UBS Ag, London Branch v Glas Trust Corporation Ltd & Anor

It is important to identify how the issues which the court is being asked to decide have arisen. This is particularly important so as to understand the criticisms UBS made of the Note Trustee at the hearing.

By way of introduction, it is useful to begin with the analysis of Mr Justice Robert Walker (as he then was) in an unreported judgment later cited in Public Trustee v Cooper [2001] WTLR 901 at 922H, as to the court’s role in connection with a trustee’s powers. It is quoted in Lewin on Trusts (19th edition) at §27-070. The judge drew a distinction between four distinct situations or categories, with the caveat that there are numerous variations (of which it may be commented that the present case is one).

The first category is where the issue is whether some proposed action is within the trustees' powers. That is ultimately a question of construction of the trust instrument or a statute or both. The second category is where the issue is whether the proposed course of action is a proper exercise of the trustees' powers where there is no real doubt as to the nature of the trustees' powers and the trustees have decided how they want to exercise them but the trustees wish to obtain the blessing of the court. The third category is that of surrender of discretion properly so called, which the court will only accept for a good reason—as to what may constitute good reason, see Lewin at §27-082, and as to the distinction between the second and third categories, see Lewin at §27-074. The fourth category is where trustees have actually taken action, and that action is attacked as being either outside their powers or an improper exercise of their powers.

Here, the position of the Note Trustee has been (at least up to now) that it is entitled to and has decided to incur the AHG expenses. Its position can conveniently be taken from the Agreed Case Memorandum which states as follows:

“14.

The Note Trustee denies that the disbursement of the AHG expenses would constitute a breach of the relevant contractual provisions of the Transaction Documents or a breach of trust.

15.

The Note Trustee claims that the AHG expenses constitute “costs and expenses” within the meaning of its indemnity under clause 25.4 of the IDC and clause 10.5 of the NTD. It further claims that it is entitled to exercise its discretion, afforded under clause 3.8 of the IDC and clause 11.7 of the NTD, to incur and claim reimbursement of the AHG expenses under clause 25.4 of the IDC and clause 10.5 of the NTD.”

Although the issue is whether the proposed action in paying the AHG expenses is within the Note Trustees' powers, which is a question of construction of the trust documentation, the Note Trustee maintains there is no real doubt as to the nature of its powers or whether the proposed action falls within them. However, this is not a case in which it has sought “to obtain the blessing of the court”. The Note Trustee is not the applicant for directions—it is defendant to an action which UBS has brought challenging the exercise of the Note Trustee’s powers.

In terms of categorisation, there was also some potential crossover with the fourth category, since part of the Note Trustee’s case was that it had “incurred” the AHG expenses by agreeing to pay them pursuant to the Fee Letters. That could be taken as suggesting that so far as the Note Trustee was concerned, the issue was closed (which is not in fact its position). It is right to add that this was in response to what was understood by the Note Trustee (and by the court) to be a suggestion that since the expenses had not actually been paid at the time of the hearing, the expenses had not been “incurred” at all, which is not a very strong point. UBS says that this was not its suggestion. In its submissions, the way it puts it is that the expenses were not incurred by the Note Trustee, but by the AHG, and adopted by the Note Trustee. It is also right to add that by the end of the hearing neither party pressed this discussion, correctly, because it does not help decide the issue at hand.

The fact is however that the expenses have not yet been paid. The Note Trustee makes clear that it has not bound itself to pay them, on the grounds that the Fee Letters themselves expressly state that it is not liable to pay them if such payment cannot lawfully be made from the Payment Waterfalls (i.e. that they are “properly incurred”). For various reasons to do with the wording of the Fee Letters, UBS says that this is wrong, and that the Note Trustee has agreed to make these payments. But it is a reasonable assumption that if the AHG advisers had regarded the Trustee as bound, the court would have been informed, and it has not been.

