The English court has recently sanctioned a scheme of arrangement in respect of a company incorporated in the Cayman Islands. The court had to consider whether the company concerned had a sufficient connection with this jurisdiction to enable the court to sanction the scheme and consider the impact of the Russian sanctions on certain classes of creditors. This article will analyse the issues involved in the case of CFLD (Cayman) Investment Ltd[1] and the judgment of Mr Justice Edwin Johnson.
Schemes of Arrangement
A scheme of arrangement is often described as a rescue mechanism which is most frequently used to prevent companies from entering into an insolvency process. A scheme is a useful strategic device in a wide range of circumstances including restructurings, takeovers, and mergers. It is a statutory procedure, governed by Companies Act 2006 (“CA 2006”), which allows a company, or an administrator of a company, to propose and make a compromise or arrangement with its members or creditors (or any class of them). A two-stage process is undertaken by the court which involves two applications to court. Firstly, the court must make an order summoning a meeting to consider the scheme of arrangement, at which at least 75% of attendees must agree to the compromise or arrangement. Secondly, the court will then decide whether to sanction the scheme. If sanctioned, the scheme will be binding on all creditors and shareholders, including those within each class voting against the scheme.
Judgment of Mr Justice Edwin Johnson in the case of CFLD (Cayman) Investment Ltd, Re (23 January 2023)
CFLD (Cayman) Investment Ltd (“the Company”) had issued 11 tranches of unsecured US dollar-denominated bonds (“the Offshore Debt”), 9 of which were in default. The Company was subsequently facing liquidation, which also had a negative impact on China Fortune Land Development (“the Parent Company”) who acted as guarantor of the bonds, meaning that in the event the Company went into liquidation, then the bondholders would seek the funds from the Parent Company who would also be threatened with liquidation. To avoid the consequences of liquidation, the Company applied to the court to sanction a scheme of arrangement, which would cancel the existing bonds and release the Company and the Parent Company from its obligations. In return the creditors would receive new bonds and certain creditors would be entitled to a cash pre-payment fee. The scheme was approved by approximately 97.6% of creditors satisfying the statutory majority requirements. However, at this point, the court Judge was hit with issues causing a barrier to the scheme being sanctioned.
Class of creditors and the principle of fairness
At the first hearing, Mr Justice Michael Green, considered whether the Company had complied with the Practice Statement relating to the composition of classes of creditors. The Company had notified the persons who would be affected by the scheme 21 days prior to the first hearing, which, in the circumstances, was sufficient. The Judge then had to explore whether the class of creditors was properly constituted, ensuring that the scheme was in the interests of all creditors. The court tends to find that the class has been properly constituted and adopts the approach being, “unless you can identify enormous dissimilarities in rights, all creditors are capable of consulting together”.[2] Commentary on this issue criticises this approach taken by the court and asserts that it “may constitute a serious erosion of the protections enjoyed by minority shareholders and creditors in section 425 schemes”[3] (now repealed), suggesting that the principle of fairness is often dismissed with the minority being overlooked. The Judge noted that although the existing bonds had differences ”in coupon and maturity” that did not give rise to a difference of rights and therefore, the class was properly constituted.[4]
The Judge also considered whether the scheme was fair by exploring the alternatives available to the Company. Although, the existing bonds were guaranteed by the Parent Company they were otherwise unsecured and, in the event the Parent Company did face insolvency proceedings, the creditors would be unlikely to recover any of their entitlements. The Judge was of the view that the scheme was in the best interests of the creditors.
