In the recent case of National Merchant Buying Society Limited - v - Bellamy and Another [2012] EWHC 2563 (Ch) the High Court held that where a continuing Guarantee had been given to secure “all monies” this was not discharged by a subsequent variation of the underlying obligation.
A Guarantee is usually given at the same time as what is known as the “underlying obligation”. For example, B enters into a contract with A (“the underlying obligation”) and at the same time, and as part of that arrangement, A requires C to enter into a Guarantee of B’s obligations to A (“the Guarantee”). Therefore if A is, for any reason, unable to discharge the underlying obligation under the original agreement, C will be called upon to do so under the Guarantee.
Guarantees arise in many contexts but one that causes a great deal of concern to the owners and managers of small businesses is where an Owner/Manager is, as a Director and Shareholder of a limited company, asked to guarantee the obligations of the limited company to a bank from whom it wishes to borrow money. The decision as to whether or not to enter into such a guarantee is one which many small business owners face. The difficulty is this. If a business owner decides to set up a limited company on the basis that his liability will be limited if the company fails, then entering into a guarantee in respect of any of the obligations of that limited company undermines the principle of limited liability. If the company goes into liquidation and is unable to pay its various debts then anyone who has the benefit of a guarantee from the Owner/Manager will be entitled to recover any unpaid monies from him personally after all.
Some business owners are absolutely adamant that they will not under any circumstances, undermine that principle of limited liability. Therefore they refuse to give personal guarantees in all circumstances. However, that does not stop the lenders trying to obtain them! At the other end of the spectrum there are many business owners who have ambitious plans for their business which can only be financed by bank lending. If bank lending (particularly in respect of a relatively new company) is difficult to find they may decide they have to give a personal guarantee to get the lending they require.
The problem is often compounded by the fact that these days there are many ways in which a business can raise finance. It is not just straightforward bank lending; it can also do so by entering into hire purchase or lease agreements. Increasingly, the finance companies will require that a personal guarantee is given. Many Directors only realise just how many of these documents they have signed when their company eventually goes into liquidation and the finance companies start dusting off the Guarantees and begin writing letters of claim.
Is the Guarantee enforceable?
When a Director first receives a letter of claim under a guarantee, the first question he will want to ask is whether or not the Guarantee is enforceable. There are many ways in which it can be challenged:
- Is it in the appropriate form i.e. in writing and signed by the Guarantor, usually as a deed?
- Does it cover the particular obligation for liability being claimed?
- Was it induced by duress or undue influence; did the lender insist that the Guarantor obtained separate legal advice when entering into the Guarantee?
- Are there circumstances involving a misrepresentation?
- Has the underlying obligation been varied without the Guarantor’s consent?
It is this last situation which was the subject matter of the recent case. The general rule is that if the underlying obligation has been varied, the Guarantor is discharged from any further obligations unless the variation in insubstantial or incapable of adversely affecting the Guarantor.
The National Merchant Buying Society case, however, involved an “All Monies” Guarantee. This is a particularly wide form of guarantee (many are limited to a particular figure or to a particular transaction or loan). In this case the underlying obligation was varied. Nevertheless, the Court held that an “All Monies Guarantee should mean what it said so that even if the underlying obligations had been varied, the Guarantor was still held bound by the terms of the Guarantee. It did not matter how the financial obligations arose.
Summary and recommendations
Not all Guarantees are the same.
As a business owner, make sure you understand the implications of signing a Guarantee.
Make sure you are alert to the situations in which a Guarantee is being demanded.
Whether or not the finance company requires you to obtain independent legal advice, consider doing so.
Read the wording of the Guarantee carefully.
Be prepared to negotiate the terms of the Guarantee so as to restrict or limit the potential liability that might arise.