Liquidator's conflict of interest when acting for related companies

Liquidator's conflict of interests generally

A liquidator is not an officer of the company to which he is appointed. He is an agent of the company. Nevertheless, a liquidator owes fiduciary duties to the company. If the company is insolvent then those duties are more precisely owed to its creditors who are the primary stakeholders in the liquidation. Even in the context of an insolvent liquidation however, there are often competing interests. While every creditor will want the liquidator to admit the full amount of their debt, they will still want each proof of debt to be thoroughly scrutinised since it is not in their interests for other creditors' proofs to be readily admitted (the more debt admitted, the less each creditor will receive). Creditors will also want the liquidator to pursue those owing money to the company, whether those debts are due, contingent or otherwise. This includes pursuing the company's directors for any wrongdoing which may result in them being personally liable for the company's debts. While a liquidator is expected to hold them accountable, he is likely to be met with stiff resistance which may require him to being legal proceedings. Since litigation is an expensive risk an insolvent company can rarely afford, it will be a matter for each liquidator in every case to decide whether it is worth the investment. Indeed, it is often for this reason that the identity and appointment of liquidators is bitterly contested – the creditors want a "bloodhound" who will aggressively pursue the directors while the members (which will normally include the directors) will likely nominate someone more friendly to them.

The above are some of the situations where liquidators will need to assess their actions and decisions in light of the general duty of care they owe to creditors and the more specific fiduciary duties attaching to their role. There is one other situation which appears to have received little attention, at least from the courts, although it commonly arises in practice. This is where a liquidator acts for two or more related companies which owe debts to one another, or where one of them owes a debt to the other. This presents the potential for a serious conflict of interests and the question arises whether such a conflict is capable of being managed and, if so, what are the options available to liquidators for managing it?

Liquidator's Conflict when acting for related companies

One of the most basic duties owed by persons in a fiduciary position is to avoid a situation where their interests compete. Most of the time, the two competing interests will be their professional and personal interests. In the case of a liquidator for example, he is prohibited from purchasing any of the assets of the company, either personally or through his employee, employer, partner or agent (section 629(6) of the Companies Act 2014). In other words, he is prohibited from being both the vendor and the purchase of the company's property. Sometimes, however; the conflict may not involve any obvious personal interest. An example of this is where a liquidator acts for two companies and one of them claims to be a creditor of the other. The conflict arises because the creditor is, on the one hand, the person who will submit the proof of debt on behalf of the creditor company while, on the other hand, is the person who will decide whether or not to accept the debt on behalf of the debtor company. In other words, the liquidator is acting for both the debtor and the creditor. While that presents an obvious conflict of interest, it is a situation which arises frequently and yet, as we will see, is one rarely brought before the courts by liquidators or creditors.

The Case Law

Irish case law in this area is surprisingly barren and it is therefore necessary to turn to decisions from other common law jurisdictions. The first of these is the decision of the Judicial Committee of the Privy Council in the case of Parmalat Capital Finance Limited v. Food Holdings Limited [2009] 1 BCLC 274. That was a reference from the Courts of the Cayman Islands. It involved the appointment of joint liquidators to several companies. Two of those companies claimed to be substantial creditors of the third. The amount of the claimed debts was a matter for negotiations in which the joint liquidators were effectively representing both the would-be creditor and debtor companies. Clearly recognising the conflict of interest, they decided to engage in a "role playing" exercise where one of the liquidators would represent the creditor in the negotiation and the other would represent the debtor. They hoped that this would alleviate fears of any perceived conflict. Unsurprisingly, it resulted in some of the creditors referring the matter to the Courts in the Cayman Islands raising, among other things, questions about the liquidator's conflict of interest in acting for both creditor and debtor companies. The Court found in favour of the liquidators and that decision was then referred to the Privy Council.

Lord Hoffmann delivered the judgment of the Privy Council, which upheld the decision of the Cayman Islands Court of Appeal in favour of the liquidators. Notwithstanding the result, which appears to have been influenced as much by considerations of judicial co mity as jurisprudence, Lord Hoffmann raised serious doubts about the manner in which the joint liquidators handled the clear conflict of interests facing them. He stated:

"But [the Court] must admit to being troubled by the incident, which appears to have involved a plain conflict of interest, not merely between the liquidators in their different capacities, but even with the interests of the liquidators in their personal capacities in securing payment of their fees. Mr Crystal QC, for the liquidators, told [the Court] that one of them assumed the role of [the debtor] and the other that of [the creditor], and they bargained with each other. This role playing does not seem to the [Court] an adequate way of dealing with the matter. It would have been much better if the liquidators had sought the directions of the court."

As noted in this passage, the liquidators were conflicted in two respects. First was the conflict between their roles as liquidators of both creditor and debtor companies. Second was the conflict between those roles and their personal interests in securing and maximising their professional fees.

The second decision on point is the case of Go Energy Group Ltd [2019] NSWSC 558, an Australian decision in which a liquidator applied to the Court for directions when he found himself acting for both creditors and debtor. Recognising the potential conflict of interest, the liquidator appointed an independent third party to adjudicate on the proofs of debt for the debtor company. This meant that the liquidator could not be accused of being both the applicant and he arbiter of debts in the liquidation. Since this was a relatively novel way of resolving the conflict, the liquidator applied to the Court for an order confirming that he could legitimately proceed in this way. Having examined the evidence and noting that this was a relatively common situation for liquidators to find themselves in, the Court granted the order sought by the liquidator. The case naturally raises questions about the extent to which a liquidator can delegate his powers. The power and duty to adjudicate proofs of debt is so fundamental to the role of liquidators that it can certainly be argued that it is not something which should be capable of delegation to a person who was not appointed by the creditors for that purpose.

Resolving liquidator's conflicts of interest

Section 631 of the Companies Act 2014 allows a liquidator or provisional liquidator to apply to the Court to determine any question arising in the winding up, including the exercise of the liquidator's powers. The section does not specify the kinds of questions which may be asked of the court by the liquidator but it has generally been afforded a broad interpretation by judges. In Ex Parte Greg Quin as liquidator of Flexi Staff Pty Ltd (In Liquidation) [2023] WASC 362, another Australian decision in which a liquidator found himself acting for both creditor and debtor, the Court held that this was an appropriate situation in which to make an application under that jurisdiction's equivalent of section 631.

Liquidators who find themselves faced with a conflict of interest due to their appointment to related companies – or indeed any conflict of interest – have two choices. The first is to terminate the conflict altogether by resigning as liquidator of one or more of the companies. The second is to apply to the High Court pursuant to section 631 for directions on the best way to resolve the conflict. It is helpful, although not necessary, to prepare a contingency plan for approval by the Court as happened in the Go Energy case. Whether or not the plan will be accepted by the Court will depend on a number of factors including the level of opposition and the overarching interests of the winding up as a whole.

Conclusion

The situation in which a liquidator finds himself in the conflicted position of acting for both creditor and debtor is not normally one of his choosing. Indeed, it is the majority of creditors of each of those companies who appoint him to act and, while they no doubt have their reasons for doing so, the appointment is likely to be challenged by the minority creditors. Yet such challenges rarely reach the Courts (possibly due to the prohibitive cost of litigation as against the minimal benefit to be gained in an insolvency situation) and, as a result, we have little judicial guidance on a relatively common issue. The best advice for liquidators in such situations is to seek legal advice and, where appropriate, to take the proactive step of applying to the Court for directions under section 631 of the Companies Act 2014.

Author: Mahmud Samad BL
Publication date: 10th January 2024