England and Wales Court of Appeal (Civil Division) Decisions

N . T. Gallagher & Son Ltd. & Anor, Re v Tomlinson & Anor [2002] EWCA Civ 404 (26th March, 2002)

IN THE SUPREME COURT OF JUDICATURE
COURT OF APPEAL (CIVIL DIVISION)
ON APPEAL FROM THE HIGH COURT
COMPANIES COURT
His Honour Judge Howarth

		Royal Courts of Justice Strand, London, WC2A 2LL
		26 March 2002

Lord Justice Peter Gibson (giving the judgment of the court):

1. This appeal gives rise to the question whether trusts which are created by a voluntary arrangement in respect of a company (“CVA”) are brought to an end by the termination of the CVA through the company going into liquidation. There have been a number of decisions of the High Court on this and the like question in respect of an individual voluntary arrangement (“IVA”) brought to an end by a bankruptcy order being made. Not all the decisions are consistent with each other. This is the first occasion on which this question has come before this court for determination.

The statutory provisions

2. The Insolvency Act 1986 (“the Act”) introduced new provisions designed to make it simpler for companies and individuals in financial difficulties to enter into arrangements with their creditors which would be binding on dissentient creditors if a sufficient majority approved the proposed arrangement. By the Insolvency Act 2000 amendments have been made to those provisions but they have yet to come into force.
3. The applicable provisions for CVAs are contained in Part I of the Act. By s. 1 a CVA may be proposed to the company and its creditors by the directors of the company, not being one for which an administration order is in force or which is being wound up. The Act also contemplates that a CVA may be proposed by the administrator of a company for which an administration order is in force or by the liquidator of a company which is being wound up. In each case the proposal must be one for a composition in satisfaction of the company’s debts or a scheme of arrangement of its affairs, and it must provide for some qualified insolvency practitioner, called “the nominee”, to act in relation to the CVA, either as trustee or for the purpose of supervising its implementation.
4. Ss. 2, 3 and 4 set out the procedures to be followed when the directors make a proposal: the nominee submits to the court a report stating whether meetings of the company should be summoned to consider the proposal, and, unless the court otherwise directs, the nominee summons those meetings; the meetings decide whether to approve the CVA with or without modifications. By s. 5 (2) the approved CVA binds every person who, in accordance with the Insolvency Rules 1986 (“the Rules”), had notice of, and was entitled to vote at, the meeting whether or not he was present or represented at the meeting, as if he were a party to the CVA. Thus the CVA, if approved, operates as a form of statutory contract to which even dissentients and non-voters receiving notice of and entitled to vote at the meeting are treated as parties. S. 6 provides for challenges to the CVA to be made through applications to the court. Where a CVA has taken effect, the person who carries out the functions conferred as the nominee is known as the supervisor (s. 7 (2)). Any creditor or other person dissatisfied with any act or omission of the supervisor may apply to the court which may give the supervisor directions (s. 7 (3)). The supervisor may himself apply to the court for directions and is included among the persons who may apply for a winding up or administration order (s.7 (4)).
5. Part I of the Rules applies to CVAs. By r. 1.3 (1) the directors are required to include in their proposal a short explanation why in their opinion a CVA is desirable and give reasons why the company’s creditors may be expected to concur with the CVA. R. 1.3 (2) prescribes what must be contained in the directors’ proposal. It must include a statement of the company’s assets and the extent to which particular assets are to be excluded from the CVA (para. (a)), a statement of the company’s liabilities and the manner in which they are to be dealt with by the CVA (para. (c)), the proposed duration of the CVA (para. (e)), the manner in which funds held for the purposes of the CVA are to be banked, invested or otherwise dealt with pending distribution to creditors (para. (k)), and the manner in which funds held for the purpose of payment to creditors, and not so paid on the termination of the arrangement, are to be dealt with (para. (l)). R. 1.19 (1) provides that for any resolution to pass at the creditors’ meeting approving any proposal or modification there must be a majority in excess of three-quarters in value of the creditors present in person or by proxy and voting on the resolution.
6. By r.4. 21A (introduced by way of amendment in 1987):

“Where a winding-up order is made and there is at the time of the presentation of the petition in force for the company a voluntary arrangement under Part I of the Act, any expenses properly incurred as expenses of the administration of the arrangement in question shall be a first charge on the company’s assets.”

It is to be noted that r. 4. 21A only applies to compulsory liquidations. There is no corresponding provision for a voluntary liquidation.

7. The provisions for IVAs are contained in Part VIII of the Act. They differ from the provisions for CVAs in some respects, but there is much similarity, mutatis mutandis, between the IVA provisions and the CVA provisions in the respects to which we have drawn attention. By s. 264 (1)(c) the supervisor or any other person bound by the IVA is empowered to present a petition for bankruptcy. S. 276 (2) provides:

“Where a bankruptcy order is made on a petition under s. 264 (1)(c), any expenses properly incurred as expenses of the voluntary arrangement in question shall be a first charge on the bankrupt’s estate.”

