May 2023
On 21 April 2023, the English High Court handed down its written reasons for sanctioning the Adler Group restructuring plan proposed under the new Part 26A regime of the UK’s Companies Act 2006, which raised questions regarding the jurisdiction of the Court, cross-class cram downs, pari passu issues and competing valuations.
Following the introduction of a new restructuring regime in the Cayman Islands (you can find our commentary on these developments here, here and here), we delve into the ramifications of the recent Adler Group decision and its potential impact on further revisions to the Cayman Islands’ Companies Act.
Background
The Adler Group, a prominent German property group owning a rental property portfolio valued at c.€8 billion, faced a myriad of liquidity challenges following the impact of ratings downgrades, regulatory/bondholder scrutiny and short-selling pressure. The Adler Group had six series of unsecured notes maturing in 2024, 2025, 2026, 2027, 2028 and 2029 (the “Notes”). One of the Adler Group’s subsidiaries had Notes with a maturity date of 27 April 2023, which it was not going to be able to meet and was likely to trigger default of the Notes under their various covenants.
Following an unsuccessful attempt to implement a restructure contractually with the Noteholders, the Adler Group incorporated a new company under English law and substituted that new company as the issuer of the Notes in order to launch a restructuring plan under Part 26A of the Companies Act 2006. The restructuring plan, among other things, proposed to:
- introduce €937 million of new senior secured debt to repay the Notes maturing on 27 April 2023 and the 2024 Notes, in exchange for a super-senior first-ranking lien and a 22.5% equity interest post restructure;
- extend the maturity date of the 2024 Notes until 31 July 2025 in exchange for priority over other Noteholders in terms of repayment (maturity of all other Notes to remain the same); and
- amend the remaining Notes to allow refinancing and receive a PIK interest and a subordinated security interest,
(together, the “Plan”).
The Plan was not aimed at continuing the Adler Group as a going concern, but was designed to keep the Adler Group solvent for a sufficient period of time to allow for a solvent winding-down and sale of its real estate assets by the end of 2026 as opposed to a compulsory liquidation (which was agreed by the parties to be the relevant alternative to the Plan).
An ad hoc group of 2029 Noteholders (the “AHG”) opposed the Plan and emphatically challenged the Plan in the English High Court at both the convening hearing and the sanction hearing, which involved conflicting expert valuation evidence and cross-examination.
The AHG’s Opposition to the Plan
The AHG argued that not only was there no nexus to the UK for the Court to have jurisdiction to sanction the Plan other than the recently established subsidiary which was substituted as the issuer of the Notes, but also that the Plan is in direct conflict with the pari passu principle as, if sanctioned, the Plan would create differential treatment between Noteholders and was unfairly prejudicial to 2029 Noteholders in particular as the holders of the Notes with the latest maturity date, ranking last in repayment due to subordination.
The AHG argued that the position of 2029 Noteholders was further unfairly impacted by the fact that now €937 million of new debt would need to be repaid before any money would be distributed to Noteholders, as opposed to a liquidation (without the Plan) where all Notes would rank pari passu in repayment.
The English Court’s Decision
The Court ultimately rejected the AHG’s objections and sanctioned the Plan, acknowledging the complexion of the evidence submitted by each party and the time sensitivity of the restructure due to the 27 April 2023 maturity of some of the Notes.
In reaching its decision, the Court made a number of findings (some of which were the first of its kind for a Part 26A proceeding).
- It had jurisdiction to sanction the Plan: notwithstanding the lack of nexus to English law, the Court found that the substitution of the newly incorporated English company as the issuer of the Notes was sufficient for the Court to consider the sanction of the Plan under Part 26A of the Companies Act 2006. The AHG has brought a claim in a German Court to challenge the validity of this point.
- The valuation evidence provided by the Adler Group regarding the sale value of the Adler Group was more persuasive than the evidence provided by the AHG: this was the first time a dissenting party to a Part 26A proceeding actually submitted competing evidence with regards to the valuation of the relevant company in the event of liquidation (including likely discounts). The Court acknowledged the uncertainty of the valuations provided by both parties, but ultimately preferred the Adler Group’s valuation and noted that upon implementation of the Plan, the most likely outcome (but not necessarily the definite outcome) would be that Noteholders are paid in full.
- No departure from the pari passu principle: the Court noted that even if the Plan failed and the Notes had to be accelerated the Noteholders would then be paid in accordance with the pari passu It also noted that if the Plan succeeded, then all Noteholders would most likely be paid in full, as opposed to the alternative (liquidation) where Noteholders would receive a fraction of their debt.
- 2029 Noteholders assumed the risks involved with Notes maturing in 2029, which was a commercial decision: it was noted that the terms of the 2029 Notes reflects the commercial risks the AHG (along with the other 2029 Noteholders, the majority of which supported the Plan) assumed and it could not argue that the maturity date of the 2029 Notes should be amended.
- Discretion exercised by the Court to enforce a cross-class cram down notwithstanding both conditions weren’t met: the Court noted that each class of Noteholder approved the Plan with the requisite majority (75%) except for the 2029 Noteholders (62%). However, it took into account the fact that the majority of 2029 Noteholders did approve of the Plan and that the Noteholders would not be any worse off by the Plan, as the most likely scenario is that they would be paid in full.
Cross-Class Cram Downs and Dissenting Rights: Balancing Stakeholder Interests
Within the restructuring arena, the concept of cross-class cram downs (common in US Chapter 11 proceedings and now part of the UK restructuring regime) emerges as a crucial tool for striking a balance between conflicting stakeholder interests. Cross-class cram downs empower courts to approve a restructuring plan, even in the face of objections from dissenting creditors. In the Adler Group case, the Court leveraged this mechanism to sanction the Plan notwithstanding the AHG’s dissent, the AHG’s conflicting valuation expert evidence and the fact that both conditions under section 901G of the Companies Act 2006 were not strictly satisfied.
In order to sanction the Plan, while there were dissenting creditors, the Court had to consider whether the following conditions were met:
- The dissenting class (the AHG) would not be any worse off than they would be in a liquidation (as the accepted “relevant alternative” by all parties if the Plan wasn’t sanctioned) – the No Worse Off Test; and
- At least 75% (in value) of each class of creditors agreed to the Plan – the Genuine Economic Interest Test.
Despite falling short of the 75% approval requirement under section 901G of the Companies Act 2006 with regards to the 2029 Noteholders, the Court exercised its discretion by taking into account that the No Worse Off Test was satisfied and that 62% of 2029 Noteholders did approve the Plan.
Relevance to the Cayman Islands’ Restructuring and Insolvency Landscape
Against the backdrop of recent developments and revisions to the Cayman Islands Companies Act to introduce the “Restructuring Officer” regime, the Adler Group decision is important and may provide hints towards what is likely to be the next area for revision. Under the Cayman Islands Companies Act, there are no prescribed dissenting or appraisal rights in this context. While the Courts and/or legislature are unlikely to be persuaded to introduce a new dissenting rights regime similar to the US, the flexibility of the Part 26A tool, as showcased in the Adler Group decision, may be the pragmatic middle ground.