Perfection by Possession or Control

For ease of communication and in service of providing the degree of emphasis required, it’s quite common for me to say that

“If you don’t register your security interest on the PPSR, you might as well not have one”.

However, it’s easy to forget that there are other means by which a security interest might be perfected.  In addition to Perfection by Registration, there is also Perfection by Control and Perfection by Possession.

Perfection by Control is the sort of thing usually only available to Banks, where they are able to treat a Grantor’s bank account with them as collateral under a security agreement – although the Grantor may own the contents of that account, the Bank will have day to day control. 

Another variation might possibly involve a Grantor’s Stockbroker who is able to exercise controlling rights over their client’s portfolio.  If the client had granted their stockbroker a security interest over their securities account, then, by virtue of their day to day control of those securities, the stockbroker would not need to register that security interest in order for it to be effective.

It is also been adjudged possible for those exercising control over satellites or other space objects from a ground station to be able to use that control to perfect a relevant security interest.

While this form of perfection is not likely to be available to a trade credit supplier, they would nevertheless do well to note that Perfection by Control trumps any other form of perfection.

Thus, if you supply a space satellite subject to a Retention of Title clause, your PMSI super-priority, perfected by registration, will be outranked by any general security interest that might be held over that satellite by whichever third party happens to be flicking the switches and pressing the buttons controlling that satellite.

Satellites aside, Perfection by Control primarily applies to intangible forms of collateral – ones where it is not possible to perfect over them by possession and the ability to exercise control is used as the functional equivalent of possession.

The issue of Perfection by Possession is fairly topical given a recent court judgement in the case of Knauf Plasterboard versus the liquidators of Plasterboard West P/L trading as Retroflex.

Retroflex had granted Knauf a general security interest in all their present and future property via a security deed.  Unfortunately, Knauf omitted to register that deed on the PPSR and it was only some 20 months later, when it became obvious that Retroflex may have been struggling, that Knauf finally got around to lodging their registration.  Barely a week then passed before Retroflex defaulted under the deed and Knauf appointed Receivers to protect their interests. This was followed a couple of days later by Retroflex appointing liquidators.

The liquidators took the view that because Knauf’s security deed had been lodged within 6 months of their appointment and not within 20 days of the security deed being entered into, section 588FL of the Corporations Act allowed the collateral subject to that deed to vest with Retroflex.

I’ve written previously on the subject of the dreaded section 588FL and its implications at PPSA vs The Corporations Act (which also includes a brightly coloured chart!).

While on the face of it the liquidators were correct, Knauf argued that in addition to the registration, they had also achieved perfection of their security interest by possession – such possession taking place with their appointment of the Receivers.

While there were other issues at play, not least the dubious process Retroflex used to appoint liquidators, the court determined that:

• Merely appointing receivers is not sufficient to constitute ‘possession’ if the property in question appears to remain in the possession of the grantor/debtor; and
  
• When the receivers took steps to exercise their rights under the security deed, their actions would be taken as equivalent to a seizure of the property.

Under section 21 of the PPSA, possession as a result of seizure (or repossession) is explicitly excluded as a form of possession sufficient to achieve perfection under the Act.

Someone else has possession of my goods; do I need to lodge a PPSR registration against them?

Given the number of statements we’ve seen suggesting that the PPSA ‘completely changes our concept of ownership’ and the horror stories revolving around legal owners losing their property, it is quite natural to explore all the possibilities when it comes to protecting your property under the PPSA.  Should I be lodging a PPSA registration each time my property leaves my possession?

If you are renting warehouse space, if you are having your goods transported by an independent haulier, if you are locating your IT infrastructure off-site, should you be lodging a registration?

The PPSA lists a number of circumstances that may give rise to a security interest where one would not otherwise think in terms of traditional ‘security interests’.  The most common examples for us are, of course, retention of title clauses, consignment stock arrangements and leases; however, under this last category, the PPSA actually uses the term PPS Lease.

A PPS Lease may be a lease or bailment of goods for a year or more or for an indefinite period (section 13 of the Act refers).

Bailment is a common law concept where possession of personal property is transferred from one person (the bailor) to another person (the bailee) for purposes other than the transfer of ownership.  The example often given is where a restaurant or theatre (the bailee) provides an attended cloakroom free of charge to its customer (the bailor) for the safekeeping of their hats and coats.

While there are similarities with Leasing, leasing typically involves the lessee not merely taking possession of the lessor’s property but also making use of it and putting it to the lessee’s own purpose.  The concept behind bailments is more geared to safekeeping.

If we take the example of a business looking to locate their computer servers off-site at a third party’s premises, they are the bailor, placing their intellectual (and physical) property in the possession of another party, the bailee, for their safekeeping.  The arrangement is, presumably intended to be comparatively long term and thus there is, prima facie, a good case for it being treated as a PPS Lease.

However, at s13(2)(b) of the Act we are advised that a PPS Lease does not include a bailment by a bailor who is not regularly engaged in the business of bailing goods.

Our example business is a company engaged in the business of selling widgets thus ‘bailing’ its intellectual property would probably not be an activity associated with its main business.  I’d like to think that such an interpretation would stand up in court but, in the absence of legal precedent in Australia, we have to resort to querying NZ legal cases.  The closest we get in NZ seems to be the case of Rabobank New Zealand v McAnulty in 2011 where it was determined that the owners of a racehorse put out to stud with the bailee were regularly engaged in the business of profiting from their horse rather than engaged in bailments.

The final criteria for a bailment being a PPS Lease occurs at s13(3) wherein it is stated that a bailment will only be a PPS Lease where “the bailee provides value”.

While the computer storage facility will certainly be providing a valued service (that of hosting our business’s servers) I suspect that the Act is intending a much more narrow definition of ‘value’, specifically monetary payment or similar.

So, to summarise:

Our business is likely to be engaged in what might be considered, under common law, as a bailment of their intellectual property to the third party’s off-site computer facility.

This bailment would be deemed under the PPSA as a PPS Lease and thus be registrable on the PPSR provided:

1.            It is for a year or more, or for an indefinite period; and

2.            Our business is regularly engaged in bailing their property; and

3.            The off-site hosting company is providing ‘value’ (possibly payment) in their role as bailee.

While (1) above is probably satisfied, (2) and (3) are probably not, therefore, such an arrangement is unlikely to be registrable under the PPSA.  

It then follows that, if the bailment arrangement does not meet the full criteria for being a PPS Lease, a liquidator attached to the bailee would not be able to vest the bailor’s property as part of the bailee’s assets.

UPDATE: Since May 2017 the eligibility period for a lease or bailment being considered a PPS Lease has increased from 1 to 2 years.  For an indefinite lease or bailment, the PPSA will only apply once the 2 year period has elapsed.