Part III

the need for reform of the company charges registration scheme

                    3.1               In this Part we consider whether the current scheme for registering company charges is in need of reform. We reach the provisional conclusion that there is a need for some form of registration but that the weaknesses in the way the current scheme operates are such that there is a good case for reform. In later Parts of this Consultation Paper we go on to consider how such reform could be implemented.[1]

the need for a system of registration

                    3.2               In its consultation document on registration of company charges the Steering Group said that previous consultations had led it to the view that a system of registration of charges performs a useful commercial function. It is:

a means of providing information on the financial position of companies which the business community and its professional advisers find important and helpful.[2]

Therefore the Steering Group did not propose that the system should be abolished.[3] Nonetheless it did ask consultees whether a registration system is still needed. There was virtually unanimous agreement on the part of consultees that there is such a need. In the light of this we do not intend to re-open this question. As one commentator put it recently:

it remains a simple fact that the system is here to stay.[4]

However, it is also clear that the current scheme is open to criticism. The question is the form that the scheme should take.

                    3.3               To evaluate the effectiveness of the current registration scheme we need to establish criteria against which it can be measured. We think that it is instructive to start from the beginning, as it were, and ask what potential users could expect of a modern scheme of registration.

                    3.4               We believe that a registration scheme should perform two basic functions: (1) to provide information to persons who are thinking of extending secured lending (and occasionally unsecured lending, where the amount is large), credit rating agencies and potential investors about the extent to which assets that may appear to be owned by the company are in fact subject to securities in favour of other parties, in particular creditors; and (2) to determine the priority of securities.[5]

                    3.5               In performing the first function the system should enable interested parties to find out about securities over the company’s assets, particularly ones that they are unlikely to be able to discover easily from other sources. In relation to priority the system should, in general, enable potential secured parties to be confident (1) that they can take a security without any risk that it will be subject to other existing interests of which they had no reasonable means of knowing; (2) that, having checked the register, they will be able by taking simple steps to ensure the priority of any security they subsequently take over one that is taken in the meantime by another party;[6] and (3) that registration will ensure the priority of their security against any subsequent security interest (unless there are good reasons of policy for the later interest to have priority).

                    3.6               The system should also provide clear rules on the rights of purchasers who buy assets that are subject to security interests, both where the interest has been registered and where it should have been but has not been.

                    3.7               In practice these aims mean that users of the scheme should be able to rely on the information contained in the register (in other words, the information available should be reasonably complete and what is provided should be accurate). On the other hand, the system should be efficient, simple and cheap to operate. The requirements should not unnecessarily hinder a company in dealing with its assets, and should not impose registration requirements that will involve companies, creditors or the registry itself in unnecessary work. Thus the register should not duplicate information readily available elsewhere (for example, in another public register, unless, perhaps, entries in both registers can be made by a single operation). Preferably the operations should be computerised so that both registering and searching of the register can be done easily and with the minimum of human effort.

                    3.8               It is obvious that these different aims may conflict. For example, the aim of presenting as complete a picture of the company’s affairs as possible may conflict with that of minimising the burden on the parties involved. A balance will have to be struck. However, it is worth asking how the current scheme for registration of company charges measures up to the criteria we have set out.

Ineffectiveness of the current registration scheme

                    3.9               As we noted in Part II, registration was originally introduced to provide information to the public about whether a company had charged its assets, in order to prevent it giving an impression of ‘false wealth’ by appearing to own assets that in fact were charged in favour of others. We also noted that the introduction of invalidity of the charge as against an administrator, liquidator or other creditors as a sanction against failure to register, and acceptance of the rule that registration puts third parties on constructive notice of the charge, have resulted in registration developing a second function in respect of the priority.[7]

                3.10               However, we have formed the view that, because the list of registrable charges is incomplete (in part because the list has been little changed since its introduction over a century ago), and because the priority aspect has developed only as an indirect effect of attempts to secure compliance, the current scheme does not seem to fulfil either its ‘public notice’ function or its ‘priority’ function efficiently. We explain our reasoning in the following paragraphs.

