McDermott Plan Sanctioned: Lessons for Opposing Creditors

In the first restructuring plan since the Court of Appeal's landmark decision in Adler, the High Court has handed down an extraordinary judgment sanctioning McDermott's heavily contested Part 26A restructuring plan and berating the conduct of its opposing creditor.  Despite this, the opposing creditor ended up with the financial compromise they asked for – not through the plan but, in part at least, because of events occurring in the parallel Dutch WHOA proceedings.  This should give UK lawyers some pause for thought.

The outcome of the McDermott plan was eagerly awaited by the UK restructuring market.  Not only was it aggressively contested – resulting in the original expedited timetable, which provided for a four-day sanction hearing in November 2023, being extended to allow for a six-day sanction hearing in February 2024 – but also the Court of Appeal had recently provided copious guidance in Adler on the use of the court's discretionary cross-class cram down power (for further information, see our briefing here).  This led to standing room only on the observer benches at the hearing and an eagerly awaited judgment.

The judge did not keep the market waiting long – the decision was handed down with commendable speed.  However, it is quite extraordinary and unlike any other sanction judgment.  The judge's obvious frustration with Reficar's inability to accept the offer comes through in the judgment, and it heavily influenced how he approached his decision.

Significantly, the plan represents a number of "firsts" in Part 26A jurisprudence.  It is:

1. the first restructuring plan with a six-day long sanction hearing. Prior to McDermott, the longest plan sanction hearing (at four days) was Aggregate, for which the judgment is still awaited – this gives an indication of how heavily contested the plan was;
2. the first plan to compromise a claim arising out of an ICC arbitration award (of approximately US$1.3 billion), which was incidentally the result of a seven-year long arbitration between the plan company and Reficar, the opposing creditor;
3. the first plan to extend the maturity dates of letter of credit facilities. These were crucial for the group's business because its customers typically require security for the performance of the group's obligations, which is provided in the form of a bank-issued letter of credit;
4. the first sanction hearing to take place whilst settlement negations between the plan company and Reficar were "played out in real time before the court." In fact, it was only after Mr Justice Michael Green had sent a draft copy of his sanction judgment to the parties that Reficar accepted the settlement offer that the plan company had made during the course of the sanction hearing (which seemed to be the cause of a lot of the judge's ire);
5. the first plan in which the judge, having commenced the hearing with "a lot of sympathy" for Reficar and its position, ended up heavily criticising them for their conduct in the settlement negotiations and their failure to accept the plan company's offer in a timely manner (the offer was equity amounting to 19.9% of the ordinary share capital of the ultimate parent company of the group, which was essentially what Reficar had requested throughout the negotiations).

Also significant was the fact that it was reportedly one of the most costly restructuring plans to date: Mr Justice Michael Green stated that he was "horrified" to find out that the plan company had spent around US$150 million on professional fees in negotiating with its secured creditors and putting forward the plan.  Notwithstanding that the group comprises 300 entities across the globe; negotiations took place across three jurisdictions; and the plan was being run in parallel with two inter-conditional Dutch WHOAs, the judge recognised that this was a huge sum of money for a restructuring arrangement and costs of this magnitude could have the effect of discouraging the type of restructurings that Part 26A was intended to facilitate.

The plan was also noteworthy for the number of expert witnesses – between the plan company and the opposing creditor there were eleven in total, no doubt contributing to the professional fees bill to which the judge took such exception.

Background to the Plan

McDermott is an engineering and construction group that operates in over 54 countries across the world.  Having suffered financial distress for a number of years, the group filed for Chapter 11 proceedings in January 2020, which resulted in a restructuring of its financial indebtedness (pursuant to which the group entered into new secured credit agreements) and a transfer of the equity in the group to its financial creditors.

Prior to the Chapter 11 proceedings, Reficar had commenced arbitration proceedings against various group companies (including the plan company) for breach of contract. Reficar's claims in the arbitration were expressly preserved in the Chapter 11 process, and in June 2023 (after a seven-year long arbitration) the ICC Tribunal found in Reficar's favour.  Shortly afterwards, to Reficar's surprise, the group launched the restructuring plan.

In brief, the plan proposed to:

• extend the maturity dates of the group's various secured credit agreements; and
• release the unsecured claims owed to Reficar and another unsecured creditor pursuant to the ICC arbitration award. The consideration payable to the unsecured creditors for the release of their claims was the greater of:
  
  
  • the amount that the unsecured creditors would receive in a liquidation (which the plan company submitted was the relevant alternative to the plan); and
  • their pro rata share of a participation in a contingent EBITDA, which would be payable in four years' time (the amounts potentially payable under the relevant EBITDA calculation amounted to either 0.2% or 0.04% of Reficar's total arbitration claim).

  At the plan meetings, seven classes of creditors voted (comprising five classes of secured creditors and two classes of unsecured creditors). All classes of secured creditors approved the plan, whilst both classes of unsecured creditors voted against the plan.

