On 13 January 2020, the High Court sanctioned the restructuring plans proposed by three UK companies in the DeepOcean group, under Part 26A of the Companies Act 2006.
Case law on the new UK restructuring plan is still at an embryonic stage. DeepOcean is only the third such plan to reach sanction since Part 26A entered the statute book, following its introduction by the Corporate Insolvency and Governance Act 2020 (CIGA) last June. We discussed the sanction of the Virgin Atlantic restructuring plan, the first under Part 26A, here.
The DeepOcean case sees the first exercise of the novel provisions of Part 26A, which enable a dissenting class to be bound by the plan where another class votes in favour – widely referred to as the “cross-class cram down”. The facts and judgment in this case therefore warrant closer consideration.
The background
The restructuring plan in this case was proposed by three companies: DeepOcean 1 UK Limited (DO1), DeepOcean Subsea Cables Limited (DSC) and Enshore Subsea Limited (ES) (together the Plan Companies) which formed the UK-based cable laying and trenching arm of the DeepOcean Group.
Poor financial performance of the UK business, exacerbated by the COVID-19 pandemic, led to the decision to propose Part 26A restructuring plans in relation to the Plan Companies (together the Plan), with the aim of avoiding uncontrolled insolvency proceedings.
There were at least two classes of creditor in relation to each Plan Company:
- Secured lenders pursuant to an English law facilities agreement, each of which had entered into a lock-up agreement by which they agreed to support the Plan (the Secured Creditors)
- Unsecured creditors, primarily comprising trade creditors (the Other Plan Creditors)
In relation to DO1 there were two further classes of creditors, one comprised of landlords and another of the owners of two vessels. There were also a number of creditors whose claims were excluded from the ambit of the Plan, notably employees and HMRC.
The Secured Creditors agreed, by way of the Plan, to an amendment and restatement of the facilities agreement, with the obligations of the Plan Companies under it, and the security over their assets, to be released.
Meanwhile, the Other Plan Creditors were required to submit their claims by a bar date, in consideration for which they would receive a dividend of around 4% (the funding for this being injected by the wider DeepOcean Group).
The “financial difficulties” test
Section 901A of the Companies Act 2006 introduces two conditions which must be satisfied before a company may enter into a Part 26A plan:
- Condition A being that the company has encountered, or is likely to encounter, financial difficulties that affect its ability to carry on business as a going concern.
- Condition B being that the purpose of the proposed compromise or arrangement is to eliminate, reduce or prevent, or mitigate the effect of the financial difficulties.
The potential ambit of “financial difficulties” in condition A is very wide, and in this case the evidence as to the Plan Companies’ financial situation was clear. However the court at the convening hearing gave some consideration to whether condition B was satisfied. There was no suggestion that the Plan would enable the Plan Companies to carry on business as a going concern, and the ‘mitigation’ proposed by the Plan went to the return to creditors, rather than enabling any rescue or continuation of the business.
Mr Justice Trower found that it would be too narrow a reading of the legislation to require condition B to relate only to a compromise or arrangement aimed at enabling the continuation of business as a going concern. A compromise or arrangement which would enhance the dividend on creditors’ claims, even without any intention of rescuing the company, was sufficient to satisfy condition B, and therefore section 901A was satisfied in this case.
The “cram down” provisions
Approval of a Part 26A plan by a class meeting requires the assent of 75% in value of the creditors or class of creditors present and voting at the meeting. In contrast to a scheme of arrangement under Part 26 of the Companies Act 2006, there is no additional requirement for approval by more than 50% in number.
The plans proposed by DO1 and ES were both approved by the statutory majority in each of their creditor meetings. The DSC plan, however, was approved only by the meeting of its Secured Creditors. At the meeting of its Other Plan Creditors, 64.6% by value voted in favour – falling short of the statutory threshold.
For the first time, therefore, the court was required to consider the exercise of its discretion pursuant to s.901G of the Companies Act 2006. This enables the court to sanction a restructuring plan where one of the class meetings has not met the statutory majority in favour (the dissenting class), provided two conditions are met:
- Condition A: the court must be satisfied that, if the plan were to be sanctioned, none of the members of the dissenting class would be worse off than they would be in the event of the relevant alternative.
- Condition B: that the compromise or arrangement has been agreed by the requisite majority of a class of creditors who would receive a payment, or have a genuine economic interest in the company, in the event of the relevant alternative.
