Matthieu de Varax and Charles Derollez
Introduction
Personal guarantees, particularly suretyships, are a common feature in French secured financing transactions.
Under article 2309 of the French Civil Code, where a guarantor under a suretyship pays the debt of the obligor, the guarantor is subrogated in all of the creditor’s rights against the debtor (up to the amount paid). However, article 2314 of the French Civil Code provides that where the guarantor may no longer be subrogated in the creditor’s rights against the debtor as a result of the creditor’s fault, the guarantor is released up to the amount of its prejudice.
By a decision rendered on 30 November 2022, the French Court of Cassation shed some light on the circumstances under which such rule may apply.
Facts
In the case at hand, a bank agreed to provide a loan to company A for the purchase by company A of shares in company B. Company A’s obligation to repay the loan was secured by a first priority pledge over the shares in company B and a security assignment of certain receivables. An individual (most likely the owner and director of company A) eventually agreed to guarantee company A’s obligations pursuant to a suretyship in favour of the bank.
Company A defaulted on the repayment of the loan and the bank acted against the guarantor to obtain payment under the suretyship. The bank at the time did not enforce the pledge of the shares in company B.
The guarantor argued, in accordance with article 2314 of the French Civil Code, that by not enforcing the pledge, the bank had deprived the guarantor of its right to be subrogated against company A and that, as a result, it was released from all its obligations under the suretyship.
In particular, the guarantor argued that at the time when company A defaulted on the repayment of the loan, the value of the pledged shares was well in excess of the outstanding amount of the loan. Company B was eventually liquidated.
Decision
The French Court of Cassation found in favour of the guarantor and held that in forming its decision under article 2317, the court of appeal should have considered the bank’s decision not to enforce the share pledge.
Comment
The Court’s decision may be interpreted in different ways. However, it made it clear that the time when a creditor enforces its rights (under its security package) is relevant in determining whether, in so doing, the creditor causes a prejudice to the guarantor.
In this respect, it is worth noting that article 2314 of the Civil Code was further amended in 2021. The following provision was added: « The guarantor has no claim against the creditor in respect of the way the security interest is enforced. »
This provision will need to be interpreted and clarified by further decisions of the Court of Cassation. However, in the meantime, this decision will serve as a reminder that lenders should diligently pursue their rights in the security package where they have the benefit of a suretyship.
Finally, the following should be noted regarding this decision of the Court of Cassation:
- « no waiver » provisions of security documents may not be sufficient to preserve the lenders’ interests in the circumstances that gave rise to the above decision; and
- the decision is unlikely to apply to a first demand independent guarantee, absent any equivalent provision in the Civil Code as regards such type of guarantee.
