Gilligan's Backpackers Hotel & Resort Pty Ltd v Mad Dogs Pty Ltd
[2016] QCA 304
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- Notable Unreported Decision
- Appeal Determined (QCA)
- Gilligan's Backpackers Hotel & Resort Pty Ltd v Mad Dogs Pty Ltd[2016] QCA 304
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Gilligan's Backpackers Hotel & Resort Pty Ltd v Mad Dogs Pty Ltd[2016] QCA 304
Gilligan's Backpackers Hotel & Resort Pty Ltd v Mad Dogs Pty Ltd[2016] QCA 304
SUPREME COURT OF QUEENSLAND
CITATION: | Gilligan’s Backpackers Hotel & Resort Pty Ltd & Anor v Mad Dogs Pty Ltd [2016] QCA 304 |
PARTIES: | GILLIGAN’S BACKPACKERS HOTEL & RESORT PTY LTD ACN 093 636 705 (first appellant) CHRISTIAN JOHN AINSWORTH (second appellant) v MAD DOGS PTY LTD ACN 112 568 457 (respondent) |
FILE NO/S: | Appeal No 3745 of 2016 SC No 26 of 2009 |
DIVISION: | Court of Appeal |
PROCEEDING: | General Civil Appeal |
ORIGINATING COURT: | Supreme Court at Cairns – [2015] QSC 319 |
DELIVERED ON: | 18 November 2016 |
DELIVERED AT: | Brisbane |
HEARING DATE: | 23 August 2016 |
JUDGES: | Fraser and Philippides and Philip McMurdo JJA Separate reasons for judgment of each member of the Court, each concurring as to the orders made |
ORDERS: |
|
CATCHWORDS: | CONTRACTS – GENERAL CONTRACTUAL PRINCIPLES – DISCHARGE, BREACH AND DEFENCES TO ACTION FOR BREACH – REPUDIATION AND NON-PERFORMANCE – REPUDIATION – GENERAL PRINCIPLES – where the first appellant and respondent entered an agreement in 2005 under which the respondent was to supply food and catering services at the first appellant’s hotel – where the agreement was terminated by the respondent in September 2007 upon the first appellant’s purported repudiatory conduct – where the respondent commenced proceedings in the Trial Division seeking damages – where the first appellant argued that the respondent was in fact insolvent at the time of termination and was therefore barred from recovering damages because it was not ready, willing and able to perform – where the trial judge found the respondent was solvent and awarded damages – where the first appellant contends the trial judge erred in finding the respondent’s solvency – whether the respondent was solvent at the time of terminating the agreement – whether the respondent was ready, willing and able to perform – whether the respondent was entitled to damages upon its termination of the agreement Corporations Act 2001 (Cth), s 95A, s 588G Bank of Australasia v Hall (1907) 4 CLR 1514; [1907] HCA 78, cited Foran v Wight (1989) 168 CLR 385; [1989] HCA 51, cited Hensley v Reschke (1914) 18 CLR 452; [1914] HCA 88, cited Hyundai Merchant Marine Co Ltd v Dartbrook Coal (Sales) Pty Ltd (2006) 236 ALR 115; [2006] FCA 1324, cited Koompahtoo Local Aboriginal Land Council v Sanpine Pty Ltd (2007) 233 CLR 115; [2007] HCA 61, cited Mad Dogs Pty Ltd (in liq) v Gilligan’s Backpackers Hotel & Resort Pty Ltd & Anor (No 3) [2015] QSC 319, overruled Mad Dogs Pty Ltd (in liq) v Gilligan’s Backpackers Hotel & Resort Pty Ltd & Anor (No 4) [2016] QSC 54, related Peter Turnbull & Co Pty Ltd v Mundus Trading Co (Australasia) Pty Ltd (1954) 90 CLR 235; [1954] HCA 25, cited Rees v Bank of New South Wales (1964) 111 CLR 210; [1964] HCA 47, cited Smith v Offermans [2015] QCA 55, cited |
COUNSEL: | D Campbell QC, with B Hall, for the appellants C J Ryall for the respondent |
SOLICITORS: | Creevey Russell Lawyers for the appellants O'Reilly Stevens Lawyers for the respondent |
- FRASER JA: I agree with the reasons for judgment of Philip McMurdo JA and the orders proposed by his Honour.
- PHILIPPIDES JA: I have read the judgment of Philip McMurdo JA which sets out the well-established principles applicable to this case. I agree with his Honour’s reasons and the orders proposed.
- PHILIP McMURDO JA: The appellant company (which I will call the appellant) conducted a hotel business in Cairns. In 2005 it made a written agreement with the respondent under which the respondent was to be solely responsible for the provision of food and catering services at the hotel. The agreement was for an initial term of three years with options to renew granted to the respondent for three further terms. But by September 2007 the agreement was at an end. As the trial judge found and as the appellant now accepts, on 26 September 2007 the agreement was duly terminated by the respondent for the appellant’s repudiation of it.