As with r.4. 21A the limits on the applicability of this provision are to be noted. It does not apply where bankruptcy is the consequence of a petition under any paragraph of s. 264 (1) other than (c).

8. Part 5 of the Rules applies to IVAs. R. 5.3 provides what should be contained in the debtor’s proposal for an IVA in terms similar to the provisions in r. 1. 3 for CVAs. R. 5.18 (1) is in terms similar to r. 1. 19 (1).
9. Unless inferences drawn from r. 4. 21A in relation to CVAs and from s. 276 (2) in relation to IVAs provide the answer to the question stated in para 1 above, it is not in dispute that the statutory provisions do not state the effect of a liquidation or a bankruptcy order on trusts created by a CVA or IVA respectively.

The facts

10. The Appellants, Malcolm Shierson and Michael Horrocks, are the liquidators of NT Gallagher & Son Ltd. (“Gallagher”). Gallagher was incorporated on 26 October 1990. It was engaged in civil engineering works and cabling contracts. Its principal customer was Mercury Communications Ltd. (“Mercury”) with whom Gallagher had a cabling contract. In March 1995 Mercury alleged that Gallagher had repudiated that contract. Gallagher promptly commenced proceedings against Mercury, claiming £2,340,000 for sums due under the contract and damages for breach of contract. Mercury ceased to make payments to Gallagher which in consequence came under increasing financial pressure. The directors of Gallagher put forward a proposal for a CVA.
11. In the introduction to the proposal the directors said:

“We feel that a Voluntary Arrangement would be of benefit to the creditors of the Company because they would have a much better prospect of being paid their debts under a Voluntary Arrangement rather than if the Company went into Liquidation, Administration or Administrative Receivership. The reasons for this are as follows:-

i) We believe the appointment of an Administrative Receiver, Liquidator or Administrator would have a detrimental effect on the collectability of the Company’s book debts.

ii) A Voluntary Arrangement would permit the Company to continue to trade and prosecute its claim against [Mercury].

iii) A Voluntary Arrangement would enable the Company to continue as a going concern and to provide suppliers with the opportunity to conduct further business with the Company in the future and to preserve the employment of some 340 people in the business.”

12. In paras. 4.11 and 4.12 of the proposal the directors said that the amount the creditors would receive would depend on the success of the litigation against Mercury, and the directors believed that there was a greater likelihood of success if the Company continued to trade; it was therefore proposed that the Company continued to trade, agreeing credit terms with suppliers where possible and continuing to pay its employees and direct labour sub-contractors in the usual way and on the due dates. In para. 4.13 it was stated that the cash flow forecast indicated that the Company would be able to fund its short term trading from its own resources.
13. The details of the proposal included the following:

“11(a) It is proposed that all the assets of the Company are to be included in the Voluntary Arrangement, and, with the exception of stock are to be retained by the Company for the purpose of the fulfilment of the Arrangement.

11(b) The Company’s bank overdraft is being reduced as are credit lines from suppliers. In order for the Company to be able to continue to trade and to offer the best chance of recovery of the Mercury debt for the benefit of unsecured creditors it is proposed that the Company retain the book debts to provide working capital.

12 In consideration of clause 11(b), the Company shall make payments to the Supervisor of £15,000 per month for the first year and £35,000 per month the second year, for the benefit of creditors. If the Supervisor in his absolute discretion shall be of the opinion that the Company can afford to make a greater contribution in any one month having regard to its financial position, it will pay such additional sum as may be required by the Supervisor.

13 The Company will continue to trade and that ongoing trade will be carried on by the Directors with the Company’s financial performance being monitored by the Supervisor on whatever basis he considers most appropriate but to include the submission to him no less frequently than quarterly [of] management accounts and revised forecasts.

14 It is proposed that litigation will continue to be pursued, if necessary, against Mercury to obtain payment of the monies due, for the benefit of creditors.

Monies recovered from this source will be remitted direct to the Supervisor. All funds accumulated by the Supervisor shall be applied by him in the following order of priority:-

a) settlement of the cost of the arrangement;

b) distribution to the creditors of the arrangement in the statutory order of priority;

c) payment of interest on creditors’ claims at the rate of 8% per annum;

d) any surplus will be returned to the Company.

15 The Company will continue to incur credit in the ordinary course of its trading as illustrated in the cash flow projections. However it is proposed that all credit incurred and liabilities accrued shall be paid in full out of trading receipts.”

