Madsen Reis v Donovan Drainage and Earth Moving Limited
[2015] NZHC 1081
•20 May 2015
IN THE HIGH COURT OF NEW ZEALAND AUCKLAND REGISTRY
CIV 2014-404-003352 [2015] NZHC 1081
BETWEEN VIVIEN JUDITH MADSEN REIS AND
HENRY DAVID LEVIN Applicants
AND
DONOVAN DRAINAGE AND EARTH MOVING LIMITED
Respondent
Hearing: 15 May 2015 Appearances:
P C Murray and M Hammer for the Applicants
D Grindle for the RespondentJudgment:
20 May 2015
JUDGMENT OF ASSOCIATE JUDGE CHRISTIANSEN
This judgment was delivered by me on
20.05.15 at 4:30pm, pursuant to
Rule 11.5 of the High Court Rules.
Registrar/Deputy Registrar
Date……………
V J MADSEN REIS AND H D LEVIN v DONOVAN DRAINAGE AND EARTH MOVING LIMITED [2015] NZHC 1081 [20 May 2015]
Background
[1] The applicants are the liquidators of Te Pua Road development Limited (In liquidation) (the Company).
[2] The applicants apply pursuant to ss 292, 294 and 295 of the Companies Act
1993 (the Act) to set aside and to require repayment of the following sums paid by the Company to the respondent (Donovan Drainage) totalling $184,978.01:
1. $120,000.00 20 November 2008
2. $7,441.00 2 September 2008
3. $8,780.63 19 January 2009
4. $48,756.38 19 January 2009 (the transactions).
[3] The applicants were appointed liquidators by order of the High Court at
Auckland on 30 June 2010 at 10:30am.
[4] The applicants claim the transactions enabled Donovan Drainage to receive more towards satisfaction of a debt than it would otherwise have received or be likely to have received in the liquidation of the Company.
[5] The claims of creditors filed in the liquidation of the Company totalled
$251,451.01 of which the sum of $112,231.62 is a preferential claim by Inland Revenue for Goods and Services Tax (GST). The assets in the liquidation of the Company are unable to fully repay Inland Revenue’s preferential claim.
[6] The transactions were within the two-year “specified period” as defined in
s 292(5)(b) of the Act.
[7] The applicants notice to set aside the transactions was effected on Donovan Drainage on 4 September 2014. In reply, on 29 September 2014 Donovan Drainage served its notice of objection.
The applicants evidence – an overview
[8] Evidence in support of the application has been provided by the affidavits of one of the applicants, Mr Levin. Mr Levin deposes to having had extensive experience in handling claims arising from the pre-liquidation conduct of companies in liquidation, including claims for insolvent transactions against creditors.
[9] Mr Levin’s enquiries reveal that Mr Erasmus was a director of the Company from the date of its incorporation of 4 April 2007, until liquidation. The Company’s sole shareholder was Global Business Link Limited (GBL). The company traded as a land developer.
[10] The sole director of Donovan Drainage was Mr P F Donovan (Mr Donovan). Donovan Drainage has filed a claim in the liquidation for the sum of $39,966.75 for services invoiced to the Company in February 2009.
[11] Donovan Drainage provided drainage services to the Company between June
2008 and February 2009. Mr Donovan submitted invoices for 30/9/2008 ($127,441.69), 31/10/2008 ($48,756.38), 30/11/2008 ($8,780.63), and 28/2/2009 ($39,966.75). Only the latter of those was not paid.
[12] All of Donovan Drainage’s invoices recorded they were payment claims under the Construction Contracts Act 2002.
[13] Mr Levin has obtained an email from the Company’s office manager (Mr
Visser) to fellow company officers recording a visit with Mr Donovan on 28 October
2008. The email states:
I made a site visit today and the project is looking fantastic, the power both over head and under ground have been installed and will be connected by the end of this week. Thomson Survey will have a team on site before the end of the week and will complete the easement survey for the power lines, 223
is expected by the end of this week and we could be applying for 224c by next week, it could take up to two weeks for the approval, Nicolene indicated that we should then allow LINZ another 18 days to title, could be sooner if we are lucky.
Outstanding Account for Donovan Drainage:
I went to Donovans Drainage today to break the news that we do not have the funds available at present to pay our outstanding accounts due to the finance mess. Not a pleasant job.
