The High Court has recently held that an individual may claim the proceeds of the sale of assets subject to an agricultural charge by the application of the equitable remedy of marshalling.
The agricultural or farming sector includes a combination of unique assets and ownership structures that have given rise to a bespoke form of security. The Agricultural Credits Act 1928 (“ACA 1928”) allows a farmer to grant an agricultural charge to a bank. The purpose behind this legislation was to give farmers more freedom to use their chattels as security. Essentially, an agricultural charge extends the scope of the security from just the land and buildings of a farm to include the other assets of the farm, such as crops (whether in the ground or already picked), livestock, vehicles and machinery. It is similar to taking a debenture over a limited company such that a lender or financier would be able to take control of the business of the farm, not just its real property.
Marshalling is an equitable remedy to do justice between two or more creditors who are each owed money by the same debtor. It is based on the principle that a creditor who has recourse to a number of sources to satisfy its debt should not disadvantage another creditor who only has access to one of those sources. In these circumstances, marshalling allows the second creditor a right in equity to require the first creditor to be treated as having satisfied himself from security to which the second creditor has no recourse.
Barclays Bank Plc (“the Bank”) provided working capital to Dent Limited (“the Company”) and to Dent Company (“the Partnership”). The Company and the Partnership operated a haulage and farming business. The Bank was granted a debenture by the Company, containing fixed and floating charges over all the assets of the Company and third party charges over two farms belonging to individual members of the Partnership. In addition, the Partnership granted an agricultural charge to the Bank (“the Agricultural Charge”).
As well as Bank funding, loans were made to the Company, the Partnership and individual partners by a family member, known as Lady Morrison. These loans were secured by third party charges over the farms. The Bank and Lady Morrison entered into a deed of priority governing the priority of their respective securities.
The Partnership and the Company suffered cash flow pressure. In particular, the Partnership was in danger of being unable to obtain fuel supplies to enable the continued trading of the haulage business of the Partnership (thereby also prejudicing the business of the Company). Injections of additional finance were not sufficient to sustain the business. The Company ultimately entered administration; the members of the Partnership appointed joint administrators of the Partnership; bankruptcy orders were made against each of the partners and the Bank appointed Law of Property Act Receivers in respect of the farms.
The farms were sold by the officeholders and the proceeds of sale discharged all of the indebtedness owing to the Bank and the majority of Lady Morrison’s lending, with the shortfall of her lending being owed by the Partnership.
The joint administrators applied to court under Schedule B1 paragraph 63 of the Insolvency Act 1986 for directions as to the distribution of funds. One issue that the court was asked to decide was whether the sale proceeds from the assets subject to the Agricultural Charge could be made available to satisfy the shortfall suffered by Lady Morrison by the application of marshalling.
The Court held that agricultural charges could be subject to the doctrine of marshalling and that marshalling should be applied in favour of Lady Morrison in respect of the Agricultural Charge. In particular:
- The trustees in bankruptcy of the individual members of the Partnership argued that an individual was not entitled to create an Agricultural Charge and as such, it follows that an individual could not benefit from it under the principle of marshalling. This argument was rejected by the court. The ACA 1928 does not prohibit a bank from assigning charges created under it and the term “Bank” in the Agricultural Charge included persons deriving title under the Bank. If the security was capable of assignment, the court saw no reason why it could not also be marshalled.
- The principle of marshalling attaches to the conduct of the first creditor with more than one security recourse and the equity it creates arises between the two creditors. This has two aspects:
- the equity may be shaped by the terms of any contract between the creditors. In this case, the terms of the deed of priority entered into between the Bank and Lady Morrison reinforced rather than limited the operation of the principle of marshalling;
- notwithstanding a contractual arrangement between secured creditors (if any), when considering secured claims, equity requires the double secured creditor to be treated as if he had had recourse to the fund which was not available to the single secured creditor. In this case, the Bank had been entitled to enforce its claim against two securities: the third party charges over the farms and the Agricultural Charge. As it looked to the former, the benefit of the latter went unused. If the Bank had chosen to be repaid by the Agricultural Charge instead, the proceeds of sale of the farms would have been available to Lady Morrison. Therefore, the Bank was to be treated as if it had claimed under the Agricultural Charge and Lady Morrison could claim what she was owed from the sale proceeds of the assets which had been subject to that charge. Lady Morrison’s ability to marshal the Bank’s security in these circumstances did not depend on her ability to have created it in the first instance.
This case will be of interest to lenders and insolvency practitioners at a time when the agricultural sector is under significant strain. Those lenders limited to recovery from only one source of security granted by their agricultural customer will be interested to learn that the equitable remedy of marshalling could be available to assist with any shortfall. The availability of marshalling to any single secured creditor will, of course, depend on there being surplus realisations once the double secured creditor’s indebtedness has been discharged in full and in a distressed scenario, this may not be the case. It is therefore important for secured lenders to monitor closely loan to value ratios throughout the customer relationship.
The case is also a useful reminder to secured lenders to have as wide and varied a security net as possible when it comes to their agricultural customers, that aside from the obvious financial benefit of having a charge over additional assets, having an agricultural charge also means that if a secured lender needs to enforce its security, it has far greater options and flexibility as to the timing and nature of enforcement. Without an agricultural charge, a secured lender could find itself in the difficult position of having to appoint over land and buildings but not being able to control or sell the day to day farming business. Not only would this affect any value that could be achieved, it also means that any purchaser of the land and buildings would effectively have to buy the land with the farmer as a “tenant” until the farming activities ceased. In a worst case scenario, if the farmer stopped cooperating or became incapable of operating the farm, a secured lender could be in control of land with crops and/or livestock deteriorating but with no ability to remedy the situation. An agricultural charge gives the beneficiary the ability to appoint when it wishes to do so, as the day to day operations can continue under the control of a receiver. The alternative would be having to wait for a precise moment when no livestock is left or all crops have been picked and sold, which is clearly not ideal.