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Prescribed part - second case denies creditors a second bite at the cherry

6 February 2008

Four weeks ago we reported on the case of Re Permacell Finesse Limited ("Permacell") (unreported) in which the High Court in Birmingham ruled on the availability to floating charge holders of the "prescribed part". Now in a second case, in the Matter of Airbase (UK) Limited [2008] EWHC 124(Ch) ("Airbase") the High Court in London has reached the same conclusion.

His Honour Judge Purle QC ruled in Permacell that section 176A of the Insolvency Act 1986 operated as a departure from the general rule that secured creditors rank ahead of unsecured creditors. Floating charge holders were not entitled, the Judge said, to claw back any shortfall in their security from the fund created by the prescribed part. This was the quid pro quo for the advantage given to floating charge holders by the removal of the Crowns preferential status.

The Judge in Airbase, Mr Justice Patten, was already preparing his judgment on a similar point when he was handed a copy of the Permacell decision. Mr Justice Patten took the same approach as the Judge in Permacell but he dealt with fixed as well as floating charges because in Airbase there was a shortfall under both the fixed and floating charges.

Mr Justice Patten reflected on the 1982 Cork report which proposed that floating and fixed charge holders should be treated differently, in that the holder of fixed and floating charges should not participate with the unsecured creditors in the suggested portion (10) of net assets secured by the floating charge which is reserved and made available to them. The Cork committee recommended, however, that fixed charge holders should be entitled to participate in that fund to the extent of the unsecured balance.

This suggestion was not acted on by Parliament and, observed Mr Justice Patten, it is clear that no distinction is drawn in section 176A between floating and fixed charge holders. On the wording of the statute he rejected the banks argument that "unsecured debts" included the unsecured portion of a secured creditors claim. The prescribed part is held for the benefit of unsecured creditors alone and neither floating nor fixed charge holders can participate in respect of the unsecured portion of their claim.

Similar to the comments made by the Judge in Permacell, Mr Justice Patten held that the pari passu principle was fundamental but not immutable and is necessarily modified by section 176A.

The banks have decided not to appeal the Airbase decision.

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