Minister for Immigration, Local Government and Ethnic Affairs v Kurtovic

Re: MARTIN JOHN HOWE and IAN LLOYD TRICKER
Ex Parte: THE TRUSTEE OF THE ESTATE OF THE BANKRUPT
Nos. W 345 and 251 of 1987
FED No. 22
Bankruptcy

COURT

IN THE FEDERAL COURT OF AUSTRALIA

NEW SOUTH WALES DISTRICT REGISTRY
BANKRUPTCY DIVISION
Burchett J.(1)

CATCHWORDS

Bankruptcy - application by trustee pursuant to s.122 - preferences - whether payments made to creditor were in good faith and in the ordinary course of business, s.122(2)(a) - whether creditor had reason to suspect insolvency and preference (s.122(4)(c)).

Bankruptcy Act 1966 - sections 122(1), 122(1A), 122(2), 122(3) and 122(4).

HEARING

SYDNEY

#DATE 16:3:1990

Counsel for the Applicants: Mr R.D. Wilson

Solicitors for the Applicants: Messrs Coleman & Greig

Counsel for the Respondents: Mr P.W. Gray

Solicitors for the Respondents: Messrs Mallesons Stephen Jaques

ORDER

The applicant bring in, on a date to be fixed, short minutes of orders to reflect the reasons of the court.

The respondent Marine Power Australia Pty Limited pay the applicant's costs in each case.

Note: Settlement and entry of orders is dealt with in rule 124 of the Bankruptcy Rules.

JUDGE1

These two applications were heard together by consent, and an order was made that the evidence in each, so far as relevant, be evidence in the other. Each application arose out of the same events and transactions as the other. They were brought by the trustee of the estates of the two bankrupts, Messrs Howe and Tricker, against Marine Power Australia Pty Limited ("Marine Power"), a creditor of both bankrupts, seeking relief under s.122 of the Bankruptcy Act 1966. That section relevantly provides:

"122.(1) A conveyance or transfer of property, a charge on property, or a payment made, or an obligation incurred, by a person who is unable to pay his debts as they become due from his own money (in this section referred to as 'the debtor'), in favour of a creditor, having the effect of giving that creditor a preference, priority or advantage over other creditors, being a conveyance, transfer, charge, payment or obligation executed, made or incurred -

(a) within 6 months before the presentation of a petition on which, or by virtue of the presentation of which, the debtor becomes a bankrupt; or . . .

is void as against the trustee in the bankruptcy.

(1A) Sub-section (1) applies in relation to a conveyance or transfer of property, a charge on property or a payment made, or an obligation incurred, by the debtor in favour of a creditor -

(a) whether or not the liability of the debtor to the creditor is his separate liability or is a liability with another person or other persons jointly; and

(b) whether or not -

(i) the property conveyed, transferred or charged is his own property or is the property of the debtor and of another person or other persons;

(ii) the payment is made out of his own moneys or out of moneys of the debtor and another person or other persons; or

(iii) the obligation is incurred by the debtor on his own account only or on account of himself and another person or other persons,

as the case requires.

(2) Nothing in this section affects -

(a) the rights of a purchaser, payee or encumbrancer in good faith and for valuable consideration and in the ordinary course of business; . . .

(3) The burden of proving the matters referred to in sub-section (2) lies upon the person claiming to have the benefit of that sub-section.

(4) For the purposes of this section - . . .

(c) a creditor shall be deemed not to be a purchaser, payee or encumbrancer in good faith if the conveyance, transfer, charge, payment or obligation was executed, made or incurred under such circumstances as to lead to the inference that the creditor knew, or had reason to suspect -

(i) that the debtor was unable to pay his debts as they became due from his own money; and

(ii) that the effect of the conveyance, transfer, charge, payment or obligation would be to give him a preference, priority or advantage over other creditors. . . . ."

It is necessary to recount briefly the history of the matter. In January 1985 Mr Howe and Mr Tricker, each of whom was quite young and inexperienced, commenced as partners, in the Sydney suburb of Granville, a business of dealers in outboard motors and accessories and parts associated with their dealership. They entered into what was described as a "Dealer Agreement" dated 3 January 1985 upon the terms of which they became dealers under the name "The Complete Marine Centre" for the respondent Marine Power. Among other things, the agreement specifically provided:

"Terms of payment on all products by Dealers shall be net the 25th day of the calendar month following the date of the invoice or shall be on such other basis as shall from time to time be established by Distributor (i.e. Marine Power) by notice to Dealer. A credit limit will be set from time to time by the Distributor based on financial and other information provided by the Dealer. Credit will only be accommodated up to this limit unless special arrangements are agreed to by the Distributor. Any credit limit set pursuant to this agreement is subject to withdrawal or alteration at the absolute discretion of the distributor at any time. Once dealer has been notified of new credit limit, dealer shall immediately reduce the account balance owing to the distributor to the new credit limit set.