14. By para. 19 it was proposed that the duration of the CVA be two years. But by modification 1, being one of 11 modifications suggested by the Commissioners of Customs and Excise as creditors and approved by the creditors’ meeting, the duration was altered so that in effect the CVA would end on the settlement of the claim against Mercury.
15. By para. 22 preferential creditors were to be paid in full as soon as the Supervisor was in a position to pay; all the remaining unsecured liabilities were to be dealt with by dividend payments to be made at the Supervisor’s discretion.
16. Para. 29 provided that funds held for the purpose of the CVA should be banked by the Supervisor in an account of his choice and that any funds held by him “pending distribution to creditors may be placed on deposit or invested in recognised securities for the benefit of the creditors.”
17. Paras. 30-32 dealt with the payment to the nominee and the Supervisor of fees and remuneration and the discharge of disbursements. By para. 34 the Supervisor was to have powers similar to those of a liquidator, including the power to bring or defend any legal proceedings in Gallagher’s name and on its behalf. Para. 35 provided for the appointment of a Creditors’ Committee to assist the Supervisor.
18. Para. 37 required the submission of all outstanding VAT returns and the settlement of PAYE/NIC liabilities within 30 days of the approval of the CVA, and it provided that any failure thereafter to submit returns and make payments of VAT as and when due should be a breach of the CVA, and that the Supervisor should, at his discretion, petition for the winding up of Gallagher. Further, by para. 39:

“In the event that any of the terms of the Proposal are not complied with, the Supervisor shall petition for the winding up of the company unless the Committee or if none, a meeting of creditors, shall approve his alternative proposals. The Supervisor shall at all times during the Voluntary Arrangement maintain sufficient funds to obtain a winding up order against the company.”

However, modification 9 provided:

“The Joint Supervisors shall petition for the winding up of the company immediately it fails in any of its obligations under the arrangement, the Supervisors to retain sufficient funds at all times to do so.”

19. There are three other modifications to which we should refer. Modification 5 conferred on the Joint Supervisors, in conjunction with the Committee, the sole power to approve any settlement of the Mercury litigation. Modification 6 provided that if the contributions to be made by Gallagher to the Joint Supervisors fell 60 days in arrears or below the specified level, the arrangement would be deemed to have failed. Modification 10 provided that the Joint Supervisors were to be the Respondents, Alan Tomlinson and Michael Horrocks. They are licensed insolvency practitioners.
20. The directors’ proposal, as modified by the modifications, was duly approved at the creditors’ meeting on 21 April 1995. Gallagher continued to trade, but the claim against Mercury, although referred to arbitration, remains unresolved. Gallagher made the required contributions for a number of months, but by March 1997 it fell into arrears by more than 60 days so that the CVA under modification 6 was deemed to have failed. However, the Supervisors, with the consent of the Creditors’ Committee, allowed the CVA to continue on condition that the Company complied with a revised contribution arrangement. The view was taken that the Supervisors had a discretion whether to petition for the winding up of Gallagher despite the failure to comply with the obligation to make the contributions specified in para. 12. The dubious correctness of that view is not an issue in these proceedings. By September 1997 Gallagher’s financial position had grown worse. In September or October 1997 increasing pressure was placed on Gallagher by the Crown in respect of the post-CVA tax liabilities of the Company. The directors informed the Supervisors that Gallagher could only meet its ongoing commitments if they returned to Gallagher contributions already paid to them pursuant to the CVA.
21. The Supervisors refused to return any contributions. They, with the directors, considered that the only options available were either that the Supervisors should petition for the winding up of Gallagher or that the directors should put Gallagher into voluntary liquidation. The directors chose the latter because this would result in the speedier appointment of a liquidator and because it would be less expensive.
22. Gallagher went into creditors’ voluntary liquidation on 20 November 1997. At the date of the commencement of the liquidation:

(1) the sum retained by the Supervisors from contributions made by Gallagher pursuant to the CVA was in excess of £500,000: by 20 November 2000 that sum plus interest amounted to £571,141.87;

(2) Gallagher’s post-CVA liabilities were estimated at £2,525,649;

(3) Gallagher’s total liabilities were estimated at £5,066,890;

(4) The assets of Gallagher (leaving out of account the funds retained by the Supervisors) were –

(i) the claim against Mercury,

(ii) a claim against another company, Nynex, estimated to realise approximately £350,000, and

(iii) approximately £98,000 of other realisable assets.

The proceedings

23. The liquidators issued an originating application, to which the Supervisors were made respondents and by which the liquidators sought a direction whether each or any of –

(1) the sum of £571,141.87 retained by the Supervisors,

(2) the benefit of the cause of action against Mercury and of any sums recovered pursuant thereto, and

(3) the remaining assets of Gallagher

is

(a) held on trust for the sole benefit of the creditors bound by the CVA, or

(b) available for the purposes of the liquidation including (insofar as there are sufficient assets) distribution among all the creditors of Gallagher (including creditors bound by the CVA and post-CVA creditors) in accordance with the statutory scheme applicable to the winding up of Gallagher.

