The Government has passed amendments to the Corporations Act 2001 (Cth) and the Corporations Regulations 2001 (Regulations) to overturn the impact of the decision in Sons of Gwalia v Margaretic (2007) 231 CLR 160 (Sons of Gwalia) and reinstate the longheld convention that creditors’ rights take precedence over shareholders’ rights in the instance of a winding up.

What was the outcome of Sons of Gwalia?

The Sons of Gwalia decision determined that, in a corporate insolvency, some shareholder claims, for example, certain compensation claims, would not be postponed by the Act. Instead they would rank equally with unsecured creditors in any distribution to creditors, after secured creditors and payment to priority creditors.

How has this changed?

The Corporations Amendment (Sons of Gwalia) Act 2010 (Act) passed on the 28th of November returns the order of claims to that which existed prior to the Sons of Gwalia judgment.

The Act:  

  • Postpones any claim arising from a person relating to their shareholding until all other claims against a company are satisfied.  
  • Provides that all claims in relation to the buying, selling, holding or otherwise dealing with shares are to be ranked equally and after all other creditors’ claims.  
  • Rules out the ability of persons bringing subordinated claims to be treated as creditors and therefore an entitlement to receive communications to creditors from external administrators, without making a written request and are able to vote in the external administration.  
  • Removes the right of persons bringing claims regarding shareholdings to vote as creditors in a voluntary administration or a winding up unless they receive permission from the Court.  

The Act returns to conventional priorities in insolvency, it confirms the elimination of any restriction on the capacity of a shareholder to recover damages against a company based on how they acquired the shares or whether they still hold the shares.  

The amendments will not operate retrospectively and the subordination provision will not affect any claim that arises before the enactment of the amendments.  

The Act confirms the traditional principle that shareholders assume greater risk for the chance of greater reward while creditors accept limited returns for lower risk.  

It is arguable that it removes some of the uncertainty created by the Sons of Gwalia decision and its impact on the cost and availability of credit by reinstating the long-held convention that creditors’ rights take precedence over shareholders’ rights in the instance of a winding up.  

What does the case mean for shareholders?

Unfortunately for shareholders, the principle “buyer beware” applies when acquiring shares, because rights to compensation or to be considered as creditors may be limited as a result of these changes.

When acquiring shares parties should undertake an extensive due diligence (financial and legal) of any company they are thinking of investing in.