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Lindsay Hingston, associate at Freshfields, considers the decision in Private Equity Insurance Group SIA v Swedbank AS, a case concerning the enforcement of financial collateral post-insolvency.
C‑156/15: Private Equity Insurance Group SIA v Swedbank AS
The case arose in connection with the insolvency proceedings of a Latvian company, Izdevniecība Stilus SIA (in respect of which Private Equity Insurance Group SIA is the legal successor) (the company).
Prior to its insolvency, the company opened a current account with Swedbank AS (the bank), the contract for which included a clause pledging all the monies in the account to the bank as financial collateral to cover all debts owed to it by the company. Following the insolvency of the company, the bank relied on this contractual provision to debit monies from the account which were applied in payment of the company’s debts to the bank.
The company (acting by its administrator) brought proceedings to recover these monies relying on provisions of Latvian insolvency law relating to pari passu treatment of creditors. The bank argued that its actions were permitted and protected under the Financial Collateral Directive 2002/47/EC (FCD).
Against this background, the Latvian Supreme Court referred a number of questions on the scope and applicability of the FCD to the European Court of Justice (ECJ). Advocate General Szpunar issued an Opinion on these matters in July 2016 and the ECJ handed down judgment in November 2016.
The first question was whether and in what circumstances cash deposited in an account constitutes ‘financial collateral’ within the meaning of the FCD.
The second question was whether the effect of the FCD was to permit the enforcement of financial collateral notwithstanding the commencement or continuation of insolvency proceedings in respect of the collateral provider, even where such enforcement would (but for the FCD) be contrary to national insolvency law.
With regard to the first question, it was recognised by all parties that cash deposited in an account was capable of constituting financial collateral for the purposes of the FCD. The arguments instead centred on the limitations that might apply to restrict the circumstances in which this would be the case.
The reference from the Latvian Supreme Court focused on whether the scope of the FCD was limited to cash deposited in an account used in securities payment and settlement systems. It was suggested that this might be the case given the FCD’s origin as a further measure to Directive 98/26/EC on settlement finality in payment and securities settlement systems, which was so limited in scope. The counter arguments were that the FCD expressly contemplates going beyond the scope of the preceding legislation and incorporates a wide definition of cash which is not limited by anything elsewhere in the FCD.
The Advocate General’s Opinion and the ECJ judgment then went on to consider the potential limitations imposed by the requirement in FCD, art 2(2) that the financial collateral be provided ‘so as to be in the possession or under the control of the collateral taker’. On the facts of the case, the key question was whether the bank needed to be able to prevent the company from withdrawing cash from the account in order to be said to have the requisite possession and/or control.
Imposing a high threshold for possession/control would reduce the effect of the FCD in promoting market efficiency by removing from its scope a large amount of the financial collateral at use in the market. However, weighed against that is the need for legal certainty, which is protected by national insolvency law and limiting the scope of the financial collateral arrangements in respect of which it is or may be disapplied. A requirement that financial collateral be provided in a way that involves some form of dispossession ensures that the collateral taker is actually in a position to dispose of the collateral when an enforcement event occurs and is therefore consistent with the objective of the FCD to facilitate non-formalistic enforcement procedures. Finally, it is also consistent with the language of the FCD, which includes provisions outlining the circumstances in which collateral can be substituted or the excess withdrawn. This implies that, absent those circumstances, collateral is restricted.
With regard to the second question, it is clear on the face of the FCD that it permits the enforcement of financial collateral notwithstanding the commencement of insolvency proceedings and disapplies national insolvency law to the extent inconsistent with that. The ECJ acknowledged that this ‘confers an advantage on financial collateral by comparison with other types of security which fall outside the scope of the FCD’. The main question it considered was whether this derogation from the principle of equality before the law was objectively justified (in the sense of being proportionate to a legally permitted aim pursued by the legislation in question).
For the reasons given above, the ECJ decided that cash deposited in a current account is financial collateral regardless of whether or not the account is used in securities payment and settlement systems. However, this financial collateral will only fall within the scope of the FCD where it has been ‘provided’ to the collateral taker, meaning that the collateral provider is ‘prevented from disposing’ of the cash.
The ECJ also confirmed that the FCD confers on collateral takers the right to enforce security notwithstanding the commencement of insolvency proceedings. The ECJ identified the legitimate aim of the FCD as being to improve the legal certainty and effectiveness of financial collateral in order to provide stability in the financial system. The FCD’s provisions are not disproportionate to this aim, particularly when taking account of the requirements for collateral to be provided and, in all but exceptional circumstances, for it to be provided before the commencement of insolvency proceedings.
On the facts of the case in question, and subject to verification by the national court, it appeared that the requirements of the FCD were not met. The current account contract did not contain a clause preventing the company from withdrawing monies that had been deposited in the account. Further, the monies debited by the bank had only been deposited following the commencement of insolvency proceedings.
This is the first time that the FCD has been referred for consideration by the ECJ since its implementation in 2003. The possession/control requirement in particular has been the source of much debate and divergent treatment across the EU given its potential importance in determining the scope of the arrangements that benefit from the protections afforded by the FCD.
From an English law perspective, the possession/control requirement has come before the High Court in Re F2G Realisations Ltd (in liquidation) Gray v G-T-P Group Limited  EWHC 1772 (Ch),  All ER (D) 80 (May) and Re Lehman Brothers International (Europe) (in administration)  EWHC 2997 (Ch),  All ER (D) 32 (Nov). The Advocate General’s Opinion expressly endorsed the approach taken by the English court in those cases and, while the ECJ judgment did not reference them, it would appear to be consistent with them.
It should be noted, however, that the status of the Financial Collateral Arrangements (No 2) Regulations 2003, SI 2003/3226 (as amended) (the FCAR), which implement the FCD into English law, remains subject to some doubt following Lord Mance’s obiter comments in United States v Nolan  UKSC 63,  All ER (D) 183 (Oct). His suggestion that the FCAR may not have been passed in the proper manner has not yet been addressed by subsequent cases or Parliament. Further, as the FCAR were implemented under the European Communities Act 1972, it is unclear how they will be affected by Brexit and in particular whether they will form part of the Great Repeal Bill.
While the ECJ’s decision offers a broad interpretation of what constitutes financial collateral for the purposes of the FCD, the narrow interpretation of possession/control is a significant fetter.
For creditors, this will make it more difficult to access the protection afforded by the FCD. While the tests are not the same, something akin to the high level of control needed to create fixed charge security must also be sought in respect of financial collateral intended to be subject to the FCD. Where this high bar can be met, the benefits conferred on creditors are significant, including with respect to the enforcement of security in insolvency.
Lindsay Hingston is an associate in Freshfields’ global restructuring and insolvency practice based in London. Lindsay acts for a range of stakeholders on complex mandates. Her recent experience includes advising on the restructurings of Monarch Airlines and Sterling Resources.
Interviewed by Emily Jones.
The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.
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First published on LexisPSL Restructuring and Insolvency
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