The public notice function

                3.11               The extent of the public notice function that the scheme fulfils is actually very limited because the list of charges that must be registered on the Companies Register is out-of-date and incomplete, and the information required is incomplete or likely to be unreliable.

The list of registrable charges is seriously incomplete

                3.12               The Companies Act 1985 sets out a fixed list of what charges need to be registered:[8] if a charge is created which does not fall within this list, then delivery of the particulars for registration is not required.[9] However, this list is outdated and omits a number of important charges that are commonly created over a company’s assets. With the exception of the addition of charges on aircraft and registered designs or design rights, the list of registrable charges is unchanged from the Companies Act 1948, which itself drew on the same lists which had been compiled by previous Companies Acts going back to 1900. De Lacy makes the point that although the whole philosophy of the Companies Act 1900 was “to insure the fullest information being given to all those who desire to take part in companies or invest their capital”,[10] the list of charges “had effectively crystallised by 1928.”[11]

                3.13               There was wide agreement amongst respondents to the Steering Group’s consultation document that the current list of registrable charges does not accord with current commercial practice.[12] Some respondents commented, for example, that charges are now given over expected future income from PFI and other major projects.[13] These are not registrable unless the income is in the form of ‘book debts’. Respondents noted that security was now sought over types of assets that had a large commercial value, but which did not exist, or were in their infancy, at the time the present provisions were drafted, such as computer software and film negative rights. Charges over contingent debts, including the proceeds of insurance policies, are not currently registrable; amongst respondents to the DTI’s 1994 consultation document there was strong support for making these registrable.[14] It has also been questioned whether the general exclusion of charges over shares from the list of registrable charges can still be justified.[15] Conversely it has been pointed out that the list includes some charges that are now rarely if ever used, for example charges to secure issues of debentures.

                3.14               In some cases it is hard to decide what falls within the type of charge listed. For example, a charge over ‘book debts’ is registrable,[16] but the meaning of this phrase has generated much discussion in the courts and has provoked some controversy.[17] For a non-lawyer the list can be particularly hard to interpret. Thus the list does not refer to charges over goods but to:

a charge created or evidenced by an instrument which, if executed by an individual, would require registration as a bill of sale.[18]

The law in relation to bills of sale - which has to be considered when deciding whether the charge would be registrable - is complex and out of touch with the realities of modern day commercial practice, and the benefits of continuing to link company charge registration in this way are questionable.

                3.15               In addition there is the more fundamental criticism that the form of a transaction triumphs over its function. In other words, the law does not class as a security - let alone a ‘charge’ - a number of transactions that actually perform the function of securing payment of a debt or performance of an obligation. This criticism was made in both the Crowther and Diamond reports,[19] and is in addition to other criticisms made about the substantive law of security.[20] This point we take up in Part VII.

The registered particulars are not necessarily accurate

                3.16               The company creating the charge (or in practice the creditor acting on the company’s behalf) must submit certain particulars and the charge instrument. In principle the registrar will check the particulars submitted against the charge instrument and the Companies Act 1985 provides for the registrar to issue a certificate which is conclusive evidence that the requirements as to registration have been satisfied.[21] The certificate will prevent a charge being invalidated for non-compliance with the section in the event that it has been registered, even if the particulars do not give an accurate reflection of the actual terms of the charge itself. It has been suggested to us that in practice the registrar’s staff are not in a position to make a detailed comparison between the particulars and the charge instrument in every case.[22] However, the effect of the certificate is that the registered charge is valid as to its original terms, not as to the terms actually appearing on the Companies Register. Consequently, the Companies Register may not be relied on to contain accurate information about the details of the charge and the conclusive certificate, whilst protecting the chargee, does not ensure the accuracy of the Companies Register.

The register does not reveal important information about charges that are registrable

                3.17               A search of the Companies Register is unlikely to reveal the correct amount of the outstanding secured debt. Although the amount secured by the charge is supplied on the relevant form at the time of submitting the particulars, this can only reflect the amount at that time, and not the amount at the time of searching (the amount may have increased or reduced in the meantime). Indeed, in the case of an ‘all-monies’ charge, it is inherently impossible to determine the state of the current indebtedness from the Companies Register. Consequently, if someone wishes to know the current state of indebtedness between the chargor and chargee, he will not be able to ascertain it from the Companies Register alone, and will have to contact the chargor or the chargee.

