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URL: http://www.bailii.org/ew/cases/EWHC/Ch/2013/238.html
Cite as: [2014] 1 CH 359, [2013] WLR(D) 71, [2014] CH 359, [2013] EWHC 238 (Ch), [2014] 2 WLR 1129

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		Neutral Citation Number: [2013] EWHC 238 (Ch)
		Case No: HC11C03862

IN THE HIGH COURT OF JUSTICE
CHANCERY DIVISION

Royal Courts of Justice
The Rolls Building
London, EC4A 1NL

14/02/2013

B e f o r e :

MR JUSTICE NORRIS
____________________

Between:

	Highbury Pension Fund Management Company (A Liberian Company) Cezanne Trading (A BVI Company)	Claimants
	- and -
	Zirfin Investments Limited Golden Bay Securities Mandarin International Holdings Corporation Columbia Overseas Trading SA Cantala Securities Corporation Barclays Bank Plc The Serious Fraud Office Achilleas Michalis Kallakis	Defendants

____________________

Adam Deacock (instructed by Davenport Lyons) for the Claimants
Giles Bedloe (instructed by CJ Jones) for the 1st, 2nd, 3rd, 4th, 5th and 8th Defendants
Charlotte Cooke (instructed by Freshfields Bruckhaus Deringer LLP) for the 6th Defendant
Richard Salter QC & Penny Small (instructed by The Serious Fraud Office) for the 7th Defendant
Hearing dates: 9-10 October 2012
____________________

HTML VERSION OF JUDGMENT
____________________

Mr Justice Norris:

The present application was made to me sitting as a judge both of the Chancery Division and of the Southwark Crown Court. The questions raised by this application are:-

a) Does the doctrine of marshalling permit the marshalling of securities held over property that does not belong to the common debtor? In particular, is a creditor of a guarantor entitled to marshal (or be subrogated to) securities which have been granted to another creditor of the guarantor by the primary debtor liable under the guaranteed debt?

b) Does the answer depend in any way on the rights which the guarantor has as against the holder of the guarantee or as against the primary debtor?

c) Does any such claim to marshalling or subrogation take precedence over prohibitions contained in the Restraint Order, either as of right or by virtue of the exercise of some discretion of the Crown Court?

The facts by reference to which these questions fall to be answered are not in dispute.

In June 2004 Barclays Bank Plc ("Barclays") lent money to a BVI company called Zirfin Investments Limited ("Zirfin") to fund the acquisition and refurbishment of a property at 31 Brompton Square Knightsbridge ("No 31"). The loan was secured by a charge granted by Zirfin over No 31 ("the Zirfin Charge").

Subsequently, Barclays made loans to four companies related to Zirfin. The loans in each case were secured by a legal charge over the relevant company's single asset, in each case a flat or house in central London. I will refer to these borrowers as "the Affiliates", and to "the Affiliates' Loans", "the Affiliates' Charges" and "the Affiliates' Properties".

As additional security for the Affiliates' Loans on the 1 August 2008 Zirfin gave Barclays a guarantee ("the Zirfin Guarantee") which was itself secured by the Zirfin Charge. Two terms of the Zirfin Guarantee are material. First, clause 8 said:-

"This Guarantee is to be applicable to the ultimate balance that may become due to the Bank from [an Affiliate] and until payment of such balance no Guarantor shall be entitled to participate in any security held or money received by the Bank on account of such balance or to stand in the Bank's place in respect of any such security or money".

Secondly, by clause 12 it was provided:-

"The Bank is to be at liberty without thereby affecting its rights hereunder at any time and from time to time… to give up modify exchange or abstain from perfecting or taking advantage of or enforcing any security or guarantees or other contracts or the proceeds of any of the foregoing… and to realise any securities in such manner as the Bank may think expedient".

In October 2008 Zirfin borrowed £2,000,000 ("the Highbury Loan") from Highbury Pension Fund Management Co (a Liberian Company) ("Highbury"). This was secured by a second charge granted by Zirfin over No 31 on the 27 October 2008 ("the Highbury Second Charge").

On the 19 December 2008 Cezanne Trading (another BVI company) ("Cezanne") lent Zirfin €1,049,844 secured by a third charge on No 31 ("the Cezanne Charge"). (For simplicity I will generally refer simply to "Highbury", intending to include Cezanne). For the purposes of this hearing both the Highbury Second Charge and the Cezanne Third Charge are to be treated as arm's length commercial transactions.

There was general default by Zirfin and the Affiliates which led to Barclays making demand for repayment of all of its loans, and a demand under the Zirfin Guarantee. On the 16 September 2011 receivers who had been appointed by Barclays sold No 31. The net proceeds (after allowing for a contentious deduction of £3,000,000 by the receivers in respect of the costs of realisation of the security) came to approximately £28,000,000. That sum was sufficient to discharge what Zirfin had borrowed from Barclays, leaving approximately £7,000,000 over. This amount ("the Surplus") was applied in part satisfaction of Zirfin's liability under the Zirfin Guarantee of the Affiliates Loans (because that liability was also secured by the Zirfin Charge). Barclays says that there remains a shortfall due from the Affiliates (though it is not necessarily the case that every Affiliate owes something).

Had the Surplus not been so taken it would have been available to satisfy (entirely) the sums secured by the Highbury Second Charge and the Cezanne Third Charge. As it is, Zirfin's liability to Highbury and to Cezanne remains outstanding, the Surplus having been used to reduce the liabilities of the Affiliates to Barclays. If matters so remain then Highbury and Cezanne are in practice no longer secured creditors (their claims under the Highbury Second Charge and the Cezanne Third Charge having been trumped by Barclays' rights under the Zirfin Charge).

