In depth

Corporate update: the latest corporate law developments September 2021

Gateley Legal

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In this month’s update for directors, secretaries and general counsels we:

  • look at a case where the court refused to impose a restructuring plan on dissenting members;
  • tell a cautionary tale of a director found personally liable for auction bids; and
  • consider the limits that apply when exercising a contractual discretion.

Court refuses to impose restructuring plan on dissenting shareholders

In June's updates we explained how Virgin Active had used the new restructuring plan to force a compromise onto its dissenting landlords. But in the latest case to consider this type of arrangement the judge refused to "cram down" the dissenting members since it could not be said that they would be no worse off under the relevant alternative.

Restructuring plans

Although restructuring plans were introduced as part of the measures aimed at relieving issued caused by the Covid-19 pandemic, they are not a temporary solution but instead are a permanent feature of the UK's ongoing insolvency landscape.

A restructuring plan involves a compromise or arrangement between a company and its creditors or members. It can only be proposed by a company that has encountered financial difficulties affecting its ability to carry on business as a going concern and the purpose of the plan must be to deal with the effect of those financial difficulties.

Crucially, a plan can be imposed on a dissenting class of creditors or members – known as the 'cross-class cram down' - provided that:

  • they would be no worse off than in the 'relevant alternative' – that is, whatever the court considers would be most likely to happen if the plan was not sanctioned; and
  • the plan has been approved by at least one class of creditors or members who would receive a payment, or have a genuine economic interest in the company, in the 'relevant alternative'.

In Re Virgin Active Holdings Limited [2021] EWHC 1246 the court said that, when considering the 'cross-class cram down', it first had to identify the 'relevant alternative' – that is, what the most likely outcome would be if the plans were not sanctioned. It then had to determine what that outcome would mean for the dissenting classes and compare that to the outcome for those classes under the proposed restructuring plans.

The facts

In Hurricane Energy plc [2021] EWHC 1759 (Ch) the court was asked to sanction a restructuring plan relating to a company that held licences for extracting oil reserves off Shetland. The company had issued $230m of convertible bonds to finance exploiting the licences but, when the estimates of oil reserves were significantly reduced, the company forecast that it would be unable to repay the bonds when they reached maturity in 2022. 

So the company proposed a restructuring plan under which the maturity date of the bonds was extended and the amount payable under them was reduced, but new shares in the company would be issued to the bondholders giving them 95% of the equity and leaving the existing shareholders with just 5%. The company would continue to trade in order to pay off the restructured bonds but the surplus leftover for the shareholders would be "less than meaningful".

The court convened separate meetings of the bondholders, who approved the plan, and the shareholders, who rejected the plan. So the court was then asked to sanction the plan using the cross-class cram down provisions to impose the plan on the dissenting shareholders.

The decision

In order to apply the cross-class cram down, the court had to consider what the relevant alternative to the plan was and whether the shareholders would be better off under the plan than in that relevant alternative.
In this case, the relevant alternative was not an insolvency process but the continued trading of the company. The court said it was for those proposing the plan to show that none of the shareholders would be better off retaining their shares and allowing the company to carry on trading. It was not necessary to identify the most likely outcome of the relevant alternative and a range of possible outcomes could be put forward. Nor was it necessary to show that the most likely outcome if the plan was not sanctioned was a future return for the dissenting shareholders. 

Here, the potential outcomes included a realistic prospect that the company would be able to discharge its obligations to the bondholders, leaving assets with at least the potential for exploitation. Accordingly, it could not be said that the shareholders would be no worse off under the relevant alternative than under the plan. They would be better off keeping 100% of the equity and allowing the company to continue to trade where there was a realistic prospect of it being able to repay the bonds, rather than giving up 95% of that equity to the bondholders in exchange for the "less than meaningful" return on their 5%.

Comment

This is the first reported case in which the court considered cramming down shareholders, as opposed to creditors. It suggests the court will be reluctant to exercise its powers in this area to force through a debt for equity swap where the company is only slightly distressed and there is a possibility (however remote) that things will improve without the plan.

Company director personally liable for auction bids

The High Court has found that a company director bidding in an auction was acting as agent for the company and, under the auction house's conditions of sale, was personally liable with the company for the purchase price.

The facts

In Tattersalls Ltd v McMahon [2021] EWHC 1629 (QB) Mr McMahon and Ms Whitney had incorporated a company which was to deal in bloodstock assets including broodmares, yearlings and foals. Mr McMahon and Ms Whitney were appointed as the company's directors and, in order to attract investment into the company, they applied for Advance Assurance under the EIS scheme.

To ensure that they were able to bid at Tattersalls Limited's upcoming sales, Ms Whitney completed their New Buyer Form in the name of the company. She also applied for, and was granted, credit of £300,000 and payment terms of 60 days.

Although the EIS Advance Assurance had still not been received, and therefore no investment in the company had been secured, Mr McMahon attended an auction and successfully bid for two foals at a total cost of £320,775. When completing the related purchase confirmations, Mr McMahon inserted the company's name and the auction house subsequently issued its invoices in the name of the company.

In fact the EIS Advance Assurance was never received and so the company failed to attract any investors' funds. It was therefore unable to pay the purchase price for the two foals.

When the auction house subsequently took steps to recover the purchase price, it relied on a provision in its conditions of sale to pursue Mr McMahon personally. Those conditions stated: "Unless there is in force a Purchasers Authorisation accepted in writing by Tattersalls the highest bidder in the ring and any principal for whom he may be acting shall be jointly and severally liable under the contract of sale".

