Update: company and insolvency

The recent House of Lords' decision in McGrath v Riddell [2008] UKHL 21 has caused some concern among creditors of foreign companies. An article in Accountancy Age argues that the decision has paved the way for foreign liquidators to seize UK assets in cross-border insolvency disputes, referring to it as a 'watershed decision'. A leading insolvency lawyer is quoted in the Financial Times as saying that the ruling 'was likely to shift the starting point' for how UK courts consider international insolvency proceedings.

The facts of McGrath v Riddell

An Australian group of insurance companies became insolvent. Some of the companies' assets were situated in England. Provisional liquidators were appointed in England. In Australia, the court made winding up orders and appointed Australian liquidators. The Australian judge then sent a letter of request to the High Court in London, asking that the provisional liquidators be directed, after payment of their expenses, to remit the assets to the Australian liquidators for distribution. It was common ground that, if the English assets were sent to Australia, insurance and reinsurance creditors would be paid in priority to ordinary creditors. The result would be that some English creditors would lose out.

The Australian court made its request as a 'relevant country' for assistance pursuant to s 426(4) of the Insolvency Act 1986 which provides that the English court 'shall assist the courts having the corresponding jurisdiction in any other part of the UK or any relevant country or territory'. The countries designated as relevant include a number of countries such as, Australia, Canada, and also the Republic of Ireland, but not the US.

The Court of Appeal held that the English assets should not be remitted to the Australian liquidator because the outcome for some creditors would be worse than if the English assets were distributed according to English law. There was, said Carnwath LJ at para 72, no 'rule of private international law or any other countervailing benefit' which would require the court to disregard the principles applicable under English insolvency law.

However, Lord Hoffmann concluded that it would not offend against any principle of justice for the assets to be remitted. He added that the application of Australian law to the distribution of all the assets was more likely to give effect to the expectations of creditors as a whole than the distribution of some of the assets according to English law. Neither were there any compelling public policy grounds in this case which demanded that the English assets be distributed under the system of priorities outlined under the English insolvency regime. The other judges reached the same conclusion. Lord Scott commented that: 'Reliance simply on the fact that under the insolvency scheme applicable to the principal winding up there would be a significant class or classes of preferential creditors whose debts would not have priority under the English insolvency scheme was not sufficient to justify a refusal.'

In Lord Scott's view, there was nothing unacceptably discriminatory or otherwise contrary to public policy in the Australian statutory provisions.

Lord Hoffmann further stated that it would make no sense to confine the power to direct remittal to cases in which the foreign law of distribution coincided with English law. In such cases remittal would serve no purpose, except some occasional administrative convenience. And in practice such a condition would never be satisfied. Almost all countries have their own variable lists of preferential creditors.

Section 426 or inherent jurisdiction?

Controversially, Lord Hoffmann did not base his decision on s 426 but on an inherent jurisdiction of the English courts. He held that the English court, in directing remittal of the assets, was 'exercising a power,

established well before the 1986 Act, under the insolvency law of England.' In his opinion, s 426 served to extend the jurisdiction of the English court and the choice of law which it can make in the exercise of its own jurisdiction. For example, s 426 can confer jurisdiction in respect of a foreign company or enable the court to apply a foreign law when it would otherwise be obliged to apply only English.

He gave the example of England v Smith [2001] Ch 419 in which Australian law applied to the examination of accountant connected with insolvent Australian company. 'But the present case involves neither an extension of the English jurisdiction or an application by the English court of a foreign law.'

Lord Hoffmann referred to a 'longstanding principle' which required that English courts should, so far as is consistent with

justice and UK public policy, co-operate with the courts in the country of the principal liquidation to ensure that all the company's assets are distributed to its creditors under a single system of distribution. This was based upon what English judges have for many years regarded as a general principle of private international law, namely that bankruptcy (whether personal or corporate) should be unitary and universal. Lord Walker expressed himself to be in full agreement with Lord Hoffmann.

Lord Scott, however, strongly disagreed. He accepted, as a general proposition, that there should be one universally applicable scheme of distribution of the assets of an insolvent company. However, in such a case, Lord Scott stated that there is a potential conflict between, on the one hand, the desirability of that general proposition and, on the other hand, the undesirability of a degree of confusion 'coupled with the obligation of English courts to accord to claimant creditors in an English winding up the statutory rights to which they are entitled under English insolvency statutes.' In his opinion, this conflict has been resolved by Parliament in enacting s 426 in relation to 'relevant countries'. He stated that the proposition that the assistance sought by the Australian court could be given 'under an inherent power of the court without reliance on s 426(4) and (5) is, in my respectful opinion, unacceptable'. Although reaching the same conclusion as Lord Hoffmann, he was at pains to stress that he did so on the basis of s 426 of the Insolvency Act 1986, 'and not from any inherent jurisdiction of the court'.