The company’s own register

                3.18               It ought to be possible to obtain accurate information about all the charges created by the company (and not just those that are registrable under the Companies Act 1985, section 395) from the company’s own register of charges required to be kept at its registered office.[23] However, it was clear from the responses to the Steering Group’s consultation document that compliance with this statutory requirement is poor. Moreover, respondents who answered the question whether such registers were widely used almost unanimously answered that they were not.[24] Even if the register is up-to-date, it will not necessarily provide full information even about the terms of the charge: whilst a company’s own register is open to all, copies of the charge instrument may be inspected only by members of the company and existing creditors.[25]

                3.19               As some charges are not registrable except in the company’s own register, and as that register does not seem to be used much (possibly as a result of its not being kept up-to-date), it seems to be a legitimate inference that creditors can get adequate information from elsewhere - presumably directly from the company itself and, if necessary, the chargee. We have also pointed out that, even if creditors do consult the company’s own register of charges, they will still have to ask the company for additional information, or to examine a copy of the instrument of charge; and if they wish to discover the amount currently secured by the charge they will presumably approach the creditor concerned.

                3.20               In the light of what we have said, interested parties will have to go to a source beyond the Companies Register in order to obtain complete and up-to-date information about the state of the charged asset. The Companies Register cannot therefore be seen as a complete and accurate source of information for interested parties. In terms of the details of charges it will make some of the information more easily available, but will tell them nothing that they cannot find out almost as easily from the company itself or the creditor, to whom they will need to talk in any event. To this extent the public notice function of the Companies Register is limited.

                3.21               What in practice the Companies Register does achieve is to put persons searching the register on notice (in an informal sense) that there is probably a registrable charge in existence about which they ought to seek more information from the chargor company or the secured chargee. It hardly seems efficient to require the company or its creditor to prepare particulars of the charge and then send these and the charge instrument itself to Companies House, but then not to make good use of it. This is particularly so given that preparing the particulars to be submitted can be burdensome for the party registering the charge, and that checking the particulars against the instrument of charge by the registrar - if it is done effectively - is also burdensome (and possibly not useful, given that the subsequent certificate does not guarantee accuracy in the recorded particulars). In short, a lot of time and expense is required by the scheme in order to provide public notice of a very limited sort. We think that there is a good case for changing this whilst still retaining a public notice function.

                3.22               The ‘alerting’ function is of course limited, in that a person searching can only become aware of the probable existence of a charge where it is one that falls within the list of registrable charges.[26] We have already suggested that the list of registrable charges needs to be updated. In some cases there may be practical reasons for excluding certain charges from the list of charges. For example, it is commonly said that it would not be practical to require registration of charges over shares that may be traded on a regular basis.[27] That may be right but equally it may depend on the registration requirements. It may be asked whether, if the process of registration were simplified, the range of registrable charges could be increased so as to warn third parties of those not currently registrable.[28]

                3.23               We began this Part by identifying what should be expected of a modern registration scheme, and we suggested that one aim would be to enable third parties to find out about securities over the company’s assets, and in particular ones that they are unlikely to be able to discover easily from other sources. There needs to be some way in which a third party can discover whether an asset that appears to be the company’s is in fact subject to another party’s interest, together with an indication of where further information about that security can be obtained from. If the existence of a security on a company’s asset is readily discoverable by other means there is no need to provide an additional warning by means of a public register.

                3.24               For example, there has never been a general requirement to register pledges,[29] nor is this suggested. Because a valid pledge requires that the creditor takes possession of the goods or document pledged, the asset will not be in the debtor’s possession and a third party interested in taking the goods as security will discover the pledge. We will consider below whether by analogous reasoning other charges should also be excluded. For the moment, two examples will suffice. First, in practice charges over immobilised or dematerialised investment securities take the form of registration of the security in the name of the creditor. The third party will discover this and registration may therefore be unnecessary. Secondly, if the charge is also registrable in a specialised asset register, such as those kept at the Land Registry, it can be argued that registration in the Companies Register also is not strictly necessary; a third party who is contemplating taking a security over the land will inevitably check with the Land Registry and will discover the charge.

