It is a sign of the times that lenders and other businesses extending credit are taking security wherever possible, and frequently that security is in the form of personal guarantees.
It is equally a sign of the times that more and more guarantors are being called on to honour their guarantees. It comes as no surprise then that lawyers are looking at ways in which guarantors can try to escape liability when faced with a demand under their guarantee. The law relating to domestic arrangements and guarantees given by wives for their husbands’ businesses was hammered out in the downturns of the 1980s and 1990s in Barclays Bank –v- O’Brien and definitively resolved in the House of Lords in 2002 in RBS –v- Etridge.
Commercial sureties – directors giving personal guarantees for their own companies – are in a different position. The general rule is that (as with any other contract) they are bound by the documents that they sign. In general the creditor, usually a bank, does not owe a duty to explain the guarantees or to advise the commercial surety to seek independent legal advice.
Necessity being the mother of invention, are we now to see a wave of new and ingenious ways for guarantors to try to escape liability? Maybe, maybe not. In NorthShore Ventures –v- Anstead Holdings Inc. and Others (2010) the High Court has considered on one such possible escape route: non-disclosure of risks to the guarantor. The guarantors were unsuccessful but perhaps the door has been left ajar for future attempts.
In North Shore the lender was a company associated with the Russian oligarch Boris Berezovsky. Anstead drew down funds under a loan agreement with North Shore and paid them into Swiss bank accounts whereupon they were frozen by the Swiss authorities because of North Shore’s association with Berezovsky, who was under investigation.
Anstead was able to use some of the funds, and made repayments to North Shore, but in 2008 North Shore brought proceedings against two guarantors based on a demand for some $35million.
The guarantors argued that the guarantee was void because North Shore had failed to disclose that Berezovsky was under investigation and that, therefore, there was a risk of the monies being frozen. Of course, if asked, a creditor must not give a misleading answer to a question. Other than that, however, the House of Lords had stated in Etridge that the only duty on a creditor was to disclose any unusual feature of the contract between the debtor and creditor (or between the creditor and other creditors) that might affect the rights of the guarantor. The precise ambit of the disclosure obligation, however, was unclear.
In North Shore the High Court ruled that the guarantee was valid and would not be set aside on grounds of non-disclosure. The Judge came to the following conclusions as to the law:
- The obligation of a creditor to make disclosure to a prospective guarantor need not, even in the case of a guarantee for a loan, be limited to features of the contract between the creditor and the principal debtor. Where such an obligation arises, therefore, it can go beyond the features of the relevant contracts.
- A creditor need not, on the other hand, disclose anything which the prospective guarantor could reasonably be expected to know. The creditor is not to be taken to have made a representation in respect of a matter unless he could expect the guarantor not to know it. Hence, for example, a loan creditor is not normally under an obligation to disclose matters bearing on the principal debtor’s credit-worthiness.
- It is immaterial that a prospective surety could be expected to be ignorant of a particular matter if he could be expected to know of the risk in general terms.
- While a creditor does not have to disclose every material risk, a risk must be material to be disclosable. A creditor need not, therefore, disclose a matter unless it is capable of rendering the risk the guarantor is undertaking more onerous than the guarantor would otherwise expect.
- This leads to a final point which is that a guarantee can be avoided only if the non-disclosure was in fact significant to the guarantor. A surety cannot therefore seek to avoid a guarantee for non-disclosure by the creditor unless disclosure of the relevant information would have made a difference to him.
The Swiss investigations into Berezovsky could therefore in principle have been disclosable. However, no duty to disclose arises if the guarantors could reasonably have been expected to know of the risks in general terms, and the Judge concluded that the guarantors knew, and could reasonably have been expected to know, about the investigations into Berezovsky. They could not therefore avoid the guarantee on grounds of non-disclosure.
The Court also ruled that certain “protective clauses” in the guarantee would have been effective to protect the bank against non-disclosures before the guarantee was entered.
Comment
Another attempt to circumvent a well-drafted guarantee thus ends in failure. The door remains open, however. There is still scope to argue that a failure on the part of a lender to disclose a material risk could cause the guarantee to be set aside but plainly this is only going to arise if there are very unusual circumstances. Commercial lenders will also take heart that they can avoid that consequence with well-drafted protective clauses.