England and Wales High Court (Chancery Division) Decisions

IN THE HIGH COURT OF JUSTICE
CHANCERY DIVISION

		Royal Courts of Justice Strand, London, WC2A 2LL
		24/02/2006

Peter Smith J :

INTRODUCTION

1. This judgment is in respect of the trial of the Preliminary Issue ordered by Master Moncaster on 15^th March 2005 namely :-

i. Whether either or both of the Credit Agreement and the Security Agreement are valid and enforceable or illegal and void as a result of the application of Section 151 of the Companies Act 1985 or at common law.

ii. Whether the Guarantee (in whole or in part) is valid and enforceable or unenforceable as a result of the said section in the Companies Act 1985 or at common law.

2. The other Preliminary Issues directed by the order have been disposed of by the parties.
3. To make the Preliminary Issue intelligible the Credit Agreement is an agreement dated 23^rd February 2001 where Anglo Petroleum Ltd ("APL") borrowed £15,000,000 from TFB (Mortgages) Ltd ("TFB") repayable on 22^nd August 2001.
4. On the same day APL entered into a Security Agreement ("the Security Agreement") under which it granted a floating charge over its assets and mortgaged 46 petrol stations to TFB as security for its indefinite liability under the Credit Agreement.
5. The Guarantee is a guarantee of the same date given by Paul Sutton under which he guaranteed APL's liabilities to TFB under the Credit Agreement and the Security Agreement subject to a maximum of £15,000,000 plus interest and costs in enforcing the Guarantee.
6. On 22^nd August 2001 the Credit Agreement was extended until 22^nd February 2002 on terms that APL paid an immediate pre payment of £750,000 and agreed to the arrangement fee being increased by £1,662,499.92 payable in 6 monthly instalments of £277,083.32. On 9^th November 2001 TFB demanded payment by APL of a sum of £14,250,000 outstanding under the Credit Agreement. On the same day TFB also appointed administrative receivers over APL's assets.
7. On 7^th December 2001 TFB demanded payment by Paul Sutton of £14,250,000 under the Guarantee.
8. There have been realisations of approximately £10,000,000 but there are disputes over the realisations none of which is for consideration before me.

COMPANIES ACT 1985

9. The Preliminary Issue addresses whether or not the Credit Agreement and Security Agreement are valid under Section 151 of the Companies Act 1985 and whether or not the Guarantee also fails on the basis that it too infringes those provisions.
10. The relevant provisions for the purpose of this Preliminary Issue are sections 151, 152 and 153 which are as follows:-

"151.--(1) Subject to the following provisions of this Chapter, where a person is acquiring or is proposing to acquire shares in a company, it is not lawful for the company or any of its subsidiaries to give financial assistance directly or indirectly for the purpose of that acquisition before or at the same time as the acquisition takes place

(2) Subject to those provisions, where a person has acquired shares in a company and any liability has been incurred (by that or any other person), for the purpose of that acquisition, it is not lawful for the company or any of its subsidiaries to give financial assistance directly or indirectly for the purpose of reducing or discharging the liability so incurred.

(3) If a company acts in contravention of this section, it is liable to a fine, and every officer of it who is in default is liable to imprisonment or a fine, or both.

152.--(1) In this Chapter--

(a) "financial assistance" means—

(i) financial assistance given by way of gift,

(ii) financial assistance given by way of guarantee, security or indemnity, other than an indemnity in respect of the indemnifier's own neglect or default, or by way of release or waiver,

(iii) financial assistance given by way of a loan or any other agreement under which any of the obligations of the person giving the assistance are to be fulfilled at a time when in accordance with the agreement any obligation of another party to the agreement remains unfulfilled, or by way of the novation of, or the assignment of rights arising under, a loan or such other agreement, or

(iv) any other financial assistance given by a company the net assets of which are thereby reduced to a material extent or which has no net assets;

(b) "distributable profits", in relation to the giving of any financial assistance--

(i) means those profits out of which the company could lawfully make a distribution equal in value to that assistance, and

(ii) includes, in a case where the financial assistance is or includes a non-cash asset, any profit which, if the company were to make a distribution of that asset, would under section 276 (distributions in kind) be available for that purpose,

and

(c) "distribution" has the meaning given by section 263(2).

(2) In subsection (1)(a)(iv), "net assets" means the aggregate of the company's assets, less the aggregate of its liabilities ("liabilities"to include any provision for liabilities or charges within paragraph 89 of Schedule 4).

(3) In this Chapter--

(a) a reference to a person incurring a liability includes his changing his financial position by making an agreement or arrangement (whether enforceable or unenforceable, and whether made on his own account or with any other person) or by any other means, and

(b) a reference to a company giving financial assistance for the purpose of reducing or discharging a liability incurred by a person for the purpose of the acquisition of shares includes its giving such assistance for the purpose of wholly or partly restoring his financial position to what it was before the acquisition took place.

153.--(1) Section 151(1) does not prohibit a company from giving financial assistance for the purpose of an acquisition of shares in it or its holding company if--

(a) the company's principal purpose in giving that assistance is not to give it for the purpose of any such acquisition, or the giving of the assistance for that purpose is but an incidental part of some larger purpose of the company, and

(b) the assistance is given in good faith in the interests of the company.

(2) Section 151(2) does not prohibit a company from giving financial assistance if—

(a) the company's principal purpose in giving the assistance is not to reduce or discharge any liability incurred by a person for the purpose of the acquisition of shares in the company or its holding company, or the reduction or discharge of any such liability is but an incidental part of some larger purpose of the company, and

(b) the assistance is given in good faith in the interests of the company.

(3) Section 151 does not prohibit--

(a) a distribution of a company's assets by way of dividend lawfully made or a distribution made in the course of the company's winding up,

(b) the allotment of bonus shares,

(c) a reduction of capital confirmed by order of the court under section 137,

(d) a redemption or purchase of shares made in accordance with Chapter VII of this Part,

(e) anything done in pursuance of an order of the court under section 425 (compromises and arrangements with creditors and members),

(f) anything done under an arrangement made in pursuance of section 582 (acceptance of shares by liquidator in winding up as consideration for sale of property), or

(g) anything done under an arrangement made between a company and its creditors which is binding on the creditors by virtue of section 601 (winding up imminent or in progress).

(4) Section 151 does not prohibit--

(a) where the lending of money is part of the ordinary business of the company, the lending of money by the company in the ordinary course of its business,

(b) the provision by a company in accordance with an employees' share scheme of money for the acquisition of fully paid shares in the company or its holding company,

(c) the making by a company of loans to persons (other than directors) employed in good faith by the company with a view to enabling those persons to acquire fully paid shares in the company or its holding company to be held by them by way of beneficial ownership.

(5) For the purposes of subsection (4)(bb) a company is in the same group as another company if it is a holding company or subsidiary of that company, or a subsidiary of a holding company of that company."

11. The ambit of these sections in relation to the facts in the Preliminary Issue involved extensive citation of authorities which I shall refer to further in this judgment.

BACKGROUND

12. There are three actions to which this Preliminary Issue relates. They arise out of the purchase by Kaluna Ltd ("Kaluna") of the whole of the issued share capital of APL (then known as Repsol Petroleum Ltd) from Repsol (UK) Ltd ("RUK") a company owned by Repso Petroleo a Spanish company.
13. Kaluna was a special purpose vehicle formed for the purpose of this acquisition. It is a company registered in the British Virgin Islands and its beneficial owner is a British Virgin Island discretionary trust where the main beneficiaries (according to Mr Riches a witness called by APL) are the 2 daughters of Paul Sutton. He is the Protector of the Settlement and as such has the usual power in BVI trusts of appointing and removing trustees.

DOCUMENTS CONCERNING AQUISITION

14. Two documents are relevant to the acquisition of the shares in APL by Kaluna. The first is a Compromise Deed ("The Compromise Deed") dated 15^th November 2000. The parties to this are RUK and APL under its former name. At the time of the Compromise Deed APL was indebted to its parent company RUK in the sum of £30,000,000. That indebtedness was apparently repayable on demand and carried interest at a commercial rate. APL at the time of the Compromise Deed would have been unable to repay that sum if demanded. At that time it had cash in its bank account amounting to some £4,000,000. The debt was unsecured.

TERMS OF COMPROMISE DEED

15. The material terms are as follows:-

i. APL agreed to pay £6,000,000 of the outstanding indebtedness on the date of execution of the Deed (clause 2.1).

ii. It agreed to repay a second payment on 15^th May 2001 of £9,000,000 (clause 2.2).

iii. It agreed to pay interest no later than 15^th May 2001 being an agreed amount of £300,000 but subject to pro rata abatement in the event of voluntary repayment (clauses 2.3 and 5.1(c)).

iv. It agreed to execute and deliver to RUK a fixed first legal charge over the properties identified in the schedule to the Compromise Deed.

