A recent High Court case has provided welcome clarity for LPA and fixed charge receivers as to the scope of their duty of good faith and potential conflicts of interest. Walker Morris’ Housing Management & Litigation Partner Karl Anders and Banking, Restructuring and Insolvency Director Owen Ormond explain.
Why is this case of interest?
In the recent High Court case of Devon Commercial Property Ltd v Barnett the claimant borrower company had defaulted on its mortgage and receivers were appointed over the secured property (a cider factory in Devon) by an assignee of the original lender. Having received relatively limited interest after marketing the property for some months, the receivers then sold the property to their appointor. The claimant alleged:
- that the receivers had placed themselves in a position where there was a conflict of interest and had not acted in the interests of the claimant borrower
- that the burden of proof should be reversed so as to require the receivers to show that they had acted in good faith (rather than the claimant borrower having to establish bad faith on the receivers’ part
- that the receivers had failed to treat their appointor as a ‘special purchaser’ (in accordance with the RICS Red Book definition) and had failed to market the property properly, resulting in the property being sold at an undervalue.
The case therefore considered important issues of substantive law. The case is also of practical interest because of the approach taken by the Judge in relation to the use of e-mail correspondence and expert evidence.
What are the key findings?
Receivers should note the following key points:
- Where a receiver appointed by a lender sells land to the lender (or a company in which the lender has an interest), there is no self-dealing, and therefore no conflict of interest, because the receiver themself does not benefit directly.
- A receiver owes a duty of good faith to a borrower; he or she also owes a duty to take reasonable care to obtain a proper price at the time of sale; and a receiver has no right to remain passive, if to do so would damage the interests of the borrower or the lender.
- However, to breach the duty of good faith, there must be some intentional conduct amounting to more than mere negligence and either an improper motive or an element of bad faith; the receiver is not obliged to manage the property for the benefit of the borrower (but should manage the security for the lender’s benefit).
- Where bad faith is alleged, the burden of proof remains on the claimant borrower, even (as here) where the sale was to the receiver’s appointor.
- Whilst the purchaser in this case was a ‘special purchaser’, there was nothing to suggest that the receivers had failed to treat the purchaser as such and neither was there anything to suggest that they had failed to take reasonable care to obtain a proper price. (The judgment contains a thorough and helpful review of what it means to be a special purchaser and what constitutes proper marketing in that context).
The following additional points concerning proceedings more generally are also worth noting:
- The judge concluded that much of the claimant borrower’s case had “been (over-optimistically) bolstered by the judicious hewing of extracts from emails and other correspondence, to create an impression of some kind”. The judge did not fall for that, and the case therefore serves as a salutary reminder for parties to be wary of founding a case on cherry-picked items or extracts.
- Finally, although the parties had permission to adduce expert evidence, the judge highlighted that Civil Procedure Rule 35.1 provides that expert evidence shall be restricted to what is reasonably required to resolve the proceedings. The judge concluded, that: “in the ordinary run of cases at least, the court really does not need expert evidence to be able to tell when somebody manages or sells land or interests in land badly”. Whether other Judges would be willing to take a similarly robust approach when considering whether an application to adduce expert evidence should be permitted in similar circumstances is open to question.
The decision in Devon v Barnett provides useful guidance. A receiver is able to dispose of a property to the appointing lender without concerns of self-dealing or conflict of interest, providing they fulfil their duties in the ordinary way. The case contains useful commentary in respect of the factors to be taken into account by receivers when considering whether to sell to a ‘special purchaser’, but it also serves to emphasise that receivers should always be mindful of their general duties when considering sale strategy and options. Adequate exposure of the subject property to the market and being able to demonstrate that, in the event of challenge, is clearly of fundamental importance.