A: Introduction
The restructuring plans (the “Plans”) proposed by the key UK entities of the Virgin Active group (the “Plan Companies” and the “Group” respectively) were sanctioned by Snowden J in early May 2021. Virgin Active Limited (“VAL”) and Virgin Active Health Clubs Limited (“VAHCL”) are the tenant companies of the Group’s UK clubs. Virgin Active Holdings Limited is VAL and VAHCL’s parent company and a guarantor of a number of their leases, as well as being the parent company of the remainder of the Group’s Europe & Asia Pacific subdivision (the “Europe & APAC Group”). The Plans were part of a wider restructuring of the Europe & APAC Group. The purpose of the Plans was to compromise the Plan Companies’ liabilities towards their secured creditors (the “Secured Creditors”) and the majority of their unsecured creditors (together, the “Plan Creditors”). The Plan Creditors included certain unsecured creditors with liabilities relating to properties currently or previously occupied by the Group (the “General Property Creditors”) and almost all of the landlords of the UK clubs (the
“Landlords”). The Plans also amended the rent payable to certain Landlords going forwards. The structure of the Plans in relation to the Landlords will be familiar to practitioners who have worked on retail CVAs. The Landlords were divided into five classes (A to E) depending on the profitability of their premises, with their treatment under the Plans differing accordingly.
In the event, only the Secured Creditors and the Class A Landlords approved the Plans, with the remaining creditors forming dissenting classes. The court was therefore asked to sanction the Plans under section 901G of the Companies Act 2006 (“CA 2006”). This application was opposed by a group of Landlords (the “AHG Landlords”). The AHG Landlords contended that the court could not be satisfied that none of the dissenting creditors would be no worse off than they would be in the relevant alternative (the “no worse off” test in section 901G(3)), and that in any event the court should decline to sanction the Plans as a matter of discretion.
The three decisions handed down by Snowden J in these proceedings provide valuable guidance about how companies wishing to propose a restructuring plan that is likely to require sanction under section 901G should approach the preparation of valuation reports and analysis regarding the relevant alternative, the formulation of the proposed restructuring plan, and the provision of information to hostile creditors prior to the sanction hearing. The first judgment convened the meetings of Plan Creditors (the “Plan Meetings”): see [2021] EWHC 814 (Ch) (the “Convening Judgment“). The second judgment considered the costs of the convening hearing: see [2021] EWHC 911 (Ch) (the “Costs Judgment”). The third judgment sanctioned the Plans: see [2021] EWHC 1246 (Ch) (the “Sanction Judgment”). These decisions highlight the court’s willingness to ensure that, as far as possible, restructuring plans are and remain a practical tool that enable companies to restructure their liabilities within a tight timeframe and without being forced to incur exorbitant costs.
The remainder of this article is structured as follows:
Section B sets out the relevant factual background;
Section C summarises the non- controversial issues in the proceedings;
Section D addresses the Convening Judgment;
Section E addresses the Costs Judgment;
Section F addresses the Sanction Judgment; and
Section G contains the conclusion.
B: Background
The Relevant Alternative
The challenge advanced by the AHG Landlords was primarily concerned with the analysis produced on behalf of the Plan Companies about what was likely to happen if the Plans were not implemented. This was contained in a report dated 19 March 2021 produced by Deloitte LLP (“Deloitte”), setting out its views on the likely outcome for Plan Creditors if the Restructuring Plans were not approved (the “Relevant Alternative Report”). In addition, two valuation reports were produced by Grant Thornton LLP, one dated 18 February 2021 (the “Grant Thornton Report”) and the other dated 19 April 2021 (the “Updated GT Report”), each of which set out a consolidated valuation of the Group, produced by valuing each of the regional businesses and combining the results. Deloitte used the GT Report to inform its conclusions in the Relevant Alternative Report. The Updated GT Report was produced just before the sanction hearing, and confirmed that the position of the Plan Companies had not altered materially.
The Relevant Alternative Report
In Deloitte’s view, the most likely alternative to the Plans was a trading administration followed by an orderly sale of the Group’s UK business and assets, in conjunction with a sale of each of the Group’s regional businesses (the “Relevant Alternative”).
Although a trading administration would require additional funding, Deloitte considered that the Secured Creditors were likely to provide this, given the significant upside for them in a trading administration as opposed to an immediate liquidation of the Group’s assets (the projected outcomes being 84.6p/£ in a trading administration vs 21.8p/£ if no further funding could be obtained).