I must now take up a second theme. Achilleas Kallakis ("Mr Kallakis") was charged on indictment with conspiracy to defraud, with using false instruments and with fraud itself on an indictment containing 23 separate counts. On the 22 April 2009 he was made the subject of a Restraint Order under the Proceeds of Crime Act 2002 ("POCA"). His Honour Judge Morris' order forbade Mr Kallakis from disposing of or dealing with any of his assets worldwide. For the purposes of the Restraint Order the term "assets" included any asset over which Mr Kallakis had the power (directly or indirectly) to dispose of or deal with it as if it were his own.

This provision has caused some difficulty. Mr Kallakis is a "consultant" to the "Hermitage Syndicated Trust" (an entity mentioned in the documents but whose precise nature is obscure). The Hermitage Syndicated Trust reputedly owns the shares in Zirfin and the Affiliates. The Serious Fraud Office ("the SFO") regards the shares owned by the Hermitage Syndicated Trust as falling within the extended meaning of the word "assets" for the purposes of the Restraint Order (and in September 2010 obtained a variation of the Restraint Order specifically to prohibit Mr Kallakis from disposing of or dealing with any property held in the name of the Hermitage Syndicated Trust). Moreover, the SFO regards the assets held by Zirfin and the Affiliates as also subject to the Restraint Order, and No 31 (along with another property in Brompton Square owned by one of the Affiliates) is specifically mentioned as subject to the prohibition contained in the Restraint Order.

The approach of the SFO is not agreed by Highbury, Cezanne, Zirfin or the Affiliates to be correct. For the purposes of the hearing before me it has been agreed by all parties that it should be assumed:-

a) That the assets of Zirfin and the Affiliates are to be treated as "realisable property" caught by the Restraint Order: but

b) It is not to be assumed that there is a general piercing of the corporate veil (with everything being treated as belonging to Mr Kallakis), on which assumption Zirfin and the Affiliates are to be treated as separate debtors.

It is in this context that the questions I have identified arise.

Where a guarantor is called upon to discharge the obligation of a principal debtor to a creditor, equity adjusts the rights between the parties. Thus, subject to the terms of any contract governing the position, as guarantor of the obligations of an Affiliate to Barclays, Zirfin had

a) A right to call on the Affiliate to pay the debt in exoneration of Zirfin's liability under the Guarantee:

b) A right to an indemnity from the Affiliate in respect of liabilities discharged:

c) A right of contribution from other Affiliates who are co-guarantors with Zirfin:

d) A right to be subrogated to the security rights of Barclays in respect of that Affiliate.

Highbury says that a similar position obtains as between the holders of securities granted by Zirfin. The key equitable principle is that of marshalling. This operates where a debtor (D) owes money to two creditors (C1 and C2), and where C1 has security over two properties (or some other call on two funds) (S1 and S2) but C2 has security over (or a right of resort to) only one (S1). In those circumstances C1 has a choice of recovering his money out of either S1 or S2. If C1 chooses to enforce the security over (or resort to) S2, then that leaves S1 available for C2. But if C1 chooses to enforce security over (or resort to) S1, then C2 has nothing to look to, and the security over S2 is not relied on at all, and becomes available to unsecured creditors (amongst whom C2 is now numbered). In that situation, in order to do justice equity applies a principle of maximum distribution and by a process akin to subrogation in effect gives C2 the benefit of C1's unused security over S2, thereby ensuring that both C1 and C2 are paid by D as far as possible.

The doctrine (and its ramifications) was explained by Patten LJ in Szepietowski v SOCA [2011] EWCA Civ 856 in these terms (at paragraph [2]):-

"So in a case where two or more creditors are owed money by the same debtor but only one of them has a charge over more than one of his properties equity empowers the court to marshal the securities so that the creditor with a choice of security satisfies his claims so far as possible out of the proceeds of the security over which the other creditors have no claim. This equitable principle does not extend to compelling a first mortgagee to realise any particular security in preference to another. He is entitled to realise them in whatever order he chooses. What amounts to a principle of maximum distribution therefore takes effect by permitting a second chargee of property which is realised and utilised by the first chargee to rely on the benefit of the surplus (and possibly unrealised) security of the first chargee over other property of the debtor in satisfaction of his own claim. He is in effect (but not as a matter of law) subrogated to the first chargee's rights under that security to the extent of the debtor's secured liabilities to him…".

This is the most modern authoritative formulation of the principle. It identifies as two of the necessary conditions (a) two or more creditors being owed money "by the same debtor"; and (b) only one of those creditors having a charge "over more than one of his [sc. the debtor's] properties" (i.e. the claims of the singly-secured and doubly-secured creditors are against two funds, but the two funds must be funds of the same debtor).

This case calls for a consideration of the second of those conditions. Suppose that the creditor who is doubly-secured in respect of the debtor's liability has one charge over a property belonging to the debtor and another charge over a property owned by somebody else who is also liable for the debt? Can marshalling work in those circumstances? They are the circumstances here. The Surplus was taken from Highbury by Barclays because Zirfin was liable (together with the Affiliates) for the sums due to Barclays from the Affiliates: and Barclays held as security for the due payment of those sums both a charge over No 31 and charges over the Affiliates Properties. Mr Deacock (Counsel for Highbury) submits that the mechanism of marshalling can still operate so as to make available to Highbury the securities held by Barclays over the Affiliates' Properties, thereby enabling Highbury to recover from those Properties the amount it otherwise would have obtained from the Surplus.

The foundation of this argument is one of the early authoritative statements, namely, that of Lord Eldon in Ex parte Kendall (1811) 17 Vesey Jun 514.

