly be said that it is A's act that makes B's payment efficacious at law to discharge the debt to C. This, of itself, does not provide reason for saying that the payment itself is made by A. Nonetheless where that payment constitutes part of the consideration B furnished and A required in the A-B contract and where, inter alia, that consideration is in the final settlement of the obligations inter se of A and B, then we see no compelling reason for not concluding that A has made the payment to C albeit by using B as its instrument for the purpose. … In so far as it is suggested that A was not party to the extinguishment of C's debt brought about by B's payment, we note again that A's authorisation of B's payment is necessary to discharge the debt, save in exceptional cases of no present relevance: see generally Beatson, supra, ch 7; Goff and Jones, supra, p 17 and especially footnote 2. In this way A is a party to the extinguishment even if it be said A is not a party to the payment itself. … We conclude, then, that a course of dealing initiated by a debtor that is intended to, and does, extinguish a creditor's debt can in its totality be a transaction for the purposes of Part 5.7B of the Corporations Law notwithstanding that the achievement of that end can only be realised through the participation of a third party in a particular dealing (or dealings) within the overall transaction, being a particular dealing (or dealings) to which the debtor is not or may not be a party. … The conclusion that such a composite of dealings can be a s 9 "transaction" does not of itself lead to the result that an unfair preference was given in this case. The particular transaction must fall, nonetheless, within para (a) of s588FA(1) and must have the consequence identified in para (b). 40 Counsel for the Defendant submitted that the reasoning in Re Emanuel did not apply to the first payment because there was no evidence of any arrangement between Denward Lane and Pre Cast Panels whereby at the direction of Denward Lane, Pre Cast Panels made a payment to the Defendant in discharge of an obligation owed by Pre Cast Panels to Denward Lane. In support of this contention, Counsel referred to the decision of Barrett J in Woodgate v Network Associates International BV [2007] NSWSC 1260 at [19]. In that case, the liquidator of two related companies, MR and Quadtel, claimed that eight payments made to the defendant were unfair preferences. The evidence disclosed that six payments were made by MR, two payments were made by Quadtel and that MR, not Quadtel, was indebted to the defendant. The evidence also disclosed that the affairs and finances of MR and Quadtel were intermingled, each was a wholly owned subsidiary of Quadtel Limited and that although each had its own bank account, payments were sometimes made from a particular company's bank account without regard for whether the debt being paid was a debt of that company or the other company. 41 Having regard to the evidence just described, Barrett J held that: [19] It [was] not possible to draw any inference that, on this or any other basis, money paid by Quadtel to the defendant in truth represented payment by MR to the defendant. The evidence shows that MR was indebted to the defendant and that an agreed payment plan envisaged payments by MR corresponding with those actually made by Quadtel. But there is no way of concluding what the consideration was, as between MR and Quadtel, and therefore no basis for reaching conclusions of the kind to which the Full Federal Court [in Re Emanuel] referred. [20] I proceed, therefore, on the basis that payments totalling $104,000.00 were made by MR to the defendant in the period 2 January 2003 to 21 February 2003; that each such payment was made in reduction of indebtedness owing, due and payable by MR to the defendant at the date of the payment; and that the two payments made by Quadtel to the defendant ($11,200.00 on 8 January 2003 and $12,000.00 on 6 February 2003) were not referable to MR's indebtedness to the defendant (nor did they, on the evidence, relate to any indebtedness of Quadtel to the defendant). The two Quadtel payments therefore do not need to be considered further. 42 The Liquidator submitted that the decision in Woodgate may be put to one side as first, it was distinguishable on its facts, and secondly, that his Honour's finding regarding the lack of evidence on the presence of consideration was not applicable in this case - the Liquidator contended that a "restitutionary" claim on behalf of the third party would operate in the "space" otherwise occupied by consideration. What the phrase "restitutionary" claim in fact meant was never developed during the course of argument. I assume the Liquidator's contention is that in respect of the payment made by Pre Cast Panels, it had a claim against Denward Lane for money paid: see by way of example, Lumbers v W Cook Builders Pty Ltd (in liq) (2008) 232 CLR 635 at [43], [47] - [54] and [77] - [80]. As those passages record, "the bare fact of conferral of the benefit [in this case the payment of money] does not suffice to establish an entitlement to recovery": at [80]. 43 Payment of a debt by a third party and the consequences that result from such a payment has been the subject of much debate: see e.g. Friedmann D, "Payment of Another's Debt"(1983) 99 LQR 534 and Birks P and Beatson J, "Unrequested Payment of Another's Debt" (1976) 92 LQR 188. At the outset, a distinction is drawn between "unsolicited" benefits and "requested" benefits. 