Court considers independence issues relating to appointment and funding of special purpose liquidator

This week’s TGIF considers the recent case of In the matter of Umberto Pty Ltd (in liq) [2018] FCA 541, which involved an application to appoint special purpose liquidators and to obtain the Court’s approval of their funding and legal arrangements.

What happened?

The company at the centre of this case was Umberto Pty Ltd (Umberto). Mr Candelori was its sole director and shareholder.

In October 2013, Umberto contracted GDK Projects Pty Ltd (GDK) to complete the fitout of the restaurant “Candelori’s” in Smithfield, Sydney.

GDK made a progress claim in respect of the fitout works under the Building and Construction Industry Security of Payments Act 1999 (NSW). In January 2015, GDK was awarded $240,605.23 in respect of that claim.

Later that year, Mr Iannuzzi was appointed liquidator of Umberto pursuant to a resolution of its creditors.

The sole director of GDK, Mr Simic, noticed that the restaurant continued to trade despite Umberto supposedly being in liquidation. Mr Iannuzzi, however, understood Umberto to be a special purpose vehicle whose sole purpose was fitting out the restaurant (i.e. it was no longer the entity carrying on the restaurant business). Mr Iannuzzi seemed to have reached this conclusion on instruction from Mr Candelori.

Mr Simic obtained eligible applicant status from ASIC to conduct examinations of Mr and Mrs Candelori, their son, and Umberto’s former accountant. The examinations revealed information that GDK said may form the basis for a number of potential claims by Umberto against the Candelori family and their related companies.

Application to appoint special purpose liquidators

Mr Iannuzzi had no funding to investigate the potential claims. GDK and Nevrast Pty Ltd (Nevrast), of whom Mr Simic was also the sole director, were unwilling to fund Mr Iannuzzi because Mr Simic had not been satisfied with his investigations to date.

Instead, GDK applied to the Federal Court to appoint special purpose liquidators to investigate the potential claims and, where appropriate, to pursue debts and commence proceedings. The special purpose liquidators would exercise their powers to the exclusion of Mr Iannuzzi with funding from Nevrast.

Section 90-15 of Schedule 2 of the Corporations Act 2001 (Cth) allows the Court to “make such orders as it thinks fit in relation to the external administration of a company”. This includes the power to appoint a special purpose liquidator. Farrell J explained that, generally, the court will exercise this power where it considers it just and appropriate to do so.

Her Honour concluded that the potential claims required investigation. As such, unless the special purpose liquidators were appointed and Nevrast were to fund them, the potential claims would probably not be able to be pursued because of the impending expiry of a limitation period under the Corporations Act (s 588FF).

Funding agreement and costs agreement

Her Honour then considered whether the Court should allow the liquidators to enter the proposed funding agreement and costs agreement on which the special purpose liquidators and their legal advisers were to be respectively engaged.

Section 477(2B) provides that without the approval of the Court, a liquidator cannot enter into an agreement on a company’s behalf if the agreement may end more than three months after the agreement is entered into or if the obligations arising from that agreement may be discharged after such period. The Court will generally allow the liquidator to enter such an agreement if the reasons for doing so are proper and bona fide.

Serious questions were raised as to whether it was appropriate for the special purpose liquidators to enter these agreements because of the power they granted to GDK’s lawyers and Mr Simic. The arrangements only permitted the special purpose liquidator to retain GDK’s lawyers and the costs agreement could not be varied without the consent of the funder, Nevrast.

Farrell J said that the control that these agreements granted to GDK’s lawyers and Mr Simic (through Nevrast), was concerning. Her Honour noted that it is “generally undesirable” for a liquidator to retain the lawyers for a substantial creditor, due to concerns as to the liquidator’s independence.

Despite these concerns, Farrell J approved the agreements on the basis that it was only through the investigations of GDK that the potential claims had been identified. The intimate knowledge of the potential claims held by GDK’s lawyers and Mr Simic would greatly assist in pursuing the claims and ultimately reduce the costs that would be incurred in commencing proceedings. Further, without Nevrast’s funding, it would be highly unlikely the liquidators would find the funding to pursue the potential claims.

On this basis, her Honour found that the liquidators’ reasons for seeking entry to the funding agreement and the costs agreement were proper and bona fide.

Insights

The case demonstrates that, where a party has a financial interest in the external administration of a company, and where that party is dissatisfied with the performance of a liquidator, there may be scope for the party to seek the appointment of a special purpose liquidator and to put in place appropriate funding arrangements.

In deciding whether or not to approve such funding arrangements, the Court will be concerned to ensure that the funding arrangements do not undermine the independence of the special purpose liquidator and this is a matter that requires careful consideration when the funding arrangements are drafted.