Five partners conducted a banking business until one of them (Devaynes) died in 1809. Thereafter the four surviving partners continued the business (without opening any new books) until they became bankrupt in 1810. The claim was by creditors of the four surviving partners who proved in the bankruptcy. They argued that no dividend should be paid in the bankruptcy until such claims as could be brought against Devaynes' estate (e.g. by people who were owed a debt at the time of Devaynes' death and were still owed that debt) had been brought (thereby reducing the claims against the bankruptcy estate). The Respondents to the petition suggested in argument:-

"The object of this petition is to relieve the creditors of the bankrupt by marshalling the assets of Devaynes."

Lord Eldon identified the key issue in these terms (at p.518):-

"The real question upon the petition is, whether at the instance of the creditors of the four bankrupts, suggesting, that there are creditors of the four, who are also creditors of the five, I ought to stay the dividend; until payment shall have been recovered out of the Devaynes' estate by those creditors, who are creditors upon both funds. That the creditors of the four have a clear interest to turn those creditors upon Devaynes' estate is evident upon the circumstances: but whether they have the right, whether it is just that they should do so, is a very different consideration".

Lord Eldon then examined various considerations and came to this question (at p.520):-

"Another question is, whether, if this was a Bill, filed by the creditors of the four, they would have a right to insist upon the benefit, sought by this Petition. We have gone this length: if A has a right to go upon two funds and B upon one, having both the same debtor, A shall take payment from that fund, to which he can resort exclusively; that by those means of distribution both may be paid. That course takes place, where both are creditors of the same person; and have demands against funds, the property of the same person. Here, it is true, there may be creditors, who have demands against the four, and others who have demands against the one: but it was never said, that, if I have a demand against A and B, a creditor of [B*] shall compel me to go against A; without more; as, if B himself could insist, that A ought to pay in the first instance; as in the ordinary case of… principal and surety; to the intent, that all the obligations arising out of these complicated relations, may be satisfied: but, if I have a demand against both, the creditors of B have no right to compel me to seek payment from A; if not founded upon some equity, giving B the right for his own sake to compel me to seek payment from A. If therefore I had before me a case in which it was clear, that the creditors of the five could go against the estate of Devaynes and the four, yet, if it was not also clear, that the latter could have turned those creditors against the other fund, it does not advance the claim, that without such an arrangement they will get less. Unless they can establish, that it is just and equitable, that Devaynes estate should pay in the first instance, they have no equity to compel a man to go against that estate, who has resort to both funds".

There are three points to make about that passage. First the reporter's punctuation of that passage does not make it easy to understand. Second, the citation is taken from the nominate report, the reprint in the English Reports containing an error at the point I have marked with an asterisk. Third, this passage is taken from the first judgment of Lord Eldon. He delivered a second judgment on the same issue (the report begins at p. 522 of Vesey Jun. and is separately reported in Roses's Cases in Bankruptcy at p.71). It is clear that the argument on this occasion was about whether creditors who had the alternative pursuing A or B could be compelled to sue A first.

The words of Lord Eldon can, I think, be applied to the facts before me in this way:-

"It has never been said that if Barclays has a demand against the Affiliates and Zirfin, then Highbury can compel Barclays to go against the Affiliates; at least without something more, such as if Zirfin could insist that the Affiliates ought to pay in the first instance, as would be the case between principal and surety. Rather, if Barclays has a demand against both the Affiliates and Zirfin, Highbury has no right to compel Barclays to seek a payment from the Affiliates unless it is founded on some equity giving Zirfin the right (for its own sake) to compel Barclays to seek payment from the Affiliates".

Counsel for Highbury submits that this passage addresses the principle of marshalling, states a condition generally required before the principle can be applied, and then identifies an exception to that general condition. He submits that although the general rule is that two or more creditors must be able to resort to two funds belonging to the debtor, this general rule is subject to an exception where (to adopt the terms of Counsel's skeleton argument) "there is a common debtor who owes money to both creditors and he has a right, as between himself and a debtor who owes money to only one creditor, to ensure that the latter bears the ultimate liability". Counsel submits that if one is to deal equitably with the Surplus it must be recognised that (a) Highbury's Second Charge over No.31 and its access to the Surplus is its only security for its direct lending: whereas (b) Barclays' claim to the Surplus under the Zirfin Charge over No.31 relate to Zirfin's liability as guarantor of the debts of the Affiliates, in respect of which Barclays also has direct first charges over the Affiliates' Properties. He says that there is an equity to compel the Affiliates to take the burden as between Zirfin and the Affiliates, that as a creditor of Zirfin Highbury has the same equity to compel the Affiliates to take the burden, and that (in order that all the obligations arising out of these complicated relations may be satisfied), the securities held by Barclays and by Highbury can be adjusted so that the Affiliates' Properties do take the burden. He acknowledges that there is no decided case in England and Wales in which this principle has been so applied, but he relies on statements in text books that it should apply, and decisions in other jurisdictions in which the principle has been so applied.

Barclays neither consents to nor contests this claim, provided that any relief which is granted in consequence of accepting the argument is expressed to be subject to and without prejudice to Barclays' rights to enforce its securities generally in such manner and at such time as it thinks fit, in recognition of the principle stated in Re Bank of Credit and Commerce International SA 8 [1996] Ch 245 in these terms (at p272):-

"[Marshalling] is never allowed to delay or defeat the creditor with several securities in the collection of his debt and the enforcement of his securities. He is allowed to realise his securities as he pleases".

The passage I have cited from the judgment of Patten LJ in Szepietowski (supra) makes the same point.

