Allco Equity Partners v Allco Equity Partners Management

[2008] NSWSC 1401

CITATION:	Allco Equity Partners v Allco Equity Partners Management [2008] NSWSC 1401
HEARING DATE(S):	9 December 2008
JUDGMENT OF:	McDougall J at 1
EX TEMPORE JUDGMENT DATE:	9 December 2008
DECISION:	See paras [62] and [63] of the judgment.
CATCHWORDS:	CONTRACTS - Management agreement - breach - defendant's failure to comply with statutory conditions for a licence constituted breach of Management Agreement where possession of licence a condition of the Agreement - whether serious breach of a material obligation.
LEGISLATION CITED:	Corporations Act 2001
CASES CITED:	Koompahtoo Local Aboriginal Land Council v Sanpine Pty Ltd (2007) 233 CLR 115
TEXTS CITED:	Oxford Australian Dictionary
PARTIES:	Allco Equity Partners Limited (First Plaintiff) AEP Signature Holdings Pty Limited (Second Plaintiff) Allco Equity Partners Management Pty Limited (receivers and managers appointed; voluntary administrators appointed) in its capacity as trustee of the AEP Management Trust (Defendant)
FILE NUMBER(S):	SC 50238/08
COUNSEL:	M A Pembroke SC / T M Faulkner (Plaintiffs) J C Sheahan SC / M J Darke (Defendants)
SOLICITORS:	Mallesons Stephen Jaques (Plaintiffs) Corrs Chambers Westgarth (Defendant)

IN THE SUPREME COURT
OF NEW SOUTH WALES
EQUITY DIVISION
COMMERCIAL LIST

McDOUGALL J

9 December 2008 ex tempore (revised 9 December 2008)

50238/08 ALLCO EQUITY PARTNERS LTD v ALLCO EQUITY PARTNERS MANAGEMENT PTY LIMITED

JUDGMENT

1 HIS HONOUR: The question for decision is whether the plaintiffs (respectively Partners and Signature) have terminated management rights granted to the defendant (Management). There is a significant and urgent commercial interest in the resolution of that question. Accordingly, and having regard both to the time of the year and my other commitments, I have decided to give my judgment ex tempore rather than reserving for a short period of time to reflect, as I would have preferred to do.

2 In the circumstances, in the reasons that follow, I shall not make reference in detail to the submissions of counsel. I wish to make it clear, however, firstly, that I have been greatly assisted by the helpful and concise submissions, both written and oral; and secondly, that I have taken those submissions into account to the extent necessary in reaching the views that I am about to express.

Background

3 Partners is a listed public company. Its function in life is to conduct a private equity business. It does so by seeking to identify and invest in suitable businesses, help those businesses to grow, and selling its investment at a profit. Signature is the vehicle by which one such investment is conducted.

4 By a "Management Agreement" made on 14 December 2004, Partners appointed Management to provide "Management Services" as defined for a term of 25 years, subject to prior termination in certain circumstances.

5 Signature and Management are parties to a deed made on 30 December 2005 (the Trust Deed). By that deed, Signature agreed to act as trustee of a trust known as the AEP Signature Trust (the Trust) and Management agreed to act as the manager of that trust.

6 Some of the management services provided by Management to Partners and Signature are such that Management is required to hold an Australian Financial Services Licence (AFS Licence). It holds and at all material times has held such a licence. It is a condition "on" that licence that Management be able to pay all its debts as and when they become due and payable.

7 On 5 November 2008, Partners gave Management a notice. That notice, relying on cl 9.2(a) of the Management Agreement, purported to terminate the Management Agreement.

8 On 8 November 2008, Signature gave Management a notice. That notice, relying on cl 12.2 of the Trust Deed, purported to terminate Management's appointment as manager of the Trust.

9 Each notice relied on Management's inability to pay its debts: a breach of a condition on its AFS licence, and said to be a serious breach of a material obligation owed by Management under the Management Agreement and the Trust Deed.