24. The proceedings came before His Honour Judge Howarth, sitting as a judge of the High Court, whose judgment is now reported ([2001] BPIR 1088). The Judge considered first what assets were held in trust for the CVA creditors under the CVA before the commencement of the winding up. He decided that Gallagher held the claim against Mercury as a trustee for the CVA creditors and that the Supervisors held the funds which they retained in trust for the CVA creditors, but that no other assets of Gallagher were so held. He considered secondly whether the trusts had come to an end on Gallagher’s liquidation. He decided that question by reference to the authorities on CVAs and IVAs and preferred what he called the majority view that the liquidation did not bring the trusts to an end. The Judge considered thirdly the position of CVA creditors proving in the winding up. He analysed the rights of such creditors as analogous to the rights of a secured creditor who is entitled to prove if he abandons his security. He held that the CVA creditors would not be entitled to prove in the winding up unless they gave up their security in respect of the cause of action against Mercury. He therefore declared (at p. 1110) that the sum held by the Supervisors and the benefit of the cause of action against Mercury and the benefit of any sums which may be recovered therefrom were held on trust for the sole benefit of the CVA creditors but that the remaining assets of Gallagher were available for the purpose of the liquidation for distribution among the creditors of Gallagher, and, in accordance with whether or not the CVA creditors chose to surrender their rights in respect of the Mercury claim, they would or would not be able to prove in the liquidation for the balance of any claim.
25. The appeal by the liquidators to this court is brought with the leave of the Judge . We have been greatly assisted by the skilful arguments of Mr. Zacaroli for the liquidators and of Mr. Pascoe for the Supervisors on the questions considered by the Judge.

What assets were held on trust?

26. Mr. Zacaroli points out that there is nothing in the CVA which expressly creates a trust over any assets of Gallagher, but he accepts that the funds received by the Supervisors pursuant to the CVA and held by them immediately before the liquidation were held on trust. However he submits that the relevant trust was to implement the terms of the CVA. In making that submission, he draws attention to the priority given by para. 14 to the settlement of the cost of the CVA and to para. 15 with its proposal for the payment in full of all credit incurred by Gallagher in the ordinary course of its continued trading and of all accrued liabilities. He argues that such payment comes within “the cost of the arrangement” to be paid in priority out of the monies accumulated by the Supervisors. Mr. Zacaroli also points to the provisions of s. 7 of the Act by which the court is empowered to give directions to the Supervisors and he says that it would have been open to the court to order the Supervisors to return the contributions so that Gallagher could pay in full the liabilities accruing from its continued trading. Mr. Zacaroli further submits that no assets other than the funds in the Supervisors’ hands were held in trust at the commencement of the liquidation, the proceeds of the litigation against Mercury only becoming subject to a trust if and when they were received.
27. Mr. Pascoe submits that the Judge was right to hold that not only the monies in the Supervisors’ hands but also the benefit of the cause of action against Mercury were held at the commencement of the litigation upon trust for the benefit of the CVA creditors. Mr. Pascoe does not seek to contend in this court, although he had argued below, that other assets of the Company were held in trust.
28. S. 1 (2) of the Act contemplates that the nominee, who on the approval of the directors’ proposal becomes the supervisor, may under the proposal act as trustee. What assets of the company are to be held on trust by the supervisor or the company must depend on the terms of the CVA. Para. 12 requires the payment by Gallagher of monthly sums to the Supervisors “for the benefit of creditors”. Para. 14 requires the Supervisors to apply all funds accumulated by them, after settlement of the cost of the CVA, in distributing the monies to the CVA creditors. The phrase “the cost of the arrangement” in para. 14 naturally covers items such as the fees and remuneration payable to the nominee and the Supervisors and expenditure by and on behalf of the Supervisors. It is not apt to cover what was proposed in the CVA to be paid by Gallagher out of trading receipts received by Gallagher from its continued trading. Para. 29 also supports the proposition that what the Supervisors held, whether in a bank account or invested, was held for the benefit of the CVA creditors. There is no doubt that the court, on an application to it under s. 7 (3) or (4), can give the Supervisors directions. But it does not follow that the court could give a direction inconsistent with the terms on which the Supervisors are required by para. 14 to apply monies in their hands. The court has no power to modify the CVA. Para. 14 only contemplates a return to Gallagher of any surplus after payment of the cost of the CVA and after paying off the CVA creditors with interest. In our judgment, therefore, neither the terms of the CVA nor s. 7 (3) and (4) support the liquidators’ submission that the funds in the hands of the Supervisors were held for the purpose of implementing the CVA as a whole. On the contrary. The CVA operated as an accord and satisfaction between Gallagher and the CVA creditors who gave up their rights to enforce their debts against Gallagher, including their right to seek the compulsory liquidation of Gallagher so that its assets were distributed to the CVA creditors in accordance with the statutory regime for liquidations. In return Gallagher was to pay the monthly contributions to the Supervisors to be applied in accordance with para. 14; in addition any monies recovered from the litigation against Mercury were to be treated in the same way as Gallagher’s contributions. Gallagher was thereby enabled to continue to trade lawfully.
29. Although the CVA does not expressly use the language of trusts, Mr. Zacaroli was in our view plainly right to concede that the Supervisors were trustees of the assets in their hands. In Re Leisure Study Group Ltd. [1994] 2 BCLC 65 Harman J. similarly held that a supervisor receiving contributions for distribution to the creditors of the company pursuant to a CVA was a trustee of those monies for the CVA creditors.
30. The fact that the Supervisors have as yet received no monies from the Mercury claim does not answer the question whether the benefit of the cause of action against Mercury was held by Gallagher as trustee. In our judgment that question must be answered in the affirmative in the light of the terms of the CVA. In para. 11 (b) reference is made to the “recovery of the Mercury debt for the benefit of unsecured creditors” and para. 14 provides for the entire proceeds of the litigation to be applied, subject to the settlement of the cost of the CVA, in distribution to the CVA creditors to the extent of their debts. Further by para. 34.4 the Supervisors could bring proceedings in the name and on behalf of Gallagher, and so could take over the conduct of the Mercury litigation. By modification 5 any settlement of that litigation required the approval of the Supervisors in conjunction with the Creditors’ Committee. In our opinion the Judge was right to say (at p. 1096) that it seemed clear that Gallagher held the claim against Mercury as trustee for the benefit of the CVA creditors.

