Business Acquisitions and the Personal Property Securities Register

Business Acquisitions and the Personal Property Securities Register Oliver Shtein & Karen Wong 29 January 2016 Bartier Perry Pty Limited ABN 30 124 690 053 Level 10, 77 Castlereagh Street, Sydney NSW Australia Phone: 61 2 8281 7800 Fax 61 2 8281 7838 www.bartier.com.au 54261715-100923 (OAS) Bartier Perry Pty Limited 2016

Business Acquisitions and the PPSR Oliver Shtein & Karen Wong 1 Introduction 1.1 From 30 January 2012, the Personal Property Securities Act 2009 (Cth) (PPSA) 1 introduced one national system for security interests involving personal property. PPSA and its single register (PPSR) replaced approximately 70 different registers of personal property security interests including those for bills of sale, liens, REVS and the ASIC register of charges. 1.2 There is no doubt that PPSA has greatly simplified the task of searching for security interests especially across State and Territory jurisdictions. However, PPSA is complex and it also brought into the realm of security interest law common arrangements that were previously the subject of only general commercial law principles. One of the most radical effects of PPSA is to extend the concept of security interest beyond conventional secured financing to cover certain goods leases and bailments, consignments, transfers of accounts and retention of title transactions. PPSA also brings with it a radical departure from the nemo dat rule (one cannot give what one does not have). Being the owner of an asset does not by itself ensure its retention in a wrongful sale or insolvency of the customer. Indeed, PPSA can in effect expropriate ownership of unperfected or late-perfected interests. 1.3 This hugely widened concept of security interest has created new issues and expense for purchasers and increased the work for their lawyers, not least because of the phenomenon of clutter on the register. In searching a typical medium-sized business it is not uncommon to find dozens if not hundreds or even thousands of registrations. 2 Aim of this paper 2.1 The focus of this paper in intended to be practical and to assist a prospective purchaser in dealing with the issue of PPSR due diligence in business acquisitions and to deal practically with the issues that commonly arise. 2.2 We do not aim to provide a legal summary of the PPSA a piece of legislation which is indeed a complex beast. For a reasonably brief legal overview of PPSA see the article An Introduction to the Personal Property Securities Act at our website www.bartier.com.au and other articles there. 3 Key points 3.1 PPSR searches should be done early in the due diligence process in conjunction with the other usual searches to be carried out in respect of the vendor and the business. 3.2 A PPSR search won t always provide a complete picture of all security interests claimed in the relevant collateral. The PPSR is also not a register of ownership. 3.3 Know who your vendor grantor is! It may be prudent to do multiple searches against the same grantor using different identifiers. For example, for a company vendor we would normally search by name, by ACN, by ABN and if there is an underlying trust, by the ABN of the trust. 1 References in this paper to sections are to sections of the PPSA unless otherwise stated. 54261715-100923 (OAS) Bartier Perry Pty Limtied 2016

3.4 Serial number searches against the relevant types of asset are another prudent step as they may assist in identifying that ownership in the relevant collateral is not where it was thought to be. 3.5 Always do updated PPSR searches prior to completion. 3.6 Where releases have to be obtained, the Australian Bankers Association form of release is a widely accepted form of release. 4 Reform of PPSA is afoot 4.1 In March 2015, the Federal Government received the Whittaker Report into the PPSA which contained a large number of recommendations, only a few of which are mentioned in this paper. 4.2 The Government is still considering the Report and it is unlikely that the recommendations will be enacted until well into 2016 or possibly later. 5 PPSA and due diligence 5.1 The due diligence process is of course as extensive as a purchaser s time and resources will allow. The extent of due diligence to be carried out depends on a number of factors including the value of the acquisition, whether the nature of the business being acquired operates in a niche industry (which may require special investigation), the warranties obtained and the perceived financial strength and honesty of the vendor, as well as the purchaser s own risk appetite. 5.2 Depending on the complexity of the deal, many business vendors opt to set up an electronic data room to facilitate the purchaser s due diligence investigations and to create a forum where information and documents can easily be uploaded and disclosed to the purchaser. 5.3 Conducting searches of the PPSR should form part of the preliminary searches conducted by a prospective purchaser of a business in conjunction with the other searches as appropriate, for example at the Australian Securities and Investments Commission (ASIC) (where the vendor is a company); bankruptcy searches (where the vendor is an individual); litigation searches; searches at IP Australia, and so on. 5.4 In the context of an acquisition of business, the PPSR searches should be done at an early time. Many vendors and their lawyers do seem to leave it to the purchaser to drive the PPSR process. Leaving those PPSR searches until late in the day will often cause delay or force the purchaser to take risks if there is a deadline to be met. 6 Why search the PPSR? 6.1 As the PPSR is a formal record of security interests registered over personal property, it is prudent for a prospective purchaser to conduct these searches in order to ascertain what, if any, assets that are the subject of the acquisition are subject to third party interests. 6.2 The PPSA provides in section 18 that a security interest is effective according to its terms and in general terms a perfected security interest whether it be ownership of personal property or a more traditional security (eg chattel mortgage or charge) will therefore be effective against a purchaser. Registration on the PPSR is the main way (but not the only way) that a security interest can be perfected. 6.3 Given the broad scope of the PPSA, many assets typically acquired under a business acquisition may be encumbered (for example, stock in trade, plant and equipment, motor vehicles and intellectual property). Because of the wider scope of the PPSA, the register will also disclose assets that are not merely encumbered but may be owned by third parties. 3

