Debentures and Loan Capital

CHAPTER 8
DEBENTURES AND LOAN CAPITAL
Chapter Objectives
After the completion of this chapter you should be able to understand amongst other things: the distinction between share capital and loan capital borrowing powers of a company what is a debenture who is a debenture - holder what is a charge? the different types of charges registration of charges effect of not registering registrable charges priorities of registered charges

DISTINCTION BETWEEN SHARE CAPITAL AND LOAN CAPITAL

1.0

The important methods by which a company may raise funds is by the issue of share capital and by borrowing from lenders. Which is called loan capital or loan finance. .

1.2

The basic distinction between share capital and loan capital is that a shareholder is a member of the company, whereas a lender is an external creditor. with the

ICSA IQS Corporate Law

214

Debentures and Loan Capital raising and maintenance of share capital. These rules do not apply to loan capital. For example, 1.3 In considering whether to raise funds from an issue of shares or from borrowing, the directors of a company may take into account whether the issue of further shares will result in a dilution of their or another member's shareholding. This is particularly important where the directors wish to prevent control of the company passing to others.

Gearing 1.4 The extent to which the company has previously borrowed is often relevant. The ratio of borrowed funds to issued share capital is described as the gearing of a company. If the company has borrowed a large amount relative to its issued share capital, it is said to be highly geared. On the other hand, if it has borrowed relatively little compared to its issued share capital, the company is said to have a low gearing ratio. 1.5 The optimum gearing of a company depends on several considerationslike the nature of the industry in which the company operates is relevant, The receptiveness of the capital market to an issue of share capital is relevant to large companies seeking to raise large amounts, and the anticipated inflation rate or foreign exchange rates also affect the decision whether to borrow or issue further share capital. When a company seeks to borrow large amounts, it must be sure that it will be able to meet the interest payments.

ICSA IQS Corporate Law

215

Debentures and Loan Capital Taxation 1.6 The Income Tax Act 1967 confers certain advantages on the raising of loan finance compared with the issue of share capital. The payment of interest on a loan and other associated expenses such as procurement fees, are allowable deductions, which reduce the taxable income of companies. Whereas dividends paid by a company together with expenses incurred in issuing share capital are not deductible.

BORROWING POWERS OF COMPANIES

2.1 A company only has the power to borrow if it is provided and conducted in the manner prescribed by s 19 and the Third Schedule. It also has specific power to issue debentures, give security for loans by charging uncalled capital and granting floating charges over its property: para 13 of the Third Schedule. This is subject to any restriction or prohibition contained in the company's memorandum or articles: s 19(1)(c), which if breached may render the borrowing ultra vires. 2.2 Also, the persons acting for the company, must have the requisite authority to borrow on behalf of the company. The power to borrow is usually conferred on the directors: Table A, art 74.

ICSA IQS Corporate Law

216

Debentures and Loan Capital

DEBENTURES
Definition 3.1 A company may borrow funds in much the same ways as individuals. Thus a company may borrow from a bank or other moneylenders with or without security. An indirect method of borrowing available to both companies and The term individuals is to delay payments to trade creditors. A further important method of borrowing unique to companies is by the issue of debentures. "debenture" does not have a precise legal definition. It is a document, which The

acknowledges the indebtedness of the company. The debt is often secured by a charge over the property of the company but this is not necessary. of contract and if the debenture is secured, also by property law. 3.2 "Debenture" is defined broadly but not exhaustively in s 4(1) to include any debenture stock, bonds, notes and any other securities of a corporation, whether constituting a charge on the assets of the corporation or not. Nevertheless not every document which acknowledges indebtedness is a debenture. The term "debenture" implies a degree of permanence or long-term borrowing. Thus the s 4(1) definition excludes among other things, bank deposit slips, bills of exchange and promissory notes. relationship between the company and a debenture-holder is governed by the law

Debenture stock 3.3 When a company wishes to borrow money by issuing debentures to a large number of lenders it is inconvenient to issue individual debentures, evidencing separate debts to many holders. The company will generally regard the total amount of the debenture issue as a single "debenture stock". This stock is then divided among the holders according to their entitlement. The entitlement of each

ICSA IQS Corporate Law

217

Debentures and Loan Capital holder is evidenced by a certificate, which states her or his interest in the total stock. An advantage to the holder of debenture stock is that it can be further divided by transferring part and retaining the remainder.

