The High Court has unanimously dismissed an appeal by the responsible entity of a managed investment scheme, holding that an in specie transfer of shares by Wellington Capital to members of the Premium Income Fund was beyond power.

Why is this case important?

These proceedings demonstrate that a broad power of the kind generally found in the constitutions of a managed investment scheme, authorising the responsible entity to deal with the property of the scheme, does not describe the responsible entity’s powers and duties when making distributions to members of the scheme (including in specie distributions of scheme property). Accordingly, if a responsible entity intends to make in specie distributions to scheme members, it should consider whether this is permitted by those provisions of the scheme constitution dealing with distributions to members. In addition, in the case of an in specie distribution in the form of company shares, a responsible entity should consider whether the scheme constitution contains a consent from members of the scheme that meets the requirements of section 231 of the Corporations Act.

The facts

Wellington Capital Ltd (“Wellington”) is the responsible entity of the Premium Income Fund (“Fund”), a managed investment scheme listed on the National Stock Exchange of Australia (“NSX”) and governed by a constitution and Part 5C of the Corporations Act 2001 (Cth) (“CorporationsAct”).

In September 2012, Wellington sold approximately 41% of the assets of the Fund to Asset Resolution Ltd (“ARL”). As payment for the sale, Wellington received around 830 million shares in ARL (comprising the whole of the issued share capital of the company), which were then transferred in specie to the unit holders of the Fund in proportion to the number of units held by each unit holder. This in specie transfer occurred without the unit holders’ specific consent.

The Australian Securities and Investment Commission (“ASIC”) contended that Wellington had no power under the Constitution of the Fund to transfer property of the Fund to the unit holders. In an urgent application before the Federal Court of Australia, it had sought declaratory and other relief in this regard.

Decisions at first instance and in the Full Federal Court

At first instance, the Court dismissed ASIC’s application, holding that Wellington did have power to effect an in specie distribution under the Fund’s constitution. The Court relied on two clauses of the constitution. The first (clause 13.1) provided that Wellington “shall have all the powers in respect of the [Fund] that is legally possible for a natural person or corporation to have and as though it were the absolute owner of the [Fund] Property and acting in its personal capacity”. The Court considered that this clause of the constitution was sufficient to pick up the power contained in section 124(1)(d) of the Corporations Act, allowing a company to “distribute any of the company’s property among the members in kind or otherwise”. The second (clause 13.2.5) conferred power on Wellington to dispose of, or otherwise deal with, Fund property as though it were the absolute and beneficial owner. The Court held that, since unit holders in the Fund were bound by the terms of the constitution, they must be taken to have assented to become members of ARL on the in specie distribution, and that this was sufficient to satisfy the requirement in section 231 of the Corporations Act that a person must consent to becoming a member of a corporation.

The Full Federal Court unanimously allowed ASIC’s appeal against the decision at first instance, declaring that the in specie transfer of ARL shares to the Fund’s unit holders was beyond Wellington’s power under the constitution of the Fund and that, by making the transfer, Wellington contravened section 601FB(1) of the Corporations Act in that it did not perform the functions conferred on it by the constitution.

Their Honours considered that the construction of the Fund’s constitution must be approached “through the prism of trust law”. The Court held that clause 13.1 was not concerned with the powers of the responsible entity in relation to unit holders and that, “[t]o permit a responsible entity of a scheme to deal with the scheme property as an absolute owner in its dealings with the unit holders would be contrary to the relationship of trustee and cestui qui trust which exists between them”. Their Honours said (perhaps overly broadly in the High Court’s view) that, as a matter of trust law, it is not open to a trustee to transfer the trust property to the beneficiaries in the absence of the consent of all beneficiaries. Further, while section 124(1)(d) of the Corporations Act allows the distribution of a company’s property among the members, the definition of “member” in the Corporations Act distinguishes between members of a company and members of a managed investment scheme. Accordingly, even if a provision in a scheme’s constitution were understood to give the responsible entity the powers a corporation enjoys under section 124(1)(d), such powers do not relate to distributions of the property of the scheme to members of the scheme.

As to clause 13.2.5, the Full Court held that the clause must be construed in its statutory context and having regard to the status of the responsible entity as a trustee. Describing a trust as being “Janus-like”, their Honours noted that trustees owe duties to beneficiaries in respect of the management of trust assets (the “equitable face”) while at the same time having legal title to those assets and being able to deal in those assets with third parties (the “public face”). Clause 13.2.5 concerned only the question of the trustee’s power to engage in a wide range of dealings with third parties in such a way that those dealings would not of themselves (and absent other considerations) be breaches of trust. The words of the clause did not empower Wellington to distribute the Fund property in specie to the unit holders, such a process being unique to trust law.

The High Court’s decision

Wellington appealed, by special leave, to the High Court of Australia. The High Court unanimously dismissed the appeal with costs. In joint reasons, four members of the Court agreed with the Full Federal Court’s analysis as regards section 124 of the Corporations Act and, after considering the terms of the Fund’s constitution, within the statutory framework of Chapter 5C of the Corporations Act, concluded that clauses 13.1 and 13.2.5 were facultative clauses that “had nothing to do with the circumstances in which assets or capital forming part of the Scheme Property could be returned to unit holders”. Wellington was not authorised by clause 13.1 to engage in “intramural dealings involving non-consensual transfers of Scheme Property to unit holders”. This conclusion found support in other terms of the constitution itself. Clauses making express provision for the return of capital by the responsible entity did not contemplate the transfer of assets in specie but, rather, provided for payment in cash.