- The respondent sued the appellant in the Trial Division, seeking damages for the loss of its bargain. It sued also the second appellant for damages for interfering with the performance of that agreement. The respondent’s claim against the appellant company was upheld[1] and it was given judgment in an amount of $351,193.57, constituted by $201,357.44 for damages and the balance for interest.[2] The respondent’s claim against the second appellant was dismissed. An appeal by the second appellant, complaining that he was not awarded his costs, is not pursued.
- The appellant challenges the judgment by an argument that the respondent should not have been awarded damages because the respondent itself was not ready, willing and able to perform the agreement. More particularly, the respondent was unable to perform the agreement because at the time when it elected to terminate the agreement, the respondent was insolvent and thereby unable to lawfully conduct its business as the agreement required.
- On 27 September 2007, the day after the respondent’s termination of the contract, voluntary administrators were appointed to the respondent and they became its liquidators on 24 October 2007. The present litigation was conducted by the liquidators on behalf of the respondent. As I will discuss, one of the liquidators, Mr Jessup, gave evidence to the effect that the company was insolvent when it terminated the agreement. And the liquidators had recovered an amount of $136,885 from the Commissioner of Taxation as preference payments made by the respondent to the Commissioner from 21 May 2007, upon the basis that the company was insolvent from at least that date. Nevertheless the trial judge concluded that the company was solvent when it terminated the agreement.
- For the reasons that follow, I disagree with that finding. In my conclusion the finding was not open and the respondent’s claim should have failed for the reason that when it terminated the agreement, the respondent was then unable to perform the agreement because of its insolvency.
- Before going to the evidence on this factual question of insolvency, it is necessary to discuss why the question was and is critical to the outcome.
The relevance of insolvency
- The respondent, if insolvent, should not have been carrying on business. By s 588G of the Corporations Act 2001 (Cth) it was the duty of the appellant’s sole director to prevent the company from incurring a debt if the company was insolvent. By s 588G(2) where an insolvent company incurs a debt, a director who is aware of reasonable grounds for suspecting insolvency contravenes s 588G. That is a civil penalty provision under s 1317E, with the potential for a pecuniary penalty order under s 1317G. And by s 588G(3), if a director suspects insolvency and dishonestly fails to prevent the company from incurring the debt, the director commits an offence.
- The relevance of the respondent’s alleged insolvency is suggested by the appellant’s argument in several ways. The first is that a party cannot terminate for the other’s repudiation of the contract unless it can demonstrate that it is ready, willing and able to perform, for which the appellant cites the judgment of Kiefel J, sitting as a single judge in the Federal Court, in Hyundai Merchant Marine Co Ltd v Dartbrook Coal (Sales) Pty Ltd.[3] In that case, where the defendants pleaded that they were not liable for damages where their contract with the plaintiff had been terminated for their repudiation, Kiefel J said:[4]
“While a plaintiff is absolved from further performance, upon their acceptance of a wrongful repudiation by the other party, it is nevertheless necessary for them to show that they were ready and willing to perform their part of the bargain, and this includes their ability to perform.”
Her Honour cited in that respect Hensley v Reschke[5] and Peter Turnbull & Co Pty Ltd v Mundus Trading Co (Australasia) Pty Ltd.[6] In the latter case, Kitto J said:[7]
“It is true that the appellant had to show, in order to succeed in the action, that it was ready and willing to perform its obligations under the contract. A judgment in point is the judgment of Isaacs J in Cohen & Co v Ockerby & Co Ltd. After referring to the principle laid down in Jones v Barkley; Ripley v M’Clure and Cort v Ambergate & Railway Co, the learned judge, citing Byrne v Van Tienhoven, said that although a party who has been absolved from doing an act by the refusal of the other party to carry out the contract ‘may defend an action against him, by merely showing he was so absolved, yet, if he sues the other party whose refusal he relies on, he must show he was ready and willing to perform his part, had he not been absolved from actual performance’.”
(footnotes omitted)
- The appellant also refers to cl 12.2(9) of the agreement, by which the respondent represented and warranted to the appellant “on a continuing basis” that the respondent was and would remain solvent at all times during the term of the agreement. On this argument, the respondent was unable to perform the agreement at least because it could not perform that term.
- A further argument for the appellant is that it was against public policy for the court to award damages, as compensation for the loss of the performance of the contract, when that performance would have involved a contravention of s 588G. In other words the agreement between the appellant and the respondent could be performed only by an illegality, the appellant citing for this argument Knowles v Fuller.[8]
- The appellant’s arguments were not foreshadowed by its pleading. But as is properly conceded for the respondent, these issues were litigated at the trial and his Honour considered the evidence and made the finding which is now challenged.
- The respondent’s only argument as to the relevance of insolvency is directed to the argument about cl 12.2(9). The respondent says that cl 12.2(9) was not a term the breach of which entitled the appellant to terminate the agreement. Clause 12.9 was as follows:
“12.2[The respondent] represents and warrants to [the appellant] on a continuing basis that:
…
- it is and will remain solvent at all times during the Term.”
Clause 12.3 was as follows:
“[The appellant] and [the respondent] acknowledge that each party has entered into this Agreement and relies on each of the respective representations and warranties set out in clauses 12.1 and 12.2 being true and correct in every particular.”