Zirfin and the Affiliates take a neutral stance on Highbury's claim. They submit only that if the principle of marshalling (or subrogation) is to be applied then it ought not to apply to the Affiliates' Properties generally if the equity in any one of the Affiliates' Properties is sufficient to protect Highbury. It was explained at the hearing that this point is probably academic since (a) Highbury and Cezanne are only seeking to marshal securities to enable the recovery of their combined claims of approximately £3,000,000: (b) one of the Affiliates (Mandarin) had its primary liability (secured by a first charge over the property which it owned) of £5,090,000 substantially discharged out of the Surplus: and (c) as a matter of commercial reality the property of none of the other Affiliates would be looked to (having regard to their respective values). I shall therefore not address that point unless (following this judgment) it becomes a real issue.

The first of the text book authorities on which Mr Deacock relies is Halsbury's Laws (4^th edition Reissue) at volume 16(2) paragraph 759 which states:-

"Generally, three conditions must be satisfied in order that the doctrine of marshalling maybe applied as regards claims by creditors: (1) the claims must be against a single debtor; if one creditor has a claim against C and D and another creditor has a claim against D only, the latter creditor may not require the former to resort to C unless the liability is such that D could throw the primary liability on C, for example where C and D are principal and surety…" (Emphasis supplied).

The authority cited for that proposition is Ex parte Kendall itself. The passage is to be found in the 1^st edition of Halsbury's Laws (1910) at Vol. 13 p.142 para.165.

In that passage, if you substitute "Barclays" for "one creditor"/ "the former", "the Affiliates" for "C", "Zirfin" for "D" and "Highbury" for "another creditor"/ "the latter", then you have then you have the facts of this case.

It is to be noted that the same work treats the matter in more or less the same way in the 5^th edition, volume 77 paragraph 632 where it is stated:-

"The doctrine applies where one creditor has a charge or lien on two funds and another has a charge or lien on only one of the funds… there must, however, normally be two funds or securities, both originally the same owner's property. Possibly there may be some cases where the two securities have not been actually subject to the same ownership. But at least the owners of the security against which the claim is made must not be entitled to throw the paramount liability on the claimant's security…"

The second text on which Mr Deacock relies is a passage in Meagher, Gummow and Lehane's "Equity" (4^th edition). In paragraph 11-040 the editors state the general rule that the claims of the single and double claimants lie against two funds, but they must be funds of the same debtor. Paragraph 11-045 then continues:-

"This rule is subject to the qualification, implicit in the words of Lord Eldon LC in Ex parte Kendall … that, even if funds belonged to different parties, where there is an obligation recognised in equity upon the owner of the fund charged once to the owner of the fund charged twice, to bear the burden of all charges as between themselves, equity will enforce that duty at instance of the second chargee of the doubly charged fund; it will do this by permitting marshalling against the single funds charged to the double chargee even though the chargor is another person to the chargor of the doubly charged fund…Thus if one creditor has a claim against X and Y and another creditor has a claim against Y only, the latter cannot require the former to resort to X in the first instance, unless Y could throw the primary liability on X, as where X and Y are principal and surety."

The authorities relied on are from the United States and from Canada.

The third text on which Mr Deacock relies is a passage from "The Modern Law of Guarantee" (English edition) by O'Donovan and Phillips at paragraph 11-40. This says:-

"In the absence of independent and separate equities, the right of marshalling can only apply where the creditors have a common debtor and both funds are derived from that common debtor. This general rule is qualified where there is an independent equity which requires one debtor to pay the debts of another. In this situation, it does not matter that there is not one common debtor because the court will enforce the duty of the principal debtor to exonerate the secondary debtor by subjecting the principal debtor's funds to the discharge of the debt of the secondary debtor. In other words, it is sufficient for the doctrine of marshalling that, as between the persons interested, the two debts ought to be paid by the same person even though that person may not be directly liable to the creditors for the two debts. Marshalling is therefore applicable to guaranteed debts so that upon demand being made upon the guarantor, the creditor can be compelled to satisfy itself from the security which it holds."

By way of authority for these propositions the authors draw heavily upon American cases and upon the analysis in Meagher, Gummow and Lehane. My attention was not directed to any passage to the same effect in Andrews & Millett "Law of Guarantees" 6^th edition

The first case is the Canadian decision in Brown v Canadian Imperial Bank of Commerce (1985) OR (2d) 420. In that case Brown (C2) had a third mortgage over No.24 (S1) granted by the borrower (D). Imperial (C1) had a second mortgage over No.24 (S1). Their mortgage secured the liability of D under a guarantee of a debt due to Imperial from X. Imperial had claims against another fund arising under a Court order (S2) belonging to X in respect of X's debt. No.24 (S1) was sold and Imperial (C1) received $175,000 (which satisfied D's liability under the guarantee and discharged the debt due from X that was also secured by the Court fund). This left the Court fund (S2) untouched but meant that Brown got nothing out of No.24 (S1). Southey J considered that because D was the surety and X was the principal debtor D could throw the primary liability for the payment of $175,000 on to X, and this meant that it did not matter that Brown was claiming an interest in the Court fund (S2) and not in other property owned by D. He said that the exception to the general rule that there must be a single debtor for marshalling was fulfilled. He applied an authority from the Supreme Court of Pennsylvania which stated:-

"Here is a surety, whose money has been applied in payment of the debt of his principal, to the exclusion of his own proper creditors. That he would be entitled to come in, by way of substitution, upon the estate of the principal is everyday equity: and I think it equally clear that his creditor, who has suffered by the appropriation of a fund which otherwise would have been available for the discharge of his claim, may well ask to stand upon this equity, to the extent of the deprivation to which he has been subjected".

