Caution for UK Lenders: Failure to Abide by Deed of Priority May Result in Appointment of Administrators Being Void
The case of Arlington Infrastructure Ltd (In Administration) v Woolrych  EWHC 3123 (Ch) is a cautionary reminder to qualifying floating charge holders (and their advisors) to review the terms of all security documents, before seeking to appoint an administrator.
In this case, failure by junior chargeholders to obtain consent from senior chargeholders (as required under a deed of priority) prior to the appointment of administrators led to the court finding that the out of court appointment of administrators was invalid (as opposed to being a procedural irregularity that could be cured).
The facts of this case are different to those cases where a deed of priority is in place between two chargeholders with qualifying floating charges over the same company, but the key takeaway applies to all cases where a qualifying floating charge holder is seeking to make an appointment – check all security documents to ensure that the charge is enforceable before making an appointment. Failure to do so may result in an invalid appointment.
In this case, the deed of priority between the senior and junior lenders governed the priority of debentures held by those creditors over Arlington Infrastructure Limited (AIL), the parent company. In addition to its debenture over AIL, the junior creditors (but not the senior creditor) held debentures over the three subsidiary companies of AIL.
The junior creditors purported to appoint administrators over three subsidiary companies pursuant to its debentures, but the question for the court was whether those appointments were valid which turned on whether, at the time of the appointment, the junior creditors’ debentures were enforceable.
Paragraph 16 of Schedule B1 of the Insolvency Act 1986 provides that: “An administrator may not be appointed under paragraph 14 while a floating charge on which the appointment relies is not enforceable”.
The deed of priority, whilst only governing the priority of the security interests over the parent company, included a clause that required the junior creditors to obtain the prior written consent of the senior creditors before it could take “any step to enforce any Junior Security Interest, whether by appointing a Receiver, exercising its power of sale or otherwise” or “issue a notice of intention to appoint an administrator or appoint an administrator”. “Junior Security Interest” included the debentures held by the junior creditors over the subsidiary companies.
Prior to seeking to appoint administrators over the subsidiary companies, the junior creditors did not obtain written consent from the senior creditors, as required by the deed of priority. Did this mean that the junior creditors’ debentures were not enforceable and therefore that they could not make an appointment under paragraph 14 of Schedule B1?
In assessing whether a qualifying charge is enforceable the court said that it should be assessed objectively and involves “consideration of all the circumstances including the terms of the debenture or other security document between the parties, any collateral contract or agreement, whether between the parties or between the floating chargeholder and a third party, any promissory estoppel, and any statutory provision”.
Here, given the terms of the deed of priority, it was a condition precedent to the charge becoming enforceable that the junior creditors obtain consent of the senior creditors. As such, because no consent had been obtained (or would have been forthcoming) it was held that the debentures were not enforceable and therefore the power to appoint an administrator under paragraph 14 had not arisen. Failure to comply with this was a fundamental defect.
Given there was no other security in place over the subsidiary companies and the debentures over those companies permitted the appointment of administrators, at first glance one might think that the junior creditors could proceed with the appointment.
However, as the lenders discovered in this case, when it comes to a QFCH appointment, lenders should ensure that their solicitors have copies of all relevant security documents (particularly if there is a group structure) to ensure that any restrictions in relation to enforcement are complied with.
As the Judge noted: “If the chargee has made a promise to third party that it will only enforce its charge if a certain condition has been met, that is a matter the court is entitled to take into account in determining the question under paragraph 16 of whether the charge pursuant to which the chargee purported to appoint an administrator is or is not enforceable”.
In a previous blog, we discussed the case of Re Tokenhouse VB Limited  EWHC 3171 (Ch) (Tokenhouse) in which the failure to serve a notice of intention to appoint administrators by directors of a company on a QFCH did not automatically void an administration. In both that case and this, the QFCHs ability to appoint administrators was impacted but the findings were different, in Arlington the court found that appointment was void, in Tokenhouse the appointment was defective. Why were there different outcomes?
This is perhaps best explained by the fact that in Arlington the QFCHs right to appoint administrators had not arisen in the first place, the charge was not enforceable because the contractual notice required under the deed of priority had not been given. Whereas the QFCHs right to receive notice of intention to appoint an administrator arises under the Insolvency Rules, it is a procedural step that should be taken as a pre-cursor to making the appointment. In Tokenhouse, the court determined that parliament could not have intended that failure to give notice would automatically void the appointment.