16. In exchange for those matters RUK irrevocably and unconditionally released and discharged APL and the subsidiaries from repayment of the balance of the outstanding inter company debt namely £15,000,000 (clause 3).
17. Otherwise the terms were unexceptional.
18. On the same day RUK and Kaluna entered into a Share Purchase Agreement ("the SPA") whereby RUK sold all of the issued share capital in APL to Kaluna. The total number of shares was 690,570 one pound shares. According to the SPA the consideration for the shares was £1. That was also the consideration that was stated in the share transfer executed on the same day and upon which stamp duty of £5 was paid.
19. The SPA refers to the inter company debt as being £30,000,000 plus interest down to the Completion Date owed by APL to RUK immediately prior to the execution of the Compromise Deed. The net current asset value was stated to be the net current assets shown on the Completion Statement. That document has not been produced before me. However there was attached to a fax dated 22^nd February 2001 sent by APL to TFB (which has other significance in this case) a balance sheet as at 31^st October 2000. That letter also stated that there had been no material alteration in APL's financial position from that date to the date of the fax.
20. The net assets employed show fixed assets in respect of land and buildings valued at £20,477,000. It apparently shows a total deficiency of £120,000 taking into account the £30,000,000 loan due to RUK.
21. The accounts of RUK to 31^st December 1999 which appear to have been approved around the 14^th April 2000 showed RUK made an operating loss of £1,731,000 in the year (the year before the loss was £762,000). It shows freehold assets valued at £23,000,843 and shows a surplus of net current assets of £6,388,000 but after the application of the loan of £30,000,000 shows net liabilities of £567,000.
22. Further documentation which was obtained from RUK's solicitors who acted on the acquisition (Betesh Fox of Manchester) included a balance sheet of APL as at 30^th June 2000 which showed net liabilities (after the £30,000,000 loan) of £1,411,000.
23. Finally in the context of the financial position of APL there is an email dated 2^nd November 2000 from Nicholas Fairhurst (partner at Betesh Fox) to a Mr Clifford at Baker Tilley (who was presumably acting for Kaluna). This email was copied in to Mr Riches, APL's subsequent Managing Director, who gave evidence before me. The email was in the context of preference claims under section 239 Insolvency Act 1986 but there was an observation that at "£15,000,000 RPL [i.e APL] is balance sheet solvent so that there can be no question of a preference. At £9,000,000 or £5,000,000 RPL would be insolvent although the outcome for creditors could still be better that existing".
24. That shows that at the time of the SPA those advising Kaluna (including Mr Riches) believed that APL would be balance sheet insolvent if the inter company debt was written down to £13,000,000 and that in reality a write down to £9,000,000 or £5,000,000 was required to be sure.
25. It is clear in my opinion that APL was balance sheet insolvent as at the time of the SPA and was only capable of trading because RUK financed it to the tune of £30,000,000 on its unsecured loan.
26. The evidence shows that Repso Petroleo the ultimate holding company was under pressure to dispose of RUK's shares in APL by the year end. Given the figures that is hardly surprising.
27. The only other material provision in the SPA is clause 21 whereby Kaluna agreed to give a guarantee to RUK in the terms of schedule 10. By that guarantee Kaluna guaranteed as principal debtor the due and punctual performance by APL of all of its obligations under the Compromise Deed and undertook to indemnify RUK against all losses, damages, costs and unexpected expense incurred by it arising from any failure on the part of APL to perform and or observe any of its obligations under the same.
28. As security for that Guarantee (it being noted that Kaluna's unsecured guarantee was worthless as RUK must have inevitably known) Kaluna also on the same day charged the 690,570 shares in APL to RUK as security for its obligations under the Guarantee.

FINANCIAL TRANSACTIONS

29. At the time of the SPA and Completion Deed a number of events occurred:-
30. APL repaid £6,000,000 of the £30,000,000. It funded that as to £4,000,000 of its own cash. The balance was raised by a resolution of APL to increase its share capital to 2,690,570 by the creation of 2,000,000 extra ordinary shares of £1 which were issued to Kaluna Ltd. There was subsequently disclosed in the course of the hearing documentation which suggested that Kaluna initially contemplated lending the £2,000,000 to APL but that did not proceed (doubtless a decision was made to improve the balance sheet position of APL by having the £2,000,000 as shares rather than debt liability).
31. How that issue operated in relation to RUK's charge over the other shares in APL was not explored before me. It might have had an impact if the security ever came to be enforced but in the circumstances as set out in this judgment that never arose.
32. There were 2 other transactions which took place at the same time which were not explained before me.
33. First on 15^th November 2000 Kaluna borrowed £2,000,000 from Vanessid Investment Ltd (a Gibraltar company) repayable the next day. The price for that was interest of £300,000. It is impossible to compute in annual terms what that rate of interest is save to say that it is huge. Mr Sutton and Mr Riches guaranteed its payment. I do not know how and when or if at all Kaluna repaid that money. A Gibraltar firm of solicitors Hassans acted for Vanessid. Mr Levy QC who gave evidence before me is a partner in Hassans.
34. Second some 8 days later there was apparently an agreement whereby APL borrowed £2,000,000 from Vanessid with interest at the rate of £100,000 per week. Various loan agreements and documents were apparently prepared but Mr Riches was unable to say whether or not the transaction took place (an odd lapse of memory). It may be that it is connected to the second unusual transaction which is set out in a letter dated 15^th November 2000 from Betesh Fox to the directors of APL (i.e. the new directors and in particular Mr Riches who countersigned it). It referred to a sale by Classic Motion Ltd (a company associated with Mr Sutton) of shares in a company Seletar for £2,300,000. This of course represents the amount which Kaluna borrowed from Vanessid to fund (presumably) the share subscription in respect of the 2,000,000 shares issued to it in APL. The second Vanessid loan may have been a method by which APL raised monies to satisfy its apparent indebtedness to Classic Motion for the acquisition of the shares.
35. It is all very odd. One interpretation is that Kaluna raised £2,000,000 cash so that cash could be transferred to RUK in part discharge of its indebtedness (under the terms of the Compromise Deed) via APL. It then possibly discharged its indebtedness to Vanessid via Classic Motions' sale of the shares in Seletar to APL which in turn borrowed the money under the second Vanessid loan. I simply do not know. I do observe however the cautious observations in the Betesh Fox letter.
36. Accordingly as a result of the Compromise Deed and the SPA APL's debt to RUK was reduced to £15,000,000 of which £6,000,000 was handed over by it immediately (raised as set out above) and the balance of £9,000,000 was due on 15^th May 2001. In the meantime it was secured for the first time on its petrol stations.
37. Kaluna provided £2,000,000 to APL by the shares subscription to enable it to fund the £6,000,000 first payment due under the Compromise Deed. That might have come back to Kaluna indirectly by virtue of the Classic Motion transfer of the Seletar shares but I make no concluded decision in that regard. Kaluna apparently provided the £1 (Mr Riches said it was cellotaped to the back of the SPA).
38. RUK therefore gave up £15,000,000 worth of indebtedness in exchange for an immediate cash payment of £6,000,000 and a promise of a further £9,000,000 in 6 months. In addition it took the security.
39. Mr Martin QC who appears on behalf of APL and Mr Sutton challenges the giving of the security but not the other provisions of the Compromise Deed under Section 151 of the Companies Act 1985. He also attacks on the same basis the Kaluna Guarantee (or more accurately any payment made by APL or security given by APL which has the effect of discharging or releasing the Kaluna Guarantee).
40. Simultaneously in addition to the direct security from APL RUK also took the security over the APL shares.
41. None of this in my view is surprising. RUK wrote off £15,000,000. In exchange for that write off it took an immediate cash payment and a future payment which for the first time became a secured payment. To ensure that APL remained in a worthwhile position to make the repayment 6 months later it took a charge over the shares that it had sold to Kaluna. The avenue for that charge was the Guarantee. I have no doubt that the Guarantee was worthless and was merely the vehicle to enable RUK to obtain a charge over the shares. Having parted with control of RUK to a purchaser which was not worth anything but leaving a large amount of debt outstanding none of these transactions seems to me to be surprising.
42. Mr Riches in paragraph 4 of his witness statement before me dated 22^nd November 2005 said that "the commercial agreement between Kaluna and RUK was that Kaluna would acquire the shares of APL for £15,000,000 payable as follows:-

(1) £6,000,000 would be payable on completion

(2) £9,000,000 would be payable 6 months thereafter"

43. This is contrasted with his earlier witness statement dated 4^th November 2003 where he said in paragraph 5 as follow:-

"5 the commercial agreement between Kaluna and RUK was that Kaluna would acquire the shares of APL for £11,000,000, payable as follows:-

5.1 £2,000,000 on completion

5.2 £9,000,000 6 months later"

