Setting aside creditors’ resolution determined by voting of related party creditors

28 October 2015

In this issue:

Reviewing the operation of section 600A, Corporations Act
Relevant principles developed by the courts when applying section 600A
The onus on the applicant to make out the elements of section 600A
Discussion of the decision in Promnitz v Indochine Mining Limited (Subject to a deed of company arrangement) (2015) FCA 857, 17/8/2015

Background

Under section 600A Corporations Act, on the application of a creditor, the court may set aside a creditors’ resolution in connection with the winding up or administration of a company. Under the section the powers of the court may be exercised where the court is satisfied that:

the outcome of the voting in respect of the resolution was determined by creditors related to the company; and
the resolution was found by the court to be contrary to the interests of the creditors as a whole, or has resulted in the unreasonable prejudice of the interests of the creditors who voted against the resolution.

Note: for the purposes of the section “related creditor” is defined in section 600A(3) as a person who when the vote was cast was both a “related entity” and a creditor of the company. “Related entity” has the extensive meaning given in section 9, Corporations Act.

Recently the Federal Court in Promnitz v Indochine Mining Limited (Subject to a deed of company arrangement) (2015) FCA 857, 17/8/2015 has reviewed the operation of section 600A together with the relevant principles employed by the courts in their implementation of the section.

Promnitz v Indochine Mining Limited (Subject to a deed of company arrangement)

Background

In the case the applicant, a creditor of Indochine Mining Ltd, sought an order under section 600A seeking to set aside two resolutions passed at a creditors’ meeting, namely:

A resolution not to adjourn the creditors’ meeting at which a deed of company arrangement (DOCA) was under consideration
The resolution passed at the creditors’ meeting accepting the DOCA proposal before the meeting

The creditor contended that the two resolutions were interrelated for had the meeting been adjourned the DOCA resolution would not have been put or passed.

Were the pre-conditions of section 600A satisfied?

Section 600A allows the court to exercise its discretion to set aside a resolution where it is satisfied that, but for the votes of related party creditors, the voting outcome before the court would not have been achieved.

On the evidence before the court it was satisfied that this requirement had been met in respect of both resolutions. On being satisfied of this threshold issue the court was then empowered under section 600A to proceed to determine whether it should exercise its discretion to set aside the resolutions.

Relevant principles relating to the court’s exercise of discretion

In the exercise of its discretion the court recognised that under the terms of section 600A(1) there are two possibilities by which the passing of a resolution may entitle the court to grant relief, namely:

That it is contrary to the interests of the creditors as a whole; or
That the prejudice to the interests of creditors who voted against the resolution is unreasonable

In the context of the administration process the court acknowledged that “the interests of creditors” falls to be construed in such a way as would best promote the express object of Part 5.3A, Corporations Act as set out in section 435A under that Part. The court also accepted that “the interests of creditors” is to be construed as identical in substance to the “creditors’ interests” required to be addressed by an administrator under section 438A, and set out in the section 439A statement by an administrator to creditors (para. 90).

With respect to the possibility of unreasonable prejudice to dissenting creditors, the court observed that although there may be prejudice to the interests of creditors who voted against the resolution such prejudice may “fall short of unreasonable prejudice. In that event the curial power to override the decision of the meeting will not be enlivened” (para. 87). It is apparent that to succeed under this requirement the applicant will be obliged to demonstrate that the detriment suffered is so substantial and certain that it amounts to prejudice that is unreasonable.

The arguments before the court

The essential argument raised by the applicant was that the creditors’ meeting not being adjourned, followed by the creditors’ acceptance of the DOCA proposal, resulted in creditors being denied the opportunity of considering an “in progress” alternative DOCA proposal, also before the meeting but which needed to be reviewed “at a more leisurely pace and not under pressure” (para. 66). More specifically, the applicant submitted that assuming adequate funding was raised the alternative proposal would provide a better return to unsecured creditors, while ensuring adequate funding of the company’s business, and repayment of the secured creditor’s loans. As a consequence the accepted DOCA passed on the voting of related party creditors was not in the best interests of creditors.

By way of countervailing argument the administrator submitted that the DOCA accepted by creditors was in their best interests because:

The secured creditor had indicated that it would not under any circumstances accept the alternative proposal
Although not matching the alternative proposal with respect to payments to unsecured creditors, the accepted DOCA provided unsecured creditors with a better return than on a winding up
The proponent of the alternative DOCA had not explained satisfactorily how the proposal was to be funded at a time when the company’s financial needs had become urgent
The accepted DOCA provided a sensible and workable restructure of the company with the support of management together with further funding sourced from the secured creditor
The applicant took no steps to have the resolutions set aside until more than a month after the creditors’ meeting by which time the DOCA had been executed and acted upon.

The decision

In deciding that the passed resolutions were not contrary to the interests of creditors as a whole or unfairly prejudicial to dissenting creditors, the court was influenced by the fact that at their meeting creditors had the benefit of the administrator’s comprehensive report, which emphasised the need to support the company, and to act in a timely fashion, requirements which the accepted DOCA addressed to the benefit of the company and creditors.

Further, the continued support of the secured creditor had to be considered, particularly the prospect of having a receiver and manager appointed over the company’s assets by the secured creditor in the event that its preferred DOCA was not proceeded with. The avoidance of this possibility was clearly seen to be in the interests of the company and its creditors.

Finally, with respect to the proponent of the alternative DOCA the court noted that, notwithstanding the urgency surrounding the company’s position, it “tried to slow down the DOCA process in order to give it time to refine its own DOCA proposal and to secure funding for it. In the end it ran the risk that the meeting would not be adjourned and that creditors would vote to proceed with the proposal” (para 79).

Concluding comments

Section 600A recognises that any system of voting by creditors is vulnerable to the influence of insider or related party creditors. To prevent such creditors from exercising an unfair influence over a meeting of creditors resulting in unfavourable outcomes for non-related creditors, the court has been given powers to intervene under section 600A and make consequential orders as required.

However such exceptional powers need to be exercised with caution, both within the terms and pre-conditions specified by section 600A, and in accordance with relevant, well-established principles developed by the courts in their implementation of the section.

Promnitz is a recent case dealing with the concerns of dissenting creditors, and provides insights into the onus which lies upon such applicants to make out the elements of section 600A. Here, for the reasons discussed above, the applicant failed to satisfy the court that resolutions passed with the votes of related creditors were contrary to the interests of creditors as a whole, or were unfairly prejudicial to the dissenting creditors.

The decision is consistent with an earlier court’s observations that the creditors’ voting process “clearly contemplates that the wish of an individual creditor may be overridden, and permits related creditors to take part in the decision to do so, subject to s 600A.”

Finally, it may be noted that an adverse costs order was made against the unsuccessful applicant which reinforces the need for dissenting creditors to obtain legal/accounting advice as to the merits of their grievances before contemplating proceedings under section 600A.