Perpetual Trustee Co Ltd and another v BNY Corporate Trustee Services Ltd and another; [2009] EWCA Civ 1160; [2009] WLR (D) 322

INSOLVENCY — Winding up — Anti-deprivation rule — Contractual provisions switching priority and changing allocation of costs on insolvency — Determination of licence agreement and option to acquire shares on insolvency — Whether provisions contrary to principle that insolvent’s assets available for distribution among creditors — Whether valid

Perpetual Trustee Co Ltd and another v BNY Corporate Trustee Services Ltd and another

Butters and others (joint administrators of WW Realisation 8 Ltd and another) v BBC Worldwide Ltd and others

[2009] EWCA Civ 1160; [2009] WLR (D) 322

CA: Lord Neuberger of Abbotsbury MR, Longmore, Patten LJJ: 6 November 2009

The anti-deprivation rule, which as a matter of public policy prevented parties from contracting out of the insolvency legislation by removing assets otherwise available for creditors, did not apply to complex contractual provisions by which investors were granted rights over assets derived from their own moneys, rights which were modified when an event of default happened, or to licence termination and share option provisions operative on insolvency which did not contravene the Insolvency Act 1986. The rule did not normally apply to a deprivation completed before the liquidation, bankruptcy or its equivalent occurred.

The Court of Appeal so held, on the Lehman appeal (1) dismissing the appeal by the second defendant, Lehman Brothers Special Financing Inc, against the decision of Sir Andrew Morritt C on 28 July 2009 ([2009] EWHC 1912 (Ch); [2009] WLR (D) 262) in favour of the claimants, Perpetual Trustee Co Ltd and Belmont Park Investments Pty Ltd, that the anti-deprivation rule did not apply to certain contractual provisions which, on an insolvency event, switched the priority over assets and changed the allocation of specific costs to the potential detriment of the second defendant, and accordingly those provisions were valid; on the Woolworths appeal (2) dismissing the appeal of Daniel Butters, Neville Kahn and Nicholas Dargan, joint administrators of WW Realisation 8 Ltd (formerly Woolworths Media plc) and of Woolworths Group plc against the decision of Peter Smith J on 20 August 2009 [2009] EWHC 1954 (Ch) that the licence termination and share option provisions could be enforced after deletion of those parts which offended the anti-deprivation rule; (3) dismissing the appeal by the third defendant, BBC Video and the administrators against the finding that the master licence agreement determined as a result of the conduct of the parties and (4) allowing the cross-appeal of the first defendant, BBC Worldwide Ltd, against the finding that the licence and share option provisions as drafted offended against the rule.

