TGIF - Eels to play defence, but without winning security for costs - Insolvency/Bankruptcy

This week's TGIF considers Campbell J's recent decision in Blackcitrus Pty Ltd (in liquidation) v Parramatta Rugby Club Limited [2022] NSWSC 1329, refusing to order security for costs and determining whether to strike out defences based on alleged past breaches of NRL salary cap rules.

Key takeaways

When liquidators bring proceedings without a funder or means to meet an adverse costs order, courts may order security for costs but have discretion not to so as to avoid stultifying the proceedings.
The content of the liquidators' reports and disclosures can become relevant for liquidators in proving that a defendant has materially contributed to the plaintiff company's insolvency.
Allegations that a contract was a 'sham' or 'illegal' should be pleaded as alternatives rather than lumped together. Where a defendant has a related claim for restitution, this should also be separately pleaded by way of a cross-claim.

What happened?

Last year, Blackcitrus Pty Ltd (in liquidation) (Blackcitrus) sued the Parramatta Rugby Club Limited (the Club) for around $1 million under an alleged 'Heads of Agreement' (HOA).

Under the HOA, the Club agreed to pay four years of fees in exchange for certain digital or technological licences and services. The Club alleged that the HOA enabled the NRL salary cap rules to be evaded by Blackcitrus' subsidiary entering into separate agreements with players.

The Club filed its defence in August 2021. The Club admitted that the HOA had been signed by a previous CEO of the Club but pleaded that the HOA:

was void by reason of being illegal or against public policy; and
alternatively, was a sham with the true purpose of providing payments to the Club's players in breach of the salary cap rules.

Shortly after the defence was filed:

in September 2021, the Club sought an order for security for costs against Blackcitrus; and
in October 2021, Blackcitrus countered with an application to strike out certain parts of the Club's defence.

The motions were heard in March 2022 and determined on Friday 30 September 2022.

Blackcitrus' strike out motion

The strike out motion was dealt with first because it was relevant to the security for costs application.

Blackcitrus' main arguments on the strike out motion were:

first, that the 'illegality' defence did not identify any statute, common law and/or public policy as having been contravened by the HOA; and
secondly, that an essential part of a 'sham' defence was that parties must have intended the agreement not to have the apparent, or any, legal consequence. Blackcitrus argued that this could not sit alongside the 'illegality' case as the HOA was either intended to have a legal consequence or not.

The Club's main argument in response was that it was subject to requirements that apply to a (registered) club under the Registered Clubs Act 1976 (NSW) (the Act).

Blackcitrus pointed to the fact that the relevant 'registered club' in this case was a separate entity, Parramatta Leagues Club Ltd (Registered Club), which was not party to the HOA or the proceedings.

The Club argued that, nevertheless, its involvement in the NRL competition was facilitated by financial support received from the Registered Club. The Club also emphasised that it had the same former directors as the Registered Club. This was said to be relevant because the Independent Liquor and Gaming Authority (the Authority) had made findings against the then former directors. The Authority had appointed temporary administrators to the Registered Club in response to allegations that the HOA was in breach of the Act.

The Club argued that the Authority's findings were incorporated into the defence.

'Illegality' sufficiently pleaded

Campbell J found that 'illegality' had been sufficiently pleaded.

The Club's failure to identify particular sections of the Act that had been breached did not render the defence insufficient as the defence incorporated the Authority's findings. His Honour directed that the defence be amended to make this clearer.

In doing so, his Honour referred to High Court authority that there are at least three types of case involving contravention of a statute, being:

cases involving an express statutory prohibition going to the formation of the contract;
cases involving express prohibition of the performance of the contract, with the effect of impliedly prohibiting the contract itself; and
cases involving contracts that are not directly contrary to a statute by express or implied prohibition but which are "associated with or in furtherance of illegal purposes".

His Honour also referred to commentary that even if a contract is not prohibited, it may be subject to the 'common law illegality' of a 'conspiracy to deceive'.

In this case, his Honour found that the defence sufficiently spelled out the elements of a conspiracy to deceive the NRL.

'Sham' sufficiently pleaded

His Honour also found that the 'sham' point was sufficiently pleaded but directed that the defence be amended to make it clear that 'sham' was pleaded in the alternative to the plea of 'illegality'.

In doing so, his Honour referred to authorities defining a 'sham' as steps taking the form of a legally effective transaction which the parties intend should not have the apparent, or any, legal consequences.

