The recent High Court decision in Encus International Pte Ltd (in compulsory liquidation) v Tenacious Investment Pte Ltd & Ors  SGHC 50 (Encus International)bears significance to lenders for two pivotal reasons. First, it reiterates the orthodox position that an appropriately-crafted entire agreement clause could cause a previously-negotiated agreement, including a prior term sheet, to be superseded. Secondly, it casts a long shadow of doubt on the status of grant of security in Singapore’s insolvency regime. While the traditional English position holds that the grant of security is beyond the reach of avoidance under the Bankruptcy Act, the court in Encus International has significantly opined that this may no longer be the case in Singapore.
Several investors (the Investors) agreed to invest S$8.8 million in Encus International Pte Ltd (the Company). The broad terms of the agreement, which comprised terms relating to the investment and the giving of security, were set out in an investment term sheet (the Term Sheet). The parties later entered into a convertible loan agreement (CLA), containing an entire agreement clause, under which the Investors agreed to provide the Company with a loan of S$8.8 million, which would be convertible to shares in the Company after a whitewash procedure.
After the conversion of loan into shares under the CLA, the parties entered into a conditional share transfer agreement (CSTA), under which the Company’s shares in a subsidiary (the DKE Shares) would be transferred to the investors in the event of its insolvency or unprofitability. When the Company did become insolvent, the Investors enforced the CSTA and the DKE Shares were transferred to them. Subsequently, when the Company entered compulsory liquidation, the liquidator applied to set aside the CSTA and the transfer of the DKE Shares.
The court declared that the CSTA was null and void because it was an undervalue transaction within the meaning of Section 98 of the Bankruptcy Act read with Section 329(1) of the Companies Act.
Can the investment contemplated under the Term Sheet constitute consideration for the CSTA?
The crux of the matter was whether the CSTA was an undervalue transaction, which turned on whether the Investors’ investment under the Term Sheet could constitute consideration for the transfer of the DKE shares to them.
On the facts, the parties had, subsequent to the Term Sheet, entered a CLA. The CLA contained an entire agreement clause which purported to “supersede any previous agreements or arrangements between [the parties] relating to the subject matter of [the CLA]”.
Examining the Term Sheet against the CLA, it was found that the quantum of the loan/investment and the number and price of the shares involved in both documents were identical. Further, the CLA did not give the Investors the right to refuse the conversion of the loan into shares once the whitewash procedure was completed and the notice of conversion served. The court thus held that the CLA, though a loan in form, was essentially an investment and the CLA’s subject matter was the same as that of the Term Sheet. Consequently, the entire agreement clause in the CLA served to supersede the Term Sheet. Since the Term Sheet was deprived of legal effect, the investment contemplated under it could not stand as consideration for the CSTA. Accordingly, the CSTA was a transaction for no consideration and as the Company was insolvent at the relevant time, the Court held that it was an undervalue transaction liable to be unwound.
Can a grant of security be unwound as a transaction at an undervalue?
The issue of whether a grant of security could be impugned as an undervalue transaction under the Bankruptcy Act did not directly arise on the facts because the CSTA did not create any form of security. The court’s reasoning was that the CSTA did not create a debt, nor was the Company under any obligation to avoid insolvency or be profitable; rather, insolvency and unprofitability were simply events that triggered the transfer of the DKE Shares. As there was neither any debt nor other obligation for the CSTA to secure, the CSTA merely constituted a contract for the conditional transfer of property, as its name suggested, and did not create any security.
The court nevertheless discussed the status of securities in Singapore’s insolvency regime.
The traditional position in Re MC Bacon Ltd  BCC 78 (MC Bacon)is that “[t]he mere creation of a security over a company’s assets does not deplete them … or diminish their value” and thus “securitising an existing debt or other obligation can never be a transaction at an undervalue”.
However, in Hill v Spread Trustee Co Ltd  1 WLR 2404 (Hill), the English Court of Appeal implicitly overruled MC Bacon, holding that a transaction involving the grant of security can in fact amount to a transaction for no consideration.
Subsequently, however, a differently-constituted English Court of Appeal chose to apply MC Baconwithout citing Hill in Feakins v Department for Environment Food and Rural Affairs  BCC 54.
While acknowledging that the issue did not arise on the facts and that the law in Singapore is undecided, Prakash J unequivocally expressed obiter dicta her preference for the approach in Hill.
In summation, the case of Encus Internationalreiterates the traditional position that an appropriately-worded entire agreement clause in a subsequent agreement supersedes previously-negotiated agreements like a term sheet, insofar as the agreements relate to the same subject matter.
Further, Prakash J’s dictum has wider implications – it suggests that the grant of security might no longer be immune to avoidance under the Bankruptcy Act. Hence, this case serves as a cautionary tale that unless there is sufficient consideration furnished by the lender, a secured lender might land himself in the unfortunate situation of being left unsecured should its security provider become insolvent and the grant of security be found to be an undervalue transaction. Great care should thus be exercised in structuring transactions to ensure that lenders do not get caught by insolvency laws against avoidance.
Dentons Rodyk acknowledges and thanks Tan Sih Im for her contribution in the writing of this article.