Defining an uncommercial transaction

An important decision in light of the employee entitlements legislation.

Now that the Employee Entitlements legislation has been enacted (see the note on Vanmarc case discussed earlier), a decision of Austin J in the case of Lewis v Cook ((2000) 18 ACLC 490) is a most interesting one. It deals with the issue of what is an uncommercial transaction in terms of section 588FB of the Corporations Law (the Law) which is closely linked to the operation of the Employee Entitlements legislation. The facts are quite interesting for other reasons as well dealing with problems faced by companies close to insolvency. The facts are again taken from the CCH Law Reports. Doran Constructions (Doran) was owned by Doran Constructions (Australia) (DCA). The directors of both companies were the same persons. In 1994, the directors of Doran approved a large loan to DCA. On 28 November 1997, the directors of Doran met and resolved "to forgive the loan account owing by [DCA] of approximately $2,552,361". In December 1997, an extraordinary meeting of DCA shareholders was held and resolved that the company be wound up voluntarily and the defendant in this case be appointed as liquidator. The liquidation was to proceed as a members' voluntary winding up. Later in December 1997, special resolutions were passed for Doran to be wound up voluntarily and for the plaintiff in this case to be appointed liquidator. The liquidation proceeded as a creditors' voluntary winding up.

In May 1998, the plaintiff as liquidator of Doran signed a proof of debt in respect of the relevant loan. The proof of debt impliedly claimed that the purported forgiveness of the debt by the Doran directors was ineffective. The defendant responded by saying that the plaintiff's claim had been wholly disallowed on the ground that the transaction involving the forgiveness of the debt previously owed by DCA was not an insolvent/uncommercial transaction under the Law. In the present proceedings, the plaintiff sought either a declaration that the debt was not discharged by the directors' resolution of 28 November 1997, or a declaration that the discharge of the debt was a voidable transaction under section 588F(3) of the Law. Austin J held that the declaration and orders should be granted. In his view the actions did not adequately establish that there had been a forgiveness of a debt. And no estoppel was applicable because it was artificial to suggest estoppel applied when there were a number of individuals who were just simply acting in different capacities. You had to have different individuals in these situations.

The question of whether the transaction was a voidable transaction also arose. The relevant facts were these. Doran was certainly insolvent. The only question for decision was whether the purported forgiveness fell within the definition of "uncommercial transaction" in section 588FB(1). The plaintiff submitted that the release of a debt for no consideration was prima facie uncommercial because a reasonable person would have declined to give such a release. There was also litigation being brought by DCA which had the slight possibility of a substantial judgment - litigation which the directors of Doran knew about. Under the terms of section 588FB(1) Austin J held that the section was intended to emphasise that the inquiry of whether a transaction was uncommercial in terms of that particular legislation required an objective inquiry. It did not involve an inquiry as to what a particular company might have done but rather what a reasonable person would have done in the particular situation. He also ruled that although the inquiry was objective, the court must have regard to the circumstances of the company which was being evaluated. This would include the state of knowledge of the company which had entered into the transaction which meant in effect the state of knowledge of its directors.

In his view, a reasonable person in the position of Doran would have been influenced not to forgive the debt because of the following issues: the company, although it might have enjoyed a windfall gain or realised a contingent asset was very slight. Nevertheless it would have been taken into account by a reasonable person in the position of Doran. In his view a reasonable person would not have thought it was prudent to forgive a debt where there was no inducement to do so. In these circumstances, together with the circumstances that the company had it been wound up might have been pursued under the provisions of the Law meant that the court was correct in his view in reaching the conclusion that the forgiveness of the debt (or the purported forgiveness of the debt) was an uncommercial transaction. In all the circumstances, Austin J held that the transaction was void and that the debt had not been discharged by the resolution of 28 November. It was a tough decision but one that one will see replicated in similar fact situations in other cases and a salutary reminder of the potential impact of these provisions of the Law.

Disclaimer

The purpose of this database is to provide a full-text record of all articles that have appeared in the CDJ since February 1997. It is aimed to assist in the research and reference process. The database has a full-text index and will enable articles to be easily retrieved.It should be noted that information contained in this database is in pre-publication format only - IT IS NOT THE FINAL PRINTED VERSION OF THE CDJ - therefore there might be slight discrepancies between the contents of this database and the printed CDJ.