Corporate insolvency: Winners and losers in the pool

By Jennifer Ball.

Key Points:
Pooling arrangements are becoming more popular, but face considerable legal problems. The Federal Government has promised to set up a statutory mechanism for pooling.

Anyone who works in lending or insolvency will recognise the picture. The collapse of a corporate group leaves behind a confusing tangle of accounts, inter-company loans, incomplete asset registers, etc. The liquidator or administrator may spend months or years unravelling the mess and working out just exactly what is owed (and owned) by each company in the group.

Increasingly, liquidators and administrators are turning to "pooling" as a solution. Pooling involves treating the entire group as a single company: the debts and assets of each subsidiary are treated as the debts and assets of the group as a whole. It can be an attractive cost-saving measure even if inter-company accounts are well-kept and clear.

Once a relatively rare phenomenon, pooling is steadily becoming more mainstream, as two recent developments show.

The first was the announcement that the Federal Government intends to introduce a Bill later this year to give legislative effect to pooling arrangements. Currently, there is no statutory mechanism for establishing pools: they tend to be created out of a patchwork of miscellaneous sections from the Corporations Act and a good dose of judicial discretionary power.

Recently, the Federal Court was called upon to consider what would have been the most high-profile example of pooling to date: a proposal to pool the affairs of the Ansett Group. The Court's comments on the Ansett administrators' proposal are a good illustration of some of the problems that pooling can give rise to - and that the Federal Government's amendments will have to address.

The proposed amendments

There is still not a lot of detail about what the Government proposes to do with pooling.

It clearly wants to put pooling on a firm statutory basis. To that end, the basic proposal appears to be that pooling will be allowed where there is no opposition from the creditors or where the Court makes a pooling order. Secured creditors will not be subject to pooling orders.

What appears to be envisaged, therefore, is a two-step process:

• the liquidator or administrator first attempts to get the creditors to agree to pooling; and
• if that fails, the liquidator or administrator asks the Court to make a compulsory pooling order.

The devil is definitely going to be in the detail. The Ansett case shows that both steps are going to be very problematic.

Ansett

In Ansett Australia Limited [2006] FCA 277 the deed administrators of the Ansett Group of companies asked the Federal Court for directions in relation to:

• the manner in which they might vote at proposed meetings of creditors of the companies in the Ansett Group to approve a pooling proposal; and
• the manner of the notification to creditors of the proposed meetings to consider pooling.

The administrators were not yet asking the Court to make a pooling order per se. Nevertheless, an important aspect of the case was the effect that the proposed pooling would have on some creditors. If the companies were all administered separately, the creditors of some companies would benefit from the fact that "their" company had more money than other companies: those creditors would receive a higher payout than creditors of less well-off companies. On the other hand, if pooling was implemented, those creditors would be worse off, because all creditors would share equally from the same pool.

Voting

The administrators were the administrators of each company in the group. In order to get creditor approval for the pooling, it would be necessary to hold meetings of each company's creditors. The administrators would have a casting vote. They would also be voting as administrators of companies that were themselves creditors.

The problem was that, if the administrators voted for pooling, they would in some cases be voting against the interests of those creditors who would be disadvantaged by pooling.

The administrators argued that:

• the Ansett Group had often been run without regard to which precise company should incur a liability or the basis or terms upon which one company could make an asset available to another company;
• without expanding substantial costs, it was impossible and practicable to determine which Ansett Group of companies owned certain important assets;
• if pooling did not occur, the cost of the administration would need to be apportioned among the various companies in the Group;
• if pooling did not occur, significant time and costs would be involved in conducting a proof of debt process for each Ansett Group company;
• no Ansett Group company creditor had objected to or opposed the proposed "pooling".

Decision

Justice Goldberg found no authority that a court can approve a pooling proposal that would significantly disadvantage a number of creditors. He noted that the authorities said that pooling is not justified simply because the administration or liquidation was complex or that the identity of the creditors is difficult to determine.

Justice Goldberg also dismissed the administrators' argument that, even when it had been solvent, Ansett had been run on a pooled basis:

"[T]he evidence does not support the proposition that all the employees, financial institutions and trade creditors regarded themselves as working for, dealing with, or having rights against, the Ansett Group as a whole rather than being in a relationship with a particular Ansett Group company. Particularly is this so in relation to the eighty four employees who are likely to be disadvantaged by the pooling proposal to which the administrators want to cast an affirmative vote."

Overall, he concluded that:

• it was not appropriate for the administrators to vote in favour of a pooling that would be adverse to the interests of a number of creditors of those companies
• although time and cost might be required to determine what charge backs could be raised between various companies of the Ansett Group, it had not been suggested that the task was impossible for all the companies - although it may be complex and costly, that was part and parcel of the administration of a substantial commercial enterprise
• the administrators' estimates of the costs of separately administrating the companies (falling within a range of $9.9m to $24m) was on such broad brush basis that it was of limited assistance in determining the costs of separate administrations - the administrators needed to establish with a greater degree of precision the extent of the extra costs involved in the administration of each of the asset owning companies if there was no pooling
• creditors had not been properly put on notice of the monetary extent to which they might be adversely affected by the pooling proposal.

Conclusion

The Ansett decision highlights the practical difficulties that administrators and liquidators currently face putting together pooling proposals for complex group administrations.

Some of these can undoubtedly be easily addressed by legislative change (by spelling out the requirements for the notices that will have to be sent to creditors, for example). Others, however, are going to be quite problematic. In some circumstances, for example, the group's affairs will be so intermingled that administrators and liquidators may have difficulty in giving creditors any precise idea of how they will be affected by a pooling proposal (conversely, it is precisely those types of creditors who might prefer the certainty of pooling to the uncertain (and delayed) returns from a company-by-company administration).

The other problem area will be determining just how much discretion a Court should be given when deciding whether to override the objections of creditors. Should there be some type of threshold (eg. the Court can order pooling where less than 10% of creditors object) or should the Court be allowed to make a pooling order simply on the grounds that it wouldn't cause substantial injustice?

These issues will undoubtedly stimulate considerable debate when the Government's proposals are finally unveiled.

For further information, please contact Jennifer Ball.