Restructuring Plans and Relevant Alternatives

The most notable feature of a restructuring plan under Part 26A of the Companies Act 2006 (the “Act”) is that a restructuring plan can be sanctioned by the court notwithstanding that it is not approved by at least 75% by value of those present and voting either in person or by proxy of each class of creditors or members (as the case may be), provided that certain conditions, set out in section 901G of the Act, are met:

1. Condition A is that the court is satisfied that, if the compromise or arrangement were to be sanctioned, none of the members of the dissenting class would be any worse off than they would be in the event of the relevant alternative; and
2. Condition B is that the compromise or arrangement has been approved by a number representing 75% in value of a class of creditors or (as the case may be) members, present and voting either in person or by proxy at the meeting summoned under section 901C of the Act, who would receive payment, or have a genuine economic interest in the company, in the event of the relevant alternative.

The concept of the relevant alternative is therefore of fundamental importance to the court’s consideration of whether a restructuring plan should be sanctioned where it is necessary to invoke the cross class cramdown mechanism. The relevant alternative is defined by section 901G of the Act as whatever the court considers to be most likely to occur in relation to a company if a restructuring plan is not sanctioned.

Already some helpful guidance has emerged from the case law as to how the court will consider various issues around the relevant alternative. This article discusses that guidance, together with some practical insights as to how identifying and evidencing the relevant alternative can be approached.

Concept of the relevant alternative

As noted by Trower J (at [29]-[30]) in DeepOcean [2021] EWHC 138 (Ch), the first case in which the cross class cramdown mechanism was used, identifying what would be most likely to occur in relation to the company if the plan were not to be sanctioned is similar to the identification of the appropriate comparator for class purposes in the context of a Part 26 scheme of arrangement: see, for example, Re Telewest Telecommunications Plc [2004] BCC 342; Re ColourOz Investment 2 LLC [2020] EWHC 1864 (Ch) at [74]. The court is also familiar with the exercise it is required to undertake from unfair prejudice challenges to a company voluntary arrangement under section 6 of the Insolvency Act 1986, in which context the court makes a so-called “vertical” comparison, i.e. compares the projected outcome of the CVA with the project outcome of a “realistically available alternative”: see Norris J in Discovery (Northampton) Limited v Debenhams Retail Limited [2020] BCC 9 at [12].

Specifically in the restructuring plan context, in Virgin Active [2021] EWHC 1246 (Ch) Snowden J at [106] explained that Condition A involves three steps, namely: (1) identifying what would most likely occur in relation to the company if the restructuring plan is not sanctioned; (2) determining what would be the outcome or consequences of that for the creditors or shareholders (as the case may be); and (3) comparing that outcome with the outcome and consequences if the restructuring plan is sanctioned.

Considering, in particular, the second of those steps, the outcome or consequences for the creditors/ shareholders is to be assessed

primarily, but not exclusively, in terms of the anticipated returns on their claims: see DeepOcean where Trower J (at [35]) said of the phrase “any worse off” that it is “…a broad concept and appears to contemplate the need to take into account the impact of the restructuring plan on all incidents of the liability to the creditor concerned, including matters such as timing and the security of any covenant to pay.”

As Snowden J noted in Virgin Active at [108] the exercise is inherently uncertain “because it involves the Court in considering a hypothetical counterfactual which may be subject to contingencies and which will, inevitably, be based upon assumptions which are themselves uncertain.”

The court’s approach to evidence: immediate insolvency vs continued trading

In DeepOcean and Virgin Active (amongst other restructuring plan cases) the evidence clearly showed that the relevant alternative was a more or less immediate formal insolvency process.

Where that is the case (and it is fair to say that it often it will be where a restructuring is proposed), the focus of any dispute is likely to concern the value given to assets and/or liabilities in that insolvency process.

Further considerations, however, come into play where the relevant alternative involves the (relatively speaking) longer term continuation of trading by the company, as was the case in Hurricane Energy [2021] EWHC 1759 (Ch), the first case in which the court declined to sanction a restructuring plan.

Hurricane Energy concerned some US$230 million unsecured notes with a maturity date in July 2022, which the company said it would be unable to repay and proposed a restructuring plan to implement a debt-for-equity swap. At the convening hearing directions were given for meetings of two classes, namely noteholders and shareholders. Although the plan was approved by the requisite majority of the noteholder class, over 90% of shareholders voted against the plan, with a number going on to oppose sanction.

