Vol 8 (2011) - Issue 4

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Beyond the Nortel Judgment

The threat to the floating charge – practical considerations

It has been widely reported that, as the result of an apparent clash between insolvency and pensions law, use by the Pensions Regulator (tPR) of its moral hazard powers against companies in administration can create significant claims that rank as expenses in administration proceedings. This could potentially overreach creditors with claims secured by floating charges. Such claims may also rank ahead of office holder costs, which may result in prospective administrators seeking indemnities from floating charge holders before they agree to accept appointments.

The judge in the recent Nortel case, Mr Justice Briggs, reached his decision regarding the priority of Financial Support Directions (FSDs) in insolvency proceedings reluctantly, because although he felt bound by precedent and the drafting of the legislation, he regards the conclusion as anomalous and unlikely to have been Parliament’s intention. Therefore, it may be reversed by a higher court or rectified (but not retrospectively) by legislation. However, the timing of such developments is not known and could take over a year. Meanwhile, uncertain risks exist as a result of what Justice Briggs refers to as a 'legislative mess'.

New facilities may be structured to maximise fixedcharge security and we may see greater emphasis on such mechanisms as sale and leaseback and chattel mortgages. However, many of our clients are understandably concerned as risk assessments that underlie many past lending decisions may now be undermined. One client has even considered withdrawing or running down one of its stock financing facilities, which is secured by a floating charge, because of the perceived risk associated with a large group pension scheme. The purpose of this bulletin is not to address the rationale for the Nortel FSD, but to examine some of the practical considerations and suggest some potential solutions to the problem for lenders and restructuring professionals.



Requirements for an FSD

An FSD is a direction that a company associated with an employer of a defined-benefit (DB) pension scheme has to put in place measures to support the scheme. If in tPR’s opinion appropriate proposals are not forthcoming, a contribution notice (CN) may be sought, which may impose a debt of up to the amount of the buy-out deficit. If, as in Nortel, this occurs during insolvency proceedings, this not only imposes an additional liability on a debtor but overreaches unsecured claims and claims secured by floating charges.

In summary, tPR may seek an FSD where the employer of a DB scheme is a service company or 'insufficiently resourced' – i.e. the fair value of its net assets is less than 50% of the s75 (buy-out) deficit – and it is 'reasonable' to do so. The service company and resourcing criteria are 'gating issues', i.e. technical hurdles that tPR must address before it can use its powers. 'Reasonableness' is much more subjective, but through our roles as advisors/experts on Sea Containers (first FSD), Bonas (first CN) and other cases where warning notices have been issued, Zolfo Cooper has a good understanding of the criteria that tPR will rely on to support the reasonableness argument.

What is the risk? Cases vary according to their facts, but there are a number of factors that floating charge holders should take into account in assessing the risks associated with DB schemes.