The Court of Appeal has unanimously overturned an unlawful preference ruling from the High Court, finding instead that the repayment of inter-company debt did not amount to a preference because, at the time the operative decision to make the repayment occurred, there was no desire to prefer.

The case involved the repayment, by Comet Group plc (“Comet”), of a £115.4 million unsecured intra-group debt to Kesa International Ltd (“KIL”) (the “KIL Debt”) as part of the sale by the Kesa group, of Comet, which completed just nine months before Comet entered administration, subsequently converted into a creditors’ voluntary liquidation. The liquidators of Comet brought an application under section 239 of the Insolvency Act 1986 claiming that the repayment by Comet of the KIL Debt amounted to a voidable preference.

The sale of Comet was conditional on a number of things, including repayment of the KIL Debt, and the terms and conditions were recorded in a Sale and Purchase Agreement (“SPA”) signed in November 2011, scheduled to complete in February 2012. Comet was not a party to the SPA but rather, it was a condition of the SPA that (a) the Kesa parties procure that the Comet board of directors (which included directors also appointed to KIL) resigned prior to completion, to be replaced by the purchasers’ nominees, and (b) the purchasers procure that the KIL Debt be repaid. At the time of signing the SPA, Comet had no enforceable contractual obligation to repay the KIL Debt.

The question of whether a preference had taken place came down to when the operative decision, purportedly influenced by the desire to prefer, occurred which may have been earlier than the actual giving of the preference. The key question in the appeal was: when did Comet decide to repay the KIL Debt? Was it at the time the SPA was signed in November 2011 or when the new board of directors of Comet approved the repayment in February 2012?

While it was accepted by Lord Justice Lewison that an operative decision may be a conditional one, much will depend on the nature of the condition. In this instance, Lewison LJ held that a decision which is conditional on board approval (or ratification) does not amount to an operative decision; a further decision of the board is necessary to make the operative decision. Therefore, the condition in the SPA to repay the KIL Debt as part of the sale process did not constitute an operative decision to make the repayment. Further, Lewison LJ confirmed that a decision by the old board to ask the new board to make a decision does not amount to an actual decision of the old board, even where there is an expectation that the new board would do as asked.

The operative decision was made by the new board in February 2012. Indeed, the SPA specifically provided for the new board to make the decision at the time of completion. While it is not unusual for a creditor to put pressure on a debtor to repay a debt, that does not mean that the debtor has decided to repay it. In this case, Lewison LJ held that even if in February 2012, the newly appointed board had little choice but to accept the terms of the SPA and repay the KIL Debt, it does not follow that Comet had already made the decision in November 2011.

By replacing the board before the operative decision was made in February 2012, whether intentional or otherwise, an element of independence was created such that there could be no desire to prefer KIL because such payment was, at the relevant time, being made by directors unconnected with the Kesa group.

It is not uncommon for transactions to occur which have been prepared and proposed by parent or controlling entities within a group with an expectation that the subsidiary operating company will fall into line. However, this judgment makes it clear that a decision of the wider group is unlikely to be an operative decision unless and until the board of directors of that subsidiary company actively approves the transaction in question. Ultimately, in an insolvency scenario, it is key for the directors of the insolvent company to make independent and operative decisions about that company to reduce or mitigate any risk of challenge.