All other purchases shall be cash with order."

A partnership agreement in writing, in which the business was described as "Granville Complete Marine Centre", was executed by Mr Howe and Mr Tricker on 1 July 1985. However, it seems clear the agreement merely defined the terms of an already existing partnership.

It appears that the business was never very successful, though it may have earned a small profit for a short while. By the end of May 1986, the balance outstanding to the respondent in respect of parts purchased by the partnership was $31,660.00. Of that amount, $1,358.00 had been overdue for 90 days or more, $12,494.00 for 60 days or more and $7,157.00 for 30 days or more. By the end of August 1986, when the partnership's credit limit with the respondent was $5,000.00, the outstanding figure had grown to $38,325.00, of which $10,760.00 had been overdue for 90 days or more and $9,890.00 for 60 days or more. Although evidence was given by Mr Raymond Patrick Reid, at the time the national credit manager of Marine Power, that the picture presented by these figures was "a fairly normal situation for a dealership at that time of year coming through the winter time", I am quite unable to accept this view of it. The state sales manager for New South Wales of the company, Mr Kenneth Evans, said of the same period: "Their account was dramatically over their credit limit at that stage, and that is what prompted our action." He also said that accounts would be over their limit from time to time "in the summer period. We tended to try and keep a tighter rein throughout the winter which is the slower period for our sort of business." Later, referring again to the state of the account of The Complete Marine Centre, he agreed that "this was not the normal situation in the winter months". The action taken in August, to which Mr Evans referred, involved freezing the account, not entirely, but so that any further purchases on it were required to have the approval of Mr Reid. However, further purchases on the account were in fact permitted between August and December 1986, some of which may have been the subject of special decision by Mr Reid, but a substantial number of which seem to have been due to a failure of the company's computer system, by virtue of which telephone orders eluded all checking. As a result the account rose to a debit of over $60,000.00.
Between August and November 1986, Mr Evans and Mr Reid were in contact with Messrs Howe and Tricker, endeavouring to ensure that the outstanding account was reduced. On 12 November 1986, Mr Reid and Mr Evans attended at the business premises of The Complete Marine Centre in Granville to examine the situation. They saw Mr Howe, Mr Tricker and Mrs Howe (Mr Howe's mother who worked in the office of the business). The length of the meeting was variously estimated by the witnesses, but I think it occupied about half of the day. It is plain that Messrs Reid and Evans took a serious view of the situation. Mr Reid asked detailed questions in order to gauge the financial position of the partners, and also looked at various books of the partnership. A list of creditors was produced to Mr Reid. He made a record of the meeting in which he noted that the credit limit of The Complete Marine Centre was $5,000.00. (I should mention it was suggested at the hearing that the limit had been raised to $10,000.00, but it appears this was a temporary limit for a period of 30 days only from 19 May 1986, the limit at all other times being $5,000.00.)
Mr Reid's record included:

"After investigations through their Cash Payments and Cash Receipts Book it became obvious that the overheads of the business were far greater than they originally had thought now totalling somewhere in the vicinity of $4,000 per week rather than $1,800 per week.

. . .

It was further agreed that we would be given a security against all Stock Equipment and Assets of the business and that upon signing the stock mortgage we would freeze their current account re-opening a new account for current purposes whereby they would send to us a pre-payment of $1,000 or $2,000 which would then allow spare parts to be provided up to that amount and then they would be required to send further monies. All motors would be either on a cheque before dispatch basis or on Borg Warner until such time as the overdue account i.e. the $60,000 is paid in full. During the meeting we also had Howe and Tricker re-sign new guarantees confirming the amount of money currently owed by the Complete Marine Centre of $61,186.15."

(The mention of Borg Warner refers to purchases not financed by the partnership but by a finance company of that name.)

