TGIF 6 March 2020: With great risk, comes ‘just’ reward : Court rules on the entitlement of an indemnifying creditor

This week’s TGIF examines In the matter of Bytecan Pty Limited (in liquidation) [2019] NSWSC 1910, in which the Supreme Court of New South Wales considered the scope of the advantage to an indemnifying creditor available under section 564.    

The facts

In 2015, a general purpose liquidator (GPL) was appointed to Bytecan, a company which installed mobile phone towers. The GPL later reported to creditors that he had experienced considerable difficulty recovering approximately $260,000 said to be owed to Bytecan by Nokia.  

In 2017, a secured creditor of Bytecan, Apricity, filed an application to appoint a special purpose liquidator (SPL) to pursue a claim against Nokia.  That claim included both the $260,000 owed to Bytecan and, separately, $680,000 in respect of which Apricity had security pursuant to an invoice financing (or ‘factoring’) arrangement.

The SPL was appointed with the benefit of an indemnity, supported by bank guarantee, from Apricity.   After “a very hard fought piece of litigation”, the SPL reached a settlement with Nokia for $500,000.  That sum was not apportioned between the factored and unfactored (or ‘secured’ and ‘unsecured’) claims.

In November 2019, the SPL sought orders as to the distribution of the settlement sum and, specifically, that after his costs & expenses were deducted, the balance should be paid entirely to Apricity.

The GPL did not oppose the application but sought a carve out from the settlement sum to meet his expenses, being those incurred in the proceedings and those the GPL expected to incur to conclude the winding up.

Distributions under s 564

When a creditor assumes the risk of indemnifying a liquidator, section 564 of the Corporations Act provides the Court with the power to alter the usual priority rules that apply. That power of adjustment is used to give the indemnifying creditor an advantage over others as is considered ‘just’. The critical issue for determination in this case was whether the advantage “over others” extends over a GPL’s claim under s 556(1)(a) or was limited to an advantage over other creditors generally.   

At the hearing, Apricity conceded that the GPL’s costs of Apricity’s application fell within the terms of a separate, existing indemnity it had provided.  However, it argued that, whilst the order excluding any further payment to the GPL (i.e. for the GPL’s future costs) was unusual, it was appropriate as:

• a large portion of the amount recovered comprised factored claims which belonged to it as secured creditor;
• the GPL had made a decision not to commence any proceedings; and
• the risk in indemnifying the SPL was significant in the face of a well-funded opponent and the GPL’s views on prospects.

The GPL contended that, firstly, the claim prosecuted included the unfactored amounts to which Apricity had no entitlement and, secondly, that section 564 did not allow priority over all others generally and was confined to all creditors other than the GPL.

The Decision

The Court was satisfied that Apricity should have priority over other creditors.  Whilst the unfactored claims were assets of Bytecan, the evidence made clear that these claims would never have been pursued by the GPL and, consequentially, their realisation was attributable to Apricity’s investment.

However, the Court did not give Apricity priority over the GPL’s remaining costs. In reaching this conclusion, it was acknowledged that the GPL was an unsecured creditor and the priority prescribed by s 556 could be displaced by s 564.  

Notwithstanding this, the Court observed that, whilst in principle the order sought by Apricity could be made, it was not “just” to pay the whole of the settlement sum to Apricity to the exclusion of the GPL’s anticipated costs of completing the winding up.   The rationale being that the GPL should not bear the expense of finishing his statutory duties in circumstances where funds were available in the liquidation.   

Comment

There is a scarcity of case law on s 564 yet the power conferred permits the usual priority to be adjusted in a manner which is ‘just’.  In practice, this means that the position of all with a claim or debt against the company (including, for example, a GPL with a claim under s 556(1)(a)) can be subordinated to an indemnifying creditor. This is despite the position of liquidators, and their high rank in the ladder, and priority creditors such as FEG.  

That said, if the liquidator has properly borne expense necessitated by the actions of the indemnifying creditor and/or has remaining tasks to be completed in the winding-up, it is very unlikely for the liquidator to be left bearing those costs when there are funds available, even though such funds may not have been available absent the assistance of the indemnifying creditor.