In a dramatic reversal of restructuring plan fortunes, HMRC recently successfully challenged two independent mid-market Part 26A Companies Act 2006 restructuring plans: the Nasmyth Group Limited Restructuring Plan (the Nasmyth RP) and the Great Annual Savings Company Ltd Restructuring Plan (the GAS RP). To date, only one other restructuring plan has been refused sanction.
After a slow start, the mid-market had begun to embrace the Part 26A restructuring plan as an alternative restructuring option to the tried and tested CVA or pre-pack administration. Back in July last year, Houst Ltd was the first mid-market company to launch a restructuring plan outside of an administration process. Houst successfully crammed down a dissenting HMRC. For mid-market companies, HMRC is often a significant creditor, and following its experience in Houst, it was keen to resist being crammed down again.
In December 2020, HMRC was reinstated as a preferential creditor in the insolvency waterfall for certain taxes (including VAT, PAYE income tax and employee NI contributions). In a restructuring plan context, HMRC's renewed preferential status means that it will rarely be an 'out-of-the-money' creditor, and this gives it more clout to challenge a restructuring plan.
These cases provide important insight into how the Court views HMRC as a preferential creditor and the potential avenues for HMRC to challenge restructuring plans.
All eyes will be on the progress of the proposed restructuring plans of Prezzo and Fitness First, which each seek to compromise HMRC in different ways. Interestingly, and by contrast to the Nasmyth and GAS RPs, Fitness First's proposed restructuring plan does not seek to write off HMRC's debt but instead intends to defer payment of these debts through a "time to pay" (TTP) arrrangement with HMRC.
Nasmyth RP: Nasmyth Group Limited (Nasmyth) was a holding company for a group that provided specialist precision engineering services to the aerospace, defence and related industries. Nasmyth launched the Nasmyth RP to make available existing and new committed facilities and to compromise certain debts, including the debts of HMRC as preferential creditor. The restructuring plan was conditional on HMRC agreeing TTP arrangements with the wider group. HMRC had not indicated that they would support the group's TTP proposals and this ultimately led to Mr Justice Leech refusing to sanction the plan on 28 April 2023. It was held that Nasmyth's failure to agree new TTP arrangements was a "roadblock" which prevented the plan from taking effect in the manner in which the company and creditors intended. Nasmyth's response to the failed plan was to file for administration.
GAS RP: Great Annual Savings Company Ltd's (GAS) main business was broking energy supply contracts between energy suppliers and business users. GAS launched the GAS RP to compromise certain debts, including the debts of HMRC as preferential creditor. No new money was to be provided under the restructuring plan. Mr Justice Adam Jones refused to sanction the plan on 16 May 2023 because GAS had not proven that HMRC would be better off under the plan than it would be in the insolvent administration alternative (this is one of the hurdles to achieving cross-class cram down). The Court also indicated that, even had this test been satisfied, the Court would have still refused to sanction the plan on the basis that the allocation of the restructuring surplus (i.e. the potential value created by the restructuring) was unfair. GAS's response to the court's refusal to sanction the plan was to file for administration.
What are the key points for future restructuring plans?
Our key takeaways from both sanction judgments are as follows:
- HMRC is prepared to actively challenge the impairment of its preferential debts: Unlike in Houst, these two restructuring plans show that HMRC is now prepared to actively challenge restructuring plans. As noted by Snowden LJ in Smile (No.2), and reiterated by Zacaroli J in Houst, simply "shouting from the spectators' seats" is not an effective method of challenge.
- If the proposed restructuring plan is conditional on agreement with a third party, such as HMRC, the Court will require a level of certainty that this agreement will be forthcoming: The success of the Nasmyth RP depended on HMRC entering into TTP arrangements with Nasmyth and its wider group. HMRC had given no clear commitment that they would enter into these TTP arrangements and had rejected the most recent TTP proposal. As such, the Court held that there was a "roadblock" preventing the restructuring plan from taking effect and this proved fatal to the successful sanction of the restructuring plan. Contrast this with Smile (No 1) in which the sanction hearing was adjourned to enable a necessary third party waiver to be obtained before the court was prepared to sanction the plan.
- The Court will take a broad approach to the no worse off test: The Court confirmed that it will take into account all of the legal consequences which the restructuring plan will have on a group of creditors in deciding whether they are worse off under the plan than in the relevant alternative ("relevant alternative" being whatever the court considers most likely to occur to the company if the restructuring plan is not sanctioned), including group-wide consequences. The Court held that HMRC had a genuine economic interest in the relevant alternative. One of the reasons for this is because, even if Nasmyth went into administration, the wider group would still owe HRMC a significant debt.
