The Court of Appeal of the Supreme Court of Victoria in Boz One Pty Ltd v McLellan1 has recently confirmed that it will adopt a commercial approach to assessing the conduct of receivers. A private sale of charged assets will not necessarily breach s 420A of the Corporations Act 2001. A copy of the decision is available here.
The Court of Appeal of the Supreme Court of Victoria found that the receivers and managers in this case did not breach their obligations under s 420A of the Corporations Act 2001 when realising charged assets by private sale.
The charged assets relevantly comprised:
- a 50% shareholding (Shares) in a private company (IPS); and
- a receivable (with an uncertain book value, estimated at $671,835), owed by IPS to one of the companies over which the receivers were appointed (Debt).
The receivers sold the Shares for $2 to a director of IPS (Director), and assigned the Debt to the director for $499,998.
The receivers’ conduct was justified, among other reasons, because:
- of the Director’s option to purchase the Shares (contained in IPS’ constitution);
- the uncertainty regarding the amount and terms of the Debt (because the Debt was not evidenced in writing in the usual manner, e.g. there was no written loan agreement);
- IPS had granted a charge (Lewis Charge) in favour of a chargee, which impacted the value of the Shares; and
- IPS’ alleged interest in Crown land required to operate its business, was found to be deficient, therefore affecting the value of the Shares.
The Court found that the receivers were placed in an ‘extraordinarily difficult’ position by the above matters, which adversely affected the value of the sold assets. An open market sale process had greater potential to create legal and commercial obstacles to achieving a sale price that was not less than the market value of the assets, than via a private sale to IPS’ director. The receivers acted prudently in selling the assets as they did.
The Court stated that it will not apply a ‘check box’ approach in assessing the sale process and is prepared to assess complex commercial arrangements to determine whether a sale process is reasonable in all the circumstances.
While every case will turn on its facts, this decision shows that the courts will take a commercial approach in assessing whether receivers’ conduct breaches s 420A.
In 2000, Mr Rolfe and Mr Miller incorporated Island Point Slipway Pty Ltd (IPS) to take over a slipway business in Port Douglas that Mr Miller had been operating.
Boz One Pty Ltd (Boz One), the first appellant, a company controlled by Mr Rolfe, and Island Point Marine Pty Ltd (IPM), a company controlled by Mr Miller, were equal shareholders in IPS.
Wallabah Pty Ltd (Wallabah), the second appellant, another company controlled by Mr Rolfe, made loans to IPS to finance the slipway business.
Lewis Securities Ltd loaned $500,000 to Wallabah and IPS purported to guarantee Wallabah’s obligations under the loan and give a fixed and floating charge as security (Lewis Charge). A key issue in the proceeding was whether the Lewis Charge was effective.
On 11 March 2003, the first respondent, Mr Andrew McLellan, and the second respondent, Mr Craig Crosbie (Receivers), were appointed receivers and managers of Boz One and on 23 September 2003 were also appointed to Wallabah.
The Receivers were appointed by the third respondent Investec Bank (Australia) Ltd (Investec).
On 12 December 2003, the Receivers:
- sold Boz One’s 50% shareholding in IPS to Mr Miller for $2 (Boz One’s IPS Shares); and
- assigned the debt owed by IPS to Wallabah (Wallabah debt) to Mr Miller for $499,998, for total consideration of $500,000.
The Wallabah debt was recorded as $671,835 in IPS’s records.
In 2009, Boz One and Wallabah, commenced proceedings against the Receivers and Investec alleging that the Receivers failed to exercise the power of sale in accordance with the requirements of section 420A(1) of the Corporations Act 2001 (Cth) (Act) which provides that:
In exercising a power of sale in respect of property of a corporation, a controller must take all reasonable care to sell the property for:
- if, when it is sold, it has a market value not less than that market value; or
- otherwise the best price that is reasonably obtainable, having regard to the circumstances existing when the property is sold.
The Receivers successfully argued at trial and in the Court of Appeal that they had sold the assets of Boz One and Wallabah in accordance with the Act and had taken all reasonable care to sell the assets for not less than their market value.
