Court judgment highlights practical considerations for DOCA enforcement

A recent decision by the Supreme Court of New South Wales (NSW) illustrates how a deed of guarantee and indemnity, binding on the director of a company in financial difficulty, can support the proper functioning of the insolvency process.

The case arose out of a deed of company arrangement (DOCA) entered into by contractor Mikcon Group Australia Pty Ltd after the company entered voluntary administration.

The DOCA set out a path to rescue of the company provided that certain conditions were met, but contained provisions allowing the company’s creditors to intervene – and, ultimately, to force the company to be wound up – if its director and related entities did not comply with the terms of a deed of guarantee and indemnity they had entered into as a condition precedent to the DOCA.

A DOCA is a binding arrangement made between a company and its creditors after the company enters voluntary administration, determining how the company’s affairs will be dealt with.

Implementing a deed of guarantee and indemnity as a condition precedent to a DOCA is a useful tool to improve compliance with essential terms of the DOCA and to maximise its effectiveness. In the event of a breach of the DOCA, a deed of guarantee and indemnity may otherwise allow for a more seamless transition from a DOCA to liquidation or for the enforcement of rights by the insolvency practitioner for the benefit of creditors.

The background

After Mikcon Group Australia Pty Ltd (the Company) fell into financial difficulty, its sole director placed it into voluntary administration, with joint and several voluntary administrators appointed on 9 February 2021. A DOCA, proposed by the director and his associated entities, Mikcon Pty Ltd and Mikcon Plant Hire Pty Ltd (Mikcon Group companies) was executed on 21 May 2021, with the administrators becoming the deed administrators. 

It provided for a DOCA fund made up of two payments: a director contribution of A$120,000 (approx. US$74,000) to be paid by the director within seven days of execution of the DOCA; and ‘Mikcon Group contributions’ of A$2,070,000 to be paid by the Mikcon Group companies in instalments over an extended period of time. 

The DOCA provided that upon its execution the control of the company was to return to the director, with the director to provide the deed administrators with certain financial records and information of the company and to ensure all tax obligations, including lodgements, were made on time, with copies of those tax lodgements provided to the deed administrators within 48 hours of lodgement. 

The DOCA provided that in circumstances where the director and Mikcon Group companies failed to meet three consecutive Mikcon Group contributions or if they failed to lodge two tax lodgements on time or pay the tax on time, then the deed administrators could convene a meeting of the company’s creditors to resolve to vary the DOCA or terminate the DOCA and wind up the company, or approve any other proposal permitted under the Corporations Act 2001 (Cth) (Act). 

Terms of the guarantee and indemnity 

The DOCA had a condition precedent that the director and the Mikcon Group Companies execute a deed of guarantee and indemnity. The guarantee included the following key provisions:

• The director and the Mikcon Group companies guaranteed the punctual performance of all obligations of the Mikcon Group companies in respect of monetary and non-monetary performance in connection with the DOCA;
• If the Mikcon Group companies defaulted on payment of the Mikcon Group contributions, the director and the Mikcon Group companies agreed to pay that money immediately on demand;
• If the DOCA was terminated, other than by effectuation, the director acknowledged and agreed to immediately pay all amounts the Mikcon Group companies were otherwise obliged to pay under the DOCA, as if it had not been terminated, to form part of the assets in any winding up of the company. This clause was expressed to survive the termination of the DOCA and the guarantee;
• Interest was payable by the director and the Mikcon Group companies on unpaid amounts under the guarantee; and
• The director charged his personal property, co-owned with his wife, as security for the obligations of the director and the Mikcon Group companies under the DOCA and guarantee.

Compliance with the DOCA

The Company failed to pay the amounts under two business activity statements for the quarters ending September 2021 and December 2021 and otherwise breached the terms of the DOCA. The deed administrators provided an opportunity for the breaches under the DOCA to be rectified and, when this did not happen, the deed administrators passed a casting vote to terminate the DOCA and to appoint the deed administrators as liquidators of the Company.

At the time of the DOCA being terminated, approximately A$1 million remained outstanding under the DOCA. 

The court was satisfied that the director was obligated under the terms of the guarantee to pay the remaining DOCA contributions, notwithstanding that the DOCA had been terminated. The court observed that ordinarily the termination of a DOCA would discharge the parties from performance of future obligations under the DOCA.

However, the court was satisfied that the guarantee gave rise to a standalone obligation of the director personally to pay all amounts under the DOCA, as if it had survived, which were to form part of the assets of the company in any subsequent winding-up.

The court observed that, had the DOCA survived, the Mikcon Group companies would have been obliged to pay the instalments comprising the Mikcon Group contributions until paid in full. The court also highlighted the mandatory language used in the DOCA in respect of the payment of the director contribution and the Mikcon Group contributions particularly when read in conjunction with the operation of the guarantee.

The court concluded that the Mikcon Group companies were not obliged to pay any of the principal amount after the DOCA had been terminated but found that, by the terms of the guarantee, the Mikcon Group companies were liable to pay interest on the principal amount which was due and payable, but not paid, by the director under the terms of the guarantee.

Appointment of statutory trustees for sale 

The liquidators were successful in obtaining orders for their appointment as statutory trustees for sale of the property under section 66G of the Conveyancing Act 1919 (NSW) (Conveyancing Act). The court considered this to be the most effective manner to realise the director’s interest in the property.

The court was satisfied that the guarantee provided the liquidators with a charge against the director’s interest in the property, such that the liquidators fell within the definition of “co-owners” for the purposes of section 66F of the Conveyancing Act.

The director and the Mikcon Group companies filed a defence in the proceedings which raised the potential for a ‘conflict of interest’ arising between the liquidators acting in their capacity as liquidators of the company and acting in their capacity as statutory trustees for sale of the property.

The director and the Mikcon Group companies did not ultimately appear at the final hearing; however, the court was not persuaded that a real conflict of interest arose where the liquidators and all other claimants to the sale proceeds of the property shared a common goal of maximising the sale price for the property and minimising the sale costs for the property.

The court also included orders that mandated that the net sale proceeds be paid into court to ensure that the court, rather than the liquidators, would resolve any competing claims to the proceeds.  

Practical considerations

To ensure effectiveness of this approach, any deed of guarantee and indemnity should be carefully drafted to ensure that it:

• Gives rise to a standalone obligation on the part of the DOCA proponent in the event of DOCA termination, other than by effectuation, to pay any amounts otherwise required to be paid under the DOCA as if the DOCA had survived and not been terminated and to form part of the assets recoverable by the liquidators in any subsequent winding up and standalone obligation;
• Clearly prescribes that the guarantee and indemnity together with the standalone obligation survive any termination of the DOCA;
• Enables enforcement of the standalone obligation in the event of default under the terms of the DOCA and deed of guarantee and indemnity; and
• Provides for appropriate security to guarantee the payment obligations under the terms of the DOCA and the deed of guarantee and indemnity.