Background and Summary
The English scheme of arrangement (“Scheme”) has found particular utility throughout the European Union (the “EU”) and internationally as a restructuring tool for both foreign and UK companies alike. Providing creditors with access to a court sanctioned compromise procedure (which can be used prior to formal insolvency), the Scheme has combined flexibility with a high degree of commercial and procedural certainty for all involved, including creditors.
However, there is the question of whether the appeal of the Scheme looks to be threatened by the outcome of the UK’s 2016 referendum to withdraw from the EU (“Brexit”). Departure from the EU will only occur in the spring of 2019 following two years of exit negotiations, but at this stage, the exact Brexit model remains distinctly unclear. This post shows that whilst Schemes will face challenges they should survive the impact of Brexit and maintain the UK’s position as a key restructuring jurisdiction.
Brief description of Schemes
The procedure for Schemes is contained in Part 26 of the Companies Act 2006 (the “CA 2006”), which states that a company may make a compromise or arrangement with its members or creditors (or any class of them) about (in theory at least) anything which the parties may agree on. If the requisite majority of members and/or creditors approve the scheme (being a majority in number representing not less than 75% in value of members and creditors respectively (or any class of them) present and voting) and it is sanctioned by the court, it will be binding on each constituency entitled to vote, regardless of whether individuals in those constituencies voted in favour of it. The Scheme’s proposals must be fair and reasonable to be sanctioned by the court and must, in the context of a restructuring, represent a genuine effective arrangement or compromise.
Whilst they are a creation of company law, Schemes have proven to be advantageous in large debt restructurings with an international dimension. They offer a restructuring option to companies prior to formal insolvency proceedings, an ability to bind secured creditors (at least with English security) and implement a restructuring plan over the wishes of minority dissenting creditors and a flexible option to companies incorporated outside the UK. Brexit arguably poses the greatest challenge to the appeal of Schemes for companies located abroad.
EU recognition of Schemes relating to companies incorporated abroad (“Schemes for Foreign Companies/ Scheme for a Foreign Company/ Foreign Company Schemes”)
An English court may, in certain circumstances, assume jurisdiction to sanction Schemes for Foreign Companies. However whilst the statute grants English courts jurisdiction over Schemes for Foreign Companies, it gives no guidance as to the circumstances in which jurisdiction should be assumed. The question of jurisdiction has consequently been left to the English courts.
It is generally acknowledged that English courts will accept jurisdiction over Schemes for Foreign Companies where they are satisfied that the following two criteria are met:
The Scheme for the Foreign Company is likely to be effective and achieve its purpose.
Assessing whether a Scheme for a Foreign Company is likely to be effective abroad requires the English court to consider if it would be recognised in any relevant foreign jurisdictions where creditors or assets may be located. To fulfil this requirement, the English court ‘ought to have some credible evidence to the effect that it will not be acting in vain’. Expert legal evidence is usually adduced before the English court on the likely basis on which a Scheme for a Foreign Company will be recognised in relevant jurisdictions abroad. Commonly used and/or considered bases of recognition have included:
- Regulation (EU) 1215/2012 (recast) (the “Recast Judgments Regulation“):
Under Article 36 of the Recast Judgments Regulation (formerly Article 33 of the Council Regulation (EC) 44/2001 (the “2001 Brussels Regulation“)), ‘a judgment given in a Member State shall be recognised in the other Member States without any special procedure being required’. The definition of a ‘judgment’ has been deemed to encompass the outcomes of hearings in the English courts in relation to Schemes for a Foreign Company for the purposes of the 2001 Brussels Regulation and the Recast Judgments Regulation. The English courts have accordingly acknowledged that it could therefore apply as a basis of recognition to Schemes for Foreign Companies.
