Overview How To Stop Your Security Evaporating
The starting point as to how to stop your security evaporating is to avoid envisaging that security is the ultimate panacea. It is simply not as good as cash in the bank.
Awareness and recognition that security is not a guaranteed position is crucial to formulating a security strategy.
If you are a secured creditor then your ability to have confidence that your security will protect you from suffering a financial loss in the event that a company goes into insolvency, such as Liquidation or Administration when you are owed money will depend upon:
- the type of security that you have; and or
- where you stand in the pecking order
Type Of Security
Where creditor security is concerned there are two major types of security. There is a fixed charge and floating charge security.
Certain assets lend themselves to fixed charges and other assets are of such characteristics that they lend themselves to floating charges.
By virtue of how the Liquidator distributes the assets in a Liquidation, if you want to be in the driving seat and be in the most secure position then in an ideal world you might wish to have security for your debt over fixed charge assets. The reason being is because those types of assets such as land and buildings in particular will fluctuate less readily than other assets and be less susceptible to being affected routinely by a company’s trading activities. For example, a company’s stock could potentially fluctuate enormously during the course of trading and therefore the extent to which you are secured could go up and down like a yo-yo accordingly.
An advantage of obtaining a fixed charge over land and buildings is also that you will typically have a good idea of what such assets can fetch on the open market, and have control over the sale of them and the sale proceeds (subject to any issues of priority which is explained later in this article) would have to be paid over to you before any surplus funds could be handed over to the debtor company.
If you are attracted to trading with a company and providing credit on terms that rely upon your obtaining security instead of being an unsecured creditor then you can only obtain security over available assets. For those reasons you may have to accept your security is limited to that of a floating charge. In such instances, you might be vulnerable to assets fluctuations and to HMRC’s now improved preferential rights in respect of VAT and PAYE liabilities.
The Pecking Order
Where you stand in the pecking order is particularly important if you are a secured creditor that ranks behind one or more other secured creditors. This will typically be reflected in a Deed of Priority.
It is axiomatic that the further down the pecking you are the more uncertain your position and security might be in the event of insolvency and or financial misconduct by a company’s Directors.
If you are not the highest-ranking secured creditor then your ability to prevent the higher ranking creditor in effect consuming your security if they provided further finance under their charge(s) can likely only be prevented by your stipulating terms and conditions in a Deed of Priority.
However, to attempt to bolster your position you will need full transparency as to the terms of all higher-ranking secured creditors. For example, you would typically want to know if they have cross guarantees in respect of the debt(s) due to them by other connected legal entities within say a group of companies.
It is therefore important that you obtain advice at the earliest juncture to safeguard your interests in the most effective contractual manner.