Australia: When mezzanine funders go to war - multiple secured creditors

Last Updated: 23 August 2016
Article by Paul Cullen

A recent decision of the Victorian Court of Appeal (handed down on 14 July 2016) highlights a number of areas in which conflicts can arise in a commercial transaction involving multiple secured parties and the extent to which the interests of lower-ranked secured parties need to be considered when the proceeds are dealt with.

The case - Nom de Plume

While the facts of the case (Nom de Plume Nominees Pty Ltd v. Fingal Developments Pty Ltd [2016] VSCA159) are quite complicated, the transaction was a common one – a property development structured through a unit trust, with funding provided by both arms-length commercial financiers and private investors, all of whom held security at various levels over the project assets. The documentation was only partially successful in resolving the multitude of potential disputes that can arise in this situation if there is a project loss.

The ingredients

The volatile mix of ingredients which led the parties to the Court of Appeal included, as always, a project shortfall, the novation and assignment of securities (aimed at securing pre-existing debts and at improving the security position of the assignee), attempts to claim unsecured debts under the security, common directors in project entities with competing interests, the strategic appointment of a receiver, payments being made to otherwise unsecured project consultants, a priority agreement and a deed of settlement.

Points of interest for financiers and finance lawyers

The decision was very comprehensive and canvassed a number of fundamental and well-settled principles which will be of interest to lawyers generally.

Of particular interest to finance lawyers and secured creditors who may find themselves in one or more of the factual scenarios with which the case dealt, are the following:

  • the Court analysed the law in Australia as to the distinction between a deed and an agreement as well as estoppel and detrimental reliance. This was in the context of the common practice of including motherhood acknowledgements in a settlement deed as to the existence of debts and the validity of securities (which may have otherwise been subject to challenge on traditional grounds, including the passing of consideration and the nature of a document as an agreement rather than a deed). In this case the settlement deed was found to achieve the desired result;
  • the Court affirmed that a prior ranking secured creditor only owes a duty to account to a subsequent secured creditor in respect of money recovered by it in the exercise of its powers in its capacity as a secured party (essentially the exercise of a power of sale or on entry into possession as mortgagee). This is to be distinguished from the situation where money comes into the hands of a secured creditor in other circumstances (for example, money paid to a mortgagee as an unsecured creditor, which cannot be the subject of an account);
  • where a subsequent mortgagee pays out a prior mortgagee (to improve its security position), but disputes the payout amount and so reserves its rights, the Court made it clear that the mere reservation of rights at the time of the payout will not entitle the payer to a full account from the recipient. The Court held that, at best, a reservation of rights would give the payer the ability to dispute that the "price" it paid was the correct amount, but that is a simple dispute between the mortgagees and does not give the payer the right to a full account. As the Court said "a reservation of rights preserves rights; it does not create them";
  • a secured creditor is not obliged to account to a lower-ranked secured creditor for money paid by a receiver appointed by it – this underscores the traditional designation of a receiver as the agent of the mortgagor rather than of the appointing mortgagee (at least prior to the liquidation of the mortgagor); and
  • a secured creditor who appoints a receiver may, however, displace that traditional agency arrangement between the receiver and the mortgagor by instructing or directing the receiver in a way that is inconsistent with that relationship– that will always be a question of fact and degree but is a lesson to secured parties in their dealings with their receivers. There is a line that should never be crossed.


The parties in this case attempted to deal with their potential disputes and conflicts by entering into a priority agreement and a settlement deed yet neither quite achieved the desired result, which is to avoid any recourse to the Court. The prior-ranking secured creditor will always naturally – and understandably - attempt to claim as much as possible under its security but this example shows that those lower in the rankings may have cause to complain and would be well-advised to closely examine the nature of the payments claimed under the prior security – even if a full accounting may not always be possible.

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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.

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Paul Cullen
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