However the appellant’s argument is not that it was entitled to and did terminate the agreement for the respondent’s breach of cl 12.2(9). It is that the respondent was unable to perform the agreement at least because it could not perform cl 12.2(9), and that its incapacity to perform the agreement prevented it from recovering damages for the loss of the bargain.
- In order to discuss the relevance of insolvency, it is necessary to explain the basis upon which the agreement was terminated. The trial judge found that the agreement was duly terminated by the respondent for the appellant’s repudiation. The trial judge rejected the respondent’s case that the respondent was entitled to terminate for any breach of contract. Ultimately, there were four breaches alleged by the respondent but in each case his Honour found that there was no such breach.[9] It should be noted that the period in which these breaches were alleged to have occurred was in the few weeks prior to the termination of the agreement on 26 September 2007. The trial judge found that the appellant had earlier repudiated the agreement by a purported termination on 18 July 2007 (for alleged breaches by the respondent). That resulted in an earlier proceeding being commenced by the respondent on 16 August 2007, by which declarations were sought to the effect that the agreement was still on foot. On 27 August 2007, that proceeding was settled on the basis that the appellant withdrew its purported termination. It was the appellant’s conduct in the month following that settlement which then had to be considered.
- Having rejected the case that the appellant had committed any of the alleged breaches, his Honour considered the alternative case that there had been a repudiation after that date. After discussing the evidence, his Honour concluded that the appellant’s conduct “manifested an intention to avoid its obligation under the agreement to enable [the respondent] to have the benefit of it, that is, it evinced an intention to no longer be bound by the agreement.”[10] His Honour added that “this constituted a breach by [the appellant] in the form of repudiation of the contract which [the respondent] was entitled to, and did, accept.”[11]
- In Koompahtoo Local Aboriginal Land Council v Sanpine Pty Ltd[12] the plurality[13] described the different senses in which the term repudiation is used, as follows:
“First, it may refer to conduct which evinces an unwillingness or an inability to render substantial performance of the contract. This is sometimes described as conduct of a party which evinces an intention no longer to be bound by the contract or to fulfil it only in a manner substantially inconsistent with the party’s obligations. It may be termed renunciation. The test is whether the conduct of one party is such as to convey to a reasonable person, in the situation of the other party, renunciation either of the contract as a whole or of a fundamental obligation under it … Secondly, it may refer to any breach of contract which justifies termination by the other party …”.
(footnotes omitted)
Although his Honour did refer to “a breach by [the appellant] in the form of repudiation of the contract”, it is clear that the repudiation which he found was in the nature of a renunciation of the contract. In the course of reasoning to that conclusion, his Honour identified conduct by the appellant which manifested an intention “to intimidate [the respondent] into relinquishing its rights under the agreement”.
- The respondent’s termination was thereby upon the basis of an anticipated rather than an actual breach. The requirement of readiness and willingness in this situation was discussed in the various judgments in Foran v Wight.[14] Mason CJ there said:[15]
“In the case of an anticipatory renunciation accepted by the plaintiff, the requirement of readiness and willingness extends only up to the time of acceptance because then the earlier repudiation results in an early termination of the contract. Accordingly, in the case of actual breach the requirement of readiness and willingness is more stringent; it continues through to the time for performance. That is because the termination of the contract does not antedate the time for performance. Subject to this difference and to the possibility of a difference in the onus of proof, the principle to be applied in the case of actual breach is consistent with that to be applied in the case of termination for anticipatory breach. The difference in the onus of proof arises because in the case of termination for anticipatory breach the plaintiff will generally be able to show at the time of termination that he would have been able to perform at the time for performance by demonstrating that he was not then disabled or incapacitated from such performance. As Dixon CJ noted in Rawson v Hobbs, one ‘must be very careful to see that nothing but a substantial incapacity or definitive resolve or decision against doing in the future what the contract requires is counted as an absence of readiness and willingness’.”
Brennan J said:[16]
“Where a party claims to be entitled to rescind an executory contract on account of the other party’s repudiation (whether by way of anticipatory breach or incapacity), the first party must show not only the other’s repudiation but his own readiness and willingness up to the time of rescission to perform his essential obligations under the contract: Rawson v Hobbs. Readiness or willingness imports capacity to perform as well as disposition to perform.”
Deane J said:[17]
“Absence of actual or potential readiness or willingness to perform a contract will prima facie preclude a successful action against the other party for specific enforcement of the contract or for the recovery of damages for its breach. It does not, of itself, preclude rescission of the contract by acceptance of the other party’s repudiation.”
Dawson J said:[18]
“But what if the breach is anticipatory rather than actual? The authorities have given conflicting answers to this question, but it is now clear that in cases of repudiation as well as actual breach, readiness and willingness on the part of the plaintiff is part of his cause of action.”
- Readiness and willingness must be ascertained on an assumption that the other party was then ready and willing to perform.[19] However the trial judge did not find that the respondent’s insolvency (if any) was caused by the appellant’s repudiatory conduct. As I will discuss, the respondent did argue at the trial that its financial difficulties were caused by conduct of the appellant which constituted breaches of contract, but that argument was rejected by the trial judge.
