учебный год 2023 / Goode, Legal Problems of Credit and Security

IV THE FLOATING CHARGE

insolvency68 is void except as to new value. 69 Fourthly, all floating charges given by a company require to be registered, whereas a fixed charge is registrable only if taken over a class of asset listed in s.860(7) of the Companies Act 2006 or if it would have been registrable as a bill of sale if granted by an individual.70 So fixed charges by a company which would, if given by an individual, be outside the Bills of Sale Acts71 or exempt from them72 are not within s.860(7) unless registrable under some other head within that section, for example as a charge on book debts. Fifthly, an administrator may dispose of assets subject to a floating charge without the leave of the court,73 but leave is required for the disposal of assets subject to a fixed charge,74 This distinction has become more significant now that the administration has replaced administrative receivership as the most usual method of enforcement of the floating charge.

Over what classes of asset maya fixed charge be taken?

4-11 Until 1978 it was widely assfuned that, because a floating charge is customarily taken over assets of a shifting character, any charge is a floating charge as regards such assets. In other words, it was thought that a fixed charge could not be taken over current (or circulating) assets, only over fixed assets. The latter have been statutorily defined for the purposes of a company's accounts as assets which are intended for use on a continuing basis in the company's activities, all other assets being current assets. 75 Thus fixed assets will normally include land and buildings,76 fixtures, plant, equipment used for office purposes or in the manufacture of goods for sale or rental, and intellectual property rights, while the most common current assets are cash, trade and other debts, and inventory, including raw material and finished stock in trade held for sale or lease.

The reason why · it had been assumed that current assets were not susceptible to a fixed charge was that by their nature they are either spent (e.g. cash) or consumed in the course. of manufacture (e.g. raw materials) or held only temporarily as stock in trade prior to being sold or let on lease in the ordinary course of business, for which purpose it was essential for them to be

,,_890--1891); (3) over choses in action (Bills of Sale Act 1878 s.4; but a charge over book debts iS:specifically registrable under s.~60(7) and a general assignment of book debts under the

Insolvency Act 1986 s.344(3)(6)).

72See Halsbury's Laws 4th edn (Lond.on: J?utterworths Law, 1991), Vol.4(1), paras 665 et seq.

73Insolvency Act 1986 Sch.Bl para.70.

74Insolvency Act 1986 Sch.B1 para.71.

75Companies Act 2006 s.853(6).

76But land held by a developer may well constitute the developer's trading stock.- See, for example, the decision of the New South Wales Court of Appeal in Boambee Bay Resort Pty Ltd v Equus Financial Services Ltd (1991) 26 N.S.W.L.R. 284.

134

FIXED CHARGE VERSUS FLOATING CHARGE

transferred free from any security interest. But the decision in Siebe Gorman & Co Ltd v Barclays Bank Ltd'7 exposed the fallacy of this approach and showed that the material factor was not whether the charged assets were fixed or current but whether the debtor company was left with the right to deal with the assets in the ordinary course of business free from the security interest, a freedom incompatible with the concept of a fixed security but perfectly consistent with a floating charge, from which assets escape when disposed of in the ordinary course of business and which thus provides the creditor with security without paralysing the business. This led to the realisation that it is possible, if in most cases very inconvenient, to have a fixed charge over current assets, and conversely (but with less inconvenience) to have a floating charge over fixed assets, such as land.

Again, the mere fact that assets subject to a charge are fixed assets and 4-12 therefore likely to be held on a more permanent basis and not disposed of

until they need replacement does not conclusively establish that the charge itself is a fixed charge, particularly where the assets are items of .plant, furniture or equipment which are likely to need replacement from time to time. When read as a whole the charge instrument may be open to the construction that such assets were intended to be left outside the control of the chargee in the same way as current assets covered by the charge, as where the charge instrument is expressed to cover not only stock in trade and book debts but also plant, equipment and furniture of a kind likely to need replacement from time to time, and these assets are grouped with the stock in trade and book debts without differentiation. 78 The moral for the draftsman, in expressing a charge over such fixed assets as a fixed charge, is to make it very clear that the fixed assets are not to be disposed of free from the charge. In the light of the Spectrum case discussed below, it is hard to say whether even a power to make item-by-item substitutions, as opposed to a general power of disposition, is consistent with a charge being fixed 79 But subject to

77[1979] 2 Lloyd's Rep. 142. Siebe Gorman was not overruled by the Spectrum case on this point. See also Re Yorkshire Woolcombers Association Ltd [1903] 2 Ch.D. 284, 294 per Vaughan

Williams L.J. See below, paras 4--13 et seq.

73See, for example, National Provincial Bank ofEngland Ltd v United Electric Theatres L'td[l916] I Ch. 132; Re GE Tunb•·idge Ltd[I995]I B.C.L.C. 34; Re ASRS Establishment Ltd [2000]2 B.C.L.C. 631 (although note that Robert Walker L.J. at 640 expressed doubts as to whether this

was a universal rule of construction); Smith v Bridgend County Borough Council[200l] UKHL 58; [2002]1 A.C. 336 [44]; Fanshaw v Amav Industries Ltd[2006] EWHC 486 (Ch) [33].

79 Before Spectrum it was generally thought that where the chargor could only dispose of charged assets on terms that they are replaced on a unit-by-unit basis; replacements then becoming subject to the charge, the charge could be classified as fixed. The cases relied on were Holroyd v Marshal! (1862) 10 H.L. Cas. 191, in which a charge over existing machinery and all machinery subsequently placed in the chargor's mill in addition to or in substitution for the original machinery was upheld as a fixed charge; and Cimex Tissues Ltd[l995] l B.C.L.C. 409, in which Mr. Stanley Burnton Q.C. pointed out in his judgment (para.32) that, by way of exception to the general rule that a person can only grant a security bill of sale over goods of which he is the true owner at the time of granting the bill (Bills of Sale Act 1878 (Amendment) Act 1882 s.5), s.6 of the Act permits the inclusion of fixtures, plant and trade machinery brought on to land or premises in substitution for fixtures, plant and machinery specifically described in the Bill. However, the actual charge in Cimex Tissues did not include a power to substitute, and it is very dubious whether the decision survives Agnew and Spectrum. There are

135

IV THE FLOATING CHARGE

any contrary inferences to be drawn from the charge instrument itself it is generally true to say that there is a presumption that a charge over current assets is a floating charge80 and one over fixed assets is a fixed charge. Thus a charge on land will usually be ~'Qnsidered a fixed charge even if it does not contain any express provision restricting disposition of the land by the chargor free from the charge. Such a restriction is taken for granted as inherent in the nature of the charge. The position might be otherwise where the chargor is a developer holding the charged land as part of its stock.

