Book debt security
The end of New Bullas?
Fixed or floating?
The essential distinction between a
fixed and floating charge is one of "management autonomy" or "control". The
hallmark of a fixed charge is that the
assets over which it is secured are
appropriated to the security immediately or at the time the chargor acquires
an interest in the assets. On the other
hand, a charge is floating if the chargor,
pursuant to the security documenta-
24 The Company Lawyer Vol. 23 No. 1
tion or in practice, has management
autonomy over the assets which are
subject to the charge.
For understandable reasons, lenders want the best type of security, in
the form of a fixed charge. However, a
problem arises with book debt security. Book debts by their very nature
generally come and go in the normal
routine of business operations. This
has led to a search for the exclusive
"holy grail": a form of security giving
lenders a level of control consistent
with a fixed charge while still allowing
book debt proceeds to be used by their
clients.
The concept of control
Over the last 20 years or so, the tide
began to turn in favour of recognising
the validity of the fixed charge over
book debts. The high-water mark of
such recognition came in the shape of
Re New Bullas Trading} The New Bullas
debenture differentiated between collected and uncollected debts and
required that the book debt proceeds
be paid into the buyer's normal bank
account, where the proceeds were released from the fixed charge and
subjected to a floating charge. The
Court of Appeal, in holding that the
© Sweet & Maxwell Ltd (& Contributors) 2002
Briefing
New Bulks debenture created a fixed
charge over uncollected debts despite
the lender not being a bank lender with
a clearing account into which proceeds
of debts were paid, accepted the argument that a book debt could be
something separate from its proceeds;
and that there could be a valid fixed
charge over the debt in its uncollected
form even if there was no control over
the proceeds. This decision introduced
an element of uncertainty into the law
and ultimately led to an increasing confidence to contest security taken by
lenders.
The most recent inroad into the concept of control arrived in the shape of
the Privy Council decision in Richard
Dale Agnew} The Privy Council, made
up of Lords Bingham, Nicholls,
Hobhouse, Millett and Hoffmann (a final appellate court of considerable
intellect and containing at least three
law lords from which any constituted
House of Lords considering the point
from aU.K. perspective would undoubtedly include) heard an appeal from the
decision of the New Zealand Court of
Appeal which had refused to follow the
U.K. Court of Appeal, reiterating the
orthodox view that the decision in Re
Afeu;Su//as was contrary to established
authority. The Privy Council held that
the approach of the U.K. Court of Appeal in Re New Bullas (that it was open
to the parties, provided their agreement was lawful, to make whatever
bargain they chose as to whether uncollected book debts should be subj ect
to a fixed or floating charge, thereby
reducing any question as to the effect
or meaning of the charge simply to one
of construction) was "fundamentally
mistaken". Their lordships further held
that the question was not merely one of
construction, since, in deciding
whether a charge was fixed or floating,
the court was engaged in a two-stage
process: first it had to construe the
charge not by deciding whether a fixed
or floating charge had been intended
to be granted, but what rights and obligations the parties had conferred upon
one another; having done so, it was
then for the court to categorise the
charge in question according to those
rights and obligations, and not by reference to the intention of the parties.^
This decision will be heralded by
the critics of Re New Bullas as putting
an end to a decision which should have
been overruled by the House of Lords
a long time ago. Supporters of Re New
Bullas will champion that it is still the
© Sweet & iVIaxwell Ltd (& Contributors) 2002
United Kingdom's leading authority and
until overruled it must be followed.
However, given that the make-up of
any future House of Lords panel will
almost certainly consist of a majority
of the lordships who made up the
present Privy Council, the decision of
the Privy Council'' must be considered
to be at the least highly persuasive, and
at best now the leading authority in
this area. Given this, it is now suggested that we have come to a stage
where Re New Bullas should no longer
be relied on.
What should lenders do?
Lenders who take security over book
debts but permit the proceeds of those
debts to be paid into a third party bank
account will have to ensure that the
receiving account has the status of a
trust account of which they are the
beneficial owner. It would be desirable
to ensure that the trust account is established at the time of the debenture
and the account name refers to its status and/or purpose. Further, it is
desirable to ensure that the company
undertakes to:
• pay only the proceeds of charged
assets of the company into the account;
• to follow such directions that the
lender may give from time to time
in relation to the funds standing to
the credit of the account; and
• not allow the account to be overdrawn.
Re New Bullas Trading [1994] 1 B.C.L.C. 485;
[1994]B,C.C. 36, CA.
In Richard Dale Agnew [2001] U.K.P.C. 28;
Richard Dale Agnew and the Commissioner of
Inland Revenue [2001] 3 W.L.R. 454; an appeal
by the receivers of Brumark Investments Ltd
from the decision of the New Zealand Court of
Appeal in Re Brumark Investments Ltd [2000] 1
B.C.L.C. 353, where the New Zealand Court of
Appeal, faced with facts indistinguishable from
those in Re New Bullas, held (reversing Fisher
J. in the High Court) that a charge apparently
modelled on that of Re New Bullas toolc effect
as a floating charge over book debts and their
proceeds.
This approach has now received judicial approval from the House of Lords in Smith
(Administrator to Cosslett) (Contractors) Ltd v.
BridgendCountyBoroughCouncil[200\]l]KHL
58 where it was unanimously approved that
whether such rights and obligations are characterised as a floating charge is a question in
law that is not dependable on the parties'
intentions.
This may be seen where the panel included
Smith, Ibid., Lords Hoffmann and Bingham,
affirming the decision to Millett L.J. (as he
then was) in the Court of Appeal below.
Conclusion
For lenders the way forward is now
clear. If they are to ensure that the fixed
charges taken by them over the book
debts of clients are not attacked as
being, in reality, floating charges, it is
imperative that they are able to ensure
that clients do not have "management
autonomy" over the debts which are
subject to the fixed charge. This may
be all the more important in the future,
as the government announced on June
18, 2001 that Parliament may yet see a
modernisation of the insolvency laws,
including the abolition of Crown preference. This will then mean a more
defined backseat role for creditors, in
the rescue vehicle driven by debtors.
Andrew Petersen Barrister employed
in the banking department ofDechert, 2
Serjeants' Inn, Temple
The Company Lawyer Vol. 23 No. 1 25