New Zealand Credit Law Bulletin - Vol 3, No 8, August 2003
A free, plain English review of recent law and items of interest for creditors, produced by Hattaway & Associates Ltd, Credit Consultants. To subscribe send a blank email to: nz-bulletin-join@mailman.hattaways.com
Plain language disclaimer:
This bulletin is not legal advice. Do not make decisions on legal matters based on a brief commentary. Instead, get professional legal advice.
In this issue:
- The "most extreme breach of such a fundamental duty observed in 30 years of law"
Solicitor fails to disclose all facts in ex-parte application for order appointing interim liquidators - A costly statutory demand… for the creditor
Creditor heavily penalised because agency serves a statutory demand when they should not have - “Not Just Bears” required… guarantees needed as well
Elderly parents attempt to set aside guarantee they gave for loan made to daughter - Payment not in the “ordinary course of business
Court of Appeal looks at whether certain payments made in the building industry were in the "ordinary course of business - Was payment made and received in “good faith”?
Debtor and creditor company share common director, debtor company makes payment to a creditor after it threatens to stop supply - Tokoroa High School Old Boys Football Club live to play another season
Judge considers whether rugby club should be placed into liquidation after division amongst club members leaves it in paralysis - Mother victim of undue influence by her son
Lender is able to enforce against mum's property but lenders beware! The law may yet change
1. The "most extreme breach of such a fundamental duty observed in 30 years of law"
McPherson v Bergers Securities Ltd High Court, Auckland, CIV 2003-404-2752, 12 June 2003
From its incorporation on 25 February 2002 Bergers Securities Ltd (“BSL”) “inhabited the fantasy world of promoting second tier NASDAQ companies”. The company appealed to around 50 investors who cumulatively had invested a little over $500,000 in the company. “It surrounded itself with the standard trappings of grandly named offshore companies, expensive offices , and late model European vehicles”. By mid-May 2003 it became apparent that all was not well for BSL - creditors were owed $500,000; the offices had been abandoned; USD$319,000 had been transferred from the company’s FX account at the BNZ into a Hong Kong account; and the sole director, Mr Braune, had left New Zealand personally owing his landlord $40,000.
On 26 May 2003 the Assistant Registrar of Companies, Mr McPherson, applied to the Court for an ex-parte imposition of interim liquidators of the company so as to protect any remaining assets the company may have. The facts described above were put to the Court and the orders were made.
On 3 June Mr Spring opposed the ex-parte application. He was retained as solicitor for Mr Braude and BSL’s shareholders. He opposed the application on grounds that all relevant facts had not been disclosed in the ex-parte application by McPherson’s solicitor Mr Wood.
First it was pointed out that Mr Wood was aware and had failed to alert the Court that Mr Spring had been appointed as solicitor for BSL and Mr Braude at the time an amended application was made on 30 May.
Second Mr Wood had failed to disclose that Mr McPherson and Mr Braude (the sole director of BSL who was by now no longer in the country) were personal friends. They had in fact dined together earlier on in May and Mr McPherson had contacted Mr Braude in Hong Kong on 23 May expressing his concern at his departure and asking him to return for an interview with the Securities Commission.
Justice Harrison emphasised the importance of full and frank disclosure in an ex-parte hearing. A solicitor making an application without the defendant in attendance must disclose all facts regardless of whether or not they are detrimental to the application. He noted that “failure by a solicitor to observe this duty…will normally result in the order being discharged even if it was otherwise justified on its merits.”
In this case he had no doubt that discharging the order to wind up the company and appoint interim liquidators was the appropriate thing to do. “In over 30 years in the law I regret to say that I have never experienced such an extreme breach of such a fundamental duty”. "If I had been aware of Mr Spring's engagement to represent the company's interests on 30 May 2003 I would not have made an order appointing interim liquidators". In removing the order he noted that "neither BSL nor Mr Braude are not models of commercial virtue". However “these circumstances did not and do not disqualify BSL from exercising its basic legal rights, not the least of which is being heard in opposition to an application to bring its existence to an end”.