With these preliminary observations the application of the principles stated above to different classes of current asset will now be considered.

Book debts

4-13 The principal area of dispute in relation to the characterisation of a charge as fixed or floating concerns charges over book debts. Banks in particular have been concerned to show that res(rictions in their debentures have established their charges as fixed, while liquidators have been equally astute to kek to strike such charges down as unregistered floating charges. The result has been a substantial volume of litigation, in which we may distinguish four phases. In the first it was established in Siebe Gorman81 that it is possible to take a fixed charge over book debts. In the second it was decided in Re Brightlife82 that this required not only restrictions on the sale of book debts but control over their proceeds, whether these resulted from sale of the book debts or (the most common in the reported cases) their col!ection by the chargor. This control could be exercised either by the chargee ~'Ollecting the debts itself or by the chargor collecting them for the account of the chargee and without liberty to use them for it' own purposes except with the post-collection consent of the chargee. The third phase showed a weakening of this approach and a trend towards accepting the label attached to the transaction by the parties, as well as some unorthodoxy in delineating the characteristics of a floating charge.

C&'\eS illustrative of this phase are Re Atlantic Computer Systems plc," Re Atlantic Medical Ltd, 84 and Re New Bullas Trading Ltd."The fourth and final phase has seen a return to orthodoxy with the decisions of the Privy Council in Agne~ v Commissioners of In((md Revenue,86 and of the House of Lords in

--~ ········ - · - ·· -------

a number of Singaporean decisions about chargeS over shares where there was a power to substitute where such charges were held to be floating, see Re Lin Securiti£s (Pte) t1988] 1 _'j:;:LR. 340; Dresdner Bank Aktiengesellsdtaft v Ho Mun«Thke Don [1993} 1 S.L.R, 114

(Singapore CA; R£ EG Tan & Of (Pte) [1990]1 S.L.R. 1030 (HC Singapore), cf. Re TKU EU!ope Group plc [2004Jl RCLC. 519, where a conmtry view was expressed obiter.

go See below paraA-20,

11 [1979]2 Lloyd's Rep. 142. " [1987] Ch. 200.

83[1992) Ch. 505.

84[1992] B.C.C. 653.

"[1994] B.C.C. 36.

"'[2001] UKPC 28; [2001]2 A.C. 7!0.

FIXED CHARGE VERSUS FLOATING CHARGE

~~- ~~--------

Re Spectrum Plus37 emphasising that while the court looks to the agreement of the parties to determine their intention, the effect of what they have agreed is a matter of law.

In the analysis which follows it is assumed that the debts are collected by the chargor, not by the chargee, so that the crucial issue is whether the chargor collected for its ov;n account or for that of the chargee.ss

(I) From Siebe Gorman to Brightlife,

In the early 1970s, Barclays Bank began to use a form of fixed charge over 4-14 book debts. There was much discussion in legal circles as to whether such a

charge was possible, and in Siebe Gorman & Co Ltd v Barc/ays Bank Ltd89 the plaintiffs threw down the gauntlet. The challenge was successfully resisted by Barclays Bank. The facts were as follows:

A company gave a debenture to the defendant bank which provitled (inter alia) that to secure its present and future indebtedness the company as beneficial owner charged to the bank by way of first fixed charge all book debts and other debts then and from time to time due or owing to the company, and undertook to pay all monies received in respect of such debts into the company's account with the bank and not to charge or assign the same to any other person without the written consent of the bank.

Among the debts charged by the debenture were certain bills of exchange.90 The same bills were subsequently assigned outright by the debtor company to the plaintiffs in reduction of the company's indebtedness to them?' Later, the defendant bank collected in the bills and 'declined to account to the plaintiffs for the proceeds. The plaintiffs pleaded (inter alia) that the purported fixed charge was in reality a floating charge and was thus overridden by the assignment to the plaintiffs.

87[2005] UKHL 41; [2005]2 A.C. 680.

88Lord Hope in Spectrum set out four ways for a chargee to achieve the necessary control for a charge to be fixed, which included collection by the chargee (at para.54). However, he also pointed out that "'this method.. .is likcly to be unacceptable to a company which wishes to curry on iu, business as normally as possible by maintaining its cash flow and its working capital.''

"[1979] 2 Lloyd's Rep. 142.

9ll Held to be book debts for the purpose of the provisions of the debenture t'elating to book debls (cf Re Stevens [1888] W.N. 110; Dawson v Isle [1906] I Ch. 633). Note that the deposit by way of security of a negotiable instrument gj:ven to secure the payment of a book debt is exempt from registration (Companies Act 2006 s.&6l(3) in order to preserve the negotiable character of such instruments.

~~This was held by the judge not to be a mortgage, as no equity was retained by the as&ignor. This useful method of obtaining reduction or discharge of an indebtedness without taking a sect1rity is typically employed in situations where the value of the assigned debt does not exceed tbe amount owing to the assignee. Where the former is greater the assignor will need an undertaking by the assignee to refund the excess. As to this see above, para.f ...J5.

137

IV THE FLOATING CHARGE---

Slade, J., applying the Canadian decision in Evans Coleman & Evans Ltd v R. A. Nelson Consrrucrion Ltd"1 held that there was no reason why book debts could not be the subject of a fixed charge if that was the intention of the parties. He held that the vitul element distinguishing a mere floating charge from a fixed charge, namely the debtor's freedom to manage its assets in the ordinary course of business,was lacking. The debenture gave the chargee control over the debts by prohibiting the·debtor company from disposing of the charged debts without the plaintiffs' consent; it also imposed some control on receipts by requiring these to be paid into an account with the chargee. There were, however, no explicit restrictions on withdrawals from this account by the chargor. Having held that the charge was, as intended, a fixed charge, Slade J. concluded that this gave the chargee the right to assert its lien on the proceeds in the account at any time, even when the account was in credit. As will be discussed later, this reasoning was criticised in Re sp&trum Plus, although the principle that a flxed charge over book debs waS possible to achieve was not dissented from.