44 If the benefit is in the form of discharge of a person's debt (as occurred here), the first question is whether the payment by Pre Cast Panels was authorised or unauthorised by Denward Lane? If the payment was authorised, then the payment is a third party payment of the kind identified by the Court in Re Emanuel (1997) 147 ALR 281at 289, namely: … a course of dealing initiated by a debtor that is intended to, and does, extinguish a creditor's debt … notwithstanding that the achievement of that end can only be realised through the participation of a third party in a particular dealing (or dealings) within the overall transaction, being a particular dealing (or dealings) to which the debtor is not or may not be a party. 45 I do not accept that Re Emanuel is authority for the proposition that before a payment by a third party can be taken to be a payment "accepted" or "made" by the debtor there must be evidence of an arrangement between the debtor and the third party whereby at the direction of the debtor, the third party made a payment to the creditor in discharge of an obligation owed by the third party to the debtor. That is not what the authorities establish: see Simpson v Egginton (1855) 10 Ex 845 at 847 - 848; Smith v Cox [1940] 2 KB 558 at 560; Oakleigh Acquisitions Pty Ltd (in liq) v Steinochr [2005] WASCA 247 at [81]. Where a payment made by a third party to a creditor is authorised by the debtor, nothing more is required. The debt is discharged by the third party at the request of or with the acceptance of the debtor. 46 On the other hand, if a debt is discharged by a third party payment which is unauthorised, the debt is not necessarily discharged: see Oakleigh Acquisitions Pty Ltd (in liq) v Steinochr [2005] WASCA 247 at [82]; Birks P and Beatson J, "Unrequested Payment of Another's Debt" (1976) 92 LQR 188 at 190; Friedmann D, "Payment of Another's Debt" (1983) 99 LQR 534 at 536 - 537; Goff R and Jones G, The Law of Restitution, (7th ed, Sweet & Maxwell, 2007) at 1-077 and 3-016. The debtor has a choice - to accept or not to accept the payment. If the debtor ratifies or accepts the unauthorised payment by the third party, the debtor will be liable to the third party who made the payment. In other words, the "acceptance" will give the third party a claim for money paid for and at the request of the debtor or, as it is sometimes put, impose upon the debtor a duty of restitution. If the debtor does not ratify the payment, the original debt it owed to the creditor remains outstanding: see Lumbers (2008) 232 CLR 635 at [43], [47] - [54] and [77] - [80]. 47 In the present case, the payment made by Pre Cast Panels on 10 June 2005 was a "course of dealing initiated by a debtor that [was] intended to, and [did], extinguish a creditor's debt" as contemplated by the Full Court in Re Emanuel. It was the evidence of Mr Messina that Mr Smith contacted the Defendant in June 2005 and stated to Mr Messina that "he would be continuing the same business, but had set up a new company … [t]he new company was [Pre Cast Panels] … [and that] when the business took over, [the Defendant] should transfer the balance of the account to [Pre Cast Panels]". On any view, it was a course of conduct initiated by Denward Lane to discharge its debt to the Defendant through payments made by a third party - Pre Cast Panels. Mr Smith was a director of both companies (and the sole director of Pre Cast Panels), he notified Mr Messina of the upcoming transfer of the account and Pre Cast Panels subsequently assumed the burden of that account. However, even if this payment was not a "course of dealing initiated by a debtor that is intended to, and does, extinguish a creditor's debt" (and I find that it is), then by its conduct, Denward Lane acquiesced in the payment of its debt by the third party (Pre Cast Panels) on its behalf so that the debt is taken to be discharged (see Owen v Tate [1974] 1 QB 402 at 411 - 412 and Oakleigh Acquisitions Pty Ltd (in liq) v Steinochr [2005] WASCA 247 at [82]), possibly giving rise to a (restitutionary) right in Pre Cast Panels in the form of a claim against Denward Lane for money paid: see Lumbers (2008) 232 CLR 635 at [43], [47] - [54] and [77] - [80]. 48 However, that is not the end of the inquiry. All that has been established is that a debt owed by Denward Lane has been discharged and that the circumstances of that payment were sufficient to give rise to a finding that a payment was made to the Defendant under s 588FA(1)(a). It is still necessary to demonstrate that the payment was preferential. Relevantly, s 588FA(1)(b) provides that a payment will be preferential where the transaction results in the creditor receiving more than they would if they had to prove for their debt in a winding up of the company. 49 Counsel for the Defendant submitted that the preferential element of s 588FA was not satisfied by the Liquidator. The basis for this submission was that "unless you have some diminution by the debtor, or of the debtor's assets, you [do not] have a preferential effect". There was no evidence of what, if any, consideration, was provided to Pre Cast Panels by Denward Lane in exchange for its payment of Denward Lane's debt: see [26] above. In the end, whether Pre Cast Panels received consideration from Denward Lane, or even had that "restitutionary" right against Denward Lane, may be put to one side. The Report and Analysis of Insolvency prepared by the Liquidator demonstrated that in the winding up of Denward Lane the return to unsecured creditors (which totalled in excess of $2.2 million) was nil or close to nil. In those circumstances, the Defendant would have received less than $39,241.70 if it had had to prove its debt in the winding up of Denward Lane. The payment was therefore preferential.