It is evident from the preceding paragraph that even a sale following a trading administration was not anticipated to clear the value of the debt owed to the Secured Creditors.
Returns for unsecured creditors in that scenario were therefore projected to be extremely poor, being limited to the prescribed part under section 176A of the Insolvency Act 1986 of up to £600,000 for each Plan Company, plus the value of any guarantees held by Plan Creditors against other entities in the Group. Deloitte include the estimated value of any guarantees when calculating the anticipated returns for each Plan Creditor.
Deloitte considered that in the Relevant Alternative the administrators would only retain the Class A Leases and Class B Leases in the sale of the UK business. Deloitte relied on a report from Mason Partners LLP (the “Mason Partners Report”) to inform their analysis of
the likely outcome for the Class A Landlords and Class B Landlords in this scenario. Given the profitability of their premises, Class A Landlords were expected to recover their rent arrears as a condition of any assignment to a purchaser. Class B Landlords were not expected to recover any rent arrears, but were expected to consent to the assignment in exchange for rent being paid at a level between their existing contractual rent and the market rent for their property. Class B Landlords would therefore be entitled to prove in the relevant administration for their rent arrears claim. Class C, D and E Landlords would also be able to prove in the relevant administration for any claims owed to them, as would the General Property Creditors.
The GT Report and the Updated GT Report
Grant Thornton’s valuation was based on a discounted cash flow analysis (“DCF”), which was then cross-checked against a leveraged buy-out (“LBO”) valuation and a market multiple valuation. Each of these are established ways of producing a desktop valuation. A DCF valuation forecasts cash flows attributable to the business and then discounts them to their net value at the present date. Key inputs into the calculation include the weighted average cost of capital (“WACC”), which models the anticipated cost of the company’s equity and debt, and the long-term growth rate (“LTGR”), which models the rate at which the company is anticipated to grow indefinitely.
A LBO valuation seeks to determine the price that a buyer would pay for a target company with financing from the current debt markets. A market multiple valuation looks at the estimated enterprise value to EBITDA ratio of comparable listed companies in order to determine the appropriate ratio to apply to the company being valued.
Grant Thornton provided three valuations of the business using this methodology, each of which contemplated a range of results. The first was based on the Group’s business plan for each regional business prepared based on forecasts made in January 2021 (the “Base Case”). The second was based on an updated forecast prepared on late February 2021, which overlaid sensitivities that reduced the Group’s EBITDA to reflect delays to the reopening of gyms in England and Italy by that time (the “Downside Case”).
However, the Updated GT Report set out a new valuation influenced by developments in the period to 19 April 2021 (the “Updated Case”).
Deloitte’s analysis of the likely proceeds of a sale of the Group was largely based on the Downside Case. They did not adopt Grant Thornton’s conclusions regarding the UK business, but rather produced separate valuation including only Class A Landlords and Class B Landlords in the sale, as described in the section above.
The Plans and the wider restructuring
Contributions from the Shareholders
Under the wider restructuring, the two major shareholders of the Group (the “Shareholders”) and their affiliates agreed to provide a package including the capitalisation of approximately £185 million intercompany liabilities; the waiver or deferral of approximately £24.8 million owed to the licensor of the Virgin brand; the provision of a secured loan of £25 million to enable the Plans to be proposed (the “Pre-Implementation Facility”); the provision of a further loan of £20 million to provide additional liquidity after the Plans became effective (the “Post-Implementation Facility”); an obligation to contribute up to £6 million of equity into the Plan Companies to enable payments to be made to compromised creditors under the Plans; and the waiver of certain events of default (Sanction Judgment, [38]).
The Pre-Implementation Facility was made available to the Europe & APAC Group on the same day that the practice statement letter was distributed (10 March 2021), and provided critical liquidity in the two-month period before the Plans were sanctioned. The rest of the package would be made available after the Plans became effective.
Impact of the Plans
The Plan Creditors for each Plan Company comprised the Secured Creditors, the Landlords (divided into classes A to E) and the General Property Creditors.
Secured Creditors
The Secured Creditors did not suffer any reduction in the amount owing to them under the Senior Facilities Agreement. The maturity date of the Senior Facilities Agreement was extended by three years, certain interest payments were deferred and capitalised and the Secured Creditors also agreed to various amendments to the Senior Facilities Agreement which were capable of diluting their security.