Mr Reid also took notes of his investigation of the finances of Mr Howe and Mr Tricker, indicating he was told their bank overdraft stood at $11,000.00, that they owed some $4,000.00 to other creditors, and that a car was held by them on lease. According to Mr Reid's figures, the work in progress of the business was worth only $15,000.00. His very rough estimates suggested that if the partnership were to be wound up it might be able to meet its debts, but only by calling upon Mr Tricker to sell his half share in the house which he and his wife owned and lived in, that half share being valued at $50,000.00. (Nevertheless, there were so many assumptions involved that estimates of this nature could hardly have dispelled any suspicion he may have had to the contrary.) If the business were to continue, it could not expect to rely on its overdraft which was already over the limit of $10,000.00. It had an interest in a racing boat, the racing of which was used to promote the business. If, at the cost of abandoning that promotion, the boat were to be sold, a net amount of about $30,000.00 could be expected to be realized. There was agreement at the meeting of 12 November that this would be done. One reason for selling the boat was that part (perhaps quite a substantial part) of the amount outstanding to the company represented expensive parts for the boat.
On 18 November 1986 Mr Reid wrote a letter to Messrs Howe and Tricker, confirming arrangements made on 12 November 1986 "with respect to both the delinquencies on your account and the basis on which future supplies will be allowed." The letter stated it had been agreed that the company "would be given a security over stock assets and equipment"; that active efforts would be made to sell the racing boat for about $45,000.00, the company to be paid about $30,000.00 out of the proceeds (an independent party was entitled to $12,000.00); that the dealer's account with the company "will be frozen"; that "in order to allow future purchases of spare part items you are to forward a pre-payment of at least $2,000 on the new account where upon (sic) product will be supplied up to that amount and will then be held until a further pre-payment is received"; and that Messrs Howe and Tricker were to "provide within 14 days of (granting the security) your intentions with respect to monthly repayments off the old frozen account taking into consideration the sale of the racing boat etc."
After the meeting of 12 November, Mr Reid had given instructions to the company's solicitors to prepare an appropriate bill of sale in order to provide security for the debt. Mr Howe was willing to sign the bill of sale, but Mr Tricker, after obtaining advice from his own solicitor, declined to do so. As a result, an appointment to see the company's solicitors was cancelled. Then, on 4 December, Mr Evans went out to the partnership premises again, this time accompanied by a Mr Buxton. There was some conflict in the evidence as to what occurred. Mr Howe and Mr Tricker, supported by Mrs Howe, claimed that Mr Evans threatened in strong terms to close down their business unless they signed the bill of sale. It was alleged he also menaced them with the prospect of having the whole of their assets sold up. Mr Evans denied all this, but conceded that he may have said the company might be forced to terminate the dealership unless the bill of sale was executed. I have come to the conclusion that I should accept, in general terms, the version put forward by Mr Howe, Mrs Howe and Mr Tricker. I think it was only after extreme pressure that Mr Tricker was prevailed upon to join with Mr Howe in executing the bill of sale, and I think that pressure did include a threat to close down the business and to repossess stocks supplied by Marine Power.
At all events, Messrs Howe and Tricker were taken to the company's solicitors in Sydney, in a car driven by a company employee, to attend an appointment of which they had had no prior notice. (A previous appointment had been cancelled as I have earlier stated.) Evidence of the pressure Mr Evans was prepared to exert is provided by the fact that he had with him two letters, already prepared and signed, which it is plain he would have handed to Messrs Howe and Tricker if the bill of sale had not been executed. One letter was a formal notice of intention to terminate the dealer agreement, and the other was a notice, pursuant to a term of that agreement dealing with termination, giving notice of the company's intention to repurchase its products held by the dealer.
Mr Reid gave evidence that he did not at any time up to the date when Mr Howe and Mr Tricker became bankrupt "have reason to believe that the business was unable to pay its debts as they fell due apart from the debt to Marine Power" (emphasis added). But the size of the debt to the company, and the unusual steps taken to secure it, make even this qualified answer hard to accept at face value. Mr Reid conceded that it was certainly not a normal situation that he took a bill of sale over the equipment of a dealer. Asked whether in 1986 this was the only case in which he had done so, he said that it was. These answers need to be considered against the fact that the company had some 400 or 500 dealers throughout Australia. Records of the company show that on 5 November 1986 Mr Tricker was advised "that he had 14 days in which to pay 21,000.00 (sic) or we will take legal action". He was also advised at the same time "that the account was now on total stop until we receive the money". There had been a similar threat, according to the records, on 10 September, and numerous contacts by telephone about the state of the account in the September to October period.
In due course, the racing boat was sold. By then, the situation had become so desperate that on 29 January 1987, immediately upon receipt of the net proceeds (a sum of $26,800.00), Mr Evans drove out to Granville, picked up Mrs Howe, and took her to the bank to obtain the money. Mrs Howe asked him: "Can we have some of it to pay creditors?" He refused. Before this happened, Mr Howe had abandoned the business, but Mr Tricker was carrying it on and Mrs Howe was still assisting.
After the payment of the $26,800.00, there was still an overdue amount payable to Marine Power of $32,455.13. It was agreed between Mr Tricker and Mr Reid that this would be reduced by monthly instalments. On 18 February 1987, the sum of $2,500.00 was paid, apparently by two separate telegraphic transfers. Again, the circumstances of the payment suggested extreme anxiety on the part of Marine Power to ensure that it got the money promptly, and that there was no problem with clearance of a cheque or any other delay.
On 20 February 1987, Mr Tricker verified his statement of affairs, and on 26 February his estate was sequestrated on his own petition. Mr Howe took the same course shortly afterwards, on 16 March 1987.
The final event in the story was the sale by auction of the remaining stock and equipment by a receiver appointed by Marine Power pursuant to the bill of sale. This occurred in March 1987, and realized the sum of $9,974.50.
In each application, the trustee now seeks to set aside the bill of sale of 4 December 1986 (and thus to recover the sum of $9,974.50), the payment of $26,800.00 on 27 January 1987 and the payment of $2,500.00 on 18 February 1987. All of these transactions took place within six months of both bankruptcies.
The first question is whether, at the time of execution of the bill of sale and at the times of the payments, each bankrupt was "a person who is unable to pay his debts as they become due from his own money". On the evidence, I can reach no other conclusion. Very shortly afterwards, both of them became bankrupt, and their estates showed substantial deficiencies. There is nothing in the evidence to suggest that anything occurred between 4 December 1986 and the dates of the respective bankruptcies to account for those deficiencies if they were not already insolvent at 4 December. Indeed, it is clear they were insolvent well before then. The most natural inference from their failure to reduce their relatively huge debt to the company upon which their dealership depended, despite its continued pressure, is that they did not pay because they were unable to pay. This was conduct which would only have been continued because there was no alternative. The seriousness of the situation it created for the partnership is confirmed by the evidence of Mr Evans that, but for the computer system failure which occurred within his company, supplies of parts, except for cash, would have been substantially stopped in August.

