McLaughlin v House of Stitches Pty Ltd

[2002] VSC 191

IN THE SUPREME COURT OF VICTORIA Not Restricted

AT MELBOURNE

COMMON LAW DIVISION

No. 8106 of 2001

DANIEL FRANCIS McLAUGHLIN	Applicant
v
THE HOUSE OF STITCHES PTY LTD (ACN 005 982 020)	Respondent
and
No. 8107 of 2001
ADAM JOHN TRESCOWTHICK AND OTHERS	Applicants
v
THE HOUSE OF STITCHES PTY LTD (ACN 005 032 020)	Respondent
and
No. 8114 of 2001
ALAN HODGSON	Applicant
v
THE HOUSE OF STITCHES PTY LTD (ACN 005 082 020)	Respondent

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JUDGE:	Habersberger J
WHERE HELD:	Melbourne
DATE OF HEARING:	8 November 2001
DATE OF JUDGMENT:	23 May 2002
CASE MAY BE CITED AS:	McLaughlin v The House of Stitches Pty Ltd
MEDIUM NEUTRAL CITATION:	[2002] VSC 191

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PRACTICE AND PROCEDURE - Application for leave to appeal against an interlocutory order of a Master of the County Court – Rule 58.02 of Supreme Court Rules – Appropriate test – Section 197 of Corporations Law – Breach of trust – Young v Murphy – Whether relationship of trustee and beneficiary also included relationship of debtor and creditor.

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APPEARANCES:	Counsel	Solicitors
For the Applicant McLaughlin	JWS Peters	Foster Hart Lawyers
For the Applicant Trescowthick	JWS Peters	Clayton Utz lawyers
For the Applicant Hodgson	T Poole	Rennick & Gaynor Solicitors
For the Respondent	HW Fraser	Kliger Partners

HIS HONOUR:

The Proceedings

1. The three proceedings before me are applications for leave to appeal from a decision of Master Patkin of the County Court of Victoria.  The applicants, Messrs McLaughlin, Trescowthick and Hodgson, were defendants in a County Court proceeding.  Each of them had issued a summons seeking orders that the proceeding against him be stayed, or, alternatively, that there be judgment in his favour, pursuant to R.23.01, R.23.02, R.23.03 or the Court's inherent jurisdiction on the grounds that:

(a)the statement of claim did not disclose a cause of action;

(b)the statement of claim was an abuse of the process of the Court;

(c)the statement of claim had a tendency to prejudice, embarrass or delay the fair trial of the proceeding;  or

(d)he had a good defence on the merits.

The Master dismissed each summons, holding that the plaintiff's case was arguable.

Application for Leave

1. Rule 58.02 of the Supreme Court Rules provides that "by leave of a Judge" an appeal may be brought from a Master of the County Court to a Judge of this Court.  I followed the common and convenient practice[1] of hearing the argument in respect of the appeal as part of the hearing of the application for leave, rather than hearing the latter as a separate matter (R.58.04(1)).

   [1]Deputy Federal Commissioner of Taxation v Reading (1991) 91 ATC 4,711 at 4,712-13 per Young CJ; (1991) 22 ATR 251 at 253 ("Reading")

1. Counsel for all parties were agreed on the appropriate tests for deciding whether to grant leave to appeal from the Master's decision.  They referred to the following passage from the judgment of Young CJ in a case also involving an application for leave to appeal from a decision of the Master of the County Court:

"The principles upon which the Court acts in deciding whether to grant leave to appeal from an interlocutory order were considered by the Full Court in Neimann v. Electronic Industries Ltd. [1978] V.R. 431. It was there held that leave to appeal from an interlocutory order should only be granted where (1) the decision sought to be appealed from is plainly wrong or at least attended by sufficient doubt to justify the granting of leave and (2) substantial injustice would be done by leaving the decision unreversed."[2]

[2]Reading at ATC 4,712 and ATR 253

The Claim

1. In its statement of claim the respondent alleged that on 17 August 1988 it had entered into a Licence Agreement with Harris Scarfe Limited ("Harris Scarfe") whereby Harris Scarfe had licensed the respondent to sell its own merchandise in certain Harris Scarfe stores.  The Licence Agreement provided that all sales made by the respondent were to be recorded through Harris Scarfe's register facilities in accordance with the standard register operation procedures.  All monies received by Harris Scarfe as a result of sales by the respondent were to be held in trust for the respondent, and Harris Scarfe was required to pay the amounts owing to the respondent, after deducting its 25% licence fee, by the fifteenth day of the following monthly accounting period.

