Hadef in the Courts: The concept of novation of a debt

Salih Ahnaish, Head of the Dispute Resolution Department in Abu Dhabi, was recently successful in acting for a bank (the Lender) in a ground breaking and complex case worth approximately AED 420 million and concerning, amongst other issues, the concept of novation of a debt, which is relatively untested before the UAE courts.

In brief summary of the case, in 2008 the Lender had entered into a facility agreement with a number of shareholders (the Shareholders) of an aerospace company (the Company) for the purchase of shares in the open market. The debt under the facility agreement was subsequently restructured in 2009 and again in 2011 pursuant to which new facility agreements were entered into between the Lender and the Company. Moreover, the Shareholders acted as guarantors of the debt under the 2009 facility agreement.

The Company failed to pay the debt under the 2011 facility agreement and the Lender therefore commenced proceedings against it and its Shareholders in their capacity as guarantors of the debt.

The proceedings were highly contentious and involved detailed legal arguments on whether restructuring of a debt may be deemed a novation of the debt and whether a guarantee of a debt automatically falls away on novation of the debt. The Shareholders also alleged that any claim against them under the guarantee is time-barred under Article 1092 of the Civil Code.

The Dispute Resolution team successfully argued on our client’s behalf that although it is a general rule of law provide that a guarantee of a debt automatically falls away on novation of the debt, this general rule is not a public policy issue and may therefore be contracted out of, which was the case in this matter rendering the Shareholders to remain liable for the debt in their capacity as guarantors. Moreover, that the facility agreements and guarantee are commercial agreements and the provisions of the Civil Code therefore do not apply to them and, in turn, the Shareholders’ argument on the applicability of Article 1092 of the Civil Code is misplaced.

This was a significant result achieved for our client and notoriously difficult to achieve in light of the fact that the concept of novation of a debt is relatively untested before the UAE courts.