Landlords
The division of landlords into different categories depending on the profitability of their premises has been used in CVAs for many years. Until the introduction of Part 26A, it was not possible to adopt this structure in a restructuring process under the Companies Act 2006, given the need for each class to approve a scheme of arrangement under Part 26. However, the new ability to bind dissenting classes under section 901G enabled the Plan Companies to differentiate between the Landlords in this way.
From an evidential perspective, it is important that the differential treatment of creditors who would otherwise rank equally in the relevant alternative can be objectively justified. In this case the Landlords were divided into classes based on the profitability of their premises, with certain adjustments being made to ensure that any particular features of individual premises were taken into account. The most profitable premises and other premises that were considered essential to the survival of the business were put in Class A; premises that were still profitable but less so were put in Class B; premises that were only marginally profitable were put in Class C; premises that were loss making were put in Class D; and Class E comprised premises that had been sub-let to new tenants and were therefore also loss making for the Plan Companies.
Under the Plans, the Class A Landlords received all rent arrears within three business days of the Plans becoming effective. Their payment cycles were changed to being paid monthly in advance for three years, but otherwise their leases were unchanged.
The rent arrears owing to the Class B Landlords were released and discharged in exchange for a payment equal to 120% of what that creditor would have received in the Relevant Alternative (a “Restructuring Plan Return”). Their payment cycles were changed to being paid monthly in advance for three years, but otherwise their leases were unchanged.
The rent arrears owing to the Class C Landlords were released and discharged. For a period of up to three years (the “Rent Concession Period”), the Class C Landlords would be paid 50% of their contractual rent, with all payments until 1 January 2022 deferred and paid in 60 equal monthly instalments from that date. After that, payments would be made monthly in advance. However, no payments would be due in the Rent Concession Period if the property was required to be closed for at least 28 days as a result of any government regulation relating to Covid-19. After the end of the Rent Concession Period, the leases would revert to their original terms. Each Class C Landlord would be entitled to terminate their lease on 30 days’ notice, provided that such notice was given within 90 days of the Plans becoming effective. If a Class C Landlord exercised this right, they would be paid 30 days’ worth of its rent in full. If this payment was insufficient to provide the Class C Landlord with a Restructuring Plan Return, they would also receive a further top-up payment to make up the shortfall.
From the date of the Plans becoming effective, no past, present or future rent or any other obligations would be payable to the Class D Landlords. In exchange, the Class D Landlords would be entitled to a Restructuring Plan Return. Each Class D Landlord would also have a rolling break right exercisable on 30 days’ notice. If they exercised this right within 6 months of the Plans becoming effective, they would be paid 30 days’ worth of their contractual rent. If this payment was insufficient to provide the Class D Creditor with a Restructuring Plan Return, they would also receive a further top-up payment to make up the shortfall.
The Class E Landlords were the landlords of properties sub-let by VAL or VAHCL. From the date of the Plans becoming effective, no past, present or future rent or other obligations would be payable to the Class E Landlords. In exchange, the Class E Landlords would be entitled to a Restructuring Plan Return. The Class E Landlords would be paid any amounts received by VAL or VAHCL by the sub- tenant, and would also be given a rolling break right exercisable immediately after the Plans became effective.
General Property Creditors
The claims of the General Property Creditors would be compromised in exchange for a Restructuring Plan Return.
C: Non-controversial matters
In a judgment handed down on 12 March 2021, two days after the practice statement letter was circulated, Chief Master Marsh stayed proceedings commenced by one of the Class B Landlords seeking to recover their unpaid rent arrears: see Riverside CREM 3 Ltd v Virgin Active Health Clubs Limited [2021] EWHC 746 (Ch). Chief Master Marsh noted that by this stage the Plans were well-developed, the threshold conditions under section 901A were plainly satisfied, and sufficient support from the Secured Creditors was already locked in. In these circumstances,
there was a real prospect of the Plans being sanctioned. Permitting one Class B Landlord to obtain a judgment in these circumstances would partially undermine the Plans, since they would receive full payment instead of the amount it would otherwise receive under the Plans. In light of this, he stayed the claim until a week after the proposed sanction hearing.
In many ways, this judgment accurately foreshadowed the live issues in the proceedings. The traditional hurdles in satisfying the requirements of Part 26 and Part 26A CA 2006 were not in dispute. There was no real controversy over class composition, jurisdiction or the threshold conditions in section 901A.
As to class composition, an expansive approach was taken by the Plan Companies, with the Secured Creditors, General Property Creditors and each of the classes of Landlords voting at separate meetings for each Plan Company.