In the course of oral argument, the Note Trustee accepted that for these reasons its contentions as to the absence of evidence of anything approaching impropriety or bad faith on the part of the Note Trustee are irrelevant, though (as it was put) these principles will inform the way that the Note Trustee will behave going forwards. The same applies to its contentions as to indemnification. Nothing more need be said on this aspect of the submissions. It is common ground that the question for decision depends on the construction of the relevant contractual provisions—the first category identified by Mr Justice Robert Walker.

At the hearing, the Note Trustee made what appears to be a new contention to the effect that there has already been a “first stage” of independent scrutiny of the AHG expenses in the form of “the review undertaken by Freshfields and Rothschild to determine what they view as costs relating to the Note Trustee’s powers and duties, as opposed to costs relating to other matters”. The term “other matters” is doubtless a reference to the claim to rescind the swaps. In comments on the draft judgment, the Note Trustee clarified its position, saying that it had not been suggesting that the scrutiny by the AHG advisers was “independent”.

The facts are as follows. It is correct that on 16 May 2016, Freshfields wrote to the Note Trustee stating that, “We wish to make it clear that neither we nor Rothschild have at any time advised the AHG or the issuer in relation to the swap dispute …. Our own terms of engagement specifically provide that this is excluded from our scope of work".

Whilst not challenging this assertion, UBS does point to items in the firm’s interim bill including liaising with the Issuer’s solicitors “in relation to potential litigation against the swap banks”. This it says at least suggests that the line may be difficult to draw.

Further, Rothschild’s ongoing fees consist of a retainer of £75,000 a month and a £3.75 million transaction success fee. UBS says that it is difficult to see how agreeing to adopt that could have been signed off as a proper exercise of power by the Note Trustee.

Whatever the precise position on these issues, in agreement with UBS, the court takes the view that the simple reason that a review undertaken by Freshfields and Rothschild cannot be taken as “independent scrutiny” as claimed by the Note Trustee is that these firms were acting for the AHG and not the Note Trustee.

In its submissions for the hearing, the Note Trustee put forward what it accepts is a new case. It says that while it had “formed the clear view that it is appropriate to incur the AHG expenses as a matter of principle”, it will review the expenses both as to whether the “overall amount” is excessive, and whether payment is in conformity with its powers as set out in the Transaction Documents. If it considers that any of the specific items charged by way of AHG expenses do not relate to its powers and duties, it “will query those expenses (and, if appropriate following explanations from Freshfields and Rothschild, will not pay them)”.

UBS says that this is inconsistent with the Note Trustee’s position to date, and this is obvious from what has been set out above, and indeed the Note Trustee does not dispute it. So it is unnecessary to do more than further refer to the correspondence between the lawyers in which the Note Trustee maintained that it was satisfied that the work that has been and is being undertaken by the AHG’s advisers is for the benefit of the Noteholders and the Issuer Secured Creditors as a whole, and that the fees represent an expense which it is appropriate for the Note Trustee to pay (see in addition to what is referred to above a letter of 13 April 2016).

This stance is reflected in the Note Trustee’s evidence for the hearing stating that the Note Trustee has “… concluded that it is right to exercise its discretion to adopt the AHG expenses as an expense of the Note Trustee and that such costs should be discharged by the Issuer in accordance with clause 10.5 of the NTD and/or clause 25.4 of the IDC as a cost or expense properly incurred by the Note Trustee”. It is said that the expenses were “properly incurred” and thus recoverable under clause 10.5 of the NTD, and that having given the matter consideration, the Note Trustee has “… concluded that such fees are reasonable in light of the timescale involved and the complexity of the structure and the Transaction Documents”.

So the position taken prior to the hearing was that the Note Trustee was “adopting” the AHG expenses. There was no suggestion that it was going to review the expenses, and potentially not pay them.

This change of position has the further consequence, as UBS submitted, that the Note Trustee now accepts at least implicitly that the adoption and disbursement of the AHG expenses which it proposed to make without any such review would not comply with the relevant contractual provisions of the Transaction Documents.

Against this background, and responding to the court’s questions as to how the Note Trustee now sees the relief that should be granted, on the second (and last) day of the hearing it tendered a draft order which sets out certain orders which it suggests the court should make. This is dealt with below.

