A 'drastic intrusion': appointing provisional liquidators to a solvent company

To protect, preserve and investigate: the role of provisional liquidators 5 min read

In a recent Federal Court decision,¹ Justice Cheeseman declined to set aside the appointment of provisional liquidators which had been made pursuant to s472(2) of the Corporations Act 2001 (Cth) (the Act). The case serves as a useful reminder of the principles relevant to the appointment of a provisional liquidator, including in circumstances where the company is (or is assumed to be) solvent.

Key takeaways

• The appointment of a provisional liquidator remains an important tool, whether in or outside of the context of insolvency, to preserve the status quo and continue any legitimate business while commencing investigations.
• Evidence of corporate governance failure or the shirking of statutory obligations may increase the prospect of a provisional liquidator being appointed.
• Akin to other forms of interim preservation, the court must be satisfied that there are good prospects of the plaintiff obtaining a winding up order and that the assets of the company are in jeopardy to justify what is otherwise a drastic measure.

Background

The liquidator of various corporate plaintiffs commenced substantive proceedings against certain corporate defendants and individuals alleging (among other things) breaches of directors' duties, including by a shadow director of each defendant company, where the company had become exposed to a penalty for tax avoidance. The liquidator also sought the winding up of certain related companies on the 'just and equitable' ground under s461(1)(k) of the Act.

On the same day that the substantive proceedings were commenced, the liquidator made an urgent ex parte application seeking the appointment of provisional liquidators to some defendants (as well as an interim receiver to another). The evidence relied on by the liquidator included evidence that there was a risk of asset dissipation due to funds being 'cycled' between related companies.

The liquidator succeeded on his application. However, less than two weeks later, some of the defendants sought to set aside the appointment of provisional liquidators (and the interim receiver).

Provisional liquidators

Section 472(2) of the Act provides that the court may appoint a liquidator provisionally:

• after the filing of a winding up application and before the making of a winding up order; or
• if there is an appeal against a winding up order, before a decision in the appeal is made.

Similar to a liquidator, a provisional liquidator has:

• the power to carry on the company's business (s472(4)(a)); and
• the powers that a liquidator of the company would have under paragraph 477(1)(d), subsection 477(2) (except paragraph 477(2)(m)) and subsection 477(3) if the company were being wound up in insolvency or by the court (s472(4)(b)).

There is a range of circumstances that might constitute sufficient grounds to appoint a provisional liquidator. The court has wide discretion in this regard and its function is to balance the intrusion into the affairs of the company against the desire to preserve the status quo.² If other measures are adequate to preserve the status quo, then the balance would be against the appointment of a provisional liquidator.³

As stated by Justice Cheeseman:

The appointment of a provisional liquidator is a drastic remedy and serious intrusion into the affairs of the company.⁴

Relevant factors the court will consider when deciding whether to appoint a provisional liquidator include;

• public interest considerations either for or against appointment.
• whether the affairs of the company have been conducted casually without due regard to the law.
• whether the assets of the company will be dissipated in the interim before winding up orders may be made.
• the likelihood that there would be further acts detrimental to creditors or shareholders.
• whether there is a lack of control over the assets of the companies arising from the intermingling of monies between the respondent companies.
• whether there are proper books in circumstances where money has been lent between respondents.
• whether the affairs of the company are being controlled by persons other that the de jure directors.
• whether a provisional liquidator might be able to undertake investigations that might be fruitful.

Decision

Justice Cheeseman upheld the appointment of the provisional liquidators, having particular regard to:

• the good prospects that the companies would be wound up on the just and equitable ground.
• the public interest in preserving the status quo and to protect company assets for the benefit of creditors.
• the facilitation of an effective investigation to enable the identification and preservation of assets.
• the fact that none of the directors put on evidence to address the claims against them.
• the fact that the companies appeared to be controlled by a shadow director, not the de jure directors appointed to them.
• the fact that the companies appeared to be conducting their affairs in a casual manner, in neglect of their obligations under the Act.
• the lack of corporate governance, and failure to comply with taxation obligations.
• the risk of dissipation inherent in the dishonest nature of the alleged conduct, including the cycling of funds through a network of companies, and the failure to provide information and documents in respect of the external administrations of the companies.

Interestingly, in this case the appointment of provisional liquidators was made in the absence of insolvency, or at least on the presumption of solvency. Solvency generally weighs against the appointment of a provisional liquidator. However, solvency is not a bar to the appointment of provisional liquidators where there have been serious and ongoing breaches of the Act, as in this case where Justice Cheesman noted:

In the present circumstances, there is a justifiable lack of confidence in the conduct and management of the companies’ affairs and the evidence supports a conclusion that there have been serious and ongoing breaches of the Corporations Act by the relevant companies.⁵

Rather than basing the application on insolvency, the substantive application for winding up was made on the just and equitable ground. There is significant overlap between the matters relevant to the just and equitable ground and the matters that weigh in favour of the appointment of a provisional liquidator.⁶

In relation to the balance of convenience, Justice Cheesman recognised the appointment of provisional liquidators would have a seriously adverse effect on the companies and risked reputational harm, but weighed these factors against the need to protect, preserve and investigate the asset position of the companies for the benefit of creditors. A lesser form of relief was considered inadequate to provide such protection.

Final thought

This judgment provides a timely reminder that the appointment of provisional liquidators remains a useful interim preservation tool, even where a company is assumed to be solvent. It also highlights the risks of poor corporate governance and the willingness of the Court to intervene in circumstances where there is substantial non-compliance with the Act.