The debtor whose property was taken (D) had a right to require the other debtor (X) to pay in the first instance: and if that right had been invoked there would have been no resort to No 24 (S1). So Southey J allowed Brown (C2) to be subrogated to the claims of Imperial (C1) to the Court fund (S2)

The second decision is that in Sarge v Cazihaven Home Pty (1994) NSWLR 658. Young J began by stating the general rule that:-

"There is no doubt that, at least as a general rule, the doctrine of marshalling only operates in relation to securities given by the debtors themselves. That is, there must be a common debtor…".

He then noted the apparent exception to the rule, described in the American jurisprudence in these terms

"The general rule that assets will be marshalled only among creditors of the common debtor is subject to some apparent exceptions, which, however, are within its spirit. Where proof is made of independent equities from which arise a duty on the part of one debtor to pay in exoneration of another, the court will enforce that duty by subjecting the fund of the principal debtor, to give effect to the equities in favour of the creditors of that debtor who is only secondarily liable for the debt".

After considering the passage from Meagher, Gummow & Lehane and the decision in Brown (both cited above) Young J concluded:-

"Although there is no English, Australian or New Zealand authority which develops the point to the same extent as the Canadian and American decisions, it seems to me that the exceptions to the common debtor rule as stated in Meagher, Gummow & Lehane, and the Canadian and American textbooks apply in Australia… the right will only arise where there is an equity and there will only be an equity where there is a duty on the part of one debtor to pay the debts of another. The right does not arise merely because the court as a matter of abstract justice thinks that it ought to apply".

That decision was followed in the Supreme Court of New South Wales in ACN 077 991 890 Pty Ltd [2007] NSWCSC 358. ACN held a second charge over the assets and undertaking of a company in respect of outstanding purchase monies due from that company. The company gave a charge to the National Australia Bank to secure (a) a loan taken by the company from NAB and (b) the guarantee which the company had given in respect of a loan taken by Mr and Mrs Norton from NAB. NAB sold the assets and undertaking of the company. It used the proceeds to repay (a) the loan due to it from the company and (b) the loan to Mr and Mrs Norton (for which the company was liable under its guarantee). ACN did not get the whole of what was due to it from the company. Windeyer J regarded the case as falling within the exception to the general rule (referring to Ex Parte Kendall, to Meagher, Gummow & Lehane, and to the decision in Sarge).

Mr Deacock submits that there is the authority of Lord Eldon LC, clear statements in authoritative texts and textbooks, and persuasive authority in other jurisdictions for the existence of an exception from the common debtor rule which enables a disappointed creditor to claim the benefit of securities held by the doubly-secured creditor even if the two securities do not both come from the debtor if one of the securities derives from a principal for whom the debtor stood surety.

Mr Richard Salter QC and Ms Small point to the fact that in no reported English case has this exception been clearly recognised and they submit that I ought not to give effect to it.

First, they submit that the authority upon which it is founded is weak in the sense that the passage on which reliance is placed is not part of the ratio in Ex parte Kendall, but really is an observation about an argument that was being run. They say, correctly, that the issue in Ex parte Kendall was about whether certain creditors could be compelled to sue Devaynes before they could take advantage of the fund created by the bankruptcy. It was quite clear that nobody could be compelled to sue; and all that Lord Eldon was saying was "the furthest you can go is marshalling".

I agree that the statements in the passage cited from Ex parte Kendall are strictly obiter: that is demonstrated by Lord Eldon's second judgment (17 Vesey Junior 514 at 523 and the report in Roses Cases in Bankruptcy). But I would treat a summary of the law by Lord Eldon LC as authoritative: and I think it has long been accepted as a true summary for it has stood in Halsbury's Laws since 1910 and through successive editorships. So I do not regard the authority as weak.

Secondly, Mr Salter QC and Ms Small submit that the so-called exception is unprincipled, and founded upon a misapprehension that anybody could compel Barclays to realise its securities in any particular order. As to that, it is in truth difficult to know exactly what principle underlies the whole doctrine of marshalling and the precise basis upon which equity "arranges the funds": so I do not find an obscurity about the foundation of the exception at all surprising. It is true that when he first deals with the argument Lord Eldon says in reference to the relevant right "as if B himself [i.e. Zirfin] could insist that A [i.e the Affiliate] ought to pay in the first instance"; and when he secondly deals with the argument he says in reference to the relevant right "giving B [i.e. Zirfin] the right for his own sake to compel me [i.e. Barclays] to seek payment from A [i.e the Affiliate]". But Lord Eldon cannot have been under any apprehension that the holder of several securities could be compelled by another creditor to go against one security rather than another. It is quite plain from his second judgment that his first formulation embodied his reasoning, for he says (at p.523)

"The creditors of the four have no other right than the four themselves would have had; and the equity of the creditors in these cases is worked out through the equity, which the debtors themselves have."

That is why the doctrine of marshalling will only make available to Highbury security for the amount it has discharged as surety (and not for the whole of its debt): though that restriction is of no importance in the present case.

Third, Mr Salter QC and Ms Small submit that it is not safe to rely either upon statements in text books or upon decisions which ultimately rely on American jurisprudence, because the doctrine of subrogation in America is not the same as that which has been settled in England. Thus, as part of their analysis Meagher, Gummow & Lehane rely (at paragraph 11-025) on an American statement that the singly secured disappointed creditor (C2) can require the paramount creditor (C1) to proceed against the fund in respect of which C2 has no claim. But that is not the law in England, according to Halsbury's Laws of England (5^th Edition) Vol. 49 paragraph 11-31 which says:-

"After the guaranteed debt has become due, and before he has been asked to pay it, the guarantor may require the creditor to call upon the principal debtor to pay off the debt. It is doubtful, however, whether the guarantor has any right to require the creditor to do so if he has not discharged himself of his liability. In the absence of agreement the creditor is not bound to sue the principal debtor before suing the guarantor".

