On 5 November 2014, the High Court handed down its unanimous decision confirming the Australian Federal Court's finding that the Premium Income Fund scheme constitution did not give Wellington Capital Ltd, the responsible entity of the scheme, the power to distribute part of the scheme property (by way a distribution of shares) to unit holders.
In this Alert, Partner Nicole Radice, Senior Associate Emily Ackland and Trainee Solicitor Kaitlyn Rafter discuss the decision's potential implications for the funds management sector. In addition, this decision may also result in common scheme constitution clauses being given an explicit and arguably narrow interpretation in relation to the powers of a responsible entity.
Premium Income Fund is a registered managed investment scheme (the Scheme) operated by Wellington Capital Ltd (Wellington Capital), who acts as the responsible entity.
Wellington Capital sold Scheme assets (approximately 41 percent) to the unlisted public company Asset Resolution Ltd (ARL) in consideration for some 830 million shares in ARL, valued at approximately $90.75 million.
The share consideration in ARL was issued to Perpetual Nominees Ltd (Perpetual), the custodian of the Scheme. Perpetual then distributed the shares on instructions from Wellington Capital to all of the unit holders in the Scheme, in proportion to the number of units each held.ASIC disputed that Wellington Capital, as the responsible entity of the Scheme, had the power to make this distribution.
Constitutional Clauses in Question
In making the distribution of ARL shares to the unit holders Wellington Capital relied on clauses in the Scheme's constitution, which included:
- conferring all of the powers in respect of the Scheme that is legally possible for a natural person or corporation to have, as though it were the absolute owner of the Scheme's assets and acting in its personal capacity; and
- the power to deal with Scheme's assets (acquire, dispose of, exchange, mortgage, lease etc) as if Wellington Capital were the absolute and beneficial owner of the assets.
Under s 601FB(1) of the Corporations Act 2001 (Cth) (Corporations Act), the responsible entity of a scheme is required to "operate the scheme and perform the functions conferred on it by the scheme's constitution".
ASIC challenged the distribution of the shares on grounds of validity, arguing that the above clauses of the Scheme's constitution did not give Wellington Capital the power to transfer the Scheme's assets to unit holders.
What did the Court say?
ASIC, being unsuccessful in the first instance, appealed the decision of the Federal Court. The Full Court of the Federal Court (FCAFC) held that the partial Scheme property distribution to unit holders was outside the power of Wellington Capital under the Scheme's constitution. By acting outside this power the FCAFC held Wellington Capital to have contravened 601FB(1) of the Corporations Act.
Wellington Capital appealed this decision to the High Court, which upheld the decision of the FCAFC and dismissed Wellington Capital's appeal.
The High Court determined that reading the relevant constitution provisions in the context of the constitution as a whole meant that these provisions in no way identified circumstances in which assets or capital forming part of the Scheme property could be returned to unit holders. In acting as though it is the absolute owner of the property of the Scheme, Wellington Capital was permitted to facilitate dealings of the property and assets with external parties (ie sale powers), however not to undertake "intramural dealings involving non-consensual transfers of Scheme property to unit holders".
This reason was further supported by specific provisions in the Scheme's constitution which outlined that Scheme capital was to be returned to unit holders by cash distribution only in particular circumstances.
What does this now mean?
Significant consideration has now been given by the Australian court's to the construction of what are common clauses in constitutions of registered schemes. This includes clauses in relation to the trustee's general power and also its specific power to deal with a fund's assets.
Careful attention must therefore be given by responsible entities of managed investment schemes in determining the extent to which power is conferred upon it under a scheme's constitution. If certain transactions are being contemplated by a scheme, particularly involving the distribution of assets to unit holders, it is important to determine whether the transaction is authorised under the scheme constitution, and if not, what options may be available to address this issue.
Additionally, the scheme documentation should also be read in conjunction with the duties imposed on a responsible entity under s 601FC of the Corporations Act before entering into any transactions involving scheme property. These duties include, but are not limited to, a duty to act in the best interest of the members and a duty to ensure that all payments out of the scheme property are made in accordance with the scheme's constitution. It was found that in these circumstances there was not a breach of s 601FC of the Corporations Act, however ASIC looked closely at whether the responsible entity had acted in the best interests of the unit holders in making the share distribution.
In the considerations of the FCAFC, the distinction between members of a managed investment scheme and members of a company was noted. Accordingly, whilst companies generally will have the power to distribute assets to its members, this will not necessarily be the case for responsible entities – despite the reality that most scheme constitutions will state that the responsible entities have all powers of an individual and a corporation. The scheme constitution needs to be more specific than these broad brush powers.
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