The priority function

                3.25               The effect of the registration scheme on the question of priority - its second, indirect function - is also highly inefficient and open to criticism. Failure to register may have an effect on the priority of a charge as against another registered charge.[30] However, registration itself is not a priority point: by this we mean that a chargee cannot ensure priority over another chargee of the same asset simply by registering his charge first.

                3.26               One particular result of the scheme not expressly determining priorities is the ‘21-day invisibility’ problem that we have already described in Part II.[31] It also seems to be the case that a charge that is duly registered within the 21-day period may nonetheless be ‘overtaken’ by a charge that was created after the first charge was created but before it was registered. If the first charge is equitable and the second interest legal, and if the second creditor had no notice of the earlier charge, he may be protected by the doctrine of the bona fide purchaser of a legal estate for value and without notice. The second creditor will not have constructive notice if, at the time the second charge was created, the first charge had not been registered.[32]

                3.27               An additional problem, in terms of the determination of priorities, is that the existence of a negative pledge clause in a floating charge is not something that must be registered (unlike in Scotland). The existence of such clauses will therefore not be apparent from a searching of the register. The clause will be ineffective to preserve the priority of a floating charge against a subsequent fixed charge unless it can be shown that the subsequent chargee had actual notice of the negative pledge clause.

                3.28               The current registration scheme’s relationship with the priority of a charge is therefore unsatisfactory: it has an impact on priority in some cases yet it does not set out a clear method of determining priorities. As we noted at the beginning of this Part, one of the aims of any new registration scheme, if it were being considered afresh, ought to be that it set out rules to determine the priority of registrable interests. A registration scheme should ensure that those who do register are secure in their priority (for example, there should be no ‘hidden’ problems such as with the 21-day invisibility problem). In addition, the position of third party purchasers should be clear and they should not need to concern themselves with creditors who have not chosen to register what are registrable securities. As we have seen, the current registration scheme clearly fails to fulfil these aims: we think that this is a particularly significant weakness.

No ‘advance’ registration

                3.29               Two major practical problems of the current system are caused by the fact that it is not possible to register a charge before it has been created. The first is that a potential lender seeking to take a security may check the register, discover the state of the company’s charges at the date of search and decide that the company can offer adequate security for an advance. However, during the period it takes to negotiate and set up the security there is no way in which he can ensure that the company will not create further charges that will rank ahead of his.

                3.30               The second is that each individual charge must be registered even when it is just one of a long series between the same parties. For example, the difficulty and expense this causes is the explanation usually given for suppliers not registering extended retention of title clauses even though these frequently create registrable charges.[33]

Registrable charges and purchasers

                3.31               We suggested in Part II that the effect of a security on purchasers was difficult to ascertain. It appears that a purchaser may be bound by a fixed charge even if the charge has not been registered, unless the doctrine of bona fide purchaser of a legal estate without notice applies. This seems to offer inadequate protection. Conversely, it is uncertain whether purchasers are bound by charges that have been registered, as it is unclear whether purchasers are expected to check the register and will thus be fixed with constructive notice of a charge that has been registered. This uncertainty also seems unsatisfactory.[34]

additional criticisms of the registration scheme

                3.32               We also need to deal with two additional criticisms that have been made in relation to the operation of the current scheme. These are in relation to oversea companies and to the relationship between the Companies Act 1985 and the European Convention on Human Rights. One of these criticisms we provisionally think to have merit, the other less so.