7 Scope of PPSA - what will and won t a PPSR search reveal? 7.1 The scope of the PPSA is extremely wide in that it applies to virtually all personal property which includes not just tangible property but also intangible property and rights such as choses in action, financial assets and intellectual property. 7.2 However, an important point at the outset is that PPSA does not cover all kinds of personal property. Notable exclusions from the PPSA regime include certain statutory rights and licences as well as fixtures 2. 8 Assessing a PPSR search result 8.1 A PPSR search usually does not disclose the nature of the security interest in particular collateral. Unlike the previous Corporations Act charges regime there is no need to lodge the security agreement. 8.2 A search of the PPSR will usually disclose only the following matters: the identity of the secured party 3 and their contact details; whether or not the security interest is transitional this is not really of any significance to a purchaser and goes mainly to priority between competing secured parties; whether or not the security interest claimed is a purchase money security interest. This is again a priority matter and not usually of any significance to a purchaser; the collateral class in which the security interest is claimed (for example, motor vehicles, other goods, or the broadest collateral class of all present and afteracquired property ). This is perhaps the most critical information. If the assets being purchased are within the class specified in the registration, the purchaser disregards the interest at its peril; a description of the collateral over which the security interest is claimed. The description is inserted in the free text field by the person making the registration and, accordingly, the drafting can be variable in quality. A free text description is optional when making a registration. In fact the whole free text field is an administrative construct of the PPSR designers and not authorised by the legislation. This leaves lingering doubts as to its legal effect and whether a narrow free text description can be relied on by the purchaser to limit what would otherwise be a broad collateral class 4. whether or not the security interest may be over collateral that is inventory. The inventory question is something of a mess. When used in a PPSR registration, the term does not have the meaning given to it in section 10 of the Act. Rather it is a question authorised by Part 9.5 of the PPSA 5, which is a set of provisions dealing with the transitional aspect of fixed and floating charges. The Whittaker Report has recommended the removal of the question. In the meantime, care should be taken in drawing any conclusion from the answer to the inventory question; 2 See section 8 and also the definition of personal property in section 10 3 The secured party on the PPSR may be acting as nominee for the real secured party see item 1 of the table in section 153(1). 4 The Whittaker Report has recommended clarifying this and giving the description some legal backing. 5 see Item 8 of the table in section 153(1) and items 1 and 2 of the table in clause 4.1 of Part 4 of Schedule 1 of the PPS Regulations. 4

whether the security interest is claimed over proceeds, which it almost inevitably is. This question goes to whether the security interest is traceable into the proceeds of a sale or lease by the grantor and so it is not directly relevant to a purchaser. However, the usual description of the proceeds included in the PPSR registration is all present and after-acquired property. This is easily confused with the collateral class of the same name. However a claim to proceeds being all present and after-acquired property does not signify that the security is over all assets. 8.3 It is not uncommon for a secured party to simply register their security interest in the available collateral class, for example, as Other Goods and provide no further details. Accordingly, for a prospective purchaser, this lack of detail can make it difficult to ascertain whether the goods they are acquiring from the vendor are affected by the registration. Even where a secured party has provided a description of the collateral, the description itself may not provide a complete picture. 8.4 For example, assume a purchaser is buying a retail business that makes, packages and sells snack foods. A PPSR registration against the vendor in the collateral class of Other Goods with an accompanying description of paper and packaging and other goods supplied from time to time by the secured party to the grantor may be found. If the purchaser intends to acquire a valuable piece of equipment such as a packing machine, such a registration may be fatal. Even though it may not appear relevant to a casual reader, the use of the words, and other goods clearly potentially covers equipment or machinery in addition to the paper and packaging more specifically described in the registration. So even if the purchaser may not be too worried if it does not acquire clear title to the paper and packaging, it must also be advised that it may not acquire title to the packing machine. 8.5 Such catch-all collateral descriptions are all too common and in many, if not most, cases purchasers need to make further enquiries of the vendor as part of their due diligence investigations and seek clarification of the actual goods covered by such registrations. Ideally, the purchaser should obtain confirmation from the secured party themselves of the goods covered by the registration. But all too often secured parties are unresponsive 6. If matters are urgent, the purchaser will often have to make a risk assessment. When a search returns no results 8.6 If a search of the vendor on the PPSR returns no results, this does not necessarily mean that there are no third party interests in the vendor s personal property. The PPSR is not a register of ownership 7 in the same way for example as the Torrens real property registers are. PPSA and the immunising effect of its taking free rules (discussed below) are only attracted when there is a security interest and there may be third party ownership without any security interest. For example, the interests of hire companies and other bailors of personal property in the possession of the vendor only become security interests and only fall into the PPSA regime when certain time thresholds are crossed 8. 8.7 The absence of a registration is therefore no guarantee that personal property in the possession of the vendor is actually owned by it or that it can be taken free of any third party encumbrance. 6 In the Hastie Group insolvency (Carson in the matter of Hastie Group Limited (No.3) 2012 FCA 719) there were more than 900 registrations and the majority of registered secured parties did not respond to the administrators queries. 7 Although some data about stolen vehicles may be included in a PPSR search. 8 See the definition of PPS lease in section 13. 5