A similar decision was reached by the Irish Supreme Court in Re Keenan Bros Ltd," where the chargee's control was even more explicit in that the proceeds had to be paid into a special blocked account, not into the company's ordinary account. The vital element of control of the proceeds was omitted from the debenture given in Re Brightlife Ltd," where the debtor company, though prohibited from selling, factoring or discounting the charged debts without the consent of the debenture holder, was left free to collect in the debts, pay the proceeds into the bank account and use them or its own moneys. It was held by Hoffmann J. that the charge, though described as a fixed charge, was in truth a floating charge,95 for the company's ability to deal with receipts as its own was inconsistent with a fixed security. This was plainly correct.% It should be noted that the chargee in Brigl!tlife was not a clearing bank, and so ·could not use the form of debenture used in Siebe Gorman, where the proceeds were required to be paid into a bank account held with the chargee." This discrepancy between the position of clearing bank and non-bank lenders caused significant difficulties and eventually led to the drafting of the debenture in Re New Bul/as.

-- ··· ----

"(1958) 16 D.L.R. (2d) 123.

93 [1985] I.R. 401; [1986] B.C.L.C. 242. "[!987] Ch.200.

vs See"'also the decision of the High Co}irt of Northern Ireland in Re Armagh Shoes Ltd [1982]

NJ. 59; [1984] B.C.LC 405, in which the <;:ourt held that the mere designation of a charge on book debts as a fixed charge did not make·H so, and that if the charge contemplated that the debtor would have freedom to manage thC assets comprising the security it was a floating char~ even though that freedotn was not expressly stated in the c-harge instrument

% See above, paraA-13, The reasoning and decision in Brightlift was approved in Spectrum

[107].

97 This distinction \Vas recognised by Hoffinann l in Brightlij(: at 210 and commented on in Spectrum [87] by Lord Scott.

It was also pointed out by Slade 1 in Re Bond Worth [19801 Ch.228, 267.

IV THE FLOATING CHARGE

until the chargee chose to intervene. Accordingly it could not be said that the sub-rentals had been unconditionally appropriated to the secured obligation. Re Atlantic Computers also drew a false analogy between the income from an asset and the proceeds of that asset. 110

Next came Re At/antic Medical, 111 where, however, the charge covered both present and future hire-purchase agreements, sub-leases and rentals. Vinelott J., having rather surprisingly concluded that the fact that the security covered future assets was not a ground for distinguishing Re Atlamic Computers, left unclear on what exactly turned the characterisation. Finally came Re New Bu/las Trading, 112 which involved a secured loan by a financier who was not a bank. Since for this reason the Siebe Gorman form of debenture could not be used, the parties used an agreement which created two distinct charges, a fixed charge over the book debts and a floating charge over the proceeds, so that the company still had access to the proceeds to use in the couirse of its business. The Court of Appeal su&umbed to the beguiling argument that since the two assets were different the fact that the charge over the proceeds was expressed to be floating coull:l,not affect the fixed nature of the charge over the book debts themselves,113'1and it was entirely open to the parties themselves to agree that the charge on the book debts should be fixed and on the proceeds, floating.

In Commissioners of Inland Revenue v Agnew,' 14 the New Zealand Court of Appeal concluded that Re Atlantic Computers Ltd was not in accordance with established authority. In upholding the substantive decision"' the Privy Council made no comment on Re Atlantic Computers. Nor was the case mentioned in the judgments in Re Spectrum, although it was cited in argument. It is, however, submitted that neither that decision nor the decision in Re Atlantic Medical can stand.

(3) From Re New Bullas to Spectrum

4-16 Though the decision in Re New Bul/os had its supporters, 116 it was not viewed with enthusiasm by lower courts and it was the views of its critics117 that

d!l. See, for example, A. Berg; "Charges over Book Debts: A Reply" [1995jlRL 433; D.W. McLauchlan, "Fixed Charges over B_ook :DebtS···-New BuJlas in New Zealand" (1999) 115 L.Q.R.365; and "New Bullas in New Zealand: Round 1\vo" (2000) 116 L.Q.R. 211; R Watt~ "Fixed Charges over Book Debts" [1999] N.Z.L.R 46; Vaten and Rubenstein, "Separation of Book Debts and their Pruceeds" [1994] C.L.J. 225.

mSee. for example, R. Goode, "Charges over Book Debts: A Missed Opportunity" (1994) 110 L.Q.R. 592; G. Lightman and G. Moss, The Law of Receivers of Companies paras ~030 et seq.~ S. Worthington, "Fixed Charges over Book Debts and other Receivables" (1997) 113

FIXED CHARGE VERSl:S FLOATDIG CHARGE

finally prevailed in the decision of the Privy Council in Agnew v Commissioner of Inland Revenue.m That case concerned a debenture which was expressed to confer a fixed charge on the company's book debts and their proceeds, excluding those proceeds which were received by the company before the charge crystallised or the bank required them to be paid into an account with itself, which it never did. Proceeds received by the company while the charge remained uncrystallised therefore fell within the floating charge which the debenture imposed on the company's other assets. The debenture was in very similar terms to that of Re New Bullas, despite the fact that the lender in Agnew was a bank. The en:ect of the debenture, therefore, was that while the bank reserved the power to intervene and take control of the proceeds, that power was never exercised. The Privy Council had no hesitation in concluding, in agreement with the Court of Appeal of New Zealand, that the charge was a floating charge and that Re New Bullas had been wrongly decided. 119 The proposition that a charge over book debts could be characterised independently of the contractual provisions governing the application of the proceeds was robustly rejected120

