The Virgin Active restructuring plan judgment was released last week, with a resounding win for Virgin Active over the opposing landlords.
In this article, we will explore:
- what restructuring plans are;
- what was decided in the Virgin Active case; and
- the potential outcomes for Landlords faced with these new restructuring plans.
What is a Restructuring Plan?
Section 7 of and Schedule 9 to the Corporate Insolvency and Governance Act 2020 (CIGA 2020) introduced a new Part 26A into the Companies Act 2006 entitled "Arrangements and reconstructions for companies in financial difficulty". Part 26A provides for a company to enter into a "restructuring plan" with the approval of its creditors or members.
While the provisions of the CIGA 2020 are new, they simply extend the scope of an existing process codified in legislation since the 1800's, known as a scheme of arrangement. The old law relating to schemes of arrangement will also apply to restructuring plans.
However, while schemes of arrangement can apply to any compromise or arrangement between a company and its creditors, a Part 26A restructuring plan is only available to eliminate, reduce, prevent or mitigate the adverse effect on a company's ability to carry on business as a going concern as a result of serious "financial difficulties" that the company encounters, or is likely to encounter. There is no statutory guidance that limits the meaning or scope of "financial difficulties" which, on the face of it, can be given a broad interpretation.
What is the process?
In broad terms, the process is as follows:
- Seeking court permission to hold meetings
- Serving explanatory statement on creditors
- Defining class composition
|Holding creditor meetings
- meetings are held for each class of creditor
- company seeks confirmation of the Court to the restructuring plan
- possibility of cross-class cram down
Virgin Active Case
The judgment refers to two key terms, which I will define below:
"Cross class cram down" – this describes the situation where those classes of creditors who did not vote in favour of the scheme are ignored by the Court in the exercise of their discretion. So despite the fact that these classes of creditors voted against the restructuring plan, the Court decided to sanction the scheme and bind all of the creditors.
"In the money" - when considering the alternative to a restructuring plan (e.g. an administration) the Court considers which creditors are likely to be paid and which are not. Those that will receive some payment are said to be "in the money", while those who will not receive payment are "out of the money".
Class composition and voting
The table below summarises the different classes created by the Virgin Active restructuring plan, how they were treated under the scheme and how they voted.
Class of Creditor
How they were treated under the restructuring plan?
How did they vote?
Paid out in full, with some variations to the terms of their loans.
100% in favour
Landlords (divided into five classes (A-E)
Differential treatment for each of the five classes, certain of which were substantively unimpaired, certain of which switched to turnover rents, and certain of which switched to zero rents under the plans.
The plans included "break rights" for all landlords to take back and re-let their properties.
Voting varied between plan companies:
Class A: 99-100%
Class B: 19-45%
Class C: 0-66%
Class D: 0%
Class E: 0-8%
Claims of certain unsecured "general property creditors" compromised in return for payment of 120% of the estimated outcome in the administration alternative.
Not included in the restructuring plan, but were to retain their shareholding both before and after the restructuring plan.
As such, only the secured creditors and the Class A Landlords passed the restructuring plan by the required majorities. Under a traditional scheme of arrangement, the scheme would fail. However, the restructuring plan gives the court the opportunity to "cram down" those classes of creditors who dissented (being Landlord classes B-E and the other creditors).
The Court chose to "cram down" the dissenting creditors and sanction the restructuring plan for the following reasons:
- The Court was satisfied that the two conditions set out in the legislation were satisfied, being:
- Condition A - the Court is satisfied that, if the restructuring plan were sanctioned, none of the members of the dissenting class would be any worse off than they would be in the event of "the relevant alternative". For these purposes, "the relevant alternative" is whatever the court considers would be most likely to occur in relation to the company if the restructuring plan were not sanctioned.
- Condition B - the restructuring plan has been approved by at least one class of creditors or members who would receive payment or have a genuine economic interest in the company in the event of "the relevant alternative".