- If the respondent was insolvent immediately prior to its termination, it was unable to perform the contract because its director was then bound by law to prevent the respondent from incurring any debt. The performance of this contract required the conduct of a business by the respondent which necessarily involved the incurring of debts. Further, the respondent was unable to comply with the term in cl 12.2(9). If it was insolvent, the respondent was not ready and willing to perform the agreement and it was not entitled to an award of damages.
The meaning of insolvency
- As the respective arguments agree, it is an insolvency within the meaning of that term in the Corporations Act, as defined by s 95A, which must be considered. That is because the suggested incapacity of the respondent to perform the contract came from the necessity for a cessation of the respondent’s trading, so as to avoid a contravention of that Act. By s 95A(1) a person is solvent if, and only if, the person is able to pay all the person’s debts as and when they become due and payable. By s 95A(2), a person who is not solvent is insolvent. The question of solvency is one of fact. It is not a question to be answered by reference only to the company’s balance sheet, although the balance sheet may have some relevance.[20]
- A company’s ability to pay its debts at a certain date is not assessed by reference only to its cash as at that date. In Rees v Bank of New South Wales Barwick CJ said:[21]
“It is quite true that a trader, to remain solvent, does not need to have ready cash by him to cover his commitments as they fall due for payment, and that in determining whether he can pay his debts as they become due regard must be had to his realizable assets. The extent to which their existence will prevent a conclusion of insolvency will depend on a number of surrounding circumstances, one of which must be the nature of the assets and in the case of a trader, the nature of his business.”
- An assessment of solvency as at a certain date requires a consideration of the company’s prospects of paying debts which are due and payable within a period which commences on that date. In Bank of Australasia v Hall, Griffith CJ said that in this context:[22]
“The words ‘as they become due’ require … that some consideration shall be given to the immediate future; and if it appears that the debtor will not be able to pay a debt which will certainly become due, in say, a month … by reason of an obligation already existing … how can it be said that he is able to pay his debts ‘as they become due’ …?”.
Citing that passage in Lewis v Doran,[23] Giles JA (with whom Hodgson and McColl JJA agreed) said that in giving “consideration … to the immediate future”, the question of “how far into the future will depend on the circumstances including the nature of the company’s business and, if it is known, of the future liabilities”.
- The solvency of a company is assessed by reference to when debts are legally due and payable which requires the terms of the relevant dealing with the creditor to be identified. However where the company and a creditor have agreed to postpone the due date for payment, the debt is treated as relevantly due and payable according to that agreement.[24]
The insolvency in this case
- The respondent had no other business than the one which was conducted under this agreement. It ceased to conduct that business on 26 September 2007. As already noted, voluntary administrators were appointed on the following day. The company’s sole director, Mr Le Van, submitted a Report as to Affairs to the liquidators in October 2007. He there listed amongst the respondent’s assets an amount of $3.1 million which he attributed to a cause of action against the appellant which became the subject of this case. For present purposes that asset is irrelevant, at least because it was not a realisable asset which could have facilitated the further conduct of the respondent’s business. The other assets, according to his estimated values, were as follows:
Debtors | $138,500 |
Cash on hand/bank | $ 3,361 |
Plant and equipment/stock | $ 25,000 |
Assets subject to specific charges | $ 18,000 |
Total | $184,861 |
The debtors of $138,500, Mr Le Van explained, were debts “substantially from related parties”. In a report to creditors,[25] Mr Jessup wrote that the liquidators had not been able to recover those debts despite issuing demands. The liquidator wrote that the debtors included an amount of $90,996.35 owing by Mr Le Van himself, who had submitted a proof of debt making an offsetting claim of $90,000 owing to him as wages. The “assets subject to specific charges”, again according to Mr Jessup’s report to creditors, consisted of a car which was “under finance” and for which the company had “no equity”.
- Mr Le Van there listed the respondent’s liabilities as follows:
Employee superannuation | $ 43,827 |
Employee entitlements (other than superannuation) | $143,000 |
Secured creditors of specific assets | $ 27,000 |
Unsecured creditors | $244,086 |
Total | $457,913 |
The “secured creditors” to which Mr Le Van referred were the financiers of the car. The amount of $143,000 said to be owing to employees was, as Mr Jessup explained in his report to creditors, effectively an amount claimed by Mr Le Van to be owing to him. It appears that the proof of debt subsequently lodged by Mr Le Van for outstanding wages, in the sum of $90,996.35, was a modified version of this same claim.
- The sum of $43,287 for unpaid superannuation contributions was verified by the liquidator in his report to creditors. In the context of the respondent’s business, this was a substantial liability which had arisen from the respondent’s failure over a prolonged period to pay superannuation contributions as they accrued for its employees.
- The “unsecured creditors” were listed in the liquidators’ report to creditors as totalling an amount of $277,764.41. That included an amount of $115,724.23 owing to the Australian Taxation Office. It included also $88,000 as owing to Mr Le Van and amounts owing to certain suppliers to which his Honour referred when discussing the subject of insolvency.