I have no doubt that many differences do exist, both as regards rights of subrogation and as regards to right of the guarantor (and those claiming through him) to compel the creditor to look to the principal debtor first. But the exception to the general rule does not rest upon whether the junior singly-secured creditor (C2) can call upon the senior doubly-secured creditor (C1) to look first to the principal debtor. As Lord Eldon described the exception it rests upon whether the surety (D) can call upon the principal debtor to pay (i.e. the claim to exoneration). As to this, no relevant distinction has been drawn to my attention between English law and the American, Canadian and Australian law referred to in the cases cited to me. So, whilst accepting that some caution is required, I do not consider that the Canadian or the Australian cases have misapplied the reasoning implicit in the statement by Lord Eldon of the exception to the "common debtor" rule.

Fourth, counsel for the SFO submit that the doctrine of marshalling cannot apply because although Barclays is "doubly-secured" it is so secured in respect not of Zirfin's liability but in respect of the liability of the Affiliates (having both a charge over the property of the Affiliate and the benefit of the guarantee by Zirfin). But this I think is simply to state that the general rule does not apply, and does not address whether the exception applies. Barclays has a claim against Zirfin as surety. It can look to two funds to satisfy that indebtedness. The first is the Zirfin Charge. The second is the Affiliates' Charge. As regards Highbury's claim to marshal, the Affiliates' Charges can be bought into account (even though they are not over property belonging to Zirfin) because in equity Zirfin could call on the Affiliates to bear the burden of the debt and the Affiliates had the Affiliates' Properties to enable them to do so. As I have sought to demonstrate in paragraph 24 and in paragraphs 28-29 and in my summary of the facts of ACN, in my judgment the doctrine of marshalling (and the exception to the "common debtor" rule) does apply to this case.

Fifth, Counsel for the SFO submit that the Court should extend no sympathy to Highbury because Highbury got exactly what it bargained for, the full benefit of a second charge ranking after an "all monies" first charge. But this seems to me true of every application of the doctrine of marshalling. It is always the case that under the strict ranking of securities the creditor who takes the fund had a right to do so (to which the claims of the second creditor were subordinated). Equity intervenes because it need not have been so if the paramount creditor had looked to his alternative security, and so it is by the choice of the paramount creditor that the junior creditor is disappointed.

Sixth, Counsel for the SFO submitted that if I had doubts about the matter I should not recognize the suggested exception because it operated to the detriment of unsecured creditors. But that consideration is true of the whole doctrine of marshalling (and for that matter of subrogation). I do not think it has any special weight when considering the existence and applicability of an exception to the "common debtor" rule.

I would accept, as a matter of principle, the submissions of Mr Deacock. His argument is founded upon the authority of Lord Eldon, and the suggested rule is capable of operation in what I would regard as an equitable manner, as the Commonwealth cases demonstrate. The arguments to the contrary have in my judgment less weight.

That does not necessarily provide an instant answer in the present case. Counsel for the SFO take the point that a straightforward application of the doctrine would give Highbury greater rights as against Barclays than Zirfin itself enjoyed. Under the terms of the Guarantee Zirfin could never compete with Barclays in enforcing the Affiliates' Charges until such time as Barclays had been completely repaid. It is not disputed that at present Barclays is still owed money by some one or more of the Affiliates which is secured by the Affiliates' Charges. But because the exception from the "common debtor" rule identified by Lord Eldon is founded upon the surety's right to call upon the principal to discharge the debt (i.e. Zirfin's right of exoneration/indemnity against the Affiliates) it takes no account of what rights exist as between Zirfin and Barclays. The SFO submit that this is inequitable.

I agree. If Highbury's ability to avoid the constraints of the "common debtor" rule is dependant upon the "equities" that exist as between Zirfin and the Affiliates, then those "equities" ought to include not only the right to demand payment but also the rights to enforce any security. If those rights are restricted by the contract which creates the relevant relationship of principal and surety on which Zirfin relies, then that restriction must be recognised in the marshalling of the security. If Zirfin would not be subrogated to Barclays' rights until such time as the Barclays debt had been entirely repaid, then Highbury cannot by a process akin to subrogation become entitled to any greater right.

When I circulated the judgment in draft Mr Deacock said that an agreement that they were so entitled had been reached at the hearing, and that by a nod of Counsel's head Barclays had moved from a position of non-objection to one of consenting to the exercise by Highbury of its right of resort to the Affiliates' Charges notwithstanding that there was a shortfall still due to Barclays. If that was a change of position at the hearing, I am not sure the Counsel for the SFO appreciated it: and no-one suggests that Counsel for Zirfin and the Affiliates assented to the arrangement. Zirfin and the Affiliates might be thought to have something to say about an alteration in the terms or operation of the Affiliates' Charges (subject of course to the terms of those charges themselves) In the circumstances I intend to leave my judgment as it stands.

I would therefore declare (the precise terms are to be agreed between counsel or determined when judgment is handed down) that Highbury and Cezanne are entitled to participate in the security constituted by the Affiliates' Charges when (but only when) all sums due to Barclays secured by those charges have been paid (unless there is agreement by all relevant parties upon an earlier participation).

This means that the third issue is not at present live: but it has been fully argued and may become a live issue (in which case my view may assist the SFO in deciding what attitude to take to any application to vary the Restraint Order). It would also be relevant if my determination of the second issue was hereafter to be held in error. I will therefore record my views.

