Revised Explanatory Memorandum
(Circulated by the authority of the Parliamentary Secretary to the Treasurer, The Hon David Bradbury MP)Chapter 1 - Subordination of claims arising from shareholdings
Outline of chapter
1.1 The Bill amends the rights of those bringing claims for damages in relation to shareholdings under the Corporations Act.
Context of amendments
1.2 The amendments contained in the Bill give effect to a decision of the Government to reverse the effect of the High Court's decision in Sons of Gwalia Ltd v Margaretic and to make other amendments to streamline external administrations.
Summary of new law
1.3 The Bill postpones any claim arising from dealing with a shareholding until all other claims against a company are satisfied.
1.4 The Bill also provides that a person bringing a subordinated claim does not have an entitlement to a copy of any notice, report or statement to creditors unless they make a written request to the external administrator, nor do they have a right to vote as a creditor of the company unless given leave by the Court. The Bill inserts a definition of external administration clarifying that the reforms to voting rights and the right of creditors to receive reports, as contained in the Bill, apply to voluntary administrations, deeds of company arrangement, voluntary and involuntary liquidations, provisional liquidations and schemes of arrangement. The Bill provides that the voting reforms also apply to a meeting of creditors ordered by the Court to vote on a proposed compromise or arrangement under Pt 5.1 of the Corporations Act.
1.5 The Bill also ensures that a person's ability to bring a claim for damages against a company is not restricted by how they acquired shares and whether they continue to hold the shares when bringing an action.
1.6 The Bill amends section 563A of the Corporations Act to provide a definition of debt or claim, to be a debt or claim that is admissible to proof against a company within the meaning of section 533 of the Corporations Act. This provides consistency with the other provisions in the Corporations Act.
1.7 In relation to compromises or arrangements under Pt 5.1 of the Corporations Act, the Bill provides that where the members of a class of creditors are comprised of claimants who are subordinated by section 563A of the Corporations Act, these creditors are bound by a compromise or arrangement entered into under Pt 5.1 of the Corporations Act, notwithstanding that they have not been given leave to vote on the compromise or arrangement.
Comparison of key features of new law and current law
| New law | Current law |
| All claims against an insolvent company arising from buying, selling, holding or otherwise dealing with a shareholding are to rank equally and be postponed until all other claims are paid. | In accordance with Sons of Gwalia v Margareti c some shareholder claims, for example, compensation claims, would not be postponed by section 563A of the Corporations Act. Instead they would rank equally with unsecured creditors in any distribution to creditors, after secured creditors and payment to priority creditors as listed in subsection 556(1) of the Corporations Act. |
| Persons bringing subordinated claims would not be able to receive communications to creditors from an external administrator without making a written request, nor would they be able to vote in an external administration without leave of the Court. | Persons bringing subordinated claims are treated as creditors and entitled to receive communications to creditors from external administrators, without making a written request, and are able to vote in the external administration. |
| There is no restriction on the ability of a shareholder to recover damages against a company based on how they acquired the shares or whether they still hold the shares. | A person's capacity to bring a claim for damages could be affected by how they acquired the shares and whether they still hold them. In Sons of Gwalia v Margaretic , the High Court confirmed that the rule in Houldsworth v City of Glasgow Bank forms part of the Australian law. |
| Creditors who are subordinated under section 563A of the Corporations Act are also bound by a compromise or arrangement under Pt 5.1 of the Corporations Act where they do not have the opportunity to vote at the creditors meeting convened by the Court under subsections 411(1) or 411(1A). | In relation to a compromise or arrangement under Pt 5.1 of the Corporations Act, creditors who are subordinated under section 563A of the Corporations Act are not bound by any compromise or arrangement under Pt 5.1 of the Corporations Act unless they have the opportunity to vote at the meeting of creditors ordered by the Court. |
Detailed explanation of new law
1.8 The current section 563A of the Corporations Act subordinates any claims made by a person in their capacity as a member of the company, whether by way of dividends, profits or otherwise, below the claims of other unsecured creditors against the company. The High Court determined in Sons of Gwalia Ltd v Margaretic , that a compensation claim by a shareholder against a company was not subordinated by section 563A of the Corporations Act. This went against the commonly understood meaning prior to the High Court's decision.
1.9 The Bill provides that payment of a debt owed by a company to a person in their capacity as a member of the company or a claim that arises from the buying, holding, selling or otherwise dealing in shares of a company, is postponed until after all other debts payable by, and claims against, the company are paid. Included in the claims that are postponed by this section would be a claim by a member for the return of capital. The Bill would also ensure that claims for interest in relation to claims that are not subordinated under section 563A would rank higher in priority to claims that are subordinated under section 563A. This maintains the status quo. The Bill is not intended to change the current position that any claim for interest arising from a claim that is subordinated under section 563A would rank in equal priority with the claim that is subordinated by section 563A. [Schedule 1, item 2, section 563A]
1.10 In relation to the use of the word 'dealing' in section 563A, section 9 of the Corporations Act provides that dealing in financial products, which includes shares, has the meaning provided for in Chapter 7 of the Corporations Act. Section 766C of the Corporations Act lists various activities which fall within the definition of dealing, including applying for the issue of a share in a company.