44. In paragraph 6 he said that the agreements were structured "in order to save stamp duty" whereby the inter company debt was reduced by £4,000,000 out of APL's bank account and as part of the sale and purchase RUK would reduce the inter company debt to £15,000,000, the purchase price would be £1 and Kaluna on completion would procure the repayment of £6,000,000 of the inter company loan and procure repayment of the £9,000,000 6 months later.
45. On cross examination Mr Riches said that the reference to £11,000,000 in his earlier witness statement was a mistake.
46. I find his explanation (like many other aspects of his evidence) unsatisfactory. The reality in my judgment is that at the time the first witness statement was deposed to APL was unwilling to make the bold statement that Kaluna was acquiring for £15,000,000 and part of the £15,000,000 was simply the utilisation of £4,000,000 in cash in the bank account of APL. I can see why they might not wish to say that because it would be a blatant breach of section 151 and it is inconceivable that any lawyers (let alone the array of lawyers who advised both sides on these transactions) would allow it to proceed on that basis.
47. The reality is that at best Kaluna paid £2,000,000 to acquire the share holding in APL. Further as I have set out above it might not even have paid as much as that depending on the true interpretation of the Seletar transaction or if the proposed arrangement as between it and APL had proceeded by way of a loan for £2,000,000.
48. Despite Mr Riches oft repeated assertion that the commercial agreement was that Kaluna would pay £15,000,000 for the shares the evidence as it transpired did not support such a proposition. Further despite this oft repeated assertion it is not submitted on behalf of APL that the Compromise Deed and the SPA do not reflect the genuine transactions that took place on that day.
49. In the course of Mr Riches cross examination I asked whether there were any documents which supported his statement that the commercial agreement was that the sale and purchase of the shares was for £15,000,000. Mr Martin QC told me that there was one (later enlarged to two). The former was not yet in evidence and he sought to produce it in re-examination of Mr Riches. The document he produced was a copy letter from Betesh Fox. It bore the date 25^th January 2006 but that was because the software programme on the computer from which it was extracted put the date on the letter when it was printed off. Subsequent disclosure showed that the letter was actually dated 18^th August 2000. The letter is a copy of Betesh Fox's terms and conditions for its retainer as legal advisors to the BVI companies controlled either by Mr Sutton or his father in respect of "Operation Tapas" (being the acquisition of APL). Paragraph 1.1 said that the work was required for the acquisition of the entire issued share capital for a consideration of £15,000,000 payable in full on completion.
50. This document had apparently been found on 26^th January 2006 by Mrs Nicola Sexton a director of APL. In her subsequent witness statement of that date she explained how she had come to find it. First in paragraph 3 she said that APL had received instruction to conduct thorough searches in relation to the pleaded issues but they had "not concentrated on the original Repsol transaction which had not so far as we had been aware been in dispute in these proceedings" I find that an extraordinary observation to make. I do not see how it can be seriously contemplated that the Compromise Deed and the SPA and their creation were not part of the relevant material for the purposes of the actions between these parties generally and especially in the context of the Preliminary Issue. It seems to me that APL did not conduct a proper search. This is reflected by the relative paucity of the documents produced that must have been in existence before the Compromise Deed and the SPA were entered into. During an exchange between Counsel and myself, it transpired that requests had been made to recover documents from the Receivers, but none had been forthcoming although they had been inspected. In addition enquiries had been made of Betesh Fox but those enquires do not appear to have been pursued with any great vigour and finally no attempt was made to obtain documents from Kaluna and Mr Sutton's associated companies.
51. In the light of all that I made an order addressed to Betesh Fox under CPR 31.17 requiring them to produce documents for the purpose of this trial. There remained a residual question as to whether or not anybody would be entitled to inspection of those documents (assuming any privilege would be claimed). In the events that happened nobody asserted privilege and three significant bundles of documents were extracted from the ten bankers' boxes of documents which Betesh Fox handed over with no great difficulty. These documents are important because they show how the acquisition of the shares in APL gestated. In my judgment they completely undermine Mr Riches' statement that there was an initial agreement to buy for £15,000,000 and that the transaction was then subsequently restructured to save stamp duty. No evidence of any stamp duty saving issues had ever been raised. Nor could there be because it seems to me to be plain and obvious that if the lawyers had advised a restructuring of the transaction to hide the fact that it was actually a sale and purchase of £15,000,000 that would have involved the parties and the lawyers being involved in a criminal conspiracy to evade stamp duty. All the evidence from these late disclosed documents show that the lawyers discharged their duties (on both sides of the transaction) with considerable care and I cannot believe for one minute that they would have done anything as blatantly illegal as that. Nor do I believe that they would have advised a course of action if they had a belief that that would have been a breach of Section 151 CA 1985. Of course I accept that merely because they believed it does not infringe Section 151 does not mean that the transactions cannot actually be found subsequently to have breached that section.
52. An analysis of these documents in addition to showing that there is no question of the commercial basis for the agreement as so described by Mr Riches as being changed to save stamp duty clearly indicates also that there was never any overriding commercial agreement between Kaluna and RUK for a sale and purchase of £15,000,000. In reality what has happened is RUK wished to extract as much as possible by an urgent sale as it could out of its operations of petrol stations in the UK. At the time of the negotiation it is important to appreciate that RUK had two assets. It had a £30,000,000 unsecured debt due from APL. APL was balance sheet insolvent as I have set out above. However that balance sheet insolvency takes into account the £30,000,000 loan. It follows that even if APL went into liquidation the likelihood is that RUK would have received a substantial repayment on the realisation of APL's assets by the liquidator.
53. The second asset RUK had was the shares it held in APL.
54. It is self evident in my opinion that the price anybody is willing to pay for the shares will be based on the worth of APL. In turn the worth of APL will be dependent on the amount of the inter company indebtedness that remains unpaid at the time that the shares are sold. Given the financial position of APL it is impossible to believe that anybody would pay £15,000,000 for the shares unless there was a significant adjustment in respect of the inter company indebtedness. If a purchaser did not secure a substantial reduction of the inter company indebtedness it follows inevitably that it would not pay more than a nominal purchase price to take the company off RUK's hands because it is insolvent if that £30,000,000 debt remains outstanding.
55. It is in the light of those self evident factors that the correspondence disclosed in the action should be considered.

CLIP A

56. The first bundle of documents ("Clip A") comprised copies of correspondence showing how the negotiations opened. The first is a fax dated 26^th June 2000 from Lazard Brothers to Arthur Andersen enclosing a copy of an offer that they had received from Sutton Oil in Bermuda for whom they were acting. Sutton Oil is another of Mr Sutton's companies. It was written in the light of having seen the information memorandum dated 19^th April 2000 on APL and having reviewed a significant amount of the contents of the Data Room. The offer is made subject to the contract to acquire the entire issued share capital for £2,000,001 including their assessment of the net assets/liabilities "on a debt free basis". Further conditions are appended and under condition (d) it was made clear that all of the inter company indebtedness was to be cancelled and they required confirmation that no Third Party debt existed within RPL. That offer plainly required RUK to write off £30,000,000.
57. The next document is headed Heads of Terms dated 25^th July 2000. It was signed by RUK and Sutton Oil Bermuda Ltd (Mr Sutton signing on its behalf). Clause 1 stated that Sutton Oil would pay a total consideration of £17,000,000 to RUK "for the shares of the Company and the Inter Company Loan apportioned as to £1 for the shares and £16,999,999 for repayment of the Inter Company Loan." APL was to be sold cash and debt free and the total consideration was based on an assumption under clause 7 that the net current assets of APL (stock plus debtors less creditors) should be £2,300,000.
58. It is not clear what was to happen to the £4,000,000 cash held at that time.
59. Nevertheless this Heads of Agreement plainly differentiates between the Shares and the Inter Company Loan. It also recognised that the £17,000,000 was being paid in respect of RUK's two assets namely the shares and the Debt due under the Inter Company Loan.
60. That offer was revised on 10^th August 2000 as set out in revised terms in a letter from Arthur Andersens of that date to Sutton Oil. The consideration was now reduced to £15,000,000 but once again with the apportionment as between the shares and the repayment of the Company Loan. Clause 2 required the balance of the Company Loan to be written off and also by clause 3 it was required that APL had a cash balance between £4,000,000 and £5,000,000 and the minimum working capital was now raised to £6,250,000 (no doubt taking into account the retention of the cash). Mr Riches signed this document but he professed to have no recollection of it before it was put to him for the first time on his recall for further cross examination.
61. The next document is a letter dated 6^th November 2000 from Mr Fairhurst of Betesh Fox to James Collis of Ashurst Morris and Crisp (they were acting for RUK). This apparently followed a meeting which had taken place the previous Friday when it is said that a Mr Oaten of Arthur Andersons had put a revised structure on behalf of RUK at that meeting.
62. The concern at that time was as to whether or not the giving of the security for the reduced debt would be a preference. It will be seen from the letter that Kaluna's advisors considered that APL was balance sheet insolvent and the giving of the security would only amount to a preference if at that time APL was insolvent. The letter points out that reducing the debt to £15,000,000 would make RUK £5,300,000 worse off than if APL went into liquidation and RUK was paid its entire pro rata indebtedness of £30,000,000 (a dividend of 67.7 pence). It is clear from the letter that the revised offer was not that £15,000,000 write off because the writer goes on to criticise the offer. They also raise the question of Section 151 CA 1985. In that context they refer to the written opinion of Miss Lucy Wilson Barnes of Counsel dated 13^th October 2000 which had previously been disclosed (to which I shall make reference further in this judgment). There is a further copy of the same letter which adds comments on the original proposal and the revised proposal.