- One of those suppliers was called Mastercut Meats and was owed $5,652.92. A number of unpaid invoices, from that firm dated from March to September 2007, were tendered. His Honour noted that with the exception of an invoice for $774.91 dated 1 March 2007, the others were dated in August and September of 2007. About this creditor, his Honour wrote:[26]
“The lone invoice from March 2007 therefore appears to be an anomaly. The long gap in time between it and the invoices in late August and September strongly suggests that either it was not paid because of administrative error or it was erroneously counted as unpaid in Mastercut’s formal proof of debt or claim. It is impossible to discern which from the evidence adduced at trial. Either way when it is realised the issue of that invoice’s payment is of no material weight, the remaining evidence of non‑payment of Mastercut Gourmet Meats’ invoices only suggests financial difficulty in the closing stages of [the respondent’s] operation.”
- Another supplier was PFD Food Services Pty Ltd, which was owed $32,867.85 upon invoices issued from 1 June 2007 to 7 August 2007. A supplier called Coffee Plus was owed $2,596.45, for invoices issued from 18 June 2007 to 10 September 2007, and a firm called Dairy Farmers (Danish Distributors) was owed $2,599.46 from 1 July 2007 to 9 September 2007. About these creditors, his Honour wrote:[27]
“It is noteworthy that the PFD invoices dated in June were not due until 15 July 2007 and the sole Coffee Plus invoice due prior to 16 July 2007 had been due on 25 June 2007 and was only in the amount of $127.50. Considered overall, the tendered evidence in this category serve[s] to demonstrate that [the respondent] started exhibiting difficulty in meeting due invoices during July 2007. This falls well short of demonstrating that [the respondent] was then insolvent but does demonstrate it was in financial difficulty by the final quarter of its operations.”
- The indebtedness to the Australian Taxation Office was emphasised in the appellant’s submissions, no doubt because it resulted from a history of recurring defaults by the respondent in making payments of PAYG instalments and GST and, on occasion, in failing to lodge business activity statements at all. By the time of the termination of the agreement, the respondent had negotiated a repayment plan with the ATO under which it was paying the arrears at a rate of $1,750 per week. It had made those payments from late July 2007. As already discussed, for the purposes of assessing the respondent’s solvency, the debt which was being repaid in that way is to be treated as falling due in an amount of $1,750 week by week. However the evidence of the respondent’s past defaults with the ATO was significant in another way, because it indicated the extent of the further debt which would accrue to the ATO from the respondent’s trading and the respondent’s ability or otherwise to pay that debt as well as the arrears.
- A schedule from the records of the ATO showed the history of the respondent’s debt to the ATO. The respondent had been conducting the business only from early 2005, yet by September 2006 there was a balance owing to the ATO of $112,100. That was gradually reduced to an amount of $94,381 by 6 January 2007, but from that point the outstanding balance rose to more than $100,000 by mid‑February 2007 and was $117,253.42 on 28 September 2007 when the administrators were appointed. The outstanding balance had risen as high as $178,317.95 in late June 2007.
- According to that schedule, the amount of GST for the year to 30 June 2007 was as follows:
First quarter | $ 29,358 |
Second quarter | $ 22,432 |
Third quarter | $ 13,758 |
Fourth quarter | $ 17,735 |
Sub total | $ 83,283 |
Less adjustment on first quarter (made 27 June 2007) | $ 7,884 |
Less adjustment on second quarter (made on 25 June 2007) | $ 2,078 |
Total | $ 73,321 |
In addition to GST, the respondent had to pay tax according to its taxable income. According to a trial balance in the respondent’s accounts, its operating profit for the year was $47,442.[28]
- Consequently, as at the date of termination of the agreement, the respondent had the burden of tax, most significantly GST, in two ways. It had to find the sum of $1,750 per week to clear the arrears and it had to pay, each quarter, GST on its current trading, which it had failed to duly pay at any time for at least a year.
- The respondent’s trading history had thereby proved that it could not pay its debts as they fell due, if its level of trading was as it experienced in the years to June 2006 and 2007. It had paid its suppliers until mid‑2007 but was unable to do so from that point. The defaults in paying the suppliers are particularly significant. The respondent could be expected to prioritise the payment of these debts where the withholding of supply could have resulted in an immediate interruption to its trading. And according to the evidence, winter was the peak season for the respondent’s business, as would be expected for a hospitality business in central Cairns, so that an inability to pay the suppliers at this time was telling.
- The respondent’s debts for outstanding superannuation contributions were not the subject of any agreed repayment plan. They were overdue debts which, it appears, the respondent was unable to pay.
- The bank statements for the respondent’s account are also telling. The respondent had no overdraft facility. By 24 September 2007, the account was overdrawn, as it had been on occasions earlier in that month and in the previous month. There was about $3,000 in the account when the administrators were appointed.
- Importantly, the respondent had no assets which could be realised in order to meet a short term liquidity problem, if that was all that it was experiencing.
- In his Report to Creditors, Mr Jessup wrote this about the respondent’s position:
“1.Balance Sheet Insolvency
In considering the above test, and noting that the last financial accounts prepared by the company were for the year ended 30 June 2006, it would appear that the company was balance sheet insolvent at this date.