Oversea companies

                3.33               The Steering Group has noted that a company incorporated overseas may carry on business in Great Britain in one of three ways: on a ‘services’ basis, whereby dealings are conducted without establishing a presence of its own in Great Britain (either through cross-frontier communication or by using an agent based in Great Britain); by establishing a presence in Great Britain from which business is done (through a ‘place of business’ or a ‘branch’, each bearing a different meaning); or by establishing a subsidiary company. The first method is not regulated by company law; the second is governed by Part XXIII of the Companies Act 1985; and the third is treated in the same way as any other domestic company.[35]

                3.34               Under the current law a company incorporated overseas is required to register certain particulars with the registrar if it establishes a place of business in Great Britain.[36] However, it seems that there is little relationship between the requirements of Part XXIII and those of Part XII in relation to the registration requirements for company charges. In practice, the extension of the registration scheme for company charges to companies incorporated outside Great Britain but having an established place of business in England and Wales[37] has given rise to problems.

                3.35               The question of whether an oversea company should be required to register charges with the registrar, when it had an established place of business in England and Wales but was not in fact registered there under what is now Part XXIII, was considered in the case of NV Slavenburg’s Bank v Intercontinental Natural Resources Ltd.[38] The defendant, a company incorporated in Bermuda that dealt with oil and petroleum products, some of which it stored in England, had charged some of its assets in favour of the plaintiff, a Dutch bank, but the charges had not been registered under section 95 of the Companies Act 1948, then in force (now section 395 of the Companies Act 1985), nor had the defendant registered under what is now Part XXIII. The company was wound up by order of a court in Bermuda, and both the defendant and the liquidators claimed that the charges were invalid for non-registration.

                3.36               Following a trial of preliminary issues, Lloyd J rejected the claim that the Companies Act 1948, section 106 (now the Companies Act 1985, section 409) applied only to a company that had been registered under the Companies Act 1948, Part X (now the Companies Act 1985, Part XXIII). By virtue of section 106, section 95 applied to the charges on the English property, and the charges were therefore void against the liquidators. Even though the practice of the registrar at that time required compliance with the registration requirements under Part X before the particulars of charges for registration would be accepted, the provisions of section 95 did not require registration of a charge to render it valid but merely that particulars of the charge be delivered to the registrar.[39]

                3.37               The Slavenburg decision has highlighted a number of difficulties. First, where such a company has not complied with the registration requirements under Part XXIII, Chapter I, it may not be easy for a creditor who has taken a charge over such a company’s assets to determine whether it has a ‘place of business’, and hence whether particulars of the charge have to be sent for registration.[40] In addition, the use of the word ‘established’ may also mean that it is not easy to determine whether a place of business used by a company has a sufficient degree of permanence to regard it as coming within this term.[41]

                3.38               Secondly, Lloyd J’s decision that the unwillingness of the registrar to register the charge without prior registration by the foreign company did not prevent compliance with what is now section 395[42] (as the charge was saved by delivery), and that consequently if the particulars had been delivered for registration the charge would be valid even though it did not appear on the register, has been criticised. McCormack argues that the raison d’être of a public registration scheme seems unclear when the law concedes that a charge can remain valid despite the fact that the details of it have been incorrectly recorded or not recorded at all. He also suggests it is harsh to expect a searcher to check the instrument of charge at the company’s own registered office,[43] and that in any event this is difficult in the case of an oversea company.[44]

                3.39               A third problem concerns the location of a company’s assets when the charge was created. The terms of section 409 of the Companies Act 1985 indicates that it applies to property located in England and Wales at the time the charge was created (or acquired, in the case of property that was subject to a pre-existing charge). However, that section makes no mention of property that is located overseas when the charge is created. In such a case, it seems that the charge would not be registrable. However, what if the charged asset is subsequently brought into England or Wales? If this happens more than 21 days after the creation of the charge, it could not be delivered to the registrar for registration owing to the expiration of the statutory period allowed. It has been suggested that, under Slavenburg, the transfer of a charged asset into England during the subsistence of the charge will invalidate the charge even though it is not possible to register it.[45] In a related problem, as the Steering Group has pointed out, some kinds of property are not located in a single place, and that goods and (particularly) vehicles may be moved in and out of Great Britain.[46]

