Stay in Bed, Not a Trust: Court finds franchisees’ contributions to marketing fund not held on trust

By Ariel Borland, Partner, Jennifer O’Farrell, Senior Associate and Tom Hedditch, Lawyer

Introduction

We recently acted for the Commonwealth (Represented by the Australian Government Department of Jobs and Small Business) in Re Stay in Bed Milk and Bread Pty Ltd  [2019] VSC 181, in which the Supreme Court of Victoria determined that a franchisor’s marketing fund was not subject to a trust (express or Quistclose) in favour of franchisees and therefore was available for distribution to the franchisor’s priority creditors, including the Commonwealth.

In insolvency contexts, certain parties or classes of creditor often argue that monies and other assets are subject to a ‘trust’ in their favour, so as to take these assets outside of the pool of funds available for distribution to creditors. Stay in Bed indicates that, even when certain indicia of a trust are present, the Court is reluctant to find a trust relationship where the parties to a commercial agreement have not used the language of ‘trust’ to define their obligations.

Facts

Stay in Bed Milk & Bread Pty Ltd (SIBMB) operated the “Aussie Farmers Direct” franchise that delivered milk, fresh produce and household items to customers via a network of franchisees.  On 5 March 2018,  voluntary administrators were appointed to SIBMB, the franchisor.

Pursuant to the franchise agreement, franchisees were required to pay a percentage of fees (marketing levies) to to SIBMB’s “marketing fund”. From 1 January 2015, updates to the Franchising Code required franchisors to hold marketing fund monies in a separate account. SIBMB set up a separate bank account to comply with this obligation. On the appointment date, SIBMB held $789,391.40 in its marketing fund account.

SIBMB’s liquidators sought declarations and directions from the Supreme Court of Victoria that the funds in the marketing fund account were subject to either an express trust or a ‘Quistclose’ trust in favour of the franchisees who had paid the marketing levies. The effect of this would be to return the marketing fund payments to franchisees, rather than the marketing fund being a circulating asset of SIBMB available to pay the Commonwealth (who had advanced funds to cover certain unpaid employee entitlements) and the Company’s other creditors. Alternatively, the liquidators argued that the terms of the Franchising Code prohibited the marketing fund from being distributed in accordance with the liquidation provisions in the Act and in particular section 556 of the Act.

The Commonwealth argued that the marketing fund was not subject to a trust (express or Quistclose) and that there was no prohibition on distributing the fund in accordance with the Act. As a priority creditor under section 561 and 556 of the Act, the Commonwealth stood to recoup a significant portion of the funds it had advanced to the Company to pay employee entitlements, thus reducing the costs of the Federal Entitlements Guarantee Scheme.

Decision

Randall As J determined that neither an express or Quistclose trust arose. Importantly, whether a trust exists requires certainty of intention to create a trust.  As his Honour stated at [32], “the question of intention must be determined with reference to the language of the parties, construed in its context, including the matrix of circumstances”.

Whilst payment of funds into a separate account is a strong indication of a trust, it does not lead to a foregone conclusion.  Randall As J found that there were other factors which pointed against the existence of an express trust, including that:

  1. under the franchise agreement, SIBMB retained the discretion to spend the marketing fund as it saw fit. Critically, this discretion did not have to be exercised for the benefit of a particular franchisee;
  2. the franchise agreement did not provide a mechanism to transfer surplus funds back to each franchisee or to be distributed amongst the franchisees as a class; and
  3. there is no need to overlay a trust relationship on top of the commercial contractual relationship between SIBMB and is franchisees.

His Honour was also prepared to consider extrinsic material pursuant to section 15AB of the Acts Interpretation Act 1901 (Cth) to confirm the ordinary meaning of the Franchising Code. The Explanatory Memorandum to the Code’s enabling legislation expressly declined to impress marketing funds with trust obligations.

His Honour also declined to find the existence of a Quistclose trust, which his Honour said at [99] that “recognition of a trust in such circumstances is based upon the satisfaction of the ordinary requirements for an express trust.” A Quistclose trust arises where money has been paid for a specific purpose, and the purpose for which the money was paid fails, in which case the money is returned to those who paid it. Importantly, the payer(s) of the money and the person to whom it is paid must mutually intend that the funds paid not become part of the latter’s assets.

For reasons similar to those set out above, his Honour concluded that the franchise agreement indicated that neither the franchisees nor SIBMB intended that the marketing levies not become part of SIBMB’s assets. Although the marketing fund may have been identified for an exclusive purpose, it cannot be imputed that the parties intended the marketing fund to be impressed with a trust to the benefit of each franchisee until that purpose was satisfied.

His Honour also declined to find that there was a prohibition in the Franchising Code on the distribution of the marketing fund in accordance with section 556 of the Act.

Conclusion

Allegations are often raised by a class of creditors or third parties that assets in a liquidation are held on trust. If successful, this position lifts the trust assets out of the pool of assets available to a company’s creditors so that they are only available to a particular person (or class of persons).

Stay in Bed provides useful guidance to insolvency practitioners appointed to franchisors (who may hold marketing funds) and other appointments where there are commercial arrangements with some indicia of a trust. The Court will be reluctant to infer that the relevant parties intended a trust arise in a commercial context, especially where there is no express reference to a ‘trust’ in the documents between the parties. The Court will also look at the manner in which the parties dealt with the asset, and in particular if it can be said that the alleged trust property did not form a part of the alleged trustee’s assets.

Insolvency practitioners should scrutinise alleged trust arrangements carefully in light of the indicia referred to in Stay in Bed. If in doubt, insolvency practitioners should approach the Court for directions. The Department of Jobs and Small Business has informed us that it is also happy to discuss individual trust matters with insolvency practitioners if they have any questions about the Department’s stance.

For further information, please do not hesitate to contact us.

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