Well as it was to be expected Peter Donovan was not a happy man as he has to date spent about $150,000.00 on our project and upon completion including the fencer will have spent about $190,000, he did however appreciate the fact that I presented our case in person and therefore feels that he could trust us.
We agreed to the following.
Peter will continue and complete the job; he will inform the fencer as they have a business arrangement.
I offered:
1. 15% interest per annum.
2. I have submitted a GST claim (based on DD first invoice submitted)
which will result in a $14000.00 refund which I will be paying over to
Donovan Drainage.
3. We will provide DD with security; he prefers lot 8 on Baldrock as the only mortgagee registered is Alan Collins not a bank as he does not want any lots on Te Pua. I have spoken with Alan and he has indicated that he will approve it.
4. Peter Donovan would only want the security if the bank did not allow a roll over and or they came up with ridiculous terms, he would also like it to
be indicated that he is a preferred creditor and upon settlement of lot 5, will
want to be paid in full including interest.
[14] Mr Levin advises that a search of company records has not located an offer put by the Company to Donovan Drainage.
[15] It is Mr Levin’s view that the transactions were made after the Company became insolvent and unable to pay its due debts and because the transactions were made at a time when the Company had insufficient funds to pay those. In Mr Levin’s view the Company was unable to pay its due debts from at least 31 March
2008.
[16] The financial statements for the financial year ending (FYE) 2009 record the
Company had for the FYE 2008 negative assets/a trading deficit of $219,137.
[17] The financial statements for the FYE 2009 record that the Company had for the FYE 2009 negative net assets of $67,072 and a net trading surplus of $152,065.
[18] Mr Levin comments that whilst the financial statements recorded significant work in progress he said this did not reflect the value the Company could have accessed to pay its current non mortgage debts because proceeds from the sale of the subdivided property were committed to its bank under mortgages granted over the development properties. Further in the liquidation outcome the bank suffered a shortfall of $63,290.06 from its realisation of its mortgage securities and has submitted a claim in the liquidation as an unsecured creditor for that shortfall.
[19] Company records disclose that from a development lot property sale the Company received $232,977.72 into its bank account on 16 January 2009. Meanwhile on 20 November 2008 the Company received bridging finance of
$120,000 from a related party trust which the Company utilised that day to pay
Donovan Drainage.
[20] It also appears the Company received finance from GBL, the Company’s sole
shareholder, which enabled the payment of $7,441 to Donovan Drainage on 2
December 2008.
[21] Mr Levin deposes that the $120,000 bridging finance was repaid on 19
January 2009 from the net sale proceeds deposited three days earlier. On that day also the Company made two payments to Donovan Drainage in the sums of $48,756 and $8,780.63.
[22] Mr Levin records that the Company’s indebtedness to Inland Revenue began accruing when the Company failed to pay GST in the amount of $63,870.74 for the period ended 31 January 2009, which debt was incurred in the outcome of the property lot sale earlier referred to herein.
[23] Mr Levin says that debt was not paid because of the refunds paid of borrowings obtained for the purpose of paying Donovan Drainage.
[24] Mr Levin concludes the Company was unable to pay its debts from at least 31
March 2008 because of its negative net asset position, and its inability to meet Inland Revenue obligations from 31 January 2009. Despite having received net sale proceeds the Company was required to borrow funds from third parties to pay its debts and the Company’s due debts exceeded money available to the Company to satisfy those debts.
[25] On 14 November 2012 Mr Levin wrote to Donovan Drainage noting Donovan Drainage’s improvement in position (on a running account analysis) during the specified period amounted to $87,474.25 and requested evidence be provided to him showing inter alia that no element of preference was provided to Donovan Drainage by the payments received.
[26] A letter from Donovan Drainage’s lawyer dated 4 December 2012 in reply advised that Donovan Drainage did not know about the Company’s financial difficulty at the time the payments were received.
[27] On 19 March 2013 the liquidators issued a notice to Donovan Drainage setting aside the transactions on the basis that there was a running account balance between the parties.
[28] That calculation was made by deducting from the sum of $127,441.69 owed at 30 September 2008 (peak indebtedness), the sum of $39,966.75 which remains unpaid of invoices submitted.
[29] Subsequently having obtained a number of documents from Donovan Drainage’s lawyers, Mr Levin reached the view that there had been no running account between the Company and Donovan Drainage. The liquidators then issued a new notice to set aside the transaction by which full recovery was sought of the three invoices that had been paid by Donovan Drainage.
