This is an extract of our Title Based Financing document, which we sell as part of our Banking Law Notes collection written by the top tier of King's College London students.
The following is a more accessble plain text extract of the PDF sample above, taken from our Banking Law Notes. Due to the challenges of extracting text from PDFs, it will have odd formatting:
Title-based financing VS Secured lending
● Loan credit VS Sales credit:
○ Loan = Payment of money to the debtor, subject to repayment with interest.
■ The interest rate structure accounts for the risk of default.
■ A vehicle to generate profits for the creditor?
■ Long-term in nature.
■ High in value (relative to the value of the underlying business). E.g.
Consider the use of loans in private equity transactions to finance the acquisition of entire businesses.
○ Sales credit = Deferral of payment of sales price.
■ Short-term in nature.
■ Low in value with a focus on particular assets.
■ Profit is made through the sales price.
■ Interest rate is not essential.
○ Loan credit protection = Security interests proper.
■ Strict formalities upon creation and enforcement.
■ Mandatory risk-and-reward structure.
○ Sales credit protection = Based on title (i.e. ownership).
■ No formalities other than transfer of ownership.
■ No mandatory enforcement rules.
■ Risk-and-reward structure subject to the autonomy of the contracting parties.
■ Enormous flexibility.
■ But there is the problem of ostensible ownership. This is because the requirements of transparency and publicity do not apply in relation to ownership-based funding. The reliance by the lender on ostensible ownership (without making further enquiries) may be dangerous.
○ Title-based funding as a cheaper alternative for loan credit?
■ The debtor sells assets to creditor at a discount to be re-bought at a later date.
■ The repurchase price reflects both the principal and the interest.
○ But there is the problem of recharacterisation:
■ Ownership-based arrangements that are used to secure loan credit
(which are usually secured by security interests proper) might be characterised by the courts as security interests proper.
■ The lack of formalities (because the arrangement has not yet been registered) means that it is not effective against the administrator,
liquidator, and all creditors (both secured and unsecured) in the borrower's insolvency.
Retention of title ● Retention of title ("RoT"):
○ Seller transfers ownership to the buyer;
○ Under the condition subsequent of payment of the purchase price;
○ Transfer is completed upon payment; and
○ Upon default, the seller may seize the asset as the owner even in the debtor's insolvency.
● Simple RoT under SS17 and 19 Sale of Goods Act 1979:
○ Transfer of title under condition of payment;
○ Property remains with seller until payment;
○ Seller may repossess the goods upon default; and
○ The seller may sell them and retain any overvalue.
● Expanded RoT clauses?
● All-debts clause:
○ Aluminium Industrie Vaassen BV v Romalpa Aluminium Ltd:
"The ownership of the material to be delivered by the seller will only be transferred to the purchaser when he has met all that is owing to the seller,
no matter on what grounds."
■ This incentivises repayment by the debtor of all his outstanding debts to the creditor.
○ Armour v Thyssen.
■ Held, that it is a legitimate condition to make transfer of property dependent on payment of all outstanding debts.
● Manufacturing clauses:
○ Seller will be given ownership of the new objects as security for the full payment of what the purchaser owes.
○ Ownership of the articles in question, whether finished or not, are to be transferred to the seller.
○ This transfer takes place at the moment of the materials are converted into a new object, or mixed with or becomes a constituent part of another object.
○ Clough Mill Ltd v Martin:
■ Held, that property in the new assets will generally vest in the manufacturer.
■ Parties may however agree that such property may vest in the seller.
■ But the buyer may also have paid part of the price, borne the costs of manufacture, or provided other materials.
■ Seller retaining ownership in new goods = Unjustified windfall.
■ There is therefore either a trust of a charge.
■ But trust is insensible where there is more than one seller (with legal title).
■ The court thus concluded that the parties really intended to create an equitable charge in favour of the seller, but, because the charge has not been registered, it remains ineffective vis a vis third parties. This is a case wherein the court recharacterised the security interest that the parties intended to create.
● Proceeds clauses:
○ "The purchaser will be entitled to sell these objects to a third party within the framework of the normal carrying on of his business and to deliver them on condition that — if the seller so requires — the purchaser shall hand over to the seller the claims he has against his (sub-)buyer emanating from this transaction as long as he has not fully discharged his debt to the seller."
■ I.e. The buyer shall hand over to the seller any receivables that he has from selling the articles to the sub-buyer.
○ Proceeds clause will almost always recharacterised as a charge on book debts
(which will, in turn, be struck down if they have not been registered).
○ A possible trust solution (as suggested in the Australian case of Associated
Alloy Pty Ltd v Shirlaw)?
■ "The buyer holds on trust for the seller such fractional part of such proceeds then received as equivalent to the amount then owing by the buyer to the seller and the rest on trust for himself."
■ "The buyer should be put under obligation to transfer money into the seller's account or specific trust accountiwthin a certain period of time."
■ "The amount held in the general account should not be allowed to fall below the amount held on trust for the seller."
● The dual nature of a debt receivable:
○ Internal aspect:
■ The personal relationship between creditor an debtor.
■ This is governed by contract (or perhaps tort).
○ External aspect:
■ The claim as an asset in itself.
■ It can be transferred and used as collateral.
● Converting claims into cash:
○ It is all about increasing liquidity for the creditor. This is because, unless and until the debt matures, they cannot be converted into cash.
○ Non-recourse financing:
■ Outright transfer at a discount to nominal value from the assignor to the assignee.
■ The collection risk is borne by an assignee.
■ The assignee can also retain any overvalue.
○ Recourse financing:
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