LORD NEUBERGER OF ABBOTSBURY MR said that in the Lehman appeal those administering the estate of Lehman Brothers Special Financing Inc, (“Lehman BSF”), contended that the Chancellor was wrong to hold that the anti-deprivation rule did not apply to synthetic collateralised debt obligations, set up through a special purpose vehicle, so as to vitiate provisions which, on an insolvency event, (a) switched the priority over the assets between the credit default swap counterparty, Lehman BSF and the claimant noteholders in favour of the noteholders, and (b) changed the allocation of the “unwind costs” in favour of the noteholders to the potential detriment of Lehman BSF. The Chancellor’s reasons were first, the nature of Lehman BSF’s disadvantage did not fall within the rule, and secondly, the provisions were operated before Lehman BSF filed for Chapter 11 protection in the United States, the equivalent of a winding up order. The anti-deprivation rule was based on public policy but only to the extent that one could not contract out of the insolvency legislation: see British Eagle International Airlines Ltd v Cie National Air France [1975] 1 WLR 758, Carreras Ltd v Freeman Matthews Ltd [1985] 1 Ch 208 and IATA v Ansett Australia Holdings Ltd [2008] BPIR 57. The first question was whether the “flips” in the contract from swap counterparty priority to noteholder priority and from one contractual condition to another constituted deprivations potentially precluded by the rule. The “flip” provisions did not divest Lehman BSF of assets currently vested in it and reinvest them in the noteholders, but merely changed the order of priorities in which the rights were to be exercised in relation to the proceeds of sale of the collateral in the event of a default. When the transaction came to be redeemed early, and “unwound” following an act of default, Lehman BSF retained its right in relation to the proceeds of sale of the collateral, but as had always been an agreed feature of that right, as a result of the default Lehman BSF had to rank behind, rather than ahead of the noteholders whose money had been used to purchase the collateral. The noteholders granted to Lehman BSF rights over assets derived from their moneys, which rights were liable to be modified on the happening of an event of default. That was a valid arrangement even on or after Lehman BSF’s Chapter 11 filing. Patten LJ had reached the same conclusion on the simple basis that the “flip”, that is the reversal of the order of priority over a company as the holder of a charge, in favour of another chargee over the same assets, could not be caught by the rule, even if it operated after the liquidation of the company, at least if such a reversal was an original feature of the company’s charge when it was granted. While sympathetic to that view, his Lordship rested his conclusion on the more limited ground that, in addition to the facts relied on by Patten LJ, the assets over which the charge existed were acquired with money provided by the chargee in whose favour the “flip” operated, and that the “flip” was included merely to ensure, as far as possible, that the chargee was repaid out of those assets all that he provided (together with interest), before the company received any money from those assets pursuant to its charge. There was a danger that the simple analysis could, due to the very limited circumstances in which the court would hold a transaction to be a sham, make it very easy to dress up sale transactions so as to circumvent the rule. Even if the “flips” had constituted a deprivation, the rule would not have been engaged, because the triggering event was the filing for Chapter 11 of Lehman Bros Holdings Inc, 18 days before Lehman BSF filed for Chapter 11. There was nothing inconsistent with the Insolvency Act 1986 about a contractual agreement which effected a deprivation of an asset of a company before it went into liquidation, unless it fell within ss 238 or 239 which were not relevant in this case.

In relation to the Woolworths appeal, the main issues were whether certain licence termination and share option provisions which arose on insolvency could give rise to any infringement of the rule. There was nothing in those provisions in the relevant agreements, whether taken separately or together, which could engage the anti-deprivation rule. The fundamental reason why the licence clause did not infringe the rule was that its invocation did not involve what had been the property of the insolvent party becoming vested in a third party. It merely involved a limited interest being brought to an end, in accordance with its terms, by the third party who had granted it to the party who had become insolvent. By contrast the share option provision did involve property owned by the party who had become insolvent. But for one important feature that clause would fall foul of the rule. The price payable under the clause was the market price, which could not be objectionable. If those clauses were each unexceptionable on its own, it was difficult to see how they could be objectionable because they existed together. The judge was incorrect to hold that the rule was engaged, a conclusion reinforced by the effect of his blue pencil exercise: it resulted in the two clauses having the same commercial effect as they would have had without the excision. Even if the rule had been engaged, it would have had no application because the relevant insolvency event occurred before the making of the administration order in question. Both principle and practicality supported the view that the rule had no application where the deprivation had been effected by the time the winding up (or administration) order was made against the company which was deprived.

LONGMORE LJ delivered a concurring judgment.

PATTEN LJ delivered a judgment concurring in the result.

Appearances: In the Lehman appeal: Richard Snowden QC and James Potts (instructed by Weil, Gotshal & Manges) for second defendant, Lehman Brothers Special Financing Inc; Gabriel Moss QC and David Allison (instructed by Sidney Austin LLP) for the first claimant, Perpetual Trustee Co Ltd; Richard Salter QC and Jonathan Davies-Jones (instructed by Lawrence Graham LLP) for the second claimant, Belmont Park Investments Pty Ltd; Stephen Midwinter (instructed by Lovells LLP) for the first defendant, BNY Corporate Trustee Services Ltd; In the Woolworths appeal: Richard Sheldon QC and Barry Isaacs (instructed by Denton Wilde Sapte LLP for the administrators; Mark Howard QC, Daniel Jowell and Mark Arnold (instructed by Olswang LLP) for BBC Worldwide Ltd; Edmund Cullen (instructed by Wiggin LLP) for BBC Video Ltd.

Reported by: Susan Denny, barrister