However, as highlighted in this report, the company’s kitchen agreement was terminated by [the appellant] which ultimately resulted in the company having to be placed into voluntary administration. We note that the outcome of any legal action against [the appellant] will ultimately determine the company’s solvency.
- Commercial Insolvency
Pursuant to the provisions of Section 95A (1) of the Act, “solvency” is being able to pay one’s debts as and when they become due and payable.
This is known as the “Commercial Insolvency Test” or the “Cash Flow Test” and is the primary test used to determine insolvent trading. Our investigations to date have revealed that the restaurant was operating at a loss in recent periods due to the reduction in occupancy levels staying at the Gilligan’s Resort. Hence the company was most likely to be insolvent, based on a commercial insolvency test, since 30 June 2006.”
- Consistently with that view, Mr Jessup and his co‑liquidator brought proceedings to recover for the respondent a total of $136,885 paid to the ATO between 21 May and September 2007, as preferential payments made during a period in which the company was insolvent. The Commissioner of Taxation conceded that claim.
- Yet Mr Jessup gave opinion evidence in the respondent’s case in order to prove the respondent’s losses from not being able to continue to trade under the agreement for the remainder of the agreed term and for any renewed term. It appears that Mr Jessup was able to reconcile his opinion of insolvency with his opinion of the buoyant prospects of the respondent’s business, upon which he provided estimates of the respondent’s likely future profits, by attributing the insolvency to the appellant’s breach or breaches of contract. He said that had the appellant not been in breach of contract in the respects alleged by the respondent, the company would have continued to trade and profitably.
- At the trial the respondent alleged that the appellant had caused a downturn in the respondent’s business by undertaking extensive building work around its premises, thereby disturbing the amenity of those parts of the premises where the respondent’s business was conducted, and by substantially increasing the prices for accommodation at the premises, thereby reducing the number of customers for the respondent’s business. It was alleged the conduct of each kind was a breach of the agreement.
- The trial judge rejected the suggestion that the construction work and the increased accommodation charges were implemented by the appellant in order to damage the respondent’s business.[29] He then considered the respondent’s case that these actions of the appellant constituted breaches of implied terms of the agreement, by which each party was to cooperate in doing everything which was necessary on its part to enable the other party to have the benefit of the agreement and each party was not to interfere or do anything “which would put an end to the state of the circumstances which were necessary to enable the other party to perform the agreement”.[30] His Honour accepted that the agreement contained such implied terms.[31] He then considered whether these terms were breached by the appellant’s construction work and the increase in its accommodation charges. As to the latter, his Honour found that the increased charges did reduce the respondent’s trade but rejected the case that the appellant was thereby in breach of the implied terms.[32] In particular, his Honour rejected the case that there was any breach of the agreement by these higher accommodation rates continuing in the period between the respondent’s affirmation of the agreement (by its commencing proceedings on 16 August 2007) and the ultimate termination on 26 September 2007.[33] As to the construction works, his Honour was unpersuaded that they had a material, rather than a minor, impact upon the respondent’s revenue[34] and found in any case that the works did not constitute a breach of the agreement.[35]
- These findings meant that for the purposes of assessing the respondent’s solvency, the respondent’s position, by September 2007, could not be disregarded as resulting from a breach of contract by the appellant. As his Honour wrote:[36]
“In light of my rejection of the consequences of the construction work and more particularly the increased room rates being connected with the breach on the part of [the appellant] that financial distress cannot be ignored on the basis that it flowed from any breach by [the appellant].”
- Consequently the basis for Mr Jessup’s hypothesis that the respondent would have continued to trade profitably was rejected by the trial judge. The respondent’s financial position as at September 2007 was not caused by breach of the agreement. What remained of Mr Jessup’s evidence was his opinion, originally expressed in his report to creditors but confirmed by his evidence at the trial, that the respondent was insolvent and indeed had been so since June 2006.
- In attempting to attribute a decline in its trading to breaches of the agreement, the respondent’s own evidence established that decline. The timing of the defaults in paying suppliers also demonstrated that decline. The respondent had no cash reserves or available credit from its bank or any other suggested financier. By September 2007, its peak season of trading had just ended. Even with a resumption of what had been its level of trading, its own experience in the 2006 and 2007 financial years had demonstrated that this was not a sufficient level of revenue to enable it to pay its debts as they fell due. What remains to be considered is whether in September 2007 the company was solvent by having the support of other persons, and in particular its director, Mr Le Van, and its other shareholder, Mr Whalley. The former owned 70 per cent of the shares and the latter the remaining 30 per cent.
