‘If, at first, you don’t succeed, then try and try again’ is a fitting description for HMRC’s recent approach to restructuring plans, with its opposition of plans proposed by The Great Annual Savings Company (GAS) and Nasmyth Group Limited (Naysmyth).
The GAS sanction hearing (which is due to take place this week) will be the first time that HMRC has taken an active role contesting a restructuring plan at sanction following the case of Houst where the Court exercised its discretionary power to “cram down” HMRC.
Although HMRC voted against the plan in Houst, on the basis that it was not willing to compromise its status as a preferential creditor, and sent correspondence to that effect, it did not appear at the Houst sanction hearing to argue its case.
Unfortunately (for HMRC at least), the court decided to cram down Houst’s plan on HMRC – a tool which is unique to restructuring plans – having decided that all conditions for cram down were met including that HMRC would be “no worse off” in the relevant alternative under the plan. This was so, even though the recoveries that HMRC stood to receive under the plan were a departure from the usual order of insolvency priorities.
Perhaps as a consequence of the approach of the court in Houst, HMRC have decided to “fight back” and are opposing the restructuring plans proposed by GAS and Nasmyths on a number of policy grounds.
Although (we understand) HMRC raise a number of points about the respective plans themselves, the question of primary interest is whether the court will exercise its discretion to cram down HMRC again, given that this time it is taking an active role in the process and is seeking to ensure that its “restored” preferential status is honoured.
Our previous blog on Houst is a helpful reminder of the conditions and points which the Court will consider before deciding whether to exercise its discretion to cram down, and how they were addressed in that case.
No worse off?
As presented in the plans proposed by both GAS and Nasymths, HMRC would appear to be “no worse off” than in the relevant alternative because in both plans the expected returns to HMRC will be more under the plans. On the numbers, Condition A – the “no worse off” test – appears to be met, however HMRC raise other points – such as its ability to refer matters for investigation if the company enters an insolvency process.
Should those type of factors be taken into account when considering whether a creditor is “no worse off” or do they come into play (and what weight do they hold) when the court decides whether to exercise its general discretion to cram down? We would speculate that the court is likely to wish to understand the likelihood of such actions actually being brought in respect of both merits and funding, but it will be interesting to see what the court concludes.
Distribution of the restructuring surplus
Of wider interest, are arguments about distribution of the restructuring surplus and the interplay with HMRC’s status as preferential creditor.
The restructuring surplus is so called because it is the additional value that is available in a restructuring plan that would not be available in the relevant alternative. For example, an injection of third party funds or an equitable stake in the business that would not be available if the company entered into a formal insolvency process such as administration.
Often, the surplus is shared (as it was in Houst and intends to be in GAS and Nasmyths) in a manner which does not reflect the insolvencies priorities, which is why HMRC have taken issue having fought hard to regain their status as preferential creditor in 2020.
In the plans proposed by both GAS and Nasmyths HMRC will be better off in monetary terms, receiving, for example, under Nasmyths’ plan 4.8p in the £ but 0p in the £ in the relevant alternative. However other creditors (that would otherwise sit below HMRC in the order of priorities and only be paid once HMRC have been paid its preferential debts in full) will receive a payment under the plan without HMRC having been paid in full. From HMRC’s perspective, it argues that this is an unequal distribution of the restructuring surplus.
What is an equal distribution of the restructuring surplus?
In our view, its seems unlikely that the court will require all of HMRC preferential debt to be paid in full in all restructuring plans. That would potentially introduce the absolute priority rule by the back door – something that was deliberately omitted from the legislation when the plan was introduced.
We know from cases such as Virgin Active that differential treatment is permitted if it can be commercially justified and that it is within the gift of ‘in the money’ creditors to determine how the surplus is distributed. In Houst one of the factors that persuaded the court to exercise its discretion to cram down, was the fact that the surplus available in the restructuring plan was not something that would be available in the relevant alternative and therefore assets were not being applied in a manner that was inconsistent with the insolvency priorities.
The outcome of both the GAS and Nasymth sanction hearings will therefore (we hope) provide further clarity to plan proponents about what amounts to an equal (and fair) distribution of the restructuring surplus.
What else might we expect to take away following the outcome of the sanction hearings?
If the court determines that a plan is unfair because of how the restructuring surplus is dealt with (i.e because it doesn’t recognise HMRC’s preferential status) and does not exercise its discretion to cram down, then this will inevitably shape the terms of future plans.
For one thing, if a company is carrying significant HMRC debt, it could make a plan less flexible and less likely to succeed if the company has to make a greater share of the restructuring surplus available to HMRC and certainly less useful to the SME market.
On the plus side, it does give greater certainty to plan companies about what they can/can’t do with their plan if they need HMRC support.
Even if HMRC are crammed down, that may not be the final word on the matter. As GAS and Nasmyths both demonstrate, HMRC make a number of other points contesting the plans which could be raised again. If HMRC are going to take an aggressive stance in the future by actively opposing plans then this (in our view) does not support rescue because challenge adds significant additional costs to a process that is already costly. Worse still, it potentially puts the nail in the coffin to SME restructuring plans where cost is an issue.
What would be helpful, as HMRC have done with CVAs previously (and which it acknowledges they haven’t yet done for restructuring plans) is to have guidance from HMRC about what they expect in a plan. At the very least, can we expect this following these hearings? We will have to wait and see.