The Corporate Insolvency & Governance Act 2020

As the UK teeters on the brink of what would appear to be an inevitable recession, new restructuring tools introduced in the UK in 2020 pursuant to the Corporate Insolvency & Governance Act 2020 (“CIGA”) will ensure that issuers and other distressed borrowers can execute more creative and aggressive restructuring strategies than were possible during previous market downturns. A brief summary of the new UK restructuring plan is set out below, together with some examples as to how the restructuring plan is being used in practice.

UK scheme – key features

Prior to the introduction of CIGA, the key restructuring tool available in the UK to implement a balance sheet restructuring was a scheme of arrangement (a “Scheme”). In brief, a Scheme is a statutory procedure available under Part 26 of the Companies Act 2006 (“CA 2006”), pursuant to which a company can agree a voluntary compromise with its creditors and/or members. The purpose of a Scheme is not prescribed, and its scope is flexible. In the context of distressed companies, Schemes can be used for a variety of purposes ranging from of a simple extension of maturity to the implementation of a substantive restructuring involving a debt for equity swap.  

A Scheme is proposed by the company (with no statutory right for creditors and/or members to propose an alternative restructuring proposal). During the proceeding, the directors retain control of the company (similar to a proceeding under the U.S. Bankruptcy Code under Chapter 11).

For the purposes of voting on a Scheme, creditors and/or members (as applicable), are divided into classes. For the Scheme to be approved, each class of voting creditor and/or member must vote in favor of the Scheme by way of a majority in number representing 75 percent in value of those creditors and/or members voting in person or by proxy.  

From a procedural perspective, a company proposing a Scheme must:

• First, make an application to court to request consent to call a meeting of the Company’s creditors and/or members for the purpose of voting on a Scheme (the “Convening Hearing”);
• Second, hold a meeting of the company’s creditors and/or members to vote on the proposed Scheme; and
• Third (and assuming the Scheme is approved by the requisite majority of creditors and/or members), make a subsequent application to court, asking the court to sanction the proposed Scheme.  

Notwithstanding the approval of a Scheme by the requisite majority of creditors, the English court retains a discretion as to the approval of any Scheme.

CIGA and the new restructuring plan – key features

CIGA introduced a new restructuring tool in the UK – a restructuring plan (an “RP”). RPs are established in Part 26A of the CA 2006 and therefore, like a Scheme, are Companies Act proceedings (as opposed to insolvency proceedings set out in the Insolvency Act 1986). However, unlike a Scheme, which may be utilized by both solvent and insolvent companies, to be eligible to use the RP, the company must satisfy the English court that the RP is necessary to address any financial difficulties the company is encountering or is likely to encounter.

Like a Scheme, (i) the purpose of an RP is not prescribed by law, (ii) the proceeding can only be proposed by the debtor company, and (iii) directors retain control of the company in the ordinary course. For the purposes of voting on an RP, creditors are divided into classes on the same basis as would apply for a Scheme. The approval threshold is 75 percent in value (of those creditors voting in person or by proxy) with no numerosity test.

Unlike a Scheme, if every class of voting creditor does not vote in favor of an RP, the company can ask the court to impose a cross-class cram down (a “CCCD”).  

In order to impose a CCCD, the court must be satisfied that: (i) none of the members of the dissenting class(es) would be any worse off if the RP is sanctioned than they would be in the relevant alternative; and (ii) the RP must be approved by 75 percent in value of a class of creditors (or members) voting at the meeting who would receive a payment or have a genuine economic interest in the company in the event of the relevant alternative.

The “relevant alternative” is understood to mean what is most likely to happen to the company if the proposed RP is not approved – for many companies, this typically means administration or liquidation (or any similar insolvency proceedings). Those creditors (or members) who would receive a payment or have a genuine economic interest in the company in the relevant alternative are therefore those creditors who would receive payment if the company were to go into administration or liquidation (without the approval of the RP).

Like with a Scheme, the court retains a discretion regarding the approval of an RP and will refuse to sanction an RP where the court is of the view that the proposed PR is not fair and equitable.

In contrast to a Scheme, CIGA also includes certain statutory provisions, which: (i) permit the debtor company to ask the court for permission to exclude from voting any class(es) of creditors or members who do not have an economic interest in the company (i.e., any “out-of-the-money” class of creditors or members); and (ii) permit the company to amend its share capital and shareholder rights (without shareholder consent). Further, when a company proposes an RP, in contrast to U.S. Chapter 11, there is no requirement for the company to observe the “absolute priority rule” (i.e., an RP can lead to a distribution to a class of junior creditor in circumstances where a more senior class of creditor has not been paid in full). 

How is the restructuring plan being used in practice?

Since its introduction in June 2020, around 14 companies have proposed RPs. Given the prevailing economic climate during this period, this modest uptake is perhaps not surprising. However, given the macroeconomic headwinds facing Europe and the UK, in particular, we anticipate that an increasing number of companies will seek to restructure their liabilities using the RP. Further, and perhaps more importantly, as more companies propose RPs, the judicial guidance provided by the courts will provide further clarity and comfort as to the scope and parameters of RPs. This in turn is likely to encourage more companies to use RPs in circumstances where the likely outcome of proposing an RP is more predictable and the risk of challenge is arguably more limited.

The cross-class cram down

In the case of Virgin Active, the company proposed an RP to restructure its balance sheet (in the alternative to a company voluntary arrangement which is typically used to restructure any business with a large overrented real estate portfolio). For the purposes of voting on the plan, creditors were divided into seven separate classes compromising: (i) senior secured lenders; (ii) five separate classes of property landlords; and (iii) one class of unsecured property claims. The landlords each had unsecured claims against the company. However, on the basis that the landlords were being offered different terms pursuant to the RP, the landlords were divided into separate classes for the purposes of voting on the RP.  