- The only director was Mr Le Van. A real prospect of the company, by Mr Le Van, demanding and obtaining repayment of the loan, which had been made to Mr Le Van, was far from established by the evidence. I have discussed Mr Le Van’s claim to be entitled to wages in an amount which would have effectively cancelled out the amount which his company could have claimed from him. In practical terms, Mr Le Van was a source of funds for the respondent only insofar as he was willing and able to volunteer his assistance. He had another catering business, unrelated to this one, and it is not unlikely that this was the source of some money which the respondent was able to pay to the ATO in July 2007. However there is no evidence from which it could be concluded that he had either the capacity or the resolve to assist the company by providing whatever was necessary to pay its debts as they fell due. The contrary was indicated by the fact that Mr Le Van, as the company’s only director and its major shareholder, did not contribute the funds required to pay creditors ahead of the termination of the agreement. It must be inferred that he was either unwilling or unable to do so (or perhaps both).
- That leaves for consideration the willingness and capacity of Mr Whalley to meet whatever would have been the shortfall in the event that the respondent continued to trade. Mr Whalley had become a shareholder in 2006. In his evidence, he was adamant that this was a sound business which would have succeeded. He said that he contributed an amount of $10,000 in about (or perhaps shortly before) the middle of 2007. When cross‑examined, he claimed that he had the means and the willingness to make further contributions. Again the question which arises is why he did not do so. The apparent explanation is from his evidence that he had become pessimistic about the business by July and August 2007. He said that “late in the piece [the business] was starting to decline”, which he said coincided with the declining performance of the hotel conducted by the appellant.[37] He said that there was a “trend that was very clearly starting to decline … [in] July and August, which is [sic] the two biggest months of the year.”[38] He described the “declines” which were “clearly coming from the venue” (by which he was referring to the appellant’s hotel). He said that there were “factors including the decline in their [the appellant’s] overall occupancy, particularly compared to the prior year, and they were directly proportional to the dramatic increases in the nightly room rates that were observed at the time.”[39] He was asked what other factors were affecting the respondent’s business and he referred to the “seriously intrusive building works that took much longer than we were led to understand …”.[40] When asked about the extent of the respondent’s tax debts, he showed a misunderstanding of the extent of the problem by saying that the tax debt was “down at around $30,000” by April or May 2007,[41] which was incorrect, having regard to the ATO records as I have discussed.
- Mr Whalley explained his reluctance to make further contributions by the decline in the respondent’s business, which he attributed to the increased room rates and the construction works, as well as the appellant’s conduct which the trial judge found to be repudiatory. He said that the business was profitable but only “to 30 June 2007”.[42] When asked why he did not contribute funds towards the tax debt he answered: “Would you given the [appellant’s] conduct of the venue … who [the appellant] seemed hell bent on destroying the business … and revenue base including their own venue.”[43] It should be noted again that from his Honour’s findings, the appellant’s actions in the “conduct of the venue” were not a breach of the agreement.
- The best indicator of Mr Whalley’s preparedness to contribute further funds to make or keep the company solvent is the fact that he did not do so. Why he did not do so was well explained by his evidence that the business was declining. Notably Mr Whalley did not believe that this decline was only temporary. The evidence did not conclusively establish that Mr Whalley either had or lacked the means to contribute further funds. But the evidence proved that he was not such a likely supporter of the respondent’s business as to make it solvent.
The conclusions of the trial judge
- The trial judge reasoned that “the financial difficulties connected with the maintenance of higher room rates was not destined to continue indefinitely” and apparently upon that basis, he described the respondent’s financial problems as “transitory” and having an “inevitable easing.”[44] His Honour referred to the evidence of witnesses familiar with the business who were “particularly robust in their assessment … of its future prospects” and noted that a new chef had commenced and that the respondent had invested in some new equipment.[45] His Honour observed that the agreement was relatively favourable to the respondent in that it required it to pay only four per cent of its gross sales as the price for its licence to conduct its business in the appellant’s premises.[46] His Honour reasoned that the company was solvent as follows:
“[209]Even allowing for its markedly reduced revenue by mid-2007 it still had significant cash flow. It was beginning to accumulate monies owing to a number of trade creditors as mentioned above, however considered in the context of its annual gross sales that was hardly a fatal problem. By far its most significant debt was to the Australian Tax Office, a debt which appears to have accumulated due to financial mismanagement rather than a trend towards insolvency. Further it had in place repayment arrangements in relation to that debt and was in a position if it needed to call in directors’ loans. In addition its most recent member Mr Whalley would have been prepared if necessary to access some of his own resources in order to address any short term liquidity problem.
[210]It is well established that while a company will be insolvent if unable to pay its debts as and when they become due and payable, a capacity to pay debts is not assessed by bland reference to the company’s balance sheets and the existence of a mere temporary lack of liquidity but rather to the company’s capacity to access the resources necessary to pay its debts.
[211]Having regard to the totality of Mad Dogs’ commercial circumstances it was not insolvent when it accepted Mad Dogs’ repudiation in September 2007 or for that matter in any of the months leading up to that time.”
- Referring to Mr Jessup’s opinion that the respondent was most likely insolvent from June 2006, his Honour said:
“[206]It is not readily apparent from the report why Mr Jessup suggested the insolvency problem stretched as far back as mid-2006. On the whole of the evidence while Mad Dogs’ business was very far from a model of efficiency in that era it did not then appear to have the potential indicia of insolvency.”
