Insolvency Update – December 2018


Court of Appeal clarifies the correct use of funds during insolvency proceedings
The Court of Appeal has provided useful clarity for insolvency practitioners regarding the status of […]
The Court of Appeal has provided useful clarity for insolvency practitioners regarding the status of funds held in court as security for costs. It is clear from the judgment that the payer of the funds retains an interest in the money subject to the security interest. The case also reaffirms the ability of any subsequently appointed liquidator to apply to court for payment out of the funds held in court.
Background
The background to the case was that Peak Hotels & Resorts Limited (the Company) was engaged in some long running litigation proceedings. During the litigation the Company had paid money into court to provide security for costs. In October 2015 the Company got into financial difficulties and entered into a fixed fee arrangement with its solicitors, Candey Limited, for the Company’s past and future legal costs. The fee arrangement was supported by a legal charge over the Company’s assets.
The Company’s financial position didn’t improve and later that year it went into liquidation. Upon the Company’s liquidation, Candey demanded payment of its outstanding fees and sought to enforce its security. On receipt of the claim from Candey for payment of a secured debt, the liquidators applied to court for a determination as to whether the funds paid into court were the subject of the charge and if so, to what extent.
The high court judge ruled that the money was subject to the charge but that it was a floating charge, rather than fixed, because the deed didn’t contain sufficient restrictions on dealings to create a fixed charge. The joint liquidators of the Company appealed, arguing that once the money had been paid into court, the Company had lost its proprietary interest in the money and as a result it was no longer capable of being subject to a charge.
The Court of Appeal dismissed the appeal and confirmed that money paid into court on account of costs or cross-undertakings remained the payer’s property until the court has provided directions as to its distribution. Rimer LJ considered that a payer of money into court by way of security retained its interest: (i) subject to the security interest that the payment gives to the defendants; and (ii) the ultimate payment out is dependent on the making of a court order. It therefore followed that the Company always retained an interest and entitlement for the proper administration of the funds. As a matter of public policy, the Court of Appeal considered that this had to be the correct analysis.
WM comment
The decision provides useful clarity for practitioners as regards to the status of funds held in court paid in relation to security for costs. It is clear that the payer of funds retains an interest in them subject to the security interest of the defendant. This case also reaffirms the ability of the payer of the funds (or a subsequently-appointed insolvency office-holder) to apply to court for the payment out of the funds. For insolvency practitioners this may be a valuable asset for them to realise should the claimant become insolvent before the litigation is concluded.

A lesson for secured creditors – don’t ‘over step the mark’ during an administration
The decision in Davey v Money [2018] EWHC 766 (Ch) serves as a useful reminder […]
The decision in Davey v Money [2018] EWHC 766 (Ch) serves as a useful reminder of the potentially broad-ranging scope of liabilities that secured creditors, such as financial institutions, may be exposed to during the course of an administration.
Background
Mr Davey was the sole director and shareholder of Angel House Developments Ltd (AHDL), a property development company whose sole asset was an office block in south London. Mr Davey was also the guarantor of AHDL’s indebtedness to Dunbar Assets plc (Dunbar) which amounted to approximately £17 million.
When AHDL defaulted on loan repayments, Dunbar, which was the holder of a qualifying floating charge, appointed James Money and Jim Stewart-Koster as joint administrators (the Administrators). The Administrators elected to pursue the third statutory objective of realising AHDL’s property to provide a distribution to Dunbar as secured creditor. The Administrators then appointed a firm of property agents recommended by Dunbar to manage and market the property for sale. The Administrators agreed with the property agents that they would be exclusive agents and would receive an additional fee if the property was sold at a price exceeding the value of Dunbar’s debt.
Mr Davey brought a claim under paragraph 75 of Schedule B1 to the Insolvency Act 1986 alleging misfeasance by the Administrators on the basis that they:
- failed to exercise independent judgment and instead paid excessive regard to the wishes and interests of Dunbar;
- failed to involve Mr Davey in the administration which, according to Mr Davey, could have led to the rescue and survival of AHDL;
- sold the main asset of AHDL at a significant undervalue through reliance on unsuitable agents who had been, in effect, selected by Dunbar;
- had allowed Dunbar to interfere in the conduct of the administration so as to make the Administrators its agents and therefore liable for their breaches of duty.
The court dismissed all of Mr Davey’s allegations. However, the case was interesting because of the remarks that the judge made in relation to the ability, or not, of a secured creditor to get involved in the conduct of the administration.
The court noted that an administrator is entirely at liberty to consult with the appointing secured creditor to ascertain its views. However, the administrator is not bound to follow the secured creditor’s wishes and should not act with unquestioning obedience to the appointing creditor. In this case it made sense for the administrators to consider Dunbar’s views on the various offers received for the property.
The court went on to explain that there is established authority that a mortgagee who interferes with the conduct of a sale by a receiver who he has appointed can be liable if the property is negligently sold at an undervalue by the receiver. The reason being that if the mortgagee interferes substantially, the receiver is deemed to be acting as agent for the mortgagee rather than for the mortgagor. On the question of whether this reasoning could apply to administrations, the court concluded that there was no convincing policy reason why there should be any difference between the position that applies if the sale of the property were to be conducted by a receiver or an administrator. The fact that the administrator acts an agent for the company pursuant to paragraph 75 of Schedule B1 of the Insolvency Act 1986 does not mean that the administrator cannot be deemed to be acting as agent for the secured creditor.
That being the case, the court went on to consider the level of involvement required to justify a finding that the administrator was deemed to be acting for the secured creditor. The court held that the required level of involvement was the same as in receivership cases where a mortgagee might be liable if it “directed or interfered” in the conduct of the receivership. It requires something that goes beyond the legitimate involvement that a secured creditor could expect to have in the administration process and requires the administrator to have either unhesitatingly complied with directions given by the secured creditor or to have been unable to prevent some interference with the administrator’s intended conduct of the administration.
WM comment
In this case Mr Davey failed to prove any misfeasance, however the judgment highlights that secured creditors may be exposed to liabilities if they interfere or try to influence the conduct of the administration. Secured creditors should be careful not to try and control the administration and at the very least keep proper minutes recording dealings and communications with the administrator to show how decisions were made.

