Vol 1 (2004) - Issue 4

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Leyland Daf - Some Practical Difficulties

The Opinions of the House of Lords in Buchler v Talbot Re Leyland Daf Limited [2004] BCC 214 will result in a number of practical conundrums which may well result in quirky and unpredictable outcomes.
As by now will be appreciated by those practising in the field of corporate insolvency, the House of Lords decided on 4 March that in cases in which the Company has granted a floating charge, the costs and expenses of the liquidation will rank after sums payable both to preferential creditors and to the holders of a floating charge and will not be payable out of floating charge security. This conclusion may come as a surprise to insolvency practitioners who have for many years regarded the costs of the liquidation as having priority over both.
The pertinent facts of Leyland Daf may be shortly summarized. The Company granted a debenture containing fixed and floating charges in 1992. In 1993 the debenture holder appointed Administrative Receivers who proceeded to realize the Company’s assets. They paid receivership preferential creditors totalling GBP 8m and made interim distributions to the debenture holder of approximately GBP 110m. By the time of the hearing in the House of Lords the Administrative Receivers held a balance of GBP 72m.
In the meantime, in 1996 the Company went into liquidation. The liquidators had realized approximately GBP 1.4m, but had incurred costs, remuneration and corporation tax of GBP 9.5m. The issue in the case was whether the liquidators were entitled to recover the shortfall out of the funds held by the Administrative Receivers. The liquidators’ contention was based on the propositions that (i) liquidation expenses were payable in priority to the claims of preferential creditors; (ii) the claims of preferential creditors were payable out of the Company’s assets subject to a floating charge in priority to the claims of the debenture holders; therefore (iii) liquidation costs and expenses were payable out of the Company assets subject to the floating charge in priority to both preferential creditors and the floating charge holder.
Whilst this argument succeeded both at first instance before Rimer J [2001] 1 BCLC 419 and in the Court of Appeal [2002] 1 BCLC 571, it was flatly rejected by the House of Lords. Three reasoned judgments were given by Lords Nicholls, Hoffman and Millett, all of whom rejected the argument on what may be regarded as both historic and policy grounds.
The issue turns on the proper construction of what is now section 175 Insolvency Act 1986. This provides (in so far as material):

(1) In a winding up the company’s preferential debts ... shall be paid in priority to all other debts.
(2) Preferential debts -
(a) rank equally among themselves after the expenses of the winding up and shall be paid in full, unless the assets are insufficient to meet them, in which case they abate in equal proportions, and
(b) so far as the assets of the company available for payment of the general creditors are insufficient to meet them, have priority over the claims of [floating charge holders] and shall be paid accordingly out of any property comprised in or subject to that charge (emphases added).

The present section has been in existence in substantially the same form since 1897, it having been introduced by s.2 of Preferential Payments in Bankruptcy (Amendment) Act. Preferential debts were first introduced into the law of company insolvency in s.4 Companies Act 1883 which gave preferential status to the claims of unpaid wages and salaries of clerks, servants, labourers and workmen. It was extended in 1888 to include rates and taxes.
The contemporaneous development of the floating charge in the late 19th century resulted in the claims of the preferential creditors in many cases being worthless. As all (or substantially all) of the assets of the Company were subject to security, there was nothing left for those creditors whom Parliament had intended to have preferential status. Neither they nor ordinary unsecured creditors had any entitlement to be paid out of secured assets. It was a consequence of this that s.2 of the 1897 Act was introduced in the following terms:

... [preferential debts] shall, so far as the assets of the company available for payment of general creditors may be insufficient to meet them, have priority over the claims of [floating charge holders] and shall be paid accordingly out of any property comprised in or subject to such charge