                3.40               The problems relating to the registration of company charges by foreign companies have been recognised for some time, and have been the subject of criticism by a number of commentators.[47] The Diamond report noted that reform was needed.[48] The Companies Act 1989 contained a number of new provisions designed to overcome some of the problems, although these reforms were recognised to be themselves problematical, and they were never brought into force. This area is clearly still in need of reform. The regime is acknowledged to be complicated, and proposals for its reform have been put forward by the Steering Group.[49]

The European Convention on Human Rights

                3.41               The Steering Group was concerned over the suggestion made by one respondent to its consultation document that the sanction of invalidity resulting from failure to comply with the requirements of the current scheme of registration could constitute a disproportionate ‘deprivation’ of a person’s possessions in contravention of Article 1 of Protocol 1 of the European Convention on Human Rights (‘ECHR’).[50]

                3.42               The Steering Group referred by analogy to the recent case of Wilson v First County Trust Ltd (No 2),[51] where the Court of Appeal held that section 127(3) of the Consumer Credit Act 1974 was incompatible with the rights guaranteed by Article 6 and Article 1 of Protocol 1 of the ECHR.[52] We think that there are clear differences between the provisions of the Consumer Credit Act 1974 and the Companies Act 1985: the effect of non-compliance under the Consumer Credit Act 1974 is to render the agreement unenforceable as between the parties, whilst non-compliance under the Companies Act 1985 only results in the charge being void against the liquidator, administrator or creditor, and not the parties themselves.[53] In addition, the Companies Act 1985, section 404 contains provision for a court to rectify the register. Despite this, the Wilson case may be a decision that is of relevance in considering the need for reform to the company charges registration system. Leave to appeal this decision to the House of Lords has been given,[54] and we understand, at the time of writing, that an appeal has been submitted.

                3.43               It is our provisional view that the ‘sanction of invalidity’ under the Companies Act 1985 is not incompatible with the ECHR. This is because the provision merely invalidates the unregistered charge as against third parties in certain circumstances, not as between the parties themselves in all cases;[55] because the sanction is imposed for the important purpose of securing publicity of charges that may have a serious effect on third parties; and because the sanction is easy to avoid by registration, which is not unduly onerous, even under the current system, for the ends to be achieved. However we would welcome the views of consultees on this question.

Conclusion

                3.44               Earlier in this Part we outlined what we thought should be expected of a modern scheme of registration, and we suggested that it should provide public notice (within the limited meaning we have discussed) and should determine priority. We also noted that it should not unnecessarily hinder the ability of a company to deal with its assets, and that it should achieve all these aims efficiently, simply and cheaply. As part of this, we explained that users should be able to rely on the information contained in the register; should not have to duplicate information; and should be allowed to perfect their interests in any order.

                3.45               It seems clear that the aims relating to public notice and priority are not fulfilled by the current registration scheme in a satisfactory way. It requires the provision of a relatively large amount of information in respect of individual transactions from the party registering the charge, but in return gives only a limited amount of useful information to enquirers; the information given cannot necessarily be relied on as accurate; the information given is too restricted; and there is no clear relationship between the act of registration and priority. The scheme is inefficient in other ways also. Under the current registration scheme, each individual transaction (or series of debentures) needs to be registered, and the instrument of charge sent with the prescribed particulars. This prevents advance registration in anticipation of a charge that is being arranged and means that each charge, even in a long series between the same parties and for the same purpose, must be separately registered.

                3.46               Additional cost burdens are imposed by the obligation for dual registration, in the case of some assets, at both Companies House and at specialist registries.[56] This dual registration burden may not be necessary, and later in this Consultation Paper we suggest that it might be easier to leave each specialist asset to the rules contained in the relevant registry (although possibly notification of the charge should be sent to the Companies Register purely for public notice purposes).[57]

                3.47               It is our provisional view that the current registration scheme fails to achieve what should be expected from a modern registration scheme: it is unnecessarily complicated, incomplete and restrictive. Whether or not the fears about a potential conflict between the Companies Act 1985 and the ECHR are justified, there are good grounds for saying that the current law is in need of reform, and that a new method of registering charges or other security should be introduced.

                3.48               We ask whether consultees agree with the criticisms we have made of the current registration scheme, and, where they do not so agree, we ask them to explain why.