The decision restored the orthodoxy of Re Brightlifo, and effected a symmetry with cases going back to the 19th century which established that the mere existence of a power of intervention is not sufficient to give a floating charge priority over the claims of execution creditors; it is necessary that the debenture holder shall actually have intervened to crystallise the charge by taking control of the charged assets. 121 Though only of persuasive authority, Agnew was regarded by the whole fmancial community as determinative in relation to the New Bullas form debenture. and throwing considerable doubt on whether the Siebe Gorman debenture would be classified by a court as a fixed charge,l22 The Siebe Gorman debenture was challenged in the case of Re Spectrum Plus, m in which the House of Lords decided that such a debenture did not provide sufficient control on the part of the chargee for the charge to be fixed. The decision iB Spectrwn confinned that the only criterion for deciding whether a charge was fixed or floating was the degree of control exercised by the chargee over 'the charged assets', and that the presence or absence of the other two characteristics of a floating

-- -------- ---- ···· ------- -

L.Q.R. 562; and, sub silentio, .Millett LJ. in Royal Trust Bank v National rt'estminster Bank plc [1996] 2 B.C.L.C. 682.

m [2001] UKPC 28; [2001] 2 A.C. 710.

tltt It is ironic that just over a year after the decision in Agnew the floating charge in New Zealand~ though not abolished, ceased to exist as a distinct form of security upon the coming into force of the Personal Property Securities Act 1999, which converted it into a fixed secunty interest. See L, Wtddup and L. Mayne, Personal Property Securities Act: a conceptual approar.h 2nd edn (Wellington; Butterworths, 2002) Ch..22, entitled "Tile Demise of the Floating Charge."

iw per ktrd Millett at 729.

121 See below, paras ~39 et seq.

:zz That Agnew was a turning point can be seen, inter alia, from the tAct that HMRC issued a statement in March 2006 to R3, tile Association of Business Recovery Professionals, (after the Spectrum decision) requiring funds distributed to chargeholders since the date of the Agnew decision on the basis of a Siebe Gorman type debenture to be repaid by cllargeholders and distributed to creditors in the relevant order.

"' [2005ll:KHL41; [2005] 2 A.C. 680.

IV THE FLOATING CHARGE

charge pointed out by Romer L.J. in Re Yorkshire Woolcombers Association

Ltd'24 were not definitive. m The clearest exposition of the test is that of Lord Millett in Agnew, when he said:

"the only intention which is relevant is the intention that the company should be free to deal with the charged assets and withdraw them from the security without the consent of the holder of the charge; or, to put the question another way, whether the charged assets were intended to be under the control of the company or of the charge holder." 126

However, the decision in Spectrum has not answered all the questions concerning the characterisation of fixed and floating charges. Two main areas of uncertainty concern what degree of control is necessary for a charge to be fixed, 127 and what is meant by..'the charged assets' which have to be the subject of control. Where a chargil covers book debts, it is clear that 'the charged assets' include the prod!eds so that to be fixed, the chargee must control the proceeds. 128 However,'t])e position is less clear where tbe chru:ge is over an income-generating asset. W'here the asset is clearly separate from the income generated, for example, land which is let,129 control of the income is not required for a fixed charge over the asset. However, in a less clear case, such as a charge over a chattel lease or a long term contract, it is submitted that there are three main relevant factors: first, how directly the assets generates the income, second, how close the generation of income comes to being the sole value of the asset and third, whether the asset is destroyed by the generation of income.

Stock in trade

4-17 The fact that a valid fl.ired charge can, at least in theory, be taken over book debts leads to the question whether a fixed charge is also possible over stock in trade. Plainly the theoretical answer is, yes. Now that the issue is seen to be the presence or absence of the debtor's freedom to manage its assets in the ordinary course of business, there is no reason to distinguish one class of

"' [1903] 2 <;'.h.D. 284,295.

125 [2005] UKHL 41; [2005]2 A.C. 680 atJ!Il].

116 [2001] UKPC 28; [2001] A. C. 710 at [32].

127This is discussed below at para.4-21.

128While it is not possible to have a fixed charge on book debts if the chargor is left free tO collect tlfe debts for its own account, the converse is not true. There is nothing to preclude the grant of' a floating charge on book debt&, giving the chargor freedom to dispose of them in the ordinary course of business, and a fixed charge on the collected proceeds through a

requirement that these are to be under the, control of or held-for the account of the chargee. ; 29 A charge over a lease of land (which is' a proprietary interest) was held to be fixed even though.the charger was free to use the rents in its business, Rhodes v Allied Dunbar Pension Services Ltd[1989] I W.LR, 800.807. A charge over shares owned by a company who was free to use dividend payments and redemption moneys in the ordinary course of business was held to be fixed in Arthur D Little Ltd (in administration) v Ableco Finance UC (2002]

EWHC 701 (Cb); J2003]Ch. 217.

142

FIXED CHARGE VERSUS FLOATING CHARGE

changing asset from another. Where the instrument of charge over stock in trade precludes the debtor from disposing of its stock without the prior consent of the creditor then if the parties operate the agreement on the basis of this restriction a valid fixed charge is created.

That is the theory. In practice, in relation to both receivables and stock in trade creating a fixed charge over them is likely to commercially impracticable. Vv'hile there is in general no commercial necessity for a company to be given liberty to sell or charge its receivables in tbe course of business, a company does usually need to use the proceeds of the receivables in order to run its business, and therefore is ).mlikely merely to want to pay them into a blocked account from which it can only withdraw with the consent of the chargee, which is the level of control that Spectrum appears to require 130 Stock is held for sale, not for use in the business, and a company cannot operate at all unless it can dispose of its stock in such a way as to give purchasers unencumbered title. So restrictions on the sale of stock in trade would be commerdally impracticable.

It would be open to the creditor to stipulate that no item of stock was to be disposed of without the creditor's prior written consent, but in most cases the debtor company would find it impossible to live with such a restriction. A blanket consent in advance would not do, for this would be incompatible with the existence of a fiXed security interest and would make the charge a floating charge,:3l So wbilst the imposition of appropriate restrictions on dealings in stock in trade would preserve the efficacy of the charge as a fixed charge, in practice it is rare that the parties will find such an arrangement workable.