1.11 The Bill does not postpone any derivative claim for indemnity or contribution made against a company that follows a claim made by shareholders. Examples of such derivative claims that are not postponed by this Bill include auditors or officers of a company making claims against the company for indemnity or for contribution towards any liability that they may have to persons who have suffered loss from buying, holding, selling or otherwise dealing with a shareholding of the company.
1.12 The Bill also abrogates the rule in the 1880 decision of the House of Lords in Houldsworth v City of Glasgow Bank 5 App Cas. 317 by providing that how a person acquired shares and whether they still hold them, would not restrict their ability to bring a claim for damages. [Schedule 1, item 1, section 247E]
1.13 In relation to compromises or arrangements under Pt 5.1 of the Corporations Act, section 411 provides that a creditors' scheme of arrangement is binding on a class of creditors only if a majority by number and more than 75 per cent by value of creditors in that class vote for the scheme. The Bill provides that in relation to a meeting convened under section 411(1) in relation to a compromise or arrangement under Part 5.1 of the Corporations Act, creditors subordinated under section 563A are only entitled to vote as creditors if they obtain leave of the Court . The Bill provides that creditors who are subordinated under section 563A are bound by the compromise or arrangement under Pt 5.1 of the Corporations Act, even if they do not obtain the leave of the Court under section 600H (as inserted by this Act) to vote at the creditors meeting convened by the Court under subsections 411 and 411(1A) of the Corporations Act. [Schedule 1, item 1A, section 411(5A)]
1.14 The Bill also amends the Corporations Act so that any person bringing a claim that is postponed under section 563A of the Corporations Act, is not entitled to receive any notice, report or statement to creditors produced by an external administrator, unless they make a written request to the external administrator. The Bill would allow a person to make a single request to receive all reports, notices or statements that have been or will be provided to creditors. The Bill includes a rule in section 600H that creditors subordinated by section 563A are not entitled to vote in external administration, unless given leave to do so by the Court. The Bill inserts a definition of external administration detailing the forms of external administration to which section 600H applies. Section 600H will also apply to the vote of creditors at a meeting ordered by the Court under subsections 411(1) and 411(1A).
1.15 In determining whether to exercise its discretion under section 600H, a court might be expected to have regard to whether the person might reasonably be considered to possess a real financial interest in the external administration . [Schedule 1, item 3, section 600H]
1.16 The Bill provides that where statutory interest is payable under section 563B for claims that are not subordinated by section 563A, that payment of interest for those claims that are not subordinated is to rank above claims that are subordinated under section 563A. This maintains the status quo. [Schedule 1, item 2A, section 563B(2)]
1.17 The following example illustrates the impact of the amendments.
Comparison with the Current Law
A company misclassified the extent of its liabilities and financial status to the market. The share price drops, and lending covenants are triggered causing the company to be placed into liquidation. The report of the liquidator appointed to examine the affairs of the company discloses that liabilities were classified as non-current when current. Aggrieved shareholders assert a claim for compensation based on a breach of continuous disclosure obligations under the Corporations Act.
Prior to Sons of Gwalia v Margaretic , the general understanding was that any claim by a shareholder would rank after all other creditors' claims. Post Sons of Gwalia v Margaretic , it is understood that the aggrieved shareholders compensation claims rank equally with other unsecured creditors, and above other shareholder claims subordinated by section 563A of the Corporations Act.
Post Sons of Gwalia v Margaretic , it is understood that available funds would be distributed so that any compensation claim by members would rank equally in priority with unsecured creditors. In most liquidations, unsecured creditors receive at best a small percentage of what they are owed. Most commonly, any available funds to be distributed are paid to secured creditors and priority creditors. The Bill will provide that what was generally considered to be the law prior to Sons of Gwalia v Margaretic will be in place so that all claims resulting in the buying, selling, holding or otherwise dealing with shares rank in priority of distribution after all other creditors.
In the scenario above, there could be 5,000 aggrieved shareholders, all of whom would be entitled to be provided with information by the liquidator and to attend and vote as creditors at meetings, notwithstanding that upon subordination they may have no real interests in the outcome of the liquidation. Given their numbers and the limited funds available, their votes could significantly affect the efficacy of the liquidation and reduce the returns to other creditors. The amendments provide that such shareholders would now receive reports to creditors only after making a written request, and would now not be entitled to vote as creditors unless the Court grants leave.
Application and transitional provisions
1.18 All provisions in the Bill commence on Royal Assent. The Bill does not operate retrospectively.
Consequential amendments
1.19 There are no consequential amendments resulting from the measures in the Bill.