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2013 was an important year for insolvency case law, Steven Thompson and Rebecca Lloyd of XXIV Old Buildings take a look back at the most important cases of the past year.
During 2013 several insolvency-related cases reached the highest courts of England and Wales, providing practitioners with guidance on matters ranging from the treatment of employees during administration to the rights of contingent creditors in a liquidation. There have been important developments in the area of office holders’ fees and expenses. As practitioners have come to expect, the world of cross-border insolvency has also given rise to some interesting decisions in 2013.
The Supreme Court considered the fundamental issue of a company’s solvency in BNY Corporate Trustee Services Ltd v Eurosail  UKSC 28,  3 All ER 271 (Lords Hope, Walker, Mance, Sumption, Carnwath). The case concerned the distinction between the cash-flow test and balance sheet test of solvency in the Insolvency Act 1986, s 123 (IA 1986).
The court noted that the cash-flow test must be concerned with not only presently-due debts but also with debts falling due in the reasonably near future—although what is reasonably near will depend on all the circumstances including importantly the nature of the company’s business. Once the court has to move beyond the reasonably near future, a cash-flow test is entirely speculative and the only sensible test is whether the present assets are less than the present and future liabilities, discounted for contingencies and deferment.
Eurosail had issued notes which were redeemable in 2045, the interest on which was serviced and serviceable from the underlying mortgagors’ payments. There was no doubt that Eurosail was able to service its debts to the noteholders as they fell due. The issue was whether the company’s assets were less than its liabilities. Many of those liabilities were subject to uncertainties in the business which could only be guessed at given the timescale involved.
Lord Walker expressly disapproved of the ‘point of no return’ test applied by the Court of Appeal (CA), saying that it was really nothing more than a paraphrasing of the statutory test. The Supreme Court nevertheless affirmed the CA decision, concluding that the court could not have been satisfied that the company was balance sheet insolvent given the inherent uncertainties in the next 30 years of its expected business.
In Re Danka Business Systems Plc (in liquidation), sub nom Ricoh v Spratt  EWCA Civ 92,  All ER (D) 127 (Feb) (Mummery LJ, Patten LJ, Treacy LJ) the court was asked whether liquidators of a company in a members voluntary liquidation should defer the final distribution to shareholders until contingent liabilities under an indemnity had crystallised or alternatively whether a reserve should be set aside for that purpose.
The applicants had the benefit of indemnities from the company in respect of contingent tax liabilities of certain entities which they had bought a few years before the liquidation. The liquidators had treated the applicants’ claims as contingent claims, the value of which they had estimated under the Insolvency Rules 1986, SI 1986/1925, r 4.86 (IR 1986).
The CA reminded the liquidators of their duty to wind up the company. The court followed the judgment of Hoffmann LJ in Stanhope Pension Trust v Registrar of Companies  1 BCLC 628 which set out clearly that a company is entitled to wind itself up notwithstanding that it will thereby become unable to fulfil its future or contingent obligations. Contingent creditors can prove for the value of their claims which will then be estimated but the company cannot be required to set aside a fund against the possibility of the event coming to pass.
Nothing in IR 1986, r 4.86 required the liquidators to treat an indemnity differently from other contingent liabilities by assuming the worst case scenario and providing for a 100% return. There should be a genuine and fair assessment of the likelihood of any contingent liability occurring.
In two important cases, the appellate courts have declined to designate liabilities incurred during administration as expenses of the administration which would take priority over unsecured creditors.
Re Nortel and Re Lehman  UKSC 52,  4 All ER 887, (Lords Neuberger, Mance, Clarke, Sumption, Toulson) concerned the financial support direction (FSD) regime set up by the Pensions Act 2004. The Lehman group had provided employee pension schemes through a service company and the Nortel group had operated an insufficiently resourced pension scheme, bringing both within the FSD regime. However, FSDs were only issued after the target companies had entered administration. The CA felt compelled to find that the liabilities so created had to be treated as an expense of the administration.
Lord Neuberger pointed out that one effect of the CA’s decision would be that the Pensions Regulator had an arbitrary power to improve the pension trustees’ position by waiting for the insolvency event before issuing an FSD, which would seem odd in principle even if it would be unlikely to arise in practice. It would also seem odd if the liability under the FSD ranked behind provable debts as then, in practice, it would almost always be valueless.
Lord Neuberger explained that the potential liability of a target company under the FSD scheme was a provable debt within the meaning of IR 1986, r 3.12(1)(b)—the relevant obligation arose under the Pensions Act 2004 before the date of the insolvency event, by virtue of the groups’ pension scheme arrangements during the statutory two year period. Consequently, liability arising pursuant to an FSD issued by the Pensions Regulator to a company after it had entered insolvent administration would rank pari passu with other unsecured debts.
