Insolvency Alert: Avoiding a funder blunder - 7 June 2011

The Supreme Court of Queensland handed down a decision last week which illustrates that a Liquidator should be well prepared when applying to the Court for approval of a litigation funding agreement.

Here, Partner Paul Betros discusses what this means for Liquidators.

What you need to know

The material put before the Court should address all of the matters relevant to the Court's discretion, to explain why the Liquidator believes the proposed agreement will benefit the company and its creditors.

Justice Boddice in the Supreme Court of Queensland handed down his judgement in In the matter of First Strategic Development Corporation Ltd (in liq) [2011] QSC 143 this week.

The decision is the latest to consider whether the Court should approve a Liquidator entering into a litigation funding agreement. The proposed agreement involved the performance of obligations over more than three months and thereby necessitated approval under The Corporations Act 2001.

The decision is noteworthy (at least to those who note these things) because:

  • The Court was called upon to consider a proposed funding agreement between the Liquidator and an unsecured creditor of the Company, rather than a professional litigation funder.
  • The application was opposed by a director in the crosshairs of the Liquidator, being a potential defendant to insolvent trading claims and the examinee in upcoming public examinations.
  • The contradictors (being the director and a related entity) sought to raise concerns about the Liquidator's solicitors being subject to a conflict of duty and interest in that they had previously acted for persons associated with the funding creditor and there was the potential for the conduct of these persons to become the subject of further enquiry by the Liquidator. It was also contended that the terms of the funding agreement were unreasonable because they provided for too much control and influence in favour of the funding creditor.

Justice Boddice approved the terms of the proposed funding agreement. In doing so, His Honour identified and considered the various factors that were relevant to the exercise of the Court's discretion, emphasising that a key consideration was whether the liquidator believed the proposed agreement to be for the benefit of the company and its creditors (Re ACN 076 673 875 Ltd (2002) 42 ACSR 296 ("Bendeich's case")).

Justice Boddice confirmed that approval may be granted retrospectively (Stewart, in the matter of Newtronics [2007] FCA 1375).

In identifying the role of the Court on such an application, Justice Boddice cited with approval the following passage from Corporate Affairs Commission v ASC Timber (1998) 29 ACSR 109 at pp 118:

[not] to reconsider all of the issues which have been weighed up by the liquidator in developing the proposal, and to substitute its determination for his in...a hearing de novo [but]... simply to review the liquidator's proposal, paying due regard to his or her commercial judgment and knowledge of all of the circumstances of the liquidation, satisfying itself there is no error of law or ground for suspecting bad faith or impropriety, and winding up whether there is any good reason to intervene in terms of the 'expeditious and beneficial administration' of the winding up.

His Honour also confirmed that:

  • Where it is alleged that a funding agreement is attended by bad faith, it is insufficient to merely show that the Liquidator or the solicitors will secure some advantage, especially where the evidence suggests that the arrangements overall will benefit creditors (Bendeich's case; Re Imobridge (No 2) [2000] 2 Qd R 280); and
  • There is a public interest in bringing directors to account and ensuring that creditors can pursue potential claims (Bendeich's case).

His Honour endorsed and considered the list of relevant factors enunciated by Justice Austin in Bendeich's case, being:

  • The nature and complexity of the cause of action;
  • The amount of costs likely to be incurred in the conduct of the action and the extent to which the Financier is to contribute to those costs;
  • The extent to which the Financier is to contribute towards the costs of the defendant in the event that the action is not successful, or towards any order for security for costs by the Court before which the action is to be heard;
  • The extent to which the Liquidator has canvassed other funding options;
  • The level of the Financier's 'premium';
  • The risks involved in the claim; and
  • The Liquidator's consultations with the creditors of the company.

In considering each of these factors, Justice Boddice held that:

  • The debts of the company had been incurred over a 12 month period and any litigation seeking relief for insolvent trading was likely to be confined in terms of that time period;
  • The costs involved would be likely to be limited when viewed in proportion to the potential sums which may be recovered;
  • The funding creditor had offered an indemnity for any adverse costs order against the Liquidator;
  • If the funding agreement was not approved, the Liquidator had no funds to conduct the public examinations;
  • It was relevant that one of the contradictors was a director to be publicly examined and a target for the potential insolvent trading claims;
  • It was of particular importance that the Liquidator had consulted the creditors;
  • The funding agreement specified a payment of 10% of the resolution sum to the funding creditor, which was not exorbitant when compared to similar funding arrangements;
  • The funding agreement allowed the Liquidator to seek advice from new solicitors from time to time should he see the need to do so;
  • It was reasonable that the funding agreement obliged the Liquidator to report to the funding creditor and allow him to seek from it relevant information and documents, because the Liquidator was not obliged to take into account its comments or suggestions. Rather, he retained an unfettered discretion to conduct and settle the proceedings however he saw fit;
  • There was no reasonable basis to challenge the impartiality of the Liquidator and no proper basis to suspect bad faith or impropriety;
  • There was no reasonable basis to find that the Liquidator's lawyers would not act professionally and ethically and if a conflict arose the Liquidator could retain new solicitors to act for him; and
  • The examinees were able to take steps to set aside the summonses for their public examinations for abuse of process, if minded to do so.

Justice Boddice was satisfied that the funding agreement ensured that the Liquidator had access to independent legal advice. Without it, no public examination was reasonably likely to occur and the prospect of proceedings being brought would be significantly impaired.

The decision illustrates that a Liquidator should not lightly approach an application to the Court for approval of a litigation funding agreement. The material put before the Court should fully address all of the matters relevant to the Court's discretion.

Should you wish to discuss this or any other matter, please contact a member of HopgoodGanim's Insolvency team.