Insolvency Tests in the Cayman Islands and the UK Compared in Light of Supreme Court's Decision in BNY Corporate Trustee Services
Michael Mulligan, Associate, and Devika Parchment, Associate, Conyers Dill & Pearman, Grand Cayman, Cayman Islands
While the Cayman Islands legal system is based upon the UK legal system, often there are material differences to its body of jurisprudence when compared to that of the UK. One area of notable divergence is the basis upon which a company is determined to be insolvent for the purposes of making a winding up order.
In BNY Corporate Trustee Services Limited and others v Eurosail – UK 2007 – 3BL PLC [2013] UKSC 28 (the 'BNY case'), the Supreme Court has recently delivered a judgment providing clarification on the construction and effect of the 'balance-sheet' insolvency test and its interaction with the 'cash flow' insolvency test.
The UK provisions
UK legislation provides for two separate tests for insolvency which stand side by side though there is no indication of how they are to interact: (i) a cash flow test, and in the alternative, (ii) a balance sheet assessment.
The cash flow test under section 123(1)(e) of the UK Insolvency Act 1986 (the 'Act') provides that a company is deemed unable to pay its debts if it is proved to the satisfaction of the court that the company is unable to pay its debts as they fall due. The words 'as they fall due' import an element of futurity of debt into the legal test.
Separately, under section 123(2) of the Act, a UK court may find a company insolvent on a balance sheet assessment where the 'value of the company's assets is less that the amount of its liabilities, taking into account its contingent and prospective liabilities'.
The Supreme Court's decision in the BNY case
In the BNY case, the Supreme Court had to consider, among other things, whether Eurosail, an issuer of certain notes secured by mortgage loans on residential property in the UK should be considered unable to pay its debts within the meaning of the balance sheet insolvency test as provided for in section 123(2) of the Act. The Supreme Court upheld the judgments of the courts below in finding that Eurosail was not unable to pay its debts within the meaning of section 123(2).
Having considered the legislative history of both the sections 123(1)(e) and section 123(2) provisions of the Act, the Supreme Court took the opportunity to opine that in relation to section 123(1)(e):
'the changes in form served … to underline that the cash-flow test was concerned, not simply with … presently-due debt, nor only with other presentlydue debt owed by the company, but also with debts falling due from time to time in the reasonably near future. What is the reasonably near future, for this purpose, will depend on all the circumstances, but especially on the nature of the company's business'.
The balance sheet test
In relation to section 123(2), the Supreme Court held that the express reference to assets and liabilities in that section is:
'practical recognition that once the court has to move beyond the reasonably near future … any attempt to apply a cash-flow test will become completely speculative, and a comparison of present assets with present and future liabilities (discounted for contingencies and deferment) becomes the only sensible test. But it is still very far from an exact test, and the burden of proof must be on the party which asserts balance sheet insolvency.'
In the Court of Appeal, Lord Neuberger handing down the leading judgment, approved the reasoning of the court at first instance in relation to section 123(2), was of the view that a mechanistic approach whereby a company was considered unable to pay its debts simply because its liabilities exceeded its assets was not to be adopted and that the wording of the provision did not compel such a conclusion.
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