Lord Neuberger similarly disagreed with Lord Hoffmann: 'I take the view that it would not have been open to an English court to make the order sought by the Australian liquidators in the absence of s 426(4) and s (5) of the 1986 Act.' Lord Phillip declined to support Lord Hoffmann on this point, basing his decision on s 426 and stating that he did not propose to stray 'onto the controversial area of whether, in the absence of statutory jurisdiction, the same result could have been reached under a discretion available under the common law.'

So, is there indeed a jurisdiction to exercise discretion in the interest of what Lord Hoffmann described as 'modified universalism'? Three of their Lordships in McGrath based their decisions on s 426 with two of them strongly rejecting any inherent jurisdiction that would exist otherwise. One may conclude, therefore, that the authority of the English courts when dealing with cross-border insolvencies is confined within the parameters of the various legislative provisions. If Lord Hoffmann were correct, then the already difficult task of advising clients as to how the courts would be likely to exercise their powers will become even more difficult.

Cross-border insolvency: the statutory framework

There are three main pieces of legislation in UK insolvency law governing the recognition and administration of cross-border insolvencies of foreign companies: the Insolvency Act 1986; the Cross-Border Insolvency Regulations 2006; and the EC Regulations on Insolvency. There is, therefore, a range of options open to a foreign representative.

Section 426 is applicable if a request is made from a 'relevant country' and allows for the court to exercise its discretion as to how it would assist the foreign court.

The Cross-Border Regulations became law on 4 April 2006 and bring into force a modified form of the United Nations Commission on International Trade Model Law on Cross-Border Insolvency. They govern co-operation between Great Britain and foreign courts and representatives and enable, for example, a foreign representative to apply to the British courts for recognition and a wide range of assistance and relief, including entrusting the administration or realisation of all or part of a company's assets located in Great Britain to the foreign representative.

Arguably, the court's discretion under the Cross-Border Regulations is more restricted than under s 426. For example, Article 21(2) provides that the court may entrust the distribution of all or part of the debtor's assets located in Great Britain to the foreign representative provided that the court is satisfied that the interests of creditors in Great Britain are 'adequately protected.'

The concept of 'adequate protection', which is not used anywhere else in UK insolvency law, may lead to a different outcome than that under s 426. However, it is highly likely that if UK creditors are not so protected, a court will decline to remit UK assets irrespective of how an application for assistance is framed.

By contrast, the EC Regulations are concerned with the choice of jurisdiction and cross-border recognition of insolvencies, and apply only to the EU member states (apart from Denmark which has opted out). Where there is a conflict of obligations under the Cross-Border Regulations and the EC Regulations, by virtue of Article 3 of the EC Regulations, the EC Regulations take precedence. Therefore, the Cross-Border Regulations may have little effect in the context of purely European Union insolvencies.

Effect of McGrath?

Will the decision to remit UK-based assets to Australian liquidators, even though some UK creditors would lose out, lead to a greater likelihood of similar applications succeeding in future and, therefore, greater uncertainty for creditors?

It should be noted that the House of Lords overruled the Court of Appeal only after very careful consideration of the position in Australia applied to the situation in McGrath. According to Lord Scott, the fact that Australia had been designated a 'relevant country' confirmed the general acceptability of the Australian insolvency scheme. However, in Re Bank of Credit and Commerce International SA (No 10) [1997] Ch 213 it was held that the English court was bound to apply English law and not the law of Luxembourg in relation to the setting off of mutual debts. Luxembourg had not been designated a 'relevant country' under s 426. In McGrath, Lord Hoffmann opined that even if Luxembourg had been so designated, he would not have thought it appropriate to comply with the law of Luxembourg. The mutual debts were too closely connected with England.

As for Lord Hoffmann's reliance on an inherent jurisdiction to remit the assets, Lord Scott could not have been stronger in voicing his disagreement. He found the proposition that the assistance sought by the Australian court could be given under an inherent power to be 'unacceptable' and 'would constitute the usurpation by the judiciary of a role expressly conferred by Parliament on the secretary of state'.

Furthermore, it must be questionable whether there is any room or, indeed, need for such a common law principle given the wide-ranging assistance and relief possible under the Cross-Border Regulations and under s 426 of the Insolvency Act 1986. Having said that, the Cross-Border Regulations contain a list of proceedings to which they do not apply, which includes proceedings relating to an EEA insurer. So the regulations would not have been relevant to the facts of McGrath. But it would therefore be even more surprising if the courts were to call upon an inherent jurisdiction in proceedings that are expressly excluded from the scope of such legislation to fill in a gap, a gap created expressly and intentionally by Parliament.