On 22 July, the English court sanctioned the restructuring plan of Houst Limited, a holiday lettings and private house rental company. The decision represents the first use of a restructuring plan to compromise the liabilities of a distressed SME business and to cram down HMRC.
Houst's liabilities included £2.7m owing to Clydesdale Bank, £1.7m owing to HMRC and over £2m owing to other trade and unsecured creditors.
Clydesdale Bank had a fixed and floating charge over Houst's assets. Based on an (unchallenged) report prepared by Begbies Traynor, only Clydesdale and HMRC would be in-the-money under the "relevant alternative", namely an accelerated marketing process leading to a pre-pack sale. In this scenario, Clydesdale was forecast to receive a dividend on its debt of c.7p/£ from the sale of the assets subject to its fixed charge and HMRC, whose preferential debt had priority in respect of the remaining assets subject to the Bank's floating charge, was forecast to receive a dividend of c.15p/£ on the realisation of all other assets.
Among other things, the restructuring plan involved: (i) a capital injection by shareholders in return for new preference shares which would dilute existing shares to c.5% of overall equity; (ii) a reduction and reprofiling of Clydesdale and HMRC's debt; (iii) an upfront dividend payable to Clydesdale of 27p/£; and (iv) a 20p/£ dividend to HMRC and a 5p/£ dividend to unsecured creditors, funded by monthly contributions by the company into a secondary preferential creditor payment fund and an unsecured creditor payment fund respectively. Liabilities to customers, critical suppliers and employees were excluded from the restructuring plan on the basis they would need to be paid in full to avoid a significant negative impact on the company's ability to trade.
Six classes of creditors and members voted on the plan and HMRC (in a class of its own) was the only class to vote against it. In HMRC's only communication to the court it said that, although it understood its dividend would "likely be less in liquidation", it was unwilling to support the plan and compromise its secondary preferential creditor position (which the plan could be seen to do by allowing potential recoveries by non-preferential unsecured creditors).
Judgement – key takeaways
- RPs accessible to SMEs? Houst's use of the restructuring plan demonstrates that the tool can be viably used by the SME market, but it remains to be seen if this leads to greater utilisation in the future.
- Consideration of a fair distribution. In exercising its discretion to sanction the plan, the court considered whether the allocation of the restructuring surplus was fair and, in that context, whether the order of priority between creditors in the relevant alternative was reflected in the plan. Although the court determined that:
- the justifications for Clydesdale's enhanced 27p/£ dividend (the least the bank was prepared to accept to support the restructuring) and the unsecured creditors 5p/£ dividend (Houst's ability to continue trading or its access to possible future funding was reliant on the unsecured creditors) were "a weak basis for depriving HMRC of the priority they would have in the relevant alternative"; and
- the restructuring plan involved a clear departure from the order of priority in the relevant alternative (because, when considered against the relevant alternative, HMRC's allocation under the plan (c.20p/£) was proportionately lower than that of Clydesdale (c.27p/£)),
it concluded that a departure from that order of priority was not "fatal to the success of the plan".
- Satisfying the "no worse off" condition. The court was able to reach that conclusion because it determined based on the evidence that HMRC would be no worse off under the restructuring plan – a point which HMRC, a "sophisticated creditor", appeared to accept.
- Lack of active opposition. The absence of any active opposition from HMRC, in terms of producing evidence to the court or attending the hearings, was also a relevant factor for the court, reiterating comments recently made by the court about the necessity for objecting creditors to make their voice heard (on which see our recent blog).
- The source of the benefit. It was also relevant to the court that the value generated by the plan came principally from a capital injection from Houst's shareholders rather than from assets already held by the company. As such, the funds being made available to support the restructuring plan emanated from sources which were not assets of the company and so this was not a case where assets that would have been available in the administration were being applied in a manner inconsistent with the order of priority applicable in that administration. For future restructuring plans that deviate from the usual priority of payments, consideration will need to be given to "the source of the benefits to be received under the restructuring".
- HMRC. This case represents the first time that liabilities owing to HMRC have been crammed down by a restructuring plan. This case also suggests that HMRC will, as a matter of policy, oppose a restructuring plan that does not reflect the priority of its recently re-established preferential status, even if in doing so it is likely to have a worse economic outcome.
- Could a different plan have been imposed with HMRC's support? While the court suggested that HMRC could have supported a plan where the cross-class cram down power was used against the bank (rather than against HMRC), we query how likely that would be in practice. It will be interesting to see whether HMRC is prepared to play such an active role in the future given its apparent reluctance to engage fully in this case.