Opposition to the application
[30] In its notice of opposition Donovan Drainage responds by claims that the payments did not constitute an insolvent action; that the Company was not insolvent or unable to pay its due debts given the nature and circumstances of its business; and that Donovan Drainage received the payments in good faith and for value or altered its position in reliance on the validity of the payment.
[31] Mr Donovan deposed that after the Company had accepted Donovan Drainage’s contract offer he received a 2007 valuation of the development property showing a mortgage valuation of $1.2M indicating a maximum amount of $800,000 could be advanced by way of first mortgage. The value also assessed the developed value of the five lots approved for subdivision in a total sum of $2,085,000.
[32] Mr Donovan deposes that by the end of October 2008 works had been done and two invoices were submitted in sums totalling $176,198.07.
[33] Mr Donovan says it was about that time that Mr Visser the Company’s representative came to his office and informed him the Company did not have the cash flow available to pay the net outstanding invoices by the due date. Mr Donovan said it was never suggested or implied that the invoices would not be paid but it was only indicated there would be some delay.
[34] Mr Donovan said he expressed some concern and Mr Visser in good faith offered security over one of the development lots. Mr Donovan says it appeared there was more than sufficient value in the subdivision to meet all of the expenses given the Company appeared to have considerable equity in the property.
[35] Mr Donovan says that on 24 July 2013 he received an email from the Company’s sole director Mr Erasmus attaching a draft notice of objection to the application to set aside voidable transactions served on him by the applicants. Mr Donovan notes that draft notice set out the price of which three of the lots sold between January and May 2009.
[36] The three lots sold for $1,097,500 of which $575,000 was required for repayment to the bank.
[37] Mr Donovan explains that prior to the global financial crisis it was normal in a property development/subdivision context for payments to be made late; that those would be made only after the local authority had approved the survey plan under the Resource Management Act 1991 in order that it could be lodged with the Land Transfer office for the issue of certificates of title for the individual lots being subdivided.
[38] When the resource consent to subdivide is obtained such consent would contain conditions, usually requiring the developer to put in roading, drainage, electricity and other infrastructure and only when this had been completed would the local council “sign off” on the development. Until the development had been “signed off” by the council the subdivided titles could not issue and it was only when those titles were issued that a developer had something to sell or complete the sale of any “pre-sold” or conditional sales of titles.
[39] Mr Donovan explains that until that point is achieved the developer is in the business of incurring development costs. This meant that contractors would often only be paid after the developer had received the proceeds of sale of the subdivided lots. Although those payments were required within a month of issue of an invoice there is routinely a breach by the developer of those contractual arrangements. Such, Mr Donovan says, is the “nature of the game” in the civil engineering property development sectors. In Mr Donovan’s experience, property developers do not have a reputation for prompt payment and those developers will make you wait until they are paying you with other people’s money i.e. from the proceeds of sale of the lots.
[40] Mr Donovan said it is normal course for developers to borrow heavily from banks and it is also normal for the project promoters to have to inject capital, or obtain loans throughout the development to see the project through to completion.
[41] Regarding the payments made to Donovan Drainage of $120,000 on 20
November 2008, and $7,441 on 2 December 2008, Mr Donovan says he had no knowledge that funds had been borrowed from private sources on a temporary basis.
[42] Mr Donovan notes that by the end of October 2008 the bulk of the work contracted for had been completed and Donovan Drainage had already done more work than originally contemplated by the contract acceptance form.
[43] Mr Donovan says that when the sum of $120,000 was received on 20
November 2008 he assumed the council had approved the survey plan. Mr Donovan gave no further thought to the need for any security for payment. When the October invoice for $48,756.38 and the December invoice for $8,780.63 were paid all accounts were at that time paid up to date. Mr Donovan says from the perspective of Donovan Drainage there were no signs of the Company being insolvent or even having any further cash flow problems. He said:
To the contrary, in the context of property development, we considered we were being paid rather promptly.
[44] This led Mr Donovan to believe the development project was “back on track”. He was aware the Company’s parent company, GBL was under taking other developments in Northland. He said;
The industry is in some respects rather small, and if there were rumours or suspicions of the Company or Global Business Link Limited being in financial trouble, then I would certainly have expected to hear them.