The analysis advanced by UBS of the provisions defining the Note Trustee’s expenses in clause 25.4 of the IDC and clause 10.5 of the NTD (which are in substantially the same terms) was largely agreed by the Note Trustee. As noted, in this particular case the expenses have not yet been paid, so that the question is effectively whether the AHG expenses can properly be adopted under the clause as is proposed.

In the court’s view, the following approach applies. In deciding whether particular expenses fall within the trustee’s expenses clause, it should be kept in mind that such clauses are typically (and are in this case) widely drafted, and in the context of a financial transaction should be given a commercial and not artificially restricted meaning. This reflects the fact that the exercise of the trustee’s powers may contain a substantial measure of judgment, may be controversial, and may have to be carried out speedily to enable resolution of the transaction. Of course, the position depends on the construction of the particular clause, but subject to that, the trustee should be able to fulfil its duties with confidence that if it acts in a commercially reasonable manner, it will be entitled to indemnification. In the financial context, any other approach would risk frustrating the transaction. This is fully consistent with the authorities cited by the Note Trustee and referred to above.

With that in mind, the Note Trustee’s entitlement to be reimbursed by the Issuer for its costs and expenses out of the Securitisation Funds is not in dispute and can be broken down as follows:

As has been explained above, the trustee’s expenses have first-ranking priority in Schedule 14 to the CMA which sets out the waterfalls that govern priority in the pre-enforcement situation, which is what presently obtains.

In its written submissions, the Note Trustee points out that any enforcement process must ultimately be conducted by the Note Trustee, being the legal person in whom the relevant security rights are vested. It says that, “Although the Note Trustee is required to have regard to the interests of all Issuer Secured Creditors [clause 10.1 of the IDC], the Transaction Documents expressly state that, so long as any of the Notes remain outstanding, the Note Trustee should have regard only to the interests of the Noteholders [clause 10.3 of the IDC].”

Clause 10 of the IDC deals with “Conflict”, and contains a number of provisions. The Note Trustee’s submission rests on the final sentence of clause 10.3 which reads, “Except where expressly provided otherwise, so long as any of the Notes remain outstanding, the Note Trustee is not required to have regard to the interests of any other persons entitled to the benefit of the Issuer Security”. It is however common ground that this sentence cannot be read in isolation from the rest of the clause.

It was difficult to see how far this submission went. The construction of clause 10 of the IDC being in issue, the court asked for post-hearing written submissions to be submitted by the parties as to its potential relevance, which the parties did. There are basic disagreements between them as to how the provisions are intended to operate, and though (in my view) the submissions of UBS seem the more consistent with the wording of the clause, the Note Trustee has provided a detailed analysis in support of a submission that the UBS construction would give rise to a “serious lacuna”.

In summary, the position of UBS is that clause 10.3 is inapplicable, and irrelevant. In oral argument, the Note Trustee accepted that not much turned on this point. The subsidiary nature of the issue is confirmed by the Note Trustee in its post-hearing written submissions.

The true construction of the conflict clause could be significant were it to arise directly (or more directly). Having considered the parties’ submissions, it seems undesirable for the court to embark on a difficult construction issue unless it is necessary to do so. It is not necessary. The point that the Note Trustee seeks to extract from the provision is that the mere fact that the Noteholders and the Issuer Swap Counterparties have conflicting interests does not prevent the Note Trustee from adopting the expenses of the former, provided that such expenses properly fall within the terms of clause 10.5 of the Note Trust Deed. With the proviso that the term “conflicting interests” is not intended to refer to the dispute between the banks and the Noteholders as to whether the swaps should be rescinded—something which is common ground—it is unclear how far if at all this is in dispute. In any case, the court will proceed on the basis that it is not.

As explained, the Note Trustee no longer seeks to maintain that it is entitled to incur and claim reimbursement of the AHG expenses under clause 25.4 of the IDC and clause 10.5 of the NTD or at all without determining, on a case-by-case basis, whether such expenses properly fall within those provisions. It accepts that the adoption of the AHG expenses depends on it reviewing the expenses both as to whether the amount is excessive, and whether payment is in conformity with its powers as set out in the Transaction Documents.

