Whether you are a John Donne, Ernest Hemingway or Metallica fan, the above clause rings a bell. Last week the Court of Appeal for Western Australia joined those “Riding the Lighting” and provided its own musings on “For Whom the Bells Tolls” down under. Rather than affirming that the bell tolls for the infamous Spanish guerrilla fighters or a tortured metaphysical poet, the Australian court provided a new answer: The Bell [decision] tolls for “would be” secured lenders. In the latest decision of a 16-year protracted litigation, the Court of Appeal for Western Australia held that banks who took security over assets of The Bell Group a year before the company commenced liquidation proceedings were liable to the liquidators in an approximate amount of $2 billion for assisting the company directors in breaching their duties.

By way of background, in early 1990 The Bell Group experienced financial difficulties and in the face of bank loan maturities and defaults, negotiated a restructuring agreement with its unsecured bank creditors. As part of the restructuring, the banks waived certain defaults and extended maturities and in exchange The Bell Group entities (some of which had not been original obligors or guarantors) granted additional guarantees and collateral to secure the bank loans (collectively the “Security”). In April 1991, The Bell Group commenced liquidation proceedings. As a result, the banks exercised on the Security and recovered funds in payment of their claim. For those unfamiliar with Australian law, the stay of collection proceedings does not apply to secured creditors.

Enter the liquidators. The liquidators sued the banks alleging (among other things), that not only should the Security granted in 1990 be avoided as The Bell Group was insolvent at the time of the transaction, but that granting the Security was in breach of directors’ duties. The liquidators further alleged that the banks knew that the directors were breaching their duties and assisted the directors in such breach and, therefore, were liable as accessories. The case proceeded to a 400+ day trial that spanned three years. Ultimately, in 2008 the trial court found in favor of the liquidators and ordered the banks to pay back the funds they had recovered from the sale of certain assets plus interest, damages and costs to the liquidator for a total price tag of approximately A$1.5 billion. The banks appealed and last week’s decision affirmed the trial court’s view that the bell tolled for “thee” banks. The appellate court additionally found that a higher multiplier for damages was called for and increased the A$1.5 billion judgment to approximately A$2 billion. The banks are likely to appeal to the High Court of Australia, however, such an appeal is not as a matter of right and there is no certainty that the court will accept the application.

The nuanced legal issue under Australian law is that “thee” banks can only be liable as accessories to the directors’ breach of their duties if the directors’ duties are fiduciary. The appeal court in Bell held that the directors’ duties in issue were fiduciary duties even though they required the directors to take positive action and were not merely proscriptive. This is an issue for the High Court to settle.

What does the judgment mean for lenders in Australia in the meantime? Is it time to blow the bridge and give up on restructuring efforts altogether? The Master of Puppets says no and continues to believe that in most cases lenders achieve better value in consensual restructurings than in formal proceedings. The critical finding by the appeal court in Bell was that there was no real attempt at a restructuring but rather an impermissible asset grab by the banks when the companies were insolvent.[1] Specifically, the court found that the banks did not act in good faith, since their motives in providing the extension were not to permit The Bell Group an opportunity to operate as a going concern and restructure. Instead the court found that the banks’ driving motives were to clarify a subordination issue in the documentation and to allow the requisite time to pass so that the Security security could harden (i.e. have the look back period expire). Additionally, the court noted that the level of control the banks had over the management of the companies amounted to an informal administration under the supervision of the banks.

The Bell Group situation is not the normal guerrilla war; plenty of restructurings pre and post-Bell have been successful and, even if they failed, have not resulted in 15+ years of litigation and significant damage awards. However, the decision serves as a reminder that lenders should engage in “ernest” restructuring negotiations and leave the directors’ decisions to the directors. Follow these simple rules, and the bell should stay silent …