Liquidators get the green light for litigation funding agreements - Insolvency/Bankruptcy

In this week's TGIF, we consider Jahani, in the matter of Ralan Property Services Pty Ltd (receivers and managers appointed) (in liq) [2023] FCA 738, a Federal Court decision approving the liquidators' entry into funding agreements.

Key takeaways

Litigation arrangements which slow down the liquidation process may nonetheless be in the best interest of creditors.
When a court is called to approve entry into litigation funding agreements, the court will give due weight to the liquidator's commercial judgment and experience, whether a meritorious claim would otherwise be abandoned, the value of the return to creditors and whether the proposed funding arrangements are the best available.
Liquidators of a company can also be justified in using funds held in liquidation for the purposes of funding litigation of the companies' claims, where no other funding is available and where pursuing the claims would potentially benefit multiple companies in the group.

Background

More than 50 entities in the business of development, marketing and management of residential and commercial property (Ralan Group) entered into voluntary administration followed by liquidation, owing over $238 million to secured creditors and $323 million to unsecured creditors. During their investigations, the liquidators identified two claims that could be brought by a number of companies in the Ralan Group, including Ralan Beaconsfield Pty Ltd (Beaconsfield), Ralan Property Services Pty Ltd and Ralan Paradise No 1 Pty Ltd:

A claim of over $14 million against Geoff and Lily Qiu, a former sales manager and his wife, for receiving substantive payments and the transfer of real property at undervalue from the companies, being voidable transactions (Qiu proceeding).
A claim against the ATO for unfair preferential payments in the amount of $2.27 million and $2.3 million in personal tax liabilities owed to the ATO by the Ralan Group's director and wife (ATO proceeding).

Secured creditors had appointed receivers over the substantive assets and the liquidators were without funds to bring these proceedings. The secured creditors chose not to fund the proceedings and, exercising commercial judgment, the liquidators approached the market:

The Commonwealth, acting through the Department of Workplace Relations, agreed to fund the Qiu proceeding as part of its Fair Entitlements Guarantee Scheme.
LCM Operations Pty Ltd (LCM) agreed to fund the ATO proceeding with further funding to be provided by Beaconsfield, if necessary.

The funding agreements and legal retainers required Court approval, given their terms exceeded three months.

Decision

On application of the liquidators and four Ralan Group companies, the Federal Court in Jahani, in the matter of Ralan Property Services Pty Ltd (receivers and managers appointed) (in liq) [2023] FCA 738 approved entry into the litigation funding agreements and legal retainers, having regard to:

the experience and commercial judgment of the liquidators, including the extensive exploration by the liquidators of available funders in the market and the liquidators' view that the funding agreements were the best available;
the meritorious claims underlying the Qiu and ATO proceedings and the assets available to satisfy any judgment;

the potential valuable return to creditors;
the inability of the liquidators to bring the Qiu and ATO proceedings in the absence of funding;
the clear commercial terms of the funding agreements and legal retainers; and
the absence of the liquidators having acted in bad faith or with impropriety to cast doubt on the prudence of the proposed agreements.

Notwithstanding Beaconsfield was a company within the collapsed group, the Court supported Beaconsfield funding the ATO proceeding where:

the liquidators were concerned that funding offered by LCM was insufficient to fully fund the ATO proceeding, and no other external funding was available;
Beaconsfield was the only claimant to the ATO proceeding which had available funds;
Beaconsfield's funds would only be deployed after funding provided by LCM was utilised, and may not ultimately be required;
the funding provided by Beaconsfield would potentially benefit all claimants to the ATO proceeding, not just Beaconsfield; and
Beaconsfield's uplift on its invested capital under the funding arrangement was commensurate to that payable to LCM and fair and reasonable.

Comment

The Federal Court's decision is a useful reminder that:

when a liquidator considers funding is essential to pursue litigation, court approval is likely to be required given the terms usually exceed three months;
liquidators will have a greater chance of obtaining court approval where there has been a considered approach to canvassing the funding market, commercially clear funding terms exist and the prospects of recovery are favourable to creditors as a whole;
the role of a court is to consider the funding agreement(s) presented and not develop preferrable commercial alternatives or reconsider issues deliberated by the liquidators;

it is possible for appropriate funding agreements to be entered into with both litigation funders and liquidated companies for the purpose of funding litigation to assist in recovering monies for the benefit of creditors; and
secured creditors may determine that it is not in their best commercial interest to fund litigation. Where litigation funding is subsequently sourced from the market and subject to the nature of the litigated claim, secured creditors may still be eligible for creditor distributors and ought to prudently monitor the progress of the claim.

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