Can’t see the forest for the lease

High Court grants leave to appeal decision allowing liquidators to use power of disclaimer to extinguish tenant’s interest in property

The High Court has this month granted special leave to Willmott Growers Group Inc to appeal the decision of the Court of Appeal of Victoria in Willmott Forests Ltd (Receivers and Managers Appointed) (in liquidation) v Willmott Growers Group Inc and Willmott Action Group Inc [2012] VSCA 202 (Court of Appeal Decision), in the longstanding liquidation of Willmott Forests Ltd and its subsidiaries (Willmott Group).  

Position regarding the power of disclaimer prior to the Willmott Group proceedings

Prior to the Court of Appeal Decision, a liquidator’s power of disclaimer under section 568 of the Corporations Act 2001 (Cth) (Act) did not allow a liquidator to disclaim a lease pursuant to which the company is landlord.  The rationale for that position is that the power to disclaim exists so as to enable liquidators to relieve the company of ongoing liability that would prolong the liquidation or delay payment of a dividend to creditors.¹   In fact, it has described as imprudent for an insolvency practitioner to attempt to improve the value of an asset of the company, by using the power of disclaimer to extinguish the property rights of an arms-length party.²

That traditional position was reflected in the judgment of Davies J in the original proceedings in the Supreme Court of Victoria (Original Proceedings). 

Background to the proceedings

The Original Proceedings were brought by the liquidators of the Willmott Forests Ltd, the responsible entity and manager of multiple forestry investment schemes (Schemes), seeking certain directions and orders in relation to the sale of the primary assets of the Willmott Group including, among other things, a direction from the Court that the liquidators were justified in disclaiming the interests of certain members of the Schemes who had been granted leases of land owned by Willmott Forests Ltd.  Those leases were each for 25 year terms and the member tenants had paid the rental for the term in advance. 

The liquidators had entered into a contract of sale in respect of the leased land which required the land to be delivered up unencumbered and free from the members’ interests (as tenants) at settlement.  The liquidators sought to disclaim the members’ leases under section 568(1)(f) which relates to a liquidator’s power of disclaimer in relation to “property of the company that consists of a contract” and not under section 568(1)(a) in relation to “property of the company that consists of land burdened with onerous covenants”.  This distinction becomes important in considering the special leave application. 

In the Original Proceedings, her Honour held that the liquidators were not able to disclaim the members’ leases with the effect of extinguishing the members’ interest in the land.  In coming to that conclusion, her Honour found that certain authorities³ supported the proposition that disclaimer of a contract could not have the effect of extinguishing the members’ interest in the land, which she considered to be an accrued interest.⁴

The Court of Appeal Decision, overturning the Original Decision, held that a liquidator of a landlord company could exercise the power of disclaimer under section 568 of the Act to disclaim leases granted by the landlord company thereby extinguishing the members’ proprietary rights in the land and, as a result, sell the land free of the members’ interest.  The decision of Progressive Mailing House Pty Ltd v Tabali Pty Ltd ⁵ was said by Warren CJ and Sifris AJA to reflect an important shift in judicial thinking of leases, viewing them from a contractual perspective rather than in terms of their proprietary character.  The Court held that disclaimer of the members’ leases brought those leases, as contracts, to an end and extinguished the members’ property. 

Consequences of the Court of Appeal Decision

The consequences of the Court of Appeal Decision were far reaching, in particular, if the Court of Appeal Decision is upheld by the High Court:

• Tenants will assume significant risk in respect of their landlord’s solvency.  This is unsatisfactory in circumstances where the tenant is usually heavily restricted in relation to assignment of the lease or the landlord’s right to assign the reversion. 

• The security of tenure under a lease will be eroded which may reduce a financer’s willingness to advance finance on the security of a lease.

• The likelihood of successful reconstruction of agricultural or forestry managed investments schemes based on leasehold structures will be reduced, in that the decision will restrict the ability of members of such schemes to appoint a replacement responsible entity which has, or may, become insolvent.

Alleged grounds for appeal of the Court of Appeal Decision

The special leave application was brought by Willmott Growers Group Inc (Willmott Growers) which represents members of the Schemes and includes the members who are tenants of the leases in question.  Willmott Growers was granted by leave by the Court to intervene in the Original Proceedings and maintained that status throughout the appeal to the Court of Appeal. 

In applying for special leave, Willmott Growers identified the question for determination as being whether Parliament intended the liquidator of a land-owning company to have power under section 568(1) of the Act to extinguish the property rights of the company’s tenant.

Willmott Growers relied on seven grounds of appeal, the most relevant of which are:

• The Court of Appeal erred in holding that, as a matter of law, a liquidator of a corporate landlord can disclaim a lease pursuant to section 568(1) of the Act and thereby extinguish or terminate the tenant’s interest in the land.

• Section 568(1) of the Act directs attention to the “property of the company” sought to be disclaimed.  The Court of Appeal ought to have:

•  
  • interpreted section 568(1)(f) of the Act as meaning “property that consists of rights and interests of the company under a contract”; and
    
    
  • identified the relevant “property” of Willmott Forests Ltd as the right to re-entry upon expiration of the term of each of the leases given that there was no earlier right of re-entry pursuant to the lease due to the rental being paid in advance, that is, the reversion.

• The interpretation of section 568(1) set out in the Court of Appeal Decision contradicts the purpose of Division 7A of Part 5.6 of the Act to enable liquidators to relieve the company of ongoing liability that would prolong the liquidation or delay payment of a dividend to creditors.  The Court of Appeal ought to have held that the true legislative intent could have been achieved by disclaimer of the reversion, that is, by application of section 568(1)(a) of the Act, rather than section 568(1)(f) of the Act.

In essence, Willmott Growers contends that the property in the lease, in the sense required by the Act, vests in the members as tenants and not in Willmott Forests Ltd as the landlord company.  Willmott Forests Ltd holds only a reversion, being the freehold burdened by covenants.  Therefore, a disclaimer by the liquidator of Willmott Forests Ltd of the reversion in the members’ leases does not require the extinguishment of the members’ rights in the land as tenant.

Where to now?

The hearing of the appeal by the High Court is expected to take place in August 2013. 

Lavan Legal comment

For now, the Court of Appeal Decision still has significant weight and a properly advised tenant faced with a notice of disclaimer by a liquidator ought to make an application under section 568B of the Act to set aside the liquidator’s disclaimer of the lease before it takes affect.  That application must be made within 14 days after the liquidator gives the tenant notice of the disclaimer.

Watch this space!