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2. A costly statutory demand… for the creditor
Rembrandt Custodians Ltd v Pro-Drill (Auck) Ltd High Court, Auckland, M337-IM03, 13 June 2003
Pro-Drill (Auck) Ltd sent Rembrandt Custodians Ltd an invoice on 29 November requesting payment for $5,185.97 for drilling work it had done. Rembrandt had not paid this amount by 20 January 2003 and both parties agree that the amount was unquestionably due by this date. Rembrandt said that the invoice had been overlooked over the Christmas period. A cheque was sent to Pro-Drill for the amount on 9 February 2003 as soon as it had been brought to their attention. Several days later Rembrandt received a letter from Law Debt Collection Ltd stating that Rembrandt owed $6,223.16 to Pro-Drill and that their account had been placed with them for recovery. By that stage Pro-Drill had received the amount originally invoiced.
The difference of $1,037.19 between the original invoice and the amount the debt collection agency were demanding was for the agency’s debt collection fees. Rembrandt challenged this claim for costs alleging that it was “out of proportion with all commercial reality”.
On 12 March 2003 the agency issued a statutory demand for the $1,037.19 which was allegedly due to Pro-Drill “for their unpaid invoice in November 2002”. They contended that the contract between Pro-Drill and Rembrandt required Rembrandt to pay any additional costs incurred by Pro-Drill for the recovery of money owing to them. The demand was not signed by Pro-Drill or its solicitors but by the collection agency.
Rembrandt applied to the High Court to have the statutory demand removed.
The High Court noted that whilst the amount in dispute was relatively minimal the principles outlined in this case were of considerable importance. To set aside a statutory demand it must be proven that there is a substantial dispute about the amount owing or whether it is in fact due.
Rembrandt accepted that it had agreed to pay for the costs that Pro-Drill incurred for chasing up money owing to it. However it argued that it was implied in the agreement that additional cost would be reasonable. Charging $1,037.19 for a letter, the only work the agency had done in regards to this debt, was not reasonable.
Given the serious nature and consequences of a statutory demand the issuer is required to be satisfied that the amount demanded is not in dispute. This in turn requires that the person issuing the demand be the creditor’s solicitor and not the creditor himself or the debt collection agency. In this case the debt collection agency had issued the demand. Master Lang was confident that if a solicitor had perused the correspondence relating to the debt they would have advised against the issue of a statutory demand. In this case the use of the statutory demand had amounted to an abuse of process.
The demand was set aside and, given that Rembrandt had incurred substantial costs in bringing this application before the court, costs were awarded to Rembrandt for $4,250.38 on a solicitor/client basis. Costs are only awarded on this basis where the Court believes that the unsuccessful party had acted so unreasonably that they should have to pay for the costs of the other party's solicitor as well as costs in general.
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3. “Not Just Bears” required… guarantees needed as well
Mr and Mrs Trowbridge were an elderly couple. Mrs Trowbridge’s daughter, Mrs Pomeroy ran a business called ‘Not Just Bears”. She got into financial difficulty and approached a mortgage broker, Mr Broadway, for assistance.
On 1 August 2000 Mrs Pomeroy and Mr Broadway visited the Trowbridges to ask them to guarantee a loan. Mrs Trowbridge was extremely frail and sitting in bed. Mrs Pomeroy cried throughout the 30 minute meeting. She told her parents that she owed the IRD money and that the loan would only be for a short time as she would be able to pay them back after the Christmas trading period. She went further to say that she did not want her husband to know about her difficulty as it might lead to the break-up of their marriage and the loss of her business.
Once the guarantee was agreed to, Mr Broadway went to Provincial Finance Ltd. Provincial obtained a Baynet (now known as Baycorp Information Services) report. That report showed that Mrs Pomeroy had ten judgments against her in 1998, four in 1999, and two in April of 2000. It did not show her former landlord’s judgment which had been obtained in April 2000 and which had been the basis of a bankruptcy petition. (There are a number of possible reasons for this absense. One is that the judgement might have been through the Tenancy Tribunal. According to its 1999-2000 annual report, the Tenancy Tribunal had 17,048 applications for termination for rent arrears in that year. Unfortunately it does not provide information on its decisions to Baycorp. Some landlords therefore provide this information to Baycorp themselves.)
