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This recent judgment – reported as State Bank of India and others v Mallya  EWHC 191 (Ch) - is a reminder that the court will not allow validation orders in relation to litigation that does not directly relate to defending a bankruptcy petition.
Application for validation order
Dr Vijay Mallya was (and currently remains) subject to a highly contested bankruptcy petition presented against him by 13 Indian banks in 2018. With the petition pending, he sought permission to use funds held in the Court Funds Office to discharge payment of legal fees and other costs, and other relief pursuant to s284 Insolvency Act 1986. This is known as a validation order and it is to validate certain dispositions which would otherwise be void if the bankruptcy order were later made, and could be reversed/recovered for the benefit of the bankruptcy estate.
As well as seeking payment of his living costs and costs directly associated with defending the bankruptcy petition, Dr Mallya sought to use the CFO funds for costs in connection with other litigation in which he was involved which he said was closely involved with the petition (the Connected Litigation), including:
- his ongoing proceedings in India in relation to the underlying dispute over the petition debts; and
- proceedings brought by the Diageo Group in England against Dr Mallya, his son, Watson Ltd and Continental Administration Services Ltd. Dr Mallya asserted that he was the ultimate beneficial owner of Watson Ltd and therefore it was in his creditors’ interests for him and other co-defendants to be able to defend the claim. He claimed that if his counterclaim was successful he would receive USD 35 million, but the defendants’ lawyers would not represent them without payment of their fees.
When making a validation order, under paragraph 12.8.8 of the Practice Direction on Insolvency Proceedings, the court needs to be satisfied that:
- the debtor is solvent; or
- a particular transaction or series of transactions in respect of the order sought will be beneficial to (or will not prejudice) the interests of the debtor’s unsecured creditors – although there is an narrow exception to this rule to allow a debtor to fund their legal representation in opposing a bankruptcy petition (as recognised in In Re Sinclair (1885) 15 QBD 616).
The respondents submitted that a previous validation order which Dr Mallya had obtained had already provided for his living expenses and ‘reasonable’ legal fees in relation to the bankruptcy petition. The court held that the previous order continued to apply and the monies in the Court Funds Office could be used for that purpose.
The court then needed to consider whether Dr Mallya’s legal fees should be covered in relation to the Connected Litigation.
It transpired that, as a result of an unpaid adverse costs award, Diageo had obtained judgment against Watson Ltd. The court found that, on the evidence, there was no justification for allowing funds to be used towards the Connected Litigation as this would deplete assets in the Court's control. Further, the exemption in relation to legal representation was limited and the Connected Litigation was not directly related to this bankruptcy petition. On that basis and in consideration of the Re Sinclair (1885) 15 QBD 616 decision only applying in relation to legal fees for the purpose of disputing a bankruptcy petition, the court refused to permit payment of the Connection Litigation costs.