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Cite as: [1999] EWHC Ch 191, [2000] 1 WLR 906

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Coutts & Co v. Stock [1999] EWHC Ch 191 (24th November, 1999)

IN THE HIGH COURT OF JUSTICE
CHANCERY DIVISION

1998 C No 1024

B E F O R E:

THE HONOURABLE MR JUSTICE LIGHTMAN

B E T W E E N:

COUTTS & CO

Claimant

-and-

MICHAEL STOCK

Defendant

JUDGMENT

Mr Michael Lazarus instructed by Farrer & Co for the Claimant
Mr Christopher R Parker instructed by Berrymans Lace Mawer for the Defendant

Hearing: 11th November 1999
Judgment: 24th November 1999

This is the official judgment of the Court and I direct that no further note or transcript be made

INTRODUCTION

1. This is an action by the claimant Coutts & Co ("the Bank") against the defendant Mr Stock ("the Guarantor") to enforce the guarantee given by the Guarantor ("the Guarantee") of the account with the Bank of Love This Records Limited ("the Debtor"). In this action the Bank is applying under what was RSC Order 14A, and what is now CPR R24.2, for the determination two issues of law of some importance. These issues concern the effect of Section 127 of the Insolvency Act 1986 ("Section 127") on the liability of a guarantor of the overdraft arising from the bank's continuing to honour cheques of an insolvent company over the period between the date of presentation of a petition to wind up the company and the date of the subsequent winding up order.

FACTS

2. On the 25th March 1997, the Bank granted to the Debtor a Ł200,000 overdraft facility secured by a personal guarantee given by the Guarantor who was a director of the Debtor. Three weeks later on the 16th April 1997 a winding up petition was presented against the Debtor. On that date the Debtor's account with the Bank was Ł500 in credit. The petition was advertised in the London Gazette on the 30th May 1997. On that date the account was overdrawn in the sum of Ł121,875. A winding up order was made on the petition on the 11th June 1997. The overdraft by then had increased to at least Ł190,000. The increases in the overdraft reflected the honouring by the Bank of cheques drawn in favour of third parties. Of the increases, the larger part totalling Ł139,564.10 reflected cheques drawn by the Debtor in favour of three companies owned and/or controlled by the Guarantor. On the 15th June 1997 pursuant to the provisions of the Guarantee the Bank demanded payment by the Guarantor of the balance of Ł192,602.34, a demand repeated by the Bank's solicitors on the 28th May 1998. The writ in this action was issued on the 11th June 1998. On the 15th July 1998, the liquidators of the Company demanded repayment by the three companies of the three sums paid to them, but the companies have made no repayment. No validation order under Section 127 has been applied for or made.

ISSUES

3. Section 127 provides as follows:

"In a winding up by the court any disposition of the company's property and any transfer of shares or alteration in the status of the company's members made after the commencement of the winding up is, unless the court otherwise orders, void."

The only defence of the Guarantor is invocation of Section 127. Absent Section 127, there could be no defence to the claim by the Bank against him. The two questions raised are:

(1) whether (in the absence of a validation order under that section) upon the making of the winding up order Section 127 operated retrospectively to disentitle the Bank from debiting the Debtor's account in respect of cheques honoured after the date of the presentation of the petition and accordingly (leaving aside the provisions of clause 10 of the Guarantee) retrospectively disentitled the Bank from recovering the amounts in question from the Guarantor;

(2) (if the answer to question (1) is in the affirmative) whether nonetheless the provisions of clause 10 of the Guarantee are effective to impose on the Guarantor a liability for the amounts in question as sole or principal debtor.

I shall consider each of these questions in turn.

SECTION 127 AND OVERDRAFTS

4. There is one decision of the English Court of Appeal, namely In Re Gray's Inn Construction Co Ltd [1980] 1 WLR 711 ("Gray's Inn"), a very recent decision of Blackburne J., namely Hollicourt (Contracts) v. Bank of Ireland ("Hollicourt") and a body of authority in Commonwealth jurisdictions on the impact of Section 127. The authorities are in disarray and the state of the law is uncertain, if not confused. In the circumstances it is appropriate to consider first what as a matter of principle should be the answer to the question raised, and then second whether the authorities require some other answer to be given.