Counsel for the respondent relied on the well known decision in Sandell v. Porter (1966) 115 CLR 666. In that case at 670-671 Barwick C.J. said:

"Insolvency is expressed in s.95 (i.e. the precursor of section 122 which was relevantly in the same terms) as an inability to pay debts as they fall due out of the debtor's own money. But the debtor's own moneys are not limited to his cash resources immediately available. They extend to moneys which he can procure by realization by sale or by mortgage or pledge of his assets within a relatively short time - relative to the nature and the amount of the debts and to the circumstances, including the nature of the business, of the debtor. The conclusion of insolvency ought to be clear from a consideration of the debtor's financial position in its entirety and generally speaking ought not to be drawn simply from evidence of a temporary lack of liquidity. It is the debtor's inability, utilizing such cash resources as he has or can command through the use of his assets, to meet his debts as they fall due which indicates insolvency. Whether that state of his affairs has arrived is question for the Court and not one as to which expert evidence may be given in terms though no doubt experts may speak as to the likelihood of any of the debtor's assets or capacities yielding ready cash in sufficient time to meet the debts as they fall due."

I do not think this passage should be applied loosely. Its careful language requires that assets the availability of which may preclude a finding of insolvency must be capable of yielding, within an appropriate interval, the moneys needed to enable the debtor to pay his debts as they fall due. The length of the interval to be taken into account will depend upon a number of factors, the nature of which is briefly indicated by Barwick C.J. In my opinion, the most generous application of this passage to the facts of the present case would be insufficient to shake the conclusion that Mr Howe and Mr Tricker were both insolvent well before 4 December 1986 and up to the times of their respective bankruptcies.
The next issue is whether the effect of the bill of sale, and of each payment, was to give Marine Power "a preference, priority or advantage over other creditors". In the circumstances, there can be no doubt there was such an effect. There were other creditors, and the amount available to make pro rata payments in respect of their debts has been reduced.
The real issue is whether the respondent has discharged the burden of showing that it was a "payee or incumbrancer in good faith and for valuable consideration and in the ordinary course of business". The task of proving such a defence is made harder for the respondent by the terms of s.122(4)(c), by virtue of which the respondent "shall be deemed not to be a ... payee or incumbrancer in good faith if the conveyance, transfer, charge, payment or obligation was executed, made or incurred under such circumstances as to lead to the inference that the creditor ... had reason to suspect" the two matters set out in the sub-section - which may be summarized as insolvency and preference over other creditors. The meaning of this provision was explained by Kitto J. in Rees v. Bank of New South Wales (1964) 111 CLR 210 at 222-223. What the sub-section looks to

"is the immediate effect, so that a creditor who receives a payment from the debtor cannot be held to be a payee in good faith if, at the time of receiving it, he knows or has reason to suspect that the debtor is unable to pay his debts and that the payment, if allowed to stand, will place him in a better position vis-a-vis other creditors than he would occupy if the debtor became bankrupt with the amount unpaid."

