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In The Matter of Bluebrook Ltd

In The Matter of IMO (UK) Ltd

In The Matter of Spirecove Ltd

In The Matter of the Companies Act 2006Case No: 15856 of 2009

High Court of Justice Chancery Division

11 August 2009

[2009] EWHC 2114 (Ch)

2009 WL 2392294

Before: Mr Justice Mann

Date: 11/08/2009

Hearing dates: 3rd, 4th and 5th August 2009

Representation

Mr. R. Dicker Q.C. and Mr. R. Fisher (instructed by Latham & Watkins (London) LLP ) forthe Companies.Mr. D. Chivers Q.C. and Mr. S. Horan (instructed by Gide Loyrette Nouel LLP ) for theMezzanine Co-ordinating Committee.Mr. G. Moss Q.C. and Mr. A. Al-ATTAR (instructed by Lovells LLP ) for the SeniorSteering Committee.

Judgment

Mr Justice Mann:

Introduction

1 This is an application for the court's sanction of three schemes of arrangement, each of

which is between one company and lenders described as Senior Lenders. Those

companies are Bluebrook Limited (“Bluebrook”), IMO (UK) Limited (“IMO”) and Spirecove

Limited (“Spirecove”). On 3rd July 2009 Arnold J made an order convening meetings of

the scheme creditors, and those meetings took place on 29th July 2009. At each of the

meetings the schemes were approved by a majority which very significantly exceeded the

statutory majority, so that the relevant class of creditors approved each of the schemes.

Only two members of that class in number, amounting to no more than 5% of the debt,

voted against. The present challenge to these schemes comes not from those two

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creditors, or indeed from any member of the class of scheme creditors. Instead, it comes

from representatives of a class of subordinated creditors. They maintain that the schemes

operate unfairly to them because they deprive them of any valuable rights against the

companies. Whether that is right or not is the question that I have to decide at this stage

of the proceedings.

Background

2 Bluebrook is the holding company of a group of companies which operates the biggest

carwash business in the world. The business is operated by a number of subsidiaries in a

number of countries around the world. IMO and Spirecove are indirect subsidiaries of

Bluebrook. Bluebrook is indebted to a consortium of lenders. This is the Senior Debt, and

for present purposes its current amount can be taken as being £313m. The value varies a

little depending on the sterling/euro exchange rate. The indebtedness is guaranteed by

other companies in the group, including IMO and Spirecove. The indebtedness is

supported by a range of debentures under the security so as to charge the value of the

group. The lenders under these transactions are called the Senior Lenders.

3 Spirecove is indebted to another group of lenders, called the Mezzanine Lenders. The

level of this debt can be treated in round terms as being £119m (including unpaid

interest). Again, that indebtedness is secured by a range of securities covering the assets

of the group. The actual trading is carried out by companies lower down in the group.

Their various identities do not matter for the purposes of this judgment.

4 Various subordination arrangements are in place which firmly subordinate the

Mezzanine Lenders to the Senior Lenders. The arrangements are contained in an

Intercreditor Agreement dated 8th February 2006 (as amended, restated and

supplemented from time to time). I do not need to set out the detailed provisions of that

agreement. I can summarise the relevant provisions as follows:

i) Clause 2 deals with the ranking of the debt. The Senior Debt ranks first; theMezzanine Debt ranks second. (They are followed by other levels of debt which I do notneed to deal with).ii) Clause 6 deals with the subordination of the Mezzanine Debt. In essence, repaymentof the Mezzanine Debt cannot be made, or sought, until the Senior Debt has been paid.Clause 6.8 is a “turnover” clause; - if any of the Mezzanine Lenders receive a paymentin respect of its debt, which is not permitted under the Intercreditor Agreement , then itwill pass it on to the Senior Lenders.iii) Under clause 11.4 the security agent under the agreement is given authority by allthe creditors to release security and to release liabilities in respect of any enforcementaction by any of the creditors, provided that any proceeds from enforcement areapplied in accordance with the Intercreditor Agreement (i.e. from the top down).iv) Under clause 12 the Mezzanine Lenders are given an important right. In the eventthat they are not content with certain enforcement actions, they can compel a sale to