8.8 A clear search will however often mean that the asset is the subject of an unperfected PPSA security interest. Whilst a third party (secured party) can still make a claim against the grantor that they have a security interest in that asset, the fact that the security interest is unperfected will normally allow the purchaser to benefit from the taking free rules. 8.9 Finally, a search of the PPSR will not disclose the following security interests: where the security interest has been perfected by possession (other than by possession as a result of seizure or repossession). PPSA allows possession by the secured party as a means of perfection reflecting the philosophy that perfection is functionally the making known to outsiders of the fact of a security interest; 9 or where the security interest has been perfected by control 10 (for example, where the secured party is a bank and has control in respect of the grantor s bank account). Perfection by control does not apply generally to goods 11. When is an AllPAP not an AllPAP? 8.10 The phrase AllPAP is shorthand for the class of collateral used by secured parties (usually banks) taking securities over all present and after-acquired property of a grantor 12. This is the collateral class used for what in pre-ppsa terminology were called fixed and floating charges typically issued by companies. 8.11 When the charges from the ASIC register were migrated across to the PPSR in January 2012, all of those charges were migrated into the collateral class of all personal and after acquired property irrespective of whether the previous charges were a fixed charge limited to particular assets or a fixed and floating charge over all the company s assets. It was understandably deemed impracticable for the PPSR Registrar to assess whether any pre-ppsa charge was over assets other than all assets, as that would have required each charge registered at ASIC to be read and assessed. 8.12 A pre-ppsa security interest which was migrated from the ASIC register and appears as an AllPAP may actually only cover certain assets of the vendor. Fortunately, the search results for most migrated ASIC interests usually attach a copy of the previous ASIC registered charge giving rise to the security interest. This enables a prospective purchaser to read the ASIC form 309 and the charge it was lodged with and identify the scope of property affected by the migrated security interest. 9 Grantor identity who and what to search 9.1 In order to ensure that any searches of the PPSR return a reliable result, it is important for a prospective purchaser to correctly identify the vendor of the assets so that it can be searched as grantor. Grantor misidentification is a potent and common source of PPSA error and risk. The nature of PPSR searches to be conducted against a vendor depends on the vendor s legal identity and then application of the very detailed rules in the legislation. Clarifying the vendor s legal identity should of course be one of the preliminary queries raised with the vendor during the due diligence process. But even then the PPSA task is often not straightforward and the devil is in 9 Section 21(2) and also section 22 10 Section 21(2)(c) 11 Other than satellites and other space objects! 12 As explained above the collateral class is not to be confused with the description of proceeds that also uses the phrase all present and after-acquired property. 6

the detail of the legislation as the following examination of the most common rules in the legislation will readily show. 9.2 The Personal Property Securities Regulations 2010 (Cth) (PPS Regulations) set out the matters to be included in a financing statement when a secured party wishes to make a registration against a particular grantor. These rules establish how the grantor must be identified in the registration. Accordingly, when conducting searches against a grantor, searches should be conducted against those same parameters. A registration made against the wrong grantor is likely to be invalid and accordingly of no concern to a purchaser. Information contained on transitional registers 9.3 Chapter 9 of the PPSA contains detailed rules regarding the migration of pre-ppsa security interests to the PPSR. Registers on which security interests in personal property were recorded prior to the introduction of the PPSA are referred to as transitional registers and pre-ppsa security interests that were automatically included on the PPSR (based on information held on the transitional registers at the time of migration) at the commencement time are referred to as migrated security interests. Non-migrated security interests had a two year transitional period in which to perfect their security interests. The transitional period ended on 30 January 2014. 9.4 Section 333 of the PPSA enables the Registrar to perform the migration process from transitional registers where data in the approved form is held, to the PPSR. Only those security interests which were existing at the time of migration, and which would continue in force after the registration commencement time, were migrated. 9.5 Part 5.3 of the PPSA requires a secured party to file a fully particularised financing statement in respect of their claimed security interest. The PPSR Registrar, in migrating across various security interests to the PPSR was similarly required to register financing statements in respect of each of those migrated security interests. So for example the item allows the Registrar to register against the ACN of companies that had charges registered against them on the ASIC register. 9.6 Accordingly in the tables in Part 1 of Schedule 1 of the PPS Regulations which set out the hierarchy of identifiers that may be used to identify the grantor against whom to register a security interest, the first item is always the one allowing the Registrar to register using the identity on a transitional register. But this item only applies to those migrating registrations. 9.7 For example, if a migrated security interest exists in respect of a body corporate, the search parameters to be applied are the body corporate number or name of the grantor, as contained in the Registrar s financing statement based on information sourced from the relevant transitional register (ie the ASIC register). Individual grantors 9.8 Where the business vendor is an individual, it will be vital for the purchaser to know the grantor identification rules to assess how to search correctly. Item 2 of the table in section 153 of the PPSA provides that a financing statement with respect to a security interest granted by an individual needs to include the grantor s name and date of birth, evidenced in accordance with the PPS Regulations. 9.9 Clause 1.2 of Schedule 1 to the PPS Regulations stipulates that a grantor s name and date of birth are to be taken from the following sources, in the following order (ie if an option does not apply, then the next following option is to be applied): the details as known to a secured party because of the operation of the Anti- Money Laundering and Counter Terrorist Financing Act 2006 (AML Act). This will generally apply only where the secured party is a bank or other financier 7