Did the trust survive the liquidation?

31. Before we turn to the rival arguments, it is convenient to refer to the authorities which deal with this and the like question arising in respect of IVAs.
32. In Re McKeen [1995] BCC 412 a post-IVA creditor obtained a bankruptcy order. The debtor applied to the court for the annulment of the order under s. 282 (1)(b) of the Act. This allows the court to annul the order if it appears that “the bankruptcy debts” and expenses have been paid or secured to the satisfaction of the court. It was not argued that the IVA created a trust in favour of the IVA creditors. The Leisure Study case had not yet been decided. But Morritt J. held that the IVA was not terminated by the making of the bankruptcy order and that the debts of the IVA creditors were not “bankruptcy debts” to which the debtor was subject. Accordingly the annulment was allowed.
33. In Re Bradley-Hole [1995] 1 WLR 1097 a post-IVA creditor obtained a bankruptcy order against the debtor. The supervisor applied to the court for directions as to whether the bankruptcy order brought the IVA to an end. Rimer J. held, applying Leisure Study, that the IVA created a trust of the bankrupt’s assets for the benefit of the IVA creditors, that the bankruptcy order did not terminate the IVA, that the bankrupt retained no interest in the assets subject to the IVA, that those assets did not vest in the trustee and that the trust continued notwithstanding the bankruptcy. An argument based on s. 276 (2) that the trust ended on the making of the bankruptcy order was not accepted.
34. In Davis v Martin-Sklan [1995] 2 BCLC 483 Blackburne J. considered whether trusts created by an IVA terminated on the making of a bankruptcy order on a petition under s. 264 (1)(c) by the supervisor. He held that the supervisor was acting on behalf of the IVA creditors and that the trusts did terminate on the bankruptcy order. He found support in s. 276 (2) on the basis that Parliament appears to have assumed that the assets subject to an IVA become part of the debtor’s estate.
35. In Halson Packaging Ltd. [1997] BPIR 194 the facts were similar to those of the present case. A CVA was approved by creditors on terms that the company would continue to trade, making contributions to the supervisors which would be held in trust to be applied in accordance with the CVA. This provided that after the payment of costs and of preferential debts there would be a dividend for unsecured creditors. The CVA failed and the company went into a creditors’ voluntary liquidation. The question was whether the funds in the supervisors’ hand should be paid to the liquidator and distributed to the creditors. His Honour Judge Maddocks, sitting as a High Court Judge, held that a valid trust had been created by the CVA and that trust had not failed nor was it revoked by the terms of the CVA nor by the winding up of the company. He distinguished Davis v Martin-Sklan on its facts. He rejected an argument based on r. 4.21A (incorrectly referred to as r.4.2.1(a)) saying (at p. 199):

“I do not find any real assistance from that rule which was no doubt added by the amendment rules to protect a supervisor who had not been able to obtain sufficient funds for his expenses, a situation which could easily occur in a compulsory winding up, but which would be unlikely to arise, or certainly less likely to arise on a voluntary liquidation.”

