Regis: the next chapter in the CVA story

Last week was a busy week for the courts: we reported on the landlord-led challenges to the New Look CVA and the Virgin Active restructuring plan.  Neither judgment made happy reading for landlords, with all challenges dismissed in New Look and the restructuring plan sanctioned despite their objections in Virgin Active. The story has slightly improved for landlords today with the court revoking the Regis CVA. There are important findings from Regis, but in itself the judgment will not be sufficient to turn the tide. On top of these three cases, the coffee chain Caffé Nero is in court today seeking to strike a challenge by a landlord against its CVA.

Background

On 8 October 2018 Regis UK Limited issued a proposal for a company voluntary arrangement which was approved by creditors on 26 October 2018. The restructuring was however not long lived and a year later, in common with many other companies that have put forward CVAs, the company entered into administration – as a result of which the CVA terminated.

The CVA

As is customary in CVAs, Regis grouped its landlords into numbered categories, depending on their nature and proposed treatment (Categories 1 to 5). Category 1 landlords were entitled to payment in full of rent but were switched to monthly payments. All other categories were compromised to receive 7% of their respective claims including rent arrears, and a reduction in rent going forward.  In addition, a category of “non critical creditors” was compromised to 7% of their claims.  Certain creditors (called “Critical Creditors”), deemed critical to the ongoing trading of the company were unaffected by the CVA and would be paid in full.

The CVA achieved the requisite statutory majorities – but in doing so relied on the votes of certain intercompany loans (including where the lender voted the undersecured part of the loan) which had been categorised as Critical Creditors.

The challenge 

The challenge was made on slightly different grounds to the challenge in New Look (the challengers having been refused permission to amend the challenge):

1. Inadequate disclosure – here the landlords argued that certain antecedent transactions (i.e. transactions that occurred prior to the insolvency of the company) had been inadequately described in the CVA proposal. Here, the court found that on the facts, that whilst the disclosure was inadequate there was no substantial chance that a fuller disclosure would have caused creditors to have voted against the CVA.
2. Inadequacies in the statement of affairs and estimated outcome statement. This included three headings (the court found that none of these amounted to a material irregularity):
   1. The fact that certain intercompany debts were treated as valid liabilities with valid security.
   2. The fact that the statement of affairs and estimated outcome statement failed to include a value for recoveries in respect of the potentially reviewable antecedent transactions.
   3. The fact that the estimated outcome statement gave as alternative to the CVA a shut down administration (rather than a trading administration and/or a pre-pack sale).
3. Unfair prejudice - namely the classification of two intercompany loans as Critical Creditors resulting in no impairment.  The court concluded that the treatment of one of the intercompany loans as a Critical Creditor did amount to unfair prejudice.
4. 75% discount of landlords’ claims – whether a discount of 75% for voting purposes can ever be justified. Here, the court did not need to decide this for the purpose of its decision but it considered that it had not in any event been justified on the facts.
5. Modifications to the terms of a lease – namely that the way the termination rights were structured were unfairly prejudicial. The court did not side with landlords on the majority of points here.
6. Breach of duty by nominees. The court stated that the critical focus when assessing whether a nominee has complied with his or her duties is the report. The court concluded that in one limited respect (namely in accepting without question that the shareholder is properly to be treated as a Critical Creditor) the standard had fallen below the standard required of a nominee. However, the court did not make an order to deprive the nominees of their professional fees.

Key takeaways: inadequate disclosure and the statement of affairs/ estimated outcome statement

• Reiterating previous case law and New Look, non-disclosure will constitute a material irregularity only if there is a substantial chance that the non-disclosed material would have made a difference to the way in which creditors voted at the meeting.
• The fact that the company subsequently entered into administration with a short trading period and sale is irrelevant. Information has to be assessed at the time and not with hindsight.
• The question is not to determine what would have happened if the CVA had not been approved, but whether it was reasonable in the circumstances at the time to identify the alternative (here as a shut down administration). It appears that there may be a divergence of the level of certainty required as to the relevant alternative in a CVA than in a restructuring plan where the court must determine what would be most likely to occur.

Key takeaways: unfair prejudice

• Contemporaneous evidence will be key.
• Categorisation of creditors as Critical Creditors can be expected to be tested hard. In one of the cases here, the court concluded that it had been appropriate (due to the otherwise likely loss of the franchise) – but the company did not have an objective justification for the beneficial treatment of the second intercompany loan.

Key takeaways: 75% discount

• Reminder: in New Look, the 25% discount applied to landlords’ future rent claims for voting purposes was held to be justified.
• A blanket discount cannot be justified where the claims of all landlords are calculated according to the same formula. Here, the formula applied to all premises was that each would be re-let at 85% of the contractual rent after a void period of 6 months with a rent free period of 6 months. This leads to the formula being an overestimate in respect of a Category 2 lease and an underestimate in respect of a Category 5 lease (which it will be much harder to re-let).
• While it is difficult to identify precisely what percentage discount would be appropriate – there has to be some adequate justification for such a large discount. The fact that other CVAs have used the same approach is irrelevant to the question of whether it amounts to a material irregularity.

Key takeaways: Modification to the terms of the lease

• Evidence is key. Here the landlords claimed that rents were reduced to below market rent but had not put forward expert evidence.
• Termination rights can be structured so that they have to be exercised within 90 days of the CVA becoming effective. Landlords had argued that this timing was too short but the court held that the critical consideration is that landlords have the option to terminate or accept the modifications and that these options provide a more favourable outcome than the relevant comparator (here the shut down administration).
• The absence (or existence) of a real profit-sharing arrangement is something to weigh in the balance when considering the differential treatment of creditors within the CVA.

Comment

The court pointed out that the case is different from New Look as it was the current equity holders who benefited from future profits of the company. Taken together, New Look and Regis will shape future CVAs but what is clear is that CVAs can continue to be used as a flexible restructuring tool alongside restructuring plans.