(c) (d) (e) (f) (g) subject to AML requirements. The Regulation allows these institutions to use the identity of the customer accepted for AML purposes; the details as recorded on the individual grantor s current driver s licence; the details as recorded on a current proof of identity or proof of age card issued by a State or Territory body; the details as recorded in a current Australian passport; the details as recorded in a current Australian visa issued for the individual grantor; the details as recorded in a current passport other than an Australian passport; or the details as recorded in a birth certificate for the individual grantor. 9.10 Practical difficulties conducting searches against an individual may arise if the individual goes by several variations of a name. Grantors may also change their legal name from time to time for a variety of reasons. 9.11 There is also some possibility that the AML details referred to in paragraph may diverge from other identity documents. For a purchaser, requesting a copy of a bank statement issued in the grantor s name will assist in checking that the vendor is identified consistently for PPSR purposes. The Whittaker Review considered whether financial institutions should be entitled to continue to use their AML data even if that data was taken from a source different to the source that a searcher would use. The Whittaker Report recommended that the reference to the AML data be deleted from clause 1.2 of the Schedule 1 to the PPS Regulations. Partnership 9.12 If the grantor is a partnership, the identifiers in clause 1.4 of Schedule 1 of the PPS Regulations to be applied are, in the following order: the ABN details for the partnership (if any); or if there is no ABN, then a search against each individual partner applying the search parameters, and in the order specified, above in paragraph 9.9. 9.13 If the grantor is an individual partner granting a security interest over their net interest in the partnership, the search parameters to be applied are the same as those to be applied for an individual grantor. 13 9.14 If the grantor is a body corporate which is a partner in a partnership that does not have an ABN, the search parameters to be applied are the same as those noted in paragraph 9.16 below. 14 9.15 The Whittaker Report has made a number of recommendations regarding registration of security interests over partnership assets. Bodies corporate 9.16 For body corporate grantors, the identifiers prescribed where the body corporate is: a trustee and has an ARSN; or is not trustee of a trust with an ABN, are as follows: 15 13 Clause 1.4(5) of Schedule 1, PPS Regulations 14 Clause 1.4(6) of Schedule 1, PPS Regulations 8

for a body corporate that is the responsible entity of a registered scheme, the registered scheme s ARSN; the body corporate s ACN; (c) the body corporate s ARBN; (d) the name of the body corporate as provided for in the body corporate s constitution. 9.17 In most cases one is dealing with a company vendor and searches will be conducted against the company s ACN. In practice we find that secured parties have sometimes incorrectly registered against the ABN of the company and sometimes even against the name of the company itself. 9.18 As a matter of practice, and in the interests of obtaining a clear picture of third party interests, we recommend that searches also be conducted against the company s name and ABN. Registrations against the ABN or name may well be technically ineffective as this is inconsistent with the PPS Regulations and it may well be possible to disregard these registrations as they do not perfect any security interest (although see the discussion below about the Transurban case). The discovery of registrations against a company s name or ABN is useful however, to provide a more complete picture of whether there are third parties asserting a security interest in the relevant assets of the business being acquired (irrespective of whether or not those registrations are in fact effective). It seems to us prudent to insist on these also being released rather than face any residual uncertainty. 9.19 A further critical issue however when dealing with a company is to establish whether it is acting as trustee of a trust with an ABN. In that case, the ACN is no longer the correct marker. Clause 1.3(1) of Schedule 1 of the PPS Regulations provides that clause 1.3 does not apply to a body corporate that is trustee of a trust that has an ABN. This is discussed below. 9.20 Occasionally purchasers will encounter different kinds of bodies corporate including such bodies as co-operatives, incorporated associations and statutory bodies. Reference to the detailed rules in the Regulations will be needed to reach a conclusion on a search strategy. For example, an incorporated association will normally fail to be dealt with by Item 5 in the table. Trustees 9.21 In a novel development, PPSA adopts the ABN of a trust as the identifier in certain cases even though a trust ABN does not describe a legal entity as such. One can argue that this marks a dramatic and possibly undesirable expansion of the ABN regime into the law of personal property. The drafting is contained in clause 1.5 of Schedule 1 and is not easy to decipher. The trustee provisions have been the source of much confusion for users of the register. 9.22 Subject to our comments above in paragraph 9.6, the grantor identification under the table in clause 1.5 of Schedule 1 of the PPS Regulations is as follows: if the trustee is an individual, apply the parameters as set out in paragraph 9.8 above; if the trust holds the interest in collateral as part of an enterprise that has been granted an ABN, the ABN of that trust. Accordingly for a body corporate which is trustee of a trust having and ABN the ABN of the trust is the correct identifier. 15 Clause 1.3 of Schedule 1 of the PPS Regulations 9