36. In Re Arthur Rathbone Kitchens Ltd. [1997] 2 BCLC 280 a CVA, under which the company was to continue trading and was to pay monies for distribution to the CVA creditors, failed and the company went into a creditors’ voluntary liquidation. The supervisor petitioned for a compulsory winding up order. Mr. Roger Kaye Q.C., sitting as a Deputy High Court Judge, made the order. He held that the implication of r. 4.21A was that the assets held on trust under the CVA would no longer be held under the control of the supervisor but of the liquidator and that the CVA creditors were discharged from the CVA by the making of the order and would have to prove for their debts after giving credit for sums received under the CVA. But he expressed the view that had there been no compulsory winding up order, the trusts would have continued.
37. In Re Excalibur Airways Ltd. [1998] 1 BCLC 436 a supervisor held monies realised under the CVA on trust. A compulsory winding up order was then made on the petition of the directors. Jonathan Parker J. distinguished between a case where a supervisor on behalf of the CVA creditors obtains a winding up order, which was a case where the CVA creditors elect to abandon the CVA, and a case where the winding up order was obtained by directors or by a non-CVA creditor. In the latter case he held that the CVA does not come to an end whereas in the former it did, the CVA creditors having to prove in the liquidation.
38. In Kings v Cleghorn [1998] BPIR 463 His Honour Judge Behrens, sitting as a High Court Judge, held that an IVA terminated on the making of a bankruptcy order on the petition of a post-CVA creditor, and that monies held by the supervisor on trust for the CVA creditors should be handed to the trustee in bankruptcy.
39. In Re Maple Environmental Services Ltd. [2000] BCC 93, the CVA contained an express term that monies paid to the supervisor should, in the event of failure of the CVA, be paid to the liquidator. His Honour Judge Boggis Q.C., sitting as a High Court Judge, held that the CVA failed, that the supervisor should have petitioned for the winding up of the company but did not do so, and that the fact that the company went into a creditors’ voluntary liquidation did not affect the conclusion that the trust of the monies paid to the supervisor ended and that the money should be paid to the liquidator.
40. In Welsby v Brelec Installations Ltd. [2000] 2 BCLC 576 a CVA provided for the payment by the company of contributions to the supervisors for distribution to creditors. The company went into a creditors’ voluntary liquidation. Blackburne J. held that the sums held by the supervisors in trust for the CVA creditors remained subject to that trust notwithstanding the liquidation.
41. Finally in Re Kudos Glass Ltd. [2001] 1 BCLC 390 there was a CVA under which monies came to the hands of the supervisors as trustees. The CVA provided that if it should fail, the supervisors should distribute the monies, after deduction of fees and expenses, to the CVA creditors. Mr. Richard McCombe Q.C., sitting as a Deputy High Court Judge, held that the trust continued, notwithstanding the winding-up order obtained by a post-CVA creditor. But he distilled from the authorities that it is the identity of the petitioner for the compulsory winding up that is normally crucial to the question whether the trusts arising the scheme are held to have determined. However he rejected an argument based on r. 4.21A saying (at p. 401):

“It seems to me in principle to be unlikely that the rule makers intended administrative provisions such as these to affect the overall working of schemes such as the present.”

At p. 402-3 he accepted an argument that the rule, like s. 276 (2), was to provide the supervisor with a safety net for the event that he is unable otherwise to recover his expenses. He continued:

“It is not intended to set any premise upon which to judge whether a particular IVA or CVA, and any trust constituted under it, terminates upon the making of a bankruptcy or winding-up order.”

