Premier Oil: Class Composition

This is part two of a series of articles addressing points of interest arising from the opinion of Lady Wolffe in the petitions of Premier Oil plc and Premier Oil UK for the sanction of schemes of arrangement under Part 26 of the Companies Act 2006.

You can find the related items listed at the foot of this page.

Background

Lady Wolffe has now handed down her much anticipated opinion in Premier Oil plc and Premier Oil UK limited, one of the very few Scottish cases concerning contested petitions for sanction of two Schemes of Arrangement under Part 26 of the Companies Act 2006 (“Part 26”)(the “Schemes”) and it provided much needed guidance as to the construction, application and interpretation of Part 26.

The Schemes were petitioned for by two Scottish companies. Premier Oil Plc (“PO”), the publicly listed parent company, and Premier Oil UK Limited (“POUK”), the principal operating company of the wider Premier Oil group (the “Group”). The Group focuses on the upstream exploitation of oil and gas assets throughout the world.

The Schemes were vigorously opposed by the First Respondent: a creditor and part of a group of entitles referred to as Asia Research and Capital Management Ltd Group (“ARCM”), but were supported by the Second and Third Respondents (two separate and substantial groups of creditors by value, who appeared at the Sanction Hearing of the Schemes).

A previously sanctioned scheme of arrangement in 2017 (the “2017 Refinancing”), amongst other things, put in place a revised capital and debt structure, pursuant to which the liabilities under the group debt arrangements had a single contractual maturity date of 31 May 2021 (the “Scheme Maturity Date”).

In late 2019, with the Scheme Maturity Date growing increasingly closer, the liabilities owing to the Scheme Creditors amounting to about US $2.56 billion the PO and POUK directors and their creditors concluded the imminent debt wall must be addressed. It was generally accepted that, absent the Schemes, the Group would be unlikely to be able to refinance its indebtedness in full by the Scheme Maturity Date.

Accordingly, the Group issued an Explanatory Statement under section 897 of the 2006 Act setting out the proposed new Schemes.  They were designed to extend the Scheme Maturity to 30 November 2023, allow the funding of ongoing activities and improve the Group’s financial position to facilitate a future refinancing of the Scheme Debt Facilities. One of the essential elements was three proposed material acquisitions of oil or gas producing assets (the “Acquisitions”).

A further relevant element of the Schemes was the harmonisation of interest rates. If sanctioned, the Schemes were to result in a uniform coupon or interest rate of 8.85% on all cash facilities held by the Schemes’ “Senior Creditors”.  There were two exceptions to this. Firstly an upfront fee would be payable to those cash creditors who would receive less than the weighted average increase of 1.62% or who would receive a lower rate of interest than they currently receive. Secondly, letter of credit facilities would be increased to 6.94%, on the basis that in the ordinary course of events, when a call is made by a beneficiary under a letter of credit (so that an actual cash advance would be required) the interest rate would also attract LIBOR which would result in the all-in rate increasing to around 8.85%.

A creditors’ meeting was then held to vote on the Schemes. At that meeting the Petitioners divided the Scheme Creditors in to two classes, the Super Senior Creditors (secured creditors) and the Senior Creditors (other private creditors and Retail Bond Holders). The Schemes were approved by around 99% in value of the Super Senior Creditors and Senior Creditors.

Nevertheless, the First Respondent proceeded to oppose the Schemes at the Scheme Sanction Hearing before Lady Wolffe.

Was Class Composition Correct?

One of the challenges was to the compliance with Part 26 jurisdiction. This challenge was based on the first of the four stages for consideration of a scheme by the Courts as set out in the “Buckley Test”[1] and primarily concerned whether the classes of creditors were correctly constituted and whether the correct comparator was used.

Constitution of Creditor Classes and the First Respondent’s Position

This argument was fundamental to the First Respondent’s case. Class meetings are to place a proposed scheme before a company’s creditors so they may express their collective view on its merits. Given that the collective views of the creditors are is sought it is crucial to identify the appropriate classes of creditors. The Court is keen to guard against risk of oppression by the majority and equally avoid creating such a multiplicity of meetings that class composition becomes an instrument of oppression by the minority.

If classes of creditors are not correctly constituted, the Court ultimately has no jurisdiction to sanction the scheme[2].  However, there is no statutory test for class composition under Part 26 of the 2006 Act. In England though the Court of Appeal set out the legal test in Re Apcoa [3] as follows:

1. The Court considers two sets of rights of the relevant creditors
2. the existing rights against the company, which are to be released or waived; and
3. the new rights which the scheme gives to those whose rights are to be released or waived.
4. If there is no material difference between the legal rights of the relevant creditors they will form a single class and there is no need to proceed to the second stage of the test.
5. If there are material differences between the legal rights of the relevant creditors at the second stage the Courts need to assess the relevance of those differences.
6. A class must be confined to those persons whose rights are not so dissimilar as to make it impossible for them to consult together with a view to their common interest in order to avoid unnecessary proliferation of classes.

It is of note that the Court is concerned purely with the legal rights of the relevant creditors as against the scheme company not their economic interests.

The analysis also requires consideration of the comparator to the scheme so as to ascertain the nature and substance of the creditors’ rights in absence of the scheme. For example, if the comparator is an immediate liquidation, the creditors’ rights must be assessed by reference to their rights in such a liquidation. Also to assess whether creditors with different rights can consult together in their common interest.

The First Respondent contended that the legal test to determine the class is whether the rights of creditors are so dissimilar as to make it impossible for them to consult together with a view to their common interest.

Applying this test, the First Respondent argued that the division of the Scheme Creditors into two classes was incorrect. Its position was that the harmonisation of interest rates under the Schemes produced too wide a variance of the degree of uplift which were so extreme they precluded any community of creditor interest and instead fracture class. Accordingly, the First Respondent argued that there should be a separate class of creditor for each debt instrument, reflecting the classification recorded in the 2017 Refinancing.