There was likewise no issue regarding jurisdiction. The Plan Companies are all incorporated in England; and, as is routine in such cases, expert evidence was obtained from all relevant jurisdictions regarding the recognition and/or enforcement of the Plans in the local courts.
The threshold conditions in section 901A were also obviously satisfied. The evidence demonstrated that the Plan Companies had suffered a dramatic loss of income as a result of the Covid-19 pandemic and resulting periods of lockdown in all of the Europe & APAC Group’s territories. If the Plans were not sanctioned within the compressed timetable proposed by the Plan Companies, they were forecast to run out of cash and were likely to be put into administration by their directors. The purpose of the Plans was to restore the Plan Companies to financial health by compromising the majority of their outstanding liabilities and enable the wider restructuring to be implemented. There was therefore no doubt that the Plan Companies had encountered financial difficulties that threatened the Europe & APAC Group’s ability to continue as a going concern (Condition A in section 901A) nor that the purpose of the Plans was to address these financial difficulties (Condition B in section 901A).
At the Plan Meetings, the Plans were approved by the Secured Creditors and Class A Landlords for each Plan
Company. The Plans were not approved by any of the other classes of Landlords or the General Property Creditors.
Therefore, by the time of the sanction hearing, therefore, the only live issues were whether the “no worse off” test in section 901G was satisfied and whether the court would exercise its discretion to sanction the Plans under that section. The AHG Landlords advanced their challenge on this basis.
D: The Convening Judgment
The AHG Landlords made two broad sets of submissions at the convening hearing. First, they submitted that the timetable proposed by the Plan Companies was too compressed.
Snowden J rejected this submission. Extending the timetable would have rendered the proceedings nugatory, as the Plan Companies’ evidence suggested that if the Plans were not sanctioned by early May, they would run out of money and need to enter administration. This was a case of genuine urgency, and both the Plan Companies and AHG Landlords were well-resourced parties who had engaged experienced advisors to assist them in meeting tight deadlines.
Second, the AHG Landlords submitted that the Explanatory Statement was inadequate, because it did not contain a number of documents that the AHG Landlords considered to be essential. Snowden J rejected this submission. He held that the information in the Explanatory Statement was adequate, and that the additional information sought by the AHG Landlords was only relevant (if at all) to a potential challenge to the Plans. Given the commercial sensitivity of a number of the requested documents, Snowden J indicated that the parties should seek to agree confidentiality orders pursuant to which certain documents could be provided to the advisors to the AHG Landlords (but not the AHG Landlords themselves) (the “Confidentiality Orders”). If an agreement could not be reached, the parties were invited to return to court in order to seek further disclosure.
In addition to the usual provisions, the convening order provided for the service of witness statements by the AHG, reply evidence from the Plan Companies, a pre-trial hearing after the Plan Meetings and scheduled the sanction hearing in a three- to four- day window running over the early May bank holiday. It also recorded that Plan Creditors were not precluded from raising issues as to class composition or jurisdiction at the sanction hearing.
E: The Costs Judgment
There was a separate hearing to determine the costs of the convening hearing. Snowden J refused to make a costs order at this stage, and instead reserved the costs of the AHG Landlords (and one other Plan Creditor who had appeared at the convening hearing) until after the sanction hearing.
Having carried out a detailed analysis of the authorities, Snowden J summarised the principles applicable to schemes under Part 26 (Costs Judgment, [29]):
“i) In all cases the issue of costs is in the discretion of the court.
ii) The general rule in relation to costs under CPR 2 will ordinarily have no application to an application under Part 8 seeking an order convening scheme meetings or sanctioning a scheme, because the company seeks the approval of the court, not a remedy or relief against another party.
iii) That is not necessarily the case (and hence the general rule under the CPR may apply) in respect of individual applications made within scheme
iv) In determining the appropriate order to make in relation to costs in scheme proceedings, relevant considerations may include,
a) that members or creditors should not be deterred from raising genuine issues relating to a scheme in a timely and appropriate manner by concerns over exposure to adverse costs orders;
b) that ordering the company to pay the reasonable costs of members or creditors who appear may enable matters of proper concern to be fully ventilated before the court, thereby assisting the court in its scrutiny of the proposals; and
c) that the court should not encourage members or creditors to object in the belief that the costs of objecting will be defrayed by someone else.
v) The court does not generally make adverse costs orders against objecting members or creditors when their objections (though unsuccessful) are not frivolous and have been of assistance to the court in its scrutiny of the scheme. But the court may make such an adverse costs order if the circumstances justify that
vi) The court does not generally make adverse costs orders against objecting members or creditors when their objections (though unsuccessful) are not frivolous and have been of assistance to the court in its scrutiny of the scheme. But the court may make such an adverse costs order if the circumstances justify that a scheme have been unsuccessful. It may do so if the objections have not been frivolous and have assisted the court; or it may make no order as to costs. The decision in each case will depend on all the circumstances.”