Russian sanctions
The Russia (Sanctions) (EU Exit) Regulations 2019 and the Russia (Sanctions) (EU Exit) (Amendment) (No. 17) Regulations 2022 were introduced to encourage Russia to cease actions which threatened the territorial integrity, sovereignty or independence of Ukraine. In particular, the regulations imposed financial sanctions on designated persons, which involved the freezing of funds and economic resources. These regulations therefore posed a problem in the CFLD (Cayman) Investment Ltd case as multiple scheme creditors were subject to these sanctions and therefore blocked from the scheme, raising the argument of the scheme being unfair. Nonetheless, the Judge was satisfied that the scheme was fair as although the blocked scheme creditors would not receive the benefit of the new bonds immediately, they instead would initially be held in a holding trust and then a successor trust, until the earlier of the lifting of the sanctions or the expiry of 21 years from the date the trust was established. The scheme therefore still considered the interests of the blocked scheme creditors whilst also complying with the regulations. Only those blocked scheme creditors who were personally subject to the sanctions, as designated persons, were not entitled to vote as a result of the sanctions. The scheme creditors were not directly sanctioned and therefore were able to vote. The scheme creditors were not excluded from the voting and benefits under the scheme. Instead, they had a beneficial interest in the scheme which was simply preserved.[5]
The Judge applied the case of Telewest Communications Plc (No.2), Re [2004] EWCH 1466 (Ch), whereby a scheme of arrangement was sanctioned despite the currency conversion producing a less beneficial result for sterling bondholders as opposed to the dollar bondholders. The case of The Co-Operative Bank Plc, Re [2017] EWHC 2269 (Ch) was also considered which concerned the exclusion of retail noteholders in the scheme. Even this was not found to be unfair, and the scheme was sanctioned.
Jurisdictional issues
Given the fact that the Company in the case was incorporated in the Cayman Islands, the Judge needed to be satisfied that the English courts had jurisdiction to sanction a scheme of arrangement. Cross border recognition in insolvency proceedings is governed by many international rules and regulations, which are significantly refuted by common law. Pursuant to section 895(2) CA 2006, an English scheme of arrangement is only available if the company is capable of being wound up in the UK under the Insolvency Act 1986. The EC Regulation on insolvency proceedings (Insolvency Regulation 2000) (replaced by the Recast Insolvency Regulation 2015) also provides that main insolvency proceedings are unable to be opened in the UK if the debtor’s centre of main interests (“COMI”) is not also in the UK. This overlooks the principle of universalism, which is a concept developed on the view that insolvency proceedings should be capable of being recognised worldwide and have universal application which apply to all creditors and assets. However, where a scheme of arrangement is proposed, a foreign company does not need to have its COMI in England and need only satisfy the jurisdiction test – an approach whereby we see the courts adopting “modified universalism”, which can be described as diluted universalism.
To satisfy the jurisdiction test, a company merely needs to show a “sufficient connection” with England for the English courts to sanction a scheme of arrangement. Historically, we have seen cases ruling a sufficient connection where scheme debts have been governed by English law. For example, in Magyar Telecom BV, Re [2013] EWHC 3800 (Ch), English courts still had jurisdiction to sanction a scheme in respect of a Dutch company in financial difficulty where the finance documents were governed by New York law because the company’s COMI was in England. Furthermore, in Vietnam Shipbuilding Group, Re [2013] EWHC 2476 (Ch) the English courts had jurisdiction where the facility agreement was governed by English law. Similarly, in the CFLD (Cayman) Investments Ltd case, the Offshore Debt was governed by English law, which, unsurprisingly, was found to be a sufficient connection.
Conclusion
Despite statutory direction eroding the principle of universalism, the judgment in this case is amongst many whereby the courts adopt a relaxed approach when exercising their discretion on whether to sanction a scheme of arrangement. Not only is it the latest case which seems to employ modified universalism, but it provides us with useful insight to how the courts are likely to deal with modern day obstacles, such cases where the Russian sanctions apply to the case before the courts.
If anyone requires any advice on the implications of this case or restructuring and insolvency generally, please contact John Harvey by email on john.harvey@laytons.com.
[1] [2023] 1 WLUK 233
[2] Moss. G, “Hawk triumphant: a vindication of the modern approach to classes in section 425 schemes” Insolv. Int. 2002, 15(6) 41-44.
[3] ibid
[4] [2022] EWHC 3496 (Ch) (Mr Justice Michael Green).
[5] ibid