[45] Then Donovan Drainage was asked to complete the fencing for the development. It was at the conclusion of that that Donovan Drainage issued an invoice for $39,966.75.
[46] In a supplementary affidavit sworn by Mr Donovan he reported that Donovan Drainage had a wide client base and had been engaged by local bodies, Transit NZ, and private individuals; that it had completed works from Maungawhai Heads to Cape Reinga.
[47] While it was Donovan Drainage’s practice to submit payment claims for payment by the 20th of each month there was always some flexibility about the timing of the payments and it was not uncommon for a principal wanting for various reasons to alter the time for payment of an account.
[48] Practices then, Mr Donovan says, are different from what they are now. He said it was ordinary practice for surveyors and contractors to have large amounts owing on the strength of the sale of properties and this led to more flexibility than would be tolerated now.
[49] Nowadays it is not uncommon, Mr Donovan says, to have a client offer to pay interest or to offer a subdivision lot as security in order to ameliorate the implications of the Construction Contracts Act which gave rights to contractors to stop work or to adjudicate.
[50] It was Mr Donovan’s experience that payments would be realised by the
client on engineer signoff or the issue of the local body consent.
[51] Regarding the Company’s development, Mr Donovan comments that there appeared nothing speculative about it; that it was a small semi-rural development of around eight sections and he had been told that three were presold. In Mr Donovan’s experience it was normal for a developer to pre-sell sections to cover the cost of development and the cost of the land.
[52] Mr Donovan records that earlier in 2008 Donovan Drainage did work for other companies that Mr Visser was director of and “that development went without a hitch and without any adverse financial consequences”.
[53] Mr Donovan says the company’s development progressed well, sections were presold and local body consents were issued – all of which provided indications the Company was solvent. Regarding Mr Visser’s visit on 28 October 2008, Mr Donovan says such was in the context of their industry, not unusual; that he was aware the Company had temporary cash flow issues but that nothing was done or said by Mr Visser that put him on notice as to the Company’s insolvency.
[54] Mr Donovan provides a different account of the circumstances of Mr Visser’s visit on 28 October 2008 to that offered by Mr Levin. Much of the meeting, he said, referred to the positive nature of the development; that Mr Visser was complimentary of the work Donovan Drainage was doing; and expressed positive outcomes for the development as a whole. Obviously, he says, there was a discussion regarding a temporary inability to pay but he recalls Mr Visser saying there was significant equity in the remaining sections and he was approaching the bank to get a rollover of funding. Although the possibility of security was discussed Mr Donovan says there was no mortgage and no security because a short time later funding became available and Donovan Drainage was paid.
[55] Regarding the invoices issued, Mr Donovan comments that by the time the first invoice for $127,441.69 was issued Donovan Drainage had completed the majority of the work under the contract; that all of the work for the second invoice issued on 31 October 2008 was completed prior to Mr Visser’s unannounced visit on
28 October 2008; that the third invoice related to a payment due to Donovan Drainage’s roading subcontractor and the fourth invoice related to fencing subcontractor costs.
Applicants’ response
[56] In response Mr Levin has filed an affidavit. He refers to Mr Donovan’s claims that it is normal in the property development industry for payments to be late and for developers to borrow heavily. He says he does not consider those comments should detract from evidence of the Company’s insolvency or Mr Donovan’s knowledge of that.
[57] Mr Levin says in his experience insolvency is not an uncommon occurrence in the property development industry which is a reason why property developments have a relatively high failure rate and significant consequent losses to creditors. Property developers are, Mr Levin says, often undercapitalised and fail to pay creditors on time. Because of this, he deposes:
A failure to be able to pay debts when they fall due and a need to obtain
‘emergency’ finance from related parties to meet overdue payments do
nothing to suggest that a company is not insolvent.
[58] In his view Mr Visser’s email was an indicator of the Company’s insolvency,
rather than just a mere payment delay.
[59] Regarding Mr Donovan’s reliance on the Company’s valuation of the land Mr Levin notes that the proceeds of the land are not available unless and until the land is sold and even then they are charged to the mortgagee. He says land valuations are no indicator of a company’s ability to pay its debts when due because they do not indicate cash available. Mr Levin notes Mr Visser told Mr Donovan about the “finance mess” and that it was the cause of the Company’s inability to pay its due debts.