1. In April 2001, Harris Scarfe had administrators and then receivers and managers appointed. The respondent alleged that Harris Scarfe was indebted to it in the sum of $171,662.78, being 75% of the gross takings earned by it during the period between 26 February and 2 April 2001 (inclusive). Both Trescowthick and Hodgson were directors of Harris Scarfe at all relevant times to this proceeding. McLaughlin had been a director until 27 March 2001. The respondent claimed that the applicants were liable to discharge either the full amount or a proportionate amount of Harris Scarfe's liability to the respondent pursuant to s197 of the Corporations Law (now the Corporations Act 2001).

1. Section 197(1) of the Corporations Act 2001 provides as follows:

"A person who is a director of a corporation when it incurs a liability while acting, or purporting to act, as trustee, is liable to discharge the whole or a part of the liability if the corporation:

(a)     has not, and cannot, discharge the liability or that part of it;  and

(b)is not entitled to be fully indemnified against the liability out of trust assets.

This is so even if the trust does not have enough assets to indemnify the trustee.  The person is liable both individually and jointly with the corporation and anyone else who is liable under this subsection."

1. The respondent claims that Harris Scarfe is a corporation which incurred a liability while acting as a trustee and that the directors are liable to discharge that liability because Harris Scarfe has not done so or cannot do so and Harris Scarfe "is not entitled to be fully indemnified against the liability out of trust assets."

The Issues

1. Mr Peters of counsel, who appeared for the applicants McLaughlin and Trescowthick, submitted that the respondent's claim could not succeed because of the decision of the Full Court of this Court in Young v Murphy[3].  That case was concerned with s.229A of the Companies Code and s.233 of the Corporations Law, the wording of which were substantially similar.  The former provided as follows:

   [3][1996] 1 VR 279

"(1)     Where -

(a)a relevant corporation, while acting or purporting to act in a capacity of trustee of a trust, incurs a liability -

(i)in the case of a company - whether within or outside Australia;

(ii)in the case of a registered overseas foreign company - within Australia;  or

(iii)in the case of a foreign company that is neither a registered overseas foreign company nor a recognised foreign company - within the State; and

(b)the relevant corporation is for any reason not entitled to be fully indemnified out of the assets of the trust in respect of the liability,

the relevant corporation and the persons who were directors of the relevant corporation at the time when the liability was incurred and were not innocent directors in relation to the incurring of the liability are jointly and severally liable to discharge the liability.

(2)For the purposes of this section, a trustee of a trust shall not, by reason only that -

(a)       the trust has no assets; or

(b)the assets of the trust are insufficient to indemnify the trustee in respect of the liability concerned,

be taken not to be entitled to be fully indemnified out of the assets of the trust in respect of a liability

(3)     In this section -

...

'innocent director', in relation to the incurring of a liability by a relevant corporation while acting or purporting to act in a capacity of trustee of a trust, means a person who -

(a)was a director of the relevant corporation at the time when the liability was incurred;  and

(b)if the persons who were directors of the relevant corporation at that time had been at that time the trustees of the trust and had incurred the liability, would have been entitled to be fully indemnified in respect of the liability by one or more of the other trustees;

'liability' means a debt, liability or other obligation ..."

1. The Full Court (Brooking, JD Phillips and Batt JJ) held that those sections applied only to liabilities incurred by a corporate trustee to creditors in breach of trust and they did not make the directors of a corporate trustee liable to the beneficiaries for the trustee's breach of trust.  JD Phillips J delivered the leading judgment:

"… Nonetheless, in my view the section is to be confined, as the appellants submit, to cases in which the liability is incurred to creditors, and not to beneficiaries. 

