Recently, we have observed further evidentiary developments and enhanced terms included in the Restructuring Plans (RPs) proposed by Poundland and River Island as a direct result of the Petrofac and Thames Water judgements. In addition, included in the written judgement with respect to River Island's RP, the judge referred to some helpful principles when considering whether to exercise the Court's discretion with regard to cross-class cramdown. Observations made based on these developments can help us understand what the Courts will be looking for in future restructuring cases, and whether the RP will remain an attractive restructuring tool.
Upside sharing
Notably, and unlike other recent leasehold RPs, such as Superdry and Cineworld, these cases have used an upside sharing mechanism, intended to directly address the Court's comments (re. Petrofac) regarding having to demonstrate a fair allocation of the benefits of the RP. This highlights the restructuring community's receptiveness to judicial feedback and the growing emphasis on achieving more equitable outcomes where creditors are being crammed down by an RP.
Summary of the upside proposal included in the Poundland and River Island plans:
Poundland:Ratcheted upside for Plan Creditors when the total three-year cumulative EBITDA exceeds certain thresholds (linked to management's business plan forecast), paid after the three-year anniversary of the restructuring effective date.
River Island:Upside for Plan Creditors when annual profit (before interest and tax) exceeds a certain threshold, assessed by reference to audited accounts over a five-year period, and held on trust until the five-year anniversary of the restructuring effective date.
The key considerations when designing an upside sharing mechanism are:
Ensure that the terms of the upside share could not be considered as "illusionary", at risk of being considered as unattainable or unrealistic by creditors (or the Court);
It must be linked to a robust business plan forecast;
The upside threshold should "bite" when the equity is considered to start being "in the money" (and not after the equity is already considered to be significantly valuable) such that it replicates an equity-type return for the participating creditors. This analysis should be supported by expert evidence of the value of the equity immediately post-sanction of the Plan (not just a current valuation absent the benefit of an RP); and
It must be affordable for the Company to meet the liability from its free cash flows (including the timing and frequency of the liability, so as not to place the company under unnecessary cash flow pressure), noting that if the mechanism uses EBITDA thresholds, EBITDA does not necessarily equate to what the free cash flow of the business might be at the relevant time.
Payments to compromised creditors
Separate from the upside share, compromised creditors have continued to be offered a return under the plan, which is better than the "relevant alternative", typically fixed at a rate which is considered to be market standard at the time, based on preceding RPs. Plan creditors in Poundland and IBMG were recently given a 175% return versus what was expected under the relevant alternative in each case, and River Island was offered 200%. These levels are a material increase from the 125%-150% seen included in RPs over the past five years and in CVAs before that.
Allocation of benefits
We are also seeing, for the first time, a new 'Allocation of Benefits' report, as used to support the recent Poundland, River Island, and IBMG plans. This is new independent expert witness evidence, which is now considered necessary to demonstrate to Plan Creditors and the Court how the Plan represents a fair allocation of the benefits of the restructuring. This is achieved by setting out the respective financial contributions or compromises (and where relevant also a description of any qualitative contributions) made by each class of creditor in connection with the Plan and how creditors are provided with a share of those benefits which is proportionate to those contributions.
11 principles for cross-class cramdown
In sanctioning the River Island RP, Justice Norris applied 11 principles, based on decisions in Adler, Thames, and Petrofac, when considering whether or not to exercise the Court's discretion regarding cross-class cramdown.
Justice Norris's judgment provides useful guidance for future RP proponents. We observe a couple of notable principles:
"When assessing the burdens and benefits, the court is concerned with the substance, not the form: The provision of new money on terms more advantageous to the provider than would be required by a lender in the market is in reality a benefit conferred on the provider rather than a contribution to the cost of the plan."
This principle is designed to ensure that credit providers do not take advantage of the Plan Company's predicament, where there are few to no competing offers in the open market to finance a plan. Where it can be demonstrated that new money terms are considered fair and not burdensome on the company, possibly by reference to an expert opinion on the availability and pricing and/or the results of an actual debt-raising process, the Court will consider this a positive contribution and give weight to it when determining whether or not to exercise its discretion.
"The court will have regard to the evolution of the restructuring plan and will seek to assess whether it is a genuine attempt to formulate a fair and reasonable solution to a critical problem or an attempt to impose arbitrary compromise terms upon creditors with a view to extracting advantage in a critical situation."
This principle emphasises the expectation placed on the company to offer terms in the RP which are fair to all classes of creditors and discourages attempts to "clean up the business" in a manner that causes unfair detriment to its creditors. Offering grossly uncommercial and unfair terms will displease the Court and encourage creditors to mount challenges.
The RP, a relatively new tool having only been introduced less than six years ago, continues to evolve at pace. With the additional evidentiary developments outlined above, increased cost, complexity, and high-profile successful challenges of late, could we see a significant shift back towards alternative options, for example, pre-packs? In some circumstances, such options might be appropriate, but for various reasons, it's not always feasible or as attractive as using an RP.
Despite the enhanced evidential burden and focus by the Courts on the fair allocation of their benefits, RPs will continue to provide an effective and holistic solution. With one eye on a potential Supreme Court appeal hearing on Waldorf at some point next year, the restructuring community now has a stronger understanding of what elements are required, including supporting evidence, for an RP to be sanctioned.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