[60] Mr Levin understands the reference to “finance mess” to be the global financial crisis. Mr Levin notes in the context of the global financial crisis, a land valuation may not be a reliable indicator of ultimate land value. He believes Mr Donovan given his experience in the industry would have known and still knows this to be the case.
[61] Regarding Mr Donovan’s claims that he would have expected to hear rumours or suspicions of the Company being in financial trouble, Mr Levin considers those are irrelevant in this case because Mr Donovan was placed on clear notice by the Company itself of its financial troubles.
[62] Mr Levin says that when Mr Visser met Mr Donovan on 28 October 2008, the Company was “deeply insolvent”. The Company recorded significant negative net assets in the financial years ended 2008 and 2009.
[63] In an updating affidavit very recently filed Mr Levin confirms the Inland
Revenue’s debt totals $202,621.56 of which $168,758.24 is a preferred claim.
Considerations
[64] The applicants original notices to set aside a voidable transaction were based on there being a running account between the Company and Donovan Drainage for the purposes of s 292(4B) of the Act. By that notice an applicant sought repayment of the sum of $87,474.25.
[65] The applicants say that after further information was provided by Donovan Drainage it became clear there was no running account between the parties because the building contract whereby progress claims are made separately and in isolation from each other does not constitute a running account.
[66] Accordingly a further notice to set aside was issued claiming the repayment of the total amounts of invoices paid.
[67] Whether or not there was a running account between the parties is not at issue in this proceeding. The total creditor claims are now $309,377 and this includes Donovan Drainage’s unpaid invoice for $39,966.75.
[68] At the date of liquidation the Company had no assets available for realisation and distribution to unsecured creditors.
[69] Voidable transaction claims concern payments to an unsecured creditor within the two year statutory specified period prior to liquidation. As Mr Murray, by his submissions, observes, the voidable preference provisions are not concerned with achieving fairness as between the creditor and the Company, but rather fairness between the creditor and other similar creditors.
[70] It is not an issue in this case that the payments of Donovan Drainage’s invoices were transactions and occurred within two years of the appointment of a liquidator.
[71] The Court’s focus is upon circumstances prevailing at times when a payment is made. The Court will focus upon earlier evidence if any regarding a debtor’s ability to pay debts as they became due i.e. as they become legally due.
[72] The Court’s focus is usually upon an immediate availability to provide payments from cash and non cash resources. An ability to provide sufficient funds to pay debts by realisation by sale or mortgage or pledging assets within a relatively short period of time will satisfy the test.1
[73] Considerations of solvency require review of a company’s financial position as a whole. A temporary lack of liquidity does not necessarily evidence insolvency and that is why a view of the Company’s position is required over a period of time.
[74] In this case Donovan Drainage disputes the Company was insolvent at the time each of the payments was made. Relying also on s 296(3) of the Act Donovan Drainage alleges the payments to it were received in good faith and that it gave value or altered its position in reliance on the validity of those payments.
Insolvency of the Company
[75] It is Mr Levin’s assessment the Company was unable to pay its due debts from at least 31 March 2008 because:
(a) The Company was trading with negative net assets in FYE 31 March
2008 and FYE 31 March 2009 and therefore its liabilities were greater than its assets and was therefore “balance sheet insolvent”.
(b)Although the financial statements showed a significant value for work in progress in those two years that asset was really only about the value of the Company’s real estate; and because that real estate was mortgaged any proceeds of sale were committed to the bank; and it is clear the bank’s debt was not fully covered because at liquidation the bank submitted an unsecured creditors claim for a shortfall of
$63,290.06.
(c) That the prospect of future income being received from land
development projects may not be sufficient to support a debtor’s claim
1 Blanchett v Joinery Direct Limited HC Hamilton CIV 2007-219-1690, 23 December 2008 at [26]
and [27].
that it could pay its debts as they fell due; that consideration ought to be given as to whether the projects in hand could be regarded as immediately realisable or obtainable.2
(d)The prospect of the Company receiving income from the sale of properties is not determinative when assessing whether the Company could pay its due debts; that in the present case sale proceeds could not be “income” as those were mortgaged to the bank.
(e) That at the date of liquidation the Company was balance sheet insolvent and had a significant shortage of working capital.