The legislative policy of POCA is clear and has been restated on a number of occasions: see for a recent statement paragraph [26] of the judgment of the Court of Appeal in R v Modjiri [2010] EWCA Crim 829. In short, POCA is designed to deprive a person of profits received from criminal conduct, to remove the value of proceeds received from criminal conduct from possible future use, and essentially to impoverish a convicted defendant (rather than to enrich the Crown). It is in that light that the impact of orders made under POCA upon third parties is to be viewed.

That question was considered in the context of restraint orders by the Court of Appeal in SFO v Lexi Holdings Plc [2008] EWCA Crim 1443. M was accused by Lexi of knowingly participating in a dishonest breach of fiduciary duty (in consequence of which he was said to hold the product of those breaches of duty on constructive trust for Lexi, or alternatively was liable to account for them). A restraint order was made prohibiting M from dealing with any of his assets whilst charges of conspiracy to defraud were investigated. There could, on the facts, be no real dispute that M was a constructive trustee of the monies: but in fact Lexi obtained a money judgment (most probably representing equitable compensation). No proprietary remedy was sought or obtained.

Section 69 of POCA (which applies to specified powers conferred by the Act) says in section 69(2) that those powers

"(a) must be exercised with a view to the value for the time being of realisable property being made available (by the property's realisation) for satisfying any confiscation order that has been or may be made against the defendant;

(b) must be exercised, in a case where a confiscation order has not been made, with a view to securing that there is no diminution in the value of realisable property;

(c) must be exercised without taking account of any obligation of the defendant… if the obligation conflicts with the object of satisfying any confiscation order that has been made or may be made against the defendant…".

This section presented something of a problem to Lexi when it applied as "a bona fide third party judgment creditor" to vary the restraint order so that it could recover the amount of its judgment. The power of varying the restraint order was to be found in section 42 of POCA, and the power to vary fell to be exercised in accordance with section 69 of POCA, so that it had to be exercised "without taking account of any obligation of the defendant". What Lexi needed to do was to bring itself within section 69(3) which said that section 69(2) was subject to the rule that:-

"(a) the powers must be exercised with a view to allowing a person other than the defendant… to retain or recover the value of any interest held by him".

At section 84(2) of POCA it is provided:-

"(f) references to an interest, in relation to land in England and Wales…are to any legal estate or equitable interest or power…

(g) …

(h) references to an interest, in relation to property other than land, include references to a right (including a right to possession)".

Lexi successfully argued that it had such an "interest" because its claim to equitable compensation carried with it the right to an equitable charge or lien over the proceeds in which the misappropriated assets had been mixed: see paragraph [57] of the judgment.

It had been argued that such an application to vary the restraint order at the suit of a judgment creditor was unfair and an abuse of process. But the court held (at paragraph [41]):-

"… if no assertion of a prior proprietary interest in the form of an equitable charge were even capable of now being raised on the variation application by Lexi then the amount of the assets which are subject to the restraint order and which are potentially available to (unsecured) victims of the alleged criminal conduct would appear to have been increased by assets which in part originated from Lexi itself and in circumstances where it originally had a proprietary claim to that money in the hands of M. That does not seem at all just".

In the instant case Counsel for the SFO argue that Highbury faces exactly the difficulty that Lexi faced. Highbury does not have an "interest" in realisable property subject to the Restraint Order, that is the Affiliates' Properties. In one respect the position of Highbury is worse than that of Lexi: Highbury's rights arise out of a sale which occurred in September 2011 (whereas the Restraint Order was made in April 2009). Highbury must remain an unsecured creditor of Zirfin and cannot obtain priority over those interested as chargees in Mr Kallakis' realisable property by operation of the Restraint Order. It might seem unfair that because of a decision taken by Barclays, property that would otherwise have been available to Highbury as a secured creditor will now go to Mr Kallakis' victims and to the Crown. But, it is submitted, the policy of POCA is not to preserve the interests of good faith lenders like Highbury, because it is not unusual for criminals to operate through a web of offshore "special purpose vehicles" and to borrow money to salt away. The statutory policy is that good faith lenders should lose out (in exactly the same way as those who have provided the criminal with goods on credit lose out).

That is the overview of the argument: it is now necessary to descend to the detail. The first detailed submission by the SFO is that the right to marshal does not create a presently subsisting "legal estate or equitable interest or power" within section 84(2)(f) POCA. The doctrine of marshalling, it is said, gives the junior creditor "a potential equity of marshalling" described in paragraph 45.8 of Fisher & Lightwoods Law of Mortgage 13^th Edition in this way:-

"The principle of marshalling is not such as to confer an equitable right of property on a party to whom the right is available. It is no more than a right to seek from the court an equitable remedy in certain circumstances".

There is much to be said for this view, and it derives apparent support from the rule that equity will not marshal securities where, in aiding one incumbrancer, it would injure another. Thus if properties S1 and S2 are mortgaged to C1; and then S1 is mortgaged to C2: and then S2 is mortgaged to C3, if it should happen that C1 looks to S1 alone for satisfaction of his debt then C2's equity to marshal against S2 does not fully arise. That is because that such marshalling would prejudice C3 (for whom S2 is his sole security). C3 has not taken the security over S2 subject to any equitable right vested in C2 to marshal as against S2. C2 has only a potential equity, and when it arises it works so that C1 has to look to both S1 and S2 rateably according to their respective values, leaving the residue of S1 to satisfy C2 and the residue of S2 to satisfy C3. But the authorities are not consistent: see the consideration of the issue in Sarge (op.cit.) at p. 664D following.