Provincial then sent a copy of the Baynet report to Mr and Mrs Trowbridge and required them to initial each page so that they would be alerted as to the information Provincial had.
The Trowbridges consulted a lawyer who advised them against giving the guarantee after expressing concern at what was contained in the Baynet report. She also explained that they could lose their house. Despite this advice the Trowbridges decided to go ahead with the transaction anyway. At this stage the couple were unaware of the landlord's judgment and the bankruptcy petition as it was not in the Baynet report.
The business eventually failed. The Trowbridges brought proceedings against Provincial claiming that Provincial had exercised undue influence over them and/or had made a misrepresentation to them and therefore the guarantee was void.
The District Court judge found that there was an innocent misrepresentation by omission/silence which was in breach of the Fair Trading Act. Provincial appealed the decision.
The High Court found that Provincial had made no representation that the Baynet report was complete. Moreover the Baynet report had little influence on the Trowbridge’s anyway – by the time they saw the solicitor they were determined and committed to going ahead.
As regards the claim of undue influence, the High Court judge found there was undue influence exercised by Mrs Pomeroy. However this influence could not be attributed to Provincial as there was no evidence that Provincial should be responsible for the actions of Mrs Pomeroy. Mr Boardman was not in any way the agent or employee of Provincial.
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4. Payment not in the “ordinary course of business
Carter Holt Harvey & Anor v Waller [2003] NZCA 133 (2 July 2003)
Project Works Construction Ltd was in the building business. They received a lot of their building materials from “Carters” a subsidiary company of Carter Holt Harvey. They had a credit limit of $100,000 and the terms required payment on the 20th of the month following supply. However, in practice, payment rarely occurred this way. Project Works were frequently allowed to exceed the limit and from December 1999 onwards it was often in arrears. It could not be said that the fact that Project Works was in arrears in itself pointed to insolvency. This is because it is common for construction companies to pay their invoices on an irregular basis and be significantly in arrears. When this occurs they tend to pay off their debt when they can afford to do so and because of this the payments frequently do not relate to a particular invoice. On four occasions (out of 26) the company had made lump sum payments which were not specific to the amount on the last invoice but instead went to reduce its overall debt to Carters.
Given the above Carters was quite unaware that Project Works was insolvent from March 2001. The company went into liquidation on 28 May 2001. Only days prior to its liquidation the company had made two payments totalling $140,000 to Carters to reduce its debt. The payments had been made in two separate cheques – one for $40,000 and one for $100,000. Both were received on the same day, however the $40,000 was banked on 22 May and the $100,000 was banked on 23 May. At the time Project Works had been $110,000 in arrears and a further $30,000 was due on 20 June for materials already supplied. The liquidators of the company sought a Court order to set aside the payments as voidable preferences. (In insolvency law it is thought to be unfair that some creditors should be paid shortly before a company fails, while others miss out. All are supposed to suffer equally. In order to achieve this result, the liquidators of a company can "claw back" money paid to preferred creditors.)
In the High Court Master Lang allowed the application and ordered Carters to repay the $140,000 on the grounds that the payments were not made in the “ordinary course of business”. Carters appealed the decision.
It was accepted by both parties that Carters was aware of any intention on Project Works part to prefer Carters. The Court of Appeal confirmed that “what the creditor has to show in order to prevent the payment being set aside is that an objective observer would have seen nothing abnormal about the transaction in the commercial context as it existed for the company at the time when the payment occurred”.
The Court found that Master Lang had erred in his treatment of the two cheques as one payment. The first, and separate, payment of $40,000 met amounts already due and owing to Carters. In light of the company's general pattern of payment, this did not seem unusual and had “the appearance of a payment made in the ordinary course of business”.
However the second payment of $100,000 was not made in the ordinary course of business. This was because of its “strikingly unusual feature that almost one third of the $100,000 was for amounts not yet owing”. The Court ordered that Carters did not have to repay the $40 000 but did have to repay the $100,000.
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5. Was payment made and received in “good faith”?
Newframe Homes Ltd was in the construction business and Future Frame Ltd was a steel supplier. The companies shared common beginnings and also a common director - David Atkinson. Newframe paid the first month's rent for Future Frame when it first began in April 2000. After that Future Frame supplied Newframe with steel on credit.
