Floating Charges: Reassurance for Lenders

A recent Court of Appeal case has reassured lenders that floating charges will be valid regardless of whether or not the chargor has any assets to which the charge can attach at the time of creation, according to a corporate lawyer. “It is common for institutional lenders to take a debenture creating a so-called “floating charge” over all assets of a company, such as stock, which are not subject to fixed charges. The chargor is entitled to dispose of such assets until the security becomes enforceable and is said to crystallise, at which point the charge converts to a fixed charge. A recent case has clarified that such a charge will constitute valid security even if there are no unencumbered assets over which security can be granted.”

Mr Round continues, “the case of Saw (SW) 2010 Limited & another v Wilson & others concerned the grant of a debenture by a borrower which had already granted a floating charge over all of its assets to Capital Home Loans Limited. The consent of CHLL had not been sought for the subsequent security, and the grant of the second debenture therefore triggered an automatic crystallisation of CHLL’s floating charge over all of the borrower’s assets. When the second lender sought to appoint administrators, it was argued that the crystallisation of the first charge meant that all of the borrower’s assets became subject to a fixed charge in favour of CHLL and there were therefore no assets to which the second charge could attach. It was further argued that as the assets over which the second charge was purported to be granted were subject to prior security, the second charge was unenforceable because there were no assets over which to enforce the security.”

Mr Round explains that the Court of Appeal upheld the validity of the second charge. “It was held that the validity of a floating charge does not depend on the existence of uncharged assets of the chargor, but on the construction of the relevant instrument, and that floating charges will be enforceable if any conditions precedent to enforcement have been satisfied, regardless of whether the relevant assets are subject to existing security.”

Mr Round concludes, “the judgment will reassure lenders for whom a floating charge is usually a key element of their overall security package. It is important, however, to ensure that a debenture is carefully drafted given that the wording of the instrument will determine whether it constitutes a qualifying floating charge enabling the lender to appoint an administrator out of court.”