CLIP B

63. The first document is an email from Mr Fairhurst to various of the parties on both sides enclosing a copy of Miss Wilson-Barnes' advice. She was retained by Betesh Fox to advise specifically on Section 151 CA 1985. Mr Riches is forwarded that email on 12^th October 2000 and discounts the possibility of a white wash.
64. On 8^th November 2000 Mr Fairhurst sent a further letter to Mr Collis suggesting that they were now to proceed on the basis of the original structure including execution by APL and RUK of a Compromise Agreement providing for the immediate release of £15,000,000 of inter company payable debt.
65. The only other document of significance is a file note dated 2^nd January 2001 recording a telephone call between somebody at Betesh Fox and Mr Sutton where Mr Sutton is reported seeking to re-finance the entire portfolio within Repsol (i.e. RUK), and saying that Mr Riches was preparing a business plan and projections (which I have never seen) and that they were looking for £12,000,000 on £17,000,000 worth of properties and it being suggested that Mr Riches would like the proposal to be circulated to any bank contacts that Betesh Fox might have.
66. There was a second telephone call recorded between Betesh Fox and Mr Riches where it is said that Mr Riches had already put the proposal to a number of banks and asked Betesh Fox to approach Dunbar Bank. There is reference to completion of the acquisition of Copes and 40 Conoco sites coming into the group although there might be at least 120 Conoco sites to come in. Once again the business plans referred to have not been disclosed in this action.

CLIP C

67. On 16^th August 2000 Mr Riches sent the original Heads of Terms to Mr Fairhurst. It is clear that Mr Fairhurst drafted a retainer letter (being the one produced by Mr Martin QC as above) and it is sent out on 18^th August 2000. There had clearly been earlier instructions because that letter was taken from a draft dated February 2000 which appears to be in respect of the same transaction. In my judgment there is nothing significant to be drawn from the generalised reference in paragraph 1.1 to there being an acquisition of the share capital for a consideration of £15,000,000.
68. On 30^th August 2000 (apparently following discussions with Mr Riches on 23^rd August 2000 and a meeting with RUK) Mr Fairhurst wrote to Mr Sutton reporting on matters that had been discussed. There is reference to what became the Heads of Terms set out in Anderson's letter of 10^th August 2000 but with also observations on how to treat the balance of the RUK indebtedness (i.e. a funding rather than a trading debt). The reason for this is apparently that if it was treated as a trading debt APL would be subject to a tax charge on the write off of £15,000,000.
69. The next documents are client care letters provided by Betesh Fox. They are in draft form. It will be seen from that report that Kaluna is paying £1 for the shares and the inter company debt is dealt with by a release of £15,000,000. However the proposal at that stage envisages RPL making an immediate repayment of the balance of the £15,000,000.
70. On 25^th September 2000 Mr Fairhurst gave Mr Riches advice about financial assistance and potential breaches of Section 151 on the assumption that APL would raise money on the security of its existing assets in order to repay the balance of the inter company indebtedness. Significantly it was on the assumption that the borrower was APL (paragraph 7) and even more significantly that APL would not guarantee the obligations or provide security or indemnity in respect of the obligations of any persons firm or company (paragraph 6). I have already made observations on the email of 2^nd November 2000 which deals with the level of inter company indebtedness required to be released to achieve solvency (£13,000,000).
71. There is a written opinion of Miss Lucy Wilson-Barnes dated 13^th October 2000 confirming a telephone conference she had on 12^th October. In that advice she set out the transaction then under consideration which was another variant (paragraph 3) with £5,000,000 being paid on completion and £10,000,000 being outstanding. Also the remaining balance was to be discharged within 9 months. Her opinion cannot be affected by those matters and it is to the effect that the proposed transaction would not infringe the section.
72. On a file note dated 3^rd November 2000 for the first time an initial repayment of £6,000,000 is proposed. Of that £4,000,000 is to come from APL and the remaining £2,000,000 is to come from "Sutton Oil/Paul Sutton's own resources" and was to be provided by way of a loan from them to APL but to be subordinated to all other debts of the company. It was proposed at that stage that the outstanding loan balance would be £24,000,000 with an unusual procedure of repayment of £9,000,000 within 6 months with £15,000,000 paid at the time of repayment of the £6,000,000. Miss Wilson Barnes gave an advice in note form in respect of the preference issues on 3^rd November 2000 and was asked to advise in conference further on 7^th November 2000 in the light of the then proposed agreement with £24,000,000 being outstanding. In addition Kaluna was proposed as a Guarantor for APL's obligations and it was also proposed to give a charge over its shares in support of that guarantee.
73. On 7^th November 2000 Miss Wilson Barnes advised that this new transaction would infringe Section 151 it being suggested by her that the reconstructing of the debt did not make APL attractive enough for Kaluna to pay a £1 for it. She suggested restructuring the debt in a separate stand alone transaction completed for the benefit of APL "prior to share purchase even though in contemplation of share purchase". The present arrangement before her was in her opinion so linked that there was financial assistance. She also expressed the opinion that the Compromise Agreement was justified on any basis as a commercial transaction whether or not the share sale goes ahead. I can see that but I have difficulty with the concept of the transactions infringing Section 151 if they operate together but not if they are dealt with in separate transactions. The reality is that the Compromise Deed as Mr Martin QC submits simply would not have taken place without the SPA (I accept that). There would be no point in RUK giving up £15,000,000 worth of unsecured debt for £15,000,000 worth of secured debt only if it is still to remain in control of APL. The difficulty is the £24,000,000 which would be payable on default. That gives RUK £30,000,000 plus the security.
74. Mr Fairhurst reported this advice to Mr Riches on 7^th November 2000. Once again this was something Mr Riches had forgotten. However it is clear that he was happy with the advice because it apparently emphasised that a proposal by RUK at that stage involving retaining £24,000,000 indebtedness (see above) would infringe Section 151. It was clear in the context of the present issue that Mr Riches was quite happy for the existing directors of APL to be warned that the transaction might expose them to personal liability (doubtless for negotiating purposes). The proposed letter I suspect is the one that was in draft form dated 7^th November 2000 (Clip A).
75. On 8^th November 2000 Mr Fairhurst sent a three page document to Dr Nigg for consideration. He is based in Liechtenstein and he is Kaluna's sole officer. In this letter the proposals are set out in the form that they appeared ultimately in the Compromise Deed and the SPA. Although the letter was addressed to Dr Nigg, Mr Fairhurst sent it via Mr Riches inviting him to discuss it. This too was something Mr Riches could not recall.

ORIGINAL DOCUMENTS DISCLOSED

76. I have already referred to the requests made by Kaluna via Betesh Fox on 14th November 2000 to borrow £2,000,000 for one day from Vanessid. The loan documentation had Mr Riches and Mr Richard Sutton as guarantors. On 14^th November 2000 Dr Nigg held a board meeting by telephone. Resolution 3 authorised Mr Riches to purchase the Seletar shares and to sell them to RUK for £2,300,000 and to borrow £2,000,000 from Vanessid. I have already commented on the curiosities of this transaction.
77. On the same day a board meeting of APL was apparently held and Mr Riches reported the acquisition by APL of the Seletar shares from Kaluna (paragraph 1) (although this does not appear to be strictly correct as regards Kaluna). The £2,300,000 to be borrowed by APL (see the letter 23^rd November 2000) was resolved to be paid to Kaluna in satisfaction of the purchase price (with £300,000 going to Messers Hassans the solicitors for Vanessid).
78. I was provided with a note of the original board of APL meeting on 15^th November 2000 which explained the proposed sale as completed. It also considered legal advice obtained from Ashursts in respect of Section 151 and Section 239 and the advice received from Counsel (not I suspect Miss Wilson-Barnes) that the transaction was not an infringement of those sections.
79. On 10^th November 2000 Dr Nigg held a board meeting of Kaluna. This reported the proposed acquisition of the shares in APL in the form of the documents as they were executed. Paragraph 5 set out the documents provided by Betesh Fox. It included a report on the SPA, advice letters in respect of Section 239 IA 1986 and Section 151 CA 1985, disclosure bundles and financial due diligence and tax due diligence reports prepared by Baker Tilley and PWC respectfully. None of these documents has been produced (save perhaps some of the advice).
80. Paragraph 8 records that there was commercial benefit in Kaluna entering into the arrangement it being noted that RUK was aware of the fact that Kaluna had no assets other that the shares in APL.
81. The Compromise Deed and the SPA were completed on that day.