“…in light of the more extensive analysis in other cases, Snowden J readily accepted that the comment in Noble overstated the approach of the court”
In reaching this conclusion, Snowden J noted that his comment in Re Noble Group [2019] BCC 349 (convening judgment) at [152] that “creditors who attend to raise legitimate points in a constructive manner at a convening hearing can expect to receive their reasonable costs irrespective of the outcome” was obiter and not the result of being referred to any relevant authority or adverse argument on the point. In these circumstances and in light of the more extensive analysis in other cases, he readily accepted that the comment in Noble overstated the approach of the court.
Snowden J also emphasised that the end point of the analysis in relation to Part 26A would not necessarily be the same as under Part 26, but that he had formed no view in this respect. He reserved costs until after the sanction hearing since, until then, it was not possible to determine whether the information provided under any Confidentiality Orders would prove relevant to questions of class composition and/or how any challenge to the sanction of the Restructuring Plans would play out. The applicable principles remain an open question, as all outstanding costs questions were settled between the parties after the sanction hearing without the need for further submissions.
F: The sanction judgment
Section 901G provides that, if the compromise is not approved by one or more classes of creditors (a “dissenting class”), the court is not prevented from sanctioning the restructuring plan if two conditions are satisfied.
Condition A is that “if the compromise or arrangement were to be sanctioned under section 901F, none of the members of the dissenting class would be any worse off than they would be in the event of the relevant alternative” (section 901G(3)). The “relevant alternative” is “whatever the court considers would be most likely to occur in relation to the company if the compromise or arrangement were not sanctioned under section 901F” (section 901G(4)).
Condition B is that “the compromise or arrangement has been agreed by a number representing 75% in value of a class of creditors or (as the case may be) of members, present and voting either in person or by proxy at the meeting summoned under section 901C, who would receive a payment, or have a genuine economic interest in the company, in the event of the relevant alternative” (section 901G(5)).
Given that the Restructuring Plans were approved by the Secured Creditors and the Class A Landlords, the two live issues were whether the “no worse off” test (Condition A) was satisfied and whether the Court should exercise its discretion to sanction the Restructuring Plans.
The “no worse off” test
There are three limbs to satisfying Condition A in section 901G.
First, identifying the relevant alternative. Snowden J noted that it is not necessary for the court to be satisfied that a particular alternative will definitely occur or even that it is more likely than not. The question is which outcome is most likely to occur, such that “if there were three possible alternatives, the court is required only to select the one that is more likely to occur than the other two” (Sanction Judgment, [107]).
Second, determining the outcome for the dissenting classes in the relevant alternative. This is an inherently uncertain exercise, because it involves the court considering a hypothetical counterfactual.
Third, comparing the outcome under the relevant alternative for the dissenting classes to the outcome under the if the proposed restructuring plan is sanctioned.
Identifying the relevant alternative
As discussed above, the Plan Companies’s evidence was that if the Restructuring Plans were not sanctioned, the Plan Companies would enter administration during the following week. In this case, the
Relevant Alternative Report considered that the most likely outcome would
be trading administration following by a sale of the regional businesses, funded by the Secured Creditors.
Although the AHG Landlords raised a number of questions about the way in which the restructuring had been negotiated, Snowden J held that these considerations were not relevant to determining what the relevant alternative was as at the time of the sanction hearing (although they would be relevant at the discretion stage).
He was therefore satisfied by the Plan Companies’ evidence that the Relevant Alternative was a trading administration followed by a sale of the Group in the manner contemplated in the Relevant Alternative Report.
