This recent decision by the Federal Court of Australia considers the effectiveness of assignment and novation provisions in relation to margin lending transactions.
While the findings of this case are limited to the particular facts, the decision reiterates the need for financiers and corporate trustees to have an excellent understanding of their rights and obligations under transaction documents before attempting to assign or transfer arrangements. This can be of particular importance when a loan book is being transferred as opposed to a single loan.
Ross Goodridge (Goodridge) entered into a margin lending arrangement with Macquarie Bank Limited (Macquarie) in the form of a loan and security agreement (Agreement).
Under the Agreement, Macquarie could make a 'margin call' when the value of the security fell below the approved level. Macquarie was also entitled to assign, transfer and novate the Agreement without the consent of Goodridge.
A margin call had to be met by 2pm within three days, "unless otherwise notified by Macquarie in its absolute discretion". Margin calls could be met by the provision of further securities, direct debit, cash top up or sufficient market rally – in which case no action was required by Goodridge. Failure to satisfy a margin call entitled Macquarie to sell or redeem any part of the portfolio.
In January 2009, Macquarie, sold its margin lending business and a large proportion of its customer base to a corporate trustee and eventually to Leveraged Equities (LE).
A letter was sent to the affected customers notifying them of the assignment of their margin loan and reassuring them that the arrangements which they previously had in place had not changed, other than LE was now the lender under the arrangements. Goodridge did not receive the letter giving notice of the assignment of the Agreement.
On 23 and 24 February 2009, margin calls were made by LE on Goodridge due to a drop in the value of his securities. As a result of the calls, LE proceeded to sell Goodridge's portfolio at a very low point in the market.
Goodridge brought proceedings in the Federal Court against Macquarie and LE.
LE claimed that the failure to meet the margin calls was an
event of default under the Agreement, which entitled it to enforce
against Goodridge's portfolio. The court disagreed and said
that no default had occurred under the Agreement for the following
- The margin calls did not give Goodridge until 2pm within three days of each call to meet the call as required under the Agreement.
- The court said that 'three days' means three clear business days.
- The words "at its discretion" did not expressly give LE the ability to cut short the time for compliance with a margin call or make immediate demand for compliance.
The court noted that a margin call is a contingent liability which only quantifies once the deadline for compliance is up. Until such time, nothing is due because the value of the portfolio (and the amount which may become due under the margin call) may fluctuate.
As a result, the margin calls were not validly made and the sale of Goodridge's portfolio was a repudiatory breach of the Agreement, a breach of trust and a misuse of the power of sale under the Agreement. It is a timely reminder that whenever demands of any nature are being made it is vital to comply absolutely with any particular requirements surrounding that call or demand.
Assignment and novation
The court found that the Agreement was incapable of assignment because it conferred ongoing obligations upon Macquarie, including in relation to the provision of further credit, which were not mutually exclusive to the rights of Macquarie under the Agreement. Rights can be assigned, obligations cannot be assigned.
In particular, the court noted that it was the ability of Macquarie to determine the value of Goodridge's portfolio under the Agreement which in turn gave rise to the exercise of its obligations under the arrangements, whether to provide further credit or make a margin call. This meant that the purported assignment was commercially unworkable.
In any event, had the Agreement been capable of assignment, Goodridge had not received the letter from LE giving notice.
The court ruled out the suggestion that the Agreement had been novated, stating that novation required the creation of a new relationship and the extinguishment of the earlier relationship, which clearly had not occurred in this instance.
While novation of the Agreement would have been possible, it would have required the consent or authorisation of each customer to the original sale, being 18,500 customers.
The court further noted that the clause in the Agreement which 'entitled' Macquarie to assign or novate its interest without the consent of Goodridge was merely an agreement to agree.
The court also gave weight to the fact that Goodridge entered into the Agreement for the purpose of holding securities for his retirement. As such, the purported assignment and forced sale of the portfolio adversely affected Goodridge's interest to such an extent as to amount to unconscionable conduct in the eyes of the court.
This meant that Goodridge had the benefit of consumer legislation under the ASIC Act as the securities were for personal use.
Goodridge was awarded damages and his portfolio was restored.
In a securitisation or syndication situation where an assignment or transfer of rights is taking place, it would be most unusual for an 'unworkable' commercial situation to arise.
As long as the rights transferred and any continuing obligations are able to operate in a separate and cohesive manner between the parties then an outcome such as this case is unlikely.
Further, in sophisticated lending transactions, a provision dealing with assignment will be more than an agreement to agree as there will be specific mechanisms in place detailing how participation will operate.
It is important to remember that the unusual decision in this
case turns on its particular facts. However, the case also
reaffirmed some long established principles of assignment:
- Rights and not obligations are capable of assignment.
- To legally assign rights a lender must ensure that effective notice is given to the debtor.
- Notice of an assignment must be actual and not constructive.
- Some arrangements are not capable of equitable assignment and must be novated (ie. the lender must have the consent and involvement of the borrower to the arrangements).
- In some instances, novation may be necessary to perfect an assignment.
We do not consider that this case will affect normal lending transactions, however it is a timely reminder to financiers and corporate trustees of the importance of clearly understanding rights, liabilities and obligations under transaction documents prior to seeking to assign or transfer arrangements. Always check the assignment provisions very carefully and where possible do not agree to any amendment that may restrict or create onerous or unusual requirements on assignment.
This publication is provided to clients and correspondents for their information on a complimentary basis. It represents a brief summary of the law applicable as at the date of publication and should not be relied on as a definitive or complete statement of the relevant laws.
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The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.