My reasons for this lie in the words of the section.  Sub-section (1)(b) makes it plain that the section applies only where the relevant company is 'not entitled to be fully indemnified out of the assets of the trust in respect of the liability'.  Although that encompasses a case in which the company is not entitled to be indemnified out of the assets of the trust at all, it indicates to me that the mischief being addressed is a case in which a liability has been incurred such as might attract the right of indemnity, but has been incurred in circumstances in which the indemnity is not available.  Sub-section (2) shows that those circumstances are not simply that the trust has no assets or no sufficient assets to afford the relevant indemnity; it must be on some other ground that the indemnity is not available.  The obvious case in which indemnity is refused is a liability incurred by a trustee in circumstances in which the trustee was not authorised by the trust to incur the liability - or in other words, a liability incurred by the trustee in breach of trust.  Thus, what the section is concerned with is a liability incurred in breach of trust and not for breach of trust. 

…

… The section operates, in my view, not simply because the trustee 'incurs a liability', but because, in the circumstances of the case, the trustee is precluded from having resort to the assets of the trust in respect of that liability.  The section creates an alternative source for the satisfaction of the liability, where the liability is not to be met out of the assets because of the circumstances in which the liability was incurred.  The mere fact that the trust has no assets or that they are insufficient is expressly made irrelevant.  Therefore, the section had in contemplation, by its very terms, that the assets might have been reached for the purpose of indemnifying the trustee in respect of the liability, had it not been for the circumstances in which the liability was incurred - and that is confirmed by the terms of the second reading speech.  In a case like the present, where the trustee is sought to be made liable to the beneficiaries for breach of trust, it is not the case that the assets might have been used for the purpose of indemnifying the trustee, were it not for the trustee's breach of trust.  Had it not been for the trustee's breach of trust, there would be no liability at all in the trustee;  and that claim for breach of trust is not one which could have been cast upon the assets in any circumstances.  In short, the section is there for the benefit of the creditors, not for the benefit of the beneficiaries or, as I put it earlier, the section is to meet a liability incurred in breach of trust, but not a liability incurred for breach of trust."[4]

[4][1996] 1 VR 279 at 313-15

1. Mr Peters submitted that s.197, which replaced s233 of the Corporations Law at the time of the enactment of the Corporate Law Economic Reform Program, simply reworded the preceding section and that it did not, and was not intended to,[5] impose a new form of liability on directors different to the liability considered in Young v Murphy.  Therefore, as a result of that decision, the respondent could not succeed because its claim was in respect of a liability incurred for breach of trust not in breach of trust.  There was no trading trust of the kind referred to in Young v Murphy. Alternatively, if the respondent's claims were simply for debt, then s.197 did not apply.

   [5]See Corporate Law Economic Reform Program Bill Explanatory Memorandum at p8, where it is stated that "[t]he Bill will also rewrite without substantial change the remaining provisions in Parts 3.2 (Officers) … of the Law". Section 233 appeared in Part 3.2. The respondent submitted that, as there was no ambiguity, the Court ought not to have regard to this extrinsic material. It is unnecessary to decide this point.

1. Accordingly, Mr Peters submitted the decision of the Master was plainly wrong and that substantial injustice would be done by leaving the decision unreversed.  The substantial injustice was said to be that the applicants would be required to prepare and run an expensive trial in a proceeding which was "hopeless".

1. Mr Poole of counsel, who appeared for the applicant Hodgson, was content to adopt the submissions of Mr Peters.

1. Mr Fraser of counsel, who appeared for the respondent in each application, submitted that the decision in Young v Murphy was not a complete answer to his client's claim.  He submitted that as the legislation considered in that case had been re-enacted in a materially different form, the relevant part of the decision in Young v Murphy was no longer good law. Whereas under s.229A or s.233, a deficiency of trust assets to indemnify the trustee was not sufficient to satisfy the phrase "not entitled to be indemnified out of the assets of the trust" now, under s.197(1), the liability of the director, or the non-entitlement to be fully indemnified, "is so", even if the trust does not have enough assets to indemnify the trustee. Accordingly, the reasoning of JD Phillips J was no longer applicable.

