Non-Notification Receivable Financing

A recent English Court of Appeal decision (18 January 2018) provides helpful guidance on:

(a)        the rights of the parties to a receivables financing, where the receivable is subject to a non-assignment clause; and

(b)        how to structure and document a non-notification receivable financing.

The facts

By a purchase letter, a bank purchased from BP Oil International Limited (“BP”) the receivable payable to BP by a third party in respect of a delivery of crude oil.

The underlying contract between BP and the third party (the "Underlying Agreement") provided for a series of sales and purchases of crude oil. The Underlying Agreement was subject to English law.

A section (“Section”) in the Underlying Agreement provided that neither party shall without the previous consent of the other party (which shall not be unreasonably withheld or delayed) assign the Agreement or any rights or obligations thereunder. Any assignment not made in accordance with the terms of the Section shall be void.

No consent to assignment was obtained from the third party.

The purchase letter contained a warranty given by BP to the bank to the effect that BP was not prohibited by any security, loan or other agreement from “disposing of” the receivable.

The bank claimed against BP for US$68,881,854.62 (plus interest), for breach of the warranty.

The Court’s analysis

It was common ground between the parties that the Section imposed a contractual obligation upon BP, vis-a-vis the third party, not to assign (whether at law or in equity) BP's existing or future rights under the Underlying Agreement, whether to performance or to the fruits of the contract, without prior consent of the third party.

The Court said, however, that the Section did not impose any contractualrestriction on BP, vis-a-vis the third party, from agreeing with the bank that BP would:

(a)        pay to the bank all payments received from the third party in connection with the invoice;

(b)        hold the proceeds of the receivable on trust for the bank;

(c)        pass onto the bank any amounts subsequently recovered by BP from the third party, and to receive and hold such sums as trustee on behalf of the bank;

(d)        subrogate the bank to BP's rights against the third party under the invoice;

(e)        grant the bank a funded sub-participation in respect of the rights to receive payment of the receivable.

That was because the prohibition on assignment in the Section did not:

i)          prevent the disposal to the bank of any amounts actually received by BP from the third party, since they would not be "rights under" the Underlying Agreement;

ii)         prevent the creation of a trust over the proceeds of the receivable, or indeed over the receivable itself (i.e. the actual debt owed by the third party, although in this case no trust was declared over the actual debt);

iii)        prevent the creation of any rights of subrogation or sub- participation.

Any claim brought pursuant to the subrogation right would have to be brought by and in the name of BP.

A funded sub-participation would result in a debtor-creditor relationship as between BP and the bank, without giving the participant (the bank) any interest in the underlying debt owed by the third party.

The Court considered that the primary mechanism contemplated in the purchase letter for transferring the economic benefit of the receivable to the bank is by BP paying over to the bank the relevant amount out of the sums which it has received from the third party, with a trust imposed on the receipts in the meantime.

Only to the extent that sums are not received from the third party, are BP's rights against the third party in respect of the receivable equitably assigned to the bank.

The purchase letter expressly contemplated that either or both of a legal assignment or an equitable assignment of the receivable might not be legally possible under applicable laws and the Underlying Agreement, in which case alternative remedies and rights are given to the bank.

An important observation

The Court was in favour of the view that a no-assignment clause is almost invariably intended to operate only as a contractual provision absolving the debtor (the third party) from any duty to the assignee, not as an invalidation of the transfer of the equitable ownership. The equitable ownership can be transferred to the assignee, and the right to enforce performance remains with the assignor, as the legal owner of the debt.

On the other hand, a clause that seeks to invalidate the transfer from assignor to assignee of the beneficial ownership of the contract right, or of the fruits of performance, is contrary to public policy and is of no effect.

The Court observed that invoice discounting, block discounting, express trusts of debts and other contract rights, and, on a more massive scale, securitisation, are common. It has never been suggested that these arrangements, based on the division between beneficial ownership and the right to enforce, are ineffective.

Conclusion

The Court held that BP had not breached the warranty.