Mr McMahon argued that the purchases were in fact made solely on behalf of the company and that the company was in fact the "highest bidder in the ring". No Purchasers Authorisation has been lodged by the company and therefore no agent had been appointed. Accordingly, it must have been the company who bid for and purchased the foals, acting through its director, Mr McMahon. 

The decision

The judge disagreed with Mr McMahon holding that if a bidder, as agent for a principal, wished to avoid personal liability for his bid made in the ring, he must complete a Purchasers Authorisation. But, in the absence of such an authorisation, the highest bidder in the ring is personally liable for the purchase together with the principal (outside the ring) for whom he was acting. According to the judge the words "in the ring" in the conditions of sale emphasised that it is the individual who physically bids for the lots in the ring that is personally liable for the bid.

The judge accepted that Mr McMahon had been acting as agent for the company when bidding for the two lots. But this did not prevent him from being personally liable under the conditions of sale with the company (as principal) for the auction lots. It was Mr McMahon who bid in the ring and, in doing so, he incurred personal liability. The fact that no Purchasers Authorisation has been lodged by the company did not mean that he was not bidding on behalf of the company but instead meant that, in doing so, he could not avoid personal liability under the conditions of sale.

Comment

Directors are not normally personally liable for the acts of the company they represent. But, in this case, the specific provisions of the auction house's conditions of sale meant that the director was liable – not because he was a director, but because he had been the individual bidding in the ring on behalf of the company. Under the conditions of sale that personal liability could have been avoided by the company completing a Purchasers Authorisation. Had it done so, the auction house would presumably have investigated the company (as Mr McMahon's principal) to determine if it was good for the money. But in the absence of such an authorisation, the person bidding in the ring, even if he was doing so in his capacity as a director of a company, was unable to avoid personal liability. 

Was a contractual discretion exercised fairly when dividing law firm's profits?

In a dispute about the allocation of profits in a law firm, the High Court has considered the limits placed on a contractual discretion, confirming that such a discretion must be exercised in good faith, without taking into account irrelevant matters or ignoring relevant ones.

The facts

In Tribe v Elborne Mitchell LLP [2021] EWHC 1863 (Ch) Mr Tribe disputed the profits allocated to him in his last two years at the firm where he had been a partner for over 25 years. 
The firm's partnership agreement set out the basis on which the profits were to be allocateding, providing that:

  • each partner received a fixed share;
  • if there was a balance left over, then a "discretionary fund" was created;
  • that discretionary fund was allocated by ordinary resolution of the partners "on recommendations brought forward by the Senior Partner"; and
  • the Senior Partner's recommendations were "to be determined at his discretion but will have substantial regard for financial performance".

Mr Tribe was unhappy with his allocation of profit for the 2014/15 and 2015/16 financial years. He brought a claim for damages for those years and declarations of his rights under the partnership agreement.

Mr Tribe's claim rested on the way in which the Senior Partner had made his recommendations for the distribution of the discretionary fund and the basis on which the partners' had passed an ordinary resolution based on those recommendations.

The decision

The court confirmed that where a contractual term enabled one party to make a decision which affected the rights of all parties to that contract, there is a clear conflict of interest. The courts have therefore sought to ensure that such a contractual power is not abused by implying a term into the contract as to the manner in which the power may be exercised.

In the current case, the court held that the Senior Partner had to exercise good faith when making his recommendations. He could not take into account irrelevant matters or ignore relevant ones and his proposal should not be outside the range of reasonable proposals that might be made in the circumstances. But the Senior Partner had a broad discretion, particularly as he was simply making a proposal which would be discussed between the partners, rather than making a decision which would take effect without more. His proposals did not need to include all possible analyses but they needed to be full enough to allow a debate to take place between the partners. They could address matters other than financial performance (for instance efficient use of resources, the behaviours the partners wanted to reward, etc) provided "substantial" attention was paid to financial performance. And financial performance itself was not limited to partner billings but included matters such as collection on bills which may affect how the firm performed financially.

When the partners subsequently voted to allocate the discretionary fund, they had to do so acting in good faith in the interests of the LLP. Again, they should not take account of irrelevant matters or ignore relevant ones, and their decision should not be outside the range of reasonable decisions that might be made in the circumstances of allocating the discretionary fund.

Applying those principles to the decisions made in this case, the court found that the Senior Partner's proposals for the allocation of the discretionary fund in each year was within the range of proposals that it was reasonable for him to make. His proposals also had substantial regard to financial performance. So they were a valid exercise of the discretion given to the Senior Partner.

Similarly, the court found that the allocation of the fund by agreement of the partners was also a valid exercise of their powers.

As a result, Mr Tribe's claims for damages and declarations failed.

Comment

This case is a reminder that where a party is given a contractual discretion, there are limits place on the manner in which that discretion may be exercised. This cannot be done in a manner which is arbitrary or capricious. Instead, the discretion must be exercised in good faith, consistently with its contractual purpose. Only very clear express wording would allow a party to exercise a contractual discretion without taking these principles into account. 

Would you like more information? 

For more information regarding these developments, please contact our expert listed below or visit our Corporate page for more information on the services that we offer. 

Gateley Plc is authorised and regulated by the SRA (Solicitors' Regulation Authority). Please visit the SRA website for details of the professional conduct rules which Gateley Legal must comply with.

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