1. Even if this were not correct and Young v Murphy remained good law, in respect of s.197(1) of the Corporations Act 2001, Mr Fraser submitted that the relationship between Harris Scarfe and the respondent was not exclusively one of trustee and beneficiary, but also included a relationship of debtor and creditor.[6] Thus, the remedy provided by s.197 was available to the respondent as a creditor of Harris Scarfe in respect of monies held by Harris Scarfe on trust for the respondent. The liability of Harris Scarfe to the respondent arose when Harris Scarfe in breach of trust failed to pay the monies to the respondent by the fifteenth day of the following monthly accounting period. Alternatively, it was a question of fact to be decided at trial whether at some and, if so, what point Harris Scarfe held the monies as debtor instead of, or as well as, trustee.

   [6]See Barclays Bank Ltd v Quistclose Investments Ltd [1970] AC 567 at 580-1 per Lord Wilberforce and Stephens Travel Service International Pty Ltd (Receivers and Managers Appointed) v Qantas Airways Ltd (1988) 13 NSWLR 331 at 340-1 per Hope JA

1. Mr Fraser submitted that in the circumstances the Master's decision to permit the respondent's claim to proceed to trial in the ordinary course was not plainly wrong and that there would be no substantial injustice to the applicants who would be able to advance at trial the arguments raised in their interlocutory applications.  On the other hand, giving judgment for the applicants without a full hearing on the merits would be a substantial injustice for the respondent.

Conclusion

1. This very brief summary hardly does justice to the parties' helpful submissions on the various points, including the appropriate principles of statutory construction.  However, I have decided that I need not consider them further because I have reached the view that the applicants have not shown either that the Master's decision was plainly wrong or that substantial injustice would be done if that decision is not reversed. 

1. First, it is arguable, in my opinion, that as a result of the change in wording when s.233 was replaced by s.197 of the Corporations Law, the decision in Young v Murphy is no longer applicable, and that, even if Young v Murphy is still good law in respect of s.197, the respondent can still rely on that section because it was a creditor of Harris Scarfe in respect of monies held by Harris Scarfe on trust for the respondent. I do not consider it appropriate for me to finally determine these points at this preliminary stage. It seems to me that the facts may well require further investigation before one or both of these points can be decided and that it would be fairer for all concerned if these questions were resolved in their properly understood factual context at the end of a full hearing. Therefore, in the circumstances, it is neither necessary nor desirable that I say anything further about the competing arguments.

1. Secondly, it cannot be said, in my opinion, that there would be substantial injustice done to the applicants if the Master's decision is not reversed.  It is only in the clearest of cases that summary judgment should be given or claims summarily dismissed or stayed.[7]  Normally, legal disputes are decided after a full hearing.  In the circumstances, I do not consider that the extra costs that the applicants will undoubtedly incur can be classed as a substantial injustice.

   [7]See Dey v Victorian Railway Commissioners (1949) 78 CLR 62 at 91 per Dixon J; General Steel Industries Inc v Commissioner for Railways (1964) 112 CLR 125 at 129-30 per Barwick CJ

1. Finally, I am not unmindful of the reference by Young CJ to "a long standing policy against unnecessary interlocutory appeals"[8] and to his Honour's observations concerning the likely outcome of the dispute in Reading:

"It is perhaps permissible however to observe that it seems probable that the proceedings will ultimately be determined in favour of the plaintiff, but be that result never so certain, it is important to maintain the integrity of the Court's process.  It is important for the purpose of maintaining the policy referred to in Perry v Smith …, for ensuring that this Court is not overburdened with unnecessary appeals and for the purpose of adding some certainty in this area of practice."[9]

[8]Reading at ATC 4,713 and ATR 253.  See also Perry v Smith (1901) 27 VLR 66 at 68

[9]Reading at ATC 4,713 and ATR 254

1. I have therefore decided that leave to appeal should be refused.  The orders I would propose making in each of the three proceedings are that:

1.The application for leave to appeal against the decision of Master Patkin given on 19 October 2001 is refused.

2.        The applicant pay the respondent's costs of the application.

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