5. I must first identify certain significant facts in this case:

(a) the question raised in this case arises, not between the liquidators of the Debtor and a third party (whether the Bank or the payee of monies paid out by the Bank), but between the Bank and the Guarantor;

(b) the Bank or such a payee, so long as it was ignorant of the presentation of the petition at the date of any payment or receipt of the Debtor's money, could have applied for a validation order validating payments by or to it between the date of presentation and the date of advertisement and on such an application a validation order would have been granted almost as a matter of course (see Hollicourt page 3). But the Bank has made no application for validation: the Bank maintains that it does not need any such order to obtain full recovery from the Guarantor;

(c) the issue is confined to the impact of Section 127 on the creation of, and subsequent increases in, the Debtor's overdraft with the Bank. Attention is to be focused on payments made by the Bank to third parties which gave rise to and built up the overdraft producing today the figure claimed in this action. No question is raised as to the validity or voidness of payments received by the Bank and applied in reduction of the overdraft (as in Gray's Inn) or of payments made by the Bank which operated in reduction of the Company's credit balance (as in Hollicourt).

Principles

6. The following are the principles which would be expected to operate in a case where Section 127 applies:

(1) the invalidation of dispositions of a company's assets after the date of presentation of a winding up petition is part of the statutory scheme designed to prevent the directors of a company, when liquidation is imminent, from disposing of the company's assets to the prejudice of its creditors and to preserve those assets for the benefit of the general body of creditors. It does not accordingly bite when the disposition can have no impact on the creditors e.g. in case of dispositions by receivers appointed under charges of the company's property or by the company where it holds legal title to property as bare trustee or subject to a specifically enforceable obligation to convey the property to a third party.

(2) the retrospective invalidation effected by Section 127 does not change what happened between the date of the petition and the date of the winding up order: it merely denudes any disposition of the company's property during that period of legal effect;

(3) the invalidation is limited to dispositions of property:

(a) the section does not invalidate a company's assumption of liabilities. The section in no way precludes a company incurring or continuing to incur liabilities (e.g. for rates, electricity or the services of employees) nor does it invalidate liabilities so incurred. An increase in a company's overdraft over the period between presentation of the petition and the making of the order for winding up is accordingly outside the ambit of Section 127;

(b) nor does Section 127 have any impact on the company's use, consumption or exhaustion of its assets. Thus though an agreed overdraft limit has been held to be "property" which can be the subject of theft by presentation of forged cheques (see R v. Kohn (1979) Cr App R 395), it must be clear that (notwithstanding the contrary view expressed by Professor Goode in Principles of Corporate Insolvency Law at p.432) the use and indeed partial or total exhaustion of that overdraft limit by the company cannot constitute a disposition within Section 127;

(4) presentation of the winding up petition has no impact on the powers of the directors of the company, the authority of the company's agents or the powers of disposition of the company. In particular the presentation does not invalidate the mandate of the company's bank to honour the cheques of the company. The subsequent winding up order accordingly does not invalidate the loan made by the bank to the company constituted by honouring cheques drawn on the company's overdrawn account;

(5) if (contrary to my view) the acts of the bank of honouring cheques drawn on a company's overdrawn account constitute payments by the bank (by way of loan to the company) of its own monies to the party in whose favour the cheques are drawn, the transaction is outside Section 127, for there is no disposition of the company's property: the disposition is of the bank's property and the increase in the company's overdraft itself does not constitute a disposition within Section 127: see (3) above. (This is the analysis by Professor Goode at pp. 429-431). The liquidator of the company can accordingly make no recovery from the payee nor can he challenge the state of the overdrawn account of the bank reflecting the payments drawn on the company's overdrawn account;

(6) on principle however the acts of the bank in honouring cheques drawn on a company's overdrawn account constitute (i) loans of the sums in question by the bank to the company and (ii) payment by the bank as agent of the company of the sums loaned as monies of the company to the party in whose favour the cheques are drawn. On this analysis, the loan by the bank to the company is not a disposition of the company's money (it is a disposition of the bank's money to the company) and is therefore outside Section 127; but the payment by the bank as agent for the company of the company's money does constitute a disposition to the payee by the company within Section 127 and is recoverable by the liquidator from the payee. (This analysis accords with the view expressed by Millett J. in Agip (Africa) Ltd v. Jackson [1990] Ch 265 at 283 and 292 A-B).