As to the relevant alternative, if the plan was not sanctioned, the company would most likely continue trading profitably for at least a further year. The key issue was therefore whether, if the restructuring plan was not sanctioned, the company’s shareholders would be better off than they would be with the 5% equity stake that they would have if the restructuring plan was sanctioned (and which would result in no meaningful return to shareholders).

Having considered, and critically assessed, the evidence in detail (demonstrating that sanction is not just a rubber stamp), Zacaroli J at [125] concluded that by virtue of a range of options being available, including the refinancing of any shortfall, there was a “realistic prospect…that the Company will be able to discharge its obligations to the Bondholders, leaving assets with at least potential for exploitation, is enough to refute the contention that the shareholders will be no better off under the relevant alternative than under the Plan.”

At [126], he went on to say that “to retain 100% of the equity in Company that is continuing to trade, with a realistic prospect of being able to repay the Bonds in due course, is to my mind a better position than immediately giving up 95% of the equity with a prospect of a less than meaningful return as to the remaining 5%.”

He therefore held that Condition A was not satisfied.

It is also interesting to note that Zacaroli J, considering the matter from the perspective of what might constitute a fair allocation of value between bondholders and shareholders, indicated that he would not in any event have been willing to exercise his discretion to sanction the restructuring plan. Depriving the company’s shareholders of any potential upside to be generated by future profitable trading, together with steps that might be taken to deal with the repayment of the bonds, could not be justified, particularly in circumstances where, if the financial position did not improve, a restructuring plan could be implemented at a later date.

It therefore potentially looks to be more difficult to get a restructuring plan sanctioned where the liquidity need is not immediate. That said, when considering when to propose a restructuring plan, this needs to be weighed against leaving it to the last minute, which will also not impress the court.

An advisors’ perspective: further considerations for future cases

Identifying the relevant alternative

Given that insolvency can no longer be assumed to be the relevant alternative, greater thought is required to determine what the relevant alternative is. This gives rise to the possibility of needing to consider and model a range of outcomes.

“Restructuring plans and schemes are currently tools generally used by larger firms…”

Collaborative working in a timely fashion with the other advisors on the team and the company to best explore the range of possible scenarios is important. No one person will have access to all the necessary information, experience, or awareness of the potential reactions of different stakeholders.

Furthermore, with a wide range of alternative outcomes possible, it is increasingly important to choose an advisor who has a track record in the relevant sector, who can rely on their experience and data as to what any run off or insolvency might look like for a particular business. This is heightened where overseas jurisdictions are involved, and the advisor may well need to draw on international colleagues to assist in a way not necessarily seen previously.

The increased potential for challenge (which may well apply equally to schemes of arrangement now as a result of the developments in the restructuring plan context) also means advisors need to be prepared

to submit witness statements and be subject to cross-examination. Whilst not totally unheard of for insolvency practitioners to have to do that, it is a departure from the norm and requires different skill sets, risk appetite and an awareness of court processes from a litigation angle. Advisors need to be comfortable with this type of environment and aware of issues such as legal privilege in a way they might not have been previously.

Evidence

The availability of good evidence to substantiate a particular scenario is increasingly important. In Virgin Active, for example, there was a debate about whether the company’s case was weakened by not having run a marketing campaign (ultimately it was held not be).

Detailed consideration needs to be given to modelling and stress testing the liquidity position and forecasts in scenarios both with and without the sanction of any proposed restructuring plan. Any assumptions that underpin those forecasts need to be clearly thought through and should be supported by reference to other data points, prior period trading or other factors an advisor can point to. Regularly updating stress tests and forecasts can be helpful to keep all stakeholders informed of their position throughout the process.

Independent valuation support to existing advisors is likely to continue to be considered helpful.

The likely attitude of stakeholders needs to be examined and that, as we know, is not easy. Even when a stakeholder states a position, the judge may not agree (see Hurricane Energy). There is, therefore, a need to consider the interest of creditors in negotiations, including maturity dates, creditor (or other stakeholder) action to date and so on.

Costs

Restructuring plans and schemes are currently tools generally used by larger firms as the costs can be significant given court hearings and the advisor time required. Although we have now seen the restructuring plan sanctioned in the case of Amicus Finance plc [2021] EWHC 2340 (Ch), the extent to which these restructuring tools could be used in the mid-market remain unclear.

Whatever the scale of the business considering a restructuring plan, costs will be a concern, especially when considering the points made above.

Advisors therefore need to think carefully about how to keep costs proportionate so that the restructuring plan continues to be an attractive tool.