Re Avanti Communications Limited – Is your security fixed or floating?

It is important to determine whether a charge is fixed or floating, as a fixed charge will rank first on an insolvency of the company which has granted security (technically known as a chargor). Critically, floating charge holders will only be paid after numerous other levels of creditors (including unsecured creditors, up to a prescribed part) have been repaid, along with the settlement of costs and expenses relating to the insolvency process.                                       

The previous leading case on this topic was Re Spectrum Plus [2005] UKHL 41 (“Re Spectrum”). Some academic commentators had interpreted the decision from Re Spectrum as meaning that any freedom under a debenture for a chargor to dispose or deal with the secured assets would mean that the charge would be deemed as floating and could never be a fixed charge.

The court in Re Avanti confirmed the two-stage test for determining if a charge is fixed or floating, previously set out Agnew v Commissioners of Inland Revenue [2001] UKPC 28 [2001] 2 AC 710, being:

• consider the wording of the debenture to determine what rights and obligations the parties intended to grant each other from the language of the document; and
• based on the rights and obligations that are deemed to have been intended to have been granted by the parties, categorise what form of security is compatible with such rights and obligations as a matter of law.

The court did not accept the academic commentary following Re Spectrum, that a charge will only be fixed where there is a total prohibition on any disposals of, or dealings with, the secured assets. The court instead concluded that to determine if a charge is fixed or floating, a holistic analysis is required as to the rights of:

• the chargor (being the person granting the charge) to deal with secured assets; and
• the chargee (being the person with the benefit of the charge) to control the disposal of those secured assets,

but looking at it as a spectrum from total freedom to total restriction.

The nature of the secured assets and the nature of the chargor’s business are two of the key factors when assessing the second part of the above test. Assets which are part of a company’s circulating capital or stock are more likely to be construed as being subject to a floating charge, whereas assets which are inherently income-generating (as opposed to representing income itself) and difficult to transfer ownership of are more likely to be construed as a fixed security if all other legal requirements are met. The court in Re Avanti found that the relevant secured assets – being tangible and intangible infrastructure assets – fell into the latter classification and therefore concluded that the security in this case was fixed, even though there were certain circumstances in which disposal of the secured assets would be permitted without the chargee’s consent.

It is noteworthy that the court did not explicitly state where the line should be drawn on the control spectrum for a charge to be deemed fixed and so this will no doubt be subject to further interpretation and future developments. It is also important to note that in this case the disposal permissions for the chargor in relation to the secured assets were deemed by the court to be relatively limited. In forming this view, the court considered the commercial realities associated with the disposal of the secured assets; whilst in theory the chargor had the right to dispose of the secured assets, the court recognised that in practice the requirements relating to such a disposal would render it commercially unattractive so as to make the existence of such disposal rights of less relevance in the categorisation of the security rights granted.

Categorisation of a charge is therefore fact-specific, and the following points need to be considered:

• whether the secured assets are fluctuating assets or otherwise;
• whether the chargor can freely deal with the secured assets in the ordinary course of business; and
• in relation to income-generating assets such as machinery used to produce stock, whether any restrictions on dealings in assets are in relation to the underlying income-generating asset itself or in relation to the income only.

The case confirms that for a charge to be deemed a fixed charge, there does not need to be a complete prohibition on the chargor dealing with the secured assets. This case reinforces the importance placed by the court on the intentions of the parties as to what form of security rights is being granted and how they are dealt with in practice. Therefore, it is important not just to focus on the drafting of the finance documents, but also the board approval documents for the entry into those finance documents, to ensure that the intentions of the parties as to the nature of security granted are clearly reflected.