RE-FINANCING

82. It is important to appreciate that APL's and Mr Sutton's case is that they challenge the security TFB obtained as a result of this re-financing as being the primary infringement of Section 151 CA 1985. Thus Mr Martin QC was at pains to point out that no challenge was made to the terms of the Compromise Deed save the security. Thus APL and Mr Sutton wish to take advantage of the RUK debt reduction of £15,000,000 but do not wish to submit to the legality of the security supporting that arrangement. It is an unattractive plea but if that is what the law says then so be it. As shall be shown in this part of the judgment the arguments of APL and Mr Sutton have further potentially far reaching effects.
83. I shall also note that Mr Martin QC was at pains to emphasise that no part of his arguments involved alleging that the Compromise Deed and the SPA and the Credit Agreement and the Security Agreement were anything other than genuine documents and the provisions therein contained were not anything other genuine either.
84. This did not in my view rest easily with Mr Riches' repeated statement that the "commercial understanding" of the arrangements was a £15,000,000 purchase. It required quite careful balancing by Mr Martin QC with his submissions. In effect Mr Martin QC disavowed Mr Riches evidence (see footnote 2 to the written closing submissions on paragraph 3). I do not accept that Mr Riches honestly held the belief that the arrangements were a "commercial deal" whereby Kaluna paid £15,000,000. The documentation which I have set out above shows that plainly was never the intention and could only (for example) have been achieved by blatantly using £4,000,000 of APL's money to arrive at that figure. I place no value on the Betesh Fox engagement letter of 18^th August 2000 (paragraph 1.1). Equally I place no value on the other document which Mr Martin QC relied upon as showing a reference to a £15,000,000 purchase. This appears from a letter dated 12^th February 2001 sent by Mr Riches on Anglo notepaper addressed to an underwriter GE Capital Commercial Finance which in the first paragraph refers to "the deferred payment due to Repsol for the original purchase of the Repsol UK". This is casual in the extreme in my view. It reflects the casual way in which Mr Riches approached his evidence. He never made any attempt to familiarise himself with any of the documents and was quite prepared to provide witness statements which bore no relation to the contemporary documents. This letter was never shown to anybody other than GE Capital and has no significance at all.
85. Prior to the re-financing APL had borrowed £2,000,000 from Philip J Davies Holdings Plc on 24^th November 2000. This might well have taken place in substitution for the second Vanessid loan. The interest rates under this document are modest (only approximately 260%) compared with the Vanessid loan interest rates. Once again it is a short term loan of less than a month with an option to repay early. It is signed by Mr Riches and Mr Richard Sutton. They are warrantors and agree to procure the repayments by APL. It is clear that Mr Sutton and Mr Riches were desirous of extending the borrowings of APL both as regards re-financing the £9,000,000 due in May 2001 under the terms of the Compromise Deed and obtaining further finance for further development and expansion. That is shown by the Betesh Fox attendance note dated 2^nd January 2001 which I have already referred to. It is also supported by Mr Riches' evidence. This re-financing took place early because according to his evidence it afforded an opportunity to borrow further funds at what he considered to be favourable rates. As will be seen a further £6,000,000 was indeed borrowed by APL on the security of its existing property portfolio. What happened to that £6,000,000 is not revealed. There is a hint in the Betesh Fox memo that it is quite clear Mr Riches and APL caused the £6,000,000 to be raised and to be used for purposes completely unconnected with the original Kaluna share purchase. Notwithstanding that APL and Mr Sutton contend that this unconnected obtaining of money on the security is also tainted by Section 151. This argument is hardly less attractive than the arguments made in respect of the original Compromise Deed and the SPA but if they are correct and that is what the law says so be it.
86. Mr Martin QC submits that the terms of the Credit Agreement are excessive (involving for example a one up front fee of £1,750,000). That is the way in which Mr Martin QC opened the case but in his closing submissions (note 11) he changed his tack. He emphasised that the point was whether or not there was a material reduction in APL's assets as opposed to whether these fees and other matters were excessive. He was right to change his tack because it was quite clear on Mr Riches evidence that he did not regard the Credit Agreement terms as being oppressive. He thought they represented good value for money. Having seen the other sources from which Kaluna and/or APL borrowed at the instigation of Mr Riches and/or Messrs Sutton I can well understand why he thought the TFB terms were generous. The reality I suspect is that APL had no choice. It is clear that the proposed re-financing had been hawked round various commercial entities. Mr Riches was once again vague as to the success of such operations. It goes without saying in my view that borrowing from clearing banks would have been cheaper than borrowing from TFB. APL would not borrow from TFB if it could borrow from one of the major clearing banks. Organisations are driven to borrowing from the likes of TFB because they cannot obtain money from the clearing banks. It is clear in my view that the inference to be drawn is that because of its financial position APL would not be able to borrow otherwise than from TFB and TFB set terms which are higher than the clearing banks require. That is a consequence of one's credit status and no more.

NEGOTIATION OF THE LOAN FROM TFB

87. Apparently this started with a barrister in Mr Levy's London Chambers who knew Mr Sutton effecting an introduction in turn to Mr Levy who in turn introduced Mr Sutton and APL to TFB. Mr Levy was in my view plainly the agent to TFB for the purposes of receiving communications and gaining knowledge of the affairs of APL/Kaluna. Mr Martin QC demonstrated that quite convincingly in his cross examination. The key faxed letter of 22^nd February 2001 upon which significant reliance is place by APL/Sutton is the tip of the iceberg. Mr Levy was paid a fee of £300,000 by TFB for introducing the business although he subsequently apparently repaid that when the present litigation arose. He was never paid any fees by Kaluna/APL. I will not refer to the other documents which show that Mr Levy was plainly TFB's agent; they appear from the cross examination of Mr Levy by Mr Martin QC.
88. Initially TFB sought to retain Allen & Overy on the transaction but they felt unable to complete the retainer because they did not know enough about TFB and those behind it.
89. To encourage TFB to lend the £15,000,000 Mr Riches obtained a valuation of APL dated 12^th February 2001 from an organisation called Brand-Finance whose proprietor appears to be one Thayne Forbes. His report suggested that APL had an "indicative equity value" of £42,000,000. This was based upon 4 items. First was Anglo's business plan including projections (another document not shown to me). Second there were property valuations prepared by Hillier Parker and APL's management accounts for 31^st December 2000 and its audited accounts for 3 years to 31^st December 1999. Hillier Parker's valuation was stated to be as at 14^th February 2001 and given the date of the Brand Finance value valuation 2 days earlier presumably there was something on similar lines of an earlier date. It valued the properties at £17,075,000. That did not necessarily include all of the properties.
90. It is clear that it would be impossible in my view to come up with a valuation of the equity of APL in February 2001 of £42,000,000 based on its previous balance sheets (showing insolvency or a low level of non solvency) and the properties with a valuation of £17,000,000. The £42,000,000 therefore can only have come from a "creative" business plan which presumably was created by Mr Riches and/or Mr Sutton. I do not see how anybody could have placed any weight on the Brand Finance value assessment.
91. On 22^nd February 2001 Mr Levy sent various documents to a Mr Turner. He is a chartered surveyor and director of Motcomb Estates Ltd and in such capacity he managed the Reuben Brothers property portfolio. The Reuben Brothers are behind TFB and he was involved in assessing the value to be attributed to the security offered by APL. He was critical of the Hillier Parker valuation because it was a desktop valuation. This was resolved by APL giving security over motor vehicle, plant equipment and investments and the obtaining of Mr Sutton's personal guarantee. This is not disputed. Mr Sutton chose not to give evidence before me despite having provided witness statements supposedly to deal with other issues. I do not believe that that is a basis for him not providing evidence. All the key matters concerning the negotiation of the Compromise Deed and the SPA and the terms of the Credit Agreement and the Security involved him heavily. One would have hoped that his recollection would have been somewhat better than Mr Riches which would have been of assistance. As he has not given evidence where there are matters of controversy as between what he might have said and what TFB's witnesses have said I accept the TFB versions. Thus I accept paragraph 19 of Mr Turner's witness statement as to how the additional security and Mr Sutton's guarantee came into play. It will be seen that the essence of APL's/Mr Sutton's argument is to deny the giving of his guarantee which was required by TFB to strengthen the securities which were being used to raise £15,000,000 as opposed the existing indebtedness of £9,000,000.
92. Mr Turner had a basic understanding of Section 151. He plainly received Mr Riches letter of 22^nd February 2001 because it is referred to in Mr Levy's fax of 22^nd February 2001. That fax sent to Mr Turner enclosed analysis of APL's assets (confirmed by Mr Riches). It will be seen that the extra items amount to nearly £9,000,000 which would have afforded TFB considerable comfort as between the borrowings and the Hillier Parker valuation.
93. The Anglo letter of 22^nd February 2001 is addressed to TFB c/o Hassans. Mr Levy received it and Mr Turner saw it. Both of those were acting on behalf of TFB and it accordingly in my view is therefore constructively aware of all the matters set out in that letter.
94. The first paragraph is non controversial. It enclosed a balance sheet as at 15^th November 2000 confirming the book value of £20,477,000 and total assets of £29,263,000. It is a little difficult to read but that basis includes the £30,000,000 inter company debt although if that figure is of course taken out APL is balance sheet insolvent.
95. The second paragraph of the letter is heavily relied upon by APL/Sutton and it says this:-

"For your information, a condition of the acquisition was that the £30 million of loans from the parent (Loan Account Repsol in the attached balance sheet) was to be paid off as to part and written off as to part, in its entirety, (the final balance to be paid off from the proceeds of the loan to be provided by your company). "

What does this paragraph say? First it wrongly tells TFB that it was a condition of the acquisition that £30,000,000 of loans was to be paid off as to part and written off as to part in its entirety. Second it shows that the final balance was to be paid off from the proceeds of the loan to be provided by TFB. By attaching the balance sheet it shows in my view only one thing namely that the TFB finance is to be used by APL to repay its existing balance sheet indebtedness.