Convertible debentures or notes 3.4 A company may issue debentures with a right attached which allows debenture holders to convert the debentures into shares. In this way, the holders obtain the advantages of being debenture-holders with a secure, regular return and after a period they may exercise their right to become shareholders and thereby participate more fully in the success of the company. par value. It also affords the holder a hedge against inflation. 3.5 From the company's point of view, if its future prospects are attractive, it may find its convertible debentures marketable at a relatively low interest rate. Holders may be prepared to accept a low interest rate in exchange for the prospect of converting the debentures into shares with a relatively high market value. The company may also be able to avoid having to raise funds to redeem the debentures if the holders elect to convert them into shares. This is particularly advantageous if the market value of the shares increases significantly over their

Borrowing from the public 3.6 Under s 38(1) and (2) a company that makes an invitation or offer to the public to take up its debentures or accepts money from the public as a deposit or loan, is required to issue a document which acknowledges the debt within two months of acceptance of the money. The debenture provisions contained in Pt IV Div 4, being ss 70-83, then apply to this document.

ICSA IQS Corporate Law

218

Debentures and Loan Capital 3.7 Only a public company may invite the public to lend money to it. Private

companies must be prohibited by their memorandum or articles from issuing debentures or accepting deposits of money from the public: s 15(1)(c) and (d). 3.8 Section 38(4) enables a company to describe the document acknowledging the debt as a mortgage debenture only if there is included in the prospectus a statement to the effect that the loan is secured by a first mortgage over land held by the company. The mortgage must be duly registered or registrable at the Land Registry being either the office of the Registrar of Titles or the Land Administrator, and the secured loan together with other loans ranking equally, must not exceed 60 per cent of the value of the company's interest in the land. An independent valuation of the land must be included in the prospectus.

Appointment of trustee for debenture-holders 3.9 The debenture stock is created by a deed and is referred to in the certificates sent to each debenture-holder. For convenience, the company usually enters into this deed with a trustee for the debenture-holders. The trustee then holds the rights under the debenture trust deed for the individual debenture holders. The trust deed sets out the respective rights, powers and duties of the trustee, company and debenture-holders. Under the deed, the trustee holds the charge or security for the debenture-holders. 3.10 Section 74(1) requires a corporation that invites or offers the public to take debentures, to make provision in a trust deed for the appointment of a trustee corporation for debenture-holders. Where a trustee is required to be appointed, the borrowing corporation cannot issue debentures until the trustee corporation has consented to act as trustee and has been appointed: s 74(2).

ICSA IQS Corporate Law

219

Debentures and Loan Capital Contents of trust deed Where a corporation invites or offers the public to take up debentures issued by it, the trust deed must contain provisions in accordance with s 76(1). 3.11 It is also usually provided that if the borrowing corporation is in default with respect to its obligations, the principal sum borrowed, and any unpaid interest, becomes immediately due and payable. This may also occur on the happening of certain other events. 3.12 These include: default in payment of interest; the borrowing corporation being wound up or having a receiver appointed; judgment against the company being unsatisfied; and the borrowing corporation ceasing to carry on business.

Duties of trustee for debenture-holders 3.13 3.14 The trustee for debenture-holders is subject to the duties set out in s78(1). The trustee must ensure that: the charged property of the borrowing corporation is sufficient to discharge the principal debt when it falls due; the prospectus is consistent with the trust deed; charges are properly registered; and the obligations of the borrowing corporation under the trust deed are observed.

ICSA IQS Corporate Law

220

Debentures and Loan Capital 3.15 The trustee may apply to the Minister, and if necessary to the court, where it is of the opinion that the assets of the borrowing corporation will be insufficient to discharge the principal debt: s 78(2) and (3).

Liability of trustee for debenture-holders 3.16 The trustee may not be given a blanket exemption from all liability under the terms of the trust deed and such exemptions shall be void if they are not related to a standard of care and diligence: s 83(1).