Note that the identifier of the ABN registered trust with an individual as trustee remains the name of the individual because of clause 1.5(3). 9.23 The following additional difficulties potentially arise for a purchaser when performing searches against a trustee vendor: (c) (d) it is not always clear whether a secured party holds property of the grantor held in the grantor s own right or as a trustee of a trust 16. In fact collateral may be held in both personal and trustee capacities, as is common when financiers such as banks take general security over a company s assets held in both trustee and personal or corporate capacity; a grantor may initially hold the personal property in its own right, but then declare that it holds such personal property on trust and obtain an ABN for the trust; a grantor may initially hold personal property on trust for a trust that does not have an ABN, and then later obtains an ABN for that trust. As explained above the PPSR Registrar was permitted to register using the identifier on the transitional registers that were migrated to the PPSR. For companies the ASIC charges identifier was the ACN. But the ASIC register of charges (like most of the Corporations Act) made no particular provision for companies that happen to be trustees of trusts. Accordingly, the migrated ASIC register was blind to trusts and only used ACNs of company chargors. However in non-migrated registrations, the PPSR uses a trust ABN to identify a trustee grantor that is a body corporate. 9.24 Accordingly where the grantor company has disclosed that it is a trustee of a trust, it is essential that prospective purchasers undertake searches against both the ACN of the trustee itself and the ABN of the underlying trust. Searches should be conducted against both an individual trustee vendor and the ABN of any trust. 9.25 We have found many examples of non-migrated registrations against companies being made against the trustee s ACN only. Whilst the effectiveness of those registrations is questionable, particularly if the secured party knew there was a trust, conducting searches against the trustee and underlying trust provides prospective purchasers with a more complete picture of third parties asserting a security interest in the relevant assets being acquired. 9.26 The Whittaker Report has recommended that registrations over trust assets should be made against the relevant details for the corporate trustee, rather than the ABN or other identifying details for the trust. If this recommendation is adopted, prospective purchasers may only need to conduct searches against the relevant details for the trustee company and will be entitled to rely on those search results, without having to undertake separate searches of the ABN of the underlying trust. How this reform will be transitioned in remains to be seen. 10 Serial number registrable property 10.1 Certain tangible property is serial number registrable under PPSA, meaning that it can be described in a PPSR registration by a specified serial number for example a motor vehicle is described by its VIN (vehicle identification number). Registered intellectual property rights (being designs, patents, plant breeder rights, trade marks 16 For example see Interleasing (Australia) Limited v Tieman Industries (in liq) [2015] FCA 1120 where liquidators have asserted that registrations in respect of 68 vehicles were invalid because the grantor company dealt as trustee but the registration was against its ACN. 10

and a licence over such intellectual property) are also serial number registrable. Serial number registration is not always mandatory. 10.2 The legislation provides for some kinds of serial numbers including chassis numbers and manufacturers numbers, which are not unique. The choice of type of serial number to use in a PPSR registration is governed by rules in Part 2 of Schedule 1 to the PPS Regulations. For example a forklift truck (not being a road-going vehicle) will generally not have a VIN but may have a chassis number. If there is no chassis number then the prescribed serial number is the manufacturer s number. 10.3 Part 2.2 of Schedule 1 to the PPS Regulations prescribes that the following classes of collateral, when described as commercial property, may be described by serial number: motor vehicles; watercraft; and intellectual property. 10.4 The following classes of collateral, when described as commercial property, must be described by serial number: aircraft that is an aircraft engine; airframe; helicopter; and small aircraft. 10.5 The following classes of collateral, when described as consumer property, must be described by serial number: aircraft; intellectual property; motor vehicles; and watercraft. 10.6 Each of the above terms is defined in the PPS Regulations. Purchasers should note that the definition of motor vehicle was changed in 2014. 17 10.7 A registration against consumer property does not allow a grantor to be specified. The identity of a grantor who is a consumer is therefore not disclosed on the PPSR (maintaining the privacy for the individual consumer) and registration can be made against, for example, the VIN if a road vehicle is the collateral. In these cases only the serial number can be searched on the PPSR. 10.8 Purchasers of businesses will of course be dealing with commercial property (not consumer property) as this will be used in the course of an ABN-registered business 18. Therefore each registration against business assets usually must have a grantor. If the registration has not been made against the correct grantor it is likely to be defective. The practical effect of this is that in a business acquisition, searches can be made against the vendor and, if nothing is found, then the taking free rules should allow the purchaser to take free of any PPSA interest. As intellectual property also 17 A machine such as a slow moving scissor lift or walkie forklift was a motor vehicle before this change but not after it. However registrations for agreements made before the change are still valid if they use the collateral class motor vehicle. 18 See the definitions of consumer property and commercial property in section 10. 11