Key to both of the conditions in s.901G is identifying the “relevant alternative”. The court confirmed that this exercise was similar to identifying the appropriate comparator for class purposes in relation to a Part 26 scheme of arrangement, or identifying the “vertical” comparison for the purposes of an unfair prejudice challenge to a company voluntary arrangement.
While this may be a complex exercise in some cases, here the relevant alternative was accepted, on the evidence, to be the withdrawal of additional funding for the Plan Companies from the wider DeepOcean group, which would result in the formal insolvency of the Plan Companies.
Therefore the question for the court to consider was whether the Other Plan Creditors would be any worse off pursuant to the terms of the Plan than they would be in an insolvency of the Plan Companies. Although the starting point for this would be comparison of the likely financial return, the judge noted that the phrase “any worse off” was broad enough to cover wider considerations such as timing and security of any covenant to pay.
In this case, however, financial return was the key factor. The evidence showed that the Other Plan Creditors would be likely to receive nothing in the insolvency of the Plan Companies. Under the Plan they would receive a dividend of around 4%, funded by other group companies. The dissenting creditors were not represented at the hearing, and the valuation evidence showing them to be ‘out of the money’ in the relevant alternative was not challenged. Condition A therefore was satisfied.
With regards to Condition B, evidence established that each of the Secured Creditors would receive a recovery out of the charged assets in an insolvency scenario, so meeting the requirement for members of the approving class to have a genuine economic interest in the company in the event of the relevant alternative.
The court’s jurisdiction
Even where the conditions in s.901G have been met, the court still has discretion as to whether to sanction a plan. The judge referred to the Explanatory Notes to CIGA, which state that “the court will still have an absolute discretion whether or not to sanction a restructuring plan, and may refuse sanction on the grounds that it would not be just and equitable to do so, even if the conditions in section 901G have been met.”
In this instance there was nothing to indicate that the plan was not just and equitable – indeed, the evidence pointed overwhelmingly in the other direction. A particularly persuasive point was that the Other Plan Creditors would have received no dividend in the relevant alternative scenario. S.901C(4) allows creditors to be excluded from a plan if the court is satisfied that they have no genuine economic interest in the company (indeed, there is precedent for excluding such "out of the money" creditors from a Part 26 scheme), so arguably the Other Plan Creditors did not need to be summoned to a class meeting at all.
In any case, the judge pointed out that an applicant company will be in a strong position when it comes to sanction if it has already met the statutory conditions, having had to satisfy the court as to the purpose of the plan (to mitigate the effect of financial difficulties) and that members of the dissenting class would be no worse off than under the relevant alternative scenario. It follows therefore that the effect of the plan must be at worst neutral, if not better, for the dissenting creditors than the alternative.
Nevertheless, the exercise of the court’s discretion will not always be clear cut. Other factors which the court considered relevant to address included "artificiality" in the composition of the meetings, turnout at the meetings, and level of support for the plan.
Despite the lock-up agreement in relation to the Secured Creditors, the judge accepted here that no creditor was influenced in the way it cast its vote by any collateral interest, or was acting other than honestly and in good faith with a view to the interests of the class as a whole.
Where the cram down provisions were to be invoked, the court also considered it important to look at the “horizontal” comparator. The court will take account of differences in treatment of creditors across the classes, and whether those differences are justified, in particular whether the benefits of the restructuring are fairly distributed.
In this case, the Other Plan Creditors would have been out of the money in the relevant alternative scenario, and the different treatment of the Secured Creditors was justified by reason of their security. There were also good commercial reasons for excluding certain creditors. Therefore no issues of fairness of treatment across classes arose – although it is easy to imagine that in other cases this issue could give rise to significant challenge.
Conclusions
The DeepOcean judgment gives helpful guidance as to the approach which will be taken by the court in relation to the satisfaction of the requirements of Part 26A, and in particular the exercise of the court’s discretion to sanction a restructuring plan which has not been approved by all classes of creditors.
However, in many respects this was a straightforward case: the funds injected by other group companies meant the Other Plan Creditors received a clear financial benefit from the Plan (albeit not a large one), two of the three Plans had received the assent of all classes, and there was no challenge in court to the evidence of the Plan Companies. It will be interesting to see how the case law develops when more controversial - or at least actively opposed - plans reach the sanction stage.
David Steinberg
Tim Carter
Helen Martin