In the Matter of J.D. Brian Motors Limited & Ors (In Liquidation) IEHC 113  

The interaction between preferential creditors and floating charge holders under section 285 of the Companies Act 1963 was considered by the High Court in a judgment delivered in the Belgard Motors case. In that case, the liquidator made an application to the Court for declarations and directions in respect of the proper interpretation of section 285(7). In particular, the liquidator sought clarification as regards:

• The priority of preferential debts over the claims of debenture holders under a floating charge which had crystallised prior to the commencement of the winding up and
• The validity of so-called “express crystallisation” clauses in floating charges as a matter of law

Section 285(7) of the Companies Act 1963 provides, inter alia, that:
“so far as the assets of the company available for payment of general creditors are insufficient to meet them, have priority over the claims of holders of debentures under any floating charge created by the company, and be paid accordingly out of any property comprised in or subject to that charge”.

Background
In December 2005 the companies entered into a number of debentures in favour of Bank of Ireland as security for present and future borrowings under which a mixture of fixed and floating charges were granted in favour of the Bank. Clause 10 provided that “the Bank may, at any time, by notice in writing… convert the floating charge… into a first fixed charge over all the property, assets and rights for the time being subject to the said floating charge or over so much of the same as is specified in the notice… if… the Bank considers that the property, assets and rights described or referred to in the notice are in any way in jeopardy”. A notice pursuant to clause 10 was served by the Bank on 28 October 2009. On 7 December 2009, a winding up order was made and a liquidator appointed.

It was argued on behalf of the liquidator and the Bank that service of notice pursuant to clause 10 resulted in the valid crystallisation of the floating charges. As the floating charges had therefore been crystallised prior to the commencement of the winding up, it was argued that the Bank was entitled to be paid out of the assets realised, and that the preferential creditors had no entitlement to be paid in priority to it. However, the Revenue Commissioners submitted that its preferential claim ought to be afforded priority regardless of whether or not the floating charge had crystallised prior to the commencement of the winding up.

Decision
Ms Justice Finlay Geoghegan preferred the submission of the Revenue Commissioners and concluded that in a winding up preferential debts rank in priority to assets the subject of a floating charge, irrespective of whether or not the floating charge crystallises before the commencement of the winding up.

As regards the validity under Irish law of “express crystallisation” clauses, or clauses which purport to crystallise a floating charge on the happening of an event or a particular step taken by the chargee, the judge found that:
“there is no rule of law which precludes parties to a debenture creating a floating charge agreeing, as a matter of contract, that the floating charge will crystallise upon the happening of an event or a particular step taken by the chargee”.

The ranking of a charge consequently falls to be determined by its character at the date of its creation, which ranking cannot be altered by the occurrence of any subsequent event, including crystallisation. This decision effectively negates the possibility of banks seeking to improve their position over preferential charge holders through the crystallisation of floating charges prior to a winding up.

By reason of her conclusion on the construction of section 285(7), Ms Justice Finlay Geoghegan did not deem it necessary to consider whether or not the Bank had validly crystallised its floating charge. Both the liquidator and the Bank indicated an intention to appeal the High Court judge’s construction of section 285(7).

Supplemental Judgment
A supplemental judgment followed on 11 July 2011 which specifically addressed the outstanding issue of whether the clause 10 notice served by the Bank resulted in the valid crystallisation of the floating charges.

Ms Justice Finlay Geoghegan applied the reasoning adopted by the Supreme Court in In Re Keenan Brothers IR 401. There the Supreme Court held that neither the terminology used nor the declared intentions of the parties are determinative when categorising a charge as fixed or floating in nature, but what is instead required is to have regard to the effect of all of the terms of the instrument creating the charge.

The judge noted that there was nothing in the relevant debenture restricting the entitlement of the companies to deal with or dispose of the assets the subject of the floating charge following the service of a clause 10 notice. The company had retained the right to dispose of, or otherwise deal with, those assets without consent or permission from the Bank after the service of the crystallisation notice. Accordingly, the judge found that service of the clause 10 notice did not have the effect of converting the floating charge created by the debenture into a first fixed charge over the assets.

It is understood that an appeal has been lodged to the Supreme Court. Pending the outcome of the appeal, the judgments highlight the necessity for considered drafting of debentures to capture the intention of the parties. 

Contributed by Delia McMahon.