Second payment - 28 June 2005 50 At the time of the second payment (28 June 2005), there was no debtor / creditor relationship: see [28] to [31] above. Therefore, one of the essential preconditions to the operation of s 588FA is absent. The second payment is not and cannot be an unfair preference.

Legal Principles 51 Section 588FG(2) of the Act provides that a transaction will not be voidable as against certain persons where: 1. The person became a party to the transaction in good faith: s 588FG(2)(a); 2. The person had no reasonable grounds for suspecting that the company was insolvent at the time the transaction was entered into: s 588FG(2)(b)(i); 3. A reasonable person in the person's circumstances would have had no such grounds for suspecting insolvency: s 588FG(2)(b)(ii); 4. The person had provided valuable consideration under the transaction or had changed their position in reliance upon the transaction: s 588FG(2)(c). The first and last elements were not in dispute. The Defendant conducted its relationship with Denward Lane in a mutually beneficial, arms' length manner for valuable consideration over the better part of a decade. However, the Liquidator submitted that the Defendant failed to discharge its onus in satisfying the second and third elements. I reject that contention. For the reasons that follow, the Defendant satisfied each element under s 588FG(2)(b). 52 In Dean-Willcocks v Commissioner of Taxation [2008] NSWSC 1113, Barrett J aptly summarised the inquiry necessary when addressing these two elements: [10] As Bryson J pointed out in Mann v Sangria Pty Ltd (2001) 38 ACSR 307 at [46], the first of these inquiries is concerned with the existence of reasonable grounds for the formation of the relevant suspicion by the [Defendant], while the second is concerned with the existence of reasonable grounds for the formation of the relevant suspicion by a reasonable person in the [Defendant]'s circumstances. I do not think it is all that helpful to attempt to characterise one inquiry as "subjective" and the other as "objective". One should merely approach the two inquiries according to the terms in which they have been expressed by the legislature. I would, however, respectfully endorse Bryson J's observation (at [46]) that it would be seldom that the two tests would produce different results, although it is conceivable that a person might be afflicted by some personal difficulty in forming a suspicion. [11] His Honour thus accommodates the possibility that the actual frame of mind of the particular person may be affected by factors to which the mind of the hypothetical "reasonable person" would be impervious, even though each formed a judgment on "reasonable grounds". And the "reasonable person" to whom regard is to be had is, as the Court of Appeal confirmed in Cussen (as Liquidator of Akai Pty Ltd) v Commissioner of Taxation (2004) 51 ACSR 530 at [31], a "reasonable business person". [12] The relevant concept of "suspecting" - or "suspicion" - is that referred to by Kitto J in Queensland Bacon Pty Ltd v Rees (1966) 115 CLR 266 at 303. It is more than idle wondering. It is a positive feeling of actual apprehension or mistrust without sufficient evidence. [13] It is important to emphasise that the relevant suspicion is one of actual and existing insolvency, as distinct from impending or potential insolvency. That, as the Full Court of the Supreme Court of South Australia pointed out in Sheahan v Fabienne Pty Ltd [1999] SASC 335, is something that was made clear in Queensland Bacon Pty Ltd v Rees (above). … [16] It is, as I have said, necessary for the [Defendant] to prove the two negative propositions in para (b) of s 588FG(2). That task arises, however, in a context where the liquidators point to various factors which they say must have engendered relevant suspicion on the part of the [Defendant] and the hypothetical "reasonable business person". (Some citations omitted.) 53 Both tests require that there be no reasonable grounds upon which a suspicion of insolvency could be based. In the first test, the suspicion is held by "the" person and in the other, by "a reasonable" person in "the" person's circumstances. The conclusion as to whether the Defendant had "reasonable grounds" for suspecting insolvency requires a consideration of the evidence: see Rennie v Printbase Pty Ltd [2002] NSWSC 78 at [19]. Moreover, as noted by Barrett J in Dean-Willcocks v Commissioner of Taxation [2008] NSWSC 1113 at [11], the "reasonable person" under s 588FG(2)(b)(ii) is a "reasonable business person". 54 As a final note, in Wily (as liquidator of Goldtep Constructions (NSW) Pty Ltd) v Eastern Elevators Pty Ltd (2003) 45 ACSR 261 at [35], Dunford J summarised the position regarding the suspicion of insolvency and how it relates to determining what are reasonable grounds for the suspicion in the following terms: His Honour noted the warning from Barwick J in Sandell v Porter (1966) 115 CLR 666 at 670 that the conclusion of insolvency ought to be clear from a consideration of the debtor's financial position in its entirety, and generally speaking ought not to be drawn simply from evidence of a temporary lack of liquidity and he also noted that it is necessary to apply commercial reality derived from the particular industry to the facts. The use of instalment payments and post dated cheques is not necessarily crucial by itself where they are a practice in the industry and do not indicate insolvency, and he referred to the warning given by Priestley J against placing undue weight on late payment noting that "debts are not always paid on time by solvent debtors". (Emphasis added.)