In late 2000 it became clear that both companies were in financial difficulties. Future Frame, along with a number of Newframe's other creditors, started to put pressure on Newframe to repay its debts to the company. When it received no response it threatened that if Newframe did not immediately pay $20,000 then it would stop supply. As Newframe needed steel to conduct its business it was forced to pay Future Frame. This payment was made on 7 November 2000. Newframe only ever made one other payment to Future Frame (of $10,000 for materials supplied). There was therefore no pattern to their trading relationship.
The next year the financial problems of both companies came to a head. Newframe was placed into liquidation on 19 March and Atkinson was forced to transfer his remaining shares in Future Frame to a group of investors. An application was made to set aside the payment of $20,000 as a voidable preference.
It was contended that as Atkinson was involved in both Newframe and Future Frame he was well aware of Newframe’s financial problems when the payment was made. He was also aware that the final payment of $20,000 was made in preference to other trade creditors.
These allegations were accepted by the court. They found that on the face of it the transaction was voidable. However Future Frame could still keep the money if it would be inequitable in terms of s296 Companies Act to order recovery in full or in part.
For Future Frame to prove that an order of recovery would be inequitable it would have to prove 296(3) - that it had received the payment in good faith and had altered its position in reliance of the fact that the payment would not be set aside. He found that the evidence strongly suggested that the payment was not received in good faith. Mr Atkinson was aware that the payment was preferential and that Newframe faced the very real possibility of going into liquidation. Future Frame had not shown that it had altered its position in reliance on this payment.
Had the elements been proven Master Lang speculated that he may have exercised his discretion and allowed the $20,000 payment. This was because Future Frame was Newframe's largest creditor and it had supported Newframe by making payments on its behalf totalling $32,000. However this was irrelevant now as the elements had not been proven. He made an order for the full recovery of the payment from Future Frame.
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6. Tokoroa High School Old Boys Football Club live to play another season
Wehipeihana v Tokoroa High School Old Boys Football Club High Court, Rotorua, M11/02,19 March 2003
The Tokoroa Old Boys Football Club was incorporated under the provisions of the Incorporated Societies Act 1908 on July 15 1975. In its heyday the club was quite a force to be reckoned with in the South Waikato Rugby Sub-Union. The club provided support for all the teams including maintenance of the club house and promotion and encouragement of all the sporting events it hosted. It also arranged social functions and fund raising for the teams. The sports it supported were rugby, netball, darts, and pool.
Of late the club has struggled to keep afloat. Players have transferred to other Waikato sides and the club has suffered severe financial difficulties. These problems meant some members believed that it was time Tokoroa Old Boys amalgamated with another club. The whole issue came to a head in December 2000 when the club held its AGM. There were strong views expressed both for and against the amalgamation of the club. A resolution was put to the board that the club join with the Pirates and Tokoroa Rugby Clubs. After heated discussions a resolution was passed in secret in favour of the amalgamation. This resolution was latter set aside on the grounds that proxy votes had been misused to tilt the scales in favour of the proposal.
Unfortunately the division amongst the members paralysed the club. In the 2001 season the club could not even muster a rugby team to place in the local competition. In addition the club was struggling to pay its debts when they fell due. Eventually some of the club's members applied to place the club in liquidation.
The Court acknowledged that the club was unable to pay its debts and therefore could be placed into liquidation under section 25(c) of the Incorporated Societies Act 1908. It was also pointed out that it had a residual discretion to refuse the application if it felt it was inappropriate to make such order. The court must look at the circumstances surrounding the application and consider whether it would be just and equitable to make a liquidation order.
In this case the judge took particular interest in the events surrounding the resolution in December of 2000 which decided that an amalgamation should be made. He said that if it was found that the members of the club had simply ignored this resolution then this would be in breach of the club’s rules and “such a state of affairs would justify the making of a liquidation order”. However Master Lang found that the resolution at the AGM in December 2000 was not validly passed.
He then considered whether the club had any chance of survival. It could raise money through a "combination of members’ subscriptions, sponsorship, fund-raising, and other activities”. There was evidence that there were two sponsors willing to contribute $5000 each to the club. If each of the 63 active club members were to pay their $80 subscription fees. The Master said that the club’s structure and its members had the ability to function well.
