Bryant v Badenoch Integrated Logging Pty Ltd [2023] HCA 2
The case of Bryant v Badenoch Integrated Logging Pty Ltd [2023] HCA 2 (‘Bryant’), which was an appeal from a decision of the Full Court of the Federal Court of Australia, concerned the operation of unfair preference claims and voidable transactions between debtors of an insolvent company and creditors. Most importantly, this landmark case confirmed that the peak indebtedness rule is abolished, which, as will be elucidated on below, clarifies the complexities of commercial and fiscal obligations in insolvency, and reduces the burden on creditors.
Facts of the case
An agreement was formed in 2003 for Badenoch to supply timber to Gunns, a relationship which lasted for 10 years. Despite Gunns’ financial difficulties from 2010, and frequently making late or only partial payments, Badenoch continued to supply timber, and in August 2012, the parties agreed to terminate the agreement on the basis that Badenoch would continue to supply some services for a small period to enable another contractor to get up to speed. While Badenoch was continuing to supply some services, Gunns appointed liquidators on 25 September 2012 who applied under section 588FF(1) of the Corporations Act 2001 (Cth) to have a series of payments made by Gunns to Badenoch in the six month period prior declared as voidable transactions on the basis that they were unfair preferences.
Voidable transactions and unfair preferences
A company may become insolvent, whereupon liquidators may identify transactions the company has entered into in the period before it was made insolvent that may be voidable. Such transactions mean that the creditor is generally required to repay the money, which increases the pool of assets for general distribution among creditors.
The reason for the recovery of such payment is to avoid an unjust advantage of one creditor over another. For example, an insolvent company may owe debt to five creditors. Paying all their debts to one creditor without consideration for the others puts that creditor at an advantage, and is disadvantageous for the other creditors. This rule is to ensure that the company’s assets are distributed fairly.
This company’s payment to a creditor of an unsecured debt may be an unfair preference transaction if the creditor ultimately receives more than they would have, compared to their transaction being set aside and payment being made to them from the company’s distributed assets to all its creditors during liquidation. This type of voidable transaction is only valid if the creditor received payment in circumstances where they knew, or ought to have known, that the company was insolvent.
What is the running account principle?
Enshrined within section 588FA(3) of the Act, this defence to an unfair preference claim consolidates all transactions integral to a “continuing business relationship” between a company and a creditor into a single entity. This consolidation aids in determining whether such transactions qualify as unfair preferences under section 588FA(1) of the Act, and, prior to this case, incorporated the peak indebtedness rule, where it was open to a liquidator claiming unfair preference to choose the highest point of indebtedness in a running account during the relevant period as the starting point, rather than the balance as at the start of the relevant period. Therefore, the discretion of the liquidators to choose the starting point means that the difference of the debt owing at the start of the period, i.e., the highest level of debt owed to the creditors, and the debt at the end of the period, means that the liquidators can maximise the amount of the unfair preference claim that the creditors must pay back to them on account that it is a voidable transaction.
So how do these rules apply to this case?
Federal Court of Australia
In the original case held in the Federal Court of Australia, Gunns claimed unfair preference with regards to payments made to Badenoch from the date of insolvency (30 March 2012) to the relation-back day, all of which were part of their continuous business relationship. The liquidators argued that if there was a ‘continuing business relationship’, they were entitled by the ‘peak indebtedness rule’ to choose the starting date within that six month period to prove the existence of an unfair preference by Gunns to Badenoch. The liquidators argued that 31 May 2012, being Badenoch’s highest level of indebtedness to Gunns – $1,416,563.31 – should be the starting point of the “single transaction”. Therefore, as the debt at the end of the period was $1,365,321.02, Gunns could reclaim $51,242.29 from Badenoch.
The primary judge held that the ‘peak indebtedness rule’ applied and that only two of the eleven payments were an integral part of the continuing business relationship involving a running account.
Full Court of the Federal Court of Australia
On appeal, the Full Court held that the ‘peak indebtedness rule’ did not apply and that an additional two of the payments were part of the relationship.
High Court
Justice Jagot, with the assent of the bench, upheld the judgement of the Full Court and dismissed the appeal. The Court reasoned that section 588FA(3) is a ‘statutory embodiment of the “running account principle” which has long been a part of insolvency law in Australia’. Additionally, the Court reasoned that if a transaction is, for commercial purposes, an integral part of a continuing business relationship (e.g., a running account) between a company as debtor and a creditor, then all transactions forming part of that relationship are to be treated as if they together constituted one, single transaction in determining if the transaction is an unfair preference given by the company to the creditor, voidable on application by a liquidator.
The peak indebtedness rule was abolished. Therefore, the first transaction that can form part of the “continuing business relationship” contemplated by s 588FA(3) is not selected by the liquidator, but is instead the first transaction occurring after the continuing business relationship begins. What constitutes this first transaction is the following, whichever is later: (1) the first transaction after the beginning of the relation-back period; (2) after the date of insolvency; or (3) if the relationship started after the beginning of the relation-back period, the first transaction of the continuing business relationship.
How does this relate to builders?
In today’s current construction climate, we are regrettably seeing more and more construction companies going under, due to debt, performing defective works, and more.
In the event of a business becoming insolvent in the construction industry, its contractors, subcontractors and suppliers might receive notices from its liquidators demanding repayment of ‘unfair preferences’. This recent ruling demonstrates that the amount recoverable by the liquidated company from its contracted parties in unfair preference claims is diminished. This development benefits subcontractors, as it lowers the amount claimed from insolvent business.
Ultimately, the decision in Bryant can be of benefit to creditors. If an unfair preference claim is lodged against them, the liquidators will not be able to choose the highest point of indebtedness as the basis for how much they should ‘claw back’ from the creditors. While this ruling may be treated with dismay by liquidators pursuing unfair preference recoveries, liquidators are still able to pursue this process to recover debt from their creditors.
If you need help with your legal claim, please contact Warlows Legal and get a free initial consultation.