Statutory rights of debenture-holders 3.17 CA confers certain rights on the debenture-holders or their trustee. These include the right to receive a copy of the audited financial statements of the company together with the auditor's report. CA imposes upon the auditor of the company a statutory duty to send these by post to the debenture-holders or their trustee: s 175(1) and (2).

Transfer of debentures 3.18 In order to encourage people to invest in debentures, companies usually waive their common law rights and issue debentures with a provision that the debentures are freely transferable.

ICSA IQS Corporate Law

221

Debentures and Loan Capital

COMPANY CHARGES
What is a charge? 4.1 We have seen that debentures are usually secured by a mortgage or a charge over the borrowing company's property. 4.2 A company may give any type of security that a natural person may give. Such security may take the form of a charge or mortgage of some sort or a pledge of chattels. A legal mortgage is a conveyance or assignment of legal title in property subject to an equity of redemption. An equitable mortgage is the assignment of equitable title as security. A charge is a security interest in property that is created by contract; it transfers neither title nor possession. 4.3 A company has the power to grant floating charges over its property: s 19(1)(c) and para 13 of the Third Schedule, which includes the right to give security by charging its reserve capital. This means that if a company has issued partly paid shares, it may charge the unpaid amounts, which are subject to later calls. This gives a lender security over the unpaid part of the issued capital of the borrowing company. 4.4 The power to charge the company's assets or give security for a debt of the company is usually conferred on the board of directors: Table A, art 74. A charge does not involve the transfer of ownership of the secured property. The borrower (chargor) retains ownership of the property subject to certain restrictions on her or his powers to deal with that property. These restrictions are imposed so as to protect the security of the lender (chargee). 4.5 In the context of company law, the term "charge" has a broader meaning. Section 4(1) defines a charge as including a mortgage or any agreement to give or execute a charge or mortgage whether upon demand or otherwise. As such, a charge may

ICSA IQS Corporate Law

222

Debentures and Loan Capital be legal or equitable and includes any security for repayment of a debt thereby incorporating mortgages and charges in the strict legal sense. In Bensa Sdn Bhd v Malayan Banking Bhd , the High Court held that a memorandum of deposit relating to moneys placed in a fixed deposit was a debenture as it contained elements of an obligation, covenant, undertaking or guarantee to pay. It was a security granted by the company to an insurance company as collateral for the latter to issue several performance bonds. As it had been properly registered as a charge under s 108(3)(a) of CA, it was a secured debt. 4.6 The definition of a charge also extends to other securities such as liens and pledges. The inclusion of the latter is of particular importance with the advent of scripless trading of securities in Malaysia, as s 40 of the Securities Industry (Central Depositories) Act 1991 provides that where a central depository deals with pledges of charged securities, such securities will be transferred to a special account known as the "Pledged Securities Account".

Fixed and floating charges 4.7 A borrowing company can grant a fixed or floating charge as security to debenture-holders. 4.8 A fixed charge attaches to specific property owned by the borrower. This property may or may not be owned by the company at the time the charge is created. In fact, it need not necessarily be in existence at the time the charge is given. The courts of equity also recognised fixed charges over future property. It would suffice that the relevant property is ascertained or definite or capable of being ascertained or defined in the instrument creating the charge so that there can be no doubt that the property is caught by the charge: Malaysian International Merchant Bankers Bhd v Highland Chocolate & Confectionery Sdn Bhd (No.2) .

ICSA IQS Corporate Law

223

Debentures and Loan Capital 4.9 Due to the nature of a fixed charge, the company is unable to dispose of the charged assets without the lender's consent: Siebe Gorman & Co Ltd v Barclays Bank Ltd . In the English case of Re Charge Card Services Ltd , Millett J held that a company could create a charge in favour of a bank over an amount standing to its with credit the bank. 4.10 Section 108(3)(k) provides that a charge over a credit balance in a deposit account is a registrable charge. 4.11 The creation of a fixed charge on the book debts of a company was affirmed by the Supreme Court in the case of United Malayan Banking Corporation Bhd v Aluminex (M) Sdn Bhd . 4.12 Floating charges are charges which float above specific categories of assets such as its inventory. The company is free to dispose of these assets in the normal course of business and to replace them by acquiring the same category of assets in the future. When the company is in default, and the debenture-holders intervene to enforce the debenture or the company is wound up, the charge ceases to float and drops down to attach itself to the specified categories of assets then owned by the company. On default, the floating charge is said to crystallise and becomes, in effect, a fixed charge over the assets of the company held at the time of crystallisation or acquired afterwards. 4.13 A floating charge enables a company to dispose of its trading stock in the ordinary course of business, while still giving the debenture holders a good security by floating over any trading stock, which may be acquired. Similarly, a floating charge may also be conferred over book-debts.