[76] Mr Levin’s enquiries revealed the Donovan Drainage invoices were unable to be met without the assistance of bridging finance and the net proceeds of the sale of a development lot. In short, the Company had to borrow funds to pay its creditors. Even after the sale of the development lots there was insufficient to meet all of the Company’s liabilities including its tax liabilities.
[77] The Company became indebted to Inland Revenue when it was unable to pay
GST upon that development lot sale which sum was due for the period 31 January
2009. The debt to Inland Revenue accrued because of the extent of payments already made by the Company to Donovan Drainage and to the related bridging finance interests.
[78] Mr Murray submits that a failure to pay GST tax obligations on a regular basis is a sure sign of a company in financial trouble; that indeed there is no better example of a company being unable to pay its due debts than a company that fails to pay GST.
[79] Mr Murray concludes that on an objective assessment in the period leading up to and at the time the payments were made the Company did not satisfy the solvency test but rather had a number of legally due outstanding debts it could not
satisfy; that it was not an issue of temporary lack of liquidity but rather a chronic lack of working capital.
[80] Addressing Mr Donovan’s evidence that it was normal in the property development industry for payments to be made late and for developers to borrow heavily, Mr Murray refers to Mr Levin’s reply that whilst late payments may be common in the industry that does not detract from the Company’s insolvency.
[81] On review it is Mr Murray’s submission there is no evidence to suggest that at any time from 20 November 2008 to 19 January 2009 the Company obtained solvency.
The Company’s obligations of proof in its opposition
[82] Section 296(3) provides:
A court must not order the recovery of property of a company (or its equivalent value) by the liquidator, whether under this Act, any other enactment, or in law or in equity, if the person from whom recovery is sought (A) provides that when A received the property–
(a) A acted in good faith; and
(b) a reasonable person in A’s position would not have suspected, and A did not have reasonable grounds for suspecting, that the company was, or would become, insolvent; and
(c) A gave value for the property or altered A’s position in the reasonably held belief that the transfer of the property to A was valid and would not be set aside.
[83] Donovan Drainage must prove it acted in good faith and that there was no suspicion or reasonable grounds for suspecting insolvency and that it gave value reasonably believing the payment to it was valid and would not be set aside.
[84] It is clear from the decision of the Court of Appeal in Timber World Limited v Levin3, that a payee must show an honest belief that the payment would not have involved any element of undue preference to him/herself which test will likely fail where the payee has actual or implied knowledge of the Company’s financial
difficulties due to its cheques being dishonoured or its failure to pay debts on time or in other circumstances indicating serious cash flow problems.
[85] As Associate Judge Abbott noted in that case an objective analysis is required by reference to a reasonable person having the knowledge and experience of the “average business person”. Then a subjective analysis is required about what was in fact known by the payee and whether that should have provided reasonable grounds for suspecting insolvency.
[86] The question in this case is whether Mr Donovan had good reason to suspect the Company would not be able to pay its debts as they became due and in particular also that other creditors might be affected if payment was made to Donovan Drainage.
[87] In this case Mr Donovan knew there was no immediately available money for payment of debts as they became due. It should follow therefore that Donovan Drainage had every reason to suspect the Company was unable, from its own money, to pay debts as they fell due.
[88] Mr Murray draws support for this proposition from the Hymix case wherein the High Court found at the debtor company was hopeful it could trade out its liquidity crisis; that the creditor was aware of this and was prepared to share that hopefulness; and was why the creditor took a mortgage as security. In that case the Court concluded:
… a creditor cannot say: “I knew my debtor did not have the ready money, but I hoped and indeed expected, that its ventures would be successful in that it would have the money within a fairly short time; however, as there was no ready money, I took security instead”. Such an approach by a creditor belies a lack of suspicion of the debtors ability to pay his debts from his own money as they became due.
Whether value given or position altered
[89] It is now clear from the Supreme Court’s recent decision in Fences and Kerbs
Limited v Farrell4 that value may be given for work for which payment was received
provided the payee shows it acted in good faith when receiving that payment and that there were no reasonable grounds to believe the Company was technically insolvent.
[90] It is Mr Donovan’s evidence that the payments were accepted in good faith and with no knowledge of insolvency; that it was normal in the property development industry for payments to be made late and for developers to borrow heavily.
[91] In this case the applicants say there was not a sufficient element of good faith because Donovan Drainage had actual or implied knowledge of the Company’s financial difficulties in circumstances which should have indicated serious cash flow problems.