7. This last approach reflects the substance of the transaction between the company, the bank and the payee. It also gives due weight to the facts that (a) the company validly made conditional payment to its creditors by delivery to them of the cheques; (b) the bank lawfully and properly honoured the cheques drawn by the company, and indeed to have failed to have honoured them, (at least without knowledge of the advertisements and possibly presentation of the petition) would have constituted a breach of contract with the most serious possible repercussions for the bank and the company; (c) the common understanding of all involved would have been that it was the company (and not the bank) paying the company's debts; and (d) Section 127 has no retrospective operation or effect on the increases in the overdraft consequent upon the bank honouring the cheques.

8. In summary, the principles lead to the conclusion that section 127 cannot be read as invalidating, not merely the disposition by a company, but also a loan made by someone else to the company to enable it to make that disposition. Nor can Section 127 retrospectively countermand the instructions given to the bank as the company's agent to make payment of the company's monies to the third party: it merely denudes the payment by the company, as a disposition of the company's money to the payee, of legal effect, entitling the company to obtain recoupment from the payee. It avoids the disposition of the company's money as between the company and the payee: but there is no disposition of the company's money by the company to the bank. As between the company and the bank the money was validly borrowed and paid by the company to the payee.

9. On principle therefore, as it seems to me, Section 127 had no effect on the state of account between the Bank and the Company. The full sum of Ł190,000 has remained due from the Company to the Bank, though the Company is entitled to seek recovery from the payees. This result accords with the underlying purpose of the section, namely to recover for the company monies paid to a payee. The purpose does not extend to making the bank the guarantor of the payee's obligation to repay. It also means that there is no difference between a situation where the company withdraws the money from the bank and gives it to an agent to hand to the payee and a situation where the payment is made through a bank.

Authorities

10. I now turn to the authorities to see whether they require some other conclusion:

(a) Gray's Inn

Undoubtedly the most important authority is Gray's Inn. In Gray's Inn the liquidator made a claim against the company's bank in respect of the amount which the company lost by remaining in business after presentation of the winding up petition. At all dates between the presentation of the petition and the winding up order the company's account was overdrawn in a figure fluctuating between Ł3,600 and Ł7,000 and sums amounting to Ł25,313 were paid in and sums amounting to Ł24,129 were paid out (see p. 715 B-C). The only judgment in the Court of Appeal was that of Buckley LJ (with which the other members of the Court agreed). Buckley LJ held that (save and unless validated) all these payments were invalid. There are two parts of the judgment by Buckley LJ which are of critical importance. The first explained why the payment into the company's account constituted dispositions by the company to the bank:

"It may well be the case, as Mr Heslop [counsel for the bank] has submitted, that in clearing a third party's cheque and collecting the amount due on it, the bank acts as the customer's agent, but as soon as it credits the amount collected in reduction of the customer's overdraft, as in the ordinary course of banking business it has authority to do in the absence of any contrary instruction from the customer, it makes a disposition on the customer's behalf in its own favour discharging pro tanto the customer's liability on the overdraft."

The second related to the question whether the payments out of the company's account constituted dispositions:

"Mr Heslop does not dispute that all payments out of the company's account to third parties, not being payments to agents of the company as such, are dispositions of the Company's property; but he contends (as I understand his argument) that they are only relevant for the purposes of [Section 127] to the extent that payments out during the relevant period exceed payments in. That all such payments out must be dispositions of the company's property is, I think, indisputable, but I cannot accept Mr Heslop's contention. The section must in my judgment invalidate every transaction to which it applies at the instant at which that transaction purports to have taken place. I cannot see any ground for saying that the invalidation can be negatived by any subsequent transactions."

What Mr Heslop appears to have conceded was (i) that payments out of the company's account to third parties constituted dispositions of the company's property; and (ii) that they constituted dispositions of property which the bank was liable to make good. No contrary argument was addressed. It is to be noted that Professor Goode in Principles of Corporate Insolvency Law at p.430 expresses the view that both concessions were wrongly made. The correctness of the first concession depends on whether the payments to the payees are held to have been payments of the bank's or the company's monies. Professor Goode (as I have already said) favours the former view, but I favour the latter. I do not accordingly question concession (i). But I do question concession (ii). I am uncertain how far Buckley LJ distinguished the two elements in counsel's concession, and I do not think that he would have held the bank liable if the contrary had been fully argued, as it has been argued before me. I acknowledge my debt to both counsel. In the circumstances, whilst any view expressed by Buckley LJ must carry persuasive weight, nothing he may have said binds me to hold the bank liable.