ICSA IQS Corporate Law

224

Debentures and Loan Capital The distinction between fixed and floating charges 4.14 Buckley L J made the distinction between fixed and floating charges in the English case of Evans v Rival Granite Quarries Ltd . He said: A floating security is not a future security; it is a present security, which presently affects all the assets of the company expressed to be included in it. On the other hand, it is not a specific security; the holder cannot affirm that the assets are specifically mortgaged to him. The assets are mortgaged in such a way that the mortgagor can deal with them without the concurrence of the mortgagee. A floating security is not a specific mortgage of the assets, plus a licence to the mortgagor to dispose of them in the course of his business, but is a floating mortgage applying to every item comprised in the security, but not specifically affecting any item until some event occurs or some act on the part of the mortgagee is done which causes it to crystallise into a fixed security. 4.15 The High Court of Australia held in United Builders Pty Ltd v Mutual Acceptance Ltd , that whether a charge is a fixed or floating charge depends on the intention of the parties. A charge is a floating charge if:

it is a charge on a class of assets of a company present and future; that class is one that in the ordinary course of the company's business would be changing from time to time; and it is contemplated that, until some future step is taken by or on behalf of those interested in the charge, the company may carry on its business in the ordinary way as far as concerns the particular class of assets.

4.16

It may be important to determine whether a charge is fixed or floating because floating charges are required to be registered under s 108.

ICSA IQS Corporate Law

225

Debentures and Loan Capital 4.17 The Court of Appeal in Singapore held in the case of Dresdner Bank Aktiengesellschaft v Ho Mun-Tuke Don , that having the last two characteristics was sufficient for it to be a floating charge. In this case the court held letters of hypothecation executed by a stock broking company in favour of its bankers to be floating charges over all the assets of the company. 4.18 This was also the decision in the case of Re Bonds Ltd, where the court held that the charge over part of the stock-in-trade given in two letters of lien deposited with the bank as security for the overdraft facility was a floating charge. This was because the essence of the whole transaction was that the stock might be sold and replaced, as long as the value of the stock in hand did not fall below twice the amount of the overdraft. 4.19 In both Re Lin Securities (Pte) and Chase Manhattan Bank NA v Wong Tui Sun , the Court of Appeal in Singapore has held that letters of hypothecation given as security to various banks were held to be floating charges even though the drafters of the instruments chose to label them by another name. 4.20 The question whether a charge created over book debts of a company amounts to a fixed charge or floating charge depends on the facts of each individual case. In the English case of Siebe Gorman & Co Ltd v Barclays Bank Ltd , Slade J held that a fixed charge over the book debts had been created where the charge instrument provided that the chargor could not charge or assign these debts and, most significantly, had to pay the proceeds in to an account with the chargee bank. 4.21 It is open to the chargee and chargor to provide for a fixed charge over future book debts while they are uncollected and a floating charge on realisation: Re New Bullas Trading Ltd .

ICSA IQS Corporate Law

226

Debentures and Loan Capital 4.22 The rule which seems to be decisive in all of the above cases is that where a company transfers the property in its goods to another party as surety for the payment of debts owed by the company to that person, there is a charge. If the chargor is at liberty to deal with the charged assets, it is a floating charge and conversely, if the chargor is not at liberty to deal with the assets charged, then it is more likely to be a fixed charge.

