VietJet and the enforcement of security assignments: what does the latest case law mean for lenders?

Assignments of contractual rights are a key tool in secured lending, allowing lenders to secure and enforce rights under a borrower’s contracts. The Court of Appeal’s recent decision in VietJet Aviation Joint Stock Company v FW Aviation (Holdings) 1 Ltd¹ (“VietJet”) has provided important clarification on how security assignments operate in practice — especially when it comes to the exercise of assigned rights and enforcement.

In this article, Charlotte Drake and Priya Dasani explore the implications of VietJet, set it in the context of existing law relating to security assignments, and highlight what lenders and borrowers should keep in mind.

The Legal landscape: legal vs equitable assignments

Before examining VietJet, it is useful to revisit the distinction between legal and equitable assignments of rights:

+ Statutory assignments under section 136 of the Law of Property Act 1925 ("s.136 LPA") — often referred to as "legal" assignments — must be in writing, be signed by the assignor, be absolute, relate to the whole of the assigned right, and be notified in writing to the contract counterparty.

+ Equitable assignments arise when the requirements for a statutory (or legal) assignment are not fully met (for example, if notice of the assignment has not been served on the contract counterparty). While still effective, equitable assignments may require the assignor’s involvement for enforcement against the counterparty and can be more vulnerable to competing claims.

+ An assignment by way of charge only is a form of security where the assignor grants a security interest in the asset but retains legal and beneficial ownership until a specified event (such as the occurrence of a default). The assignee’s rights are postponed until that event. Assignments in most LMA-style security documents are not drafted to be assignments by way of charge only.

+ When determining the nature of a security assignment, the courts look at the substance of the arrangement, not just the label. If the assignee’s rights are postponed until a future event (such as the occurrence of a default), or if the assignor retains significant control of the assigned rights, the assignment may be treated as a charge or an equitable assignment, regardless of the language used.

Key cases such as Bexhill UK Limited v Abdul Razzaq², Ardila Investments NV v ENRC NV³, and Mailbox (Birmingham) Limited v Galliford Try Construction Limited⁴ have explored these issues, focusing on whether the assignee has immediate and overriding control over the assigned rights.

The nature of the assignment has various consequences, including when it comes to the exercise and enforcement of rights under the assigned contract.

Balancing lender security and commercial flexibility

After a legal assignment, the assignee is entitled to exercise all rights under the contract directly against the counterparty, without involving the assignor.

By contrast, an equitable assignee may need the assignor’s cooperation (for example, to be joined to a claim), which can delay or complicate enforcement.

In practice, lenders typically want borrowers to continue dealing with contract counterparties, even after rights have been assigned to a lender or security agent. Prior to a default, lenders commonly prefer not to be actively involved in these underlying contracts.

For example, in construction and project finance it makes commercial sense for the assignor (the project company/borrower) to continue managing the relevant contracts and exercising rights unless and until a default occurs under the financing documents.

Legal assignments and practical considerations

Until the Mailbox v Galliford Try decision, it was generally accepted that if an assignment by way of security allowed the assignor to exercise the assigned rights freely prior to a default under the finance documents, the assignment was likely to be characterised as equitable rather than legal.

Mailbox v Galliford Try therefore caused concern in the finance community because in that case the court found a legal assignment existed, despite the assignor being entitled to exercise all assigned rights prior to a default. The court held this still met the "absolute" requirement under s.136 LPA, as the debenture made clear the rights were assigned to the security trustee, who then in turn permitted the assignor to exercise them, and could re-assign the rights to the assignor if needed. The debenture also required immediate notice of the assignment to the contract counterparty, the contents of which confirmed that the security trustee became entitled to exercise all assigned rights as soon as the notice was delivered.

In fact, security assignments and related notices are not routinely drafted this way. In some finance transactions, there is no requirement to notify the contract counterparty of the assignment prior to a default. In others, even where the assignment is notified immediately, the notice may provide that the assignor can continue to exercise the rights under the assigned contract until the security holder gives a further notice to the counterparty confirming that the security has become enforceable. There may well be no express statements included in the notice (or other indications given in the security document) to suggest that the assignee has immediate and overriding control. As a result, the assignment is likely to be treated as equitable.