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them of the rights and obligations of the Senior Lenders for the amount of theoutstanding Senior Debt.v) Clause 13 provides that on the occurrence of an Insolvency Event (winding up,administration and so on) the Mezzanine Debt is subordinate in right of payment to theclaims of the Senior Debt.vi) Clause 14 provides for the proceeds of any enforcement to be applied (after certainfees, costs and expenses) in discharge of the Senior Debt and then the Mezzanine Debtand so on.

5 Thus the prospect of recovery by the Mezzanine Lenders is very firmly subordinated to

the prior rights of recovery of the Senior Lenders. No-one has questioned the efficacy of

those arrangements in the hearing before me.

6 The funding arrangements which are organised by the Intercreditor Agreement were

made in 2006 . Since then the group has not performed according to expectations, with

the result that interest is now significantly in arrears. The group performance falls short of

various targets specified in the Senior Credit Agreement covering the Senior Debt

(principally the various financial covenant ratios based, directly or indirectly, on the

EBITDA – earnings before interest, tax, depreciation and amortisation). Interest due to

the Senior and Mezzanine Lenders has not been paid, and the boards have considered

that it cannot be paid fully into the future either. The boards are concerned that they

cannot pay debts as they fall due, and that the group is balance sheet insolvent. The

group has sought to come to a restructuring arrangement with the Senior Lenders and,

for a time, with the Mezzanine Lenders. Negotiations have been in process for some

months. The plans involved the Senior Lenders giving up some of their debt in exchange

for equity, with the business of the group being transferred to a new corporate structure

containing new companies in order to achieve that. The new group would be principally

owned by the Senior Lenders; the existing group would not retain an interest. At one

stage of the negotiations there was a proposal to allow the Mezzanine Lenders to

participate in the form of share warrants, but that was abandoned and since then the

proposals that have been made have not included any new rights for the Mezzanine

Lenders.

7 The current proposals are embodied in the schemes of arrangement for which the

court's sanction is sought, coupled with other transactions to give effect to a partial debt-

equity swap. Its elements are as follows:

i) There will be a restructured group consisting of three companies – HoldCo, MidCo (awholly-owned subsidiary of HoldCo) and NewCo (a wholly-owned subsidiary of MidCo)and a transferee of certain German assets. The equity in HoldCo will ultimately beowned by the Senior Lenders, subject to a certain amount of dilution in favour ofmembers of the management of the group.ii) The Senior Debt will, to the extent necessary, be accelerated and demands forpayment will be made against the three scheme companies and certain other

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transferors.iii) Following this sanction hearing, and conditional upon sanction being given, thevarious transferor companies will be placed into administration and each of thetransferor companies (including the three scheme companies) will be requested by theSecurity Agent under the present lending arrangements to enter into asset transferagreements to transfer all the assets from the present group into the restructuredgroup.iv) £12m of the existing Senior Debt will remain in the existing group. A large part ofthe rest (approximately £185m) will be novated to a company in the new group. Theremainder of the debt will be substituted by the Senior Lenders taking the shares inHoldCo. The old group will be released from the debt other than the £12m being leftbehind.v) The transfer of assets to the new group will be done by an administrator. Theevidence when it came before me was somewhat coy as to the reason why theadministrator, rather than the various boards of directors, were effecting the transfer. Ittranspired that this was because it was considered by the boards to be better to havean insolvency practitioner, an independent third party, consider the transfer, and itspropriety at the relevant values. Even though the administration is to be a pre-packaged administration, with the intended administrator being kept fully informed ofeverything that is going on, there can, of course, be no guarantee that theadministrator will, at the end of the day, effect the various transfers. However, if thetransfers do not happen, then the rest of the overall transaction does not happeneither.vi) The three schemes deal only with the mechanism of the release of the schemeclaims (the Senior Debt) in anticipation of the exchange for the shares in HoldCo andthe debt owed by the new group. The schemes do not themselves provide for thetransfer of assets. As was pointed out, it would technically have been possible to haveachieved the same result as that achieved by the schemes and the overallarrangements without the necessity for a scheme of arrangement had all the SeniorLenders been in agreement and participated. However, because a small minority doesnot agree, a scheme becomes necessary.vii) The overall restructuring still involves the use of the enforcement processes of theIntercreditor Agreement , including the compulsory release of security and guaranteesheld by the Mezzanine Lenders and the transfer of assets that that document enables.