42. In a number of the cases unease has been expressed at the fine distinctions drawn in the authorities. Neither Counsel before us sought to derive much assistance from the authorities, both Counsel being agreed that the cases display a misplaced concentration on the form of liquidation (in CVA cases) and the identity of the petitioner in IVA as well as CVA cases.
43. We agree. Those distinctions and that concentration on the form of liquidation and the identity of the petitioner are at least in part based on the terms of r. 4. 21A and s. 276 (2). Mr. Zacaroli does not suggest that in themselves those provisions establish that trusts created by a CVA or IVA must come to an end on liquidation or bankruptcy. He only says that they are consistent with that result. For our part we agree with the comments of Judge Maddocks in Halson and of Mr. McCombe in Kudos on the effect of those provisions. It makes little sense for the form of the liquidation to affect the question of the effect of liquidation on trusts created by a CVA. A creditors’ voluntary liquidation is often preferred to a compulsory winding up on practical grounds related to expense and delay, as in this case. We would question whether the mere fact that a supervisor presents a petition entails that the CVA or IVA creditors have elected to terminate the CVA or IVA trust in their favour. Even if there is evidence that all the CVA or IVA creditors supported the presentation of a petition, it does not follow that they were thereby evincing an intention that the trust should come to an end and that the trust assets should revert to the company or debtor.
44. Mr. Zacaroli submits that the CVA, including the trust created by it, failed and terminated on the liquidation of Gallagher. He accepts that the terms of the CVA may dictate what is to happen on liquidation to a trust created by the CVA, but he submits that where the parties have failed to state clearly what is to happen, the court must apply a default rule. That rule, he says, should be that where the liquidation causes the CVA itself to fail or terminate, any trust created over assets of the company for the purpose of the CVA also terminates. He again submits that the trust assets are held for the purpose of implementing the CVA as a whole and he says that if the CVA cannot be implemented as a whole, the trust cannot be carried into effect and, by analogy with Barclays Bank v Quistclose Investments Ltd [1970] AC 567, the trust fails. Alternatively, he argues that the court should lean against construing the CVA as extending the life of the trust beyond the termination of the CVA caused by the liquidation. He points in particular to the fact that the CVA, by para. 39 and modification 9, provided that the Supervisors were to petition for the winding up of Gallagher on its failure to comply with its obligations. He contends that where one set of insolvency proceedings, the CVA, is succeeded pursuant to the terms of the CVA by a second set of insolvency proceedings, liquidation, the whole of the CVA, including the trusts created thereunder, should terminate, as it must follow that the CVA creditors were intended to prove in the liquidation.
45. Mr. Zacaroli also relies on certain policy considerations. He points out that to allow a trust of assets to continue after liquidation produces in relation to post-CVA creditors a result which is the complete opposite of that which would be produced in respect of post-liquidation, post-administration or post-administrative receivership creditors. In a liquidation liabilities incurred after liquidation would rank as expenses of the winding up. In an administration subsequent liabilities would have the benefit of the statutory charge in s. 19 (5) of the Act and would rank ahead of the administrator’s own remuneration. In an administrative receivership the receiver is personally liable on each contract entered into by him unless the contract contains a contrary provision, and, if it does, the other contracting party would be aware of the risk of extending credit to the company in receivership. In contrast, Mr. Zacaroli says, the post-CVA creditors may well not be alerted to the existence of the CVA or to the extent to which assets of the company are held for CVA creditors and so not available to post-CVA creditors, if the Judge is right. There is no provision for putting those dealing with a company on notice through registration of the CVA. Mr. Zacaroli submits that the Judge’s conclusion is unfair to post-CVA creditors.
46. Mr. Pascoe submits that it is essential to distinguish between the contractual and proprietary elements of a CVA, and that if the company is in breach of its obligations under the statutory contract constituted by the CVA, that provides no basis for concluding that the trust of the CVA must have failed or determined, particularly when it can be carried into effect in relation to the trust assets. He argues that Quistclose provides no analogy relevant to the present case and he argues that policy considerations point to the adoption of a default rule having the converse effect to that suggested by Mr. Zacaroli. He further submits that the applicable default rule should be that the CVA trust should continue following a liquidation unless the CVA creditors evince a clear intention to abandon it and that the form of liquidation and the identity of the petitioner should not be determinative of whether the trust of the CVA continues. In the present case, he submits, there has been no abandonment by the CVA creditors of the trust in their favour, and the Judge’s conclusion should be affirmed, albeit for different reasons.
47. It is common ground that the starting point is the terms of the CVA itself. Its terms can, indeed should, provide for what is to happen to assets on the termination of the CVA (r. 1.3 (2)(l)). It is also common ground that the CVA does not expressly nor by necessary implication provide what is to happen to the trusts assets on liquidation, though Mr. Zacaroli finds significance, as we have noted, in the provisions for the Supervisors to put Gallagher into liquidation, even though that is not what happened in the present case. It begs the question to assert that because liquidation was contemplated by the CVA, the CVA creditors were intended to prove in the liquidation instead of taking under the trust for their benefit. Mr. Zacaroli further stresses the importance of para. 15 of the CVA and its proposal that all liabilities incurred by Gallagher after the approval of the CVA should be paid in full out of trading receipts, which, he said, was entirely inconsistent with an intention that the trust should continue in the event of a subsequent insolvent liquidation. But that paragraph was directed to the circumstances attending Gallagher’s intended continuing trading and merely stated that Gallagher intended to pay post-CVA creditors out of its trading receipts in the ordinary course of business. It was not directed to the question of the continuation of the trusts if Gallagher went into liquidation.
48. The real difficulty in Mr. Zacaroli’s way, as it seems to us, is in showing why a fully constituted trust created by a CVA should terminate on the CVA failing or terminating in the absence of any provisions requiring the trust to terminate and specifying what is to happen to the trust assets. It is not suggested that any monies paid to creditors pursuant to the trust can or should be recovered. The fact that Gallagher was in breach of its obligations under the statutory contract constituted by the CVA and went into liquidation, thereby rendering it impossible to fulfil any further the purpose of the CVA, does not entail the consequence that the trust also failed when plainly it can still be carried into effect. Whilst the administration of the trust may not, by reason of Gallagher’s liquidation, produce the full benefit originally envisaged for the CVA creditors, that is no reason for denying those creditors such benefit as carrying the trust into effect might still provide. The Quistclose case has no relevance to the present circumstances even by way of analogy. In that case money was advanced by a third party lender to enable the company to continue to pay a declared dividend. But that purpose could not be fulfilled when the company went into liquidation and so, the House of Lords held, there was a resulting trust to the lender. In the present case the Supervisors can carry the CVA trust into effect. We agree with Mr. Pascoe that unless there is a provision in the CVA to the contrary, the CVA trust should continue. We doubt whether Mr. Pascoe’s second exception (viz. where the CVA creditors display a clear intention that the trust should determine) is a real exception. Of course all beneficiaries under a trust can combine to bring a trust to an end and dispose of the trust assets and no beneficiary can be compelled to take a benefit he does not want, but in the real commercial world such a situation is hardly likely to arise.
49. Nor are we persuaded that the policy considerations point in favour of the default rule suggested by Mr. Zacaroli. The differences between the consequences of a CVA, if the Judge is right, and the other forms of insolvency proceedings reflect the differing circumstances pertaining to each. The primary purpose of the CVA was to enable Gallagher to go on trading. In contrast, liquidation does not have that purpose. Administration is only intended to be temporary. By s. 8 (3)(a) of the Act a purpose for which an administration order may be made is the approval of a CVA. As for administrative receivership, the practice of administrative receivers is to exclude personal liability on contracts. Whilst we acknowledge the possibility that there will be post-CVA creditors who are unaware of the CVA and its terms, in practice there is likely to be a considerable overlap between CVA creditors and post-CVA creditors. Further, save for the Crown and local authorities in respect of fiscal liabilities (and they are likely to be CVA creditors), no one is forced to become a creditor of a company without making such inquiries as are thought appropriate to ascertain the financial position of the company. We do not therefore accept that to treat a trust created by a CVA as continuing notwithstanding the liquidation of the company is productive of such unfairness that the court should conclude that liquidation brings the trust to an end. Such a conclusion would run counter to the general law which leaves trusts of assets not held for a company unaffected by its liquidation.
50. Further, as a matter of policy, in the absence of any provision in the CVA as to what should happen to trust assets on liquidation of the company, the court should prefer a default rule which furthers rather than hinders what might be taken to be the statutory purpose of Part I of the Act. Parliament plainly intended to encourage companies and creditors to enter into CVAs so as to provide creditors with a means of recovering what they are owed without recourse to the more expensive means provided by winding up or administration, thereby giving many companies the opportunity to continue to trade. If Mr. Zacaroli’s default rule were to apply, so that trust assets under the CVA which happen not to have been distributed before the liquidation would become available to meet the claims of post-CVA creditors as well as CVA creditors, that would be a disincentive to creditors to agree to a CVA and to keep the CVA in operation.
51. We therefore conclude, in acceptance of Mr. Pascoe’s submissions, that the trust did survive the liquidation and that the Judge was right so to hold, though our reasoning differs somewhat from the Judge’s.

