MacDonald v Carnbroe Estates Ltd

The appeal concerns the Scots law on gratuitous alienations on insolvency and the meaning of "adequate consideration" in section 242(4)(b) of the Insolvency Act 1986. The Supreme Court (Lord Hodge delivering the leading judgment) confirmed that the test of adequacy is objective: consideration must be not less than would reasonably be expected in the circumstances assuming hypothetical parties acting in good faith and at arm’s length. Where a vendor cannot carry out a proper marketing exercise the adequacy of consideration is to be assessed by reference to likely outcomes of a formal insolvency sale or a sale by the holder of a security, taking account of expenses.

The Court held that on the facts Carnbroe had not established adequacy because it adduced no evidence comparing the £550,000 sale price with the probable net proceeds of a sale by NatWest or by a liquidator. The Court also held that section 242(4) does not confine the court to a rigid choice of remedies; the court can, in an appropriate case, fashion an order that gives credit for consideration paid by a bona fide purchaser rather than always ordering reduction and leaving the purchaser an ordinary unsecured claimant. The Court allowed the appeal in part and remitted the question of the appropriate remedy to the Inner House.

Background and facts:

• Grampian MacLennan’s Distribution Services Ltd ("Grampian") owned a commercial property which it sold to Carnbroe Estates Ltd in July 2014 for a stated consideration of £550,000. Immediately before the sale NatWest held a secured LIBOR loan of c.£473,605. Carnbroe’s solicitors paid that sum to NatWest; the remainder of the stated purchase price was not paid to Grampian until June 2016.
• Grampian was in financial difficulty, had lost its factoring facility and had sold vehicles from which it traded; HMRC presented a winding up petition and liquidators were appointed who brought an action under section 242 of the Insolvency Act 1986 challenging the disposition as a gratuitous alienation (or an alienation for no adequate consideration).

Procedural history: The Lord Ordinary ([2017] CSOH 8) found Carnbroe had established adequate consideration. The Inner House (First Division) allowed the liquidators' reclaiming motion ([2018] CSIH 7), reduced the disposition and ordered restoration to the liquidators. Carnbroe appealed to the Supreme Court.

Issues framed:

1. How is the term "adequate consideration" in section 242(4)(b) to be interpreted?
2. Was the Inner House entitled to interfere with the Lord Ordinary's finding that the sale was for adequate consideration?
3. Does the court have any discretion as to the remedy to be granted under section 242(4), or is it limited to reduction/restoration?

Court’s reasoning:

• The test of "adequate consideration" is objective: consideration should not be less than would reasonably be expected in the circumstances, assuming hypothetical parties acting at arm’s length and in good faith. The seller’s need for a prompt sale to preserve liquidity may be a relevant circumstance where the sale is to preserve the business as a going concern.
• Where the seller is effectively conducting an informal winding up and cannot carry out a proper marketing exercise, adequacy should be assessed by reference to the likely outcome of a sale by a liquidator or by a security-holder (taking account of costs). On the facts, Carnbroe produced no evidence comparing the £550,000 to the likely net proceeds of such alternative sales and therefore failed to establish adequacy; the Inner House was therefore entitled to interfere with the Lord Ordinary’s assessment.
• Section 242(4) does not impose a rigid, exclusive remedy. The statutory language permits the court in an appropriate case to fashion redress which may give credit for consideration paid by a bona fide purchaser so as to avoid an unduly harsh result and an unjustified windfall to unsecured creditors. The court concluded that previous authorities (Short’s Trustee v Chung; Cay’s Trustee v Cay) that denied such flexibility were wrongly decided and should not be followed. Given incomplete factual findings about the Bank’s security and refinancing, the Supreme Court remitted the matter to the Inner House to determine the appropriate remedy under section 242(4).

Appeal allowed in part. The Supreme Court held that (i) the statutory test of "adequate consideration" in section 242(4)(b) is objective and may, in appropriate cases, include the vendor's need to achieve a quick sale to preserve liquidity; (ii) where an informal winding up prevented a proper marketing exercise, adequacy must be judged by reference to likely outcomes from a liquidator's sale or a security-holder's sale, and Carnbroe had failed to adduce evidence to make that comparison; and (iii) the court has scope under section 242(4) to fashion appropriate redress (including giving credit for consideration paid) rather than being confined to mandatory reduction that always leaves the transferee as an ordinary unsecured creditor. The case was remitted to the Inner House to consider the appropriate remedy in light of those conclusions.

Appeal from the Inner House, Court of Session (First Division) [2018] CSIH 7 which had allowed the liquidators' reclaiming motion and reduced the disposition of the Property, reversing the Lord Ordinary ([2017] CSOH 8). The present appeal was heard by the Supreme Court and judgment given on 4 December 2019 ([2019] UKSC 57).