The objections to the scheme in outline

8 That, then, is where the three schemes of arrangement fit into the restructuring

proposals. The overall effect is to transfer all the assets of the group into the new group

and to give the Senior Lenders the bulk of the equity in that new group (subject to the

small interest in favour of the management). A large part of its debt is novated. No assets

will be left in the group in order to pay the Mezzanine Lenders, who are thereby shut out.

Justification for that is said to be that the value of the group is such that the Mezzanine

Lenders (and any further subordinated lenders) have no economic interest in the group

because the value of the assets (or the value of the group as a whole) is significantly and

demonstrably less than the value of the Senior Debt.

9 On the basis of all that, the companies have propounded the schemes and propose to

compromise with only the Senior Lenders. They do not seek to enter into any compromise

with the Mezzanine Lenders. Accordingly, they are not party to these schemes, and they

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were not summoned to any class meeting. The case of the scheme companies, and of the

Senior Lenders, is that that is entirely appropriate in the circumstances. It is technically

not necessary to call a meeting of the Mezzanine Lenders if they are not to be party to the

schemes, and none of the companies has to promote a scheme as between itself and the

Mezzanine Lenders if it does not wish to do so. So far as the Mezzanine Lenders are

concerned, the key step is the transfer of the assets from the present group to the new

group. That is not affected by the scheme; it takes effect outside the schemes, albeit it is

conditional on the schemes' being sanctioned.

10 Many of the Mezzanine Lenders do not accept that the schemes should be sanctioned.

They have formed a Mezzanine Co-ordinating Committee (“MCC”) which has been

represented before me by Mr David Chivers QC. I can treat the MCC as being synonymous

with the Mezzanine Lenders for the purposes of this judgment. They say that the schemes

are unfair because they unfairly prejudice them. Their key point is that they do not accept

that the value of the group's assets is less than the value of the Senior Debt. They say

that the fair and reasonable thing to do would be to allow the Mezzanine Lenders to

participate in the new group by giving them an interest which gives the Senior Lenders

the first right to have their debt repaid, and a proper return for their equity, but which

does not absorb all the equity after those things have been done. Further, they say that

the Schemes should not be sanctioned because the overall arrangements shut out the

Mezzanine Lenders from any prospect of benefiting from the assets, and there are

sufficient prospects of their having an economic value in them as to lead to their not

being ignored in this way.

The supporters of the schemes before me

11 The Senior Lenders have formed a Senior Steering Committee (“SSC”) to propound

the interests of the Senior Lenders. Its representatives hold almost 60% of the Senior

Debt, and they were represented before me by Mr Gabriel Moss QC. The scheme

companies were represented by Mr Robin Dicker QC.

The valuation evidence

12 The scheme companies have procured, or engaged in, various valuation exercises, all

of which, if valid, show that the value of the group is very significantly less than the

uncontested, and uncontestable, value of the Senior Debt. In those exercises the group,

or its holding company, is sometimes identified as IMO, rather than Bluebrook. As long as

that is understood, the distinction does not matter. Those exercises were as follows.

