High Court considers meaning of valuing financial collateral in a “commercially reasonable manner” on appropriation
In ABT Auto Investments Ltd v Aapico Investment Pte Ltd and Others  EWHC 2839 (Comm), the English High Court considered for the first time1 the requirement for appropriated financial collateral to be valued in a “commercially reasonable manner” in accordance with Regulation 18 of The Financial Collateral Arrangements (No 2) Regulations 2003 (“the FCARs”). Importantly, the judgment, in considering a “commercially reasonable manner”, expressly rejected the existence of an independent requirement for a collateral taker to conduct the valuation in good faith, a thorny topic which we have recently explored in more detail in our contribution to the Financial Markets Law Committee’s Paper: “Duties of Good Faith in Wholesale Financial Contracts” 2, and our upcoming English Contract Law Year in Review.
ABT Auto Investments Limited (“ABT Auto”) was a part of a group of companies known as the Sakthi group, the Sakthi group and two members of the Aapico group formed a joint venture company (“SGAH”). Following financial problems experienced by a subsidiary of SGAH, Aapico agreed in 2018 to provide a cash injection in the form of equity capital and a loan. The loan was secured by guarantees and a charge provided by ABT Auto over its 50.01% shareholding in SGAH. SGAH’s financial situation worsened and Aapico purported to exercise the power under the share charge to appropriate ABT Auto’s shares in SGAH in August 2019. In the notice of appropriation, Aapico assigned a value of USD 27m to the charged shares, based on a valuation carried out at Aapico’s request by FTI Consulting.
ABT Auto challenged the appropriation of the charged shares, alleging primarily that the appropriation was invalid and legally ineffective because:
(1) the relevant clause in the share charge was not effective to confer a legally valid power of appropriation as the method of valuation provided therein was not commercially reasonable; and/or
(2) the valuation of the charged shares had not been carried out in a commercially reasonable manner, which was required for a legally valid appropriation.
Alternatively, ABT Auto requested that the Court determine the value that Aapico should have attributed to the charged shares, had the valuation been carried out “in a commercially reasonable manner” in accordance with Regulation 18 of the FCARs.
The appropriation was held to be legally valid. The Judge dealt with issue (1) briefly, noting that the relevant clause met the requirements of Regulation 18(1) in providing for a method of valuation, and that that method permitted the valuation to be carried out in a commercially reasonable manner.
Further, the Judge also determined that non-compliance with Regulation 18(1) does not of itself invalidate the appropriation but may lead to the non-compliant valuation being set aside. The wording “subject always to the requirements of Regulation 18” in the share charge did not change this conclusion – compliance with those requirements was not a contractual condition to an effective appropriation.
The Judge rejected arguments as to the invalidity of the valuation. The Judge did not accept ABT Auto’s case that there were duties and/or legal requirements going beyond the express requirement in Regulation 18(1) of the FCARs cited at (i) below. In considering what is required by Regulation 18(1), the Judge set out a number of principles:
(i) the statutory requirement is solely that the valuation on appropriation be made “in accordance with the terms of the arrangement and in any event in a commercially reasonable manner” – the collateral taker is not subject to a separate and independent good faith requirement, or implied equitable or other duties associated with the law of mortgages in English law;
(ii) the collateral taker cannot discharge the duty of valuation placed on it by Regulation 18(1) simply by employing a third party: “If the third-party valuer does not carry out the valuation in a commercially reasonable manner, the requirements of Regulation 18(1) will not have been satisfied”;
(iii) it is the manner of valuation that must be commercially reasonable (not the result itself), albeit that the value produced may be indicative of the commercial reasonableness of the methodology. In addition, “if the valuation result reached by an approach which is not commercially reasonable is the same as that which a commercially reasonable approach would have reached, there may be no point in setting aside the original valuation only to substitute an identical figure”;
(iv) the requirement for the valuation to be carried out in a commercially reasonable manner is an objective standard, therefore the collateral taker’s views on commercial reasonableness are irrelevant; and
(v) the question of what is commercially reasonable in any given case is fact sensitive.
Applying these principles to the facts of the case, the Judge was satisfied that both Aapico and FTI Consulting complied with the requirements of the share charge and Regulation 18(1) in connection with the valuation, and it was not set aside.
This case offers a timely reminder that appropriation remains an available enforcement method to lenders benefiting from security over financial collateral arrangements. Whilst lenders must ensure that the contract contains the proper power for appropriation and that the appropriated collateral is valued in a “commercially reasonable manner” (which is a fact sensitive and objective test), this is a welcome decision that clarifies that lenders’ duties do not go beyond this and engage good faith or other equitable duties in conducting a valuation. The relevance of “special value” to the valuation, however, remains undecided. Mr Richard Salter KC did not need to consider this “interesting and difficult issue” for the purposes of his judgment. Nevertheless, he noted that there was no express indication in either the FCARs or the Directive which they implement as to whether a “commercially reasonable manner” of valuation should reflect any special value of the collateral to the collateral taker. Therefore, although this judgment is broadly positive from the perspective of lenders enforcing security of this nature, lenders should remain alive to the possibility of collateral givers running this line of argument against them to invalidate a valuation.
Irene Obahiagbon (Associate) and Faye Presland (Managing Associate) in London
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Mr Richard Salter KC, sitting as Deputy Judge of the High Court, observed at  that “…neither [Directive 2002/47/EC of the European Parliament and of the Council of 6 June 2002 on financial collateral arrangements] nor the FCARs gives any express indication of what is required to make a valuation “in a commercially reasonable manner” and there appears to be no authority, in this or any other jurisdiction, directly in point”.