Re The Great Annual Savings Company Limited [2023] EWHC 1141 (Ch).
Background
GAS is an energy supply contracts brokerage firm that has faced serious financial difficulties, primarily due to the impact of the pandemic and volatility in the energy pricing market. GAS had outstanding debts of approximately £28 million owed to a secured creditor, it was subject to an winding up petition brought by HMRC (adjourned pending the outcome of the Plan) and there were no other refinancing or recapitalisation options.
Fifteen separate creditor class meetings were convened including for each of the secured creditor, HMRC and three categories of energy suppliers who would be treated differently depending on whether they were essential to the business (Category 1, who would be repaid in full), value generative (Category 2) or unimportant (Category 3). On the Company’s evidence, only four of the fifteen classes stood to receive a return in the relevant alternative which was a non-going concern sale in administration. At the class meetings, 12 out of 15 classes voted to approve the Plan (100% in each), one class submitted no votes, HMRC voted against and 34% of the Category 3 energy supplier creditors voted against. Accordingly, the Plan could only be sanctioned if the Court were willing to use the cross-class cram down power.
Terms of the Plan
The Plan proposed by GAS aimed to return it to profitability by reducing debt exposure and funnelling cash to counterparties considered critical to its future operations and profitability. Importantly, no new money would be provided by any creditor or the shareholders. As a result, the Plan favoured certain “revenue generative” creditors and treated them more favourably under the Plan than they would in the relevant alternative. Selected creditors who would rank behind HMRC and recover no dividend in the relevant alternative were instead offered recoveries under the Plan - in some cases, at a more generous level than the return being offered to HMRC.
According to GAS’ evidence, in the relevant alternative HMRC would receive between 4.7p/£ and 0; under the Plan, it would receive a total of 9.1p/£ over two years, capped at £600,000 and would agree to a moratorium on any action unless the Plan was terminated before the end of the plan period. By way of comparison, Category 1 energy creditors would receive 0p/£ in the relevant alternative and 100% under the Plan. In addition, despite HMRC and the secured creditor being broadly comparable in terms of the likely high-low p/£ recovery in the relevant alternative, under the Plan the secured creditor would retain the potential for recovery of its principal amount in full by being able to redeem preference shares offered in a partial debt for equity swap under the Plan. No similar option was available to HMRC.
“No Worse Off” Test
The first issue for the Court was whether GAS had successfully discharged the evidential burden “which plainly rests on its shoulders” and shown, on the balance of probabilities, that HMRC would be no worse off under the Plan than in the relevant alternative. GAS’ largest asset was its commission debt book which had a headline value of £18.2 million but the valuation evidence provided by GAS showed it valued at between £0-£509,000 in the relative alternative.
Counsel for HMRC argued that the valuation was too pessimistic and that even a slight change to that valuation would wipe out the difference between HMRC’s position in the relevant alternative and its return under the Plan. In light of HMRC’s criticisms, it was open for the Court to scrutinise the valuation figures relied on by the Company. Ultimately, the Court was not sufficiently persuaded of the robustness of the conclusions in the expert report given the figures put forward appeared to be the Company’s own figures, unfiltered by any independent scrutiny or analysis. The Court found the Company had not sufficiently proven that HMRC was, on the balance of probabilities, no worse off under the Plan.
Interestingly, HMRC did not provide its own valuation evidence, relying instead on criticising that provided by GAS. GAS tried to argue that in the absence of valuation evidence from the dissenting creditor, the Court should accept the valuation analysis from the proposing company. The Court did not agree: to have such a rule would be “too restrictive an approach” [paragraph 62]. An important part of the Court’s function in considering a scheme of arrangement or restructuring plan was to scrutinise the company’s proposals and that had to include the possibility of scrutinising the valuation figures relied on by the company in light of any criticisms in order to determine whether the burden of proof was made out or not. It was not the case that it would always be necessary for a dissenting creditor to put forward its own expert evidence to back up any criticisms, particularly where on the face of material provided by the proposing company there were manifest errors, inconsistencies or matters that were not properly explained.
Counsel for HMRC further argued that any change in the valuation of claims or potential recoveries against third parties in an administration could mean that HMRC would be better off in the relevant alternative. Those claims in an administration could include claims for wrongful trading, preference claims, misfeasance under section 172, void payments and compensation orders. It is relevant that HMRC had serious concerns about the management of GAS and had expressed support for a formal insolvency process to consider potential claims against third parties, including director misfeasance under section 172 of the Companies Act 2006. However, bearing in mind the uncertainties and risks associated with such litigation, the Court found that it could not attribute any present value those the alleged claims.
Discretion to Sanction
Even if the Court had been satisfied that HMRC would be no worse off in the relevant alternative, the Court still needed to consider whether the Plan was fair in order to sanction it.