96. Mr Martin QC elicited more information from Mr Levy in cross examination (day 3 page 26 etc). Mr Levy had sworn a witness statement at the time of the summary judgment proceedings in front of Mr Justice Jack where he said that he was never told that the purpose of the advance was to use the funds for the purchase of shares in APL or the discharging of any deferred purchase price. He plainly had some indication by the fax of 22^nd February 2001 but I do not see that that of itself is sufficient to suggest that the re-financing was in respect of the share purchase. Plainly the wording shows the contrary. On day 3 (page 48) Mr Martin extracted the following out of Mr Levy:-

"Q. How is it that the question arises of putting the two of them together? Can you tell us that?

A. Mr Sutton said he needed money in order to refinance his purchase of Repsol and I approached Mr Reuben.

Q. At that stage was a figure mentioned?

A. I seem to recall that 15 million was mentioned, whether a smaller or larger figure was, I do not recall.

Q. Of course you would have understood, when Mr Sutton said that to you, what he was talking about, because, as we have seen, you already knew of the Kaluna transaction, yes?

A. Yes.

Q. So you would have understood Mr Sutton to be saying that he needed to refinance the purchase by Kaluna of the shares, is that correct?

A. I understood that he needed to refinance the purchase of the petrol stations, yes.

Q. But by Kaluna? It was a reference to the transaction.

A. I do not recall any reference to Kaluna."

It is true that Mr Levy vaguely refers in the first part to re-financing the purchase. Equally he vaguely refers to needing to re-finance the purchase of the petrol stations but he knew nothing about Kaluna. Mr Sutton's absence is crucial. The evidence shows direct negotiations between him and the Reubens. Mr Riches did not appear to have a direct role. I do not see that the fax of 22^nd February 2001 and these vague conversations can possibly be said to be sufficient to suggest that TFB were financing the share purchase. I do not see how APL and Mr Sutton can rely upon vague conversations which contradict the clear import of the 22^nd February fax and the documents enclosed. What was being financed was plainly existing indebtedness of APL. Nor did the cross examination of Mr Turner advance the matter any further. He was concerned with the valuation of the properties. He was rightly dismissive of the Brand Finance valuation and it is clear on his unchallenged evidence that the transaction only went through when TFB obtained sufficient margins as a result of the extra properties and assets and Mr Sutton's personal guarantee.

97. Mr Martin QC submits (see note 9 to his closing submissions) that whether the Third Party lender is affected by the illegality depends on his knowledge. He submits that if TFB knew that the loan was to be used in circumstances which infringed Section 151 (whether or not in fact they knew of the infringement) they cannot say that their loan is not part of the unlawful assistance. He submits that it is only if they did not know sufficient of the use to which the loan would be put that they are entitled to say that the borrowers were able to apply the loan for the loan purposes.
98. I accept that analysis but I am wholly un-persuaded that there was anything on the slender material put forward by APL/Sutton to suggest that TFB knew (actually or constructively) that there was a potential or even an actual Section 151 point. I do of course accept that when one looks at the facts and if on the facts as known to them there is an infringement of Section 151 then it is no defence to say that they did not understand that that would be an infringement. However the above represents the totality of the material deployed to fix TFB with knowledge.
99. In my judgment it is woefully inadequate. There is in my view nothing to suggest to TFB that it was doing anything other than lending money to APL to repay an existing indebtedness and provide extra capital for its purposes.
100. Neither side sought advice under Section 151 at this stage. This is hardly surprising. APL/Sutton on their part had been extensively advised on the point earlier (see above) and there was nothing to suggest that TFB were doing anything other than providing £6,000,000 to APL and £9,000,000 to repay its existing indebtedness.
101. In reality that is the end of APL/Sutton's case on the Preliminary Issue on the facts as I found them.

TERMS OF CREDIT AGREEMENT

102. The loan is for a short term until 22^nd August 2001 subject to extension thereafter. The purpose in clause 3 (a) is to apply "the re-financing indebtedness of [APL]…. and for the provision of working capital". Further under clause 3 (b) TFB is not bound to monitor or verify the application of any loan.
103. Default interest under clause 8.1 is 2% a month or part thereof but is to be compounded daily. This gives a rate of approximately 30%. In addition fees are payable of £1,750,000 in monthly instalments of £291,666.66 (clause 16) this represents a fee of in excess of 10% of the borrowing.
104. There is a linkage with a Security Agreement as it is referred to as being in the form substantially as the draft set out in schedule 2.
105. Under clause 11 it was provided that if it was or became unlawful for TFB to give effect to any of the obligations as contemplated by the Agreement or to fund or maintain the Loan then upon informing APL of the unlawfulness APL is obliged to repay the Loan. Mr Todd QC in his closing submissions submitted that if the Agreement was held to be void under Section 151 CA 1985 clause 11 was triggered. That he submitted was a Customer Liability as defined in the guarantee untainted by the unlawful financial assistance so that Mr Sutton remains liable on his guarantee.
106. That in my view is not a correct construction of clause 11. It is designed to cover any illegal acts of TFB not illegal acts of APL. To do so otherwise would in effect circumvent the fundamental principle that infringement of Section 151 makes the transaction in question void. It is well established that upon that principle of illegality the loss lies where it is and monies advanced under a legal agreement cannot be recovered. This clause would entirely circumvent Section 151 and it cannot have been intended so to operate and if it did it too would infringe Section 151. If operated it would simply still allow the loan to take place.
107. Mr Todd QC did not argue that clause 6 of the Sutton guarantee made Mr Sutton independently liable if the Customer Liabilities were avoided under Section 151. He was right not to so argue. I accept Mr Martin QC's submissions that as Mr Sutton is guaranteeing "Customer Liabilities" on the construction the guarantee if in law there are no such liabilities he cannot be liable even as a principal debtor. The drafting will not support such a conclusion.
108. However the wording of the Security may well have an impact in severing part of the £15,000,000 facility (a point which I shall deal with further in this judgment).

TERMS OF THE SECURITY AGREEMENT

109. "Secured Liabilities" are defined as meaning :-

"all present and future obligations and liabilities (whether actual or contingent and whether owed jointly or severally or in any other capacity whatsoever) of the Chargor to the Lender under each finance document except for any obligation which if it were so included would result in this Deed contravening Section 151 CA 1985….."

The charge (clauses 2 & 3) secures the Secured Liabilities.

TERMS OF SUTTON GUARANTEE

110. This was a guarantee for the Customer Liabilities being all monies and liabilities which the customer i.e. APL owed to TFB. It refers to the Credit Agreement. The guarantee makes Mr Sutton a separate principal debtor (clause 6). However as he is the principal debtor for the Customer Liabilities Mr Martin QC submitted that that clause could not be used to recover from Mr Sutton in the event that the Customer Liabilities are held to be void under Section 151 CA 1985 because such a determination means there are no such liabilities.

