Admitting investor claims without a formal proof of debt?

Morgan, in the matter of Traditional Values Management Limited (in liq) [2024] FCA 74
Can the court admit investor claims in a liquidation without requiring a formal proof of debt?

Overview

In this case, the Court considered whether it should grant directions sought by a liquidator for the responsible entity of a registered managed investment scheme with respect to a proposed abridged process for admitting investors as creditors in the liquidation, as well as the proposed use of the assets of the managed investment scheme to meet the claims of investor creditors. The Court granted the orders substantially in the form sought by the liquidator, highlighting that when the Court gives a judicial direction like this one, it is not determining the rights of those concerned, but rather conferring a level of protection on the liquidator. The question is whether there is a reasonable basis for the liquidator’s proposal, sufficient to persuade the Court that it is proper to exonerate him from liability for implementing the proposal or, conversely, whether there is a good reason why the liquidator should not proceed as proposed.

Background

Brent Morgan of Rodgers Reidy, the liquidator of Traditional Values Management Ltd (TVM), the responsible entity of a registered managed investment scheme called the Blue Diamond Deposits Trust No. 1 (BDT), applied for various orders pertaining to a proposed abridged procedure for admitting investors as creditors in the liquidation of TVM. Among other things, the liquidator sought orders that he was justified in: (1) dealing with certain groups of investors in the BDT by admitting them as unsecured creditors in the liquidation of TVM according to a specified formula (in essence with a 20% discount applied to their claims), without requiring a formal proof of debt; and (2) using the BDT’s assets to pay these investors’ claims, as well as other claims admitted by the liquidator, and a specific group of investors (the Rice & Reynolds Investors) whose claims have been settled.

TVM made personal and commercial loans using funds generated from investors subscribing for units in the BDT. From at least early 2007, TVM was using the funds of incoming investors - most of whom were “mum and dad” investors - to pay income distributions or redemptions to existing investors (like a Ponzi scheme).

TVM was put into voluntary administration in December 2009 and liquidation in February 2010. The liquidator subsequently concluded that there were material misstatements in, and omissions from, documents issued by TVM. The liquidator has calculated creditor claims to be:

1. ordinary trade creditors of TVM in its capacity as trustee of the BDT: $176,927.01;

2. unsecured creditors of TVM in its own right: $56,651.44;

3. claims of the Rice & Reynolds Investors: $840,000; and

4. claims of Affected Investors (investors who acquired units within a specified time period): between $4,846,413.14 and $5,322,903.99.

The liquidator argued that the abridged procedure was warranted on the basis that the anticipated costs of dealing with proofs in the usual manner would absorb all, or nearly all, of the funds remaining. The liquidator also pointed out that similar processes have been approved in two previous cases (Re Forex and Re ION Limited) and argued that an abridged claims process should be approved since it would involve considerable savings and would avoid the exhaustion of the funds in the winding up.

Regarding the request for an order that the liquidator is justified in meeting creditor claims from the assets of the BDT, the liquidator cited clause 15.1 of the BDT’s Constitution, which provides that TVM, as the responsible entity, is indemnified out of the “Trust Fund” for all expenses, losses and liabilities but goes on to provide that the indemnity is not available “where the indemnity is not permitted under the Operating Standards, the Law and only where such expense, loss or liability has been incurred in the proper performance of the duties of the Responsible Entity”.

The liquidator sought the order referred to given that the nature of the claims the investors have against TVM are such that it may subsequently be contended that the “proper purposes” carve-out in the indemnity applies, or that s 601GA(2) of the Act applies such that recourse cannot be had to the BDT’s assets to pay claims pursuant to the terms of the Constitution alone.

TVM held cash in its own right of only $11,677. If the liquidator was unable to have recourse to the assets of the BDT to meet the claims of investor creditors and the Rice & Reynolds Investors, the effect would be that unsecured creditors of TVM (whose claims did not arise from its trustee capacity, or which did not arise from the apprehended misleading or deceptive conduct), would be paid 100 cents in the dollar, and unitholders who are investor creditors would be expected to receive about 13 cents in the dollar.