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13 PricewaterhouseCoopers LLP (“PwC”) were instructed by the scheme companies and

the Bank of Scotland plc (as lead senior lender) to produce a report to analyse the value

of the group for the “insolvency practitioner in waiting”, that is to say the person who it

was intended to be the administrator in the pre-packaged administration that would

intervene if the restructuring took place. They were first instructed on 2nd March 2009

and carried out their first exercise as at 9th March 2009. They updated their report in

June. The report carried out a valuation of the group on various bases. It is clear that the

report valued the group on a going concern basis, and not on a liquidation or even a fire

sale basis. That is made clear from the summary of their instructions and their express

basis of valuation. The objective was to come up with a figure, or range of figures, for the

“Business Realisation Proceeds”, which they define as “the amount that the business is

expected to realise in a sale at the current time”. They adopted the following

methodologies:

i) An Income Approach. “The Income Approach indicates Business Realisation Proceedsbased on the cash flow that the business can be expected to generate in the future.”This is a discounted cash flow (“DCF”) basis. In this approach they added an “alphafactor” to the cost of capital to reflect uncertainty in the market and the impact of thepresent credit crunch on the availability and cost of financing. It had the effect ofdepressing the final valuation figure.ii) A Market Approach. “The Market Approach indicates Business Realisation Proceedsbased on a comparison of IMO to comparable publicly traded companies and an analysisof statistics derived from transactions in its industry”.iii) A leveraged buy-out (“LBO”) analysis. “….we have considered how a potentialprivate equity purchaser could look to fund a deal for IMO by performing a high-leveldebt capacity analysis. We have then used this debt capacity to assess, to a LBO model,the level of equity investment a private equity investor could be prepared to make,given a typical required equity rate of return, in the current market.”

14 The valuation exercises are conducted, where appropriate, on the basis of certain

assumptions – for example an assumption of zero growth in the terminal year (for the

DCF calculation) and certain reasoned assumptions as to the Weighted Average Cost of

Capital (“WACC”). The assumptions are clearly articulated and the reasons for them are

clearly given. Having considered all these matters, and having set out the difficulties in

finding proper comparables on the basis of the approach to which they are relevant, the

valuation demonstrates the following ranges of estimated Business Realisation Proceeds:

i) Income Approach – a range of £220m to £275m as at 9th March 2009. The rangereflects various sensitivities to which the transaction is subject. However, bearing inmind the then current market conditions, it was thought a more reliable indication ofthe top figure would be £250m. By June factors had caused them to raise one of themultiples to which the transaction was subject, but nevertheless they came to theconclusion that there was no change as at 3rd June 2009.ii) On the Market Approach their estimate for Business Realisation Proceeds as at 9thMarch was £220m to £250m. Because of the change in market and economic conditionsby 3rd June, as at that date they revised their estimate upwards to a range of £235m

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to £265m.iii) As to the LBO analysis, it came up with a range of £227m to £256m. They did notchange this in considering the position as at 3rd June.

15 Accordingly, PwC estimate that a purchaser would pay a sum not exceeding £265m for

the business.

16 In considering a way forward, the directors instructed Rothschild to pursue a third

party sales process with a view to seeing if a buyer for the existing group could be

secured. Details of Rothschild's activities have been provided. They contacted a number of

potential financial buyers, and were in turn contacted by 12 additional potentially

interested parties. The process produced only one indicative offer which placed a value on

the enterprise of £150m to £188m on a cash and debt free basis. This was not considered

by the board to be an appropriate level of interest, or a worthwhile level of cash, to take

further.

17 The third valuation exercise involved instructing King Sturge LLP to value a number of

the group's sites, and then instructing PwC to extrapolate an overall value from the

valuation of those sites. The valuation resulting from this exercise was one of £164m on a

restricted sales basis (i.e. a swift sale without a full marketing campaign, the sort of thing

a mortgagee may be entitled to do) and £208m on a full market value basis.

18 It will be apparent from those three exercises that they all generate figures which fall

well short of the value of the Senior Debt (£313m). Evidence was also given that even if

one strips out the “alpha factor” which PwC used, the value is still well short of the level

of the Senior Debt. Mr Dicker says that that is the conclusion that I should reach on

valuation. He says this is supported by the fact that the valuation of the Senior Debt in

the market is, even after the promulgation of the schemes, very significantly below par –

currently around 60p in the pound.