Application of the Legal Principles to the Facts 55 The Defendant discharged its onus under s 588FG(2)(b) of the Act. The Defendant established that neither it, nor a reasonable person in its circumstances, had reasonable grounds for suspecting that Denward Lane was insolvent. 56 In fact, the Liquidator's Counsel "did not put forward … that Mr Messina [a director of the Defendant] necessarily had a suspicion [of insolvency], because that's simply not the requirement of the test". In other words, it was not submitted that Mr Messina actually suspected that Denward Lane was insolvent, but instead that the Defendant had the onus of proving that there were no reasonable grounds for suspecting insolvency, either by itself or a reasonable person in its circumstances. 57 The Liquidator submitted that there were a number of matters upon which insolvency should have been suspected (and thus, are matters that the Defendant must overcome in order to establish its defence). First, that the Defendant (or a reasonable person in its circumstances) would have been aware that Denward Lane, as a "small company", would rely upon positive cashflow from current building projects in order to discharge past debts. In particular, the Liquidator's Counsel submitted that as Denward Lane was involved in several large (and thus, capital-intensive) projects, the Defendant (or a reasonable person in its circumstances) should have been concerned about the capacity of Denward Lane to enjoy a cashflow sufficient to discharge its liabilities. Secondly, Denward Lane's credit account with the Defendant grew both in terms of amount and the period over which amounts owing had been outstanding, and thus the Defendant (or a reasonable person in its circumstances) should have had some suspicion regarding the solvency of Denward Lane given the status of its credit account. Finally, Denward Lane regularly provided post-dated cheques and a number of the cheques provided were dishonoured - in other words, the practice of Denward Lane in discharging its debts was such that the Defendant (or a reasonable person in its circumstances) would have had reasonable grounds for suspecting insolvency. 58 In my view, none of these factors whether taken individually, or collectively, provide a reasonable ground upon which the Defendant (or a reasonable person in its circumstances) should have suspected the insolvency of Denward Lane. 59 First, it is true that Mr Messina was aware of the fact that many small companies in the building industry discharged their debts as progress payments were made on current projects, and that Denward Lane was an example of such a company. However this broad knowledge of practices in the building and construction industry is not enough to provide a reasonable ground for insolvency. Indeed, it is difficult to draw any conclusions from the fact that Denward Lane was a small company involved on several large projects. It is true that many of its resources would likely be invested in performing the relevant contracts, including the use of capital it could otherwise use to discharge its debts. However, that possibility must be balanced against the fact that as far as the Defendant was aware, Denward Lane was trading well - a fact evidenced by the increase in orders placed by Denward Lane with the Defendant. An increase in trade volume and the ensuing increase in the size of capital inflow is a factor that would tend against a suspicion of insolvency rather than supporting one. Without more, the fact that a small company such as Denward Lane was involved in several large projects in the building industry does not provide a reasonable ground for suspecting insolvency, either by the Defendant or a reasonable person in its circumstances. 60 Secondly, the level of debt owed by Denward Lane and the period over which that debt had been outstanding does not constitute a reasonable ground for suspecting insolvency by either the Defendant or a reasonable business person in its circumstances. I will address each "person" in ss 588FG(2)(b)(i) and (ii) respectively. 61 The rationale behind the management of Denward Lane's credit account by the Defendant was questioned by the Liquidator. The Liquidator submitted that Mr Messina only asked for payment "on the drip" as opposed to full payment of the outstanding debt because the Defendant suspected that Denward Lane would be unable to pay the full amount if so asked. On the contrary, Mr Messina's evidence was that he was simply unhappy with a debt above $100,000 for Denward Lane and altered the trade terms accordingly (see [19] and [21] above). That decision tends to weigh against the Defendant suspecting insolvency for two reasons. First, one would have thought that if the Defendant had suspected insolvency, the Defendant would not have continued to offer a credit limit of $100,000 to Denward Lane on payment terms of 30 days. Secondly, it would be inconsistent with Mr Messina's evidence that the Defendant only offered credit to certain customers - namely those that it felt were capable of discharging their debts (see [12] above). In other words, if