In Myers and another v Kestrel Acquisitions Ltd (Kestrel) and others [2015] EWHC 916 (Ch) the High Court was not willing to imply a term of good faith into a power to modify loan notes. The court also held that changes to the date of repayment of the notes and their subordination to further loans were within the terms of the power to amend the notes.

In summary, the claimants had sold their shares in a target company (Target) to Kestrel. Part of the consideration for their shares was the issue of fixed rate loan notes in Kestrel (the VLNs). As part of the same transaction, loan notes had also been issued by Kestrel to its investors, to fund the cash consideration payable by Kestrel to the claimants (the DLNs). 

Since the VLNs had been issued, a number of amendments had been made to them which had postponed their repayment date from 2010 to 2018. They had also been subordinated by the issue by Kestrel of further loan notes. 

Implied duty of good faith

The claimants argued (amongst other things) that the power to amend the terms of the VLN instrument (VLNI) was subject to an implied term that the modification had to be in good faith and for the benefit of the holders of the VLNs and the DLNs as a whole, viewing them for this purpose as a single class.

It was accepted that there was no general duty of good faith in commercial contracts but that such a duty could be implied dependent on the context. Looking at the context in this case, there were a number of factors which the judge took into account, such as the fact that the overall documentation entered into at the time of the sale and purchase of Target was extensive and detailed. The judge was not willing to imply a duty of good faith for several reasons including that:

  • the VLNs and DLNs were not in fact a single class and therefore there was no requirement for the majority (the DLN noteholders) to act bona fide in the interests of all the noteholders. The VLNs and DLNs were created by different instruments; the DLN instrument made no reference to the VLNI; the noteholders were not parties to the other instrument; and nothing in the VLNI entitled the views of the holders of the VLNs to be invited or heard or stated that their interests should be considered in any way. A clause in the VLNI requiring Kestrel to treat the DLNs in the same manner as if they constituted a single class for certain purposes, implied that the notes were not a single class for all purposes; 
  • the DLNs were freely transferable, subject to compliance with the terms of the intercreditor agreement. The intercreditor agreement did not indicate that any transferee of the DLNs was constrained by a duty towards the holders of the VLN or would be part of a wider class; and  
  • Kestrel had a contractual obligation in the VLNI to ensure the VLNs were treated no differently (in relation to certain matters) to the DLNs. If the DLNs were amended it was obliged to amend the VLNs.

Scope of modification

The VLNI enabled Kestrel to “make any modification” to the VLNI if sanctioned by a resolution of the VLN holders, or unilaterally if the modification was consistent with amendments to the DLN. The claimants argued that the changes to the VLNI went beyond the scope of modification permitted. 

The judge, considering case law on how the courts have approached the issue of “modification” to the terms of corporate loan stock deeds, in particular amendments postponing redemption, concluded that the cases, whilst not determinative, helped “point the way”. He noted that “In each case amendments providing for a subordination of the indebtedness to other indebtedness (secured or unsecured) or a postponement of its redemption have been held to be a permissible modification of rights”. The judge held that each amendment to the date of repayment of the VLNs and subordination of the VLNs to another class of creditor was within Kestrel’s power to “make any modification”. 

Impact – the court’s decision in this case not to imply a duty of good faith when amending a loan note, as well as not limiting the scope of permitted modifications, will be welcomed by those whose “extensive and detailed” drafting was intended to record all the parties’ intentions. It is clear from recent case law (e.g. Compass Group UK and Ireland Ltd (t/a Medirest) v Mid Essex Hospital Services NHS Trust [2013] All ER (D) 200 (Mar)) that courts are willing to uphold an express provision of good faith in a binding agreement. What is also increasingly apparent is that courts are open to implying a duty of good faith, or its equivalent, in certain circumstances (e.g. Yam Seng Pte Ltd v International Trade Corporation Ltd [2013] EWHC 111; Bristol Groundschool Ltd v Intelligent Data Capture Ltd & Ors [2014] EWHC 2145 (Ch) and D&G Cars Ltd v Essex Police Authority [2015] EWHC 226).