The LEK report

19 In all the negotiations leading up to the schemes, the Mezzanine Lenders did not

produce their own valuation evidence in order to justify their stance. However, in the

course of these proceedings they have produced some evidence. It is a report from LEK

Consulting and is dated 1st July 2009. It carried out a DCF analysis and comes to the

conclusion that:

“The IMO Car Wash business is extremely sound and profitable.”

In paragraph 2.3 it criticises a market price valuation, on the footing that there is no liquid

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market for an asset such as the scheme companies. In those circumstances a market price

valuation is not an appropriate way of ascertaining the value of the group, especially in the

current economic circumstances. Criticisms are made of the Rothschild marketing exercise,

suggesting that any bids would be likely to be on a “fire sale” basis, that bids would be

affected by the difficulty of securing finance for the business and by the general current

economic circumstances and that the illiquid market would deter bids. A valuation method

based on comparables is said to suffer from an absence of proper comparables, and a break

up/liquidation valuation is inappropriate to a sale as a going concern. In the circumstances,

LEK consider that the most appropriate method of valuation for the group is a DCF analysis in

which the group is valued on an ongoing basis.

20 The report then goes on to indicate the fruits of such analysis. Any such analysis

requires a number of assumptions to be made. In PwC's analysis they set out those

assumptions. The LEK report does not set them out, and they were not provided until the

evidential stages of this hearing when it was pointed out that that material was absent

from the report. The report does not then go on to set out LEK's view of the value.

Instead, it undertakes a “Monte Carlo simulation” which involves repeated calculation of

the DCF valuation, using random sampling of input and assumptions, and then

aggregating the result into a distribution of the probabilities of different valuation

outcomes “to show the relevant likelihood of this potential set of outcomes”. The result is

a graph which is said to show “that in each scenario a significant majority of outcomes

exceeds £320m”. The conclusion is expressed that:

“On this basis, it appears highly likely that the value of IMO ‘breaks’ in the

Mezzanine tranches of IMO's current debt structure.”

21 The report then carries out two other valuation exercises, one a comparable

transactions valuation and the other a comparable multiples valuation. The first, using

five precedent transactions as a basis for valuation, comes up with a valuation of about

£330m. The second is used to provide an indicative valuation to provide “further broad

support to the DCF method”. LEK took five comparable public companies from an original

set of 12 adopted by Rothschild and PwC, plus another four. They were selected on the

basis of having similar characteristics to the group. Various data was extracted from those

companies and applied to figures for the group. From this (unreasoned and unsupported

in the report) LEK derive “a valuation range whose lower end is in excess of £300m on

average, with a median valuation of circa £385m”.

22 This report is the material relied on by the Mezzanine Lenders in support of their case

that they have an economic interest. There was no cross-examination of the author of this

report (or of the other reports).

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The principles

23 The broad principles on which I should act in determining the dispute between the

MCC on the one hand and the company and the SSC on the other were not seriously in

dispute, though each side emphasised different aspects. The principles appear in the

following paragraphs.

24 A company is free to select the creditors with whom it wishes to enter into an

arrangement and need not include creditors whose rights are not altered by the scheme.

This appears from Sea Assets Ltd v Pereroan etc Garuda Indonesia [2001] EWCA Civ

1869 and In re British & Commonwealth Holdings plc [1992] 1 WLR 672 . Prima facie,

therefore, the company is entitled to select the Senior Lenders as being those with whom

it wishes to enter into a scheme and not enter into a scheme with the Mezzanine Lenders

as well. Of course, whether that scheme can ultimately be effected, or will be sanctioned,

is another matter. At this stage the question is one of choice of counterparty.