the act of instituting alternate trade terms was the act of someone who suspected insolvency, rather than someone who was attempting to simply manage the size of a credit account, one would have thought that the Defendant would have either demanded payment in full immediately, or at the least required that the weekly payments continue until the debt was entirely discharged (not merely until it fell below $100,000). Mr Messina never accepted that the debt could not be repaid. Moreover, he rejected the notion that a demand for payment in full of the outstanding debt was a sensible commercial decision. The focus of the repayment plan was to reduce the amount of credit outstanding, not to satisfy the debt altogether. The Defendant established that they had no reasonable grounds for suspecting insolvency on the basis of their dealings with Denward Lane's credit account. 62 The second aspect of the Liquidator's submission on the relevance of the size of the credit account was, in effect, that a reasonable person in the circumstances of the Defendant would have had reasonable grounds for suspecting insolvency given the increased level of debt and the failure to reduce that level of debt in a timely fashion. This submission has some force. However, the management of a credit account in a commercial relationship requires realistic appraisals of the benefits each party receives (see [54] above). It was Mr Messina's evidence that the Defendant considered the hire relationship with Denward Lane a profitable one and thought that it would remain so in the future. Mr Messina neither required nor desired Denward Lane to repay the debt in full, as it would not be commercially prudent to do so. In his words, the arrangement instituted by the Defendant for payment of the debt was one intended to "work out better for both [parties]". I accept that explanation and consider that a reasonable person in the circumstances of the Defendant would come to the same conclusion. The fact is that a profitable commercial relationship had existed for more than eight years, and although the Defendant altered the terms of credit, that was a commercial decision not necessarily tied to the solvency of Denward Lane: see further the discussion on the legal principles of insolvency in Woodgate v Fawcett (2008) 67 ACSR 611 at [63] to [69]. The absence of reasonable grounds to suspect insolvency is further supported by the fact that the Defendant changed the terms of the credit arrangement, and subject to the matters below (see [63]), the Defendant was able to meet those terms. A reasonable business person would have no actual apprehension of insolvency based upon the facts and matters related to the credit account of Denward Lane - all that this evidences is an ongoing commercial relationship that required some adjustment in its terms. 63 Finally, the fact that Denward Lane often provided post-dated cheques, and that several cheques bounced during the Relation Back Period, does not provide a reasonable ground upon which the Defendant or a reasonable person in its circumstances should have suspected insolvency. It was the uncontroverted evidence of the Defendant that the use of post-dated cheques was not uncommon in the building and construction industry. Given the obvious issues relating to cashflow in this industry and the other difficulties that seem to be frequently encountered, I am not surprised. Moreover, as noted in [54] above, when determining whether a suspicion should have arisen on reasonable grounds, such reasonable grounds must be informed by the commercial reality of the industry in question (including, as noted, the use of post-dated cheques). Further, the fact that Denward Lane provided cheques that were subsequently dishonoured was not without some precedent in the trading relationship between the two companies in the period preceding the Relation Back Period. The fact that Denward Lane promptly covered the payment of those dishonoured cheques would militate against a suspicion of insolvency for someone in the position of the Defendant. There is no reason for the Defendant or a reasonable person in its circumstances to have an "actual apprehension" of insolvency simply based upon the fact that a small number of cheques were dishonoured during the relevant period, even in the context of a large outstanding debt owed by Denward Lane. The fact remains that Denward Lane was able to cover the cheques provided and continued to make repayments. Not every cheque bounced and no cheque bounced twice. Neither the Defendant, nor a reasonable business person in its circumstances, would have had an actual apprehension of insolvency based upon the facts and matters related to the cheques provided to the Defendant.

ORDERS 64 For those reasons, the application is dismissed and the Liquidator should pay the Defendant's costs of and incidental to the application. I certify that the preceding sixty-four (64) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice Gordon.

Associate: Dated: 18 August 2009 Counsel for the Plaintiff: Mr J Evans

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