On 5 August 2020, the Victorian Court of Appeal handed down its judgment in Cant v Mad Brothers Earthmoving Pty Ltd  VSCA 198, providing clarity on the circumstances in which a third party payment may amount to an unfair preference.
Ultimately, the Court of Appeal held that, where a third party pays the debt of a company which later goes into liquidation, the payment must diminish the available assets of the insolvent company to fall within s.588FA(1)(b) of the Corporations Act 2001 (Cth) (“Act“). This will be the case where the third party is indebted to the insolvent company, and payment by the third party to the insolvent company’s creditor reduces that liability.
Eliana Construction and Developing Group Pty Ltd (in liq) (“Eliana“) was indebted to Mad Brothers Earthmoving Pty Ltd (“Mad Brothers“) in respect of excavation works carried out at a site in Taylors Hill, Victoria.
Eliana and Mad Brothers agreed to settle the debt on payment by Eliana of $220,000. Rock Development & Investments Pty Ltd (“Rock“), a company related to Eliana, borrowed money from a lender (“Nationwide“) to pay the debt. Nationwide transferred $220,000 to Mad Brothers to discharge Eliana’s debt under the settlement agreement.
In the subsequent liquidation of Eliana, Eliana’s liquidator brought an unfair preference proceeding against Mad Brothers in respect of the $220,000 payment. The main issues which arose during the proceeding were:
- whether Eliana was a party to the transaction within the meaning of s.588FA(1)(a) of the Act; and
- whether the $220,000 payment was received “from” Eliana within the meaning of s.588FA(1)(b) of the Act.
The liquidator’s unfair preference claim was successful at trial. However, the judgment was overturned on appeal in the Supreme Court. The liquidator subsequently appealed to the Court of Appeal.
The Court of Appeal’s judgment
The liquidator argued that Eliana authorised Rock to make the payment, and that was sufficient to establish that Eliana was a party to the transaction, and that the payment was received “from” Eliana.
While accepting Eliana was, in fact, a party to the transaction, the Court of Appeal found that the $220,000 payment was not an unfair preference. This is because the payment was not received “from” Eliana, as required by s.588FA(1)(b) of the Act. The Court’s conclusions were stated at  as follows:-
- A company may be a party to a transaction within the meaning of s.588FA(1)(a) of the Act where it directs a third party to make a payment to a creditor, or it authorises or ratifies such a payment. However, the payment will not necessarily be received “from the company” within the meaning of s.588FA(1)(b) of the Act.
- The words “from the company” in s.588FA(1)(b) of the Act have the effect that a payment will only amount to a preference if it is received from the company’s own money, meaning money or assets which the company is entitled to.
- In order for a preference to be “from the company”, its receipt by the creditor must diminish the assets of the company available to creditors.
- A payment by a third party, which does not diminish the assets of the company available to creditors, is not a payment received “from the company,” and therefore cannot be an unfair preference.
The Court considered the existence, or otherwise, of a debtor / creditor relationship between Rock and Eliana to be a matter of significance. If Rock was indebted to Eliana, the impugned payment would have reduced that debt, and given Mad Brothers the benefit of money Eliana was entitled to. In those circumstances, the payment would have reduced the value of Eliana’s asset (i.e. the debt), and would have been received “from” Eliana, within the meaning of s.588FA(1)(b) of the Act.
However, the Court could not be satisfied, on the available evidence, that Rock was indebted to Eliana. Accordingly, the Court concluded that there had been no diminution in Eliana’s assets as a result of the transaction. The payment was not, therefore, an unfair preference.
While the Court of Appeal’s judgement has clarified the law in respect of third party payments, one unintended consequence of the judgement may be to inform insolvent companies, and their creditors, about how to structure payments to avoid the unfair preference provisions under the Act. We expect this issue will arise more frequently with the rise of insolvencies predicted as a result of the global COVID-19 pandemic.
with Mark Pennini, Lawyer & Michelle Nguyen, Graduate at Law