What is the extent of a secured creditor’s equitable duty to a guarantor?
In General Mediterranean Holding SA SPF v Qucomhaps Holdings Ltd [2018] the Court of Appeal […]
In General Mediterranean Holding SA SPF v Qucomhaps Holdings Ltd [2018] the Court of Appeal had to consider if and when a commercial lender’s acts or omissions in relation to its security will release a guarantor from its obligations. The court found that in the absence of express terms, any equitable duty to take reasonable steps to protect the security cannot be onerous
Background
The case concerned an attempt by General Mediterranean Holding SA (GMH) to recover multi-million dollar loans that it had advanced to Qucomhaps Holdings Ltd (QHL), a company specialising in digital broadcast services. The repayment of the loans was secured by a charge over the assets of a subsidiary of QHL and guaranteed by a director of QHL, Mr Harkin.
GMH obtained summary judgment and the decision was upheld on appeal to the High Court. However, QHL and Mr Harkin obtained permission for a second appeal to the Court of Appeal on the grounds that the case raised an important point of principle. They argued that GMH owed them an equitable duty to take reasonable steps to protect the security it had been granted. When the subsidiary company had gone into administration, they argued that GMH failed to take reasonable steps to protect the security and it had therefore been rendered worthless and/or unenforceable. They argued that GMH had breached its duty to them, thereby releasing Mr Harkin from his guarantee.
Lawyers for Mr Harkin further contended that the lender had the opportunity to include an express provision in the guarantee stating that the surety’s liability “would not be reduced by the lender’s failure to perfect, take up or enforce any rights against, or security over assets of the debtor”. The fact that such an express exclusion had been omitted from the guarantee meant that the equitable duty to take reasonable steps to protect the security should be implied.
GMH, on the other hand, argued that previous authorities made it clear that the creditor’s equitable duty is very limited in scope and could be summarised as: (i) a duty to perfect the security; and (ii) a duty to take reasonable steps to obtain a suitable sale price for the security when exercising a power of sale.
What did the court decide?
The Court of Appeal dismissed the appeal and in its judgment clarified the extent of a creditor’s obligations to a surety and debtor under English law. It held that in the absence of express terms, any equitable duty to “take reasonable steps to protect the security” cannot be an onerous one. Furthermore, there could be no question of a creditor having an absolute duty to ensure that a guarantor could have recourse to the security. A creditor could not be obliged to incur any sizeable expenditure or to run any significant risk to preserve or maintain security.
WM comment
Although the guarantor was unsuccessful in its arguments, the case is a reminder that guarantees can be vulnerable. To make sure that the guarantee is watertight, it is good practice to include a clause stating that the guarantor’s liability will not be reduced or discharged by any act or omission of the creditor in taking up, perfecting or enforcing the security or guarantee.