25 Next, in promoting and entering into a scheme, it is not necessary for the company to

consult any class of creditors (or contributories) who are not affected, either because their

rights are untouched or because they have no economic interest in the company. This is

apparent from In re Tea Corporation Ltd [1904] 1 Ch 12, where the Court of Appeal held

that the dissent of ordinary shareholders would not stop a scheme being sanctioned,

because although those shareholders had a technical interest as shareholders, they in fact

had no economic interest in the company because the assets were insufficient to generate

a return to them in the liquidation that was then on foot. As Vaughan Williams LJ said (at

page 23):

“It would be very unfortunate if a different view had to be taken, for if there were

ordinary shareholders who had really no interest in the company's assets, and a

scheme had been approved by the creditors, and all those were really interested

in the assets, the ordinary shareholders would be able to say that it should not

be carried into effect unless some terms were made with them.”

If there is a dispute about this, then the court is entitled to ascertain whether a purported

class actually has an economic interest in a real, as opposed to a theoretical or merely

fanciful, sense, and act accordingly - see the reasoning in In re MyTravel Group plc [2005] 2

BCLC 123 at first instance. Where things have to be proved, the normal civil standard applies.

The same case indicates that the mere fact that the possibility of establishing a negotiating

position and extracting a benefit from a deal is not the same as having a real economic

interest (though obversely a real economic interest may establish, or enhance, a negotiating

position). The basis on which the assessment of that interest is to be carried out will vary

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from case to case.

26 The schemes do not involve the Mezzanine Lenders in the sense of engaging them as

parties. They will not bind them, and their legal rights are unaffected. The Mezzanine

Lenders therefore cannot, and do not, complain as persons whose legal rights are being

altered by the schemes in some unfair way. However, they are still entitled to object as

creditors on grounds of unfairness if the schemes unfairly affect them in ways other than

altering their strict rights. The court is exercising a discretion, and as a matter of principle

can consider unfairness in that sense, if it is made out. That is the essence of the case of

the Mezzanine Lenders.

The main case in favour of the schemes

27 The debate before me concerned the grounds of opposition of the MCC. Other

questions as to the general fairness of the schemes, and as to the propriety of sanctioning

them, were not fully dealt with and I do not propose to deal with that aspect here. Having

seen the schemes generally, nothing has yet struck me as to why I should not sanction

them if the complaints of, or raised by, the MCC do not stand in their way. The meetings

seem to have been properly convened and held, and appropriate majorities of those who

were summoned were obtained on the resolutions proposed. Although there was a small

number of dissentients, they have not sought to be represented before me. As far as I

can see, prima facie it would have been right for me to sanction the schemes if the MCC

had not objected. I will not formally determine that at this point, because Mr Dicker told

me that there were some minor points that he intended to draw to my attention at that

point but which were not dealt with during the course of the two and a half days of the

hearing before me (in the interests of saving time and focusing on the major issues).

However, I will address the points raised by the MCC on the assumed footing that, absent

those complaints, I would sanction the schemes.

28 The three scheme companies say that the Mezzanine Lenders cannot properly object

to the schemes. They are not formally bound by them, and their legal rights are

unaffected by them. In the light of the valuations of the assets that have been obtained,

the Mezzanine Lenders are not indirectly affected by them either because they have no

economic interest in the companies. They accept that if a proper case of de facto unfair

prejudice could be shown by the Mezzanine Lenders, or that there has been some other

impropriety which has led to unfairness, then that might be a ground for the court's not

sanctioning the schemes. However, the Mezzanine Lenders have not established any such

thing. The Senior Lenders support that stance.

29 The scheme companies and the Senior Lenders also developed points in answer to

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complaints of the Mezzanine Lenders. One particular point which was emphasised was

that the arrangements essentially gave effect to the subordination to which the Mezzanine

Lenders had been plainly and freely agreed. I will deal with those points (so far as

relevant) in the discussion and narrative that appears below.