- The Court will not refuse to sanction a restructuring plan as a matter of principle just because HMRC would be crammed down if the restructuring plan is sanctioned: The Court confirmed this, and used Houst as an example of HMRC being crammed down.
- The Court will, however, exercise caution in relation to HMRC debts: The Court confirmed that HMRC is not a typical creditor. Mr Justice Leech in the Nasmyth RP held that:
|"[…] it is important that the Court should scrutinise the Plan with care and should not cram down the HRMC unless there are good reasons to do so. I also have well in mind Ms Cooke's submission that the Court should not be seen to approve the non-payment of tax and that if the Court sanctions the Plan in the present case, it will give a green light to companies to use Part 26A to cram down their unpaid tax bills. She also submitted that where a company has been trading at the expense of HMRC, Part 26A could easily be used as an instrument of abuse. I accept that these are both factors which the Court can and should take into account."|
Mr Justice Adam Jones made a similar point in the GAS RP:
|"Given its status as a major in the money creditor, and the strong terms in which it has voiced its objection, not only in light of the facts of this particular case but also given its critical public function as the collector of taxes, I think HMRC’s views deserve considerable weight."|
- If critical suppliers are to be excluded from the effects of a restructuring plan, the company must be able to be justify this on a granular level: Certain critical suppliers were excluded from the Nasmyth RP. This list of excluded critical suppliers was challenged by HMRC. After a request for further detail as to the description of the critical suppliers, the list was reduced dramatically. It will be important for companies that propose restructuring plans, and where critical suppliers are carved out, that they can justify why each supplier is essential for the continuation of the plan company's business or to the implementation of the plan or the recapitalisation of the plan company. The Court will generally accept these reasons unless it is plain and obvious that the creditors are not essential to the future operation of the plan company or if the company's reasons do not make sense or there is evidence to the contrary.
- Where there is only a marginal difference between the estimated outcomes under the restructuring plan and the relevant alternative, the risk of successful challenge by creditors is higher: In the GAS RP, according to GAS's valuation evidence, the return to HMRC under the restructuring plan was only very marginally better than in the relevant alternative. This made it easier for HMRC to challenge the underlying assumptions without providing their own competing valuation evidence.
- There is no absolute requirement for challenging creditors to produce their own competing valuation evidence: HMRC did not produce their own expert valuation evidence to challenge the GAS RP. Instead they sought to scrutinise and undermine certain aspects of the company's own expert valuation evidence. Whether the Court will expect competing expert evidence will be decided on a case- by- case basis; the Court did state that competing evidence may be necessary in some cases. Nevertheless, the success of this approach in the GAS RP is helpful for challenging creditors that lack access to the relevant information to successfully produce competing valuation evidence. It may also assist to reduce the costs of challenge.
- The distribution of the "restructuring surplus" (i.e. the potential value created by the restructuring) may be scrutinised by the Court for fairness: In a situation where a restructuring plan is aiming to create a solid platform for a Company to return to profitability, the sacrifices made by creditors to create the platform (such as the writing off of debt) should be justified. If an "in the money" creditor, such as HMRC, is having to write off debt but certain "out of the money" creditors are not (thereby having the prospect of full repayment), this could cause fairness issues. It would not be enough to justify the difference in treatment by arguing that the "out of the money" creditors would assist with future profit generation. The Court will also place weight on the advancing of new money by creditors, in particular out of the money creditors.
- If "out of the money" creditors are to projected to fare much better as a consequence of the implementation of the restructuring plan than they would in the relevant alternative compared to "in the money" creditors, this needs to be justified: As an example, in the GAS RP, an "out of the money" class of creditors (i.e. creditors that were not likely to get any returns in the relevant alternative) was projected to recover 10p/£ under the restructuring plan. By contract, HMRC, an "in the money creditor" (i.e. a creditor that would recover amounts in the relevant alternative) would recover only 9.2p/£ under the restructuring plan. Mr Justice Adam Johnson stated that this difference in treatment has hard to justify and, ultimately, led to fairness issues.
Ru-Woei Foong, partner in the Restructuring and Special Situations team, says:
| "These plans were both quite small in comparison to their predecessors, but the judgments nevertheless provide rich pickings for restructuring lawyers generally. The restructuring plan is still in its infancy – not quite three years old – and it clearly still has a lot of judicial growing to do. But cases like this help us to understand where the boundaries lie in terms of what a plan can do, and what it can't."|