The first question was whether the scheme was one which “an intelligent and honest man, a member of the class concerned and acting in his own interest, might approve.”1 While strong overall support for a plan could be a relevant factor if there were similarities in the positions of the assenting and dissenting classes (so that it might be argued that the dissenting class had not acted rationally in voting against the plan), in this case, the Court held this Telewest rationality test and the relatively strong overall support did not provide much assistance in evaluating the overall fairness of the Plan. Of those voting in favour, 9 out of 12 classes would receive a positive return under the Plan but would receive nothing at all in the relevant alternative. It was rational that they would support the Plan and in each case, that the Telewest question would be answered affirmatively. However, the unsecured creditors and HMRC had very different interests and so the fairness of the Plan could not be judged by the support of other classes.
It was more useful, in assessing the inherent fairness of the Plan and whether it was right to impose it on dissenting creditors, to determine “whether the Plan provides a fair distribution of the benefits generated by the restructuring between those classes who have agreed to it and those who have not, notwithstanding that their interests are different. If it does provide a fair distribution, that is likely to indicate that the negative vote of the dissenting classes was not rationally motivated which would support sanctioning the plan despite the dissent. And the converse is also true.” Adam Johnson J considered three questions were relevant in considering what constitutes a fair distribution:
- the existing rights of the creditors and how they would fall to be treated in the relevant alternative;
- what additional contributions they are expected to make to the success of the Plan – in particularly whether they are taking on additional risk by making “new money” available; and
- if they are disadvantaged under the Plan as compared to the relevant alternative, then whether the difference in treatment is justified.
The Court held that the distribution of benefits was unfair for the following reasons:
- In the relevant alternative, HMRC and the secured creditor would receive broadly similar returns and were the parties with the “most significant economic interest” in the Company. Applying the decision in Virgin Active, the Court would expect HMRC and the secured creditor, as the “in the money creditors”, to be at the forefront of the Plan and determine how to distribute future benefits or value from the implementation of the Plan.
- There was no new money flowing into GAS. If GAS were to return to profitability, it would be through the eradication of most of HMRC’s debt and the funnelling of cash in the direction of the selected creditors who the Company considered would contribute to its potential profitability. HMRC would not benefit from future growth achieved by that debt write-down, the beneficiaries of that growth were the secured creditor, existing shareholders (who were retaining their equity and providing no new money) and connected party creditors. GAS’ argument that HMRC would benefit from future tax revenue should GAS return to profitability and so would benefit from the Plan was given short shrift by the Court.
- Under the Plan, existing management would be retained. Although that approach was supported by the secured creditor, it was opposed by HMRC which had no faith in GAS’ management. The Court held that HMRC’s views, which were not accommodated at all under the Plan, should be “matters of real weight” in the exercise of the discretion.
- Although it was permissible for a restructuring plan to propose a different order of priorities than would apply in an insolvency, no sufficiently good reason for such a different order had been provided in this case. In terms of the selection of those money creditors to benefit under the Plan, his Honour found the overall structure “lacks any real discernment” and the “rather muddled re-ordering of priorities” was designed to promote the hoped-for overall growth by favouring secured creditors, existing shareholders and connected party creditors, effectively at HMRC’s expense. The breadth of the creditor classes who would benefit from the reordering of priorities and the scale of benefits that would be conferred on them had been proposed for “reasons which are not clear or which are unconvincing”, and the treatment of certain creditor classes seemed difficult to justify.
The Court concluded that the Plan operated unfairly, HMRC had acted rationally in voting against the Plan and its views, both on the specifics of the GAS Plan and as the provider of a critical public function, deserved considerable weight. Those views “were sufficient to tip the discretionary balance against sanctioning the Plan, notwithstanding the positive support it received from the majority of other creditor classes”.
Conclusion
This is the second time the Court has declined to sanction a restructuring plan under which HMRC would be crammed down. While it clearly remains possible to cram down a preferential creditor, including HMRC, the case confirms that should a company wish to do so in the future, it will need to:
- ensure that the evidence it provides in relation to the “no creditor worse off” test is robust and convincing and that its valuation experts have applied an independent analysis of the information provided by the company – preparing a valuation based on an assumption that the figures provided by the company are factually accurate is unlikely to convince the Court of the accuracy of the valuation evidence;
- ensure there is a fair distribution of any restructuring benefits, and that where the relevant alternative is insolvency, that any deviation from the statutory priority of payments is justified; and
- consider earlier engagement with HMRC which has now shown itself more than prepared to stop shouting from the side-lines and actively oppose a restructuring plan which it considers to be unfair.
Authored by Annabel White and Margaret Kemp.
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