  Reficar's Opposition

  Reficar opposed the plan on various grounds, some of which were not ultimately argued during the sanction hearing and, as a result, the judge noted that it wasn't necessary to "indulge" Reficar by dealing with every single point it originally raised in opposition.  The main disputed points were:

  • Whether the plan was a "compromise or arrangement" for the purposes of Part 26A: Reficar vigorously opposed the plan on the basis that a release of its US$1.3 billion arbitration award in return for sums amounting to either 0.2% or 0.04% of its claim was simply an extinguishment of its debt. In this regard, whilst the judge acknowledged Snowden LJ's obiter commentary in Adler (that Part 26A requires some form of "give and take"), he concluded that although the minimum sum potentially payable to Reficar was very small in comparison to its total debt, there is an "apparently low jurisdictional threshold" for a compromise or arrangement under Part 26A and therefore the amounts proposed under the plan were sufficient to constitute a "compromise or arrangement".
  • What the relevant alternative was (i.e. what the court considers would be most likely to occur if the plan is not sanctioned): The plan company submitted that the group would enter into a formal insolvency if the plan was not sanctioned. In contrast, Reficar's evidence and skeleton argument originally submitted that on the failure of the plan, there would be negotiations between the group and its key stakeholders towards a deal which would facilitate a fairer distribution of value to the unsecured creditors. However, Reficar's closing submissions made no reference to its originally proposed relevant alternative. Instead, it proposed two other relevant alternatives that it argued had arisen out of the factual evidence provided by (i) the ad-hoc group of secured creditors; and (ii) Crédit Agricole (both of which were adduced by the plan company, not Reficar). Considering all of the suggested relevant alternatives, the judge concluded (i) that in relation to each of Reficar's additional relevant alternatives, Reficar was so far out of the money that neither scenario would materially affect the outcome for unsecured creditors; and (ii) that in relation to its original relevant alternative (negotiations with stakeholders for a fairer distribution of value), Reficar's conduct of the negotiations and failure to agree a deal indicated that this was not likely to occur if the plan were to fail.
  • Whether the plan was unfair due to the allocation of the benefits of the restructuring: Reficar argued that the plan was unfair due to the fact that the shareholders' rights remained unaffected by the plan, meaning that the equity would receive all the upside of the plan company avoiding an insolvency and returning to a viable going concern, whereas Reficar's debt (which would rank above the equity in a formal insolvency) will have been released for very little consideration. It was on this ground that the judge admitted he had the most sympathy with Reficar. However, due to the way in which the sanction hearing unfolded; Reficar's unwillingness to accept the "generous" settlement offer; and the fact that (by virtue of the settlement offer made by the plan company during the course of the sanction hearing) Reficar would ultimately obtain a fair distribution of between 10.9% and 19.9% of the parent company's equity depending on whether or not it accepted the offer and voted in favour of one of the WHOA plans, the judge concluded that it had been treated fairly by the plan company and the secured creditors.

  What can we learn from the judgment?

  It's clear that this is not a typical restructuring plan sanction judgment: the judge's comments provide more insight into opposition strategy and practice than the legal principles underpinning Part 26A, owing largely to the conduct of the opposing creditor. 

  The decision gives us some clarity on what is the jurisdictional threshold for a plan to be a "compromise or arrangement" and the answer appears to be very low – in this case 0.04% of Reficar's claim counted as a compromise. Setting the bar this low would appear to call into question whether the requirement really serves any purpose at all.  It is therefore possible that we may see more on this point in future cases.

  The big missed opportunity in this decision is the lack of any detailed reasoning on fairness, and in particular the circumstances in which it is appropriate for the court to sanction a restructuring plan in which the equity retain their rights while a more senior class (here an unsecured creditor) is crammed down to almost nothing. This issue is especially acute where there are common members of both the in-the-money senior creditor class on which the court relies in order to exercise the cram-down power, and the equity, whose rights are not being compromised (as there were in this case). Whilst a number of restructuring plan cases suggest that it is for the in-the-money creditors to decide how the benefits of the restructuring should be allocated, it is suggested that this should not always be the case when those in-the-money senior creditors decide to confer that benefit on themselves in their capacity as lower-ranking equity, when the out-of-the money junior class is all but wiped out. Of course, if the equity inject new money as a quid pro quo, then that is an additional factor to take into account, but that was not the case here.

  Whilst the facts of this case would ordinarily have required proper consideration of this point, the conduct of the opposing creditor meant that the judge did not really need to engage with the arguments.  There was some acknowledgement from Mr Justice Michael Green that "there should be some scope for making a horizontal comparison between out-of-the-money creditors and shareholders in testing the fairness, as between them, of the proposed distribution of the restructuring surplus," but in the light of how the sanction hearing unfolded, it was unnecessary for the court to delve into this more deeply.

  This issue is ripe for proper consideration, which may occur in the Aggregate sanction judgment, expected to be handed down imminently.

  Inga West, Counsel in the Restructuring and Special Situations team, says:

  "The McDermott judgment is quite extraordinary as sanction judgments go.  The biggest takeaway seems to be that the judge was really cross with the way the opposing creditor handled the parallel settlement negotiations.  From a restructuring plan point of view, however, it is disappointing that we did not get a proper reasoned judgment on the fairness points – but there are lots of plans in the pipeline so hopefully we will not have to wait long."

  
  Author: Charlotte Evans (Expertise Lawyer)