Hamersley Iron: the next chapter

In the July 2017 edition of the Insolvency Law Bulletin,[1] I examined the first instance decision in Hamersley Iron Pty Ltd v Forge Group Power Pty Ltd (in liq) (Recs and Mgrs Apptd).[2] The appeal of that decision had an air of inevitability, given the breadth of the implications of the decision of Tottle J, and the amounts in dispute.

This article examines the reasons given by the Court of Appeal of Western Australia in Hamersley Iron Pty Ltd v Forge Group Power Pty Ltd (in liq) (Recs and Mgrs Apptd)[3] (Hamersley Iron) for overturning Tottle J’s decision. Like the decision at first instance, and for much the same reasons, an appeal to the High Court seems inevitable.

Background

Hamersley and Forge both had substantial claims against each other. The contracts between them contained set-off provisions. Forge had granted a general security agreement (GSA) registered on the Personal Property Securities Register in favour of the bank. Forge went into liquidation, and receivers were also appointed.

The receivers asserted that the following matters precluded Hamersley from setting-off its claims against Forge:

• In an insolvency context, s 553C of the Corporations Act 2001 (Cth) was the only available avenue via which Hamersley could exercise set-off rights. In other words, s 553C operated to the exclusion of any contractual or equitable rights of set-off.
• Hamersley was unable to avail itself of s 553C because:
  • the GSA created a charge which attached to Forge’s claims against Hamersley
  • that charge was, at the relevant time, a fixed charge and
  • Forge did not, therefore, hold its rights in the claims against Hamersley beneficially.

The above matters were heard by Tottle J as separate questions. They were all determined in favour of the receivers.

Is mutuality destroyed by the PPSA?

The only controversy in connection with the application of s 553C was whether Hamersley’s and Forge’s claims were genuinely mutual as a matter of substance. Having regard to the three criteria for the subsistence of mutuality articulated by the High Court in Gye v McIntyre,[4] the only one relevant was whether the benefit and burden of the claims between Hamersley and Forge lie “in the same interests”.

At first instance, Tottle J found that the operation of the Personal Property Securities Act 2009 (Cth) (PPSA) operated so as to destroy any mutuality. The Court of Appeal, for the reasons that follow, disagreed.

The court found that the critical question was whether, as at the date of the appointment of administrators, Forge was entitled to receive payments due from Hamersley under the contracts between them “for its own benefit, rather than only for the benefit of the bank”.[5] Determining this question involved a consideration of the bank’s position under its financing documents and the operation of those provisions having regard to the PPSA.

Construing the bank’s GSA, the court reached the following conclusions:

• Forge’s claims against Hamersley were circulating assets because they were accounts within the meaning of s 340(1)(a) and 340(5)(a) of the PPSA.
• The appointment of an administrator over Forge would have been a “Control Event” or “Event of Default” under the GSA, which would have triggered control rights on the bank’s part. There was, however, no such event that occurred prior to the appointment of administrators.
• The GSA entitled the bank to take action (such as requiring a control account to be opened, or giving Forge notice not to deal with its claims against Hamersley) but did not do so.
• The GSA permitted Forge to collect its claims against Hamersley which, once collected, Forge may continue to deal with without recourse to the bank, including by paying trade creditors other than the bank.
• Accordingly, the bank had no control over the claims against Hamersley at the relevant time.

It followed from the above, the court found, that as a matter of substance, Forge’s claims against Hamersley were recoverable by Forge for its own benefit (as were funds received by Hamersley from Forge). Accordingly, the necessary mutuality required for the operation of s 553C of the Corporations Act was present.

Attachment and proprietary interest destroy mutuality?

As the court observed, an important aspect of the reasoning of Tottle J at first instance was that upon the attachment of a security interest in collateral, a proprietary interest in that collateral is conferred on the secured party. The court referred also to Tottle J’s conclusions as to the redundancy under the PPSA of the concept of crystallisation of a floating charge. Without engaging deeply with either proposition, the court found that those conclusions did not answer the question of whether attachment of a security interest destroys mutuality. This was so because the PPSA accommodates:

“… a security agreement providing for a grantor to retain the right to use a circulating asset to which a security interest has attached for its own benefit. Any proprietary right in the circulating asset which a security holder gains once its security interest attaches to that collateral allows for that use. Therefore the rights which accrue to a secured party on attachment of its security interest to collateral are not necessarily inconsistent with the maintenance of mutuality between the grantor and its debtors.”[6]

The court similarly considered the Canadian and New Zealand authorities, to the effect that a PPSA security interest is akin to a fixed charge, as unhelpful in ultimately determining the issue of mutuality. The court found that the critical distinction between a fixed charge and the attachment of a security interest under the PPSA is that the latter is capable of accommodating arrangements whereby the grantor may use the collateral for its own benefit.

Ultimately, therefore, the outcome of the appeal turned on the construction of the GSA in the context of the relevant provisions of the PPSA. Notwithstanding the court’s emphasis on the construction of the GSA, there are important questions of principle that are worthy of consideration by the High Court. The facts in Hamersley Iron make the case an appropriate vehicle by which the court can survey the metes and bounds of mutuality, including (but not limited to) when considering the availability of set-off in an insolvency context.

Plainly, the court in Hamersley Iron considered that Forge’s entitlement to deal with funds it received from Hamersley, limited and qualified as it was, was enough to establish a genuine mutuality of interest. Tottle J, on the other hand, considered the subsistence of the bank’s proprietary interest in the amounts owing by Hamersley to Forge as being irreconcilable with substantial and genuine mutuality. It is not possible on the current state of the authorities to confidently identify the better view.

Section 553C as an exclusive code

A second aspect of the first instance decision was whether s 553C of the Corporations Act operates as a “code”. Or, in other words, if it was found that s 553C did not apply to the dealings because the necessary mutuality was not present, whether Hamersley could still rely upon other rights of set-off that would ordinarily be available, such as equitable set-off or contractual set-off. Tottle J held that Hamersley could not.

The Court of Appeal disagreed with this contention for reasons which, in our submission, have force. As the court observed, there is no obvious justification for relieving a bank from the equities (namely the equitable right of set-off) which would otherwise attach to the charged debt. To conclude otherwise would, (as the court concluded):

• produce a windfall to the bank as a result of the insolvency, operating (in this case) to extinguish a right of set-off available to Hamersley immediately prior to an insolvency appointment and
• prejudice the body of unsecured creditors as a result of the whole of Hamersley’s claims being thrown on the funds available to meet the claims of unsecured creditors

It is clear, therefore, that where s 553C applies, a party cannot seek to diminish its operation by asserting the availability of, for example, equitable set-off which applies a less strict test for the existence of mutuality. In the author’s view, the Court of Appeal’s views as to the circumstances where s 553C will and will not operate are correct, and not attended by sufficient doubt so as to warrant further appellate consideration.

Conclusion

The considerable advantage over other creditors which accrues to a creditor to whom set-off is available vis-à-vis an insolvent counterparty ensures that the availability of those rights will always be vigorously contested. In addition to the matters raised in Hamersley Iron, the issue of the circumstances in which (if at all) a debt owing to a company in liquidation may be set-off against an unfair preference has been the subject of great debate amongst commentators and the judiciary. While a grant of special leave in Hamersley Iron is unlikely to be a panacea for the resolution of all of the controversy associated with set-off in insolvency, it is likely to resolve important (and fundamental) questions concerning mutuality which have utility beyond the insolvency context.