Legal principles relating to the power of sale
The Court of Appeal confirmed the extent of the duties placed on controllers under section 420A(1) of the Act. The Court in reviewing the relevant authorities made the following statements of principle:
The relevant question for the purposes of s 420A is whether the controller has failed to do what a reasonable and prudent person would do, or has done what a reasonable or prudent person would refrain from doing in the circumstances.2
In deciding whether there has been a breach of s 420A, a court assesses the process that a controller has undertaken in selling the property. The enquiry is whether, in the course of that process, the controller has taken all reasonable care to sell the property for not less than its market value. However, it is not necessary for the court to decide what actually was the market value of the property in order to find that s 420A(1)(a) has been breached — all that the court needs to decide is that the process that was followed was not one where all reasonable care was taken to sell the property for its market value, whatever that market value might be.3
Although it may be prudent for a receiver to obtain independent valuations of the property and advice as to the appropriate method of sale, that is not a rule of law and a receiver is not bound to adopt any particular mode of sale. A receiver ought to take reasonable steps to ascertain the value of the property before selling it.4
In ordinary circumstances, a controller should take all reasonable steps to advertise or notify the availability of a property to potential buyers. But, in the end, the process of sale must be assessed in each case by reference to the circumstances of that case.5
Validity of the Lewis Charge
The validity of the Lewis Charge was in question as it had only been executed by one director of IPS, Mr Rolfe.
The validity of the Lewis Charge was important because, if valid, the value of Boz One’s shares in IPS would be diminished.
Mr Miller had refused to execute the Lewis Charge as a director of IPS, but agreed to resign as director and as company secretary of IPS so that Mr Rolfe could execute the charge as sole director.
Mr Miller resigned his appointments and nobody replaced him as company secretary.
On 2 September 2002, Mr Rolfe executed the Lewis Charge with the following typed text under his signature and handwritten name:
*Delete as appropriate
The Court found that the Lewis Charge was probably valid as it was very likely that Mr Rolfe had authority, as the sole director of IPS, to execute the charge on behalf of IPS. This conclusion was reached by relying on various provisions of IPS’s constitution.
The execution was not valid under the methods provided for by section 127(1) of the Act as for that section to apply Mr Rolfe needed to be both director and secretary.
The Court also found that the charge was not void under the then section 267(1) of the Act for being a charge in favour of a relevant person that was enforced within 6 months of its creation.
The Court found that the Receivers were not required to pursue a legal challenge to the Lewis Charge (as suggested by the appellants) or investigate the validity of the charge any more than they did.
Accordingly, the Lewis Charge was a factor relevant to the market value of Boz One’s shares in IPS.
IPS’s leasehold interest in the Slipway land
There was uncertainty as to whether IPS had executed or registered sub-leases over the Crown land upon which IPS conducted its business. It was found at trial that there were no executed sub-leases of the relevant land.
The Court of Appeal found that the absence of executed sub-leases (and the resultant uncertainty about IPS’s interest in the relevant land) was one of a number of circumstances that led to the conclusion that the Receivers’ decision to sell the Boz One’s IPS Shares and the Wallabah debt by direct negotiation with Mr Miller rather than by an open market process as reasonable.
There was consensus between the parties that the loans the subject of the Wallabah debt were not documented.
However, the appellants submitted that there was sufficient evidence to establish the amount of and terms of the loans giving rise to the Wallabah debt.
The Court of Appeal did not accept that there was sufficient evidence to find that the terms of the loans were certain. The Court said that both the amount of the debt and the terms of the loan (ie whether interest was payable, the amount of the interest, and the time for repayment) were uncertain.6
The lack of documentation of the Wallabah debt and the uncertainty with respect to its terms meant that there were potential enforcement problems.7
The Court found that the appellants appeared to operate on the assumption that the market value of the Wallabah debt was its face value (evidence about its face value ranged from $671,835 to $941,420). The Court noted the problems with this approach given the uncertainty of the amount of the debt and its terms, and found that a potential purchaser of the Wallabah debt was likely to offer a discounted amount for its purchase.
These findings in relation to the Wallabah debt supported the Court’s conclusion that it was reasonable for the Receivers to sell the Wallabah debt and Boz One’s IPS Shares in a bundle direct to Mr Miller.8
Market value of Boz One’s IPS shares
IPS’s constitution contained provisions regarding the sale of shares by its members, including giving members the option to purchase shares being sold by other members.
The Receivers submitted that the sale of the Boz One’s IPS shares was of particular interest to Mr Miller as the beneficial owner of the other 50% of IPS. Also, Mr Miller effectively had the power under the constitution to veto a sale of the shares.
The Receivers also submitted that the shares would be undesirable to third party purchasers as the purchaser of 50% of the shares in IPS would not be entitled to board representation under the terms of the constitution - leaving any potential purchaser (other than Mr Miller) as a passive investor.9
The Receivers said further that Mr Miller had an incentive (due to the provisions of the constitution) to not participate in an open market sale process and simply match the highest offer received.