Neumans LLP v Andronikou EWCA Civ 916,  All ER (D) 284 (Jul) (Mummery, Rimer, Underhill LJJ) concerned a claim by solicitors that their fees for advising and representing a company resisting a creditor’s winding-up petition should be treated as a cost of a supervening out-of-court administration. There was no dispute that the solicitors were entitled to their fees under IR 1986, r 4.218(3)(h) as an expense of the liquidation, but there was nothing left after payment of the fees and disbursements of the administration so that right was worthless to them.
The solicitors’ fees would have been given priority had the administration been by order under IR 1986, r 2.67. However, there was no express entitlement to priority in the case of an out-of-court administration following presentation of a petition. They argued that this was a lacuna in IR 1986—they suggested that the court ought to give IR 1986 a purposive interpretation and permit them to recover their fees, or that they might have them under the Senior Courts Act 1981, s 51, (SCA 1981). The solicitors’ arguments were rejected by Morgan J who said IR 1986 was clear. If there was a lacuna it had to be fixed by amendment to SCA 1981 or IR 1986, not by benevolent statutory interpretation on the part of the court. The CA dismissed the appeal, saying that Morgan J’s decision was ‘dead on’ and there was nothing to add.
In Re Ovenden Colbert Printers Ltd (Hunt v Hosking)  EWCA Civ 1408,  All ER (D) 188 (Elias, Kitchen, McCombe LJJ) the CA decided that a payment made by a trustee of company money to a third party, without the company’s involvement, could not be a transaction at an undervalue under IA 1986, s 238 because it was not a transaction entered into by the company.
Before its own insolvency, Ovenden received substantial dividends in the liquidation of linked companies (CSM). Ovenden entered into two agreements with its accountant, Mr Temple, giving him a right to a share in the proceeds. The remaining funds were to be held by Mr Temple in his firm’s client account to the order of the company.
Over the course of the agreements, Mr Temple withdrew substantial sums and gave them to the defendant, apparently in satisfaction of personal loans. Ovenden’s liquidator alleged that those payments were transactions at an undervalue entered into by Ovenden and sought to recover the money from the recipient under IA 1986, s 241. The claim was struck out by Peter Smith J on the basis that Ovenden had not ‘entered into’ the impugned transactions.
The appeal was dismissed, the court upholding Peter Smith J’s reasoning. The phrase ‘entered into’ connotes the taking of some step or act of participation of the company. The court considered the alternative scenarios that Mr Temple was or was not authorised to take the money and make the payments to Mr Hosking. If he was not authorised, his act constituted a misappropriation of company assets, which was not a dealing with the company (Manson v Smith  2 BCLC 161 followed). If, on the other hand, Mr Temple was authorised to make the payments to Mr Hosking, Ovenden had not taken any step or done any act other than enter the two agreements, which were never said to form part of the relevant transactions. A trustee is not an agent for his beneficiary.
In Kavanagh v Crystal Palace FC (2000) and another  EWCA Civ 1410,  All ER (D) 139 (Kay, Beatson and Briggs LJJ), a number of employees of Crystal Palace football club claimed that they had been unfairly dismissed within the meaning of the Transfer of Undertakings (Protection of Employment) Regulations 2006, SI 2006/246 (TUPE 2006). The Court of Appeal considered the tension between TUPE 2006 and the insolvency regime.
The club was in dire financial straits and had entered into administration in February 2010. The administrator immediately advertised the club for sale. A number of obstacles prevented the terms of a sale from being agreed until June. In May, 29 employees were dismissed. The administrator’s evidence, accepted by the Employment Tribunal and unchallenged on appeal, was that the dismissals were carried out to reduce the wage bill so that the club could continue operations with a skeleton staff until a sale could be concluded. Thus they hoped to avoid liquidation which, where football clubs are concerned, is often fruitless for creditors.
The court agreed with the first instance tribunal that there was an important distinction between Mr Guilfoyle’s ultimate objective, to sell the club, and his reason for dismissing the employees, to avoid liquidation. The latter reason amounted to an ‘economic, technical or organisational reason entailing changes in the workforce’ (an ETO reason) and thus an exception from the TUPE 2006 definition of an unfair dismissal connected with the transfer of an undertaking. Briggs LJ pointed out that a transfer is the ultimate objective in many administrations and it would undermine the ETO exception if it never applied in these cases.