- The Court accepted the evidence of Virgin Active that:
- the Virgin Active companies had encountered financial difficulties that were affecting their ability to carry on business as a going concern;
- the proposed restructuring plan would eliminate, reduce, prevent or mitigate the effect of those financial difficulties;
- if the restructuring plan were not sanctioned, the most likely alternative was that Virgin Active would go into administration followed by an accelerated sale of the business of the Virgin Active companies;
- if the restructuring plan was sanctioned, no member of a dissenting class would be any worse off than they would under the administration scenario; and
- in an administration with an accelerated sale, the creditors who voted against the scheme would be "out of the money" and would receive nothing. As such, their votes could be discounted by the Court in determining whether to sanction the scheme and cram them down.
Is there anything Landlords can do about these restructuring plans?
Many Landlords will see this as a part of the incessant stream of legislative changes and Court decisions which have seen landlords rights being further watered down.
However, a careful analysis of this case shows that: (i) there were arguments that could have been run by the opposing landlords which were not run; (ii) the opposing landlords were not quick enough off the mark and this severely impaired their ability to oppose the scheme; (iii) they did not produce any evidence of their own in relation to key aspects of the case; and (iv) there is a clear indication of arguments that may be taken on future restructuring schemes.
Arguments that were not run by the opposing landlords
One of the most common ways of challenging a scheme of arrangement (and thus also a restructuring scheme) is to challenge the composition of the classes. In the Virgin Active case, no such challenge was brought. The judge, however, gave a clear indication that these types of arguments may be successful in future cases:
"Nor did the [opposing landlords] seek to challenge the differing treatment accorded to each of the classes of Class B-E Landlords and the General Property Creditors.…….There may, in principle, be reasons for the Court to decline to exercise its discretion to sanction a plan that discriminated arbitrarily or capriciously between different classes of unsecured creditors who were all equally "out of the money", but I do not need to explore the boundaries of any such principle on the facts of this case."
Clearly, landlords looking to oppose future restructuring plans would be well advised to spend time carefully considering with their legal team whether there were grounds to challenge class composition.
Delay in requesting information and not producing their own evidence
The key to this case was the acceptance by the Court of the evidence of Virgin Active that: (i) the alternative to the restructuring scheme was an administration followed by an accelerated sale of the assets; and (ii) that the accelerated sale would result in the landlords being "out of the money".
The opposing landlords sought to challenge the evidence of the company in this regard by criticising the evidence of Virgin Active instead of producing their own valuation evidence. The judge was not receptive to this line of argument for the following reasons:
- the opposing landlords had the opportunity to request the information they needed to analyse the proposals in detail, but failed to act swiftly in obtaining that information;
- the opposing landlords did not adduce their own evidence to challenge the evidence produced by Virgin Active; and
- the opposing landlords scored an "own goal" by bringing an expert from PwC to challenge the valuation methodology of Virgin Active, only for it to be shown that PwC themselves had adopted the same valuation methodology in a similar recent case.
This was the main reason the opposing landlords failed. Had they managed to move quickly and obtain the information necessary to produce their own evidence, the result may have been very different. What is clear is that the Court will not usually allow extensive criticism of the company's evidence without credible evidence having been produced by the Landlord.
The key message here is that if landlords want to keep open their option to challenge a restructuring plan, they must move very quickly and instruct legal and valuation teams as soon as reasonably possible.
While not relevant in this case, the Court gave a clear indication that decisions in future cases may well be different if: (i) the scheme requires recognition in foreign jurisdictions; or (ii) the evidence indicates that the opposing landlords may be "in the money".
If the restructuring plans are unlikely to be recognised overseas, then the Court may well exercise their discretion not to sanction the scheme. This will require expert evidence from foreign law firms.
One of the criticisms brought by the opposing landlords in this case was that the shareholders would remain in charge of the company and would enjoy the benefit of any revival in fortunes of Virgin Active. The Court in this case was happy with this result because the opposing landlords were "out of the money", however, they noted the position may well be very different if some of those landlords would in fact be "in the money".
The judgment in the Virgin Active case will clearly have a strong bearing on future insolvency cases. If you would like to discuss any of the issues raised here further, please contact partner Clive Chalkley in our Real Estate Litigation team. You can also visit our web page for more resources and insights.
Gowling WLG has a large Property Litigation team of four partners and 25 lawyers. Between us we have taken more than 50 schemes of arrangement to Court and have market leading experience in this area.