- With respect, I am unable to agree with his Honour’s statement that the company was not exhibiting the “potential indicia of insolvency” as far back as mid‑2006. I have referred to the extent of its arrears in paying the ATO by September 2006. It is evident that it was then unable to pay those debts and therefore, more generally, its debts as they fell due. That was plainly the case until the respondent reached an agreement with the ATO for the weekly payments of $1,750, which commenced only at the end of July 2007. By then the respondent was not paying its suppliers their debts as they fell due. And there was the longstanding default in paying the superannuation contributions for its employees. In my view it is clear that the respondent was unable to pay its debts as they fell due, at least from the respondent’s conduct of the business, at any time from September 2006. Its default in paying all of its creditors did not commence only in the month or so prior to the termination of the agreement. This was not an instance of a solvent company having a temporary lack of liquidity.
- I am unable to agree with his Honour’s characterisation of the default in paying the Australian Taxation Office as due to financial mismanagement rather than insolvency. This was not a case where a company had simply overlooked its obligation to a creditor and had been able to remedy its default when the oversight was discovered. Nor do I agree with his Honour’s comment on the preparedness of Mr Whalley to “address any short term liquidity problem”. As I have discussed, the effect of Mr Whalley’s evidence is that Mr Whalley became disinclined to assist with his own funds once the business declined in 2007. Notably Mr Whalley had not regarded the respondent’s financial problems as “transitory”.
- In my respectful view therefore, it was not open to the trial judge to conclude that the company was solvent at the date of termination of the agreement. It follows that the respondent was not able to perform the agreement and it should not have been awarded damages for the loss of its contract.
Conclusion and orders
- The respondent’s claim against the appellant should have been dismissed. I would order as follows:
- Allow the appeal by the first appellant.
- Set aside the judgment and order for costs against the first appellant.
- Dismiss the claim by the respondent against the first appellant.
- The respondent to pay the first appellant’s costs of the proceeding in the Trial Division and of this appeal.
- Dismiss the appeal by the second appellant.
Footnotes
[1] Mad Dogs Pty Ltd (in liquidation) v Gilligan’s Backpackers Hotel & Resort Pty Ltd & Anor (No 3) [2015] QSC 319.
[2] The assessment of damages being the subject of a separate judgment: [2016] QSC 54.
[3] (2006) 236 ALR 115; [2006] FCA 1324.
[4] (2006) 236 ALR 115, 131; [2006] FCA 1324 at [64].
[5] (1914) 18 CLR 452, 467; [1914] HCA 88.
[6] (1954) 90 CLR 235, 253; [1954] HCA 25.
[7] Ibid.
[8] (1947) 48 SR (NSW) 243, 244-245.
[9] [2015] QSC 319 at [179]-[185].
[10] [2015] QSC 319 at [194].
[11] [2015] QSC 319 at [195].
[12] (2007) 233 CLR 115, 135-136 [44]; [2007] HCA 61.
[13] Gleeson CJ, Gummow, Heydon and Crennan JJ.
[14] (1989) 168 CLR 385; [1989] HCA 51.
[15] (1989) 168 CLR 385, 408-409.
[16] (1989) 168 CLR 385, 424.
[17] (1989) 168 CLR 385, 437.
[18] (1989) 168 CLR 385, 452.
[19] (1989) 168 CLR 385, 425 (Brennan J).
[20] Bank of Australasia v Hall (1907) 4 CLR 1514, 1528; [1907] HCA 78; Australian Securities and Investments Commission v Edwards (2005) 220 ALR 148; [2005] NSWSC 831 at [96]; The Bell Group Ltd (in liq) & Ors v Westpac Banking Corporation & Ors (No 9) (2008) 39 WAR 1, 141; [2008] WASC 239 at [1073].
[21] (1964) 111 CLR 210, 218; [1964] HCA 47.
[22] (1907) 4 CLR 1514, 1528.
[23] (2005) 219 ALR 555, 578; [2005] NSWCA 243 at [103].
[24] See the discussion by Philippides JA (with whom the President agreed) in Smith v Offermans [2015] QCA 55 at [50]-[52] and cases cited by Edelman J in Hussain v CSR Building Products Ltd [2016] FCA 392 at [63].
[25] The liquidators’ third report to creditors, dated 30 December 2008, and which I will call the report to creditors.
[26] [2015] QSC 319 at [200].
[27] [2015] QSC 319 at [201].
[28] As set out in tables appearing in the report of Mr B Wood, a forensic accountant called in the appellant’s case, at pp 828 and 829 of the appeal record.
[29] [2015] QSC 319 at [89], [93].
[30] [2015] QSC 319 at [109].
[31] [2015] QSC 319 at [118].
[32] [2015] QSC 319 at [129].
[33] [2015] QSC 319 at [180].
[34] [2015] QSC 319 at [38].
[35] [2015] QSC 319 at [131].
[36] [2015] QSC 319 at [207].
[37] T2-53.
[38] Ibid.
[39] Ibid.
[40] T2-54.
[41] T2-56.
[42] T2-57.
[43] T2-59.
[44] [2015] QSC 319 at [208].
[45] [2015] QSC 319 at [208].
[46] [2015] QSC 319 at [208].