It was noted that these cases are extremely fact-sensitive. Spaceright Europe v Baillavoine  EWCA Civ 1565,  2 All ER 812 was distinguished because in that case the CEO was dismissed in order to make the company more attractive to potential purchasers, who would invariably have wanted to appoint their own CEO. Kay LJ cautioned against administrators dressing up a dismissal with a contrived ETO reason.
In Jetivia SA v Bilta (UK) Ltd  EWCA Civ 968,  1 All ER 168 (Lord Dyson MR, Rimer, Patten LJJ) two foreign parties applied to have struck out a claim brought against them by a company (in liquidation) for their alleged part in a conspiracy, alongside the fraudulent directors and shareholder of the company, to underpay VAT, as a result of which the company became insolvent to the tune of £39m.
The applicants argued that the principle of ex turpi causa as applied in Stone & Rolls Ltd v Moore Stephens  UKHL 39,  4 All ER 431 prevented the company from pursuing the claim against them. They submitted that the fraud of the directors should be attributed to the company either because the true victim of the alleged fraud must have been HMRC not the company or because there was no person other than the fraudsters behind the company. In addition the applicants argued that the company’s distinct claim under IA 1986, s 213 was doomed to fail as that section could not have extra-territorial effect.
The application was dismissed by the then Chancellor and the CA upheld his decision. The decisions in Belmont Finance v Williams Furniture  Ch 250,  1 All ER 118 and in Re AG’s Reference (No.2 of 1982)  QB 624,  2 All ER 219 required the court to hold that a director even of a one-man company can be held liable to account for breaches of fiduciary duties to the company, now under the Companies Act 2006, s 172. The fact that a fraudulent director is the directing mind and will of the company does not preclude a claim by the company against them. In that context, the company is a victim rather than a participant—as it might be described in a claim brought against it by a third party seeking to have the fraudster’s knowledge attributed to the company. On an interim application it was not for the court, given the pleading that the company was the victim, to conclude that HMRC was the only victim of the fraud.
The decision in Stone & Rolls could be confined to its facts (ie a claim in negligence against an auditor which owed no fiduciary duties to the company) it should not be extended to a claim, such as this, in conspiracy against the company’s own directors and other participants.
As for the argument on extra-territoriality, since re Paramount Airways  Ch 223,  3 All ER 1 the position was clear that IA 1986, s 238 had extra-territorial effect and there could be no grounds for distinguishing between that section and IA 1986, s 213.
This case illustrates the difficulties thrown up by the split decision in Stone & Rolls. The approach of the CA is clearly just, but the reasoning used to distinguish the majority view in Stone & Rolls is not entirely persuasive. It might be thought that the CA simply did not agree with the views expressed by, in particular, Lord Walker in Stone & Rolls and found the speeches of Lords Scott and Mance more convincing.
The courts clarified some difficult areas of cross-border insolvency law in 2013.
The case of Trustees of the Olympic Airlines SA Pension & Life Insurance Scheme v Olympic Airlines SA  EWCA Civ 643,  All ER (D) 39 (Jun) (Moore-Bick LJ, Sir Stephen Sedley, Sir Bernard Rix) concerned the ambit of the meaning of ‘establishment’ in the Council Regulation on Insolvency Proceedings (EC) 1346/2000 (the Insolvency Regulation).
Following the commencement in Greece of a special insolvency procedure over the Greek state-owned Olympics Airlines, the English branches had been wound down and staff made redundant to the point when the only operation remaining in England was an office in London of two ad hoc ex-officers who did nothing more than assist the Greek liquidator and field communications.
The trustees of the pension scheme presented a winding-up petition, seeking the opening of secondary proceedings within the meaning of the Insolvency Regulation, art 2(h). The Chancellor, at first instance, made the winding-up order sought.
The CA overturned that decision, holding that the English courts had no jurisdiction to open secondary proceedings as the airline did not have an establishment in England at the time of presentation of the petition. The office operating at that time had no external economic function and had no assets of any value. In line with the international jurisprudence and the Virgos-Schmit report on the European Convention on Insolvency Proceedings, that was no establishment as required under the Insolvency Regulation.
In Re Tambrook Jersey Ltd, HSBC Bank Plc v Tambrook Jersey Ltd  EWCA Civ 576,  3 All ER 850 (Longmore, McFarlane, Davis LJJ) the CA considered the provision of assistance to foreign courts under IA 1986, s 426.
