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Australia – Unilateral Amendments To Scheme Constitutions – Update.

31 October, 2012

 

On 4 October 2012 the Court of Appeal of the Supreme Court of Victoria (Court of Appeal) handed down its decision in 360 Capital RE Limited & Anor v Watts & Watts & Ors [2012] VSCA 234. The Court of Appeal upheld the earlier decision of the Supreme Court of Victoria (click here to see our Insight regarding this earlier decision). 
 
The Court of Appeal confirmed the approach of the original decision that 
when making a unilateral change to a registered scheme constitution, the responsible entity must properly consider whether the proposed change would impact on members’ rights adversely, and importantly, must document the process and analysis of its consideration.
 
However in the course of its judgment, the Court of Appeal also conducted an analysis of the evolving interpretation of the term “members’ rights” as used in section 601GC(1)(b) of the Corporations Act 2001 (Cth) (Corporations Act). They concluded that members’ rights include the overarching right to have the fund administered in accordance with the terms of its constitution. This analysis significantly narrows the opportunity for a responsible entity to be able to make unilateral changes to constitutions.
 
What the Court of Appeal decided
 
The Court of Appeal upheld Sifris J’s decision that the constitutional amendments were invalid. The Court of Appeal agreed that the directors of 360 Capital RE Limited (Responsible Entity) had failed to give proper consideration to the effect that the constitutional amendments would have on the rights of members of the fund.
 
The Court of Appeal assigned a significant portion of its judgment to considering what is meant by the term “members’ rights” for the purposes of section 601GC(1)(b) of the Corporations Act. 

Prior to this decision, there was a divergence of views as to the interpretation of “members’ rights”.
 
The Court of Appeal determined that, according to the natural and ordinary use of language, the expression “members’ rights” is “calculated to embrace a members’ (sic) right to have a managed investment scheme managed in accordance with its terms”.
 
This interpretation of “members’ rights” differs from the most recent approach of the Supreme Court of New South Wales by Barrett J in Re Centro Retail and ING Funds Management Ltd v ANZ Nominees Ltd, who made a distinction between the right itself and the “value or enjoyment” of that right. It would seem that according to the Court of Appeal, this distinction is now “essentially beside the point”.
 
What does this mean?
 
(a) Clarity
 
This decision by an appellate court in Victoria has provided some much needed clarity to the previous divergence of judicial interpretation of section 601GC(1)(b) of the Corporations Act by single sitting judges in the Supreme Courts of New South Wales and Victoria and the Federal Court.
 
(b) But most changes will now be taken to change members’ rights
 
It could be said that almost all changes to a constitution of a registered scheme will affect the “right to have a managed investment scheme managed in accordance with its terms”.
 
This means that almost every change that is proposed to the constitution of a registered scheme will affect “members’ rights” and such changes cannot be unilaterally made by a responsible entity, unless the change does not adversely affect the members’ rights.
 
(c)  So is there a new test?
 
Barrett J’s 3 step process still appears to be the right test to apply if a responsible entity wishes to make a change to a registered scheme constitution unilaterally. However, as a result of the interpretation of “members’ rights” as the right to have the registered scheme administered in accordance with the terms of its constitution, the outcome of the first and second steps will almost always result in an impact upon rights.
 
The focus then rests on the third step, whether the impact on the 
members’ rights is “adverse”.
 
According to the decision of the Court of Appeal, in deciding whether a constitutional amendment will be adverse to members’ rights, a responsible entity should consider whether the proposed changes will remove or impair members’ existing rights in a way that will be “disadvantageous” to members.
 
(d)  Active consideration
 
The Court of Appeal found that the constitutional amendments were invalid because the Responsible Entity had failed to give proper consideration as to whether, and the extent to which, members’ rights would be affected by the amendments.
 
Therefore, as a minimum, responsible entities must actively and comprehensively consider whether a change to a registered scheme’s constitution will be adverse to members’ rights. Legal advice may be applied and factored into any decision, but it is not sufficient to simply rely on legal advice without actively discussing the proposed constitutional change and the impact of the change on existing members. 
 
(e)  Evidence is key
 
Responsible entities need to ensure that their proper deliberations are appropriately documented. Comprehensive minutes or board papers should be drafted with sufficient detail, to help the responsible entity demonstrate how it formed the view that any given constitutional amendment was not adverse to members’ rights.
 
(f) Increased risk profile
 
In practice, the decision of the Court of Appeal may mean that there is more limited scope for responsible entities to be able to make unilateral amendments to constitutions of registered schemes.
 
Unilateral amendments currently seem to have an increased risk profile for a responsible entity and its directors and exposure to action by unhappy members.
 
Ultimately this will mean that responsible entities do one of three things:
 
  1. Become more reluctant to make changes to constitutions of registered schemes, which may result in inflexible or outdated constituent documents.
  2. Only make changes with member approval, which will mean a fund must incur the costs of holding meetings of members and additional legal advice.
  3. Make unilateral changes, but seek more extensive legal advice and possibly also apply to the court for judicial advice before such change is made, which will mean a fund will incur the cost of such advice and court proceedings.
 
What next?
 
We anticipate that this issue may continue to receive judicial consideration as the law continues to develop in this area. 
 
Perhaps now the time is right for the government to engage with industry to consider law reform and the appropriate policy approach to the operation of section 601GC(1)(b) of the Corporations Act. This topic is particularly relevant at present in the context of ASIC’s current consultation on Managed Investment Scheme Constitutions (Consultation Paper 188), and the changes to registered scheme constitutions that ASIC proposes.

 

 

For further information, please contact

   

Nikki Bentley, Partner, Henry Davis York
nikki_bentley@hdy.com.au
 
Kathy Civardi, Partner, Henry Davis York
kathy_civardi@hdy.com.au
 
Elizabeth Gray, Partner, Henry Davis York
elizabeth_gray@hdy.com.au
 
Lucinda McCann, Partner, Henry Davis York
lucinda_mccann@hdy.com.au
 
Anne MacNamara, Partner, Henry Davis York
anne_macnamara@hdy.com.au

 

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