The case put against the schemes – in detail

30 The case put against the schemes developed during the course of Mr Chivers'

submissions. In outline it took the following form:

i) A proper view of the value of the companies (the “intrinsic” value) demonstrated thatthere was a realistic possibility that they had a value which exceeded the Senior Debt,so that the companies had a real value to the Mezzanine Lenders notwithstanding theirsubordination.ii) That value was being lost to them, because the assets were being stripped out forthe benefit of the Senior Lenders.iii) The directors of the scheme companies had failed to comply with what was said tobe their obligation to extract a proper benefit for the creditors of the scheme companies(other than the Senior Lenders), and in particular for the Mezzanine Lenders. Therewere other courses of action open to them which did not involve joining these schemes,or falling in with the wishes of the Senior Lenders, and they should at least haveconsidered, or possibly threatened, one or more of these. On the facts they had anegotiating position which they could and should have exploited so as to extract somebenefit for the Mezzanine Lenders. They did not do so, and seem to have been adoptinga position of just looking at the position of the Senior Lenders.iv) The scheme companies obtained no benefit from the schemes and the restructuring.True it is that that debt was released, but in the circumstances that did not amount to abenefit. Even if debt was released in excess of the value of the present value oftransferred assets, that was not a benefit because there was no benefit to an assetlesscompany in having a lower final debt than would otherwise be the case because it hadno assets to pay them anyway.v) The £12m debt left in the companies was there as a blocker to make it more difficultfor the Mezzanine Lenders to make any claim against the companies or directors,because that £12m would be absorbed by the Senior Lenders under their still existingcharge.vi) Mr Chivers took a point, albeit only relatively faintly, that the schemes did notamount to a “compromise or arrangement” within the meaning of section 899(1) of theCompanies Act 2006 .vii) All in all the schemes were part of a restructuring that was unfair to the creditors ofthe companies (other than the Senior Lenders) because of the benefits that it providedto the Senior Lenders which were very likely to come about. The Senior Lenders werenot really taking any, or much, risk, and it was very likely that they would be rewarded.

31 Some of these points tend to inter-relate; some of them have to be considered

separately.

The state of the company

32 A large part of the Mezzanine Lenders's case depends on what the directors should

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have done, and various options open to the scheme companies when they started

considering the scheme. Accordingly it is necessary to consider what the financial state of

the group was or appeared to be.

33 The Senior Debt and the Mezzanine Debt arose in order to fund the acquisition of the

trading arm of the group in 2006, and to provide funds for capital expansion by 31st May

2009. 2008 was not a good year for the group, and its earnings fell significantly short of

its business plan. The first half of 2009 was better, in large measure because of the

strengthened euro against the pound. Nonetheless, in the second half of 2008 the boards

became concerned that the group would breach the financial covenants in the two major

credit agreements, which would give rise to events of default. Under the Senior Credit

Agreement an event of default entitles the Senior Lenders to call in the debt and declare

the security to be enforceable. The boards' fears were justified and certain ratios specified

in the two agreements were inadequate for compliance with those agreements. Since the

equity holders did not remedy them, they have become irremediable events of default

under both agreements. In addition, interest is now in arrears under both agreements -

the group failed to pay interest payments of 13.6m to the Senior Lenders, and £5.4m to

the Mezzanine Lenders, when payments were due on 31st March 2009. Further liabilities

of almost £1m are due to the Senior Lenders on hedging transactions. Various other

events of default have arisen.

34 The group is now balance sheet insolvent to the tune of over £300m, albeit after a

write-off of £360m of goodwill in the accounts. The goodwill that was written off appears

to be goodwill arising on the purchase of the group in 2006, being the excess of the

purchase price paid over the value of the net assets that were acquired. There was some

limited discussion as to the real significance of this insolvency arising as a result of the

write-off, and some criticism from the MCC as to correctness of the write-off (or whether

all of it should be written off), but the figures show that a write-off of anything over £35m

of that goodwill would still lead to balance sheet insolvency. While the group is meeting

its trading debts, it cannot pay all its debts as they fall due as is demonstrated by the

non-payment of interest, apart from anything else.

35 The group is still able to trade, and is capable of trading profitably on its trading

activities. The mere fact of technical defaults under the major loan agreements does not,

of itself, directly affect this. However, there is evidence of increasing difficulties on the

trading side too. Some credit insurance has been withdrawn for the UK and France, which

impacts on supplier confidence. Difficulties with suppliers are beginning to arise - I was

provided with evidence of difficulties in obtaining quotations for long term electricity

supplies.