No investors or non-investor creditors opposed the orders sought by the liquidator, and the Court appointed Damien McAloon of counsel as contradictor. Following the contradictor’s review, the liquidator modified the proposal in two respects — from an opt out model to an opt in model, and revising the time allowed for certain steps — in response to the contradictor’s submissions.

The Court’s Decision

A court is empowered by s 90–15(1) of the Insolvency Practice Schedule to “make such orders as it thinks fit in relation to the external administration of a company”. The power conferred by s 90–15(1) is “very broad”. The court’s power under s 90-15(1) includes a power to give directions about a matter arising in connection with the performance or exercise of an administrator’s functions or powers.

When the Court gives a judicial direction of the kind sought, it is not determining the rights of those concerned. Rather, whether or not the direction should be given depends on whether there is a reasonable basis for the liquidator’s proposal, sufficient to persuade the Court that it is proper to exonerate him from liability for implementing the proposal or, conversely, whether there is a good reason why the liquidator should not proceed as proposed. The function of a judicial direction of this kind is not to determine rights and liabilities arising out of a particular transaction, but to confer a level of protection on the administrator.

The terms of s 90-15(1) are broader than its two partial predecessor provisions, being s 479(3) and s 511(1)(a) of the Corporations Act. Despite this, courts have nonetheless been guided by the matters relevant to the exercise of the predecessor provisions. Whilst a court generally refrains from making directions relating to a liquidator's or administrator's business or commercial decisions, it may give directions relating to issues such as a legal issue of substance or procedure, or an issue of power, propriety or reasonableness.

With respect to the abridged process, the Court noted that similar proposals have been approved in two previous cases (Re Forex and Re ION Limited), illustrating that it is an appropriate exercise of the power conferred by s 90-15 to approve an abridged process where that abridged process involves considerable savings and avoids the exhaustion of the funds remaining in the winding up.

The Court agreed that this case was distinguishable from Re Horne, which related to a process where the liquidator called for and adjudicated on a “global proof of debt”. This case was different in that the liquidator set out clearly and precisely the manner in which the proposed abridged procedure would operate, including the calculation of claims in accordance with a precise formula. Further, the process proposed by the liquidator did not involve the lodgement of a “global proof” which was another matter of concern in Re Horne, given that such a “global proof” involved the conflation of several and joint rights.

On the issue of using the BDT’s assets to pay investors’ claims, the Court noted that the grant of a direction in the terms sought will not determine the substantive legal position, but will operate to protect the liquidator in acting in accordance with the direction. The relevant test is a negative test, that is “to allow indemnification for what has not been shown to have been improperly incurred”. In other words, unless the indemnity is shown not to be available, it should be regarded as being available.

In light of those matters, and given the compelling reasons advanced by the liquidator for having recourse to the trust assets to meet the claims of investor creditors, the Court found that it should only decline to grant the direction if it was tolerably clear that the indemnity was unavailable to TVM. In the Court’s view, the fact that an argument could be made that the indemnity was unavailable was not a sufficient basis to decline to grant the direction sought.

In this case, notice of the liquidator’s application was given to all creditors and unitholders of TVM, including the investors who would stand to gain if recourse to trust assets was not permitted. None had come forward to contend that the indemnity was not available. The contradictor also supported the direction sought.

Conclusion

As a result, orders were made in substantially the form sought by the liquidator.

Judge: Button J

Counsel for the Plaintiffs: Jonathan Moore KC of List A Barristers with Patrick Miller of Lonsdale Chambers

Solicitor for the Plaintiffs: Mills Oakley

Counsel for the Contradictor: Damien McAloon of List G Barristers

Solicitor for the Contradictor: Thomson Geer