An alternative is to utilise some form of pledge through constructive delivery to the creditor. One way of doing this is by field warehousingB2 Another, less elaborate, method requires the debtor to acknowledge that any stock in trade of which it is in possession is held to the order of the chargee and that while the chargor is permitted to sell the goods in the ordinary course of business it does so as agent of the chargee and is to hold the proceeds of sale on trust for the chargee This is not different in principle from the trust receipt mechanism. 133 It does, however, suffer from the defect that the chargor is not free to use the prceeds of sale as it wishes.

no See below for discussion of possible ways to reconcile the necessary amount of control with the ability of the chargor to carry on its business. It is likely, however, that rathet than pursue these ideas, lenders will adopt other forms of financing, such as invoice discounting. Indeed this has been happening already, Figures from the Asset Based Finance Association sho; that there has been a steady growth in invoice discounting from 1995. with a significant increase in lhe rate of growth from 2003 onwards. This accords with research by S. Frisby, "Report in Insolvency Outcomes", prepared for the Insolvency Service, June 2006.

131See Gough, Company C"harges, pp.630-631. Advance consent given in the charge agreetnent itself would mean that the document was inconsistent and that the charge was likely to be

characterised us floating. This cannot be avoided by gh·'ing advance consent in another side agreement Such an agreement wm be taken advance in characterising the charge (Re Spectrum Plus [200512 A.C. 680 [!58] per Lord Walker; Hart v&rnes 11982]7 A.C.L.R. 310),

m See below, para.4-23.

m See above, pan:t.2-·l0; below; paras 4-19, 4-23.

143

IV THE FLOATI:-!G CHARGE

As with book debts, there is nothing in theory to prevent the chargor from granting a !1oating charge over the stock in trade and a fixed charge over the proceeds, 1.14 although, again, since the proceeds are likely to be receivables and the company will want to use the proceeds of the collected receivables in its business, this structure is also unlikely to be commercially practicable.

Raw materials and goods in process

4-18 Similar considerations apply to security over raw materials and goods in process of manufacture. It is theoretically possible to have a fixed charge over these classes of asset, but generally impracticable to require the debtor company to obtain the creditor's consent to the processing of each batch of raw materials or to the making up of each item of goods in process.

Documents of title to stock in trad~ '

4-19 What applies to stock in trade mum at first sight be equally applicable to documents of title to trading stock. There is, however, the important difference that documents, unlike goods, can conveniently be possessed by the creditor. This allows a pledge of the goods by deposit of the documents, a common procedure for banks advancing the price of imported goods. The business purpose of the transaction can be achieved without significant loss of security by releasing the documents to the pledgor against a trust receipt, thus preserving the pledge. 135 For further security the bank may require the goods to be stored in an independent warehouse, the bank's consent being required before any goods are released from the warehouse.

3. SHIFTING ASSETS: CONTROL TECHNIQUES

Current assets distinguished from rrxoo assets

4-20 As described earlier, 136 when performing the e"ercise of deciding whether a charge is fixed or floating, the court will adopt a two stage approach. 131 In carrying O'fl the first, interpretative, stage, the distinction between fi"ed and

ll<t Re·ccG lntemarional Enterprises Ltd[l993] B.C.L.C. 1428.

135Re\pavidAllester Ltd [1922}2 Ch. 211. In that case, the court refused to recharacterise a trust recCipt as a charge, However, at lea_st as regards the proceeds. of sale ·Of the goods, it is arguable that the interest of a pledgee under a trust receipt is truly that of a chargee. See above, para. 1-67, fn.267. This in itself .wou:td not be a problem (although it might raise issues of registration), if the chargee had sufficient control over the pr~s for the charge to be characterised as fixed, for example, if the purpose of the sale was merely to repay the

pledgee!chargce, although the charge might be registrable; !31> Above para.4-05.

"' This is the process described by Lord Millett in Agnew [2001] UKPC 28; [2001]1 A.C. 710 at [32].

144

SHIFTING ASSETS: COl'iTROL TECHNIQUES

---------------- --------~

current assets becomes of some importance. Where the question of whether the chargor can dispose of the charged assets or not is expressly dealt with in the charge agreement, this will be interpreted according to the natural meaning of the words, and the nature of the assets charged will merely be part of the background against which this interpretation takes place, 138 and is usually irrelevant if a power to dispose is clearly set out in the agreement."' If a charge is taken over the defendant company's factory or its business equipment without an express stipulation that the company shall not dispose of or incumber the asset without the chargee's consent, it is presumed that any disposal, whethet absolute or by way of S!'Curity, requires the consent of the chargee, for assets of this kind are held by the company for use in its business, not lbr resale. Of course, if the chargee habitually stands by and allow the company to sell or charge its fixed assets free from my security without prior consent the court will consider this inconsistent with the charge being fixed, for one cannot on the one hand assert a fixed charge and on the other allow the company to deal with the charged assets as its

contrast it is in the nature of circulating assets that they are turned over by manufacture (in the case of raw materials), sale (in the case of stock in trade) and collection (in the case of receivables), and the continuance of the debtor company's management powers over snch assets is thus assumed unless negated by the agreement of the parties. 141 Hence the need for legal and practical control techniques to prevent the debtor company from dealing with the charged assets as its own. Again, in relation to a charge on book debts, where it is necessary for the chargee to have control over the proceeds,142 it is not sufficient to provide for such control in the charge instrument if in practice the chargee does not enforce the provision. Lord Millet! in Agnew said that a stipulation that the account into which the proceeds are to be paid is to be a blocked account will not establiil't the charge as a fixed charge if the account is not operated as a blocked account in fact. 143 However, the precise meaning of this statement was not made clear, and the matter, though mentioned, was not fully clarified in Spectrum. 144 It would seem that if restrictions in the charge agreement are not adhered to in practice,145 then either the agreement will be held to be a sham, and

"' Ashborder BVv Green Gas Power Ltd[2004] EWHC 1517 (Cn) (183].

'" Re ASRS Establishment Ltd[20DO] 2 B.C.L.C. 631, 641.

143 Agnew v Commissioners of Inland Revenue f2001] UKPC 28; [2001] 2 A.C 710, per Lord

Mi!lett [48].

1" (2005] lJKHL41; [2005) 2 A.C. 680[160].