falls within the class of property which may or must be described by serial number, if a secured party chooses not to register intellectual property using the specific PPSR serial number registration functionality, it will be exposed to loss under the taking free rules. For a more detailed discussion on the specific impact of the PPSA on intellectual property assets, please refer to our paper on this topic. 19 10.9 Nonetheless, where the business assets include serial number registrable property, we would normally recommend a search only by serial number. A serial number-only search may occasionally turn up a positive result leading to the conclusion that someone else (other than the vendor) owns the property. This is obviously a matter of interest to a purchaser. Also, certain serial number PPSR searches may disclose stolen or written off vehicles from information on the NEVDIS database. 11 The taking free rules 11.1 In prescribed circumstances, a buyer or lessee may buy or lease personal property free of an existing security interest in collateral. Otherwise known as the taking free rules, these are set out in Part 2.5 of the PPSA. The taking free rules are at the heart of the protection the PPSA offers to purchasers from security interests that would otherwise take effect according to their terms in a manner likely to be adverse to the purchaser. 11.2 Generally, a buyer or lessee will take an interest in collateral free of a security interest if, among other things, the buyer provides value or new value for the interest. In a business acquisition the value requirement is normally readily satisfied. 11.3 The circumstances in which the taking free rules apply are: (c) (d) (e) (f) (g) (h) (i) (j) unperfected security interests; serial number defects; motor vehicles; taking in the ordinary course of business; personal, domestic or household property; currency; taking investment instruments or intermediated securities in the ordinary course of trading; investment instruments; intermediated securities; and temporarily perfected security interests. 11.4 Because items to (d) are most relevant in the context of an acquisition of business, this paper will only address the taking free rules as they pertain to those items. 11.5 The Whittaker Report has recommended changes to the taking free rules. Unperfected security interests section 43 11.6 The main rule is that a buyer or lessee of personal property, for value, will take the personal property free of an unperfected security interest in the property. 20 19 Personal Property Securities Act (PPSA) key points for Intellectual Property (IP) Practitioners, Oliver Shtein and Karen Wong, Australian Intellectual Property Law Bulletin, February 2015 20 Section 43(1) 12

11.7 The rule is very powerful and is subject to only minor exceptions. It will only not apply if the buyer or lessee is a party to the transaction which created the unperfected security interest, unless the personal property is of a kind prescribed by the regulations 21. There are currently no regulations prescribed for this provision. 11.8 Accordingly, provided the interest is within the PPSA regime, if it is not perfected (and usually that means not registered or incorrectly registered in certain ways) the business purchaser can take free of it. 11.9 A question arises whether the taking free rules always apply where for example there is a failure to register against the correct grantor. This arises out of some judicial comments in the case of In the matter of Transurban CCT Pty Limited and Transurban CCT Nominees Pty Limited in its own capacity and as Trustee of the Transurban CCT Trust [2014] NSWSC 1909. In this case the plaintiff took security from two companies including one which acted as trustee of a trust. On 4 July 2014, the plaintiff's solicitors procured those interests to be registered on the PPSR. However, on or about 13 August 2014, the plaintiff's solicitors became aware of potential deficiencies with those registrations, in that they were registered against the names and ACNs of each of the grantors but not against the ABN of the trust of which the second grantor was a trustee. By this time it was too late to make a correct registration against the ABN of the trust as the 20 business day period in section 588FL of the Corporations Act had expired. The plaintiff approached the Court for an extension under section 588FM, which it was duly given. 11.10 In our view, the failure to register against the ABN was clearly a major error and left the interest granted over the trust assets unperfected. However, in making its decision the Court said: In the present case, a dominant factor is that even if there be some defect in the registrations, a search of the register in respect of each of the defendants at any time from 4 July 2014 would have disclosed the relevant security interest. No-one could have dealt with the defendants on the faith of the register believing that the plaintiff's security interests did not exist or had not been registered. That is a most telling consideration. 11.11 However, a purchaser or financier, properly advised, and wanting to extend credit or buy assets only from the trustee in that trust capacity should in theory have only had to search the ABN of the trust and not the ACN of the company as trustee - at least as far as non-migrated registrations are concerned. Transurban is a case about extension of time for registration and not about the effect of the registration on third parties, but it is in our view regrettable that the judicial comments above seem to imply that an ACN registration was somehow sufficient to alert the world to interests over the trust assets. 11.12 The case does highlight that it is prudent to search (as we recommend above) against a number of grantor identifiers and not just the one that is strictly correct. It is not difficult to see why there was support for the reform recommended by the Whittaker Report to do away with registration against the ABN of trusts. 21 Section 43(2) 13