Although the AHG Landlords did not materially challenge this evidence, they challenged the conclusion reached in the Relevant Alternative Report about the likely outcomes for creditors in that scenario.
he outcome for the Plan Creditors in the Relevant Alternative
The AHG Landlords advanced a number of arguments that sought to undermine the Plan Companies’ evidence regarding the likely outcome for Plan Creditors in the Relevant Alternative, as follows:
1 The court should not place too much weight on the fact that the AHG Landlords had not produced an alternative valuation report, given the deficiencies in the process;
2 The Relevant Alternative Report could not be relied on due to the absence of market testing carried out prior to launching the Plans;
3 The Relevant Alternative Report and Grant Thornton’s reports could not be relied on due to the disclaimers in those reports;
4 The valuation in the Relevant Alternative Report was too conservative;
5 The Mason Partners Report could not be relied upon; and
6 Contrary to the Relevant Alternative Report, the Class B Landlords were likely to recover some or all of their rent arrears in the Relevant Alternative, and therefore would be better off in that
Snowden J rejected all of these submissions.
The absence of an alternative valuation report
The AHG Landlords submitted that, as a result of the various alleged deficiencies in the process, the court should not place too much weight on the fact that only the Plan Companies had adduced a formal valuation report, with no competing valuation offered by the AHG Landlords.
Snowden J rejected this line of submissions, holding that “I do not accept that I can, as a matter of principle, do anything other than assess the Plans on the basis of the evidence before me, and I am not persuaded that my starting point should be to view the evidence of the Plan Companies with scepticism because of the difficulties the AHG Landlords claim to have faced in obtaining information”. The AHG Landlords and their advisers had been provided with “an enormous volume of information and documents” following the convening hearing, and although the AHG Landlords would have preferred to have more time to work with those documents before the sanction hearing, there was no reason for the Court to place less weight on the Plan Companies’ evidence as a result, particularly given the compressed timetable and real urgency in this case (Sanction Judgment, [122]-[123]).
In reaching this conclusion, Snowden J placed weight on the fact that the AHG Landlords were commercial parties who had instructed experienced and sophisticated advisors with the ability to operate to very tight deadlines (Sanction Judgment, [124]). He also noted that the AHG Landlords had
not acted with particular expediency after the Convening Hearing in order to obtain the confidential documents, and had agreed to vacate the pre-trial review listed before the Sanction Hearing rather than use it to make a disclosure application. In addition, the fact that the Sanction Hearing had involved cross-examination of the Plan Companies’ witnesses meant that their evidence “was tested much more rigorously than is typically the case in Part 26 schemes or in any of the Part 26A plans that have thus far come before the Courts” (Sanction Judgment, [125]-[127]).
Snowden J was also mindful of the need to ensure that Part 26A can deliver expedient restructuring solutions, and that it was therefore “obviously important that the potential utility of Part 26A is not undermined by lengthy valuation disputes, but that the protection for dissenting creditors given by the “no worse off” test (and the Court’s general discretion) must be preserved.” He provided the following guidance, which should be borne in mind by future parties proposing or challenging a restructuring plan under Part 26A (Sanction Judgment, [130]-[132]):
“I consider that the Court is entitled to expect and require companies proposing Part 26A plans to cooperate in the timely provision of information. In an appropriate case this may include information over and above that which can sensibly be contained in a concise explanatory statement, but which may be relevant to the efficient resolution of genuine valuation disputes that have been raised by dissenting creditors.
It would also be most unfortunate If Part 26A plans were to become the subject of frequent interlocutory disputes. However, if a dissenting creditor is to rely on an argument that it did not have enough information with which to challenge the evidence of a plan company, it will obviously be relevant to consider whether that dissenting creditor used the means legitimately available to it under the CPR to obtain the information prior to the sanction hearing.”
The absence of market testing
The AHG Landlords argued that the estimated outcomes for creditors in the Relevant Alternative Report could not be relied on because there had been no market testing prior to launching the Plans.
Snowden J rejected this submission. There is no absolute obligation to conduct a market testing process as part of a restructuring (Sanction Judgment, [139]) and he was not persuaded that the Plan Companies acted unreasonably in not carrying out any market tested based on the advice of their advisers (Sanction Judgment, [141]). It was unclear how funding for a marketing process would have been obtained, and even if such a process had been carried out, the results would have
had to be treated “with extreme caution.” Marketing a gym business in January 2021, with the pandemic ongoing and many of the Group’s territories in lockdown, would have involved market conditions that “could hardly have been less favourable” (Sanction Judgment, [145]). Indeed, potential buyers might well be unwilling to commit the time and resources to putting together a serious bid that would actually result in a sale. He also noted that although market testing was sometimes carried out, it was by no means the norm in cases under Part 26 or Part 26A.