In applying the test formulated by Kitto J., it is appropriate to consider what "any reasonable businessman in the position of (the respondent) must have suspected" and to consider whether the respondent "knew that there were other creditors, so that any reasonable businessman in his position must have suspected that (the transaction) would give the (respondent) a preference over the other unsecured creditors": Downs Distributing Company Proprietary Limited v. Associated Blue Star Stores Proprietary Limited (in liquidation) (1948) 76 CLR 463 at 481, per Williams J.

It seems to me that any reasonable businessman in the position of the respondent would have considered what I have earlier described in these reasons as "the most natural inference" to be drawn from the long continued failure to pay so large a debt, despite the importance for the debtors of their relationship with the creditor and despite continuous pressure for its reduction. In Sandell v. Porter (supra) at 672, Barwick C.J. considered that non-payment of a relatively small debt for a period of about four months "may lead to a suspicion that the debtor is not merely unwilling but in fact unable to pay it," and he contrasted that suspicion with actual proof of the fact of inability. For present purposes, it is not the fact which is in question; the question is whether "the creditor ... had reason to suspect" insolvency. When all the circumstances known to Marine Power, which I have summarized, and which were detailed at greater length in the evidence, are taken into account, I think that it is plain that Marine Power did at each of the relevant dates have reason to suspect that each of the debtors was in fact unable to pay his debts as they became due from his own money.
In some cases, of course, that conclusion would leave a real question whether the creditor also had reason to suspect that the effect of the transaction would be to give him a preference. But in the present case it is clear that, from at least 12 November onwards, Marine Power knew of the existence of other creditors. Their existence was disclosed on that day, and the stringency of the debtors' position made it almost certain that those creditors would not have been paid. So far as the obtaining of the $26,800.00 is concerned, Mr Evans was specifically requested to permit payment of other creditors to be effected out of some part of the money, a request which would have reminded him, had there been any chance of his forgetting, of the situation which had previously been made known to him. Accordingly, I am also satisfied that Marine Power had reason to suspect that the effect of the execution of the bill of sale, and of each of the payments which are at issue in these proceedings, would be to give it a preference priority or advantage over other creditors.
The conclusions I have so far reached are in themselves sufficient to establish the case for the trustee in each application. However, I should add that I am also satisfied that Marine Power has failed to discharge the burden of proving, as it must prove to make out a defence under subs. 2, that the transactions were "in the ordinary course of business".
What a creditor has to establish in order to show that a transaction was "in the ordinary course of business" is well settled. In Downs Distributing Co. (supra) at 476-477 Rich J. said of this element of a defence under the subsection:

"It is an additional requirement and is cumulative upon good faith and valuable consideration. It is, therefore, not so much a question of fairness and absence of symptoms of bankruptcy as of the everyday usual or normal character of the transaction. The provision does not require that the transaction shall be in the course of any particular trade, vocation or business. It speaks of the course of business in general. But it does suppose that according to the ordinary and common flow of transactions in affairs of business there is a course, an ordinary course. It means that the transaction must fall into place as part of the undistinguished common flow of business done, that it should form part of the ordinary course of business as carried on, calling for no remark and arising out of no special or particular situation."

In Taylor v. White (1964) 110 CLR 129 at 136, Dixon C.J. said:

"The time-honoured phrase 'in the ordinary course of business' is meant to refer to transactions regularly taking place in a sustained course of activity or some usual process naturally passing without examination."

Dixon C.J. went on to refer to what Lord Mansfield said in Rust v. Cooper (1777) 2 Cowp 629 at 634; 98 ER 1277 at 1280:

"There is a fundamental distinction between an act like this, and one done in the common course of business. ... If, in a fair course of business, a man pays a creditor who comes to be paid, notwithstanding the debtor's knowledge of his own affairs, or his intention to break; yet, being a fair transaction in the course of business, the payment is good; for the preference is there got consequentially, not by design: it is not the object; but the preference is obtained, in consequence of the payment being made at that time".

It would be an indulgence to engage in an elaboration of all the aspects of the transactions here in question which demonstrate how far they depart from these standards. The mere statement of what is required reveals the difference. What occurred here was nothing like a normal course of business. At best there was a rescue operation, an attempt to remedy a desperate situation - at worst there was the collection of a large and chronic debt by brutal pressure.
For these reasons, each application succeeds. I direct the applicant to bring in, on a date to be fixed, short minutes of orders to reflect the decision of the court. The respondent must pay the applicant's costs in each case.

[1990] FCA 22

16 MARCH 1990