The court imposed conditions to be met by the club by April 2003. If these conditions were met by this time then the liquidation proceeding were to be dismissed. The club subsequently met the conditions and in April the court dismissed the proceeding allowing the Tokoroa High School Old Boys Football Club to live to play another season!
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7. Mother victim of undue influence by her son
Lee v Damesh Holdings Ltd (2003) 10 TCLR 658; [2003] 2 NZLR 422; (2003) 4 NZ ConvC 193,682
Mrs Lee had two homes – a “crib” in Queenstown and a house in Invercargill. Over Christmas and New Year 2001 her son, Trevor, talked about a “deal” he was working on which involved “some trading”. Trevor needed to borrow some money to facilitate the venture. He asked his mother to offer the Queenstown property as security for the transaction. He arranged for Mrs Lee to see a solicitor, Mr Wilson. Trevor was present with his mother for most of the meeting. Wilson advised Mrs Lee several times during that meeting that she should not sign the mortgage and accompanying documents as it was against her best interests. The meeting was extremely rushed and only took 20 minutes. Mrs Lee signed the documents despite Wilson’s advice.
On 21 January 2002 Damesh Holdings Ltd (the lender) advanced the money required. The terms of the loan contract were that the principal sum of $1.540 million was to be paid by 21 April 2002. Interest was to be at 15% per annum and paid on the 21st day of February, March and April. The only information about the actual use of the loan monies was that it had something to do with three letters of credit totalling US$150 million.
By April Trevor’s venture had failed to make the principal and interest payments and Damesh sought to enforce their power of sale of Mrs Lee’s Queenstown property. Mrs Lee objected to the sale on the grounds that Damesh knew of the possibility that her son was exercising undue influence and that they had not taken steps to satisfy themselves that this was not the case.
The judge found that it was clear that Trevor exercised undue influence over his mother. She had no business experience and trusted that her son would do right by her.
The judge felt that despite the fact that Wilson believed that Mrs Lee had understood the implications of the documents signed, Trevor's influence was stronger. This was for several reasons. First, the legal advice had been given by someone who was not Mrs Lee’s normal solicitor. Second, the fact that “Mrs Lee had obviously been unsettled” by the rushed meeting. Third, “given Trevor’s domination over his mother his presence was likely to overshadow any advice given by Mr Wilson”. Finally Wilson was lacking in information as to the true nature of the transaction Trevor was involved in.
Chisolm J noted the UK decision of Royal Bank of Scotland v Etridge where the House of Lords thought that “…the only practical way forward is to regard banks as “put on inquiry” in every case where the relationship between surety and debtor is non-commercial”.
When looking at whether Damesh had been put on inquiry of the undue influence the court recognised that Damesh was aware:
* that the financial transaction was not to the advantage of Mrs Lee,
* that Mrs Lee was providing security to advance a loan to a family member, her son,
* that Mrs Lee was a widow of mature years.
Chisolm J found that knowledge of these factors was sufficient to put Damesh on inquiry. The Etridge case says that when put on inquiry lenders should (in summary):
* check directly with the guarantor the name of the solicitor she wishes to act for her and explain to her why the bank is requiring she receive independent legal advice,
* provide the solicitor advising her with the details and risks involved in the transaction the advance is to facilitate,
* obtain written confirmation of the above.
Damesh had done none of these things. However the judge felt that the acceptance by Damesh of Wilson’s note (that he had advised Mrs Lee about the transaction, that he had told her not to proceed and despite this advice she had signed the documents) was sufficient to discharge its duty to ensure undue influence did not exist. Damesh was not obliged to make further inquiry unless “exceptional circumstances existed” and they did not in this case. The UK decision, Etridge, is not binding on New Zealand courts. The New Zealand Court of Appeal decision in ASB v Wilkinson (which we cover in our Law seminars) is binding on the High Court, so Chisolm J had to follow it. This doesn't mean that the Court of Appeal won't change its mind and take the same approach as Etridge at some time in the future. Chisolm J felt that these were “matters for the Court of Appeal” to decide. Lenders beware!