10 Management concedes, for the purposes of these proceedings only, that as at 5 and 8 November 2008, it was unable to pay all its debts as and when they became due and payable. It denies that it has thereby breached any obligation that it owes under the Management Agreement or the Trust Deed. Alternatively, it says, if there were a breach, it was not a serious breach of a material obligation. Alternatively again, it says, if there were a serious breach of a material obligation, it was one capable of remedy.

The issues

11 The questions for decision may be stated as follows:

(1) whether Management's failure to comply with the relevant condition of its AFS licence was a breach of clause 2.4(b) of the Management agreement;

(2) if so, whether the obligation created by clause 2.4(b) is a “material obligation” under the Management Agreement within the meaning of cl 9.2(a) of that Agreement or clause 12.2 of the Trust Deed;

(3) if so, whether Management's breach of clause 2.4(b) was a "serious breach" within the meaning of clause 9.2(a) or clause 12.2; and

(4) if so, whether Management's breach of clause 2.4(b) was one which, at the relevant times, could not be remedied.

Relevant terms of the Management Agreement

12 I summarise or set out the principal terms of the Management Agreement to which counsel made reference in their submissions.

13

Recitals B to D read as follows:

B The Manager has been formed for the purpose of providing Management Services to the Company following the issue of its Prospectus and the raising of funds referred to in Recital A.
C. The Company wishes to appoint the Manager to provide the Management Services to the Company and the Manager has agreed to provide those services on the terms and conditions set out in this agreement.
D. The Manager will apply for an Australian financial services licence enabling it to provide the Management Services as contemplated by this agreement as soon as practicable after execution of this agreement.

14 Clause 1 deals with the appointment of Management as manager. That appointment is to be exclusive (cl 1.2) and provision is made for the way in which proposals made direct to Partners from third parties are to be dealt with (cl 1.3).

15 Clause 2 deals with the scope of the "Management Services" to be provided. They are defined in schedule 1 (see cl 2.1). Management is entitled to perform those services through employees or contractors.

16 Clause 2.4 deals with the standard of care expected of Management. So far as it is relevant, it reads as follows:

2.4 Standard of Care
In the performance of the Management Services, the Manager must at all times:

…

(b) comply with all relevant statutory and other requirements (including holding any licence, consent or permit required to perform the services); and
…..
The Manager must exercise its powers and discharge its duties in good faith, honestly and with a degree of professional care, diligence and skill a reasonable person in the Manager’s position would exercise.

17 Clause 2.5 sets out certain "Overriding obligations". One of those is that Management do nothing intentionally that could harm the goodwill or reputation of Partners. Clause 9 deals with the term of the agreement and the circumstances in which it may be terminated. Its term is for a period of 25 years (cl 9.1).

18 Clause 9.2 sets out the circumstances in which Partners may terminate the agreement. Relevantly, it reads as follows:

9.2 Termination by the Company
The Company may terminate this agreement immediately by notice in writing to the Manager if:

(a) the Manager is in serious breach of a material obligation under this agreement and such breach cannot be remedied or, if it can be remedied, is not remedied within 90 days after the Company has given written notice to the Manager specifying the breach and requiring the breach to be remedied;
…

(c) subject to the transitional arrangements contemplated by clause 1.5, the Manager ceases to hold an AFSL that permits it to provide the Management Services and it has not nominated an alternative entity within the Allco group or LJCB Group (which holds an appropriate licence) to act as the manager within three months of ceasing to hold an AFSL; or
…

For the avoidance of doubt, this agreement may not be terminated by the Company based on the non-performance of individual investments.

19 Clause 9.3 sets out the circumstances in which Management may terminate the agreement. So far as it is relevant it reads as follows:

9.3 Termination by the Manager
The Manager may terminate this agreement immediately by notice in writing to the Company if:


…

(c) an Insolvency Event occurs in relation to the Company;

20 The expression "Insolvency Event" is defined at some length, but its meaning appears sufficiently from the words themselves.

21 Clause 15 deals with assignment. In substance, Management may assign its rights and obligations with Partners’ consent, not to be unreasonably withheld.

