The recent appeal decision of the Full Court of the Federal Court in ASIC v Franklin (liquidator) and ors [2014] FCAFC 85 reinforces the importance of the independence of liquidators and also provides further guidance on the contents of declarations of independence, relevant relationships and indemnities (known as a “DIRRI”) by administrators. In our article on 21 February 2014, we looked at the primary decision of the Federal Court in this case. 

Facts

Walton Construction Pty Ltd and Walton Construction (Qld) Pty Ltd are related companies that were placed into voluntary administration (and subsequent liquidation) late last year. The firm of insolvency practitioners that accepted the appointment had been referred the matter by a corporate advisory group with which the insolvency firm enjoyed an ongoing commercial relationship.

ASIC had sought the removal of the liquidators on the basis that there was a reasonable apprehension that they lacked independence and impartiality. ASIC’s concerns stemmed from the referral to the insolvency firm by the corporate advisory group, which occurred in circumstances where:

  • the corporate advisory group had been advising the Walton companies prior to the collapse;
  • the companies transacted asset sales and debt assignments with companies connected with the corporate advisory group shortly before they entered administration and the liquidator would need to investigate these transactions; and
  • those investigations ought to include investigations as to whether the corporate advisory group was involved in any possible breaches of the Corporations Act.

In the first instance, the Federal Court, rejected ASIC’s applications:

  • for the removal of the liquidators under s 503 of the Corporations Act on the basis that a fair minded observer would not apprehend that the liquidators may lack independence and impartiality on the facts; and
  • for a declaration that the DIRRI was deficient and contravened s 436DA of the Corporations Act on the basis that it was enough for the administrators to disclose their business relationship with the corporate advisory group in the DIRRI.

ASIC appealed this decision.

The Appeal Decision

Apprehension of bias and lack of independence

The Full Court confirmed that the test for apprehended bias in a liquidator was the “double might” test being ‘whether a fair mindedobserver might reasonably apprehend that the liquidator might not bring an impartial mind to the resolution of the question the liquidator is required to decide or investigate’. 

The Full Court upheld ASIC’s appeal on this point and found that the primary judge had erred by using the word “would” instead of “might” which was inconsistent with the test in Ebner which is concerned with ‘possibility’ and not reasonable expectation.  

In determining that the liquidators should be replaced, the Full Court pointed to the following findings:

  • That there was a conflict which was more than theoretical between the interests of the liquidator’s firm in not jeopardising the prospect of further remunerative referrals from the corporate advisory firm, on the one hand, and the proper discharge of their duties as liquidators of the companies, on the other. The reasonable fair-minded observer would perceive this conflict. The Full Court considered that a reasonable fair-minded observer (including creditors) would regard the amount of remuneration referred by the corporate advisory firm to the liquidators in the two years preceding the appointment as significant. 
  • A reasonable fair-minded observer might apprehend that, because of the liquidator’s interests in not jeopardising future income, they might not discharge their duties with independence and impartiality.
  • The fact that the corporate advisory firm was influential in the appointment of the administrators/ liquidators would add to the apprehension of the reasonable fair-minded observer. The Full Court also pointed to the fact that the creditors of both companies had asked questions indicating concerns about the liquidator’s relationship with the corporate advisory firm.

The DIRRI – contravention of s 436DA of the Corporations Act

ASIC submitted that the primary judge should have held that the liquidators (then administrators) had contravened section 436DA in failing to give full reasons why they believed that the referral relationship between the corporate advisory firm and the liquidator’s firm, in the context of the need to investigate entities associated with the advisory firm, did not result in the administrators having a conflict of interests. 

The Full Court disagreed with ASIC and dismissed the appeal on this point.

The Full Court agreed with the Judge at first instance. With respect to the DIRRI, it was enough for the administrators to disclose their firm’s business association with the corporate advisory firm. Pursuant to the Corporations Act, all that is required is for the DIRRI to:

  • disclose relationships with the company or its associates; and
  • explain why those relationships do not disqualify the external administrator from acting.

Comment

The Full Court’s decision reinforces the importance of the golden rule that a liquidator must be independent and must be seen to be independent. Insolvency practitioners should carefully consider situations where they may need to investigate organisations that regularly refer them work or entities connected to those organisations.

In terms of DIRRI’s, the decision confirms the minimum requirements of the Corporations Act. In some circumstances, it may be that the requirements under the ARITA Code of Professional Practice are more onerous and insolvency practitioners should consider the requirements of the Code. But given the decision of the Full Court, it may be time for ARITA to bring the Code in line with the expectations of the Federal Court.