Court Of Appeal Decision On Transactions At An Undervalue: TAQA Bratani Ltd V Fujairah Oil And Gas UK LLC

The English Court of Appeal has recently provided important guidance on transactions at an undervalue pursuant to s.238 of the Insolvency Act 1986 ("IA 86") in the case of TAQA Bratani Ltd v Fujairah Oil and Gas UK LLC.

In this case the Court of Appeal considered the correct approach to the identification of the "transaction" for s.238 purposes, what may be treated as consideration for a transaction when determining the existence and extent of any undervalue, and the scope of the defence in s.238(5).

The clarification provided in the judgment will be of particular relevance when structuring or reviewing transactions involving an undervalue by a company as part of a wider or linked arrangement.

It highlights the requirement in what is a fact specific and often complex exercise, to focus on the transaction that is entered into by the company, the importance of consideration in the transaction being given in exchange for the arrangement or as part of the bargain entered into with the company, and the requirement for the benefit of the transaction to be demonstrably considered from the company's perspective.

Background

• The case concerned the payment of a dividend by a company to its parent (the "Distribution") to extinguish an intercompany receivable owed by the parent (the "Receivable").

• The parent agreed a sale purchase agreement ("SPA") to sell its interest in the company to a third party for USD1. The company was not a party to the SPA and the Receivable was discovered after the terms of the SPA had been agreed. The Distribution was made nine days after the SPA was entered into but immediately before completion, thereby ensuring further value was not provided by the parent to the buyer upon the sale.

• On the day of completion, the parent also released an intercompany receivable owed to it by a group service company in relation to the discharge by the parent of the service company's pension buy-out liability for the group pension scheme (the "Pension Write-Off"). This in turn released the company's contingent liability in respect of the buy-out.

• The company was wound up within 2 years of the Distribution.

• At first instance, the High Court concluded that the Distribution was a transaction at an undervalue, but it fell within the s238(5) defence as the sale was agreed for a legitimate commercial purpose from which the company benefitted and the dividend was a necessary adjunct to the sale. The Court of Appeal overturned the High Court's decision, finding that on the facts the s.238(5) defence was not available to the company.

Key findings from the judgment

The "transaction"

• S. 238 applies where a company has at a relevant time "entered into a transaction with any person at an undervalue".

• S.238(4) requires the transaction (defined by s.436 IA 86 as a gift, agreement or arrangement) to be "entered into" by the company. This is a composite requirement which connotes the taking of some step or act of participation by the company.

• In this case the only transaction the company entered into was with its parent, in making the Distribution. This was the "transaction" for the purposes of s.238, not the wider arrangement of the share sale as per the terms of the SPA, which the company was not a party to. The Distribution was an "afterthought" which was decided upon only after the SPA was agreed, when it was determined as the means to remove the Receivable and prevent further value transferring to the buyer.

• Guidance in case law about what is a transaction is no substitute for the terms of the statute, the identification of the transaction is a fact-specific exercise and in doing so the court should have regard to the statutory objective of the provision.

• The underlying objective of S.238 is to uphold the principle of pari passu distribution of the assets of an insolvent company between its creditors, in an order of priorities in which holders of interests in the equity of the company rank last.

The scope of the defence in s.238(5)

• Under S.238(5), the court cannot make an order in respect of a transaction at an undervalue if the company entered into the transaction in good faith for the purpose of carrying on the business, and at the time there were reasonable grounds for believing the transaction would benefit the company.

• Determining whether there were in fact reasonable grounds at the time requires a consideration of all the relevant wider circumstances in which the transaction was made (and not just a consideration of the undervalue transaction in isolation).

• Whether there were reasonable grounds must be answered from the perspective of the company. This reflects the fundamental principle that, as a separate legal entity with its own creditors, the company's interests must be considered separately from that of other members of the group.

• In this case, the defence was not available – the requirement for the Distribution was determined by the parent, and the benefit of the transaction was considered from the parent's perspective, not that of the company. The parent received the benefit, as the Distribution was not a necessary adjunct to the sale.

Was the Pension Write-Off consideration for the Distribution?

• This issue was relevant to the determination of the extent of the undervalue.

• The Court of Appeal found no evidence that the Pension Write-Off was given in consideration for the Distribution, or that the Distribution was made in any sense in return, or as a quid pro-quo, for the Pension Write-Off. It was in no sense part of the bargain that the company entered into under which the Distribution was paid. The parent regarded the Distribution and the Pension Write-Off as part of the arrangement for the sale (albeit this was not a requirement in the SPA) but they were not in exchange for each other.

• Although not deemed consideration, the Pension Write-Off was relevant to the application of the court's broad discretion under s. 238(3) to make "such order as it thinks fit for restoring the position to what it would have been if the company had not entered into [the ] transaction". This "but for" provision confers a discretion on the court and in exercising its discretion, the court will have regard to a wide variety of considerations with a view to achieving justice between the parties (which could include considering the Pension Write-Off).

• The issue of remedy was remitted to the Commercial Court for determination by a Commercial Court Judge.

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