22 By a Deed of Variation made on 30 December 2005 - the same date as the Trust Deed was made - Partners and Management made clear in effect that the Management Agreement and the Trust Deed should be construed as to operate together and harmoniously so far as possible.

Relevant terms of the Trust Deed

23 Again, I set out the principal provisions to which counsel made reference.

24 Clause 12.2 sets out the circumstance in which Signature, as trustee, may terminate the appointment of Management, as manager:

12.2 Power to remove a Manager
The Trustee may terminate the Manager’s appointment as Manager under this Deed immediately by notice in writing to the Manager if the Manager is in serious breach of a material obligation under this Deed and such breach cannot be remedied or, if it can be remedied, it is not remedied within 90 days after the Trustee has given written notice to the Manager specifying the breach and requiring the breach to be remedied.

25 Clause 13.4 reinforces the impression that is derived from the Deed of Variation to which I referred a moment ago:

13.4 Management Agreement
The Management Agreement, as modified by the Deed of Variation, shall regulate the performance of the Manager and its functions under this Deed.

First issue: breach of clause 2.4(b)

26 Mr M A Pembroke of Senior Counsel, who appeared with Mr T M Faulkner of counsel for Partners and Signature, submitted that the obligation stated in condition 5 (a) of Management's AFS licence was a term of the Management Agreement. He submitted that cl 2.4(b) of the Management Agreement required Management to comply with s 912A of the Corporations Act 2001: especially para 1(b). By this means, Mr Pembroke submitted, the parties made it a term of the Management Agreement that Management should be at all times able to pay its debts as and when they became due and payable. For convenience, although not wishing to detract from the full import of those words, I shall refer to this as "solvent" and to the cognate condition as "solvency". Again, I shall refer to condition 5(a) of the ASF licence as the solvency provision.

27 Mr J C Sheahan of Senior Counsel, who appeared with Mr M J Darke of counsel for Management, submitted that the condition in question was not a term of the Management Agreement. Mr Sheahan submitted that s 912A was not a relevant statutory requirement for the purposes of cl 2.4(b). That clause, he submitted, was limited to requirements as to the holding, or maintaining in force, of the necessary licences, etc.

28 Mr Sheahan submitted further that even if s 912A were a relevant statutory requirement, it did not make the conditions of the AFS licence terms of the Management Agreement. Mr Sheahan noted that when the parties wished to make express provision for insolvency, they did so; and that they did so only in terms of giving rights to Management should Partners become insolvent (cl 9.3(c)).

29 It was common ground that Management was required to hold an AFS licence in order to provide at least some of the services the subject of the Management Agreement and Trust Deed. Section 912A(1)(a) of the Corporations Act provides, in those circumstances, that Management, as "[a] financial services licensee must... comply with the conditions on the licence."

30 I do not accept the submission that s 912A is not a relevant statutory requirement for the purposes of cl 2.4(b). In particular, I do not agree that the introductory words of that paragraph are to be read down by the parenthesized words. Had the parties intended to limit the scope of cl 2.4(b) to the holding of necessary licences etc, they could have done so without the need to invoke "all relevant statutory and other requirements".

31 In circumstances where, obviously enough, the parties must have realised that Management would be required to hold an AFS licence, it is plain that, objectively, they would have intended Management to comply with the conditions on that licence. Failure to do so could lead to suspension or cancellation: s 915C (1)(a). In the event of suspension or cancellation, Management could not lawfully continue to provide those services, the provision of which required it to hold the licence in the first place.

32 Thus, I conclude, section 912A is a relevant statutory requirement and cl 2.4(b) of the Management Agreement required Management to comply with s 912A and thus to comply with the conditions on its AFS licence.

33 It does not follow that, thereby, it was a term of the Management Agreement that Management be able to pay all its debts as and when they became due and payable. Insolvency in that sense would be a breach of the Management Agreement not in its own right - as a breach of a covenant as to solvency in the Management Agreement - but in its character as a breach of a condition on the AFS licence.