Challenging an IVA on the grounds of material irregularity
In Gertner v CFL Finance Ltd [2018] the Court of Appeal found that there had […]
In Gertner v CFL Finance Ltd [2018] the Court of Appeal found that there had been a material irregularity at the creditors’ meeting convened to consider the debtor’s IVA proposals. The lender’s breach of the good faith principle between creditors was sufficient to revoke the IVA on grounds of material irregularity.
Background
As discussed in a previous article, a voluntary arrangement, be it an IVA or CVA, can only be challenged on two grounds. First that there is unfair prejudice to a creditor and second that there has been a material irregularity in the decision process.
In each case, material irregularity is a question of fact arising out of the conduct of the decision-making procedure by which the voluntary arrangement is approved. In Gertner v CFL Finance Ltd [2018] EWCA a debtor appealed against an order revoking his individual voluntary arrangement on the grounds that there had been a material irregularity at the creditors’ meeting.
The Court of Appeal upheld the High Court’s decision that there had been a material irregularity at the creditors’ meeting convened to consider Mr Gertner’s IVA proposals. The court examined the terms of the settlement agreement and found that the major creditor (a bank) had received a significant financial advantage from a third party which, when viewed objectively, was drafted to induce the bank’s support for the IVA. This financial advantage had not been disclosed to the other creditors at the meeting, instead they had just been given information relating to the amount of the proposed IVA dividend.
The Court of Appeal decided that the extra payment to the bank created an obvious, material conflict of interest which should have been disclosed to the other creditors. The judgment went on to say that the bank should have been disqualified from voting at the creditors’ meeting because it had breached the duty of good faith between creditors, which is an element of the concept of material irregularity. Without the bank’s vote the IVA would have failed and so the earlier decision to revoke the creditors’ approval stood.
WM comment
Although this decision was in relation to an IVA, the duty of good faith between creditors applies equally to those involved in a company voluntary arrangement. A breach of the duty will lead to a finding of material irregularity and the revocation of the arrangement.

In what circumstances can additional administrators be appointed?
According to a recent case, Zinc Hotels (Investment) Limited and others v Beveridge and others […]
According to a recent case, Zinc Hotels (Investment) Limited and others v Beveridge and others [2018] EWHC 1936 (Ch), the court does not have power to appoint additional administrators except within the constraints of paragraph 103 of Schedule B1 to the Insolvency Act 1986. Where administrators are appointed out of court by the holder of a qualifying floating charge, disaffected shareholders in the company had no standing to apply for the appointment of additional administrators to remedy a perceived conflict of interest.
Background
The starting point for this area of insolvency law is paragraph 7 of Schedule B1 to the Insolvency Act 1986 (Schedule B1 and IA 1986 respectively) which provides that an administrator cannot be appointed during an administration other than under paragraphs 90 to 97 of Schedule B1 (where there is a vacancy, for example, because of death or resignation) or paragraphs 100 to 103 of Schedule B1.
When a company is already in administration, paragraph 103 of Schedule B1 allows for the appointment of a person to act as an additional administrator in certain circumstances, and specifies the method by which any such appointment must be made. Where, for example, the company entered administration by the appointment of an administrator by a qualifying floating charge holder (QFCH), the additional appointment must be made either by the QFCH or by the court. Any such appointment can only be made with the consent of the incumbent administrator or administrators.
Facts of the case
The applicants were shareholders in Zinc Hotels Limited which operated ten Hilton Hotels. The hotels were put up for sale but when a buyer couldn’t be found, the company was placed into administration on an out-of-court appointment by the QFCH, which was a consortium of banks.
In other proceedings which were underway, the applicants were seeking the removal of the administrators under paragraph 88 of Schedule B1 and/or relief from unfair harm under paragraph 74 of Schedule B1. The applicants in this application were applying for interim relief pending the hearing of the main action and applied to the court asking it to appoint interim additional joint administrators and for an injunction restraining the administrators from distributing proceeds of sale.
The applicants argued that the administrators lacked independence due to their close relationship with the QFCH and that they (and their former solicitors) were conflicted because they had been heavily involved in advising the banks on contingency planning for some time prior to their appointment. They also argued that the court had inherent jurisdiction to appoint an additional administrator pending trial.
The administrators’ case was that the shareholders were seeking to delay the sale process to pressurise lenders to reduce the debt.
Decision of the court
The court dismissed the application from the shareholders and made the following points:
- The court does NOT have any inherent jurisdiction to appoint an additional administrator.
- Where the administration appointment has been made by a qualifying floating charge holder, only they (or the administrators on application to court) can appoint an additional administrator. The shareholders had no standing to seek the appointment of an additional administrator where the appointment had been made by the QFCH.
- There was no conflict of interest on the part of the administrators. The existence of a prior relationship between an administrator and a creditor is not a bar to the former taking the appointment.
WM comment
In most insolvencies of any size and complexity, the administrator will have been engaged prior to his appointment to do the necessary preparatory work. It will therefore be welcomed that the court held that there was no conflict of interest on the part of the administrator. This should be contrasted with recent pre-pack cases, such as VE Vegas Investors IV LLC and others v Shinners and others [2018] in which it was alleged that the administrators had been involved in wrong doing and were conflicted because they could not investigate their own conduct. The judgment contains important guidance on the extent of the court’s power to appoint an additional administrator and the scope of any material conflict of interest.