145Analysis of the relevance of post-contractual conduct has been con&idered bv a number of academics, seeS. Atherton and R. Mokal, "Charges over Chattels: issues in thi ftx:ed!floating jurisprudence" (2005) 26 Company Lawyer 10 and A. Berg, "The cuckoo ln the nest of corporate insolvency: some aspects of the Spectnrn1 case" [2006] J.B.L. 22, 3lA4; Beale, Bridge, Gullifer and Lomnicka, The Law of Personal Property Security 4.85---4.88.

145

IV THE FLOATING CHARGE

recharacterised as a floating charge, 146 or it is likely to be held to have been varied, which has the effect either of creating a new charge or decrystallising the old one. 147 In the contrary situation, where a charge over debts is labelled 'floating;' but the proceeds are paid into a blocked account, this does not, however, have the effect of making the charge fixed. 148

Degree of control necessary

4-21 How much freedom can the debtor company be given to deal with charged assets if the charge is to retain its status as a fixed charge? Or to put the question another way, how far must the debtor's power to manage the charged assets be restricted? It is not possible to give an completely exhaustive reply to this question, although some guidance is given by the Spectrum case. At one end of (he spectrum149 is total freedom of management. This is plainly incompatible with a fixed security interest. A creditor cannot claim a fixed secufity in an asset in one breath and then in the next allow the debtor to dispose of the asset as if it were the debtor's own, At the other end of the spectrum is a tlltal prohibition on dealings of any kind in the asset or its proceeds. Clearly in this case the charge is a fixed charge. Between the two ends of the spectrum lies an infinite range of possibilities. However, it now looks as though virtually all those possibilities will result in the charge being characterised as floating. The House of Lords made it clear in Spectrum that where the chargor is able to remove the assets from the scope of the charge the charge must be floating. 150 Thus only total prohibition of all dealings and withdrawals without permission is enough to create a fixed charge. 151 Taken literally, this would mean that even a power to make item by item substitutions would prevent a charge from being fixed, since a power to substitute includes a power to dispose. Although this particular point is still uncertain, it is clear that, if any power to substitute at all is to be held to be consistent with a fixed charge, it would have to be very specific in only permitting disposal of an item if a substitute item was immediately acquired, so that the security is in no way reduced. 152 It is clear that merely to label the charge "fixed" is not enough. 153 The instrument must restrict the debtor's

146Where the·document, by design, does no'f:-rf;present the true intention of the parties. Since a

finding of a sham requires dishonesty, it is',thought unlikely that a court would find that a standard rbrm document was a sham.

147See below paras 4-57--4--58.

148Fanshaw v Amav Industries Ltd [2006] EWHC 496 (Ch).

149NO. pun intended.

150[2005] UKHL 41; [2005]2 A.C. 680 [107]per Lord Scott, [138], [139]per Lord Walker.

151See'1S. Worthington, "Floating Charges: Use and Abuse of Doctrinal Analysis" in Company

153Re Armagh Shoes Ltd[l982] N.I. 59; [1984] B.C.L.C. 405; Re Brightlife Ltd[l986]3 All E.R. 673. The label. could in some cirucmstances provide some evidence of the parties' intention

when the courts are carrying out the first, interpretative, stage of characterisation, Arthur D Little Ltd v Ableco Finance LLC [2002] EWHC 701 (Ch); [2003] Ch. 217, [31]. See above para.4--20.

146

SHIFTING ASSETS: CONTROL TECHNIQUES

dealing powers; and the restrictions must be meaningful, not a mere sham. A creditor who, having imposed restrictions on dealings on the debtor company, persistently stands by and allows the debtor to ignore those restrictions will risk either having the agreement recharacterised as a sham, or being held to have varied the agreement so that the charge is now floating. 154

Let us now consider some of the more important control techniques. These divide into two groups; control through the charge instrument; and active

or his agents. There are various ways of achieving this, most of them being equally applicable to a pledge, which is the more common security device where the auditor assumes direct control of the goods. The fullest control is exercised by a requirement that the goods be stored in the creditor's own warehouse and released only with the approval of the creditor's warehouseman. This is a costly procedure and one which most debtors would view with the utmost disfavour. An alternative is to stipulate that the goods shall be stored in the creditor's name in an independent warehouse, the debtor being responsible for warehousing charges, or that, if stored by the debtor itself, the debtor will on each occasion procure the warehouse to attorn to the creditor, so that legal possession passes to the creditor. Warehousing in an independent warehouse is not uncommon and gives the chargee a considerable measure of security, but again involves the debtor in warehousing charges which it may find burdensome. Yet another variant is the "field warehousing" type of security, where the goods are warehoused on the debtor's own premises, the charge instrument providing that they are to be segregated from the debtor's other goods and kept in a distinct room or fenced off area under the supervision of an employee of the debtor who is for this purpose to be the agent of the creditor and to act in accordance with the creditor's instructions. Such a provision can sometimes be reinforced by a requirement that the segregated part of the premises in question be leased to the creditor at a nominal rent.

These different forms of warehousing arrangement provide a relatively high measure of control. But English law, in contrast to American law, also

154 See above, para.4--17; para.4--20; below, para.4--57.

147

IV THE FLOATING CHARGE

recognises a pledge or charge in which the debtor simply acknowledges that he holds the goods to the order of the creditor until sale and holds the proceeds of sale on trust for the creditor.155

In the case of goods covered by documents of title-e.g. imported goods shipped under a bill of lading-the security agreement could provide for the shipping documents to be deposited with the creditor. Usually, this would be by way of pledge, rather than charge. The goods should not be consigned to the creditor-who might incur liability for unpaid freight~but the agreement should provide for them to be consigned to the debtor and indorsed to the creditor in blank. The shipping documents can later be released to the debtor under a trust receipt. " 6

{2) Provisions for segregation and preservation of charged property

4-24 To emphasise the point that the c'?'ditor regards himself as having an interest in specie in the charged assets, ,the instrument of charge should contain provisions requiring the assets to <the segregated from the debtor's other property, even if it is not possible to impose a requirement that the premises shall be under the actual control of a third party. This should be reinforced by undertakings as to insurance, safe custody and repair.

