Judges must be vigilant protectors of “commercial morality”
By Darise Bennington

JUDGES FACED with applications to approve Deeds of Company Arrangements (DOCAs) must protect the public interest by ensuring that the DOCAs do not offend commercial morality, the Supreme Court of New South Wales has found. “[T]he Court should not, by granting such an application, ignore and thus be seen to condone, conduct by the company’s officers which has breached standards of behaviour required by the law,” Justice Palmer held in Modena Imports Pty Ltd (in liq), In the matter of; Leveraged Capital Pty Ltd (R&M app) (in liq) v Modena Imports Pty Ltd (in liq) [2010] NSWSC 739 at [9].

The matter before Justice Palmer was an application under section 482 of the Corporations Act 2001 (Cth) terminating a liquidation that was conditional on the parties implementing a DOCA that had been approved by the company’s creditors and had been recommended by the liquidator as the only option available to creditors.

Reviewing the application, the Judge was concerned that an investigation by the liquidator into the company’s affairs had uncovered little, if any, paperwork, and had failed to find out anything of “real substance” about the company’s operation, assets, and liabilities. When he delved further, Justice Palmer found a director who had no notion that the interests of Modena as a corporate entity were separate from those of his family and friends (the director had accepted liability on behalf of the company for unrelated debts owed to friends and family who had been defrauded of luxury vehicles by an associate of his brother).

Exacerbating the Judge’s concern was the person associated with the company, Australian Corporate Restructuring Services Pty Ltd (ACRS), that would be funding the DOCA: that man, James Warren Byrnes, was described by the Judge as having “a notorious reputation as a stand-over man and associate of major criminals”.

Byrnes had also been banned twice by the Australian Securities and Investment Commission (ASIC) from managing corporations for five years (the first in 1998, and the second, which was still current, in 2006). At the time ASIC implemented the second ban, it published a statement that said: “In relation to the latest banning, ASIC was of the view that Mr Byrnes’ management of the four failed companies demonstrated incompetence, a lack of commercial morality and a disregard for his statutory duties as a director” (cited at [5]).

Further investigation brought to light the fact that the only person who had voted for the DOCA was Byrnes – in his capacity as both a creditor and as a proxy voter for four other creditors.

With knowledge of Byrnes’ past, his Honour’s suspicion was immediately aroused. “Awareness of [Byrne’s] reputation led me to enquire more closely into this application,” said Justice Palmer at [4]. “It was, at first, presented to the Court as a bland, run of the mill application, not opposed by the liquidator and having nothing remarkable about it so that it should be granted almost as a matter of course.”

Looking at the application more closely, his Honour found that the evidence in support of it was “scant”. “When more evidence was filed, my concerns deepened,” his Honour said at [6]. His Honour notified ASIC of his concerns, which resulted in ASIC intervening.

The circumstances of the case, said Justice Palmer at [8], threw into sharp relief the role of the Court in DOCA applications. “It is not the traditional role of umpire in a contest between adversaries, where the Court takes no part in the contest other than to ensure a fair trial and, at the end, to give a decision in favour of one of the contestants,” he said. “On the contrary, in applications such as this, many of which have no contradictor, the Court is vigilant to protect the public interest.”

That vigilance extends beyond simply ensuring that the company will be able to trade solvently. It also requires the Court to ensure that the creditors who will be bound by the DOCA will be treated “reasonably and fairly”, he said at [9]. Furthermore, where a judge is faced with a DOCA and company situation that causes him or her to feel “disquiet”, then he or she is entitled to seek assistance from ASIC or some other body or person having a legitimate interest in the proper scrutiny of the proposal before the Court, his Honour said at [10].

Justice Palmer referred to considerations that had been derived from the decision of Master Lee QC in Re Warbler Pty Ltd (1982) 6 ACLR 526 as “useful guidelines” when assessing whether or not approval should be granted for a proposed DOCA, although he did note they were not an “exhaustive check list” (at [13]):

• “the applicant must make out a positive case for the favourable exercise of the Court’s discretion;
• “the applicant must show the nature and extent of the creditors, and whether all debts have been discharged;
• “the attitude of creditors, contributors and the liquidator is a relevant consideration;
• “the applicant must show the current trading position and general solvency of the company;
• “the applicant must provide a full explanation of any non-compliance by the directors with their statutory duties;
• “the applicant must explain the general background and circumstances leading to the winding up order;
• “the applicant must show the nature of the company’s business and whether the conduct of the company was in any way contrary to ‘commercial morality’ or the ‘public interest’.”

Having assessed the circumstances of the case, and Byrnes’ involvement with the firm and with the DOCA, his Honour stated at [21] that he “was left in no doubt that it would be contrary to public interest and contrary to commercial morality to permit Modena to resume trading by terminating its liquidation”.

NZLawyer magazine, issue 141, 23 July 2010