[92] Mr Murray submits Donovan Drainage cannot establish a reasonable person in its position would not have suspected the Company was or would become insolvent and did not have reasonable grounds for suspecting that the Company as or would not become insolvent.
[93] Mr Murray focuses in particular on Mr Visser’s email following a conversation with Mr Donovan informing him of the Company’s inability to pay two invoices. Those discussions, and the overdue payments in question, should have provided reasonable grounds for suspecting the Company was or would become insolvent.
[94] As Mr Murray notes the email records Mr Visser’s advice that the Company was unable to pay the outstanding invoices because of the “finance mess” albeit that Mr Levin accepts that phrase was a reference to general economic times.
[95] Mr Murray submits it is difficult to consider a more clear cut statement by the Company that it was unable to pay its debts. He submits the email is a more reliable record of the conversation than Mr Donovan’s retrospective account because it recorded that Mr Visser has gone to “break the news” and that Mr Donovan “was not a happy man”.
[96] Therefore, even if Mr Donovan did not honestly suspect the Company was or would become insolvent, by contrast a reasonable person in his position would have. From an objective point of view Mr Murray submits the conversation would have caused “actual apprehension” and therefore that Donovan Drainage cannot establish that it had no reasonable grounds for suspecting insolvency.
[97] Further, Mr Murray submits that the circumstances following the conversation also provided reasonable grounds for concern because the Company failed to meet its debts on their due dates, it drip fed payments to Donovan Drainage and made lump sum payments that did not clear all of the debt, and because the Company eventually failed to pay all outstanding invoices.
[98] Regarding Mr Donovan’s statement that he relied on the Company’s valuation of the land as an indicator of its financial position, there is in contrast the evidence of Mr Levin’s based on his experience with property developments that land valuations are no indicator of a company’s ability to pay its debts.
[99] Regarding Mr Donovan’s claims that he would have expected to hear rumours or suspicions if the Company was in financial trouble, Mr Murray submits that does not address considerations about whether there were any grounds for suspecting insolvency.
Conclusions
[100] The evidence is that before Donovan Drainage contracted with the Company on 4 June 2008, it had been given details of the Company’s trade references and was supplied with 2007 valuations of the development property. Those indicated a combined value of five development lots amounting to $2,085,000.
[101] The evidence is that by the time Donovan Drainage submitted its first payment invoice dated 30 September 2008 it had completed extensive works and by the end of the following month when its second invoice issued Donovan Drainage had completed works including variations which exceeded the original contract value. The third and fourth invoices related to payment for works not originally
contracted for but which were completed by Donovan Drainage’s roading
subcontractor and its fencing subcontractor.
[102] The applicant’s case relies a lot on what Mr Levin has said about his experience and also his review of the Company’s financial statements. A significant focus of Mr Murray’s submissions is the meeting between Mr Donovan and Mr Visser on 28 October 2008 and the resulting email. Mr Grindle submits the applicant’s have overplayed the importance of this meeting in terms of what it might cause a reasonable person in the position of Donovan Drainage to suspect about the Company’s financial solvency.
[103] Mr Donovan has given evidence in Court to provide his account of that meeting. The import of that is Mr Donovan’s claim that the meeting was not as dire as Mr Visser’s email indicated.
[104] Mr Donovan recalls Mr Visser being buoyant regarding positive outcomes and Mr Visser had emphasised the title was to issue in respect of all lots in the near future.
[105] It was Mr Donovan’s view of the problems Mr Visser referred to that issues related to the timing of the different stages of the development rather than financial insolvency.
[106] It is correct that Mr Visser’s email clearly says:
We do not have the funds available at present.
[107] Mr Grindle submits and the Court agrees that that phrase did not contain any suggestion of not being able to pay the debt at all; that indeed there were discussions as recorded in the email that the accounts would be paid upon settlement of lot 5.
[108] The Court agrees with Mr Grindle’s assessment that in the outcome of his discussion with Mr Visser Mr Donovan was not left with a suspicion of insolvency but rather with a sense of trust and perhaps confidence with Mr Visser’s assurance that payment would be made.
[109] Having been served with a notice issued on behalf of the applicants, Mr
Donovan appeared as a witness and was questioned regarding his affidavit evidence.
[110] Mr Donovan has been forthright and honest. He is a very experienced provider of land development drainage services.