- Regulation (EC) 593/2008 on the law applicable to contractual obligations (the “Rome I Regulation“):
Article 12 of the Rome I Regulation provides that the governing law of a contract also governs ‘the various ways of extinguishing obligations, and prescription and limitation on actions’ in relation to that contract. This provision suggests that it should be a matter for the English courts to determine whether the terms of an English Law Scheme for a Foreign Company are effective to vary or extinguish a debt governed by an English law contact. This interpretation was approved by Briggs J in Re Rodenstock who noted that his decision to sanction the relevant Scheme would be legally effective in Germany by virtue of Article 12 of the Rome I Regulation.
- the UNCITRAL Model Law on Cross-Border Insolvency (the “Model Law“):
The Model Law provides an international framework for the recognition of foreign insolvency proceedings. Although the Model Law has provided the basis for recognition for Schemes for Foreign Companies, notably in Re Magyar where detailed US expert evidence was adduced to show that a Scheme for a Foreign Company would be recognised by virtue of Chapter 15 of the US Bankruptcy Code (which enacted the Model Law in the US), its utility in the EU is limited to jurisdictions where it has been enacted. Even where it has been adopted, however, Schemes are not ubiquitously recognised as ‘proceedings’ as contemplated by the Model Law. Consequently, a Scheme’s recognition is dependent on the relevant jurisdiction’s interpretation of the legislation. In the US for example, the Scheme process is specifically listed as one to which recognition will be afforded. However, this is not the case for all adoptions of the Model Law.
- Private international law:
English courts have also acknowledged private international law as a basis for recognition of Schemes for Foreign Companies (in the absence of applicable cross border regulations or law). This was affirmed in the context of Dutch and Belgian law in the case of Re Van Gansewinkel Groep, and is applied on an individual basis as appropriate.
- Council Regulation (EC) 1346/2000 on insolvency proceedings (the “EIR“):
Only to dismiss it, it is worth noting here that although the EIR provides a framework for rules governing automatic and reciprocal recognition across the EU for main and secondary insolvency proceedings, it does not designate Schemes as an ‘insolvency proceeding’. As such, recognition of Schemes in EU member states cannot be achieved through the EIR.
The foreign company has a ‘sufficient connection’ with the English jurisdiction.
The English court will also need to be satisfied that the foreign company has a ‘sufficient connection’ with the English jurisdiction. ‘Sufficient connection’ is established on the unique facts of each Scheme for a Foreign Company (but are significantly less exacting than a requirement to demonstrate that a foreign incorporated company has its centre of main interests (“COMI“) in England). Satisfaction of this ‘sufficient connection’ requirement previously necessitated the presence of a number of ‘connecting factors’ to the English jurisdiction (for example the involvement of UK lenders, English law governed legal documents and exclusive jurisdiction of the English courts). Recent case law has shown that ‘sufficient connection’ is established where there are fewer ‘connecting factors’; in a number of cases, an English court has established ‘sufficient connection’ solely or principally on the basis of English law being the chosen governing law of the relevant finance documents.
Although ‘sufficient connection’ may be established, there has been concern that Article 4 of the Recast Judgments Regulation could restrict the jurisdiction of the English courts to sanction a Foreign Scheme. Article 4 provides that persons domiciled in a Member State shall, whatever their nationality, be sued in the courts of that Member State. In light of Article 4, if the Recast Judgments Regulation prima facie applies to Foreign Company Scheme proceedings, it would follow that proceedings should be commenced in the jurisdiction where the foreign company is incorporated. This would accordingly override the ability of the UK courts to sanction Schemes for Foreign Companies. This question continues to lack clarification; English courts have recently presumed that the Recast Judgments Regulation does apply to Schemes, but have found exceptions to ensure they retain jurisdiction.
Ultimately the question of ‘sufficient connection’ and whether an English court will accept jurisdiction is intrinsically tied to that of recognition discussed at 1.3(a) above. If an English court is not satisfied that the Foreign Company Scheme will be recognised and effective abroad it will be reluctant to exercise its discretion to accept jurisdiction even if there is otherwise a ‘sufficient connection’.