The company advised the court that if the RP was not approved, it was most likely that the company would be placed into administration (administration was therefore the “relevant alternative”). In the relevant alternative, only the company’s secured creditors would receive a dividend and the landlords, together with the other unsecured creditor class, would receive no dividend.  

At the meeting of creditors to vote on the RP, only the secured creditors and one class of landlords (being those landlords receiving the most preferential treatment under the RP, as compared to the other landlord classes), voted in favor of the plan. The court was therefore asked to approve a CCCD.  

Whilst the landlords took the opportunity to challenge the RP on a number of different bases, the court had little hesitation in imposing a CCCD and approving the RP. In the circumstances, the court was satisfied that the conditions to imposing the CCCD were satisfied. In particular, at least one class of money creditors had voted in favor of the plan (i.e., the secured creditors) and the dissenting classes were no worse off under the RP than they would be in the relevant alternative.  

In approving the plan, the court took into consideration the fact that pursuant to section 901C of the CA 2006, the company could have asked the court for permission to exclude from voting on the RP any class of “out-of-the-money” creditors (i.e., the company could have proposed a one-class scheme comprising the secured creditor class only). 

On the facts of the case, equity was not impaired by the RP. However, the court was satisfied that, in the circumstances, sufficient consideration had been provided by equity to justify it retaining its interest in the company. Further, and more importantly, where a ‘restructuring surplus’ is available, the court has made clear that it is up to any in the money class(es) of creditor to determine who should benefit from that surplus. Given that, in this case, the senior creditors agreed that it was appropriate for equity to retain its interest in the company, the court will typically be reluctant to interfere with the commercial rationale of any well-advised class of creditor who would otherwise stand to benefit from any such restructuring surplus.

The judgment in Virgin Active also provides important guidance on the approach of the English courts in the event of any valuation dispute. In particular, the court made clear that it will not allow the utility of RPs to be undermined by protracted valuation disputes. This does not mean that parties are not permitted to challenge RPs. However, where a creditor or member proposes to challenge an RP on the basis of value, any such dissenting stakeholders must provide to the court alternative valuation evidence capable of cross-examination. In the case of Virgin Active, whilst the landlords sought to challenge (amongst other things) the company’s valuation evidence, the landlords ultimately failed to provide any substantive alternative valuation evidence which could have persuaded the court to reach a different outcome. 

Following Virgin Active, Smile, an African telecoms company proposed an RP pursuant to which, amongst other things, it obtained court consent to propose a one-class RP. The company advised the court that in the ordinary course of proposing a Scheme, it would divide the company’s creditors and members into eight separate classes. However, in the relevant alternative (being insolvency proceedings), only the super senior class of creditor would receive any amounts. All other classes of creditors and members would receive no payment. In the circumstances, the court was satisfied that it could sanction a one-class RP. Accordingly, seven classes of out of the money creditors were excluded and not invited to vote on the company’s RP. However, such excluded creditors were, nonetheless, bound by the terms of the RP.  

The Smile case illustrates the point that where the court does grant a company permission for any class(es) of “out-of-the-money” creditors or members to be excluded from voting on any RP, whilst such creditors or member classes will have the opportunity to raise objections at court to their exclusion, arguably they will not have the same protections that are otherwise available to creditors/members where the court is asked to exercise its discretion and to sanction a CCCD.  

Smile also utilized new statutory provisions under CIGA which ultimately resulted in it redeeming the company’s existing ordinary and preference shares and issuing 100 percent of its share capital to the super senior lender, all without shareholder consent. For further information and commentary on the Smile RP, see our recent OnPoint. 

In the recent case of ED & F Man Holding Limited, the company in this case also used an RP to, amongst other things: 

• Alter certain governance and appointment rights in relation to the company, including the removal of the ability of the preference shareholder to appoint one or two directors of the company;
• Make certain amendments to the quorum and voting requirements at board meetings;
• Amend the priority of payments applicable to the preference shareholder in certain minor respects;
• Clarify and simplify the regime relating to the declaration and payment of preferred dividends in the company’s articles;
• Simplify the regime in relation to share transfers and buybacks and certain other provisions of the company’s articles; and
• Remove certain redundant provisions from the company’s articles.  

All of these changes were implemented without a shareholders’ special resolution, which would ordinarily be required in order to make such fundamental changes to the company’s equity and articles.

Cross-border restructurings using a UK Scheme or RP

In relation to international companies, they can continue to utilize RPs using the same criteria applicable to Schemes. For a company to be eligible to use a Scheme or RP, it must have a “sufficient connection” to the UK. A “sufficient connection” can be established on the basis of, amongst other things, English law finance documents, assets in the UK or a company having its center of main interest (“COMI”) in the UK.  

In practice, to create a jurisdictional link to the UK for the purpose of using a Scheme or RP, it is not uncommon for a company to: (i) change the governing law of its finance documents from, for instance, New York law to English law; (ii) undertake a COMI shift to the UK; and/or (iii) insert a new UK company into the corporate structure or to make an existing UK company in the debtor group a co-obligor in relation to the company’s financial indebtedness. All of these techniques have been recognized and upheld by English courts, thus enabling companies from all around the world to restructure their liabilities using English restructuring tools.

The UK will remain a popular destination for the restructuring of both international and UK companies. The new RP continues to drive increasingly creative restructuring solutions, which are entirely new to the UK restructuring market. Whilst such solutions will offer many more companies the opportunity to be rescued on a going concern basis, creditors and shareholders alike need to be aware of and consider how these restructuring techniques could also be used to prejudice or otherwise completely undermine their interests. In the event of challenge, speed is critical, and creditors and members will have to move quickly in order to protect their interests and retain a seat at the table.