Spotlight on group structures, employee priority and WIP in A.J. Grant Building

This case involved a common group structure in the building and construction industry – a holding company, an operating entity and a separate company that employed the staff and charged a fee or margin to the operating entity.  The liquidator sought judicial directions under s 90-15 of the Insolvency Practice Schedule (Corporations) about the true identity of the employer and the treatment of property derived from incomplete work in progress (WIP) for the purposes of ss 556 and 561 of the Corporations Act 2001 (Cth) and s 340 of the Personal Property Securities Act 2009 (Cth) (PPSA).

Lesson 1

This type of corporate structure will not necessarily protect the operating company from employee claims. The Court held that the liquidator was justified in treating the operating company as the employer of all staff. The Court identifies the employer by substance and looks at the whole relationship.  Being named in the contract, paying wages and holding workers’ compensation insurance are relevant, but none of them decides the question.

Key factors were:

• the staff worked for the operating entity, the group’s sole revenue generator;
• the labour entity had no assets or function beyond being the employer of record and it could never meet its obligations without being funded;
• there was no labour supply agreement and the mark-up or margin charged looked like an intercompany accounting entry;
• policies and email signatures referred to the operating entity, not the employing entity.

The Court found that there was no intelligible business purpose for a separate employing company.  Accordingly, the Court held that the liquidator was justified, for the purposes of ss 556 and 561 of the Corporations Act, in treating the operating entity as the true employer of all staff, so that its circulating assets were available to meet the employees’ priority claims on the winding up.

Lesson 2

Section 561 of the Corporations Act gives employee entitlements, and FEG through subrogation under s 560, priority over a circulating security interest. That priority applies only to circulating assets, such as accounts for services already provided. Money owed on invoices issued before the appointment, and for work completed but not yet invoiced at the appointment, was treated as circulating assets. The time when an account arises for the purposes of the PPSA will depend on the contract terms. The master agreements and the sample contracts in evidence indicated that the right to bill for the work generally only arose on completion of the work. The costs to check all 5,245 job contracts in this case would have been disproportionate to the amounts expected to be collected by the liquidator.  Based on the samples and for proportionality reasons, the Court found that the liquidator was justified in treating money collected for work that was incomplete when the liquidator was appointed as non-circulating assets. Therefore, those funds were available (subject to the liquidator’s equitable lien) to the secured creditor in priority to employee claims. This highlights a difference between completion-only billing and progress-claim rights for the purposes of s 561 and priority claims in a liquidation.

It is noted that although the Department administering FEG disagreed with the liquidator’s treatment of the incomplete WIP receivables as non-circulating assets, it did not propose another method of classifying the incomplete WIP and it did not appear at the hearing. The directions were made in the absence of a contradictor which may limit how much weight we can place on the findings about the WIP issue.

For groups that use a separate labour company, the structure, documentation and purpose for each company in the group should be clearly demonstrated and legitimate. If not, a liquidator may treat the operating entity as the true employer, exposing its circulating assets to employee priority claims. For secured lenders and insolvency practitioners, the billing terms of customer contracts may determine whether WIP is a circulating asset on appointment. Progress-claim rights may expose WIP to employee priority claims, while completion-only billing may leave incomplete WIP available to the secured creditor. There are clearly pros and cons of both scenarios. Where contracts are numerous and low in value, the Court may accept a proportionate approach based on sample contracts rather than requiring a review of every contract.