Restructuring Plans – stakeholder fallout
This article was co-authored by Anna Thompson, Coralie Gass and Benn Richards.
Restructuring Plans under Part 26A of the Companies Act 2006 are still fairly new but are increasing in popularity.
Introduced in June 2020 by the Corporate and Governance Act 2020 (CIGA 2020), the aim of the Restructuring Plan is to reduce, prevent or mitigate the effect of a company's financial difficulties without the need for a more formal insolvency process such as administration or liquidation.
Restructuring Plans represent a major legislative innovation, introducing the ability to "cram down" dissenting creditors for the good of the wider body of stakeholders. The BRI team at Michelmores was delighted to be instructed by a creditor to advise on and, eventually, oppose a Restructuring Plan in a case which highlighted some essential points of the new procedure.
Opposing a Restructuring Plan
Our client was a founding shareholder of a group of companies that had been sold some eight years ago to a private equity fund that had previously invested in the business. As is common for these types of sales, part of the consideration for the sale of the shares was left outstanding in the form of vendor loan notes. Two types of loan notes were created to reflect the deferred consideration: Series A loan notes were issued to the fund and Series B loan notes were issued to our client.
The sums represented by the loan notes were secured and personally guaranteed. It was agreed between the A and B noteholders that their respective loan notes would rank pari passu for repayment or on enforcement, albeit that our client had agreed to postpone his rights to enforcement behind those of the Series A noteholders.
As the redemption date for the loan notes approached, it became clear that the business was not in a position to repay any of the loan notes. Having failed to persuade the note holders that they should agree to further defer the sums they were owed, the company produced a proposal to implement a Restructuring Plan to reschedule the principal debt and interest (the "Proposed Restructuring Plan") with the noteholders receiving only a proportion of the sums to which they were entitled.
A key component of Restructuring Plans is the sorting of creditors into classes which will approve (or not) the Restructuring Plan. The company proposed the creation of three classes of creditors for the purposes of considering and voting on the Proposed Restructuring Plan: first, the Series A noteholders, then the Series B noteholders and finally the unsecured creditors.
For our client, there was no doubt that the holders of the Series A and B notes should be treated as a single class. The principal terms of each series of notes were identical and the notes were all due for repayment on the same date. The only difference between positions of the A and B noteholders appeared to be that the fund holding A notes was entitled to be treated as the "instructing noteholder" for the purposes of the intercreditor deed.
Although this gave the A noteholders specific rights under the intercreditor deed, such as the right to give instructions to the security agent in relation to enforcement, it did not allow the fund to rank ahead of our client for the application of the proceeds of enforcement.
If our client had been included in a single class comprised of all noteholders, it was clear that he would have had a blocking vote in respect of the Proposed Restructuring Plan. Since the fund was strongly in favour of the Proposed Restructuring Plan, which would have seen its own recoveries significantly less diluted than those of our client, it seemed obvious that the intention of the company to split the noteholders into two classes was an attempt to “cram-down” the B noteholders and force through the Proposed Restructuring Plan to the detriment of our client.
Before it can be implemented, a Restructuring Plan requires the approval of the Court. Part of the Court's role will be to assess whether the classes of creditors have been fairly allocated. Although case law concerning Restructuring Plans is still in its infancy, the Courts have seen fit to draw parallels with, and apply the lessons of, case law relating to schemes of arrangement which include some elements which are similar to Restructuring Plans. The Court has been following the test set out in Sovereign Life Assurance v Dodd which states that a class of creditors must be confined to "those persons whose rights are not so dissimilar as to make it impossible for them to consult together with a view to their common interest". The Court has also made it clear that, even if there are differences in rights as between different groups of creditors, that is not necessarily fatal to them being placed in the same class: it is still necessary to consider whether the differences are such that it is impossible for them to consult together with a view to their common interest.
With the requirements of the test in Sovereign Life Assurance in mind, those proposing a Restructuring Plan must be able to justify how the rights of creditors allocated to separate classes are so different that those rights can be said to be "so dissimilar as to make it impossible [for them] to consult together with a view to their common interest". A mere assertion that the rights of one class is different to the rights of the other class is insufficient and is not likely to stand up to scrutiny before the Court. Where creditors are treated similarly in terms of repayments, interest or an ability to influence the appointment of the board, this would point towards their inclusion in a single class. The Court is not minded to distinguish between creditors unnecessarily and the burden of proof falls on the plan proponent (and its advisors).
The future of Restructuring Plans
It will also be interesting to monitor how the market views Restructuring Plans: are they a process which is viewed as insolvent (or insolvent-adjacent) or closer to a solvent reconstruction? The team has not, yet at least, seen the mention of Restructuring Plans creeping to insolvency event of default clauses but this may become a key point of negotiation as the wider legal community begins to have greater awareness of the procedure and its impact on creditors. In practice, the experience of the BRI team in dealing with this proposed Restructuring Plan was closer to a shareholder minority prejudice dispute than a formal insolvency process, notwithstanding that cashflow and creditor pressure was the impetus for the initial discussions. Shareholder disputes are notoriously costly to run and often result in an order for one group of shareholders to buy out another which may be a practical solution but is hardly satisfactory for those for whom the dispute has quickly become a point of principle.
Overall, cases in the past year have shown that Restructuring Plans have been mostly used by larger companies. It is undeniable that the underlying valuation of the business must support and justify the cost of implementing a Restructuring Plan – and, of course, there must be funds available to meet those costs at a time when the business' cashflow may already be under significant pressure. To date, small and medium-sized companies have been slow to take up the opportunity to implement a Restructuring Plan. However, we expect this to change over time as the costs associated with obtaining approval for a Restructuring Plan reduce and the line of relevant case law establishing key principles, such as the composition of creditor classes, becomes more settled.