In the recent decision of Heavy Plant Leasing [2018] NSWSC 707, a creditor successfully defended an unfair preference claim by establishing it did not have reasonable grounds to suspect the insolvency of the debtor company, who was a subcontractor in the earth moving business.

The most common way of defending a liquidator’s unfair preferences claim is to rely upon section 588FG(2) of the Corporations Act 2001(Cth); commonly called the ‘good faith defence’.

Whether a creditor can successfully rely on the defence will depend on the specific facts and circumstances of the creditor’s dealings with the debtor company. The cases make it clear that the court will have regard to all of the circumstances, assessed accumulatively. It is a matter of looking, through the contemporary eyes of the parties, at the commercial circumstances that prevailed between them. It is not a matter of looking at the evidence with the benefit of hindsight.

Heavy Plant Leasing

In Heavy Plant Leasing, the creditor had applied increasing pressure to procure payments, from polite requests to more exasperated pleas, to withholding delivery and ultimately threatening to refer the overdue invoices to a credit agency. The Court analysed the late payment of invoices and the dealings between the debtor company and creditor. The Court observed:

  • Cash flow problems can be indicative of or raise a suspicion of insolvency, although not necessarily. It is important to put them in context. You may be dealing with a trader with a persistent and a long history of delay in payment of accounts.
  • Recalcitrance by a debtor does not of itself provide grounds to suspect insolvency. Still less does mere late payment by a debtor provide, of itself, grounds to suspect insolvency.
  • The fact it is necessary to resort to conventional debt collection procedures to recover a debt from a late or recalcitrant debtor does not necessarily provide grounds to suspect insolvency.
  • In many cases, recalcitrance or late payment is explicable by cash flow difficulties, or other matters falling short of the permanent state of insolvency to which section 588 FG refers.
  • The delay in payment occurred in the context of the construction industry, where the debtor company was a subcontractor.
  • The reliance of subcontractors on progress payments from head contractors for cash flow to meet their own obligations is notorious.
  • Cash flow difficulties caused by difficulties with head contractors are well known.
  • The fact that a recalcitrant debtor promises to pay and then does not pay is not necessarily indicative of insolvency.
  • The debtor’s explanations for late payment were not implausible.
  • While there was some delay in the debtor’s payment, it was not so protracted, given the time of year and the industry in which it occurred, as to provide a reason to suspect insolvency.

In relation to the creditor’s pressure to procure payments, the withholding of delivery and threats to engage a credit agency, the Court said:

These are steps that are taken just as much by an unpaid creditor of a solvent debtor as they are by an unpaid creditor of an insolvent debtor. The fact that a creditor applies pressure of that order to secure payment does not, to my mind, illustrate that the creditor fears or apprehends that the debtor is insolvent.

The degree of pressure exerted by a creditor does not speak of a suspicion of insolvency, because a creditor is as likely to exert pressure on a recalcitrant solvent debtor as on an insolvent one.

Not a complete get out of jail free card

However, the statements should not be treated by a creditor as being unqualified. The Court said in respect of the creditor’s pressure:

In that respect, it is notable that the pressure resorted to did not reach the point of actual reference to a debt collector, nor the issue of recovery proceedings, nor the issue and service of a creditor’s statutory demand. Moreover, the threat of reference to a credit agency produced immediate payment in full – not a payment at the end of the seven day period to which the demand adverted, nor a partial payment, nor an instalment proposal (which might have been more indicative of an inability to pay debts as and when due).

A recent decision regarding email demands

In our bulletin in December 2017, we discussed unfair preferences and the decision of White & Templeton v ACN 153 152 731 Pty Ltd (in liq) [2017] WASC 52.

In White there were email exchanges in which the creditor made persistent and direct enquiries as to when it could expect to receive payment and requested answers to questions. Although there was a degree of bluster in what the creditor’s director had to say to the debtor, the Court found, after looking at evidence as a whole, that the creditor had no reasonable grounds to suspect insolvency and that no other hypothetical individual, slotted in to the circumstances as they existed, would have suspected insolvency.

In White the creditor’s director gave evidence regarding the conduct of the account, his understanding that there were no external sources indicating any fundamental difficulties with the debtor company’s project, that there was unmet demand for the building project, and that there was a well-known company with extensive financial resources ‘backing the project’. He stated that he believed the delay in payment was due to the debtor’s poor contract administration and that the debtor at all times had access to funds to make payment.

In certain circumstances, a creditor may be able to rely on the good faith defence. In considering this defence, the courts look at the specific facts and circumstances of the case. It is a matter of evidence and cross examination.

The decisions highlight the conflict between a creditor managing its cash flow by chasing creditors for payment through, for example, email communications, and the risk that the payments received may be held to be an unfair preference. As always, it is prudent to be circumspect in your written communications because a liquidator may try to use them against you.

It is important to note that the good faith defence is only one of the potential defences a creditor may be able to rely upon to resist an unfair preference claim.