The English Court of Appeal has today overturned the restructuring plan sanction order made by the High Court in April 2023.
The keenly awaited judgment raises some difficult issues for Adler in the context of its restructuring, but more broadly clarifies a number of points in relation to restructuring plans.
How the court uses its discretion to sanction a plan
- In a scheme, or a plan without cross class cram down, the court will take comfort from the majority vote and, subject to checking that it is rational, will generally be slow to differ from the results of the meeting. This is because the majority and minority within a class have sufficiently similar commercial interests based upon their rights.
- In the context of cross class cram down, there is no such commonality of commercial interests between the assenting and dissenting class – that is the very reason that creditors have been placed in different classes. Even if the assenting classes have voted overwhelmingly in favour of the plan, it tells us nothing about whether it is fair to impose it on the dissenters.
- The court therefore needs a different principle to assess whether to use its discretion to sanction a plan. The fact that Conditions A (no worse off than the relevant alternative) and B (assenting class with a genuine economic interest) are satisfied is the gateway to possible sanction, but does not create a presumption in favour of it. The court has an additional role to play.
- What then is the principle that applies? As trailed in previous restructuring cases (see our blogs: DeepOcean, Houst and Great Annual Savings) the Court of Appeal confirmed that it is appropriate for the court to consider the horizontal comparator test developed in the context of company voluntary arrangements. The horizontal comparator is a comparison of "the position of the class in question with the position of other creditors or classes of creditors (or members) if the restructuring goes ahead".
- In real terms, the court will ask itself (i) how would different classes of creditor be treated relative to each other in the relevant alternative; (ii) is their relative treatment under the plan consistent with that or is there differential treatment; and (iii) if there is differential treatment, is that for ‘good reason’ and justified on a ‘proper basis’?
- The Court of Appeal declined to attempt an exhaustive list of possible “justifications”, but noted that where creditors are providing an additional benefit, it is likely they should be entitled to receive an enhanced share of the benefits. For example, where trade creditors are paid in full or where creditors are providing new money this could be justified. The court queried however whether this would always extend to mechanisms seen in recent schemes, such as ED&F Man, where the existing debt of new money providers was also elevated (see our blog), noting that this was likely to be “highly fact sensitive”.
Applying this to Adler:
- The relevant alternative was a wind down in a German liquidation where the maturity on all notes would have been accelerated and creditors would have ranked pari passu (this was common ground).
- The plan however maintained staggered maturity dates, broadly in line with the pre-restructuring plan position, meaning that creditors who had later maturities ran a higher risk of non-payment. The plan therefore differed from the relevant alternative treatment.
- The Court of Appeal did not consider that there were sufficient reasons to justify the differing treatment of creditors between the relevant alternative (German liquidation) and the restructuring plan. This was particularly the case where “parties could easily have produced a fairer plan that eliminated the different treatment of the different series of Notes by agreeing to harmonise the dates”.
The best plan?
- It is a key feature of a scheme of arrangement that the court is not concerned to decide whether the scheme is the “best” or only fair scheme, simply whether it is itself fair. However, as part of the horizontal comparison in a restructuring plan imposing cross class cram down, the court must consider whether a different allocation of the restructuring surplus would have been possible – and whether that alternative allocation would have been fairer.
Can shareholders retain equity?
- Challengers to the Adler restructuring plan had argued that the plan was unfair given that shareholders were permitted to retain their equity when creditors were at risk of a shortfall.
- The Court held that this was not unfair as it respected the treatment that would apply in the relevant alternative. Shareholders would not be paid until creditors were paid in full.
Can shareholders or creditors be zeroed?
- The Court expressed its provisional view that that there is no jurisdiction under Part 26A to “zero” creditors' or members' rights for no consideration.
- In other words, there must still be some element of “give and take” to compensate them for the extinction of their claims. An expropriation of rights, whether by forfeiture or by reason of no consideration received was not permitted.
- The judgment does not address what level of consideration is adequate.
Procedural warning shots
- The Court used the opportunity to lay down a marker for future restructuring plan cases, in particular on timing. While the Court stated that it will always be prepared to act urgently in appropriate cases, for example where there is an unexpected external factor, not all cases are similarly urgent. The Court will take a dim view of cases where the urgency was foreseeable, e.g. because of impending maturity dates. In such cases, plan companies should be prepared for the Court to take whatever time it requires to allow a full process and deliver a reasoned decision.
- The Court further noted that any practice that may have developed to stand matters over to sanction when they are properly to be dealt with at convening (such as issues on jurisdiction or class composition) is to be deprecated.
- Courts will also expect plan companies to make available in a timely manner (subject to necessary confidentiality undertakings) the relevant material that underlies the valuations upon which they rely. If they not do so, the Court will use its power to order specific disclosure “robustly”.
- Further, the Court suggested that in future cases where an appeal may be contemplated, parties should consider seeking a stay of implementation of the restructuring until after permission to appeal is determined, though in practice the need to give a cross-undertaking in damages is likely to be a disincentive to the unsuccessful challenger making such an application.
- The decision will give rise to difficult issues for Adler (though the company has stated it has no direct impact on its German law bonds) and some other in-flight restructuring plans based on the law as it was understood.
- However, it represents the restructuring plan’s coming of age. It was inevitable in the infancy of the restructuring plan that each new precedent would push the boundaries of what could be achieved. We now have clear guidance across a number of areas, some substantive and some procedural, which will be binding on lower courts. This will give greater certainty to companies proposing plans and also those bringing legitimate challenges.
- The exact application of the principles derived from the judgment will, of course, need to be carefully considered in a case-by-case situation – in some respects, Adler was an unusual restructuring plan where no debt was written off and where the relevant alternative was a straight liquidation. The horizontal comparison required here was far more straightforward than in a case where, for example, it might be suggested that the relevant alternative was a different restructuring or sale process rather than a formal insolvency; or where the plan creditors had different priority rankings of secured and unsecured debts.
- The greatest immediate impact is likely to be procedural. We have already seen a shift in the Courts being more willing to push out sanction hearings to allow exchange of evidence and multi-day hearings. That will now be the norm where there is challenge, especially where there is no external factor causing unexpected urgency.
- Companies proposing a restructuring to deal with a known impending maturity or liquidity event should start thinking about and negotiating a non-consensual implementation at an early stage, alongside any consensual solution. The Court has made it clear that will have little sympathy if the clock is run down (intentionally or otherwise) such that a fair court process cannot be accommodated.
- On valuation, the trend continues that the Courts will expect greater disclosure of information to allow rival expert evidence to be prepared and enough time for experts to confer with each other and be cross-examined. That raises a lot of strategic considerations for plan companies and challengers and reinforces the point that every restructuring should now be treated as a potential piece of litigation from day one.
- The judgment also leaves some legal questions deliberately unanswered, including the use of the issuer substitution technique used in Adler (and by reference the use of a deed poll). The Court noted however that, without expressing a view one way or the other, the fact that this judgment does not deal with this issue should not be taken as an endorsement of the technique for future cases.
The judgment can be accessed here.