[111] The Court’s purpose was to assess Mr Donovan’s evidence to consider whether he acted as a reasonable person would have acted in the circumstances described in connection with that 28 October 2008 meeting with Mr Visser. By that time Donovan Drainage had all but completed all work for which its contract price was accepted. Work done subsequently was subcontract work that had not comprised part of Donovan Drainage’s contract. Immediately prior to this contract Donovan Drainage had completed work for related entities of the Company. Mr Donovan said this was done “without a hitch”.
Suspicion of insolvency
[112] The Court agrees that when making assessments regarding what a reasonable person ought to have known, it is important to understand the context of the events at the time. These events occurred prior to the global financial crisis. Donovan Drainage was an experienced earth works contractor operating in a provincial setting.
[113] Whilst Donovan Drainage had experience with land developers they were in the business of providing ancillary services for property development. They were not developers. They functioned as they knew they would by offering development services in the knowledge that titles had not issued and because their job would largely be completed before titles did issue. Until then any pre development sales would not be settled and payments would not be received from purchasers.
[114] It may now be incumbent upon a contractor to undertake some form of due diligence but there is no suggestion that ought to have been done seven years ago. Mr Levin’s criticism is of the detail he has uncovered, as liquidator, from the Company’s financial statements.
[115] It is Mr Levin’s evidence from his analysis of financial statements that the Company was insolvent even before Donovan Drainage contracted to supply the services it did. In the context of this case that analysis is not helpful. For the applicant Mr Murray concedes that there was no reason why Mr Donovan could have reasonably suspected the company was insolvent prior to Mr Visser’s visit on
28 October 2008.
[116] Mr Donovan’s evidence is that there appeared no cause for concern until Mr Visser visited Mr Donovan. By then a major portion of the work had been completed and invoices totalling $176,198.07 had been delivered.
[117] It does not follow that because there are not cash resources immediately available that debts cannot be paid for there may be access to assets or borrowings to resolve these issues. Indeed as much occurred in this case.
[118] A contractor providing services in good faith may become aware of cash flow problems if an invoice is unpaid but it does not follow that the reason for this is insolvency.
[119] Mr Grindle submits the applicants base too much reliance upon the fact that Mr Visser had said “we do not have the funds available at present” to prove that Donovan Drainage knew of the Company’s insolvency. Instead Mr Visser’s call upon Mr Donovan came as something of a surprise because until then it is Mr Donovan’s evidence that he had no cause for concern regarding the payment expected.
[120] Assessments of reasonableness need to be made in the context of practices prevailing at the time. Mr Donovan’s evidence was that Mr Visser had been candid about an immediate payment issue. He said nothing arose which gave him cause that the company would become insolvent. Mr Visser records that when the meeting ended he felt Mr Donovan had trusted them. It follows Mr Donovan may have no reason to believe the Company was or would become insolvent.
[121] The liquidator’s case rests heavily on the discovery of Mr Visser’s email about two and a half years after the Company’s liquidation. Before then it can be assumed the applicants had no reason to pursue Donovan Drainage for recovery. Much depends therefore upon an analysis of what it is considered the email contains. In the Court’s view it contains too little to persuade the Court that Mr Donovan’s evidence is anything but forthright evidence and his explanations about why he did not for a moment consider the company was insolvent, were appropriate.
Value
[122] It is not in dispute that Donovan Drainage gave value for the payments received.
Good faith
[123] The acceptable evidence in all the circumstances is that Donovan Drainage believed for a short period of time that the Company’s financial woes were temporary and that this belief was reasonable in the circumstances.
Result
[124] The Court agrees with the submission that there was no actual or implied knowledge of financial difficulties but that this case was about perceptions, reasonably held, of short term cash flow issues in a commercial setting and in an economic climate when such beliefs were reasonable; when and where an absence of cash flow is not unusual until titles issue and sections sell.
[125] The Court agrees that Donovan Drainage can avail itself of the protection offered by s 296 of the Act and that with regard to their dealings with the Company they acted in good faith, did not have reasonable grounds for suspecting insolvency and gave value in circumstances where they reasonably believed those payments would not be set aside.
Judgment
[126] The application for orders setting aside Donovan Drainage’s transactions with
the Company is dismissed.
[127] Costs are fixed on a 2B basis. Leave is reserved to apply for further orders regarding the fixing of costs.
Associate Judge Christiansen
0
0
1