Introduction

A judgment recently handed down by Rares J of the Federal Court of Australia stemming from the myriad litigation involving Timbercorp Group and their agricultural managed investment schemes provides guidance in the interpretation of the legal effect of the statutory novation procedure contained in Chapter 5C of the Corporations Act 2001 (Act). The judgment also deals authoritatively with the issue of whether a party can conclusively determine the capacity in which that party enters into a contract.

Background

The facts in Huntley Management Limited v Timbercorp Securities Limited involved a dispute between the liquidator of Timbercorp Securities Limited (In Liquidation) (Timbercorp), which was the original responsible entity (RE) for a number of registered schemes, and Huntley Management Limited (Huntley) which replaced Timbercorp as RE for the relevant managed investment schemes (schemes). The transfer of RE rights and obligations was done pursuant to the statutory novation procedure set out in sections 601FS(1) and 601FT(1) of the Act. Several judges have noted that these provisions "were drafted in a particularly economical way but appeared to be intended... to cause an incoming responsible entity to step into the shoes of its predecessor". In fact, the lack of sufficient clarity and detail in the drafting of these sections was at the heart of this particular dispute.

Chapter 5C requirements for establishing a scheme

Under Chapter 5C of the Act, a RE must comply with certain requirements when setting up a scheme, including:

  • obtaining an Australian Financial Services Licence (AFSL) subject to appropriate conditions imposed for the purpose of allowing it to operate a scheme
  • lodge with the Australian Securities and Investments Commission (ASIC) a scheme constitution and a compliance plan which each meet the Act's relevant requirements
  • in carrying out its duties as RE, it must act in the best interests of its members and avoid conflicts of interests, giving priority to the members' interests in any such case
  • ensure that scheme property is clearly identified as scheme property and held separately from the RE's own property and from the property of any other scheme.

His Honour drilled back to the explanatory memorandum relating to the Act with respect to the last point. He found that the clear reason behind this requirement was to enable scheme assets to be returned to the scheme investors in the event of the RE's failure and, correspondingly, to ensure that those assets were not used improperly.

Details of the particular scheme

Under the relevant scheme, the RE undertook certain responsibilities including entering into leases as lessee and granting licenses of various types (including with respect to intellectual property rights) to the grower/investors (Growers). The Growers were then to perform the work of producing mango crop for sale and commercial exploitation. The marketing of the mango crop was to be handled by the RE.

For these purposes, Timbercorp entered into three separate agreements with each Grower: a licence agreement, a management agreement and a marketing deed (Scheme Documents). In each case, Timbercorp expressly entered into these documents "in its personal capacity", rather than in its capacity as RE of the scheme. In the case of certain documents (including the leases entered into by Timbercorp) the parties expressly acknowledged that Timbercorp's rights under those documents did not form part of the scheme property.

However, in apparent contradiction of the use of this description of Timbercorp's capacity in the Scheme Documents:

  • the AFSL required the RE to ensure that an instrument conferring the right to use land on which any primary production was to occur for the purposes of the scheme was registered in the relevant State's land titles office in the name of the RE either as trustee for the Growers or beneficially in the course of and in accordance with its duties as RE and this condition was recited in the scheme constitution
  • the scheme constitution also recited that the RE would issue a product disclosure statement (PDS) and the PDS ultimately issued noted that as RE, Timbercorp had the "ultimate responsibility to Growers for the operation and management of the Project... at all times", and
  • the Scheme Documents were expressed to be subject to the terms of the constitution - although some parts of the constitution ambiguously supported the position that the assets in question were not part of the scheme property.

Timbercorp's argument

Relying on the Scheme Documents' description of the relevant capacity in which it purportedly entered those arrangements (being its personal, not RE, capacity) Timbercorp argued that, while the statutory novation procedure successfully transferred all rights and obligations relating to the scheme to Huntley, Timbercorp had retained ownership of the rights it held under the Scheme Documents as those rights were not part of the scheme property. Rather, the argument ran, those assets belonged to Timbercorp both legally and beneficially. Consequently, Huntley would now need to purchase those assets from Timbercorp for value.

Timbercorp also maintained that the fact that the PDS did not state that Timbercorp was to enter into the Scheme Documents in its personal capacity and may have suggested otherwise should be ignored as it was unlikely that the PDS had any contractual force, according to an observation made by Buss JA in a 2006 Western Australian Supreme Court decision.

What the court decided

Drawing on various authorities (including several High Court decisions) in support of his conclusions Rares J decided that there had been a fully effective statutory novation. He observed that:

  • Timbercorp's argument that the words "in relation to the scheme" in section 601FT (1) covered only rights arising from the matrix of legal relationships comprising the scheme and ought not be given a broader interpretation should be rejected. On the contrary, his Honour felt that a broad interpretation of this phrase is "the touchstone" of the statutory novation procedure.
  • Despite the fact that the relevant sections of Chapter 5C omit any express reference to the transfer of property, they should be given a purposive and broad construction as it is clear that the statutory scheme is intended to apply to a change of, and effect a transfer between, REs in all situations. Only this interpretation could ensure that the incoming RE has the fullest and most effective control of the whole scheme and scheme property at the instant that section 601FJ gives effect to the change.
  • The fact a contract describes the capacity in which a party purports to enter into that contract is not determinative of that party's true capacity as a party to the contract. The parties cannot deem either their relationship, or the capacities in which they respectively contract, to be something they are not.
  • This capacity must be determined objectively in the same manner as the contract itself is construed. Accordingly, the Court will consider what a reasonable person in the position of the parties would have understood to be the meaning of the words used. That process often requires consideration not only of the text but also of the surrounding circumstances known to the parties and the purpose and object of the transaction. The substance and effect of the documents is the critical determinant of the true nature of the parties' relationship and the rights, obligations and liabilities it creates.
  • If Timbercorp's contention was accepted the PDS would have seriously misrepresented Timbercorp's role in the scheme and diminished its ability to protect the interests of the Growers and, even more significantly, to comply with specific obligations imposed on it by the AFSL it was required to hold. Further, it could effectively make the scheme unworkable or, at the very least, create a commercially inconvenient result which was not contemplated by the PDS.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.