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New Zealand

Voidable transactions - law remains uncertain

The Companies Act 1993 (the Act) changed the law relating to preferential transactions. The definition of preferential transactions no longer requires the transaction to be carried out with a view to preferring a creditor. The intention of the insolvent company to prefer has been replaced by the requirement that the transaction must have resulted in the creditor receiving more in satisfaction of its debt than it would have received in a liquidation. The aim is to secure the equal participation of creditors in such of the company's property as is available in the liquidation.

However, it was also felt to be desirable that traders who deal with an insolvent company should not (and pursuant to section 292(2) of the Act, will not) have bona fide transactions overturned if the transaction occurred in the ordinary course of business.

The application of the ordinary course of business exception has, not surprisingly, proved difficult thus far, as various courts have not been able to agree on whether the test should be subjective, objective, or perhaps some form of hybrid. There have been decisions appearing to support each formulation.

New Zealand is not the only country to have struggled with the meaning of ordinary course of business. Interestingly, New Zealand chose to adopt the troublesome formulation at the same time as Australia was abandoning it because of judicial uncertainty in interpreting what was meant by it. In Re Modern Terrazzo [1998] 1 NZLR 160, Fisher J stated:

New Zealand chose that moment to introduce into its own companies legislation the very phrase which Australia had just discarded. One of us must have got it wrong. Although in these situations right-thinking New Zealanders would normally assume it to be Australia, Barker J conceded in Re: NZ Spraybooth that in this instance 'It is perhaps unfortunate that this phrase was included in the new companies legislation'. He may be right.

The Privy Council had the opportunity to clarify the issue in Countrywide Banking Corporation Limited v Dean [1998] 1 NZLR 385 (PC). The Privy Council, however, side-stepped the issue to a certain extent, stating that there is no need to settle on one test which is applicable in all circumstances, particularly where the test is essentially one of fact in any event. For this reason the Privy Council shied away from adopting any global test for deciding whether a transaction is within the ordinary course of business and instead adopted a two-step approach which, though primarily objective, does allow for subjective elements.

The first step is to examine the transaction in its actual setting. It is this setting which will define the circumstances in which it is to be determined whether the transaction is to be considered as being in the ordinary course of business or not.

Secondly, the determination is then to be made objectively by reference to the standard of what amounts to the ordinary course of business.

Their Lordships noted and adopted Fisher J's approach in the Modern Terrazzo case when they stated that the focus should be on the ordinary operational activities of businesses as going concerns, not responses to abnormal financial difficulties.

The Privy Council also agreed with Fisher J that while comparisons with the commercial community in general are useful, equally, the way in which the particular company has acted in the past, and its dealing with the particular creditor are relevant. If a payment is merely repetition of past behaviour, it is harder to claim that it is special assistance to an insider, the result of special enforcement measures or a situation where the creditor ought to have investigated before extending credit.

Their Lordships also noted that there might be transactions, exceptional to a particular trader, which will nonetheless be in the ordinary course of business based on the objective part of the test. For example, a transaction may be the first transaction of a particular type for that company, yet still be in the ordinary course of business. Alternatively, transactions undertaken in the past may no longer be considered to be in the ordinary course of business because of changed circumstances. As their Lordships stated, '[t]he particular circumstances will require assessment in each case.

In our view, whilst this will give the lawyers a test to argue about, it will not remove the current level of uncertainty ie although the fog may be a little less dense, to state that it has lifted would be to overstate the position.

In what circumstances will payments be allowed?

It is still not possible to say with certainty that particular types of payments will be allowed in all cases. Decisions will continue to be decided on a case-by-case basis. However, within the guidance provided by the Privy Council in the Countrywide case, a number of cases decided by the High Court are beginning to offer at least some insight into the types of transactions which may be allowed. In Re Anntastic Marketing Ltd (in liq): Auckland Packaging Company Limited et al v J L Vague and Anor High Court, Auckland, September 9 1998 (decided after the Countrywide case), Baragwanath J reviewed a number of recent High Court decisions, and gave the following factors as pointers to transactions being set aside as not being in the ordinary course of business:

the recipient is not shown to have honestly believed that the transaction involved no element of undue preference;

the payment is unusually prompt or large compared with the established patterns;

the conduct suggests a response to abnormal financial difficulties, as opposed to ordinary operational activities of businesses as going concerns;

the degree of pressure exerted by the creditor indicates abnormal circumstances; or

the creditor has departed from its normal practice of recovering debt.

Thus, it would seem that if any general principle can be stated, it is that payments made as a direct result of pressure by a creditor (especially if the creditor knows, or should know, that the debtor is in financial difficulty) will fall outside the ordinary course of business exception.

Having said that, there is no general rule that lump sum payments must always be voidable. In some cases, where there is an established pattern of slow payment, it appears that periodical (even irregular) lump sum payments may be held to be made in the ordinary course of business as long as there is an absence of external financial pressure, or other indications of financial instability.

At the end of the day, the ordinary course of business exception to otherwise voidable preference payments will continue to test the agility of the minds of practising lawyers and commentators.

James Aitken/Gene Turner

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