A bank made an unopposed application for the appointment of administrators in England over a Jersey company, whose main line of business had been a disastrous property venture in Kent. It was accepted that the centre of main interest of the company was Jersey. However, the Jersey insolvency regime lacked the advantages of a modern English administration. The bank relied on a letter from the Royal Court of Jersey requesting the English High Court to appoint administrators.
At first instance Mann J considered the issue of whether the English court could be said to be ‘assisting’ the Royal Court of Jersey, which undoubtedly had the relevant insolvency jurisdiction but before which no proceedings were extant or intended. He held that in those circumstances he did not have jurisdiction under IA 1986, s 426 to make the order sought.
The CA allowed an appeal from that decision, saying that IA 1986, s 426 was to be given a broad and purposive interpretation to accord with the principle of modified universalism explained in Cambridge Gas Transport Corp v Official Committee of Unsecured Creditors (of Navigator Holdings plc and others)  UKPC 26,  3 All ER 829, Re HIH Casualty and General Insurance Ltd and other companies; McMahon and others v McGrath and another  UKHL 21,  3 All ER 869 and Rubin v Eurofinance  UKSC 46,  All ER (D) 258. It accordingly decided that the English court had the power to appoint administrators in respect of the Jersey company at the request of the Royal Court—that court was involved in an ‘endeavour’ to further the interests of the company and its creditors even if it had not opened any formal insolvency proceedings.
In another instalment of the Tchenguiz saga, Isis Investments Ltd v Oscatello Investments Ltd and others  EWCA Civ 1493,  All ER (D) 327 (Longmore, Jackson, Vos LJJ), Kaupthing Bank lost its appeal against an order permitting the third defendant, Mr Adalsteinsson, to bring new claims against it under the Civil Procedure Rules 1998, SI 1998/3132, Pt 20.
The case turned on the meaning of ‘pending lawsuit concerning an asset or a right of which (Kaupthing) has been divested’ in article 32 of Directive 2001/24/EC on the Reorganisation and Winding Up of Credit Institutions. English procedural law only governed the Part 20 applications if they came within this provision. Both Kaupthing and Mr Adelsteinsson were already parties to the litigation, certain parts of which concerned ‘an asset or a right of which Kaupthing has been divested’. The crucial question therefore concerned the proper meaning of pending lawsuit—did it refer to existing claims or to proceedings in their entirety?
The CA found that the phrase ‘pending lawsuit’ must refer to proceedings in their entirety. Any other result would be ‘unworkable’ and a ‘procedural nightmare’. The Directive could not have been intended to slice up existing legal proceedings, after the insolvency of one party, according to whether each claim or cross-claim concerned an asset or right of which the company had been divested. Accordingly, the Part 20 applications were subject to English procedural law. The status of the foreign insolvency was a matter to be taken into account in the court’s exercise of its discretion. In this case, the judge had made no error in her approach and her decision to allow the Part 20 claims would stand.
What to look out for in 2014
As companies large and small, domestic and international, continue to face difficult economic conditions, practitioners can expect further developments in the areas of insolvency and restructuring in 2014.
In particular, judgment from the CA is eagerly awaited in the Game Station case (Jervis v Pillar Dention Limited (Game Station) & ors  EWHC 2171 (Ch)) on the question whether rent of buildings occupied by administrators becoming due during the administration is payable in full as an expense of the administration (equally relevant when the same situation arises in a liquidation).
In the High Court, Nicholas Lavender QC (sitting as a deputy judge) followed two previous High Court decisions, Goldacre (Offices) Limited v Nortel Networks UK Limited  EWHC 3389 (Ch),  All ER (D0 54 (Jan) and Leisure (Norwich) II Limited v Luminar Lava Ignite Limited  EWHC 951 (Ch),  4 All ER 894, finding that the whole sum was payable as an expense of the administration. He gave permission to appeal in an unopposed application in which all parties acknowledged that there was an argument to be had in the CA.
It is expected that the court will address some fundamentals of insolvency law, centring on the Lundy Granite principle (Re Lundy Granite Co, ex p Heavan (1871) LR 6 Ch App 462) that debts arising under contracts entered into by the company but continued by administrators should be treated as expenses of the administration.
The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.
Steven Thompson has been a barrister in practice at XXIV Old Buildings since pupillage in 1996/7. He has a commercial practice with a particular emphasis on joint venture, civil fraud, insolvency and aviation disputes. He sits on Lexis PSL Restructuring & Insolvency's Consulting Editorial Board.
Rebecca Lloyd became a tenant at XXIV Old Buildings in 2013 and is developing a practice across the breadth of Chambers’ experience, including commercial, financial services, insolvency, trusts and property litigation and advisory work.
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