Australia: Revival of the Letter of Comfort

• A recent NSW decision has found that a letter of comfort was promissory in nature and binding.

Synonymous with the mullet, Cold Chisel, Bondy and the supposedly misnamed letter of comfort, is there a 1980s revival looming? Although the mullet and Bondy in his glory are unlikely to return and Cold Chisel's revivals are sporadic and disappointing, a recent decision of the NSW Supreme Court may create an opportunity for the letter of comfort to make a return to the Australian banking landscape. The decision of Justice Einstein in the Equity Division in Gate Gourmet Australia Pty Limited v Gate Gourmet Holding AG [2004] NSWSC 149 suggests that perhaps the infamous letter of comfort was unduly harshly treated by bankers of the 1990s.

Gate Gourmet Australia Pty Limited was a subsidiary of the Swiss Air Group and was established as the trading arm of the Gate Gourmet group to provide airline catering in Australia. Gate Gourmet Australia was capitalised to only a nominal amount by its Australian holding company Gate Gourmet Holdings Pty Limited. Gate Gourmet Australia successfully tendered for the catering contract for Ansett in late 1999.

Gate Gourmet Australia was reliant on substantial working capital and term debt facilities to service the Ansett contract. At the relevant time those facilities were provided by Westpac Banking Corporation and were guaranteed by certain Australian subsidiaries of the Gate Gourmet group and also by the Swiss parent.

In preparing the financial statements for the year to 31 December 2000, the auditors of Gate Gourmet Holdings Pty Limited requested the Swiss parent company provide a letter of support to the Australian Gate Gourmet group given its nominal capitalisation and the fully drawn nature of its external banking facilities. Evidence suggested that the directors of Gate Gourmet Holdings Pty Limited were seeking the letter of support in order to be satisfied that Gate Gourmet Australia was not trading while insolvent.

The letter of support was provided on 16 February 2001. Relevantly the letter provided:

"Gate Gourmet Holdings AG will provide financial support that may be necessary to enable Gate Gourmet Holdings Pty Limited and its controlled entities to meet its financial commitments as and when they fall due."

The letter in a prior draft had been referred to as a 'guarantee'.

When Ansett went into voluntary administration in September 2001, Gate Gourmet Australia sought confirmation from the Swiss parent that it would honour the letter of support. It was advised that the Swiss parent would pay out the Westpac facility but no one else. Subsequently Gate Gourmet Australia went into administration and then liquidation. The liquidator brought proceedings to enforce the letter of support.

Justice Einstein found that the letter was promissory and that accordingly the Swiss parent was obliged to indemnify Gate Gourmet Australia against its financial commitments. The decision turned on whether there existed an intention to create legal obligations and whether the letter was of a sufficiently promissory nature as to be contractual.

The first premise of Justice Einstein was that in commercial transactions there is a presumption of an intention to create legal relations (Edwards v Skyways Limited (1964) 1 WLR 349) and the onus to prove otherwise rested with the Swiss parent in this case. Given the commercial circumstances and the terms of the letter, Justice Einstein decided that this onus had not been discharged and that there was an intention to create a legally binding arrangement.

The critical aspect was that the evidence clearly indicated that it was known and understood by the Swiss parent and Gate Gourmet Australia that the letter, and the implied provision of financial support, were necessary to enable the directors of Gate Gourmet Australia to allow the company to continue trading. This evidenced the intention of the parties and following Banque Brussels Lambert SA v Australian National Industries Ltd (1989) 21 NSWLR 502 the letter was enforceable.

Although the decision does give some weight to the use of letters of comfort, we would suggest that if the parties' intention is that committed financial support is available that support should be drafted as a specific guarantee or indemnity. The terms of the letter may indicate an intention to create binding relations but this may not be determinative of the enforceability of the letter of comfort if the circumstances are such that the recipient of the letter is not specifically relying on the letter for support at the time it is provided. The reliance by the directors of the Australian Gate Gourmet group on the commitment in the letter of support and the awareness by the Swiss parent of this reliance were the critical factors in this case.

Letters of comfort may be preferable if the provision of a guarantee or indemnity is restricted or creates tax or regulatory issues, however they must be carefully drafted and the circumstances have to indicate clear reliance and an intention to ensure the letter of comfort is enforceable. We may therefore have to rely on the mullet and an ageing Cold Chisel to relive the halcyon days of the 1980s.

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.