Floating charge not unenforceable where prior security snares all assets
The Court of Appeal has recently clarified that a floating charge is not unenforceable when, at the time it is created or when the chargeholder purports to appoint administrators, there are no unsecured assets for it to bite on.
The decision in SAW (SW) 2010 Ltd and another v Wilson and others [2017] EWCA Civ 1001 is not new law, however it is a useful reminder of the way ranking (or priority) of floating security and crystallisation might work in practice. Indeed the scenario involved is not wholly unusual.
The facts
Among other fixed charge security and mortgages, the security provider created a floating charge in favour of a creditor over all of its remaining property and assets, which included an automatic crystallisation clause (First Floating Charge). Crystallisation of the First Floating Charge would be triggered by negative pledge provisions not to create further security over the floating charge assets without the chargeholder's consent.
The security provider later obtained additional finance from another creditor (without the previous creditor's consent), the security for which was in the form of a debenture that incorporated an "all assets" floating charge (Second Floating Charge). When the security provider subsequently got into financial difficulties, the creditor and holder of the Second Floating Charge appointed administrators (on the basis it was a "qualifying floating charge" for the purposes of paragraph 14 of Schedule B1 to the Insolvency Act 1986). The shareholders of the security provider and its unsecured creditors sought to challenge that appointment arguing:
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The subsequent finance and provision of security (without the consent of the holder of the First Floating Charge) breached the negative pledge provisions and automatically crystallised the First Floating Charge over all the security provider's current and future assets. Accordingly there were no assets for the Second Floating Charge to bite on and it was therefore invalid.
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Because the Second Floating Charge was subject to prior ranking security, the Second Floating Charge was unenforceable as there were no assets over which it could be enforced.
What the Court of Appeal held
Predictably (and thankfully) the Court of Appeal dismissed the argument. A floating charge is not invalid, at the time of its creation, if there were no unencumbered assets of the company that creates it or if the company did not have the power to acquire assets that would be free of a prior security interest. The Second Floating Charge was an enforceable qualifying floating charge, and the holder of the Second Floating Charge was entitled to appoint administrators.
The classic authorities on floating charges (currently culminating in the decision in re Spectrum Plus Limited [2005] 2AC 680), establish the characteristics of floating charges by reference to the construction of the underlying instrument. The question is not whether the company is inhibited in some other way from dealing with its assets, but whether it is inhibited by the terms of the instrument itself (our emphasis). The fact that there were no assets for the floating charge to attach to at the time it was created, did not defeat the creation of a floating charge on the principles laid down by the well-known authorities. Encouragingly the Court endorsed the view that there are sound commercial reasons why a company might create a floating charge when it has no unencumbered assets. For example, it might borrow working capital to establish its business before it had any assets, or a floating charge could be created to attach itself to the equity of redemption under an earlier fixed charge (which may be a valuable asset). Although there is no specific authority in England and Wales on the effect of automatic crystallisation of an earlier floating charge upon a later floating charge, the Court's view was that the automatic crystallisation of the First Floating Charge affected the priority of the security but not the validity of the Second Floating Charge.
Additionally, dismissing the second argument, the Court held that a floating charge can be enforceable if any condition precedent to enforcement had been satisfied and there remained a debt for which the floating charge stood as security. Floating charges will not be rendered unenforceable simply because prior security exists, whether fixed or floating.
Takeaways
The sweeper floating charge is a common device in secured lending, particularly real estate lending. It is designed to mop up assets that are not appropriate for fixed charge security and provides a valuable right to appoint an administrator "out of court" (as deployed in the present case). Rarely is a detailed analysis made at the point of creation, or when seeking to appoint administrators, as to what (if any) assets exist at the time for the floating charge to bite on. The Court's decision is some comfort to lenders that the sweeper floating charge remains a valid device and there is no additional requirement that there must be assets available within the floating charge at the time of its creation or enforcement. Nevertheless the case provides a reminder to both lenders and borrowers to be alive to negative pledge provisions, crystallisation of floating charges and ensuring that priority positions are adequately protected.