Doctrine - Codex-online

The case, National Westminster Bank plc -v- Spectrum Plus Limited ("Spectrum"), is of crucial significance to banks, insolvency practitioners, preferential creditors, borrowers and guarantors alike. It will be critical to the way in which book debt realisations are treated in insolvency situations but also raises challenging issues regarding the question of precedent and the authority of previous court decisions.
The Issue

The key issue is as to whether a standard form charge over a company's book debts contained in a bank debenture should properly be treated as a fixed charge or a floating charge. If it is treated as a fixed charge then, in the event of subsequent insolvency, the bank will always be entitled to book debt realisations in priority to others. If it is a floating charge the preferential creditors will take priority.

Previous Cases

The question of whether a fixed charge can be created on book debts has been the subject of controversy and legal debate for many years. The two leading cases prior to Brumark were Siebe Gorman & Co Ltd -v- Barclays Bank plc decided by Mr Justice Slade in the High Court in 1979 ("Siebe Gorman") and Re: New Bullas Trading Ltd decided by the Court of Appeal in 1994 ("New Bullas").

In Siebe Gorman Mr Justice Slade held that a simple form charge contained in a debenture, expressed to be by way of specific charge over all book debts and containing an express obligation upon the company to pay all monies received in respect of book debts into the company's account with the bank and not to sell, factor, discount or otherwise charge or assign them in favour of any other party, should properly be construed as a fixed charge.

In New Bullas the Court of Appeal had to consider a slightly different type of charge. In that case the debenture provided for a fixed charge on the book debts but recognised that the company was at liberty to deal with the proceeds of book debts as and when they were realised in the ordinary course of trading and to draw freely upon those proceeds accordingly. The charge was expressed to be a fixed charge on the book debts but a floating charge on the proceeds. The Court of Appeal upheld that distinction and concluded that the charge on the book debts themselves (as opposed to their proceeds) could properly be treated as a fixed charge.

Brumark

The decision in Agnew -v- Commissioner of Inland Revenue in 2001 ("Brumark") threatened to unravel all this and rocked the banking world. The decision was made by the Privy Council on appeal from the Court of Appeal of New Zealand. The members of the Privy Council dealing with the case comprised senior and respected members of the House of Lords and the judgement was given by Lord Millett.

The debenture being considered in the Brumark case was similar to the debenture in New Bullas. The Privy Council held that it is inconsistent to have restrictions on dealing with book debts by way of assignment and at the same time to have no restriction on dealing with the proceeds. The distinction between disposal and collection of debts is to some extent artificial. A book debt has no value unless and until it is realised. If there is no restriction on dealing with the proceeds then in reality there is no real restriction on dealing with the debt itself.

The Privy Council also held that the correct approach in construing such charges is to consider both the way in which the proposed arrangements are described in the debenture and the way in which those arrangements are actually carried into effect by the parties. The Privy Council found that, if the bank did not exercise de facto control over the day to day collection and realisation of the book debts (prior to a crystallising event), then even though the charge was expressed to be a fixed charge on the book debts it would in fact be a floating charge.

The impact of Brumark

Since Brumark the insolvency and banking world has been reeling. Debate has raged as to whether fixed charges on book debts are now dead, as to the related commercial and social consequences and as to the question of whether a decision of the Privy Council is binding in English law.

Realisations from book debts are being held by insolvency practitioners up and down the country awaiting clarification. If Brumark means that there can be no fixed charges on book debts other than in exceptional cases then these monies will go first to the preferential creditors. If the fixed charge survives then the monies will be due exclusively to the fixed charge holders - primarily banks.

Insolvency lawyers, insolvency practitioners, Crown departments and banks have therefore been waiting for a decision on these issues. Spectrum is potentially the key case.

Spectrum

Spectrum involved an application for directions by liquidators following realisations of book debts totalling over £100,000. The bank (Natwest) had a debenture with a charge on book debts in broadly the form which had arisen in Siebe Gorman. The preferential creditors amounted to just over £16,000 and the bank debt was just over £150,000. If the charge was a floating charge, the preferential creditors would be paid in full. If it was a fixed charge they would get nothing.

At first instance the case was heard by the Vice Chancellor, Sir Andrew Morritt. He gave his judgement in January 2004 and found that the charge should properly be construed as a floating charge. He was clearly very heavily influenced by the decision in Brumark.

The bank appealed. The Court of Appeal hearing the appeal comprised the Master of the Rolls, Lord Phillips, Lord Justice Jonathan Parker and Lord Justice Jacob. Their decision was unanimous. They allowed the appeal and found that the charge in this case should properly be construed as a fixed charge on book debts.

The judgment is lengthy and complex. The key features are as follows:
Although the Privy Council in Brumark had found that New Bullas had been wrongly decided that was a decision of the Court of Appeal in England and it was not open either to the Vice Chancellor at first instance or the Court of Appeal now to find against it. The Court of Appeal in Spectrum therefore makes no finding in relation to New Bullas.
The fixed charge in the Spectrum case is of the type that had been under discussion in Siebe Gorman. It remains open to the Court of Appeal in Spectrum to uphold Siebe Gorman.
Siebe Gorman should be upheld on legal grounds. If there is a prohibition on disposing of book debts prior to collection coupled with an obligation to pay the proceeds into an account with the bank in question, the charge will take effect as a fixed charge. All that seems to be required is that the bank should be in a position to exercise control. Whether it ever actually does so does not seem to matter.
Whatever the legal position, Siebe Gorman should be upheld on public policy grounds. Banks, borrowers and individuals who have given personal guarantees have operated for many years on the basis that a fixed charge of the type approved in Siebe Gorman will take effect as a fixed charge. Had there been any doubt that such charges should take effect as fixed charges these parties would have arranged their affairs very differently. It would have been possible to enter into other types of arrangements which would have protected these parties and achieved what was intended to be achieved. It would be unjust if effect was not given to their intentions simply because of the way in which the documentation was set up.

Conclusions

The decision in Spectrum will be extremely welcome to banks and may be thought to help resolve the controversy following the decision in Brumark. But it is unlikely to be the final word on the matter. It leaves the status of New Bullas and Brumark up in the air and raises serious questions regarding precedent and the authority of the Privy Council. It would be most unsatisfactory if such uncertainty should be allowed to persist, particularly given the weight of the Privy Council in Brumark.

It is not clear from the Court of Appeal judgement in Spectrum whether permission to appeal to the House of Lords has been sought or granted, but it is highly likely that the matter will end up before the House of Lords for a final decision in the not too distant future.

For further information contact the following:

Philip May on tel: 0117 917 7912 or mailto:pmay@TLTsolicitors.com

Judith Brown on tel: 0117 917 7560 or mailto:jbrown@TLTsolicitors.com

Jonathan Hoey on tel: 0117 917 7563 or mailto:jhoey@TLTsolicitors.com

Neil Waller on tel: 0117 917 7902 or mailto:nwaller@TLTsolicitors.com

This publication is intended for general guidance and represents our understanding of the relevant law and practice as at May 2004. Specific advice should be sought for specific cases; we cannot be held responsible for any action (or decision not to take action) made in reliance upon the content of this publication.

By TLT Solicitors
http://www.tltsolicitors.com