EU recognition of English Schemes for Foreign Companies in light of Brexit
The Rome I Regulation
The current Brexit model is unknown (as it depends on the negotiations yet to begin in earnest with EU Member States although the first moves have been played) and it is clear that whatever arrangement is put in place will fundamentally alter the application of EU insolvency law. Although one can only assume at this stage, it is likely that the EIR, Recast Judgments Regulation and Rome I Regulation will cease to have direct applicability in the UK when the UK leaves the EU. As already noted, the EIR has no bearing on the recognition of English Schemes for Foreign Companies and therefore its lack of applicability will make no difference to the current status of Schemes. In contrast, the falling away of the Recast Judgments Regulation will (in the absence of alternative arrangements) have an impact as judgments of the English courts (and scheme sanction approvals have been viewed as such a judgment) would not be enforceable in other Member States on the basis of the Recast Judgments Regulation as the judgment would not come from a Member State court. As a subsidiary point, if the Recast Judgments Regulation were the only basis on which recognition abroad might be achieved, the English court could not and would not find jurisdiction for itself in any event.
With regard to the Rome I Regulation, however, the fact that the Rome I Regulation would cease to have effect in the UK would not affect its application in remaining EU Member States. Unlike the Recast Judgements Regulation which regulates recognition of judgments from Member States in other Member States’ courts, Rome I contemplates that the expressed governing law of a contract (and that could be any governing law in theory whether of an EU Member State or otherwise) is the right law to handle the extinguishment rights under the contract: if English law is the expressed law, then one looks to English law, if US law, then one looks to US law and so on. As such, it is likely that considerably more emphasis will be given to recognition under the Rome I Regulation than has been the case in the past.
Other bases for recognition
As noted, the rise of the Scheme as a tool for international restructuring has been a relatively recent phenomenon. Accordingly, so far as recognition of procedures of EU Member States within Europe is concerned, it is not surprising that EU legislation has been the preferred route to recognition. However, there are other bases, some older and some recent, including some more commonly considered when the question arises (see above) which include the following:
(i) private international law has often been cited as a basis on which recognition can be sought in relation to Schemes for Foreign Companies. It is likely to become of more significance in the wake of Brexit but will still be a challenging and fact dependent approach to determining effectiveness.
(ii) the Model Law will provide a framework for recognition of cross border insolvency proceedings post Brexit. However the Model Law ‘s applicability is largely untested in the EU as, excepting the UK, it has been adopted only in Greece, Poland, Romania and Slovenia.
(iii) the Hague Convention on the Choice of Court Agreements 2005 (the “Hague Convention“) to which the EU has signed up and which therefore binds all Member States. The Hague Convention promotes the allocation of jurisdiction where an exclusive choice of court agreement has been entered into by parties to a transaction. Where exclusive choice of court agreements exist, the Hague Convention imposes obligations on ‘designated courts’ of those states which have signed and ratified the Hague Convention (“Convention States“). These obligations are as follows:
(A) a Convention State’s courts must hear any case brought before them which is covered by the choice of court agreement, if they are the ‘designated court’;
(B) a Convention State’s courts must refuse to hear any case if they are not the ‘designated court’; and
(C) a Convention State’s courts must recognise and enforce the judgment of another Convention State’s courts if the second court is the ‘designated court’.
Whilst the Hague Convention is likely to apply to Schemes and offers an option for filling the void left by the Recast Judgments Regulation, it has a number of limitations. Firstly, upon leaving the EU, the UK will need to accede separately to the Convention in order for it to apply. Secondly, the Hague Convention’s application to exclusive choice of court agreements may limit its utility in the context of Schemes where relevant debt documents usually contain asymmetrical jurisdiction clauses.
(iv) the Lugano Convention 2007 (the “Lugano Convention”). The Lugano Convention provides for mutual recognition and enforcement of judgments between EU and European Free Trade Association (“EFTA”) members. The UK is currently party to the Lugano Convention as part of the EU and would need to accede to EFTA post-Brexit to benefit from the Lugano Convention. Should the UK become an EFTA member as part of its Brexit negotiations, it could use the benefit of the Lugano Convention to address the question of Foreign Scheme effectiveness.
