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Definition of shares in a charge included rights under shareholder loan agreements

26 May 2014

In Fons HF (in liquidation) v Corporal Ltd & anr [2014] EWCA Civ 304, 20 March 2014, the Court of Appeal has overruled the first instance decision and held that the true construction of the definition of shares in a charge document extended to rights under shareholder loan agreements. Such agreements were "debentures" within the definition, and the phrase "other securities" did not limit this interpretation. This decision emphasises the importance of precise drafting to ensure that charge documents clearly identify the assets that are and are not caught by them. 

The claimant Fons HF (Fons) purchased shares in the first defendant Corporal Ltd (Corporal). In October 2007 and February 2008 respectively, Fons provided funding to Corporal under two shareholder loan agreements (SLAs).

As at September 2008, Fons owed ISK 2.5 billion to Kaupthing Bank Luxembourg SA (Kaupthing) on an unsecured basis. By way of security for this debt, Fons gave Kaupthing a first legal charge (the Charge) over all of the shares it owned in Corporal. Subsequently, both Fons and Kaupthing went into liquidation.

The benefit of the Charge is now with Pillar Securitisation SARL (Pillar), the second defendant in the proceedings.
Pillar argued that the benefit of the SLAs fell within the definition of "Shares" in the Charge document as either "debentures" or "other securities" such that they were subject to the Charge. Fons argued that the definition of "Shares" did not extend this far.
Corporal played no part in the proceedings, being joined as a party to ensure that it was bound by the decision only.
At first instance, Cawson J found in favour of Fons and held that the definition of "Shares" did not extend to the SLAs (see the September 2013 Litigation Review). This decision was appealed by Pillar.

Definitions within the Charge Documentation

The Charge given to Kaupthing by Fons was titled "Legal Charge over shares".

Clause 3.1, "The Charging Clause", created a first legal charge over "the Shares" as defined by clause 1.1, to the benefit of the Chargor.

Clause 1.1 defined "Shares" as "All shares (if any) specified in Schedule 1 (shares), and also all other stocks, shares, debentures, bonds, warrants, coupons or other securities now or in the future owned by the Chargor in Corporal from time to time or any in which it has an interest".

Pillar's arguments

Pillar argued that the rights of Fons under the SLAs were charged either as "debentures" or as "other securities" under clause 1.1 of the definition of "Shares."
Previous case law demonstrates that the words "debentures" and "securities" can have more than one meaning, dependent upon the context of the agreement.

Fons' arguments

Fons argued that none of the descriptive terms included in the definition of "Shares" can properly, in the context of the Charge, be read as including a mere unsecured debt due under the SLAs. Each of the terms denotes a species of asset identifiable by the instrument itself and constitutes something more than a simple obligation to pay money.
Further, and alternatively, the use of examples such as "stocks", "shares", "debentures" and "bonds" in conjunction with the phrase "other securities" in the definition of "Shares" shows an intention to limit "securities" to a bearer or transmissible instrument.
Fons argued that, to include any unsecured loan due from Corporal to its shareholders in the meaning of "Shares" in the Charge could catch a very wide range of debts with possibly serious consequences for the parties to those arrangements.

Judgment on the true meaning of "Shares"

Patten LJ highlighted the objective approach taken by the courts to contractual construction. As with Cawson J at first instance, Patten LJ did not consider that the words in the definition of "Shares" were ambiguous.
After considering several cases, Patten LJ held that "there is…no hard and fast definition" for the term "debenture", but that "the term can apply to any document which creates or acknowledges a debt." On this basis, Patten LJ held that the SLAs are debentures.
Patten LJ then turned to whether the phrase "other securities" narrows the interpretation of "debentures" in the Charge, and found no reason from the perspective of the reasonable observer for that phrase to mean that the SLAs would be excluded.
Patten, Sharp and Gloster LJJ, therefore, allowed the appeal and declared that the SLAs are included within the Charge.
Gloster LJ added that, where there has been no disbursement of funds (and so the agreement arguably does not create but merely acknowledges a debt), an "unnecessarily technical" approach should be avoided and such instruments should be considered as "both creat[ing] and acknowledge[ing] the relevant debt" for the purpose of their designation as "debentures".


The effect of this decision was significant in the present case as it permitted the charge holder access to any sums owed under the two SLAs on the basis that these debts constitute "debentures".
The Court of Appeal confirmed the court's robust approach to the interpretation of contracts and underlined that the court will, as far as possible, seek to give words their natural and ordinary meaning derived from the context of the agreement.
The decision underlines the importance for commercial parties of considering the breadth of the clauses in their agreements and, in particular, to ensure that only the assets intended to be caught by a definition are included within it. The term "debentures" should be used with care in charge documents, as there is now Court of Appeal authority that this term can capture instruments creating and acknowledging a debt unless there are other provisions of the relevant agreement inconsistent with this.
Patten LJ was not swayed by the argument that a very wide range of debts could now be covered as a consequence of this interpretation, and preferred to focus solely on the SLAs in the case before the court. Therefore, at the drafting stage a party may wish to distinguish whether debts other than shareholder loan agreements fall within the term "debentures" under a charge document. This decision is likely to be persuasive authority for anyone seeking to argue that shareholder loan agreements fall within this term.

Further information

This case summary is part of the Allen & Overy Litigation Review, a monthly update on interesting new cases and legislation in commercial dispute resolution.  For more information please contact Sarah Garvey, or tel +44 20 3088 3710.