Rent as a voluntary administration expense during a ‘standstill period’ takes priority

Rent voluntary administration expense
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The PAS Group decision reaffirms the principle that rent incurred during the administration period takes priority in the winding-up payment waterfall

The case of Ford (Administrator), in the matter of the PAS Group Limited (Administrators Appointed) v Scentre Management Limited [2020] FCA 1023 (PAS Group) reaffirms the principle that rent incurred during the administration period takes priority in the winding-up payment waterfall under s556(1)(a) of the Corporations Act 2001 (Cth) (Act); this is so even if the liquidator’s personal liability protection period was extended in the administration. 

Given that rent remains an expense of the administration, it will be paid in absolute priority to any other claims including employees and the administrator’s fees in a winding-up.  Consider whether in such a situation the administrators have less leverage to negotiate as the landlords just sit back and let the debt accumulate and put their hands out at the end.  

Background

PAS Group had 19 Australian fashion businesses under the PAS Group umbrella. The PAS Group operated 161 retail stores in Australia and New Zealand and leased a total of 166 premises (five of which were non-retail).

Scentre Management Limited was the largest lessor of premises to the PAS Group, and was named as the respondent to represent the interests of all landlord creditors of the PAS Group.

The PAS Group entered administration on 29 May 2020.

On 9 June 2020, the administrators obtained an order to extend the five-day statutory relief from personal liability. It was extended to 22 June. The period from 29 May 2020 to 22 June 2020 is referred to as the “standstill period”.

During the standstill period, the PAS Group continued to occupy and or trade from all but eight of the 161 premises.

The administrators estimated that:

  • the total rent for all 166 premises during the standstill period was $1.385m; and
  • the total revenue for the PAS Group generated from trading during the standstill period was $7.32m.

The PAS Group had not paid, and the administrators did not propose to pay, any rent under any of their leases for the standstill period.

They administrators sought a declaration that the rent payable constituted an unsecured debt, and would not take priority over other debts.

The effect of the direction sought by the administrators would have a significant negative impact on the landlord creditors.

Unsurprisingly, they opposed the granting of the declaration and sought an opposing declaration that the rent, as an administration expense, should be paid in priority to all other unsecured debts in the event of a winding-up.

If the debt under the leases was to be given priority in a liquidation, the return to other creditors would be very much diminished. The answer to the question would therefore inform the advice given to the creditors about whether to enter a deed of company arrangement (DOCA) or liquidation.

The administrators’ argument

The administrators argued that:

  • A lessor’s claim for rent under a lease, prior to administrators being appointed, is an ordinary unsecured claim.
  • Administrators are only personally liable for amounts owing under pre-appointment leases to the extent that ss443A and 443B of the Act make them liable. Section 443A of the Act provides that the administrator of a company under administration is liable for debts he or she incurs, in the performance or exercise, or purported performance or exercise, of any of his or her functions and powers as administrator, including for property that is leased, used or occupied. Section 443B states that the personal liability applies for a period commencing more than 5 days after the administration began (or longer if a court order exists).
  • Because the administrators’ personal liability only commences after the standstill period, a lessor’s claim for the rent owing during the standstill period is an ordinary unsecured claim.
  • Standstill period rent is not a debt ‘incurred’ in the sense required by s556(1) of the Act because the administrators did not take positive action to incur the standstill period rent and therefore did not ‘elect’ to retain the property for the benefit of the administration. Section 556(1) of the Act provides that in the winding up of a company, expenses properly incurred by a relevant authority in preserving, realising or carrying on the company’s business must be paid in priority to all other unsecured debts and claims.
  • If the rent were treated as an expense, it would constitute a ‘super priority’ debt inconsistent with the need to balance competing equities.

The judgment

Justice O’Callaghan declined to make the order sought by the administrators. He found that “no justification is given for why the landlords should be deprived of the priority they would otherwise have through the operation of the Act, according to orthodox principles.

He noted that during the standstill period, the administrators decided to actively trade the PAS Group on a ‘business as usual’ basis while they explored their options. By actively trading from almost all premises, the PAS Group generated over $7m in revenue.

Since the administrators caused the PAS Group to occupy the leased premises for the purposes of the administration, it follows that in any liquidation, the rent, as an administration expense in the standstill period, would be payable as a priority under s556(1)(a) of the Act.

Justice O’Callaghan rejected the submission from the administrators that s443B of the Act was intended to replace the principle in the English case of Re Lundy Granite Co, citing Lewison LJ in Jervis v Pillar Denton Ltd [2015] Ch 87 at 115 [82] who stated that the Lundy Granite principle “is framed by reference to the period during which the company uses the landlord’s property to its own advantage” and “[i]t is in those circumstances that common sense and ordinary justice require the court to see that the landlord is paid”.

How might the case affect you as an administrator

The case should caution administrators against incurring debt under a lease unless there are good reasons to do so (noting the administrator’s duties to creditors as a whole).

During the COVID-19 crisis, courts have been more willing to grant extensions of time to the personal liability exemption so that administrators can explore options in such volatile times. We have recently discussed the decision of Strawbridge (Administrator), in the matter of CBCH Group Pty Ltd (Administrators Appointed) (No 2) [2020] FCA 472, which illustrates this point.

However, a court order suspending personal liability under s443B of the Act will not avoid the fact that the rent is an administration expense incurred in the standstill period and the debt will still take priority in a winding-up.

This has consequences for other creditors.

The proposal that is developed for the company’s future and presented at the second creditors’ meeting must canvass:

  • How the company will operate
  • Whether assets will be sold or retained (and which ones)
  • How much creditors can expect to receive
  • The priority in which creditors will be paid
  • The timeline for payment

If the administrators have caused additional debt to be incurred prior to the meeting, and that debt takes priority, it will alter the proposal. Ordinary unsecured creditors will be presented with a situation in which they are ‘further back in the queue’ should they agree to a winding-up.

It is therefore imperative that administrators carefully consider whether continuing to trade retail premises post-appointment is truly in the best interest of the creditors as a whole.

Further information

For more information about this case, or for assistance in any aspect of insolvency, please contact
Trevor Withane: trevor.withane@blackwattlelegal.com.au, tel +61 (0)418 717 001

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