APL/SUTTON SUBMISSIONS

111. As appeared from APL's skeleton argument the primary argument of APL/Sutton was that Kaluna acquired the shares in APL under the SPA. Under schedule 10 of the SPA Kaluna agreed as principal obligor the due performance of APL's obligations and that was a liability incurred for the purpose of Kaluna's acquisition of the shares in APL. It is accordingly submitted that APL gave financial assistance directly or indirectly for the purpose of reducing or discharging Kaluna's liability under schedule 10 of the SPA and it would therefore have acted in breach of the prohibition in Section 151 (2) (a) (ii) by giving a security which in itself is financial assistance directly or indirectly for the purpose of the acquisition of the shares.
112. Thus it is submitted there are two questions (1) did APL give financial assistance and (2) was it financial assistance given directly or indirectly for the purpose of reducing or discharging Kaluna's liability.
113. This was then supplemented by a submission that APL assisted Kaluna because £9,000,000 of the funds which APL borrowed from TFB under the Credit Agreement and the Security Agreement was used to effect the early repayment of the outstanding balance due to RUK under the Compromise Deed for which Kaluna was liable under schedule 10 of the SPA. Thus it was submitted that it was equally plain that the assistance given by APL to Kaluna was of a financial nature since it resulted in Kaluna being discharged from the liability in the sum of £9,000,000.
114. There is the difficulty of course that the Credit Agreement and the Security Agreement whilst replacing the liability to RUK under the Compromise Deed and the supporting security took place several months after the SPA was completed. There is also the plain difficulty that the share price was only £1 and Mr Martin QC does not suggest that that is a "sham" figure. Indeed he submits to the contrary. It is said that the replacement of the RUK indebtedness of £9,000,000 with the TFB borrowings, is part of the same illegality and the TFB advance is unlawful financial assistance because of the fees which materially reduce APL's assets (and thus being contrary) to Section 152 (1) (a) (iv).
115. It is submitted that because the Security Agreement is financial assistance within Section 152 (1) (a) (ii) and the security replaced the RUK charge the giving of the security at the time of Kaluna's acquisition is unlawful. In that context reliance is placed upon Wyatt "Company Acquisition of owned shares" fifth edition paragraph 11.14.
116. The key for this despite Mr Martin QC's submissions is in my view that it requires me to consider that the documents do not show the commercial reality. It is suggested (paragraph 36 of APL/Sutton's opening skeleton) that the commercial reality is a sale and purchase at £11,000,000 (query £15,000,000).
117. I simply do not accept that that is the correct analysis. There was in my view no such agreement contemplated at any time. The only potential indications of such an agreement are the two flimsy letters to which I have made reference. All the contemporary evidence which was produced in the course of the trial as set out by me shows something entirely different. Kaluna was never in the market of making an offer of £15,000,000 or anything approaching that to buy the APL shares. Its opening gambit was £2,000,000 on the basis that RUK wrote of its £30,000,000 in debt entirely. Even as the transaction progressed there was never any prospect of APL paying anything like £15,000,000. There was a fleeting suggestion of paying £9,000,000 on completion but that never materialised.
118. This commercial reality is not real at all. I do not believe anybody looking at the facts would seriously accept a statement by Mr Riches "we paid £11,000,00 (or £15,000,000) to acquire APL's shares". The reality is that Kaluna was anxious to acquire APL's shares but on the strength of APL having a certain net worth. Equally RUK had two assets to dispose of. It wanted to dispose of its shares but at a price which reflected how its other asset namely the debt due from APL was to be repaid.
119. There is no question of there being an agreement to sell and buy at £15,000,000/£11,000,000 and then the documents being constructed in a different way. The parties entered into a series of discussions and negotiations which led to RUK's two assets being disposed of upon the terms set out in the Compromise Deed and the SPA. To suggest that APL is providing financial assistance is in my view untenable. There were quite clear financial advantages for APL in entering into the Compromise Deed and giving the security to RUK. APL became solvent as a result of the transactions and achieved a write off of its debts of £15,000,000. In those circumstances the decision of APL to give security for the balance is perfectly reasonable.
120. To suggest that by giving security APL is providing financial assistance to Kaluna to lighten its liability under the schedule 10 guarantee is to reverse the status of the principal debtor and surety. Kaluna is supporting APL not the other way round. All APL is doing is agreeing to repay half of its existing indebtedness in exchange for it giving a charge over its assets to secure that repayment. Of course if the true transaction between the parties was as Mr Riches suggested and the documents were then artificially re written so as to conceal that fact that might well be a different case. However that is not the way it has been argued on behalf of APL/Sutton as I have set out.
121. Once again the facts do not support Mr Martin QC's finely balanced arguments. This is reinforced again by the fact that it would make commercial sense for RUK to pass control of APL to Kaluna only if it had protection as regards its outstanding indebtedness. The reasons are obvious and have been set out earlier in this judgment.
122. I do not therefore accept on a factual analysis that there is any financial assistance given to Kaluna. There is a bona fide restructuring of APL's indebtedness with a significant reduction in exchange for a security. Kaluna as the purchaser of the shares and thus controller of APL guarantees APL's liability "to encourage" Kaluna to ensure APL remains in a position to satisfy its primary indebtedness to RUK.
123. The giving of Kaluna's guarantee is a vehicle for RUK to have another transaction which makes commercial sense namely a charge over APL's shares. That supports Kaluna's guarantee which in turn supports APL's obligations to RUK and not the other way round.
124. The same applies factually in my view to the Credit Agreement and the Security document. They are to replace APL's existing indebtedness and securities. They are not designed (on their face they say not) to replace financial assistance used to acquire APL's shareholding. The terms of the Credit Agreement as I have set out above in terms (terms not being challenged as being inaccurate by APL/Sutton) expressly state that the loan is for the purposes of repaying APL's indebtedness and providing the working capital. The working capital part (£6,000,000) is then used by APL for an unidentified purpose. Nevertheless that purpose is not said to be connected to the original share acquisition.
125. Given that analysis of the facts how is it that APL/Sutton contends Section 151 is infringed.
126. I bear in mind the relevant observations of Hoffman J as he then was in Charterhouse Investments Ltd v Tempest Deisels [1986] BCLC 1. The facts there bear a similarity to the present issue in that the acquisition also involved the holding company releasing debt due from it and the target company surrendering tax losses which it had. It was alleged by the purchaser that the agreement to surrender the tax losses infringed Section 54 of CA 1948 (the predecessor but differently worded to Section 151). At page 10 Hoffman J said this:-

"There is no definition of giving financial assistance in the Section although some examples are given. The words have no technical meaning and their frame of reference is in my judgment the language of ordinary commerce. One must examine the commercial realities of the transaction and decide whether it can properly be described as the giving of financial assistance by the company bearing in mind that the section is a penal one and should not be strained to cover transactions which are not fairly within it "

127. In effect what he is saying is that if a transaction has a lawful and bona fide purpose the court should not strain the section to render the transactions illegal. The consequences of the plea of Section 151 are severe. They were summarised by Mr Sheldon QC in Hill v Tyler [2005] 1 BCLC 41 at paragraph 66. It is accepted by Mr Todd QC that if APL/Sutton's contentions are correct TFB cannot recover (subject to a blue pencil argument to which I shall refer to in this judgment below) any of the monies it advanced. In addition on the wording of the guarantee Mr Sutton is consequentially released and APL is not under an obligation to repay any of the £15,000,000 it borrowed although it was used (1) to repay the RUK indebtedness and (2) to provide working capital for its own benefit.
128. In addition of course APL takes the benefit of the Deed of Compromise in that it had secured a reduction in its indebtedness of £15,000,000. This was not illusory; it turned APL from an insolvent company into a solvent one.
129. The main platform for APL's submissions is the Court of Appeal decision in Chaston v SWP Group Plc [2003] 1 BCLC 655. The starting point is the judgment of Arden LJ starting at paragraph 31. She stated that the "general mischief" of Section 151 was to stop the resources of the target company and its subsidiaries being used directly or indirectly to assist the purchase financially to make the acquisition. The reason for this is that it might prejudice the interests of the creditors of the target group and the interest of any shareholders who accept the offer to acquire their shares or to whom the offer is made.
130. Once again as in Section 54 CA 1948 there is no definition of financial assistance in Section 152. Paragraph 32 is important:-

"Thus although section 152 proscribes a number of forms of financial assistance, it does not define the words "financial assistance". It is clear from the authorities that what matters is the commercial substance of the transaction: "The words 'financial assistance' have no technical meaning and their frame of reference is the language of ordinary commerce" (see per Hoffmann J in Charterhouse v Tempest Diesels [1986] BCLC 1, approved by the Court of Appeal in Barclays Bank plc v British & Commonwealth Holdings plc [1996] 1 BCLC 1 at 40). This approach was confirmed by Lord Hoffmann (with whom the other members of the House of Lords agreed) in a recent revenue case: MacNiven (Inspector of Taxes) v Westmoreland Investments Ltd [2001] STC 237 at 254. In the relevant passage, Lord Hoffmann usefully draws a distinction between the expression "financial assistance", which conveys a commercial concept, and other words used in this group of sections which by contrast have a recognised legal meaning:- "

"The distinction between commercial and legal concepts has also been drawn in other areas of legislation. So, for example, the term 'financial assistance' in s.151 of the Companies Act 1985 has been construed as a commercial concept, involving an inquiry into the commercial realities of the transaction (see Burton v Palmer [1980] 2 NSWLR 878 at 889-890 and Charterhouse Investment Trust Ltd v Tempest Diesels Ltd [1986] BCLC 1). But the same is not necessarily true of other terms used in the same section, such as 'indemnity'. As Aldous LJ said in British and Commonwealth Holdings plc v Barclays Bank plc [1996] 1 WLR 1 at 14:

'It was submitted that as the words 'financial assistance' had no technical meaning and their frame of reference was the language of ordinary commerce, the word 'indemnity' should be similarly construed. The fallacy in that submission is clear. The words 'financial assistance' are not words which have any recognised legal significance whereas the word 'indemnity' does. It is used in the section as one of a number of words having a recognised legal meaning.'

I would only add by way of caution that although a word may have a 'recognised legal meaning', the legislative context may show that it is in fact being used to refer to a broader commercial concept."

