The determination as to whether a secured creditor holds fixed or floating charge security is of vital importance in the event of insolvency. The holders of the fixed or floating charge security being granted differing rights, and in the waterfall of distributions a floating charge is subservient to the fixed charge holders, preferential creditors (now including certain tax liabilities) and the costs and expenses of the insolvency process. For good measure the floating charge realisations are also subject to deduction of 'a prescribed part' (max. £800K) for distribution to the unsecured creditors.
A floating charge is defined in the Insolvency Act (s.251) as one 'which, as created, was a floating charge.' This unilluminating definition tells us that one must look at the effect as of the charge as at the date of creation (i.e., prior to crystallisation), it does not matter that due to events provided for in the security the charge later becomes fixed. Unfortunately, the statutory definition goes no further and has been subject to much judicial debate leading up to the House of Lords case of Re Spectrum Plus Ltd [2005] UKHL 41 ("Spectrum"). Spectrum held that the essential characteristic of a floating charge is the company's freedom to deal with the assets (including future assets) and thus it is a question of how much the secured creditors controls the company rights to deal with the asset.
Facts and background
An application for directions (under para 63 Schedule B1 IA 1986) was brought by the Joint Administrators of Avanti Communications Limited (the "Company"). The Company and its holding company, Avanti Communications Group pls (also in administration), formed part of the Avanti group of companies (the "Group").
The Group principally operate satellites and sell wholesale satellite broadband and connectivity services to internet providers, mobile phone network operators, governments and so on.
The key issue to be determined concerned whether certain assets which had been sold by the Company were secured by fixed or floating charges. This is important because it affects the priority of distributions out of the administration, and therefore the amount payable to the secured creditors.
The application was brought by the Joint Administrators. Two of the secured creditors attended the application hearing – HPS Investment Partners LLC and Solus Alternative Asset Management LP (the "Lead Secured Creditors"). They contended that the assets were secured by a fixed charge, whereas the Joint Administrators adopted a neutral position.
The assets relevant to the application (which had been sold prior to the application) were grouped into 4 categories:
(1) a satellite known an HYLAS 3;
(2) certain equipment used in the operation of network and ground station facilities;
(3) certain satellite network filings registered with the International Telecommunication Union; and
(4) certain ground station licences issued by Ofcom, which entitled the Company to operate the aforementioned ground stations (together the "Relevant Assets").
The Relevant Assets (as well as other intragroup debt facility obligations created by loan instruments) were secured by two debentures entered into in 2013 and 2017 (the "Debentures"), which sought to grant fixed charges over the assets. Any other assets were captured by a floating charge.
On 13 April 2022, the Company entered two asset purchase agreements, as part of the pre-pack sale of the Company, which sold substantially all of its remaining business and assets (including assets at (1) and (2) above and the payment obligations under the existing loan instruments) to an entity ultimately owned by its' secured creditors and other Group companies. The total sale was for $41,557,579.
Distributions were made to the secured creditors on the basis that they were subject to a fixed charge security. The question for the court was whether, at the time of the transactions, the Relevant Assets were secured by fixed or floating charges by virtue of the Debentures.
The two stage Agnew test and Spectrum
The judgment addresses the question by adopting the two-stage test first set out in the Privy Council case of Agnew v Commissioners of Inland Revenue [2001] UKPC 28 and adopted Spectrum:
- Ascertaining the intention of the parties;
- The categorisation of the charge according to law, independent from the intention of the parties.
In Spectrum the Court had grappled with the long running question of whether a standard bank debenture provided the Bank with fixed charge security over book debts. The Court held that irrespective of what was stated in the debenture, the court should look to whether in practice Spectrum had the right to deal with debtors and collect money from them, and whether Spectrum had an unfettered right to draw on the bank account holding the collected debts. Despite having a separate account for the collected book debts, on the facts, it was found that Spectrum had freedom to deal with the book debt proceeds and the Bank did not exercise control.
In Re Avanti Johnson J considered the decision in Spectrum but ultimately was not persuaded that an "absolute approach" is appropriate as to the question of control i.e., that in order for a charge to be fixed it cannot be dealt with at all. Rather, Johnson J considered 'control' to be a spectrum whereby at one end you have total freedom of management of the asset, and at the other a complete prohibition on dealing with the asset.
Stage 1
Johnson J considered the contractual and charge documents to ascertain the nature of the charge that the parties intended to grant. Under the contractual terms, 'asset sales' were not permitted unless certain conditions were met. Whilst these carve outs allowed the charged assets to be sold/dealt with, Johnson J determined that practically the ability to sell them was quite tightly restricted. This therefore meant that the charged assets could not be dealt with freely in the ordinary course of business (as with a floating charge).
Stage 2
Turning to the characterisation of the charge, Johnson J chose not to follow the academic views that a total prohibition on dealing with the charged assets was required for the charge to be fixed. The carve outs permitted the charged assets to be dealt with, but the ability to deal with the Relevant Assets was "materially and significantly limited".
Looking forward
This nuanced approach to characterising the charge underlines the importance of drafting the contractual and security documentation as clearly as possible. For example, if an asset is to be subject to a fixed charge, it should be clearly stated in the security document as such. Vague 'cover-all' provisions leave the characterisation of the charge open to interpretation, which will lead the court to apply the question of control over the charged assets. This is potentially critical for fixed charge holders, as if the charged is found to be floating they will drop down the order of priority in terms of receiving distributions in an insolvency process.
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