The Note Trustee was clearly right to make this concession. Despite the court’s observations above as to the width of the expenses clause, what was put in place in March 2016 cannot be sustained legally. The adoption en bloc of the costs and expenses of the ad hoc group of Noteholders past and future in effect surrendered the trustee’s duty to form an independent view as to whether the expenses were ones which it could properly incur. There was also a lack of transparency as to what the expenses related to, doubts as to what parts of the material the Note Trustee had actually seen (which were not dispelled during the hearing), and at least a possible issue as to the extent to which the Note Trustee could pay for advice on which it was expressly excluded from relying, all in circumstances in which the effect of the adoption would be to invest the Noteholders’ expenses with a priority under the waterfall to which the expenses were not entitled, against the background of a dispute between the banks and the ad hoc group as to the validity of the swaps with potential litigation in sight. All this applies a fortiori to the proposed adoption of the AHG expenses on an ongoing basis. It is evident that the adoption of the expenses in such circumstances required a degree of careful scrutiny by the Note Trustee in order to form the opinion that the expenses were properly incurred, which it is now accepted needs to happen.

UBS seeks declarations to the effect that the AHG expenses do not constitute expenses which may be incurred by the Note Trustee under clause 25 of the IDC and clause 10 of the NTD. Broadly, and for reasons set out above, in the circumstances of the Note Trustee’s concession, it has succeeded in making good the thrust of its objections. This includes its objections to the Extraordinary Resolution of 31 March 2016 which turn on the same considerations.

As noted above, at the hearing the Note Trustee tendered a draft order which sets out certain orders which it suggests the court should make. The recitals state that the court is being asked to determine whether the fees, costs, charges and expenses charged by the AHG advisers within the scope of their respective retainers under the Fee Letters can properly be incurred by the Note Trustee. The draft order goes on to set out the Note Trustee’s proposals in that regard.

Thus, as counsel for UBS put it, the case has “morphed” into one in which the Note Trustee is in effect seeking the court’s directions as to what it should do. But, as was pointed out, the application is not supported by the evidence that would be expected to enable the court to give such directions. In any case, UBS chose not to respond in any detail to the drafting of the order in its reply submissions.

However, there are a number of caveats to be made. First, it was sensible that the Note Trustee should change its position albeit late rather than continue to defend a position that was not readily defensible.

Second and importantly, UBS accepts in principle that a Note Trustee can adopt expenses incurred by third parties such as noteholders—clearly, it can. As it was put on behalf of the Note Trustee in the correspondence referred to above, it would be duplicative for the Note Trustee and its advisers to reinvent the wheel. As a matter of comment, I would add that it would be especially undesirable to incur unnecessary costs in the context of a securitisation where the underlying assets are “sheltered housing assets” if there were adverse implications for residents and others. In its comments on the draft judgment, UBS says that there would not be adverse implications for residents and others if costs were to be incurred in the context of this securitisation: it is right to say that this issue was not raised by either party at the hearing.

Despite the obvious limitations, therefore, the court should seek to take a practical approach to move things forward. The proposed directions are an attempt to suggest a way forward, and should so far as possible be dealt with as such. Given that the directions were not the subject of detailed argument, I shall state my preliminary views, making it clear that these are preliminary. That however should be sufficient to enable the responsible financial institutions that are involved in this case to agree without further recourse to the court.

On that basis, the following matters in particular arise on the draft order in determining what expenses fall within clause 25 of the IDC/clause 10 of the NTD (i.e. the expenses clause):

For the reasons set out above, the adoption by the Note Trustee of the AHG expenses cannot proceed as the Note Trustee has proposed, and (as explained) it no longer seeks to uphold its original approach. The parties are asked to agree the terms of the consequent order to be made by the court. This should take account (so far as possible) of the preliminary views expressed above which are in some respects receptive to the draft order submitted by the Note Trustee during the course of the hearing. The court is grateful to the parties for their assistance.