Taking Security

Taking security

Kieran McGarrigle discusses some of the issues for lenders when taking security.

Taking security

It is a telephone call every lender dreads. The financial director at one of its customers telephones to say that he is currently in a meeting with a licensed insolvency practitioner who is providing some assistance with "cashflow issues". An urgent meeting is required with the lender to discuss what the financial director describes as "issues relating to your security". If the customer is facing something more than temporary cashflow issues and there are defects in the lender's security, the lender's indebtedness may be unsecured if the customer is placed into some form of insolvency regime. This would have huge implications for any lender.

A lender's security can take a number of different forms and often depends on the nature of the customer's business and assets. Charges or mortgages can be taken over the customer's assets or property, assignments can be taken over debtor books and guarantees can also be provided by directors or associated companies. Charges and assignments give the lender priority over those assets in the event that its customer enters some form of insolvency process. Guarantees are sometimes taken to cover any shortfall to the lender under the charges or assignments.

Security is taken by a lender to ensure that its indebtedness is repaid in priority to all other creditors of its customer. It is therefore important that the security is taken properly, regardless of how time pressured the time frame is for a lender and its advisers. A lender's security only comes under the microscope when there are concerns about its customer's solvency. Any defects in a lender's security will be highlighted at this stage but it is often too late to remedy the defects because of the customer's precarious financial position.

Some of the key questions to ask when taking security from a company are as follows:

• Does the company have the requisite power to borrow money and grant security? If such a power does exist in the company's memorandum and articles of association, are there any limitations on this power?
• Have the facility agreement and security been properly approved and executed by the borrower?
• Does the borrower have good title to the assets being offered as security?
• Are there any existing charges registered in favour of any other lender? If the answer to this question is yes, will these charges be released prior to the new charge being granted? If not, an appropriate priority agreement should be drawn up to regulate the enforcement rights of each of the lenders and the repayment of their debts following enforcement.
• If the lender is funding an acquisition of another company, is the target granting any security which would constitute "financial assistance"? Until the new Companies legislation is implemented, it is unlawful for a private company to give "financial assistance" unless the assistance is whitewashed.
• Where the security taken by a lender is by way of charge or mortgage, has this charge or mortgage been registered at the Companies' Registry?
• Where the security taken by a lender is by way of floating charge, has the lender provided new monies to its customer? As a general rule, if a company is placed into liquidation or administration 12 months after the creation of a floating charge, that floating charge will normally only be valid security for new monies advanced.
• Is any other party investing money in the borrower by way of loans? Such loans together with the right to recover the loans from the borrower should be subordinated to the lender's loans.

These are some of the questions which lenders should consider when taking security regardless of how time pressured the transaction may be or how tight the budget for costs is. Cutting corners when taking security may save on some costs at the outset and allow the transaction to complete more quickly, but this will provide the lender with little comfort if it subsequently transpires that the lender's security is defective.

Kieran McGarrigle leads the firm's Corporate Recovery and Insolvency team and has advised a number of local lenders on the implications of the Insolvency (NI) Order 2005 on the enforcement of security by lenders.

Kieran can be contacted at: kieran.mcgarrigle@lestrangeandbrett.com

Quote: ..... security is defective