Disposal in the ordinary course of business 4.23 A floating charge enables the borrowing company to deal freely with the assets subject to the charge in the ordinary course of its business. What dealings are in the ordinary course of business? 4.24 In Reynolds Bros (Motors) Pty Ltd v Esanda Ltd , the New South Wales Court of Appeal held that transactions are within the ordinary course of business if they are made for the purpose of carrying on the business. This is so even where a particular transaction is exceptional in nature provided its purpose is to maintain the company as a going concern. In that case Reynolds, a dealer in agricultural equipment, entered into an agreement in 1980 with Esanda. The agreement provided that Reynolds had possession of certain tractors as bailee for Esanda. This enabled it to sell the tractors as Esanda's agent and earn a commission. Reynolds also owned a number of its own tractors. In 1981 Reynolds granted the State Bank of New South Wales a floating charge over all its assets. In 1982 Reynolds breached its agreement with Esanda when it sold Esanda's tractors and failed to account for the proceeds. In order to reduce this debt Reynolds transferred ownership of ten of its own tractors to Esanda. The State Bank treated this as a breach of the terms of its floating charge and appointed a receiver and manager who challenged the validity of the transaction with Esanda.

ICSA IQS Corporate Law

227

Debentures and Loan Capital 4.25 The court held that the transfer of the tractors to Esanda was within Reynolds' ordinary course of business. This was because it enabled Reynolds to maintain itself as a going concern and meant that the tractors were not covered by the State Bank's floating charge. 4.26 A company can in the ordinary course of its business dispose of assets subject to a floating charge. It is also within the ordinary course of business for a company to grant a later fixed charge over specific assets which has priority over a prior floating charge covering that category of assets. Priorities are discussed below. A disposal of a company's business in its entirety as a preliminary step in ceasing business would not be in the ordinary course of business. 4.27 The principle that a company can carry its business in the ordinary way is the reason why a landlord has the right to distrain for rent, even though the goods seized are subject to a floating charge. As long as distress is commenced before the charge crystallizes, a landlord may proceed to sell goods distrained even after the charge has ceased to float. However, once the charge has crystallised a landlord may no longer distrain upon goods that are subject to the charge: Perbadanan Pembangunan Bandar v Syabas Holding Sdn Bhd .

Crystallisation of floating charges 4.28 At law, a floating charge crystallises when the borrowing company is wound up or ceases to carry on business. This is because it is an implied condition that the company continues to carry on business. Crystallisation also occurs when the company defaults in paying interest or repaying the principal sum and the holders of the charge intervene by appointing a receiver or applying to the court for the appointment of a receiver. 4.29 Provision is also usually made for automatic crystallisation on certain stated events. These include where the borrowing company:
ICSA IQS Corporate Law 228

Debentures and Loan Capital

defaults in payment of interest for a specified period; breaches restrictions on future borrowings; allows the value of charged assets to decline below a minimum amount; ceases to deal with the charged assets in the ordinary course of its business; ceases to carry on business; goes into liquidation; or has a receiver appointed by the court or creditor under a power contained in a debenture.

4.30

In the case of Re Lin Securities (Pte) , the High Court of Singapore held that if the company ceases to carry on its business, then the floating charge will automatically crystallise. Whereas in the case of Re Panama , New Zealand and Australian Royal Mail Co. , the Court of Appeal in England held that there will be automatic crystallisation if a receiver was appointed by the court or creditor under a debenture. This was followed in the case of United Malayan Banking Corporation Bhd v Official Receiver & Liquidator of Soon Hup Seng Sdn Bhd .

4.31

Automatic crystallisation can result in commercial difficulties. A charge may crystallise without anyone being aware of it and both the borrower and lender may continue to act as though the charge is still floating.

4.32

In Malaysia, automatic crystallisation has been approved by Alauddin J in Silverstone Marketing Sdn Bhd and Abdul Malik Ishak J in Malaysian International Merchant Bankers Bhd v Highland Chocolate & Confectionery Sdn Bhd (No.2) The relationship between the borrowing company and its lender is essentially that of contract and accordingly the parties are free to determine their respective rights and obligations under the same. As such, just as they may decide on the circumstances which allows a floating charge to crystallise into a

ICSA IQS Corporate Law

229

Debentures and Loan Capital fixed charge, they may also agree to allow a fixed charge to subsequently become a floating charge: Re New Bullas Trading Ltd .