The disclaimers in the Relevant Alternative Report and the GT Report
Snowden J also rejected the argument that he could not rely on the Plan Companies’ valuation evidence in light of the disclaimers and caveats in the Relevant Alternative Report and the GT Report, holding that these were not of any real significance: “the disclaimers bear all the hallmarks of having being inserted without sufficiently clear thought about the wording and the context in which the reports were likely to be used in these proceedings, together with a defensive
over-abundance of caution designed to protect the firms concerned from claims against them in the event that matters did not turn out as predicted” (Sanction Judgment, [153]). He also noted that PwC, the AHG Landlord’s advisers, included similar disclaimers and caveats in a report that they prepared in a different restructuring.
The Relevant Alternative Report was unduly conservative
The AHG Landlords argued that the valuation of the regional businesses was overly conservative, and that in fact a sale in the Relevant Alternative was likely to generate a surplus, which would have increased the returns to unsecured creditors above what they would receive under the Plans (including the dissenting classes). First, the AHG Landlords argued that the Downside Case valuation was too low, and that it was more appropriate to use the Updated Case (without applying a distressed discount) when calculating the value of the business. Second, they argued that the WACC and LTGR figures used by Grant Thornton in preparing the DCF valuation were unduly conservative.
Snowden J rejected both of these arguments. It was not appropriate to base the valuation on the Updated Case without applying a distressed discount. The GT Report and the Updated GT Report valued the company in a solvent scenario with a willing buyer, and Grant Thornton
anticipated that a distressed discount of 30-50% was likely to be applied in a sale from administration. Therefore even if the Updated Case were used in calculating the relevant alternative, the Updated Case would need to be subject to a distressed discount.
Snowden J noted that if a distressed discount were applied to the Updated Case, then there was only one scenario which generated a surplus, which involved applying the lowest suggested distressed discount to the highest valuation point in the Updated Case.
In light of Grant Thornton’s evidence “that the most likely outcome is typically the midpoint between two extremes (which I accept), that outlier scenario appears to me inherently unlikely” (Sanction Judgment, [181]). Therefore, the most likely outcome was that the Relevant Alternative would not generate a surplus for the unsecured creditors.
Snowden J also rejected the AHG Landlord’s attempts to challenge the WACC and the LTGR used in the DCF valuation. There was no reason to doubt the approach taken by Grant Thornton in landing at those figures for the purpose of the DCF valuation, and in turn it was reasonable for Deloitte to rely on the conclusions in the GT Report.
The Mason Partners Report
The AHG Landlords submitted that the Mason Partners Report was inherently unreliable. Snowden J rejected this submission, noting that it had been open to the AHG Landlords to adduce their own evidence about the market value of their properties by way of rent or arrears, but they had chosen not to do so.
The possibility of Class B Landlords receiving rent arrears
The AHG Landlords contended that, whereas the Relevant Alternative Report contemplated that the Class B Landlords would forego all rent arrears as the price of an assignment on a sale by administrators, in reality they might negotiate payment of some or all of their arrears. In this case, the Class B Landlords would be better off in the Relevant Alternative than under the Restructuring Plans. Snowden J held that although it was “not impossible that this could happen”, he did not “accept that it is what is most likely to happen” given that in practice there was likely to be a negotiation between the administrators and the Class B Landlords, and there were substantial downsides for the Class B Landlords if they refused to consent to the assignment (Sanction Judgment, [194]-[195]).
Comparison of outcomes for the dissenting classes in the Relevant Alternative vs the Plans
Having rejected each of the AHG Landlords’ challenges, Snowden J concluded that all of the dissenting classes were likely to be no worse off than in the Relevant Alternative. Condition A was therefore satisfied (Sanction Judgment, [207]).
Should the court exercise its discretion to sanction the Plans?
The second prong of the AHG Landlords’ challenge was to argue that the court should decline to sanction the Plans as a matter of discretion. The main thrust of this argument was the fact that the Shareholders were permitted to retain their equity stake in the Group after the restructuring, despite the fact that they ranked behind unsecured creditors in the insolvency waterfall and therefore would have received nothing in the Relevant Alternative.
General principles
Snowden J started by considering the judgment of Trower J in Re DeepOcean 1 UK Limited [2021] EWHC 138 (Ch), the only prior case where section 901G had been invoked. He emphasised that even if the conditions in section 901G were satisfied, the court would still need to consider all relevant factors and circumstances that it would ordinarily take into account when considering whether to sanction a restructuring plan that was approved at each plan meeting, since “the approach cannot be any less rigorous because one class has voted against a plan than where all classes have voted in favour” (Sanction Judgment, [224]).
