September 2012

PPSA - Enforcement of securities to be discharged honestly

Application of enforcement provisions

As outlined in the February bulletin, the enforcement provisions of the Act apply only to security interests provided for by security agreements made on or after 30 January 2012 (the registration commencement time of the Act).  

This means that security interests  provided for by a security agreement prior to 30 January 2012 must be enforced under laws applicable prior to the introduction of the Act. In some cases uncertainties may arise in determining whether there was a pre-registration commencement time agreement providing for the security.   It seems possible for a security to be provided for under such an agreement even if it is only created or arises after the registration commencement time.

Chapter 4 also does not apply to some security interests that do not secure payment or performance of an obligation.  Transactions such as transfers of accounts, commercial consignments and leases / hires (PPS leases) that are only ‘deemed’ security interests will fall outside the provisions.  

Acting honestly

Neither of the terms commercially reasonable manner nor honestly have been defined in the Act.  However, unlike the term commercially reasonable manner, the requirement to act honestly is a well established statutory obligation that is referred to in other Australian legislation, such as the Corporations Act 2001. 

Further, the concept of acting honestly (or not dishonestly) is also commonly contained in commercial documents, such as insurance contracts.  The court’s interpretation of the requirement to act honestly in the context of other legislation and commercial contracts provides a useful point of reference to how the obligation of a secured party to act honestly for the purposes of the Act may be interpreted.

Corporations Act

The concept of acting honestly is contained in section 1317S(2) of the Corporations Act 2001.  That section provides that a person may be relieved of, in whole or part, liability in respect of proceedings commenced for a contravention of a civil penalty provision under the Corporations Act, if that person acted honestly.  The Courts have provided the following guidance in the interpretation of acting honestly:

  • Whether a person acts honestly is to be determined by the ordinary meaning of the word, that is, whether the person has acted without deceit or conscious impropriety, without intent to gain improper benefit or advantage for himself, herself or for another, and without carelessness or imprudence to such a degree as to demonstrate that no genuine attempt at all has been made to carry out the duties and obligations of his or her office imposed by the Corporations Act or the general law.

  • Whether a person acts honestly may be determined having regard to evidence of the person’s subjective intent. However, a lack of such subjective intent will not lead the Court to conclude that a person has acted honestly if a reasonable person in that position would regard the conduct as exhibiting moral turpitude.

It is likely that a person will have the onus to show honesty in order to persuade the court to be positively satisfied that the person has acted honestly.

Insurance policy wording

The High Court, in a case concerning the meaning and effect of an identical exclusion clause in a number of professional indemnity insurance policies that did not respond where a liability had arisen as a result of the dishonest acts of a person, held:

  • Dishonesty is an ordinary concept, not a term of art.

  • Dishonesty is a matter to be determined by reference to the mental state of the person whose conduct is in issue.

  • In most cases where honesty is in issue, the real question is whether an act was done with knowledge or belief of some specific thing or with some specific intent – this is concerned with a positive act rather than an omission.

  • The question whether a failure to act is dishonest is usually answered by considering whether that failure was motivated by a desire to conceal the truth or to obtain an advantage to which the person concerned knew he or she was not entitled to.

The Supreme Court of New South Wales, in determining whether a party has acted honestly for the purposes of the Corporations Act, has adopted a wide interpretation including consideration of the conduct from the perspective of a reasonable person in the party’s circumstances. 

On the other hand, the High Court has adopted a narrower interpretation of the concept of dishonesty in the context of professional indemnity insurance policies.  The dishonest conduct is determined having regard to the intention of the person at the time of the dishonest conduct.

It is likely that the Australian Courts, when determining whether a secured party has acted honestly in exercising its enforcement rights under the Act, will adopt a wide interpretation of the concept of acting honestly and this will include an analysis of the actions of the secured party compared to that of a reasonable person in the secured party’s shoes.

Concluding comments

The Act introduces a general standard of conduct that requires a secured party to exercise or discharge the enforcement provisions honestly and in a commercially reasonable manner. This general standard of conduct exists together with more specific obligations contained in the enforcement provisions of the Act.  One example of this is section 131 of the Act which requires that a secured party disposing of collateral has a duty to obtain market value (if the collateral has a market value) or, otherwise, to obtain the best price reasonably obtainable at the time of the disposal of the collateral.

The requirement to act honestly is a well established concept in Australia.  Its meaning and effect may be gleaned from the interpretation of existing statutory provisions such as the Corporations Act. 

In the context of determining whether a secured party has acted honestly and in a commercially reasonable manner whilst seeking to enforce a security interest in personal property, the likely starting point will be for the Courts to be satisfied of the following in the light of a reasonable person in the secured party’s shoes:

  • That the secured party has complied with the terms of any existing security agreement.

  • That the secured party has acted in good faith and not preferred its own interests with the intent to gain an improper benefit or advantage for itself to which it is not entitled.

  • That the secured party has entered into an arm’s length transaction for market value.

 Author: Elias Yamine