(3) Restrictions on dealings

4-25 Typically, these take the form of a prohibition against a dealing with or transfer of possession of any of the charged assets without the creditor's prior written consent, "dealing" here covering both outright transfer and the grant of a mortgage, charge or lease. Such a prohibition is effective to establish the charge as a fixed charge on goods even though there is no duty to account for the proceeds.. This is because, in contrast to book debts, which can be realised either by sale or by collection, goods have to be sold to produce proceeds, and if the chargor of goods cannot dispose of the goods themselves without the chargee's consent it is not in a position to collect the proceeds. 157 As an alternative, the debenture can empower the debtor company to deal with the charged assets as the debenture holder's fiduciary agent, holding the proceeds separately for the debenture holder's account. 158 The debeniure should make it cleat that the agency is confined to the relations between the debenture holder andt)le company and that the latter is to deal as principal in the third parties and'is not to commit the debenture

m paras 1_;(57, 2-10, ~19. ;.

156 For a more detailed description of the pqsition where bills of lading are pledged as part of the operation of a documentary credit, ~ Bcale, Bridge, Gullifer and Lomnicka, The Law of Personal Property Security 3,2?...3.29,

mThe chargor is, however, in a posltion to give good title to buyers if rhe goods are sold in the ordinary course of business of the chargor. since the purchasers w:ill not have constructive notice of the charge (see above para.2~29). If the chargee habitually allows such sale the position would be the same as discussed in para.4--20 above.

158 See (4) below,

148

SHIFTING ASSETS: CONTROL TECHNIQUES

holder to any contractual relationship with or liability to any third party."' It is also desirable to require dealings to be on commercially reasonable terms.

{4) Accounting for proceeds

Where the debtor company is left free to dispose of the charged assets or, in 4-26 the ease of debts, to collect them in, it is essential that the company be required to account for proceeds, meanwhile holding these on trust for the creditor and keeping them separate from the debtor's own monies and property. Leaving the debtor free to commingle the proceeds with his own monies is incompatible with the existence of a trust, which presupposes a

duty on the trustee to keep trust monies separate from his own. 160 There are various ways in which the required control can be effected: by providing for the chargee rather than the chargor to collect the proceeds; by requiring the chargor to collect as agent for the chargee and pay the proceeds into a separate account opened by the chargor with its own bank but capable of being drawn on only with the chargee's consent, or into such an account over which the chargee takes a fixed charge; or, where the chargee is itself a bank, by requiring the chargor to pay the proceeds into a blocked account opened with the chargee. 161 But frequently debtor companies are reluctant to submit to such a restriction on their ability to handle incoming moneys representing trading income, and without it the court is likely to rule that the charge is not fixed but floating. 162 There is usually less difficulty in stipulating fot control of proceeds of a lixed asset, such as an insurance poliey.t63

One technique that is being considered as a way of exercising control is the so-called 'two account structure'. Here the charge agreement provides that the proceeds are to be paid into a bank account with the chargee, or controlled by the chargee, and not to be withdrawn without the consent of the chargee. However, another agreement provides that the chargee will consent to withdrawals from that account into another account from which the chargor can withdraw freely. This structure was held by the Irish Supreme Court in Re Keenan164 to be a fixed charge, although only one judge expressly considered the agreement relating to the second account, which was entered into at a later date than the charge agreement. 165 If such a structure is to

;s9 This is the so-called "commission agency" which English law tends not to regard as an agency

at all. See Goode, Proprietary Rights and Insolvency in Sales Transactions, pp.36..39 and, in relation to a comparable problem with reservation of title. pp.9~94.

lW Henry v llammond [1913] 2 K.B. 515, per Channel] J. at 521; Royal Trust Bank v NmiDnal Westminster Bank plc [1996] 2 B.C.L.C. 682. The position may be ditTerent where there is an express intention to create a trust, see R. v Clowes [1994] 2 All E.R. 316.

"' Re Spemum Plus [2005] UKHL 41; (2005] 2 A. C. 680 [54] per Lord Hopa "" Re Brighrtife Lrd [1987] Ch. 200.

16' Re CCG International Enterprises Ltd [1993] B.C.L.C. 1428, where the chargee bank took a charge over (inter alia} policies of fire insurance and could elect to apply any proceeds either to reinstatement of the property damaged by fire or to reduction of the chargor's indebtedness.

"' [1986] ll.C.L.C. 242.

'" [1986] B.C.L.C. 242, 250,

149

IV THE FLOATING CHARGE

stand a chance of being characterised as a fixed charge, the consent of the chargee to transfers to the second account would have to constitute independent acts of will: a blanket consent will not suffice. This might be achieved by providing that the chargee was under no obligation to consent to transfers, although it might be difficult to argue that such a provision represented the true intention of the parties if the chargee did habitually consent and such consent was relied upon by the chargor. Further, the agreement should provide for the amount left in the first account not to be reduced below a certain level166

Another control technique is where the charge agreement, or another agreement, provides that the proceeds of the debts should be disposed of in a particular way, including but not limited to the repayment of the secured loan., sometimes called a 'payment waterfall'. Although, given the seemingly absolute nature of the judgments \n Spectrum discussed above, there is a danger that this would amount to 'consent in advance' to dispositions, and therefore to the charge being char';,cterised as floating, it is submitted that the better view is that it is possible, if the clause is prescriptive enough as to the destination of the dispositions, for ~eh a clause to give the chargee sufficient control over the proceeds for the charge to be characterised as fixed. 167

In relation to both these techniques it should be noted that, when characterising a charge, the courts will look at all relevant agreements and not merely the charge agreement itself. 168

Policing of the control provisions

4-27 As stated earlier, it is not sufficient to specify controls in the charge instrument. These must be shown to be more than a mere paper exercise. In particular, if the debtor is regularly allowed to dispose of the charged assets without regard to the restrictions imposed on it, the court is likely to take the view either that the contractual provisions were mere camouflage or that they have been waived by the creditor, in either case resulting in the security becoming characterised as a floating charge. 169 If substantial amounts are at stake, regular inspections of physical assets comprising the security, and of the debtor company's accounts, are advisable. A final cautionary wordthough control is important, there is."a line beyond which the activity of the secured creditor will cease to be mere control over the disposition of specific classes of asset and will constitute an exercise of management of the

'l

166In Re Keenan this level was 5% of the funds currently standing the blocked account, but it is thought that a better provision would ·relat'e the amount remaining in the blocked account to the amount outstanding on the secured debt.

