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When a company receives a loan from a lender, it is common that a lender would require security (also referred to as a charge) over that company's assets.
A lender would often take security in the form of a debenture, which has particular nuances that should be considered in the context of a manufacturer.
What is a debenture?
It is a form of security agreement that grants charges (on a fixed and floating basis) over all of a company's assets.
This can include:
- A legal mortgage over real estate/property owned by the company;
- Fixed charges over specific assets, which in a manufacturing context is likely to be particularly relevant in the context of plant and machinery, raw materials and stock; and
- A floating charge over all the company's other assets (such as stock or bank account).
What is the difference between a fixed and floating charge?
A fixed charge is a charge over a particular asset where the lender controls any dealing or disposal of the asset by the company.
A fixed charge will rank ahead of a floating charge in any potential insolvency proceedings.
A floating charge is a charge taken over all the assets or a class of assets owned by a company.
The main benefit to a company of the lender taking a floating charge over a fixed charge is that it does not prevent the company from buying and selling those particular assets in the course of business (without reference to the lender).
Fixed security over plant and machinery
A debenture will usually capture/create a fixed security over a manufacturing company's property, fixed plant and machinery.
In the case of plant and machinery, whether fixed security can be given depends upon whether the plant and machinery are classed as a fixture or a fitting.
It is important to note that any security regarding land (captured by a legal mortgage) will automatically extend to any fixtures that form part of the land (unless otherwise expressed in the debenture).
Fittings (moveable) do not necessarily form part of the land and will not be automatically included.
Therefore, it is important to specifically outline any fixed plant and machinery which is to be secured to avoid any doubt.
Hire purchase agreements
In some cases, a manufacturing company will have some plant and machinery financed by hire purchase agreements.
With assets that the company has the benefit of, which are subject to hire purchase agreements, the title to the assets is not with the company.
Therefore, it is also important to ensure that assets financed on a hire purchase basis can be charged or, if they are not, to exclude them from the lender's charge.
Stock and raw materials
When considering stock and raw materials, it is usually the case for the lender to capture these by both fixed and floating means, albeit they are more likely to actually be caught by the floating charge.
As mentioned above, the company can still buy and dispose of its stock and raw materials if it is subject to a floating charge, without reference to the lender, and can carry out its ordinary business more effectively.
There must be a balance struck with the lender wishing to maximise the level of control it has and the company wanting to function as a business without the need to refer to the lender on each disposal or dealing.
If the lender seeks to enforce its security over the company, often assets such as plant, machinery and raw materials could be removed from the business, seized and sold.
In a manufacturing context, this could be detrimental to the running of the business without those assets.
The company would not be able to generate profit.
Therefore, it is important to consider those assets that are subject to which type of charge and what level of control is given to the lender.