His Honour observed that it would be an essential element to establish intent to deceive, which would require a cautious approach in accordance with Briginshaw v Briginshaw (1938) 60 CLR 336. Further, a court will only look behind an ostensibly valid agreement if there is 'good reason' to do so, which is a high threshold.

Pleadings that were struck out

Despite failing in these general arguments, Blackcitrus had success in attacking two specific pleadings:

Blackcitrus argued that the defence pleading that Blackcitrus' director had breached his duties should be struck out as the Club lacks standing to make this claim. His Honour ordered that the relevant subparagraph should be struck out because it was not for the Club to plead nor would it advance the Club's case; and
Blackcitrus also argued that there were improperly pleaded assertions purporting to claim restitution. His Honour also struck out this part of the defence, leaving the Club to propound any claim for restitution by way of a cross-claim.

The Club's application for security for costs

The Club's application for security for costs was made under Uniform Civil Procedure Rules 42.21(1)(d) and section 1335(1) of the Corporations Act 2001 (Cth). Each of these provisions relevantly allows proceedings to be stayed until security for costs is given, where there is reason to believe that a plaintiff will be unable to pay the defendant's costs.

It was not controversial that the Blackcitrus would be unable to meet an adverse costs order. The Club sought to prove the risk by reference to a 2019 Liquidators' report, but the point was properly conceded by Blackcitrus. The question was, therefore, whether the Court should exercise discretion in making an order for costs.

Blackcitrus' main arguments were that:

the Club had caused Blackcitrus' impecuniosity by not making payments under the HOA;
it had been preparing the case against the Club for some time and that its insolvency was all that got in the way of the matter potentially being resolved at mediation;
that the Club's estimate of fees was exorbitant and disproportionate to the proceedings; and
that if costs were to be ordered, then they ought to be payable over a period of time in order to avoid stultification.

In response, the Club:

asserted that Blackcitrus should not have been entitled to any monies from the Club in any event given that the HOA was unenforceable through illegality or because it constituted a sham;
pointed to the absence of any reference to Club liabilities to Blackcitrus in the Liquidators' Report as to Affairs (RATA) or other disclosure that Blackcitrus' insolvency was caused by the Club's alleged default as opposed to alleged conduct of its director and misappropriation of assets by related parties; and
adduced expert evidence in support of its costs.

Security for costs not required

Campbell J considered the NSW authorities relied on by the Club to the effect that the onus was on Blackcitrus as plaintiffs to establish that the Club had caused or was at least "the material contributor" to Blackcitrus' financial position.

His Honour acknowledged that the evidence on this point was "not overwhelming", whereas the authorities required that the evidence had to be straightforward, unambiguous and compelling.

Nevertheless, the Liquidators' analysis was not directly challenged. Blackcitrus had been seriously considering suing on the HOA well before commencement of its winding up, at the suit of its lawyers. Blackcitrus' lawyers had been actively pursuing the claim with the Club's lawyers and were at the point of identifying potential mediators before this was overtaken by Blackcitrus' insolvency.

His Honour observed that although the liquidators' RATA did not refer to any liability of the Club to Blackcitrus, it did refer to "a potential legal recovery" against the Club.

The finding that the Club had materially contributed to Blackcitrus' impecuniosity was not a decisive factor, but weighed in favour of Blackcitrus with other factors.

The other relevant factors were that:

an order for security would likely stifle the proceedings. Although the evidence about this was "a little difficult to reconcile", there was no evidence of any litigation funder or any unsecured creditors who were prepared to fund the Liquidators' litigation;
the total amount of security sought by the Club was surprisingly high given the nature of the proceedings and the amount at stake (noting that this too was not a decisive factor in itself); and
the Club's case proceeded on the premise that both the Club and Blackcitrus were party to the deception or, at the very least, hoped to profit from it - the Club by obtaining an unfair advantage over its competitors in the NRL competition by fielding a squad on a payroll which breached the salary cap designed to "level the playing field". Even accepting that the Club's internal management had changed, this consideration would make it "decidedly unfair to place the roadblock of an order for security" in Blackcitrus' way.

Balancing these factors, his Honour refused to order security for costs despite Blackcitrus' "fundamental impecuniosity".

Comment

Security for costs applications can threaten to stifle proceedings brought by liquidators where there is no litigation funder or supporting creditor to assist in meeting an adverse costs order.

In exercising discretion, courts will consider a range of factors including whether the defendant's conduct caused the plaintiff's insolvency. This case highlights that the content of liquidators' reports can become relevant in establishing this on the evidence.

The case also serves as a reminder as to the proper manner in which to plead defences and cross-claims in respect of an impugned contract.

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.