167See N. Frame and K. Gibbons "Spectruman End to the Conflict or the Signal for a New Campaign?" in Company Charges: Spectrum and Beyond, ed. J. Getzler and J. Payne.

168Re Spectrum Plus [2005] UKHL 41; [2005] 2 A.C. 680, HL, [56]-[61] per Lord Hope, [116]-[119]pe>· Lord Scott, [153] and [l56]-[16l]per Lord Walker.

169Re Bond Worth Ltd[1922]2 Ch. 211; Waters v Widdows [1984] V.R. 503. See above para.4--20.

150

SHIFTING ASSETS: CONTROL TECHNIQUES

company's business with the concomitant statutory duties and liabilities

becomes converted into a fixed charge, fastening on all assets in which the company then has or subsequently acquires 173 an interest. Though crystallisation does not per se put an end to the company's ability to continue its business, 174 it ceases to be able to dispose of the charged assets free from the charge without the consent of the chargee, who cannot give a blanket permission without refloating the charge. 175

170 See Insolvency Act 1986 ss.206--219 and 251 (definition of "shadow directors"); Company Directors Disqualification Act 1986.

171Priority issues in relation to the crystallisation of a floating charge, including the effect of negative pledge clauses, are discussed in the next chapter.

172Receivership will become increasingly less common with the abolition under the Enterprise Act 2002 of the ability of most floating chargees to appoint an administrative receiver. For a discussion of whether the appointment of an administrator crystallises a floating charge, see below para.4--38.

173N. W. Robbie & Co Ltd v Witney Warehouse Ltd [1963] 3 All E.R. 613; Ferrier v Bottomer

(1972) 126 C.L.R. 597; Leichardt Emporium Pty Ltd v AGC (Household Finance) Ltd [1979] I N.S.WL.R. 701. In other words, crystallisation of the floating charge does not affect the continued operation of the after-acquired property clause. The scope of that clause is, of course, a matter of construction of the charge instrument. In Re Rex Developments Pty Ltd (1994) 13 A.C.S.R. 485, the Supreme Court of the Australian Capital Territory held by a majority (Higgins J. dissenting) that the security was confined to after-acquired property covered by a floating charge, so that once the charge crystallised no future property could fall within it. This constmction is rather surprising, for a natural reading of the instrument, and the only one making commercial sense, would seem to indicate that all after-acquired property was intended to be covered, whether acquired before or after crystallisation of the charge.

174Assuming, of course, that the crystallising event is not an act which itself denotes cessation of trading. See below, para.4--31.

175See below, para.4--57.

151

IV THE FLOATING CHARGE

Crystallisation does not involve re-registration in the Companies Registry or avoid the effects of non-registration, for no new security interest is created. All that happens is that the security interest brought into being by the floating charge ceases to float over a fund of assets and attaches in specie.

The effect of crystitllisation is customarily analysed in purely property terms This can be unfortunate, for it conceals the fact that by authorising the company to trade in its circulating assets free from the charge the debenture holder has held the company out as having wide powers of disposition, so that we are concerned as much ·with principles of agency law as those of propetty law.

If, then, we look at the effect of crystallisation in agency terms, it immediately becomes clear that we must distinguish the relationship between the chargee and the company from the relationships between the chargee and rival claimants to rbe security. Termil:ration of the company's actual authority to manage its assets is purely jl. ·matter betwe~'U the company and the debenture holder. No outsider is :entitled to dictate the terms on which the company's management powers are~o be.brought to an end, o~ t~ complain if the company has accepted as a crystalhsmg event acts or omtssJons wluch to the outsider may seem entirely trivial or capricious. But whether the ending of the company's actual authority binds third parties dealing with assets is an entirely separate question. In answering this, it is not necessarily sufficient to say that the company is no longer authorised to sell or charge its assets, for it may still have apparent authority to do so. This is a matter which will be considered in the following chapter.176

Categories of crystallising event

4-30 Crystallising events fall broadly into four groups. Firstly, there are events denoting the cessation of trading by the company as a going concern. Secondly, there is intervention by the debenture holder to enforce his security which deprives the company of de jure control of the charged assets and thus terminates its authority to deal with them free from the security interest. Thirdly, there are other acts or events specified in the debenture as causing the charge to crystallise. Fourthly, in V!e case of agricultural charges granted by a farmer the Agricultural Credits Act 1928 contains specific provisions for crystallisation. Crystallisation cannot occur during a moratorium in relation to an eligible company where directors of il: .company propose a voluntary arrangmcnt. 177 Crystallisation occurs simultaneously with the relevant event; the l~W does not treat this as a conceptual impossibility by predicating that

the crystallising event and crystallisation itself occur in sequence and not at the same time. 118

~~~·······--·~~~-

176 See below, para.S-50.

117 Insolvency Act 1986 s.lA, and Sch.Al para.l3.

ns Fire Nymph Products Ltd v The_ Heating Centre Pty Ltd (1992) 10 A.CL,C. 629, per Glecson

C.l at 636: adopted by Chad-wick J. in Re Real Meat Co Ltd[l996] B.C.C. 254.

152

CRYSTALLISATION OF A FLOATING CHARGE

181 See below. ;u See below.

mRe Panama, New Zealand and Australian Royal Mail Co (1870) 5 Ch. App. 318; Re Calonial Trusts Corp (1879} 15 Ch.D. 465; Wallace ~· Universal Automatic Afachines Co (1894]2 Ch.

547; Re Crompton & Co Ltd, above; Evans v Rival Granite Quan·ies Ltd (19lOJ 2 K.B, 979.

" 4 Insolvency Act 1986 ss87(1), 167(1) and Sch.4 para.5.

mRe Cmn:pton & Co Ltd, abO'\'t, at 964. The position might be otherwise if there is an express ctause :n .the char~e agreement providing that the charge will not crystallise on

r~orgamsauon, even lf the company goes into liquidation for that purpose, although it 1s diffkult ~o see how the chro:ge ea~ co~tinue to float once the company whose assets are

charged ts no more. See dJscusstou m b'ncyclopoedia o( Forms and Precedents VoLII (Companies) para.32J, and Sneath v f'alley Go/d[I893] 1 Ch. 477.

!53