The Court broadly accepted the Receivers’ submissions on this issue.
The Court also accepted the Receivers’ submission that there was no probative evidence of the value of Boz One’s IPS Shares given at trial.
Without evidence of the market value, it was, as the appellants conceded, very difficult for its appeal to succeed as it would be very difficult to establish that the Receivers had failed to comply with the section 420A(1) of the Act.
The Court found that the opinions of market value that were tendered at trial had failed to take into account IPS’s liability to Lewis Securities under the Lewis Charge, which meant that those opinions had little or no probative value.10
Even if that matter was put to one side, the expert evidence tendered by the appellants at trial was of the alleged value of IPS’s leasehold interest in the Slipway Land and not a valuation of IPS’s shares. That expert report also relied on facts which were not otherwise established in the evidence.
As a result the Court found that there was no probative evidence of the market value of the shares tendered at the trial.
The sale process conducted by the Receivers
The appellants submitted that to comply with section 420A(1)(a) of the Act the Receivers were required to offer the assets for sale on the open market rather than by negotiating with Mr Miller directly.
The Receivers relied on four key issues in support of their submission that the sale process was reasonable and that an open market sale was unsuitable:
- the Lewis Charge and the uncertainty of its effectiveness;
- the absence of executed and registered sub-leases over the Slipway land;
- the provisions of IPS’s constitution allowing Mr Miller to become involved in any sale of Boz One’s IPS shares;
- the uncertainty about the amount and terms of the Wallabah debt.11
The Receivers submitted that the Lewis Charge and the Wallabah debt reduced the shareholder equity (if any) in IPS and the absence of the sub-leases created doubt about the security of the future of the slipway business. The risk to a potential purchaser meant that it was unlikely that the Receivers would receive any bids with the result that Mr Miller could use the expected failure to attract bids in his negotiations with the Receivers.
The appellants submitted that the four factors referred to by the Receivers did not mean that a potential purchaser could not conduct its own due diligence and determine a purchase price.
The Court accepted the Receivers submissions. The Court said:12
We agree with the submissions of the Receivers, which accord with ordinary commercial experience and common sense. Legal and commercial uncertainty about matters that are fundamental to the management or viability of a business and the possibility of litigation over these matters inevitably affect the value of shares in that business.
The principles summarised … above make clear that the scope of the duty in s 420A(1)(a) of the Act is not defined by prescriptive steps which always must be undertaken by a controller when exercising a power of sale. Rather, the scope of the duty is defined by a general obligation to ‘take all reasonable care’. As the authorities illustrate, what must be done to comply with this general obligation will depend on the circumstances of each case, including the nature of the assets being sold and the circumstances of the chargor. While the failure to take a particular step — such as an open market sale process — may constitute a breach of s 420A(1)(a) in some cases, the failure may not constitute a breach in others.
In the present case, the Receivers were placed in an extraordinary difficult position by the convergence of several interdependent factors which adversely affected the value of the Sold Assets. In these circumstances, the Receivers were required to adopt an integrated legal and commercial approach to these factors rather than addressing each of them in isolation. In that context, the Receivers were justified in concluding that an open market sale process had greater potential to create legal and commercial obstacles to achieving a sale price that was not less than the market value of the Sold Assets than a private sale to Mr Miller.
In all the circumstances, even if it could not be said that the Lewis Charge was probably valid, the course adopted by the Receivers minimised the legal and commercial risks of selling the Sold Assets for less than their market value. Put another way, that course maximised the prospects of selling the Sold Assets for not less than their market value. Legally and commercially, it was the most prudent course for the Receivers to take. As such, the Receivers took all reasonable care to sell the Sold Assets for not less than their market value.
Following this conclusion, the Court considered a number of specific submissions made by the appellants in relation to the sale process conducted by the Receivers. In rejecting these submissions, the Court confirmed the position that there is no prescriptive list of steps that must be taken in each sale conducted by a receiver and that the focus must be on the receiver’s conduct as a whole.
The Court of Appeal found that the trial judge was right to conclude that the Receivers did not breach their duty under section 420A(1) of the Act. The appeal was dismissed.
The Court of Appeal of the Supreme Court of Victoria has confirmed that it will take a commercial approach to assessing whether a sale has been conducted in accordance with section 420A(1) of the Act.