However, the analysis will always depend on the drafting of the assignment document and the wider factual context, meaning that determining whether an assignment takes effect as a statutory (or legal) assignment or as an equitable assignment is often not at all straightforward, and both lenders and borrowers should proceed with care.

Given the complexities and uncertainties caused by the case law, it is probably unsurprising that the LMA's REF Security Agreement for development transactions now provides for the borrower to give a charge over its rights under development documents. This avoids any suggestion that the assignor may lose its ability to sue in its own name and allows a borrower to retain the ability to enforce any contractual claims it may have against its contract counterparty prior to a default under the finance documents (which, as noted above, may be commercially desirable in a development finance context).

Lenders will often also want to take security over pre-existing collateral warranties which have been granted in favour of the borrower. However, collateral warranties commonly contain limits on the number of times they can be assigned. A security assignment of a collateral warranty may therefore "use up" one of the permitted assignments, while (depending on how the relevant collateral warranty is drafted) a charge may not.

Conversely, if a s.136 LPA statutory assignment is required in a particular finance transaction, it would be prudent for a lender to ensure that the security document addresses the following, as this will increase the chances of the assignment being legal in nature:

• Written notice of the assignment is served on all relevant counterparties as soon as the security is granted or the contract is entered into.
• The assignment in the security document and related notice clearly give the assignee immediate and overriding rights to the assigned property.
• Any rights retained by the assignor are subject to withdrawal by the assignee at any time.

VietJet: the focus shifts to enforcement

The VietJet case involved the assignment of certain rights under aircraft leases to a security trustee. Alongside the assignment provisions, the enforcement clause in the security documents set out powers the security trustee could only exercise after the occurrence of a defined “Enforcement Event”.

VietJet argued that, until an Enforcement Event occurred, the security trustee could not exercise certain rights (namely serving a termination notice) under the leases. The question was whether the assignment gave the security trustee immediate rights, or whether those rights were deferred until enforcement.

The Court of Appeal held the following:

• The assignment clause and the enforcement clause dealt with different matters.
• The assignment clause immediately transferred rights to the security trustee. The enforcement clause set out additional powers that could be exercised after default, but did not limit the trustee’s immediate rights under the assignment (there was no express drafting to the contrary).
• The security trustee’s rights under the assignment were immediate and unqualified, even if the assignor could continue to exercise certain operational rights for convenience.

The Court of Appeal in VietJet did not expressly discuss whether the assignment in question was legal or equitable. However, it does shed light on the timing and scope of enforcement rights, and reinforces the importance of the context and drafting of the security document.

Floating assignments

Finally, while the cases referred to in this article have explored the nature of an assignment and the rights of an assignee at a particular point in a transaction, it is also relevant to note that in the case of Re Spectrum Plus Limited (In Liquidation)⁵ Lord Scott raised the possibility that an assignment could be recharacterized as a floating charge.

"Suppose, for example, a case where an express assignment of a specific debt by way of security were accompanied by a provision that reserved to the assignor the right, terminable by written notice from the assignee, to collect the debt and to use the proceeds for its (the assignor's) business purposes, i.e., a right, terminable on notice, for the assignor to withdraw the proceeds of the debt from the security. This security would, in my opinion, be a floating security notwithstanding the express assignment."

Therefore, where a security assignment enables the assignor to continue dealing with the contract counterparty and use the assigned property for its own purposes (rather than only to discharge the secured obligations) this could well be recharacterised as a floating charge in the insolvency of the assignor.

Conclusion

The VietJet decision confirms that, in security assignments, the transfer of rights and the enforcement of security are distinct legal steps. Provided the assignment is drafted to give the security trustee immediate rights, the existence of enforcement triggers or operational flexibility does not necessarily undermine the nature of the security.

However, as case law demonstrates, even minor changes to the drafting or operation of the assignment can affect its legal character. The courts will also always examine the substance of the arrangement in its commercial context.

If you have questions about structuring or enforcing security assignments, or about the impact of recent case law, please contact Stephenson Harwood's Debt Finance team for tailored advice.