Commingled assets of a liquidated company with competing secured claims – how do we fairly distribute the secured mix? - Determining a just and equitable distribution amongst creditors whose security assets have been commingled – the Pars Ram Brothers case

by Dentons
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[co-author: Priscilla Wee]

What is a fair and just method of distribution of an insolvent company’s assets amongst creditors if its assets have been commingled into a single mixed bulk, and the proceeds are insufficient to satisfy every secured claim?

This issue arose for determination in the recent Singapore High Court decision of Pars Ram Brothers (Pte) Ltd (in creditors’ voluntary liquidation) v Australian & New Zealand Banking Group Ltd and others [2018] SGHC 60. The High Court considered the distribution of commingled assets (i.e. mixed four categories of stocks of black pepper corn) of Pars Ram Brothers (Pte) Ltd (the Company) amongst its secured and general creditors, all of whom have a security interest in the mixed bulk assets, and none of whom are wrongdoers vis-à-vis each other.

Prior to this decision, there was a paucity of Singapore case authority on the issue. In this article, we explore (A) a brief background of the facts in the Pars Ram Brothers case, (B) the basis of the Court’s reasoning in favouring the “rolling charge” method of distribution; and (C) some practical implications for creditors.

A. Brief Background Facts

Prior to its liquidation, the Company was in the spice business, trading primarily in pepper and cashew nuts and financing its import mostly through trade financing facilities granted by banks. The banks would disburse funds directly to the relevant stock supplier upon proof of the Company’s purchase and subsequently release relevant shipping documents to the Company to allow the Company to sell the stock to its end-customers. In exchange, the Company would execute a trust receipt in favour of the banks on terms that the Company would hold the financed stock or proceeds of sale on trust for the bank. 

The Company subsequently became insolvent and its Liquidators proposed that the stock in the Company’s possession (which included 17 different categories of pepper) be sold and the proceeds distributed. In a separate judgment, it had been determined that four of the 17 categories of pepper would be distributed amongst secured and general creditors of the Company – the issue for determination in this case was what an appropriate method of distribution should be used since there was no enough stock / proceeds to pay off all interested creditors.

B. Various Methods of Distribution  

Three possible approaches were identified and considered by the High Court, as summarised in the table below:

 S/No.  Approach  What is it?  Supported by

 1.

“First in, first out”

(famously known as the rule in Clayton’s Case)

When sums are mixed in a bank account as a result of a series of deposits, withdrawals are treated as withdrawing the money in the same order as the money was deposited.

 All parties confirmed that they were not advocating this approach.

 2.

Pari passu

The pari passu sharing of the total pool of assets according to what each of the claimants are owed, ignoring the dates on which they have made their respective investments.

 5th and 6th Defendants (DBS Bank Ltd and Indian Bank)

 3.

Rolling charge

Similar to pari passu method in that calculations are done on a pari passu basis, but additionally, the contributor’s rateable interest in the mixed fund vis a vis the other contributors are to be recalculated at every instance of withdrawal.

 2nd Defendant (Bank of Baroda) and Liquidators.

The High Court ultimately preferred the rolling charge method for the following reasons: -

  1. The “first in first out” method favours later contributions over earlier contributions and could be perceived as arbitrary and unfair. For this reason, this method should only be used on an exceptional basis.
  2. As between the pari passu and rolling charge method, the rolling charge method more fairly takes into account the rateable interests of each contributor to the mixed fund immediately before any withdrawal, and is thus more precise and deemed to produce “the most just result”.
  3. That said, High Court also acknowledges that the pari passu method is often preferred for considerations of costs, practicality and relative simplicity in implementation. Hence, unless the rolling charge method was impracticable or unworkable (e.g. because of a prohibitively large number of claimants or transactions), it should be the preferred method.

On the facts of the case, the High Court found that the objections to adopting the rolling method were not made out on the facts for the following key reasons:-

  1. First, there was no system for incoming stock to be stored in the Company’s warehouse (as appeared to have been suggested) which would make the adopting of a rolling charge method objectionable.
  2. Second, and contrary to the objectors’ argument that there was evidential uncertainty regarding the order of same-day entries in the warehouse ledger, the High Court found that the order in which the entries were recorded was the order in which incoming and outgoing shipments were made. Hence, there was no insuperable difficulty in applying the rolling charge method.

Additionally, a key consideration relevant on the appropriate method to adopt is the parties’ intentions, whether express, inferred or presumed.

The High Court found that the terms of the trust receipts in this case (stating that the Company should hold or store goods in a manner capable of separate identification) pointed away from the creditors’ intention to accept a pari passu distribution.

C. Practical Implications for Creditors

The tenor of the Pars Ram Brothers decision suggests that the rolling charge method of distribution is likely to be the way forward in such situations, provided that such application would not be too complicated or costly.

When providing lending facilities, lenders should ensure that their security, as well as any proceeds of sale held on trust for them, are clearly segregated or paid into a separately designated account. This would go towards demonstrating that any monies held on trust for the lender is intended to be treated separately / being capable of separate identification, and not to be distributed on a pari passu, or even on a rolling charge, basis in the event of a borrower’s liquidation.

Lenders are also reminded to undertake practical checks from time to time on the mechanisms and obligations of segregation to ensure that their interests continue to be safeguarded.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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