34 Nonetheless, it follows from what I have said, that the first question should be answered "Yes."

Second issue: material obligation

35 The matters to which I have just referred, relating to the consequences of noncompliance with s 912A and the importance of compliance from the parties' perspective, would indicate that the obligation to comply is material, in the sense that it is "Important... or relevant" (two of the definitions of "material" given in the Oxford Australian Dictionary, second edition, 2004). That concept of materiality is strengthened by the contractual context. Materiality is a necessary condition for the exercise of rights under cl 9.2(a) (or 12.2). But it is not sufficient. There must also be a serious breach. Thus, in a particular case, the potentially dangerous consequence flowing from the conclusion that an obligation is material may be averted by the further conclusion that a breach of that obligation is not serious.

36 Mr Sheahan submitted, however, that noncompliance was not material. What was material, he submitted, was that Management should hold a licence. In those circumstances, he submitted, the superadded obligation to comply with the conditions on that licence could not be regarded itself as independently material.

37 I do not accept that submission. I accept that the obligation to hold a licence (which comes in through s 911A(1)) is material. It does not follow that, in relation to licences, materiality ends there. Putting the licence at risk is at least relevant, and may be important, in the sense that a breach of a condition may trigger suspension or cancellation. In my view, Partners has a real interest in ensuring, so far as it is can, that Management's continuing ability to perform its obligations is not compromised.

38 Mr Sheahan relied also on cl 9.3(c). The parties there made express provision for insolvency, but only for the purpose of giving a right to Management should Partners become insolvent. They gave no equivalent right to Partners in the event that Management should become insolvent. Thus, he submitted, the parties did not regards Management's insolvency as material.

39 I do not agree. I think that the parties chose to deal with Management's insolvency, to the extent that they thought it necessary to do so, through cl 2.4(b). Since Partners was not required to hold an AFS licence, they could not use an equivalent mechanism. They had to make express provision, and they did so.

40 So far, I have looked at this issue in terms of the Management Agreement. The language of cl 12.2 of the Trust Deed is materially equivalent to the language of cl 9.2(a) of the Management Agreement. Of course, the Trust Deed contains no equivalent of cl 9.3(c). However, having regard in particular to cl 13.4 of the Trust Deed, cl 12.2 should be construed and held to operate so far as possible consistently with the proper construction and operation of cl 9.2(a).

41 The second question should be answered "Yes."

Third issue: serious breach

42 Mr Pembroke submitted that the breach was serious, because it had a significant detrimental impact on the ability of Management to provide services under the Management Agreement. However, to a large extent these submissions (and the evidence to which they made reference) were founded on the proposition that the combined effect of s 912A(1)(b) and cl 2.4(b) was to make it a term of the Management Agreement that Management should be solvent. For the reasons that I have given, I do not accept that proposition.

43 As I have indicated, much of the evidence on which Mr Pembroke relied was directed to the consequences of insolvency. But the breach is failure to comply, not insolvency in its own right. In this context, it should be noted that Partners alleges no case of breach by failure to provide services. Nor does Signature.

44 Mr Sheahan submitted that a breach of a condition on the licence did not of itself mean that Management could no longer provide services. The evidence of Mr Sherman, one of the joint receivers and managers of Management, was that Management had continued to provide services, and that he knew of no impediment to its continuing to do so in the future.

45 The only relevant impediment, Mr Sheahan submitted, would be suspension or cancellation of the AFS licence. There was no evidence that the Australian Securities and Investment Commission had taken, or intended to take, steps towards suspension or cancellation.

46 Mr Sheahan relied on cl 9.2(c). He submitted that the parties had made provision for the event of loss of the licence. Since loss of licence was the worst thing that could happen by reason of any breach of a licence’s condition, what would follow a breach of a condition on a licence would be, at most, a triggering of cl 9.2(c). Mr Sheahan submitted that to give cl 9.2(a) the construction for which Mr Pembroke contended, and to hold that there was thereby a serious breach of a material obligation, would derogate from cl 9.2(c).

