The High Court has recently rejected a proposed restructuring plan for Great Annual Savings Company (GAS). In this insight we consider the reasoning behind this decision and the impact it may have on future restructurings where compromise of HMRC’s debt is likely to be critical.
It is well publicised that HMRC has been subject to ‘cross-class cram down’ of its preferential claims under a restructuring plan. In its judgment, the Court gave robust guidance on what it would expect to see if such a cram down were to be resisted in the future. This has led to a significant (and, to date, successful) change in approach by HMRC in its response to plans that propose to cram down its liabilities.
The Court’s decision
The restructuring plan proposed by GAS failed for two reasons:
- GAS failed to persuade the Court that HMRC was “no worse off” under the plan than the relevant alternative.
- The plan operated unfairly towards HMRC.
No worse off
The key to the Court’s decision here was whether GAS had satisfied the Court that none of the dissenting creditors would be any worse off under the proposed plan than they would be in the relevant alternative. In this case, that turned on whether the recoveries for certain assets was better under the plan.
The focus of HMRC’s objections was the likely recoveries in the relevant alternative (non-going concern sale in administration) under two heads: (1) book debts (the subject of GAS’s expert valuation evidence); and (2) recoveries for claims against third parties (based on antecedent transactions and various claims against misfeasant directors).
The Court sided with GAS on the potential recoveries of claims against third parties. It held it could not reliably place any value on these assets. There was not enough evidence before the court on these points (there was no criticism) and litigation was inherently speculative.
HMRC did not choose to put in its own expert evidence to challenge GAS’s book debts valuation. The Court made it clear that suggesting the Court must accept one party’s valuation evidence if there was no opposing evidence was too restrictive an approach. The Court’s role in considering a scheme was to scrutinise the company’s proposals and that must include the possibility of examining the valuation figures the company relies on.
That said, there is no doubt that in some cases opposing expert valuation reports will help the Court in identifying matters of concern in the method or results of the company’s expert valuer.
On the facts in this case, the Court had serious reservations about the analysis of the experts and did not accept their conclusions in the report about the likely value of book debt collection. They reported that debts on a face value of £18.2m were expected to recover nil or almost nil because of the value attributed to various deductions. The Court determined most of the deduction values had come from the company’s figures and the expert had not appeared to have scrutinised or analysed these. The Court felt the expert’s reasoning was “thin and unconvincing” in places and was not “sufficiently persuaded on the robustness of the conclusions in the [report]”.
The Court was not satisfied the company had proved that HMRC was no worse off under the restructuring plan than in the relevant alternative.
Having made that decision, technically the Court did not have the power to sanction the restructuring plan. Here, its decision centred on “fairness” – the interesting points were:
- The relatively strong overall support for the plan was not key to assessing fairness: the Court should give little if any weight to the views of out of the money creditors.
- A more pertinent question was whether the plan provides a fair distribution of the ‘restructuring surplus’ between supporting classes and dissenting classes, even if their interests are different. The Court broke that question down into further points:
- the existing rights of creditors and their treatment under the relevant alternative;
- what extra contributions they are expected to make to the success of the plan, including taking on added risk by making new money available;
- if they are disadvantaged under the plan compared with the relevant alternative, whether that could be justified.
In GAS, the parties with the most significant economic interest in the Company were the secured creditor and HMRC. The Court said that it was a natural expectation they would be at the forefront of the plan. It was for them to decide how to divide any value or potential future benefits created by the restructuring plan. It was critical in this case that there was to be no new money. The company’s return to profitability was to be secured by debt write off and funnelling the limited cash made available to those parties the directors considered would help the company generate revenue. Wiping out HMRC’s debt was key – but the primary beneficiaries were intended to be the secured creditor, the existing shareholders and connected party creditors. None of those parties would lose ‘new money’.
In previous decisions, favourable treatment of existing shareholders (whose shares were worthless) was justified by the support of senior secured creditors (those in the money) and on the basis of new money from the shareholders. HMRC did not agree with the treatment of the existing shareholders and HMRC’s views were not accommodated under the plan.
The Court accepted that selection of “critical creditors” was chiefly a matter for assessment by management. It is clear the selection must stand up to scrutiny and will be relevant in assessing the fair distribution of the benefits of the plan.
The Court accepted there was nothing inherently objectionable with the plan proposing a different order of priorities than in the relevant alternative, provided there is a good reason for it. In other cases, the Court has accepted there was a good reason to pay critical suppliers to give an improved dividend to all unsecured creditors, including HMRC. The Court was not satisfied GAS had given a good reason in this case. The Judge rebuked the lack of insight in the selection of out of the money creditors chosen to benefit under the plan at HMRC’s expense, when HMRC was at the same time excluded from the potential upside.
The “serious imbalance in the way the anticipated benefits of the restructuring are to be allocated” was damning. HMRC’s status as a major in the money creditor, its strong objections and its critical public function meant its views should have afforded more weight in how the plan was structured.
This is the second time in as many months that HMRC has successfully challenged a restructuring plan, after some vociferous opposition from the sidelines for some time over its treatment under restructuring plans.
The clear message from the Court is that it is possible to cram down HMRC and to divert from the statutory order of payment on an insolvency. If HMRC is ‘in the money’ and crammed down, any company proposing a restructuring plan needs to think seriously about how to give HMRC a fair share of the restructuring surplus.
In this case, it was clear cut: the Court will not sanction a restructuring funded in part by eliminating HMRC’s involuntary debts for the benefit of connected party creditors and shareholders.