In practice, accession to EFTA and therefore the Lugano Convention is uncertain. Participation in EFTA would likely see the UK having to accept the principle of free movement of individuals and certain EU regulations without its current influence over EU rules. Given the fears over migration and a disillusionment with the mechanics of the EU that prompted the Brexit vote, accession to EFTA would not be embraced in a number of quarters in the Brexit camp.
Given the variety of alternative bases upon which English courts may find Schemes for Foreign Companies effective abroad, it is thought at this stage that Schemes will be flexible enough to maintain their popularity irrespective of Brexit. Ultimately, the main impact of Brexit is the loss of the Recast Judgements Regulation as a basis for recognition. (That said, though, the lack of applicability of the Recast Judgments Regulation may clarify the jurisdiction debate (see 1.3(b) above) given the arguments that can be made on the basis of the Regulation that Schemes should not be recognised abroad because of the Recast Judgments Regulation).
The international threat of Brexit
Aside from the changing legislative landscape, a distinct challenge created by Brexit is the potential for foreign companies to look towards different restructuring processes which can offer similar mechanisms to that of the Scheme. A number of EU Member States have attempted to reform their restructuring legislation to provide restructuring alternatives to Schemes, including:
- Netherlands: A new procedure, the Continuity of Companies Act II (“CCA II“) has been under consideration in the Netherlands. The CCA II would introduce the concept of a voluntary creditors’ arrangement into Dutch law, an arrangement similar to an English Scheme which can be confirmed by the court and become binding on all creditors (and even shareholders, irrespective of whether they voted in favour of the arrangement. However, it has recently been put on hold in light of the recent Estro/Smallsteps ECJ judgement;
- Spain: In 2011, Spain introduced the court-sanctioned refinancing agreement (“Homologación Judicial“) with the aim of creating a new pre-insolvency procedure that reflects many of the benefits of the Scheme. The specifics of the Spanish procedure will not be examined further here, but the Homologación Judicial, much like the Scheme, allows binding of dissenting creditors;
- Germany: Germany currently has no pre-insolvency restructuring proceeding (except in relation to bond restructuring). Nevertheless, the ‘protective shield proceedings’ (“Schutzschirmverfahren“), whilst technically a formal insolvency procedure, offers debtors a chance to develop and implement an insolvency plan whilst being protected from creditor enforcement. ‘Protective shield proceedings’ contain some significant similarities to Schemes: they offer the option to bind secured creditors, affected shareholders and creditors vote in classes on the proceedings and a ‘cram down’ across classes is possible.
- Italy: Italian insolvency law provides for a ‘pre bankruptcy composition plan’ (“Concordato Preventativo“) which allows for the discharge of a debtor’s debts with the aim of avoiding bankruptcy. This process includes the concept of ‘classes’ of ordinary creditors voting on the pre bankruptcy composition plan and the idea that dissenting creditors may be ignored if the Bankruptcy Court is satisfied that dissenting creditors would not receive better treatment under available alternatives.
Although Schemes continue to be preferred over rival proceedings, Brexit may be a catalyst to persuade foreign companies to also consider alternative proceedings (such as those above) available within some Member States of the EU.
It is impossible to determine the effects Brexit will have on the popularity of the Scheme given that the UK’s exit model from the EU remains so unclear. The assumptions made by this article are subject to the arrangements negotiated by the UK during the exit process and as such remain largely speculative.
Regardless, it is clear that Brexit will pose some challenges to Schemes. Although the Recast Judgments Regulation will cease to be a basis for recognition, the Rome I Regulation will continue. Additionally, the increasing range of international alternatives to Schemes may continue their march forward.
Are Schemes dead? Will Brexit kill them? The answer is certainly not.
Co-authored by Tony Hewitt