A recent decision of the Full Court of the Supreme Court of South Australia1 has examined the breadth of provable debts under the Bankruptcy Act 1966 (Act) in respect of a guarantor’s liability for supplies made after the date of bankruptcy. The decision is also potentially relevant to corporate insolvencies.
A supplier entered into an agreement with its customer for the supply of goods from time to time on credit. A director of the customer had guaranteed payment of the goods by the customer.
Some time after the guarantee was executed, the director entered into a personal insolvency agreement (PIA) pursuant to the Act. The supplier continued to supply goods to the customer after the date of execution of the PIA. The customer defaulted in payment for those supplies. The supplier demanded payment from the guarantor in respect of that amount.
The issue in the proceedings that followed was whether the claim on the guarantee in respect of supplies made after the date of execution of the PIA (or if it had been a bankruptcy, after the date of bankruptcy) was a provable debt in the PIA, and therefore not recoverable from the guarantor, as the guarantee had been executed before the relevant date.
At first instance, the Magistrate found that the debt was not a provable debt and judgement was entered against the guarantor. That decision was overturned on appeal to a single Judge of the Supreme Court. On appeal from that decision of the single Judge, the Full Court of the Supreme Court held that the debt was not a provable debt and judgement against the guarantor was reinstated.
The Court considered in detail the terms of the guarantee and what constitutes a provable debt within the meaning of section 82(1) of the Act, which states:
‘..all debts and liabilities, present or future, certain or contingent, to which a bankrupt was subject at the date of the bankruptcy, or to which he or she may become subject before his or her discharge by reason of an obligation incurred before the date of the bankruptcy, are provable in his or her bankruptcy.‘
A distinction was drawn between a future or contingent legal liability founded on legal obligation existing as at the relevant date and a legal obligation which may be imposed in the future on the happening of certain events.
The Court considered the guarantee in detail. It found that the guarantor’s liability was divisible in nature, in that no liability arose unless and until the customer ordered goods, the customer did not pay for those goods and a demand was made on the guarantor. It also found that the guarantee was revocable – the guarantor could cease to be liable under the guarantee for future supplies by revoking the guarantee2. In those circumstances, the Court held that the potential future liability of the guarantor for supplies made after the relevant date in respect of the guarantee given before that date was not a provable debt.
The Court also considered an earlier decision of the New South Wales Court of Appeal3 that dealt with an identical issue. In that earlier decision, the Court of Appeal found that a claim under a guarantee that was executed before the relevant date for supplies made after the relevant date was a provable debt.
The Full Court found that the Court of Appeal did not consider a number of the issues addressed by the Full Court, in particular the divisible nature of the guarantee. In those circumstances, the Full Court held that the Court of Appeal’s decision was plainly wrong and declined to follow it.
The Full Court assumed, without deciding, that Section 553(1) of the Corporations (Act) (that defines the extent of provable debts in a liquidation and, often, provable debts in a DOCA) was relevantly the same as Section 82(1) of the Act. The Full Court then addressed the decision in Australian Gypsum4.
That case had a similar factual background. The supplier sued a corporate guarantor who had earlier executed a DOCA. The claim concerned supplies made to the customer after execution of the DOCA. At the time the DOCA was executed (and the VA was appointed) the supplier was not owed any debt by the customer (and it was not even aware of the VA appointment to the guarantor). The Court held that the claim against the guarantor was captured by the DOCA despite it relating to supplies made after the DOCA was executed and, therefore, the guarantor was not liable.
In the recent decision, the Full Court held that Australian Gypsum was of no assistance to the guarantor. Firstly, in Australian Gypsum the creditor accepted that its claims were claims arising before the relevant day. Secondly, the guarantee in Australian Gypsum was irrevocable. As observed by the Full Court, the outcome in the recent decision would have been different if the guarantee was irrevocable.
The decision highlights that when considering whether an insolvency administration in respect of a debtor results in a compromise of claims under a guarantee, careful consideration needs to be given to the terms of the guarantee instrument.
There is also the potential for some uncertainty in relation to the issue given there are inconsistent decisions of intermediate courts of appeal.
This article was written by Andrew O’Halloran, Partner and Courtney Johnson, Associate.
Publication Editor: Grant Whatley, Partner.
1Darwin Foods Pty Ltd v Gray  SASCFC 84
2The Court also found that, absent an express provision to the effect that a guarantee is revocable, a term to the effect that the guarantee is revocable will be implied into a guarantee.
3Proud v Brims Distributors Pty Ltd Unreported New South Wales Court of Appeal 26 November 1996 No 5647 of 1996
4Australian Gypsum Industries Pty Ltd v Dalesun Holdings Pty Ltd  WASCA 95