Unreasonable Director-Related Transactions

The recent Victorian Court of Appeal decision in Vasudevan as Liquidator of Wulguru Retail Investments Pty Ltd (In Liquidation) (“Wulguru”) –v– Becon Constructions (Australia) Pty Ltd (“Becon”) & Anor [2014] VSCA 14 has cast a new light on what the Court will consider to be an unreasonable director related transaction.

This is important for Directors of companies to note, as Liquidators may now pursue recovery in a greater range of transactions.

How does the section operate?

Section 588FDA of the Corporations Act provides that a transaction of a company is an unreasonable director-related transaction in a specific (and exclusive) range of situations.

Previously, note has been taken about whether the Director (or a close associate) received a direct benefit, as opposed to an indirect benefit.

The Liquidator does not need to prove insolvency however, and the transaction could have occurred up to four years before the relation back period.

Facts of the case:

A Director was the sole Director and Shareholder of three companies. Two companies had incurred liabilities to Becon, and the Director had provided a personal guarantee. The companies had defaulted, and Becon commenced legal proceedings against the Director, under the personal guarantee.

A Deed was entered into, in which the third company, Wulguru, became jointly and severably liable for the debt, and gave a mortgage over real property in exchange for the Director being released from his liabilities. Importantly, Wulguru had previously had no liability for this debt, or to Becon whatsoever.

Wulguru sold part of the mortgaged property, and held the proceeds in trust while there was a determination of the interests of the various parties.

Wulguru later went in to Liquidation, and the Liquidators sought to obtain orders from the Court that the Deed and the mortgage were unreasonable director-related transactions, and should not be upheld.

The Court’s decision:

At first instance, the Court refused the application, and the transaction was upheld. The Liquidator appealed to the Court of Appeal.

The three judges on appeal agreed unanimously that the Deed was void, and the proceeds of the sale are the property of Wulguru, and Becon is not a creditor.

Historically, the Court has not considered that the requirement for the transaction to be “for the benefit of” the Director or their close associate may include situations where there is an indirect benefit. In this case, Becon had covenanted not to sue the Director, and that he was no longer liable to Becon for the debts of the other companies. The Court in fact stated plainly that the necessary “benefit” was not restricted to actual equitable interests or equities, rather, other benefits may be considered, such as financial interests and contractual rights. Judge of Appeal Nettle held that the ordinary meaning of “for the benefit of” a person is that it be “for the advantage, profit or good” of them. Further, “the natural and ordinary meaning of ‘for the benefit of’ accords to the objective of the section of preventing directors stripping benefits out of companies to their own advantage.  Conversely, given the ease with which an errant director might channel benefits from a company under his charge to another company in which he is financially although not legally or equitably interested, there is every reason to suppose that Parliament intended not to confine the meaning of the expression to something in the nature of an equitable interest.”

This decision suggests that the Courts may apply a considerably broader application of the section, which in turn will likely cause Liquidators to bring a broader range of claims against Directors, where there has been any relevant unreasonable director-related transaction.

What does this mean for Directors?

It is important to consider closely whether a transaction is likely to be considered to be unreasonable, and is to (or for the benefit of) a Director or their close associate. This is not only relevant in terms of Directors’ duties, but also now in consideration of the newly broadened scope of section 588FDA.

If you have any questions about this case, Director’s duties, or insolvency law, please contact our Head of Insolvency, Amanda Carruthers, amandac@lewisholdway.com.au or (03) 9623 1054.