NSW case sheds light on insolvency practitioners’ claims against de facto directors

In the case involving Alora Davies Developments 104 Pty Ltd, a company in liquidation, the plaintiff liquidator established a ‘de facto’ director claim enabling the liquidator to pursue recovery for an insolvent trading claim and other voidable transactions. The decision highlights the necessity of appropriate evidence being cited by liquidators to ensure that de facto claims are established, including using the investigative powers available to liquidators to obtain the necessary evidence.

Alora was in the business of property development and was incorporated for the sole purpose of acquiring and developing land, a business venture which ultimately failed and did not proceed. Many of the factual matters were uncontested at the final hearing of the liquidator’s claims. It was also uncontested that the de facto director was involved in the subject property development project, however they contended that they were involved in the project only as an employee of a separate but related corporate entity, connected to the project via a shareholder agreement.

It was accepted that the de facto director undertook work relating to the development project in engaging solicitors, completing finance applications, engaging with real estate agents and managing all matters in relation to obtaining development consent approval. The ‘de facto’ question turned on the capacity in which the de facto director was acting in performing each of these tasks.

In delivering its judgment, the NSW Supreme Court observed that, even if it were true that the de facto director was acting as a project manager of a related entity, this did not assist the de facto director because a person who is acting in one capacity can simultaneously become a de facto director of another company by performing the role of a director.

The liquidator’s de facto director claim

The liquidator alleged that the de facto director, who was the wife of one of the directors, gave instructions to the statutory director and others on how to act. Evidence was cited without objection by another statutory director that the ‘de facto director was the ‘main contact’ between Alora and real estate agents, solicitors, accountants and finance brokers.

Considerable documentary evidence, such as extensive email records bolstered the liquidator’s position, much of which was obtained via the compulsory processes attached to public examinations conducted by the liquidator in advance of commencing the subject litigation.

In the conduct of the subject litigation, the liquidator relied upon activities conducted by the ‘de facto director’ to demonstrate the performance of top-level management functions by them. This included:

• procuring documentation required to carry out the development project;
• procuring funding;
• procuring approval of the relevant development application;
• procuring an extension for compliance with a call option agreement;
• procuring advice from solicitors and real estate agents on behalf of Alora;
• ·negotiating on behalf of Alora to either on-sell the land or enter into a joint venture;
• procuring valuations of the land; and
• procuring documentation with the new purchaser of the land.

The Court’s decision

The Court concluded that the ‘de facto director’ exercised a significant level of responsibility within Alora during the relevant period relating to all aspects of the development and seeking funding from institutional lenders.

The Court highlighted that it was not “the point” that the de facto director may have also been advancing a separate entity’s interests in the role of project manager in performing these functions nor did that detract from the Court concluding that the de facto director assumed the role of a director, since their association did not exclude - and was not inconsistent - with a finding that they had become a de facto director of Alora.

This is an important drafting practice point for transactional lawyers in drafting joint-venture agreements, project management agreements and shareholders agreements in respect of related entities where individuals are wearing different hats.

The Court observed that the documentary evidence such as email chains, file notes with solicitors and correspondence with external third-party financiers, made it plain that the de facto director was sufficiently involved in making, or participating in making decisions, that affected the whole or a substantial part of Alora’s business.

Practical implications for insolvency practitioners

The decision demonstrates how the Courts will approach de facto director claims in external administrations. Insolvency practitioners should ensure that their lawyers carefully identify documentary evidence in support of de facto director claims. Frequently, cross-examination of de facto directors can give rise to evasive or convenient responses endeavouring to resist the relief sought, noting that de facto director claims are difficult to prosecute, substantiate and succeed in.

In this case, the Court was not prepared to accept the de facto director’s uncorroborated evidence about their consultation with other parties or directors and giving instructions on behalf of Alora. The variety and different types of evidence obtained by the liquidator here was essential to elevate the assessment by the Court to a de facto director within the meaning of the Corporations Act 2001 (Cth).

It is notable that the Court considered there was a “manifest inconsistency” between the de facto director’s claimed lack of recollection at an earlier public examination and the affidavit evidence relied upon in liquidator’s proceedings. This finding by the Court highlights the importance of liquidators conducting public examinations to explore potential de facto or shadow director claims.

In this case, the plaintiff liquidator successfully relied upon relevant aspects of the statutory examination transcript in which the de facto director claimed to have no understanding of Alora or the role of the related shareholder company in the property development. During cross-examination in these proceedings, the de facto director was also seen as “evasive” despite plainly understanding the issues in the proceedings. This factor resulted in the Court placing notable weight on documentary records evidencing the de facto director’s engagement with various third parties and other directors, rather than placing any weight on the oral evidence provided by the de facto director at the final hearing, which was largely rejected.

The decision serves as a reminder that even where de facto directors contend that they conduct business activities via separate but related entities - for example as a contractor, employee or otherwise - a court will scrutinise those assertions and look at the surrounding circumstances.

A person’s role or activities conducted separately via a related entity will not prevent a court from making a finding that they also acted as a de facto director. While caution ought to be exercised when pursuing de facto director claims, this decision illustrates that where liquidators avail themselves of their investigative powers, and where there is sufficient evidence available, these claims can be successfully pursued by liquidators and improve prospective returns to creditors in the liquidation of a company.

Co-written by Jemimah George of Pinsent Masons.