A Victorian Supreme Court judge has issued an important warning on the potentially conflicted nature of investment scheme promoters acting as both fund manager and responsible entity (RE).
In a judgment handed down earlier this month, Justice J. Judd made reference to what he described as the “profound, irreconcilable conflict” between a manager’s duty to investors and its self-interest in circumstances where investors were considering having the RE removed.
This is an issue of concern for many in the financial services industry, raised by the recent collapses of a number of agribusiness managed investment schemes, among other cases.
Justice Judd’s statement referred to a case brought by a property fund manager against Melbourne adviser Chris Garnaut, director of Garnaut Private Client Advisers, and Century Funds Management and its advisers, Castle Partners.
The case was brought by Lachlan Reit, a wholly owned subsidiary of the Becton Property Group, following Garnaut’s efforts to hold a meeting of investors to propose replacing Lachlan Reit with Century Funds Management as the RE of two unlisted property trusts.
Garnaut and his clients — who held a considerable proportion of the funds — were concerned that Lachlan Reit’s ability to function as manager was potentially compromised by its “inseparable relationship” with the Becton Group, which was under significant financial duress.
As acknowledged in Justice Judd’s decision, were the Becton Group to slip into insolvency or an administrator appointed Lachlan Reit would be regarded as an asset of the group, even though the assets under its management were not.
Lachlan Reit tried to restrain Garnaut from convening the meeting on the basis that he, Century and Castle Partners were circulating misleading or deceptive information that would influence investors’ votes, among other concerns.
Justice Judd said Becton was “quick to respond” to that perceived threat by preparing contradictory material. In disseminating that information, both Lachlan Reit and Becton strongly advocated a vote against the resolution to remove Lachlan Reit as RE.
Justice Judd said investors were entitled to meet to consider the resolution, and that “the conflict of duty and interest, evident in the position of the plaintiff, should cause it to maintain a neutral position in the meeting process”.
However, he found that as Lachlan Reit and the Becton Group were fighting for Lachlan’s survival as the manager of funds, they were not in a neutral position. Justice Judd found that the plaintiff’s attempts to block the meeting came from a place of “profound, irreconcilable conflict, between its duty to investors and its self interest”.
Justice Judd said where the distribution of information to investors was concerned, the fact that Lachlan Reit had “chosen to engage in a debate advocating for its own survival” caused him to conclude that a “clean process” for the delivery of the correct information was “illusory”.
Justice Judd dismissed Lachlan Reit’s application, and investors later voted to remove Becton (via Lachlan Reit) as the RE of the Becton Office Fund No. 2 and the Becton Diversified Direct Property Fund.