Comparator and the First Respondent’s Position

The issue between the parties was whether the comparator should be a solvent (as the First Respondent contended) or insolvent (as the Petitioner contended) one.

It was accepted law, pursuant to Scottish Lion[4], that a Part 26 Scheme needed to be directed at a problem where that problem did not need to be imminent or even impending insolvency. In respect of the Group the universally accepted problem was debt wall. It was agreed in the case that the Group would be unable to repay the Scheme Debt Facilities on maturity and that a full refinancing would not be possible before then. It was also undisputed that an extension of the Scheme Maturity Date was required.

Nevertheless it was the First Respondent’s position that the Group was not insolvent and that Schemes had erred in using an insolvent comparator. The First Respondent argued that the Group was solvent on a cashflow basis under the Insolvency Act 1986 (the “IA 1986”). Further that the Explanatory Statement and statements made by the Group’s Finance Director (Mr Rose) as to the risks posed by the looming Scheme Maturity Date conflicted. It was also argued that the Group had a significant enterprise value and evidence was needed to resolve theses disputed matters of fact including challenging Mr Rose’s credibility and reliability.

The Court’s Opinion

The Court’s starting point in order to ascertain the correct composition of the creditor classes was to determine what the likely factual position would be in absence of the scheme proposed (i.e. the comparator) and to assess the creditor’s rights against that circumstance.

The Court accepted the director’s view as set out in the Explanatory Statement that there is a very substantial risk that the Scheme Debt Facilities will not be capable of being refinanced through new debt facilities either by the end of June 2020 or by the Scheme Maturity Date in May 2021 and in absence of such refinancing the Group would be unable to repay their liabilities under the Scheme Debt Facilities at maturity. The Court found there was nothing in the First Respondent’s criticism that there was inconsistency between the Explanatory Statement and Mr Rose’s statements

The factual position was therefore accepted as being that, absent the Schemes, by reason of the magnitude of the debt wall and the approach of the Scheme Maturity Date, the Group will not be able to continue business as a going concern for the foreseeable future. It is therefore more likely than not that the Group will enter some form of insolvency proceedings in or prior to May 2021 and nothing produced by the First Respondent adequately challenged or displaced this finding.

It was not accepted by the Court that, as the First Respondent had argued, in absence of an imminent insolvency a solvent comparator must be used and the Court concluded that the Petitioners had been correct in using an insolvent comparator. Lady Wolffe concluded that the First Respondent’s position found no support in the statute or case law. She also opined that it is artificial to acknowledge that the problem of the debt wall looms but to maintain that this accepted fact must be left completely out of account because it does not fall within the technical definitions of insolvency in the IA 1986.

The Court preferred the submission of the Petitioners and the Supporting Creditors and concluded that the fact that the Group may not satisfy the definitions of cashflow or balance sheet insolvency for the purposes of section IA 1986 does not preclude the Group’s use of insolvency as the comparator. This is as, Lady Wolffe noted, there is a likelihood or risk of an inability on the part of the Group to repay the Scheme Debt Facilities in full when they fall due because they are a few months short of being classified as “current” liabilities.

Further and in any event, the Court accepted that a company may be cashflow insolvent if the debt will fall due in the reasonably near future. On this basis the Group was also found to be cashflow insolvent by the very magnitude of the amount due and that it all falls due on the same date, which is in the reasonably near future.

The Court proceeded to reject the First Respondent’s further argument against class composition, that the harmonisation of interest rates had fractured class. It found it erred in looking only at the interest rate change. Rather the total return should be examined (including the upfront fee and interest rate harmonisation). On that analysis the Court found all creditors would receive an increased return of at least 10% and at most 19%, the average increase being 13%. Lady Wolffe went on to hold that differences are permissible in the level of benefits a scheme may confer. In addition the Senior Creditor rights under the Schemes were found to be essentially the same as under the 2017 Refinancing and the Scheme Creditors were also to be treated in materially the same: they all waive the same events of default that may arise from the Acquisitions and to the extent the Acquisitions contribute to an improved liquidity they will all share similarly in those benefits.

The assessment the Court was making was whether those differences united or divided a creditor class. In the present case, the fact that all the Senior Creditors would benefit, was determined to be a unifying factor and likely to outweigh any differential in that uplift. Equally, they would all be affected by the inability of the Group to refinance.  Accordingly, the Court held that the different interest rates, and differential uplift did not render it impossible for the Senior Creditors to have consulted together in the Scheme Meetings and so the classes had been correctly composed.

Our view

This challenge to the Schemes has given the Court a useful opportunity to set out clearly the test of class composition and comparator, particularly (as is often the case with Schemes) the problem the Scheme is set to address is one of solvency. The opinion of Lady Wolffe will not doubt prove to be a useful resource to those faced by a contested, or even uncontested Scheme in the future.

Related articles:

Part One: Schemes of Arrangement and Powers of Attorney - implicit in sanction or a fatal “blot”? 

Part Three: Beyond the Buckley Test: Premier Oil and the Anterior Jurisdictional Challenges

Part Four: Schemes of Arrangement and class composition: common interest or a class act?

[1] As originally envisaged in Buckley on the Companies Acts and which was restated by Snowden J in Re Noble Group Limited (No.2) [2019 BCC 349]

[2] Re Hawk Insurance Co Ltd [2001] EWCA Civ 241

[3] Sovereign Life; Re Apcoa Parking Holdings GmbH [2015] BCC 142

[4] Petition of Scottish Lion Insurance company Limited v Goodrich Corporation And Others [2009] CSIH 6