131. I have to bear in mind the mischief and ask in what way APL's assets and resources have been used to assist Kaluna's acquisition. The only item identified by Mr Martin QC was the giving of the charge to RUK as security for APL's reduced indebtedness. This (to echo paragraph 32 of Arden LJ's judgment) ignores the commercial substance of the transaction. Mr Riches might say repeatedly that the commercial substance of the transaction is a £15,000,000 purchase but it was nothing of the sort. The commercial substance of the Deed of Compromise was a reduction of APL's indebtedness by £15,000,000 in exchange for security. It is true I accept that it was linked to the SPA but the SPA did not involve the use of APL's resources. It merely gave RUK the Kaluna guarantee. I do not see how the giving of the security by APL for its reduced debt can be viewed in isolation which is what APL/Sutton wish to achieve. It gave security as a price for a reduction of its debt.
132. Mr Martin QC submits that the giving of that security falls within Section 152 (1) (ii) CA 1985. I do not agree. The giving of the security is not financial assistance as defined in Section 151; it was the price APL had to pay for obtaining a £15,000,000 reduction in its debt. As I have said this achieved a substantial benefit to APL. Ultimately the reduction of the RUK indebtedness enabled APL when under the control of Kaluna to raise another £6,000,000 from TFB on the re-financing. None of this would have been possible but for the restoration of its balance sheet to solvency by writing off half of its RUK debt. It does not seem to me that it can be said that the giving of the security for the reduced debt is financial assistance for the purposes of Section 151 CA 1985.
133. Mr Martin QC also relies on paragraphs 38-39 which provide as follows:-

"The first issue on this appeal is whether the incurring of liability to pay the fees to D&T or the payment of those fees constituted "financial assistance" for the purpose of section 151. Although it does not clearly so appear, it would seem that the judge concluded that there was financial assistance in the circumstances of this case. It is clear from the Charterhouse case as approved by this court in the British & Commonwealth case that the test is one of commercial substance and reality. Looking simply at the facts, the judge found that the payments were "to facilitate the progress of the negotiations and to enable SWP to conclude its due diligence exercise: and having done so, then to make up its mind whether or not to acquire the shares in DRCH." (judgment, paragraph 187). As a matter of commercial reality, the fees in question smoothed the path to the acquisition of shares. There was no provision in the agreement for any benefit to be given to the DRC Group. What the DRC Group was looking for was the spin-off benefits of the acquisition. The DRC Group had financial difficulties and it would be joining a larger group which saw a future for it. However, the negotiations appear to have been solely concerned with the actual terms of the acquisition, for example, as to the giving of warranties by the selling shareholders.

Mr Cunningham argues persuasively that we should take into account that section 151 imposes criminal liability. That is so, but the effect is as Hoffmann J said in the Charterhouse case only that the language must not be strained as to include transactions not fairly within it. Moreover, the term "financial assistance" is clearly established to be a commercial concept. Accordingly the question whether financial assistance exists in any given case may be fact-sensitive and not one which can be answered simply by applying a legal definition. The question is whether from a commercial point of view the transaction impugned amounts to financial assistance. If the company's participation in the transaction meets that test, no straining of the statutory language occurs."

134. He submits that the giving of the security by APL "smoothed the path to the acquisition of the shares". I do not see Arden LJ as introducing some new construction of Section 151 – 152. In my view she is saying that on the facts the fees in question was as a matter of commercial reality financial assistance. Looking at the present case to isolate the security is to ignore commercial reality. APL have benefited substantially from the transaction. I accept of course that detriment is not required vis a vis APL for the purpose of Section 152 (1) (a) (i) but that does not mean that one should ignore in deciding whether an arrangement was of commercial advantage as opposed to financial assistance the substantial benefits accruing to APL by reason of the Compromise Deed. It arises out of the failure of APL/Sutton to address the commercial reality of this case. The commercial reality is as I have said that RUK were trying to realise two assets namely its debt and its shares. There is no smoothing of the path to enable Kaluna to pay £1. That consideration represents the net worth of APL after the genuine restructuring of its liabilities to RUK. Without that restructuring of course APL would have been insolvent and Kaluna would not have even paid a £1. I do not regard the "increase" to a £1 as being significant.
135. Finally Mr Martin prayed in aid an observation in Wyatt "Company Acquisition of Owned Shares" (fifth edition) paragraph 11.14 which states:-

"An example of a giving of security which falls within sub-para (ii) is where a subsidiary is indebted to its parent company on an unsecured basis, and a third party offers to buy the subsidiary on terms that the subsidiary's indebtedness will be paid off over a period of time after completion of the sale. If the parent now wishes to secure its future position by taking a charge over assets of the subsidiary, the giving by the subsidiary of that charge will constitute a giving of financial assistance for the purpose of the proposed acquisition of its shares."

136. No authority is provided for that proposition. It is in my view contrary to a number of authorities cited by Mr Todd QC. It is well understood that academic opinion is to be distinguished from "argued tough law" (Cordell v Second Clanfield Properties Ltd [1969] 2 Ch 9) (even when the Judge is also an author).
137. Further I note that Buckley on the Companies Acts (leading editor Arden LJ) has been substantially re-written in the light of the Chaston decision (see paragraphs 151.9 A and 151.9 B). What is significant however is that 151.10 is not altered in the light of the Chaston case and still states (note 3) that the repayment of a debt which is properly due from the company does not constitute the giving of financial assistance. Reference is made to Armour Hick Ltd v Whitehouse [1980] 1 WLR 1520 at 1524 G - 1525 C. That itself refers to the decision of Schriener J in Gradwell (PTY) v Rostra Printers Ltd [1959] (4) SA 419. In the Gradwell case an offer was made of £42,000 for the shares and the loan account that was then outstanding to the parent company less amounts owed to lenders on first mortgages. An analysis showed that £40,258 was owed on the loan account and taking into account the higher securities the amount actually paid was less than that amount. It is true as the Judge observed that the repayment of the loan account would help the purchaser to effect the apparent purchase but the repayment of the debt was held not to infringe the provisions of Section 86 (2) CA 1926. The wording is virtually the same as Section 152 (1) (a) (i).
138. It seems to me as a matter of common sense that if it is lawful for a company to repay its own indebtedness and there is a genuine commercial justification it must also equally be lawful to the company to assist that repayment by providing security. APL achieved considerable assistance in repaying its debt by the reduction by £15,000,000. It also of course received assistance from Kaluna by Kaluna's injection of £2,000,000. I cannot as I have said see how the decision of APL to give a charge to RUK as security for the balance of the £15,000,000 can go anywhere towards the suggestion of financial assistance for Kaluna's purchase.
139. I am reinforced in that view in my opinion by the decision of Wellington Publishing Company Ltd [1973] 1 NZLR 133. In that case the target company raised money (including by raising a loan on security of the company's assets). Those were then used to declare lawful dividends declared to the takeover shareholder. That was held not to infringe Section 62 CA 1955 (the New Zealand Statutory equivalent). The giving of lawful dividends was just an incident of the company activities as the raising of lawful loans and the repayment of lawful debts. In the present case it is not said that any of the transactions were not genuine. For the reasons that I have already set out extensively in this judgment they all made commercial sense to APL.
140. In his closing submissions Mr Martin QC attacked the Credit Agreement and the Security Agreement by two routes.

ROUTE ONE

141. This is the allegation that the APL charge to RUK was financial assistance within Section 152 (1) (a) although there was no material reduction in its assets. It is said that TFB's funds were used in part to discharge the balance of APL's indebtedness.
142. In my view this argument fails for two reasons as set out in this judgment. First I do not accept that the giving of the security was financial assistance. Second I do not accept that TFB had knowledge that its monies were being used for replacement of securities which were financial assistance. Mr Martin QC acknowledged that TFB would have to have knowledge for the purpose of fastening liability on it for route one.

ROUTE TWO

143. Route two involves a finding that the guarantee given by Kaluna in the SPA was liability incurred for the purpose of its acquisition of the shares in APL and that APL's repayment of its outstanding indebtedness discharged the guarantee and that amounted to financial assistance to Kaluna. It is then submitted that the arrangements by APL to secure funding to repay the RUK loan and thereby provide financial assistance to Kaluna constituted financial assistance. In this case it is submitted that the TFB loan involved a material reduction and that Section 152 (1)(a)(iv) and is therefore infringed because TFB knew the reason for the loan and so was party to the illegality.
144. In my view this is unsustainable for a number of reasons. First, the repayment of the APL debt is not a financial assistance to Kaluna; it is repayment of APL's reduced indebtedness. The security it gave similarly was not financial assistance. APL's borrowing did involve an expense and I accept that would be a substantial reduction in its assets if it was part of a scheme involving financial assistance. It was not however financial assistance. It was a commercial transaction engineered by Mr Sutton/Mr Riches for their own benefit and the benefit of APL realising funds for other purposes and repaying the genuine reduced balance of the RUK indebtedness and its supporting security. The transaction was plainly of advantage to APL as Mr Riches evidence showed. Its commercial purpose was to benefit APL not to provide financial assistance.
145. Finally of course I have already determined that TFB was not aware of the alleged underlying illegality for the reasons set out earlier in this judgment.
146. I accept that Mr Sutton's guarantee would fall subject to the point referred to in the next part of the judgment if the Credit Agreement and the Security was held to be invalid.

BLUE PENCIL

147. Had this arisen I would have had no hesitation in view of the definition of secured liabilities in the Security Agreement determining that TFB would have been entitled to recover in any event the £6,000,000 which was advanced totally unconnected with the supposed unlawfulness (and a pro rata fee). Equally I would have held that Mr Sutton would have been similarly so liable on his guarantee. However for the reasons set out in this judgment this does not arise.
148. Accordingly I determine that neither the Credit Agreement nor the Loan Agreement infringes Section 151 CA 1985.
149. I will hear what Counsel has to say about the consequential application for an interim payment and the outstanding costs issues (if any).