Priorities between floating charges and later fixed charges 4.33 Where a company grants a floating charge and later purports to grant further charges over the same property, important questions of priority arise as between the different holders of charges. A company which has given a floating charge may grant a later fixed charge on assets already covered by the floating charge because this is regarded as being within the ordinary course of the company's business. In such a case, the later fixed charge ranks ahead of the floating charge, as long as it was given before the floating charge crystallised. This is so, even if the later chargee had notice of the existence of the earlier floating charge: United Malayan Banking Corporation Bhd v Aluminex (M) Sdn Bhd and Re Hamilton's Windsor Ironworks . This is subject to a provision preventing the creation of later, prior-ranking charges contained in the debenture or debenture trust deed or other instrument creating the floating charge. 4.34 Even if the debenture creating the floating charge restricts the power of the company to grant later fixed charges, the later mortgagee may still have priority if the mortgage is a legal mortgage as opposed to an equitable mortgage and the later mortgagee did not have notice of the earlier floating charge and the restriction contained in it. This rule makes it important for debenture-holders secured by a floating charge to give notice of restrictions on future borrowings by the company. 4.35 If the company creates a later equitable mortgage or charge, the mortgagee or chargee may take priority over the holders of the earlier charge, if the prior chargee has permitted the company to represent that it is free to deal with unencumbered assets. This may occur where the company is able to retain

ICSA IQS Corporate Law

230

Debentures and Loan Capital possession of title deeds: Re Castell secured property of the company & Brown Ltd . A prudent trustee for

debenture-holders or chargee consequently takes possession of title deeds over the

Invalidation of charges 4.36 There are a number of provisions in CA, which invalidate charges granted by a company. A charge created within six months of the commencement of winding up at a time when the company was insolvent can be invalidated by the liquidator if the charge has the effect of giving the creditor a preference, priority or advantage over the company's other creditors: s 293. This is known as a fraudulent preference. It should be noted that s 293 only invalidates the floating charge and not the debt. The debt can still be proved: Re Parkes Garage (Swadlincote) Ltd . 4.37 Section 294 deals specifically with the invalidation of floating charges. Under that section a floating charge created within six months before the commencement of winding up is invalid except to the amount of monies paid to the company at the time of the creation of the charge and in consideration of the charge. The charge will not be invalidated if the creditor proves that the company was solvent immediately after its creation. In the case of Sabah Bank Bhd v Ho Juan & Anor , the High Court held that s 294 applied if a party sued under the floating charge to recover any monies claimed thereunder.

REGISTRATION OF CHARGES
5.1 Part IV, Div 7 of CA provides for a system of registration of company charges with the Registrar. The main purpose of these provisions is to enable a potential creditor of the company, who proposes to lend money on security of particular

ICSA IQS Corporate Law

231

Debentures and Loan Capital assets, to ascertain whether the company has already given a charge over those assets. They also enable an unsecured creditor to determine the extent to which the assets of a company have been charged, and thereby to ascertain the rights of secured creditors who rank ahead of an unsecured creditor in priority of payment. Further provisions also determine the priorities of registrable charges as against each other. Persons dealing with a company are taken to have constructive notice of the information contained in the Register of Company Charges maintained by the Registrar: s 111.

Registrable charges 5.2 Section 108 sets out the charges (whether legal or equitable) which must be registered. The charges required to be registered under s 108(3) constitute an exhaustive list. A Floating charge must be registered. 5.3 Details of charges, including those which do not need to be registered under s 108(3), are required to be entered in a register of charges kept by the company: s 115(2). The company must keep the register open for inspection by creditors, members and others. Breach of s 115 constitutes an offence by the company and any defaulting officer. It does not, however, affect the validity of any charge not entered in the register.

Procedure for lodgement and registration of charges Notification of details 5.4 When a company creates a charge, it must ensure that a notice of particulars of the charge is lodged with the Registrar: s 108(1). Together with this notice, the company must lodge a copy of the document creating the charge, or a copy of the

ICSA IQS Corporate Law

232

Debentures and Loan Capital debenture or the first debenture if there is a series, or a statement in writing verifying the execution of the first debenture or document creating or evidencing the charge: s 108(1) and (5). 5.5 The time for lodgement is within 30 days after the creation of the charge: s 108(1). A charge is created on the date of execution of the instrument of charge and not the date when the money is actually advanced: Esberger & Son Ltd v Capital & Counties Bank .

