Court Imposes “Sell-By Date” on Secured Creditors
30 June 2013
Claudia Cheah explains a recent landmark decision which restricts a secured creditor’s right to claim interest against a company in liquidation.
INTRODUCTION
In the recent case of Pilecon Realty Sdn Bhd v Public Bank Bhd & Ors and Other Appeals [2013] 2 CLJ 893, the Federal Court considered the right of a secured creditor to claim interest against a company in liquidation.
BACKGROUND FACTS
Public Bank Berhad (“Bank”) granted a banking facility to Transbay Ventures Sdn Bhd (“Transbay”). The facility was secured by a charge over a piece of land (“Charged Property”) which belonged to Transbay.
Transbay defaulted in repayment and the Bank instituted proceedings in the High Court against Transbay to recover the outstanding sums. Judgment was entered against Transbay on 22 August 2003. The Bank also commenced foreclosure proceedings and obtained an order for sale of the Charged Property on 7 October 2003.
As Transbay failed to settle the judgment debt, the Bank commenced winding up proceedings and a winding up order was made against Transbay on 27 January 2006 (“Winding Up Order”). Thereafter, the liquidators of Transbay held a tender exercise and sold the Charged Property to one BSEL Waterfront. According to the sale and purchase agreement executed between the liquidators of Transbay and BSEL Waterfront, the sale proceeds of the Charged Property would be used to pay the redemption sum to the Bank, and the balance would be distributed to the other creditors of Transbay.
The liquidators of Transbay requested the Bank to furnish a statement of the redemption sum to enable the Bank’s charge over the Charged Property to be discharged. The Bank took the position that as long as its security had not been realised, it was entitled to charge interest at the default rate prescribed in the loan agreement.
On the other hand, Pilecon Realty Sdn Bhd (“Pilecon”), an unsecured creditor of Transbay, took the view that the Bank was not entitled to charge any interest after the date of the Winding Up Order. It applied to the High Court to determine the proper basis of calculating interest on the capital sum owed to the creditors of Transbay, the date up to which interest may be computed, and the amount that Transbay has to pay to the Bank in respect of the debt owed.
The liquidators in turn, sought the Court’s directions as to whether the Bank was entitled to charge interest at the contractual rates on the amount owed by Transbay after the date of the Winding Up Order to the date of full payment.
THE DECISION OF THE HIGH COURT
The High Court ruled that interest was claimable up to the date of the Winding Up Order if the Bank had brought itself within the liquidation. On the facts of the case, the Court held that the Bank stood outside the liquidation as it had not submitted a proof of debt to the liquidators. Therefore, the High Court decided that the Bank was entitled to charge interest at the contractual rate on the amount owed by Transbay after the date of the Winding Up Order up to the date of full payment of the debt.
THE DECISION OF THE COURT OF APPEAL
On appeal by Pilecon, the Court of Appeal unanimously held that the High Court had erred in extending the interest beyond the six month limit prescribed by Section 8(2A) of the Bankruptcy Act 1967 (“BA”). The Court of Appeal ruled that the Bank was only entitled to interest for a maximum of six months from the date of the Winding Up Order.
THE DECISION OF THE FEDERAL COURT
The Bank appealed to the Federal Court on the following questions of law -
(1) Whether the statutory right of a chargee under the National Land Code to rely on his security to obtain full satisfaction of the indebtedness owed to him, is restricted by Section 8(2A) of the BA where:
(i) such security is provided by a company which is later wound up under the provisions of the Companies Act 1965; and
(ii) the security was not realised within six months of the winding up order;
(2) Does Section 8(2A) of the BA apply in a company liquidation situation where the secured creditor relies on his security for full satisfaction?
Pilecon filed a cross appeal to the Federal Court on the following question of law –
Whether a secured creditor is entitled to any interest in respect of its debts after the making of a winding up order if it does not realise its security within 6 months from the date of the winding up order.
According to Zaleha Zahari FCJ, the issue in this case is whether Section 8(2A) of the BA is to be limited in its application to secured creditors in a bankruptcy situation or whether it is also applicable to secured creditors in a winding up situation. Section 8(2A) of the BA provides as follows –
“Notwithstanding subsection (2), no secured creditor shall be entitled to any interest in respect of his debt after the making of a receiving order if he does not realise his security within six months from the date of the receiving order.”
The Federal Court observed that prior to the introduction of Section 8(2A), a secured creditor was permitted under Section 8(2) of the BA to realise or otherwise deal with his security in the same manner as he would have been entitled to as if a receiving order had not been made against a debtor. In the opinion of the Federal Court, this provision enabled a secured creditor to delay the realisation of his security to the detriment of the unsecured creditors of the debtor.
According to the Court, the rationale for the introduction of Section 8(2A), as explained by the Minister in moving the amendments to the BA in the Dewan Rakyat, is to prevent secured creditors from taking an inordinately long time to realise the secured property, thereby resulting in the debtor having to bear interest on the secured debt until the secured property is sold. Such delay would be unfair to the unsecured creditors and the debtor as it would reduce the balance available for distribution to the unsecured creditors.
The Federal Court then stated that although a secured creditor was free to deal with his security under Section 8(2) of the BA, the introduction of Section 8(2A) required a chargee to realise the secured property within six months of the receiving order, failing which the secured creditor would not be entitled to claim any interest.
The Federal Court held that Section 8(2A) of the BA was clear and unambiguous and that in the absence of an express provision, there was no reason to limit its application only against a bankrupt and not to a debtor which is being wound up. Based on the construction of Sections 4(1) and (2) of the Civil Law Act 1956 and Sections 291(1) and (2) of the Companies Act 1965, the Federal Court held that Section 8(2A) of the BA applied to a secured creditor in a winding up situation.
Based on the foregoing reasons, the Federal Court answered the two questions of law posed by the Bank in the affirmative and dismissed the Bank’s appeal.
The Court then answered the question posed by the Pilecon in the negative. Their Lordships held that under Section 8(2A) of the BA, a secured creditor is given a timeline of six months to sell the charged property, failing which it would not be entitled to interest. As the Bank had realised the charged property some two years and six months after the winding up of Transbay, it had not met the statutory limit of six months under Section 8(2A). As such, the Bank was not entitled to any interest. The Federal Court also held that the Court of Appeal had erred in allowing the Bank to claim interest for six months.
ANALYSIS
This decision of the apex court is significant as it prohibits a secured creditor from recovering interest on a debt owed by a company which has been wound up after the date of the winding up order, unless the secured property is realised within six months from the date of winding up of the company.
Although this decision concerned the sale of immovable property charged under the National Land Code 1965, it is likely that the principles laid down by the Federal Court would also apply to the sale by a chargee, or his agent, of secured property under a debenture after a winding up order has been made against the chargor. This may be the position even if the chargee, or his agent, purports to dispose of the property as attorney of the chargor under an irrevocable power of attorney after the winding up order has been made. These issues however await definitive rulings by the Malaysian courts.
The six-month time-frame to realise a secured property may be insufficient in many instances, in particular where a secured property is required to be sold by public auction through the judicial process. Furthermore, in certain cases more than one auction may be required before the secured property is successfully sold.
To avoid the operation of Section 8(2A) of the BA, a secured creditor should not commence proceedings to wind up a debtor until it has disposed of the secured property. However, this strategy is not foolproof as the debtor could be wound up in proceedings initiated by other creditors of the debtor and thereby bring the six month time-frame under Section 8(2A) of the BA into play.