Administrators equitable lien a cautionary tale

What you need to know

• To establish an equitable lien in respect of secured property, administrators must demonstrate that their dealings with the property in question are (a) reasonable for the purpose of maintaining, preserving or realising that property and (b) exclusively for that purpose.
• The exclusivity requirement means the equitable lien will not cover remuneration, costs and expenses incurred for some other purpose. 
• If they are not covered by the equitable lien, there is a risk that they will not be recovered because the administrators' claim will rank behind the claims of secured creditors in respect of the relevant property.

What you need to do

• Administrators wishing to establish a lien should ensure that their dealings with secured property meet the reasonableness and exclusivity requirements described above.
• If there is any doubt, administrators should consider putting arrangements with creditors in place before they start work to ensure that they are not left out of pocket. 

Key points

When will an administrators' remuneration, costs and expenses be covered by an equitable lien?  How can administrators avoid being left out of pocket?  Guidance on this issue has been provided in a recent decision of the New South Wales Supreme Court, Volkswagen Financial Services Australia Pty Ltd v Atlas CTL Pty Ltd [2022] NSWSC 573 and we provide our practical tips below. 

An equitable lien provides an exception to the general position that an administrator's claim for remuneration, costs and expenses ranks behind the claims of secured creditors.  To the extent that an administrator's claims are secured by the equitable lien, those claims are prioritised over secured creditors in respect of the property to which the lien attaches. 

An administrator is entitled to an equitable lien in at least two circumstances:

(a) where property of the company is recovered by a subsequent administrator, such as a liquidator: Coad v Wellness Pursuit Pty Ltd [2009] 71 ACSR  250; and

(b) where the administrator maintains, preserves or realises property which is the subject of prior security granted to a third party.

That second circumstance was relevant in Volkswagen. 

In essence, the Court held that a lien was only claimable where:

(a) the work done as well as the costs and expenses incurred were reasonable for the purpose of maintaining, preserving or realising the property; and

(b) that work was done and those costs and expenses were incurred exclusively for that purpose.

In Volkswagen, the company ("Atlas") and a related company had conducted a car rental business.  The cars used in that business had been supplied by a number of manufacturers either by way of sale or lease.  The moneys payable on account of those transactions were secured by way of charges, including charges over the cars, given to finance companies associated with the manufacturers.  

Included in the fleet of cars operated by Atlas were cars financed by Volkswagen Financial Services Australia Pty Ltd ("Volkswagen").  Those cars were sold under an arrangement with receivers appointed by Volkswagen under the securities which it held.  The proceeds of sale were held in a separate fund ("Volkswagen Fund").  The administrators/liquidators of Atlas, whether in that capacity, or as its liquidators, claimed to be entitled to a lien in respect of the Volkswagen Fund:

"That claim was on account of:

(a) $1,032,910.48 for costs and expenses incurred by them during the Administration Period, being the net loss they made trading the Atlas business;

(b) $1,007,359.86 for remuneration which they contend relates exclusively to their actions in preserving, securing or attempting to realise the Atlas assets, in effect the goodwill of the Atlas business; and

(c) $427,399.63 for their costs, expenses and remuneration as liquidators [of Atlas]."

The claim was based on the principle In Re Universal Distributing Co Ltd (in liq) [1933] HCA 2 or the "salvage" principle.  That principle will be applied to confer a priority on an administrator or liquidator as against a secured creditor for:

(a) the remuneration chargeable; or

(b) the costs and expenses incurred,

in and about maintaining, preserving or realising the charged assets.  To sustain a claim in reliance on that principle, administrators or liquidators must establish that it was reasonable for them both to undertake the work which supported the claim for remuneration and to incur the costs and expenses.  

The claim by the administrators/liquidators of Atlas was denied.

The Court found that it was based on activity which was concerned with maintaining the business of Atlas as a going concern with a view to its sale.  As such, in summary, the Court found that the attention of the administrators was focused on preserving and realising the goodwill of that business rather than the cars which it operated.  

Accordingly, the Court concluded (at [96]):

"The Universal principle does not assist the administrators/liquidators for each of the following reasons:

(1) the claims for the trading losses and remuneration for exertions during the administration gives rise to no lien over the Volkswagen fund as those claims do not bear the nexus with the Volkswagen fund which the principle requires; 

(2) the administrators' decision to trade on and continue trading on was not reasonable in the sense in which the Universal principle requires it to be; and

(3) with respect to the claim directed to asserted preservation of vehicles (as opposed to goodwill), the efforts of the administrators/liquidators were not directed to that activity."

So far as concerns the requirement that administrators'/liquidators' claims bear a nexus with the Volkswagen Fund, the Court said ([112] and [113]):

"The concept that the expense and the benefit must be directly related is reflected in the requirement that the costs and expenses incurred for the exclusive purpose of raising the fund, or exclusively for the purpose of caring for, preserving and/or realising property: Universal at 174 and Primary [Primary Securities Limited v Willmott Forests Limited [2016] VSCA 309]  at 756.

The policy behind the exclusivity requirement reflects equity's approach that only those costs and expenses which were incurred by the claimant necessarily to give the securityholder the benefit of that very security are to be secured."

This decision is an important reminder that an equitable lien over assets already subject to a charge does not serve as general indemnity for costs and expenses incurred by administrators. An equitable lien in that case will only cover expenses that were incurred exclusively to maintain, preserve or realise a secured creditor's property and were reasonable to achieve that purpose – It will not extend to an asset that happens to form part of the winding up to cover losses incurred by trading on, as this case demonstrates. 

With this in mind, administrators should consider the risk of being left out of pocket before incurring costs if there is doubt that an equitable lien will cover dealings with secured property. To avoid or appropriately cover this risk, administrators may consider taking steps including, for example, putting in place arrangements with secured creditors for costs and expenses of dealing with the property.

Authors: Richard Fisher, Consultant; Camilla Clemente, Partner; and Christina Han, Graduate.