Introduction
The Supreme Court has not allowed a clause in a Security Trust Deed dealing with the distribution of assets in Sigma Finance Corporation (Sigma) between "experienced commercial operators advised by expert lawyers" to permit the preferential distribution of certain assets.
Facts
Sigma was a structured investment vehicle that raised funds primarily by issuing or guaranteeing medium term notes. The funds so raised were invested in acquiring amongst other things, asset-backed securities. Like many of its peers, Sigma was a victim of the current financial crisis.
Some of Sigma's liabilities were secured pursuant to a Security Trust Deed which provided, upon the occurrence of an enforcement event, a 60-day "realisation period" during which time the Security Trustee was obliged to organise Sigma's assets into a "short-term pool" to cover short-term liabilities and "long-term pools" to cover long-term liabilities. However, a clause in the Security Trust Deed provided that during the 60-day "realisation period" the Security Trustee was to "so far as possible discharge on the due dates therefor any Short Term Liabilities falling due for payment during such period, using cash or other realisable or maturing Assets of" Sigma (Distribution Clause).
The question in dispute was whether the Security Trustee was required to continue to pay the liabilities that fell due during the "realisation period" (on a pay as you go basis) in which case it was likely that the other secured creditors (in respect of short and long term liabilities) would be left with empty pools.
The Court of Appeal ruled in favour of those creditors whose debts fell due during the "realisation period" and required the Security Trustee to discharge such debts first. However, on appeal to the Supreme Court, the Court of Appeal's judgment was overturned.
Judgment
The Supreme Court (by a 4-1 majority) held that the Distribution Clause was based on the assumption that Sigma would have sufficient assets to cover all its secured liabilities when no issue of priority could arise. Therefore, the Supreme Court was of the opinion that to give effect to the Distribution Clause in an insolvency situation involved the risk of giving a clause buried in another provision (that dealt with something different) the effect of "changing fundamentally the apparent financial structure of the relationship".
The Supreme Court disagreed with the Court of Appeal that the effect of the Distribution Clause was a commercial bargain intended to operate in solvent and insolvent situations. In fact, Lord Mance, giving the leading judgment was of the view that it would be very improbable that commercial parties would contemplate that, after the occurrence of an enforcement event priority would be conferred on a particular group of creditors whose debts happen to mature during the "realisation period".
The primary approach of the Supreme Court was to interpret the Distribution Clause in the meaning and commercial context of the entire Security Trust Deed without giving undue weight to one literal meaning of the Distribution Clause.
Comment
Some market participants will not share the commercial view of the Supreme Court in relation to the Distribution Clause and may conclude that the Supreme Court has in this instance gone beyond its remit and made a new contract for commercial parties.
In any event, there are some useful lessons to be learnt from this case, which highlights the approach the Supreme Court may take in further questions of interpretation of contracts. It confirms that every provision in a contract should be viewed in light of the entire contract and that the courts will also attribute great importance to the overall commercial purpose of a contract.
The other important lesson is that any provision in a contract that represents a change from the standard position (under law or under the contract itself) should be drafted in clear and precise terms and to highlight its importance.
Case references:
- In Re Sigma Finance Corporation (in administrative receivership) [2009] UKSC 2. Please click here for a full copy of the Supreme Court Judgment.
- In Re Sigma Finance Corporation (in administrative receivership) [2008] EWCA Civ 1303. Please click here for a full copy of the Court of Appeal Judgment.
This article was written for Law-Now, CMS Cameron McKenna's free online information service. To register for Law-Now, please go to www.law-now.com/law-now/mondaq
Law-Now information is for general purposes and guidance only. The information and opinions expressed in all Law-Now articles are not necessarily comprehensive and do not purport to give professional or legal advice. All Law-Now information relates to circumstances prevailing at the date of its original publication and may not have been updated to reflect subsequent developments.
The original publication date for this article was 18/11/2009.
