Misleading DOCA terminated

Yan v The Won Capital Pty Ltd [2024] NSWSC 758
In what circumstances will a court terminate a DOCA?

Overview

In this case, the Court considered an application to set aside a DOCA that was discovered to have been based on false or misleading information after the purpose of the DOCA (to allow a development to be completed) had already been achieved. The Court concluded that the DOCA should be terminated notwithstanding the delay in bringing the application to set aside the DOCA. The Court emphasised the strong public interest in upholding commercial morality and investigating relevant transactions by a liquidator, coupled with the potential for the investigations to identify causes of action to be pursued for the benefit of creditors, as reasons to terminate the DOCA.

Background

In, 2017, the plaintiff (Mr Yan) loaned money to the first to third defendants, two Australian companies (The Won and GR Capital) and an individual (Mr Liu). The loans have not been repaid and Mr Yan is collectively owed approximately $25 million.

In October 2018, administrators were appointed to GR Capital. About a month later, the administrators published a second report to creditors concluding that GR Capital had been insolvent since at least December 2017, and that an insolvent trading claim of up to $7.1 million may be available in a liquidation scenario.

At the second meeting, which was adjourned, Mr Liu submitted a proof of debt claiming to be owed over $16 million. In fact, over $11 million of that amount was on account of Mr Yan’s loan to GR Capital, which Mr Liu passed off as money that he himself had loaned to the company.

In December 2018, the administrators published a supplementary report indicating that it was in the interest of creditors to wind up GR Capital. A further meeting of creditors was again adjourned to permit the formulation of a DOCA proposal.

That proposal, a holding DOCA on behalf of Mr Liu and his wife, was put forth in January 2019. The DOCA sought to provide time for the completion of The One Hurstville development (an 11-storey residential and commercial tower at Treacy Street, Hurstville) and to impose a moratorium on creditors whilst that occurred. The administrators reported to creditors that they continued to hold the view that GR Capital should be wound up.

On 30 January 2019, at the adjourned meeting, the creditors of GR Capital resolved that the company execute the GR Capital DOCA. The resolution was against the recommendation of the administrators and was passed “on the voices”. In the end, of Mr Liu’s proof of debt (which appropriated substantial sums of money which were actually Mr Yan’s loan funds), approximately $8.3 million was admitted to vote.

Some time after entry into the GR Capital DOCA, Mr Yan learned of the administration and the DOCA. Mr Yan later sought to terminate the DOCA pursuant to s 445D(1) of the Corporations Act 2001 (Cth) (the Act) to enable a liquidator to investigate the insolvent trading claims.

Meanwhile, the defendants put forth a proposal to vary the DOCA. Among other things, Ms Liu proposed to contribute a first tranche of $500,000 (to be procured from her family in China) to be held in a deed fund for the benefit of unsecured creditors, with the potential for a second tranche payment.

Complicating matters was that, in the meantime, the development had been completed and all units appear to have been sold. In addition, there is a substantial degree of urgency in relation to any insolvent trading claims due to the impending expiry of the limitation period to bring such claims.

The Court’s Decision

Mr Yan relied on sub-paragraphs (a) and (g) of s 445D(1) of the Act. Sub-paragraph (a) provides that the Court may make an order terminating a DOCA if it is satisfied that false or misleading information that can reasonably be expected to have been material to creditors in voting on the DOCA was given to the administrator or the creditors. Sub-paragraph (g) provides that the DOCA should be terminated for “some other reason.”

Under s 445D(1)(a)(i), whether information is false or misleading is determined by the objective quality of the information judged at the time of the hearing. The inquiry is directed to the adequacy of the information provided. Under s 445D(1)(a)(ii), “material” means something which was relevant and did affect, or might have affected, the outcome. The test is an objective one.

In relation to s 445D(1)(g) – “some other reason” – the words are very broad and should be applied in a way consistent with the policy of the Act and other public policies. Generally, the breadth of s 445D(1)(g) is such that in a particular case the public interest can justify the termination of a DOCA even where this may not necessarily be in the creditors’ interests. Where the relevant company is not trading and there is no likelihood of its resuming its former business, the public interest in placing the company in the hands of a liquidator may prevail over the interests of creditors. The preclusion of an effective investigation by a liquidator into relevant transactions and the opportunity for greater returns may render a DOCA contrary to the creditors’ interests overall.