Are the CVA creditors entitled to prove in the liquidation?

52. Although this was not a question expressly raised in the Originating Application, and although the Judge did not hear argument from any class of creditor who might be affected by the outcome, the Judge was invited to deal with the question and para. 4 of the Order made by him was in this form:

“4. The CVA creditors are not entitled to prove in the liquidation of the Company, save that

(1) In the event that any claims of CVA creditors which would have been preferential debts of the Company had the Company gone into liquidation on 21 April 1995 are not paid in full out of the assets held by the Supervisors, those creditors are entitled to prove in the liquidation of the Company for the unpaid balance of their claims; and

(2) In the event that the CVA creditors agree to abandon their rights in relation to the cause of action against Mercury and any sums recovered pursuant thereto, they are entitled to prove in the liquidation for the unpaid balance of their claims.”

53. As we understand Mr. Zacaroli’s position, he does not challenge subpara. (1) of that order in the circumstance that the court dismisses the appeal on the first two questions; but both he and Mr. Pascoe criticise subpara. (2) and the Judge’s reasoning which led him so to order. The Judge analysed the CVA creditors’ rights as analogous to the rights of secured creditors who are only entitled to prove if they abandon their security. But we cannot see any sustainable basis for that analysis and in any event there would be considerable practical difficulties in determining whether the CVA creditors had given up their rights in respect of the cause of action against Mercury. In the present case the liquidation of Gallagher brought the CVA, though not the trust created thereunder, to an end and made the statutory contract incapable of further performance. In the circumstances it seems to us only just that the CVA creditors should be able to prove for the balance of their CVA debts after giving credit for dividends received from the Supervisors.

Conclusions

54. It may be helpful if we were to summarise our conclusions on the points raised on this appeal:

(1) Where a CVA or IVA provides for monies or other assets to be paid to or transferred or held for the benefit of CVA or IVA creditors, this will create a trust of those monies or assets for those creditors.

(2) The effect of the liquidation of the company or the bankruptcy of the debtor on a trust created by the CVA or IVA will depend on the provisions of the CVA or IVA relating thereto.

(3) If the CVA or IVA provides what is to happen on liquidation or bankruptcy (or a failure of the CVA or IVA), effect must be given thereto.

(4) If the CVA or IVA does not so provide, the trust will continue notwithstanding the liquidation, bankruptcy or failure and must take effect according to its terms.

(5) The CVA or IVA creditors can prove in the liquidation or bankruptcy for so much of their debt as remains after payment of what has been or will be recovered under the trust.

55. We would therefore dismiss the appeal save in relation to para. 4 of the Judge’s order. In substitution for that paragraph it should be declared that the CVA creditors are entitled to prove in the liquidation for their CVA debts after giving credit for dividends received from the Supervisors. We would hear further submissions on whether it is necessary to incorporate in the order of this court liberty to individual creditors who are not content with this court’s conclusion on para. 4 to argue the point afresh.
Order: Appeal Allowed. Order as minuted by counsel. (Order does not form part of the approved judgment)