Court orders winding up over conditional DOCA

In the matter of Rio Dorado Limited [2023] NSWSC 1398
What is the test for determining whether it is in the best interests of creditors for a company to continue under administration or be wound up?

Overview

In this case, the Court set out the test for determining whether it is in the best interests of creditors for a company to continue under administration or be wound up. The Court also clarified how to select a liquidator where competing liquidators are nominated.

Background

Rio Dorado Limited is a Sydney-based mining company focused on gold and platinum production, exploration and development in Ecuador. On July 25, 2023, Featherstone Enterprises Pty Ltd, a noteholder under a Series 2 Note Agreement, brought a winding up application in respect of Rio. A couple of months later, on 23 October, Rio appointed a voluntary administrator. The company and its directors had been in discussions with the proposed administrator for about two months.

On 9 November, Rio applied for an order under s 440A(2) of the Corporations Act 2001 (Cth) that the hearing of the winding up application be adjourned until 1 December 2023, after the second meeting of creditors in the voluntary administration.

Shortly before the administrator’s appointment, a proposed joint venture partner with Rio terminated the proposed joint venture. The company then entered into a Share Sale Agreement to sell its shares to the principal of the joint venture. That Share Sale Agreement formed the foundation of a proposed DOCA and was said to justify the continuance of the administration.

The Share Purchase Agreement provided for a non-refundable deposit of $100,000 which was not paid and was subject to the completion of due diligence, which had already raised serious concerns about the proposed transaction, including an issue regarding whether Rio actually has control of its Ecuadorian entities or assets.

The source of the deed fund was proposed to be only the proceeds from the Share Sale Agreement and certain of Rio’s existing assets and did not involve any injection of external funds from the deed proponents, which included some of Rio’s directors. The deal was not exposed to any other purchaser.

The winding up application relied on a statutory demand, which Rio had not sought to set aside. It was brought by Featherstone, a noteholder under a Series 2 Note Agreement which the Court noted was peculiar in that least one of Rio’s directors appeared to have participated in the agreement and it provided for an interest rate of 20% for each 30-day period.

The Court’s Decision

Section 440A(2) of the Act provides that the Court should adjourn a winding up application if the company is under administration and the Court is satisfied that it is in the interests of the company's creditors for the company to continue under administration rather than be wound up. The onus is on the company, or the administrator, to establish that it is in the interests of the company’s creditors for the company to continue under administration rather than be wound up, and that question is closely related to the financial benefit to be obtained from a voluntary administration as opposed to a winding up.

The Court recognises, in dealing with applications of this kind, the possibility that a voluntary administration may be embarked upon as a "last resort" in response to a winding up proceeding, and the Court should exercise a degree of caution where, as here, an application to adjourn a winding up is brought at the very last moment.

The administrator and certain of the company’s directors argued that the winding up application should be adjourned to allow the second meeting of creditors to proceed because the proposed DOCA would result in a better return to creditors than an immediate winding up of Rio. The Court was not persuaded by this argument, since the argument presupposed that the Share Sale Agreement would be completed, which was far from certain. As a result, the administrator was not able to assess whether the proposed DOCA would result in any return, still less a better return, to creditors than a liquidation.

The Court found that the administrator did not seem to have made any real attempt to assess the potential recoveries in a winding up, and, in particular, did not appear to have investigated the extent of any potential claims against Rio’s directors in a winding up. Without a reliable assessment of the two components of the relevant comparison, namely the return to creditors in a proposed DOCA and the return in a winding up, it was not possible to reach any reliable view as to which of them would lead to a better return to creditors.

Certain of the company’s directors also argued that there was no need for the scrutiny of a liquidator in this case, because the nature of Rio’s business and assets made its books and records simple and reliable. The Court disagreed, finding that the circumstances relating to the entering into of the Series 2 Note Agreement were matters which may warrant a liquidators’ investigation.

As a result, the Court was not satisfied that it was in the best interests of Rio’s creditors for it to continue under administration rather than be wound up, and dismissed this application.

The Court then turned to the winding up application and the identity of the proposed liquidator. The administrator had indicated his willingness to be appointed as liquidator if a winding up order was made, but Featherstone sought the appointment of a different liquidator.

The Court concluded that Rio had not displaced the presumption of insolvency and that a liquidator should be appointed. The Court accepted that the current administrator had some informational advantage over a newly appointed liquidator, but this advantage was significantly limited by the fact that his focus was on a potential Share Sale Agreement and the possibility of the DOCA, and it was apparent that he had made very limited, if any, inquiries in identifying the claims which may be available to a liquidator in a liquidation.

To the contrary, the Court found that the administrator’s previous engagement with Rio and its directors was more likely a disadvantage given his engagement with the Share Sale Agreement, which was executed on the day of his appointment, and given that issues regarding the Share Sale Agreement and potential claims against Rio’s directors will almost certainly have to be undertaken by a liquidator. In that regard, the Court emphasised that it did not form any adverse view as to the administrator’s actual impartiality, but that this is an area where the appearance of impartiality is also important. As a result, the Court concluded that it was preferable, consistent with the Court's usual practice, and in order to preserve not only the reality, but also the appearance of impartiality, for a liquidator without a previous engagement to be appointed.

Conclusion

The Court made an order for the winding up of Rio and appointing Featherstone’s nominee as liquidator.

Judge: Black J

Counsel: M Rose for Featherstone, M Rosenblatt for the administrator, J Wheeldon for F Belli (supporting creditor), R Harvey for Dr J Barron and Luminos 7 Pty Ltd (supporting creditors), C Smith for J Strauss (supporting creditor), and S Lipp for T Cuthbertson, G Mares, N Lindsay (directors)

Solicitors: W Advisers for Featherstone, Somerset Ryckmans for the administrator, Hamilton Locke for Dr J Barron and Luminos 7 Pty Ltd (supporting creditors), Craddock Murray Neumann for J Strauss (supporting creditor), and HWL Ebsworth for T Cuthbertson, G Mares, N Lindsay (directors)