Extension of time for lodgement 5.6 The court may extend the time for lodgement of a charge in certain circumstances: s 114. This application may be made either by the company or any interested person, usually the chargee. The court may exercise its discretion where the failure to lodge within the prescribed time was accidental, due to inadvertence or not of a nature to prejudice the position of creditors or shareholders. The discretion of the court may also be exercised on other grounds where it is just and equitable to extend the time for lodgement. 5.7 The time and date of lodgement of a notice of charge together with the main particulars, are entered in the Register of Company Charges kept by the Registrar: s 111(1). The Registrar will issue a certificate in the manner of the Companies Regulations Schedule 2, Form 40 which is conclusive proof that the charge is registered. 5.8 In the English case of R v Registrar of Companies, ex p Central Bank Of India, the Court of Appeal held that the conclusiveness of the certificate only relates to the fact of registration. It also stated that the registration of a charge does not validate it if it is ineffective for some reason other than non-registration. Nor are the particulars of the charge conclusive. The certificate is conclusive only as to

ICSA IQS Corporate Law

233

Debentures and Loan Capital the fact that a charge has been duly registered; it is not conclusive as to the validity of the charge, its extent or the property that it covers: Re Lin Securities (Pte) . 5.9 The registration of a charge gives constructive notice to all the world of the existence of the charge but apparently not of its terms. In Wilson v Kelland [1910] 2 Ch 306, the company created a floating charge over its undertaking. The terms of the charge restricted the right to create further charges. Eve J held that the registration of the charge amounted to notice to the world that the charge existed; however, it was not notice that there were any special restrictions on the way that the company might deal with its property. This was adopted by the Supreme Court in the case of United Malayan Banking Corporation Bhd v Aluminex (M) Sdn Bhd . 5.10 The time of registration is important because it determines priorities among different registered charges over the same property.

Priorities of registrable charges Time for registration 5.11 The question of priority of charges arises when a company borrows from two or more lenders and purports to give each of them security over the same property. If the company then defaults in payment to the lenders, the question arises as to which lender has priority in enforcing the security. Priorities as regards This is competing charges are determined according to the general law. Ltd .

illustrated by the Australian case of United Builders Pty Ltd v Mutual Acceptance

ICSA IQS Corporate Law

234

Debentures and Loan Capital 5.12 The holder of a registered floating charge is deemed to have consented to a subsequently registered fixed charge gaining priority where the fixed charge was created before the floating charge crystallises. This is so, unless there was breach of a provision in the document creating the floating charge, which prohibited or restricted the creation of future charges and notice of this provision was lodged with the Registrar before the creation of the subsequent registered fixed charge: Kay Hian & Co (Pte) v Jon Phua .

Exceptions to time of registration rule 5.13 Form 34 includes a statement as to whether or not the creation of subsequent charges is restricted or prohibited by the floating charge. This is a negative pledge and is discussed above. It is therefore important for holders of floating charges to ensure that the notice is accurate and complete. 5.14 The general principles with respect to the priority of charges may be summarised as follows: priorities among fixed charges are governed by the general law of property; an equitable charge has no priority over a legal charge unless the former had been created earlier and its existence known by the holder of the legal charge: United Overseas Bank Ltd v Forward Overseas Credit Ltd ; registered charges generally have priority in order of the time and date when they were entered in the Register of Company Charges: Re Benjamin Cope & Sons Ltd . The later charge may only have higher or equal priority over the prior charge if this is allowed by the prior charge;