Serial number defects 11.13 As noted above the PPS Regulations prescribe that certain types of collateral may or must be described by serial number. The functionality of the PPSR allows search purely by serial numbers and without specifying a grantor. 11.14 Where the particular collateral has been defectively described (for example, the serial number is either omitted or incorrect), this renders the particular collateral vulnerable to the taking free provisions as well as a loss of priority as against other perfected interests. 11.15 The main taking free rule in respect of serial number defects is contained in section 44 of the PPSA. The section provides that a buyer or lessee of personal property takes the personal property free of a security interest in the property if: the regulations provide that personal property of that kind may, or must be described by serial number in a registration; and a search of the register (by reference only to the serial number of the property) immediately before the time of sale or lease would not reveal the perfected security interest. 11.16 So for example if a purchaser of a road vehicle searches its VIN and finds no registration it can take free of any security interest, even if there was a general registration that would have been disclosed by a search of the vendor. 11.17 However the taking free provisions in section 44 will not apply if: 22 the buyer or lessee purchases or leases the property (whether in its own right or on behalf of another person) with the intention that such property will be held as inventory; or the buyer or lessee was a party to the transaction which created or provided for security interest. 11.18 The exception referred to in paragraph 11.17 above exists to prevent parties who intend to on-sell the property from extinguishing existing security interests. This is because the taking free provisions are designed to operate by way of consumer protection and holding the property as inventory indicates a commercial purpose. Motor vehicles section 45 11.19 Section 45 of the PPSA contains two special rules for motor vehicles. 11.20 The first rule is that a buyer or lessee of a motor vehicle can take free of a security interest if they give new value, obtain their interest from the grantor of the security interest (ie the seller or lessor) and: the vehicle is of a kind that may, or must, be described by serial number; and there is a time in the period between the start of the day before the sale or lease and the time the sale or lease occurs, when a search only by the serial number of the motor vehicle would not disclose a perfected security interest. 23 11.21 The second rule is that a buyer or lessee for new value can take the motor vehicle free of a security interest if the seller or lessor is a person prescribed by the PPS Regulations. 24 Dealers covered by the State or Territory motor vehicle dealer 22 Section 44(2) 23 Section 45(1) 24 Section 45(3) 14

licensing schemes are prescribed persons for the purposes of the second rule. 25 The purpose of the second rule is to allow a person to buy or lease a motor vehicle from a motor vehicle dealer, free of a security interest, without the need to search the PPSR prior to acquiring their interest. 11.22 As with many of the taking free provisions, there are exceptions to the taking free rule to prevent misuse of the section. The taking free rule in respect of motor vehicles will not apply if: (c) (d) the secured party (and not the grantor) is in possession of the motor vehicle immediately before the sale or lease (this is on the basis that the buyer or lessee is accordingly put on notice that the motor vehicle is encumbered and accordingly, should not take the motor vehicle free of the secured party s interest); or the motor vehicle is bought at a sale held by an execution creditor; or the buyer or lessee holds the motor vehicle (whether in its own right or on behalf of another person) with the intention that such property will be held as inventory 26 ; or the buyer or lessee buys or leases the motor vehicle with actual or constructive knowledge of the security interest. Sections 297 and 298 of the PPSA describe the circumstances in which a person is deemed to have actual or constructive knowledge. Taking free in the ordinary course of business section 46 11.23 The main rule provides that a buyer or lessee of personal property takes the personal property free of a security interest given by the seller or lessor if the personal property was sold or leased in the ordinary course of the seller s or lessor s business of selling or leasing personal property of that kind. The taking free rule under this section also extends to any security interest in proceeds. 27 11.24 The basis for this taking free rule is to enable purchasers or lessees to be able to take their interest in or rights to the personal property without the need to continuously search the register for (and obtain releases of) existing encumbrances, where the seller or lessor sells or leases such property in the ordinary course of business. In the Ontario case of Fairline Boats Ltd v Leger 28 under the Canadian equivalent of our PPSA, Linden J provided the following rationale for this kind of taking free rule: The objective of this section, as I understand it, is to permit commerce to proceed expeditiously without the need for purchasers of goods to check into the title of sellers in the ordinary course of their business To require searches and other measures to protect lenders in every transaction would stultify commercial dealings, and so the Legislature exempts buyers in the ordinary course of business from these onerous provisions, even where they know that a lien is in existence 11.25 The test is likely to be of similar effect to the old pre-ppsa rule that allowed parties dealing with a chargor to take free of the interest of the holder of a fixed and floating charge where the purchase was in the ordinary course of the chargor s business. The term ordinary course of business in the PPSA context was considered in the 25 Regulation 2.2 of Part 2 of the PPS Regulations 26 Section 45(4)(c) 27 Section 46(1) 28 (1980) 1 PPSAC 218 15