The juristic basis for the doctrine of marshalling is by no means settled. There are several competing theories (discussed in Meagher, Gummow & Lehane at paragraphs 11-025 and 11-190 following). None is entirely satisfactory and (without indicating any criticism of any of the Counsel in this case) I do not consider that I have heard sufficient argument to reach a concluded view whether the application of the doctrine of marshalling creates (as a matter of legal theory) a property interest and, if so, at exactly what point. I must focus upon the precise context in which the actual issue in this case falls for decision.

The Restraint Order restricts the right of Mr Kallakis to deal with his property. At this hearing it is to be assumed that No 31 and the Affiliates' Properties are "realisable property" of Mr Kallakis (though no assumptions are to be made as to how that result is produced, so that the separate identity of Zirfin and the Affiliates is also to be assumed). A key aspect of the policy behind POCA is to deprive Mr Kallakis of any profits that may be derived from criminal conduct, the object being to impoverish him and not to enrich the Crown. To that end section 69(2)(a) of POCA provides that if there is an application to vary the Restraint Order then the power of variation must be exercised with a view to ensuring that "the value for the time being of realisable property" is made available for satisfying any confiscation order that may be made, and with a view to securing that "there is no diminution in the value of realisable property". If a property lawyer was asked "What is the value of Mr Kallakis' realisable property?" the property lawyer would instinctively answer that it included the equity of redemption in No.31 (i.e. the amount available to Mr Kallakis after satisfaction of the Zirfin Charge, the Highbury Second Charge and the Cezanne Third Charge) and the equity of redemption in the Affiliates' Properties (i.e. the amount available to Mr Kallakis after satisfaction of the Affiliates' Charges). He would not say that it was the market value of No 31 and the market value of the Affiliates' Properties ignoring any mortgages.

The draftsman of POCA shared that view. Section 79(2) of POCA says that the value of any property held by Mr Kallakis "is the market value of the property at that time": but section 79(3) goes on to say that "if at that time another person holds an interest in the property" then, so far as Mr Kallakis is concerned, the "value" is not the market value of the property, but the market value of Mr Kallakis' interest in the property. That means the equity of redemption in No.31 and in the Affiliates' Properties. Of course, when you have several properties together charged to secure several liabilities you may have to look at the portfolio, rather than the individual properties, in order to get at the true equity of redemption (and not under value it by double counting the value of some of the charges). But it is that value that is one day to be realised and must not in the meanwhile be diminished.

The Zirfin Charge, the Highbury Second Charge, and the Cezanne Third Charge, together with the Affiliates' Charges all predate the Restraint Order. Nothing has happened (save for accruing interest and a possible decline in property market values) to reduce the value of Mr Kallakis' interest in No.31 and in the Affiliates' Properties.

Barclays has sold No.31 and has taken from the proceeds what it is to be assumed Mr Kallakis owed (through Zirfin) as principal debtor and as surety. This is not a breach of the Restraint Order because paragraph 25 of that order provided

"This order does not prevent any financial institution from enforcing or taking any other steps to enforce any existing charge it has in respect of a property or properties so secured".

The effect of doing that (if I am right on the first issue) was to give Highbury (by a process akin to subrogation) the unused benefit of the Affiliates' Charges (though that right may not be immediately exercisable). Barclays' action did not affect the realisable value of Mr Kallakis' property: it removed from the property subject to the Restraint Order one item, but it also removed a liability of equal value. Nor did the Affiliates' Charges evaporate: they remain to secure the balance of what is due to Barclays and on the occurrence of that event to be available to Highbury.

It would therefore, to my mind, be surprising if POCA had to be construed so as to enrich the Crown by converting the "interest" which was to be recognised as belonging to Highbury (because of the Highbury Second Charge) into an "obligation" which POCA provides must be ignored, for the consequence of that is simply to enrich the Crown by depriving Highbury of the right it otherwise would have had to marshal the securities.

Doubts about whether the right to marshal in itself creates an equitable (property) interest do not seem to me to matter. What in my judgment is the correct focus is the interest in Mr Kallakis' realisable property that Highbury claims (an interest in a legal charge that predates the Restraint Order): the focus is not the means by which Highbury claims to be able to enforce that interest. Whether the right to marshal is a "potential equity" which only becomes an equitable interest when a court of equity makes an order, or whether the right to marshal arises out of a fiduciary obligation on the part of the doubly-secured creditor to account to the singly secured creditor for the amount of the sum due under the guarantee (for which the doubly secured creditor held double security, and which fiduciary duty to account carried with it an equitable charge or lien of some sort) are in my view legal niceties. The essential matter is that by a process akin to subrogation Highbury is entitled to enforce the pre-existing interest of Barclays in the Affiliates' Properties (in the same way as if it had taken a formal assignment).

On this third issue I would therefore hold that the actions of Barclays have not deprived Highbury of the "interest" which was previously recognised by the Restraint Order, and that if Highbury were to seek to bring itself within paragraph 25 of the Restraint Order or to seek a variation of the Restraint Order so as to make clear that it (rather than Barclays) was now contingently entitled to enforce the Affiliates' Charges, the discretion given to the court ought to be exercised to permit that variation.

By way of a footnote I should emphasise that this section of the judgment has proceeded on the footing (not yet established but accepted for the purposes of argument) that Highbury is an arm's length commercial lender who has funded the acquisition and refurbishment of property (which property is treated as part of the realisable property of Mr Kallakis). If there were some doubt about the relationship between borrower and lender, or if the loan proceeds had been dissipated or exported, or the circumstances differed in any significant way from those postulated at this hearing, then other factors would be in play, and the question might have been answered very differently.