(b) Hollicourt

The issue in Hollicourt related to the bank account of a company in liquidation which had been in credit throughout the period after presentation of the petition. Blackburne J. held that the honouring by the bank of the company's cheques after the date of presentation of the petition constituted dispositions of the monies standing to the credit of the company in that it reduced the bank's liability to the company; and that avoidance of these dispositions operated, not merely between the company and the payees, but also between the company and the bank with the effect that the bank could not debit the payment to the accounts. Blackburne J. did not have to decide what would be the legal position in a case where (as a case such as that now before me) the account was at all times in overdraft. He did say (at p.8) that the point was well made that a liability is not an asset of a company and that an increase in its liabilities is not a disposition of its property. The judgment of Blackburne J. takes a different view of the Commonwealth authorities from that which I take (see below) and accordingly of the applicability of the principles on which I base my decision. So far as his decision is based on this view, I must respectfully disagree with it.

There are three Commonwealth authorities which hold that Section 127 merely invalidates a disposition as between the company and the payee of the company's money, and not as against the bank when it merely fulfils an agency or intermediary role between the company and the payee (see Re Mal Bower's Macquarie Electrical Centre Pty Ltd (in liquidation) [1974] 1 NSWLR 254; Re Loteka (1989) 7 ACLC 998; and Tasmanian Primary Distributors Pty Ltd (1994) 13 ACR 92). There is a decision to the contrary by the Hong Kong Court of Appeal in Bank of East Asia Ltd v. Rogerio Sou Fung Lam [1988] 1 HKLR 181. He expresses preference for the view expressed in Rogerio. I prefer the reasoning in the three Commonwealth authorities as entirely in accord with and supportive of the principles which I have stated.

Conclusion

11. I reach the conclusion that the authorities do not preclude a decision adopting the principles which I have referred to. In accordance with those principles I therefore hold that the Debtor (and therefore the Guarantor) are legally bound to pay the full sum due on the overdrawn account, and that Section 127 has no impact on this liability.

CONSTRUCTION OF GUARANTEE

12. If the sum due from the Debtor on the overdraft is unaffected, as I have held, by Section 127, it is common ground that it is recoverable from the Guarantor by the Bank, and it is unnecessary to explore further whether the terms of the Guarantee in this case would entitle the Bank to recover even if Section 127 invalidated the Debtor's overdraft liability. But since I have heard full argument, the question is of some importance and the case may go further, I shall express my views on that question. For the purposes of this part of the judgment I assume (contrary to what I have held) that Section 127 retrospectively invalidated the loans made by the Bank to the Company in honouring the post petition cheques.

13. Clause 10 of the Guarantee reads as follows:

"This Guarantee shall not be discharged nor shall the Guarantor's liability be affected by reason of any failure of or irregularity defect or informality in any security given by or on behalf of the Debtor in respect of the moneys or liabilities hereby secured nor by any legal limitation bar or restriction dissolution disability incapacity or want of any borrowing powers of the Debtor or want of authority of any director manager official or other person appearing to be acting for the Debtor in any matter in respect of the moneys or liabilities hereby secured or by any supervening matters rendering the performance of the obligations of the Debtor illegal in any jurisdiction and such moneys and liabilities will be recoverable by the Bank from the Guarantor as sole or principal debtor."

14. The correct approach to construction of the Guarantee is to decide whether, read in the context of the document as a whole, the language of clause 10 is apt to include an obligation on the part of the Guarantor to pay advances made by the Bank to the Debtor invalidated by Section 127; and in case an ambiguity arises whether this scenario is included, such ambiguity is to be resolved against the Bank who put forward the Guarantee for execution by the Guarantor: see Tam v. BCC [1996] BCLC 69.