Snowden J then considered the correct approach towards creditors who were ‘out of the money’, in that they would not receive any returns in the relevant alternative. He concluded that the established approach under Part 26 “reflects the view that where the only alternative to a scheme is a formal insolvency in which the business and assets of the debtor company would be held on the statutory trusts for realisation and distribution to creditors, that business and assets in essence belongs to those creditors who would receive a distribution in the formal insolvency. The authorities take the view that it is for those creditors who are in the money to determine how to divide up any value or potential future benefits which use of such business and assets might generate following the restructuring (the restructuring surplus)” (Sanction Judgment, [242]). There was nothing that suggested a different approach should be taken towards Part 26A. Indeed, the point was reinforced by section 901C(3), which expressly contemplates an out of the money class being bound by a restructuring plan without even having voted at a class meeting. Snowden J noted that “if creditors who would be out of the money in the relevant alternative could be bound to a plan which effects a compromise or arrangement of their claims without even being given the opportunity to vote at a class meeting, the fact that they have participated in a meeting which votes against the plan should not weigh heavily or at all in the decision of the court as to whether to exercise the power to sanction the plan and cram them down. Nor is it easy to see on what basis they could complain that the plan was “unfair” or “not just and equitable” to them and should not be sanctioned” (Sanction Judgment, [248]-[249]).
Snowden J therefore concluded that the “key principle therefore appears to be that both under Part 26 schemes and Part 26A plans it is for the company and the creditors who are in the money to decide, as against a dissenting class that is out of the money, how the value of the business and assets of the company should be divided” (Sanction Judgment, [259]). However, he noted that there were still questions about the allocations of benefits as between different groups of creditors. Traditionally companies are entitled to select which creditors to include in a scheme or restructuring plan, and may discriminate between creditors with equal pre-restructuring rights provided that there is a “good commercial reason” for that approach (Sanction Judgment, [260]-[262]). The same reasoning applied regarding differential treatment of creditors included within a restructuring plan.
Treatment of the Shareholders
In light of this analysis, Snowden J rejected the AHG Landlords’ submission regarding the treatment of the Shareholders. There was nothing to suggest that the Plan Companies conferred favourable treatment on the Shareholders when the restructuring was being negotiated. Indeed, the Shareholders were the only parties willing to advance the necessary funds on terms acceptable to the Secured Creditors (whose consent to the deal was essential in order to enable new money to be advanced). The contributions provided by the Shareholders were significant, and primarily involved advancing new money or writing off existing debt. This was materially different to the compromise of existing unsecured claims that would receive little to no return in the Relevant Alternative. Snowden J therefore conclude that the retention of equity by the Shareholders should not lead him to decline to sanction the Plans (Sanction Judgment, [300]).
Other discretionary factors
Snowden J also considered whether the Plan Creditors were fairly represented at their Plan Meetings. The Plans were rejected by every one of Classes B through E of the Landlords and the General Property Creditors. However, in the absence of any evidence clarifying why those classes had not approved the Restructuring Plans, Snowden J attached little weight to this numerical opposition. 11 of the 17 Class B Landlords who voted were in favour of the Plans, with the voting outcome being largely determined by one of the AHG Landlords. The remaining classes of Landlords and the General Property Creditors were out of the money such that “little or no weight should be placed on their votes, and certainly not so much weight that it should cause me to decline to sanction the Plans” (Sanction Judgment, [311]). In addition, there was no “blot” on the Plans nor any issues as to whether the Plan would have a substantial effect in relevant jurisdictions.
G: Conclusion
The guidance given in the Virgin Active case sets out a framework for determining valuation disputes in the context of Part 26A. In particular, where opposition to a restructuring plan is anticipated, companies should prepare to disclose confidential documents, either directly or under a confidentiality order, at the earliest opportunity. Snowden J’s careful judgments underline the importance of obtaining robust valuation evidence and evidence as to the relevant alterative. Provided that the company proposing the restructuring plan can demonstrate that the “no worse off” test is satisfied and the allocation of consideration after the restructuring plan has been done in a commercially rationale manner, it will be more difficult for opposing creditors to bring a successful challenge where the dissenting class or classes are “out of the money”. Creditors looking to challenge future restructuring plans would be well advised to take all possible steps to prepare a competing valuation report, in order to provide an evidential basis for departing from the plan company’s evidence.