ICSA IQS Corporate Law

235

Debentures and Loan Capital a prior-registered charge however, loses priority over a subsequentlyregistered charge where the subsequently-registered charge was created before the prior registered charge and the holder of the prior-registered charge is proved to have had actual or constructive notice of the subsequently registered charge at the time the prior-registered charge was created. Therefore, if charge A is registered on 1 June and charge B is registered on 3 June, charge A is a prior charge and as a general rule has priority over charge B, which is a subsequent charge. However, if charge B was created first and the chargee of A had notice of charge B when charge A was created, charge B has priority over charge A.; a registered charge generally has priority over an unregistered charge unless the unregistered charge was created first and the holder of the registered charge can be proven to have had actual or constructive notice at the time of the creation of the registered charge of the existence of the unregistered charge. Therefore if charge A is registered and charge B is unregistered, generally charge A has priority over charge B. However, if charge B was created first and the chargee of A had notice of charge B when charge A was created, charge B has priority over charge A; and 5.15 unregistered charges take priority according to their time of creation.

The question arises as to the extent to which such a charge has priority over a later charge given over the same property. A common form of borrowing by a company is the fixing of a charge to a bank as security for an overdraft. The amount of the overdraft may fluctuate over time. If the company then charges the same property to another creditor, to what extent does the bank have priority over the later chargee? The English Court of Appeal held that a subsequent floating charge over certain assets of a company can take priority over a prior floating charge created over the whole of the company's undertaking: Re Automatic Bottle Makers Ltd . Thus, the crucial element is the language adopted in the charge

ICSA IQS Corporate Law

236

Debentures and Loan Capital document with the issue to be determined being whether it restricts the right of the company to create subsequent charges. 5.16 As a general rule, priority accorded to a charge over another charge only extends to a present liability under that charge as at the priority time, which is taken to mean the time and date on which the charge was entered in the Register. This general rule is subject to several qualifications: where a prior-registered charge secures a prospective or future liability up to a specified maximum amount, and that amount and the nature of the prospective liability are specified in the lodged notice of charge, the priorregistered charge has priority over subsequently-registered charges up to the specified amount of the prospective liability. This is irrespective whether the further advances are made before or after registration of the subsequent charge or whether or not the prior chargee knew of the later charge; where the lodged notice of charge does not specify the maximum amount secured by the registered charge, together with the nature of the prospective liability, the prior charge has priority only with respect to further advances made by the prior chargee up to the time he first obtained actual notice of the subsequent charge; and where the terms of the registered charge require the chargee to make further advances, all such further advances will have the same priority as the charge itself, even where the chargee had actual notice of the existence of later charges at the time when the further advances were made. 5.17 While the rules with respect to priorities are at times complicated, the basic principle is that a chargee will never have any higher priority than that which the

ICSA IQS Corporate Law

237

Debentures and Loan Capital chargor himself or herself had over the property subject to the charge: United Malayan Banking Corp Bhd v Aluminex (M) Sdn Bhd .

Effect of failure to lodge notice of charge 5.18 A charge on the property of a company is not invalid by reason only of the failure to register the charge with the Registrar. lodged and registered. 5.19 A further reason for chargees to ensure that their charges are lodged is provided by s 108(1). This section provides that where a company does not lodge a notice of charge within the prescribed period of 30 days after its creation, the charge will be void as against the liquidator or any creditor of the company. The time limit of 30 days is subject to any extension ordered by the court under s 114. If, however, the charge is delivered to the Registrar within 30 days and the Registrar does not issue a certificate of registration until after the time for registration has expired, the charge will still be valid: United Asian Bank Bhd v Kwong Yik Bank Bhd (unreported) OS No. C 98 of 1980 (High Court). 5.20 The operation of ss 108(1) and 114 means that failure to register a charge does not automatically render the charge void against a liquidator or any creditor of the company. It merely exposes the chargee to that risk if winding up is subsequently commenced or if the charge is challenged by creditors of the company: Dresdner Bank AG v Ho Mun Tuke Don . Where the charge is void against a liquidator, the chargee remains a creditor of the company, but without security, thereby rendering him or her as merely an unsecured creditor of the company: s 108(2). However, as discussed above, the system of priorities provides incentive to chargees to ensure that charges are

ICSA IQS Corporate Law

238

Debentures and Loan Capital 5.21 A charge is valid against a liquidator or creditors of the company even though the charge is registered after the commencement of winding up as long as it is lodged within 30 days of the creation of the charge.

ICSA IQS Corporate Law

239