15. Clause 10 (so far as material) can be broken down into the following component part:

"[(a)] the Guarantor's liability [shall not] be affected by any [(1)] legal limitation, bar or restriction [(2)] dissolution disability incapacity or want of borrowing powers of the Debtor ... or [(3)] by any supervening matters rendering the performance of the obligations of the Debtor illegal in any jurisdiction and [(b)] such monies or liabilities shall be recoverable by the Bank from the Guarantor as sole or principal debtor".

It is quite clear that the words "such monies or liabilities" refer to the monies or liabilities which fall within the provisions of the clause, i.e. debts and liabilities for which the Guarantor would not otherwise be responsible in the absence of the provisions of the clause. The critical question is accordingly whether the legal effect of Section 127 on the loans made by the Bank to the Debtor (i.e. the retrospective invalidation of the loans by reason of the order made for compulsory liquidation of the Debtor) is one of the states of affairs falls within (a) (1) or (2). It cannot be suggested that it falls within (a)(3).

16. The Guarantor made two submissions with which I should briefly deal:

(a) The first submission concentrated on the provision in (a)(3), i.e. for "supervening matters rendering the performance of the obligations of the Debtor illegal in any jurisdiction". "Supervening matters" clearly means matters arising after the date of assumption by the Debtor of the obligations in question. The submission made was that, because specific provision is made in (a)(3) for supervening matters and there is no express reference to supervening matters in (a)(1) or (a)(2), (a)(1) and (a)(2) should be construed as referring exclusively to states of affairs or events existing at the date of loans to the Debtor and do not embrace supervening events i.e. events happening thereafter. That is an untenable proposition for two reasons: (i) the provision for supervening matters rendering performance of the Debtor's obligations illegal in any jurisdiction is designed to meet specific legal problems familiar in the field of conflict of laws, and throws no light on the ambit of the other provisions in the clause; and (ii) the express provision in (a)(2) for "dissolution" can only be designed to cover the supervening event of dissolution after the date that the Debtor has assumed liability.

(b) The second submission was that the express provision for dissolution indicated that the clause was not intended to operate at any earlier stage in the life (or death) of a company and most particularly liquidation and that accordingly the legal consequences triggered by liquidation, most particularly invalidation occasioned by Section 127. This again is untenable. There is no necessary relationship between dissolution and liquidation: a company may be liquidated without thereafter being dissolved and a company may be dissolved (e.g. for failure to file returns) without ever being wound up. The express provision for dissolution is intended to cover the situation where the Debtor is a company and ceases to exist. This express provision is no guide to what is intended to convey by the other wording in clause 10.

17. Provisions such as clause 10 have grown like Topsy. As each possible ground for a challenge by a guarantor to the validity or enforceability of his guarantee has seen the light of day, further protective provisions for the Bank have been devised designed to head off that challenge and tagged onto the clause. The present compilation of words is in dire need of revision. If a guarantor is intended to be made primarily liable when there is no primary liability for any reason on the part of the Debtor, this could and should be spelt out explicitly. The words particularly relied on by the Bank are "legal limitation, bar or restriction" and the words "disability incapacity or want of borrowing powers of the Debtor". In my view none of these words is apt to cover the situation with which I am concerned, namely a debt validly incurred but subsequently retrospectively invalidated. The effect of the invalidation must be that from the date of invalidation there is no debt or liability. The invalidation does not arise by reason of any "legal limitation, bar or restriction", language peculiarly apt to cover limitations, bar or restrictions on enforcement, but inapposite to cover statutory invalidation of the debt; nor does it arise by reason of any "disability, incapacity or want of borrowing powers" of the Debtor, for the Debtor has the ability, capacity and borrowing power at all relevant times: it was not the lack of these which invalidated the Debtor's debt. It is notwithstanding the ability, capacity and power that Section 127 invalidates the debt and accordingly the liability of the Guarantor. I therefore do not think that, if Section 127 did invalidate the debt of the Debtor, the terms of clause 10 would be sufficiently ample to validate the liability of the Guarantor. I should add that the clearest language is required to impose on a guarantor liabilities of the principal debtor in cases where statute has decreed that the liability of the principal debtor shall be void. There is no such language in this case.

SUMMARY

18. I accordingly hold that the Bank is entitled to the full sum claimed, for it is a debt owed by the Debtor. The Bank has no need to invoke clause 10 of the Guarantee, but, if it did have such a need, that clause would be of no assistance.

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