Australian case of Warehouse Sales 29. In that case, the Court considered principles arising from Canadian and New Zealand cases in determining whether a particular transaction is in the ordinary course of business for the purposes of the PPSA. Those principles are: (c) (d) (e) (f) (g) (h) (i) where was the agreement made? (with the presumption that if the agreement is made at the seller s premises, the transaction is more likely to be in the ordinary course of business); the degree of formality and any involvement of external advisers in the transaction; who the parties to the sale were (with the presumption that if the buyer was an ordinary consumer, then the transaction is more likely to be in the ordinary course of business); the quantity of goods sold; the price charged; the nature and significance of the transaction; the reason for the transaction; the frequency of the transaction; and the arm s length nature of the transaction. 11.26 Additional factors that were considered in the case were: (c) (d) whether the seller advertises that it sells goods of the relevant kind; whether the transaction resembles a liquidation of assets ; whether the intent or effect of the transaction was to undermine a security interest; and whether consideration for the transfer was the discharge of an existing liability. 11.27 In the Warehouse Sales case, the sale of the relevant goods in the ordinary course of business were expressly authorised under the terms of trade with the suppliers. The majority of sales were made to an associated party of the grantor and whilst this factor did attract additional scrutiny from the Court, that factor in itself did not render the sales outside the ordinary course of business. 11.28 The taking free rule will not apply in the following circumstances 30 : where the personal property may or must be described by serial number and the buyer or lessee holds the personal property as inventory; or the buyer or lessee buys or leases the personal property with actual knowledge that the sale or lease constitutes a breach of the security agreement that provides for the security interest. 11.29 Although the ordinary course of business rule is important, it will normally offer little to a purchaser of an entire business, because such a transaction is not likely to be regarded as in the ordinary course of business. 29 Warehouse Sales Pty Ltd (in liquidation) & Lewis and Templeton v LG Electronics Australia Pty Ltd & Ors (2014) VSC 644 30 Section 46(2) 16

Qualifications to taking free rules 11.30 Some of the taking free rules provide (variously) that they will not apply if the person acquiring the interest has a specified level of knowledge of the security interest, was involved in its creation, or has actual knowledge that the dealing constitutes a breach of the security agreement that provides for the security interest. These knowledge qualifiers are clarified by provisions in Part 8.6 of the PPSA. The end of equitable rules? 11.31 It is generally considered that unless there is an exception to a taking free rule, then the taking free provisions will apply and there is no room for any of the previous equitable rules about notice. 12 Releases of PPSA security interests 12.1 Whether a security interest is registered is critical to its perfection. 31 However deregistration (ending the registration) of the interest does not release or destroy it. Deregistration may end perfection and may enliven the taking free rules and allow the opportunity for a purchaser to take free thereby eventually extinguishing it, but in theory and subject to that extinguishment, the interest still exists once it is no longer registered. 12.2 Accordingly, actual discharge of a security interest is best done by writing given by the secured party. The Australian Bankers Association (ABA) in collaboration with the Australian Finance Conference prepared an industry standard form titled Release and Undertaking to Amend Registration (ABA Release) and this has received wide acceptance. The ABA Release may be used to provide either a full or partial release of the relevant security interest. 12.3 In the case of a full release, the terms of the ABA Release contain an undertaking to register a Financing Change Statement to end registration on the PPSR within a specified number of days (usually 10 business days). It is then up to the outgoing secured party to end the registration of the security interest. 12.4 If the secured party is only providing a partial release, this is effected by specifying the property being released in the Released Property section of the ABA Release. It is not usually necessary or possible for the secured party to register a financing change statement on the PPSR to record a partial release unless all the specific property being released is described on the PPSR. (Unlike the former Corporations Act charges regime there is no mechanism for notifying a partial release of a security interest.) 12.5 The accepted PPSA process for a partial release is typically as follows: Example: BigBank has an AllPAP registered against SellerCo which is selling its widget manufacturing division. At completion BigBank delivers an ABA Release describing the released property as The assets the subject of the Business Sale Agreement dated 25 January 2016 between SellerCo and BuyerCo. BigBank will not end or amend its AllPAP PPSR registration against SellerCo as it will still apply to other divisions and assets which remain as security for SellerCo s ongoing borrowings from BigBank. Where only a partial release of the relevant security interest is being provided, the undertaking to register a Financing Change Statement can be deleted from the ABA Release. 31 Except where it can be perfected by control or possession as explained above. 17