47 For reasons similar to those considered by the majority (Gleeson CJ, Gummow, Heydon and Crennan JJ) in Koompahtoo Local Aboriginal Land Council V Sanpine Pty Ltd (2007) 233 CLR 115 at 138 [49 to 140] [56], the question of whether a breach of contract is "serious" must depend to some extent on the nature of the term breached but also to some extent on the nature of the breach. Not all breaches of a material obligation will be of themselves, or thereby, serious. Clause 9.2(a) itself indicates this, as does cl 12.2.

48 In the present case, the question falls to be considered by reference to the language that the parties have chosen: serious breach of a material obligation. However, I think, the inter-relationship between the nature of the obligations and the circumstances of the breach cannot be disregarded.

49 It might well be thought that, where what is relied upon as an event of breach (mediate or immediate) is insolvency, there is little room for any question of degree. Leaving aside what might be called temporary or accidental insolvency, a company is either insolvent or it is not. If it is insolvent, and it holds an AFS licence which includes a solvency condition such as condition 5(a), it is in breach of that condition.

50 Other conditions on the licence may involve questions of degree. They may involve depiction in shades of grey rather than in black and white. Insolvency - at least, putting aside the possible limiting case to which I have referred - is something which is qualitatively different.

51 However, the question cannot be considered in isolation. It is, as always, necessary to have regard to all relevant provisions of the agreement in question. In this case, it is necessary to bear in mind that the parties made express provision for the consequences of loss of licence, as well as general provision for the consequences of serious breach of a material obligation.

52 It would be extraordinary if loss of licence activated cl 9.2(c) with the right of nomination given to Management thereby; but something that was no more than a possible trigger for, or precursor to, loss of licence, had the far more draconian consequences provided by cl 9.2 (a).

53 In this context, it is necessary to bear in mind that, prima facie, insolvency is something which is capable of only one means of remedy. It is also necessary to bear in mind that loss of a licence would be a breach of cl 2.4(b) because of the requirement to hold a licence in s 911A. It would be strange indeed if the lesser breach - in effect, threat or risk of loss of licence - involved more adverse consequences than the greater - actual loss.

54 In my view, notwithstanding the factors to which I have referred, cl 9.2(c) provides powerful objective confirmation that the parties did not intend a breach of a licence, of the kind presently under consideration, to trigger the right of termination given by cl 9.2(a).

55 Again, what I have said applies in terms only to the Management Agreement. However, bearing in mind once again the need to give a consistent construction and operation to cl 12.2 of the Trust Deed, and the assistance in this regard provided by cl 13.4, I think the same consequences should follow under cl 12.2 as do under cl 9.2.

56 For the reasons that I have given, having regard to the all relevant provisions and their consequences, I do not think that the breach in question was a serious breach. It follows that question 3 should be answered "No."

Fourth issue: remedy

57 This issue does not arise. I will however indicate very briefly the conclusion to which I would have come if it did arise.

58 In substance, the debate was as to the appropriate means of remedy. Mr Sheahan submitted that assignment to a solvent holder of an AFS licence would be sufficient. Mr Pembroke submitted that this would not remedy the breach. Further, Mr Pembroke submitted, there was evidence that Partners and Signature, acting reasonably, would not consent to any assignment of the kind canvassed in the evidence.

59 Were it necessary to do so, I would conclude that the breach could be remedied (save as to time) only by Management becoming solvent, and thus complying (save as to time) with the solvency condition. I would not accept that assignment pursuant to cl 15 would remedy the breach that, contingently, is under consideration. Assignment is directed to something else altogether.

60 Since it is not necessary to consider this question, I will not deal with the uncontested evidence as to Partners’ and Signature's attitude towards any assignment.

61 The fourth question should be answered "Does not arise."

Orders

62 I order that the summons be dismissed. I order that the exhibits remain with the papers for 28 days and that they be dealt with thereafter in accordance with the rules.

63 I order the plaintiffs to pay the defendant's costs.

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