The circumstances in which a DOCA may be terminated are not closed. Each case will depend upon its own facts and combination of circumstances, which must be mutually balanced. Even if one or more of the statutory pre-conditions for terminating a DOCA are made out, there is a further step of the Court actually deciding in its discretion that it should do so.

There are many factors that the Court will take into account when considering if the discretion to terminate a DOCA should be exercised. Many of the relevant factors in the authorities relate to the interests of creditors as a whole on the one hand, and the public interest on the other. Public interest may be understood as whether the continuation of the DOCA is conducive or detrimental to commercial morality and to the interests of the public at large. The Court must carefully balance the interests of creditors with the public interest in considering whether it is appropriate to exercise the discretion to terminate a DOCA. Delay in bringing the application to terminate the DOCA is a particularly important discretionary factor.

Here, the Court found that the conduct of Mr Liu in failing to alert creditors and the administrators to the fact that Mr Yan had loaned GR Capital money which had not been repaid, and instead passing off that money as money which he himself had loaned to GR Capital, clearly satisfied the requirements of s 445D(1)(a).

Mr Liu was the third largest creditor (by value) admitted to vote at the meeting, with the two largest being secured creditors who were not subject to the DOCA and thus may be presumed not to care one way or the other whether the DOCA was entered into. Mr Liu was able to pass himself off as a substantial creditor of GR Capital and vote in favour of the DOCA, which he had proposed. But for the misleading information, the voting composition would have been materially different.

The focus of the debate at the hearing was whether, as a matter of discretion, the Court should terminate the DOCA. The principal reason relied on by the defendants to argue that the DOCA should not be terminated was Mr Yan’s delay in seeking the order to set aside the DOCA. The Court acknowledged that delay is an important discretionary matter, and that delay may in certain circumstances make it impossible to terminate a DOCA where considerable expense has been incurred in implementing the DOCA and/or third parties have changed their position in reliance on the DOCA. However, the Court stated that delay was simply one matter to be considered in the exercise of the its discretion, and concluded that the DOCA should be terminated notwithstanding that the purpose of the DOCA has been achieved in that the Hurstville Development has been completed.

In relation to the interests of creditors, it was difficult to predict what would happen if the DOCA were not terminated, since it is a holding DOCA and this would depend on the outcome of any future meeting of creditors of GR Capital. However, the Court was sceptical as to whether, if the DOCA were not terminated, a meeting would in fact be held where a proposal for a varied DOCA will be put to creditors. The Court was also sceptical that such a varied DOCA would yield significant benefit to the creditors of GR Capital viewed as a whole.

By contrast, if the DOCA is terminated, there will likely be at least some further investigation by the liquidator of GR Capital of the insolvent trading claims identified in the administrators’ report, funded by Mr Yan, who had already offered to contribute $20,000 so some investigations could be carried out. The initial estimate of the value of the claim – $7.1 million – is also considerably larger than the first tranche of any deed fund ($500,000). In addition, there is no evidence of the current value of creditors of GR Capital and what return would therefore be received by each unsecured creditor on a pari passu distribution of the first tranche. On any view, it would likely be small. Whether there would be a second tranche is even more opaque.

The Court also emphasised the strong public interest in upholding commercial morality and investigating relevant transactions by a liquidator. In the circumstances of this case, that public interest, coupled with the potential for the investigations by the liquidator to identify causes of action to be pursued for the benefit of creditors, predominated over the speculative outcome if the DOCA were not terminated.

Conclusion

As a result, the Court ordered that the DOCA be set aside.

Judge: Pike J

Counsel for the Plaintiff (Mr Yan): Dominic Delany of Alinea Chambers

Solicitor for the Plaintiff (Mr Yan): Dentons Australia

Counsel for the First to Third Defendants (The Won, GR Capital and Mr Liu): Howard Insall SC of Tenth Floor St James Hall Chambers

Solicitor for the First to Third Defendants (The Won, GR Capital and Mr Liu): Hugh & Associates Lawyers