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36 Because of a standstill arrangement with the Senior and Mezzanine Lenders and

subsequent forbearance of the former, the group has got sufficient cash reserves to meet

its immediate needs and trading liabilities. However, the board has come to the

conclusion that a restructuring of the business is required to secure its long term future.

Mr Russell, a director of the scheme companies, has said that the boards do not believe

that in the absence of restructuring, available cash resources will be sufficient to continue

to run the business as a going concern. His first witness statement said that if the present

proposed restructuring does not proceed, the boards may themselves have to take steps

to place the group in an insolvency procedure. A later paragraph was firmer - he

expressed the directors' view that in the absence of either the present or an alternative

restructuring, “they will have to petition for some form of insolvency proceedings for

most, if not all the Existing Group companies in order to protect their assets” because

enforcement of security would be likely to occur and the level of performance of the group

is such that the current level of debt has become unsustainable.

37 The view that a restructuring is required is shared by the SSC, and indeed by Mr

Douglas Evans, an officer of one of the Mezzanine Lenders who has responded to Mr

Russell's evidence. He has agreed that without an appropriate capital restructuring the

scheme companies will have a continuing difficulty in satisfying their financial covenants

and they need a capital restructuring which reduces the debt on the balance sheet to a

sustainable level and which “resets” the financial covenants. The MCC is said to recognise

that.

38 So there was no dispute between the protagonists before me that a restructuring was

required. The group cannot carry on as it is. However, I have had to set out some of the

background because, despite that shared view, the MCC has suggested that the board

should at least have threatened to carry on as things are. I will have to return to that

suggestion below.

The valuations revisited

39 Various valuations were in evidence. I have described them, and their general effect,

above. However, it is necessary to return to them in more detail because value is one of

the factors which lies at the heart of Mr Chivers' case. He says that the evidence shows

that there is real value in the companies in excess of the Senior Debt, or what the Senior

Lenders are paying under the proposed arrangements (in essence, the value of the Senior

Debt less £12m), or at least there is a realistic chance that there is such an excess (which

he says is enough for him) and the valuations demonstrate that it is likely that the Senior

Lenders will realise that value for themselves. Some of it should have been made

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available for the Mezzanine Lenders.

40 Mr Chivers spent a significant portion of his skeleton argument arguing in favour of a

going concern valuation as opposed to a liquidation valuation. I agree that, for the

purposes of this case, and in order to assess the fairness of the schemes, a going concern

value is appropriate, and indeed the scheme companies and the SSC did not contend

otherwise. The point has therefore been rendered academic, and is further rendered

academic by the fact that none of the valuations produced for the scheme companies is in

fact a liquidation valuation in the sense of a break-up valuation. All of the valuations seek

to answer the question of what a purchaser would be likely to pay now for the business,

and they adopt different techniques for that purpose. The Rothschild exercise was started

shortly after the end of March 2009 and ended on 29th May, the King Sturge report was

commissioned in May 2009, and the PwC report was commissioned in March 2009 (and

updated later).

41 Those do not, of course, show a valuation which is capable of generating value for the

Mezzanine Lenders. However, Mr Chivers relies on the LEK report as showing value for the

Mezzanine Lenders. He points out that there has been no cross-examination of any of the

valuers on the reports and says that in those circumstances I should treat the LEK report

as being at least a reasonable view which cannot be disregarded. That means that there

is a realistic view that there is value in the group over the value of the Senior Debt, which

gives the Mezzanine Lenders an economic interest in the group.

42 There was indeed no cross-examination of the valuers, so they have not been tested.

In the case of the LEK report the absence of cross-examination also means that, at least

to me, some of its methodology, and some inferences from it, remain obscure. However,

it does not follow that all of them are necessarily entitled to equal weight. I am entitled to

look at them and try to ascertain just what they are saying, in order to determine the

extent to which they assist in the relevant debate.

43 I have already observed that the three exercises conducted for the boards were

intended to derive a present value in the sense of the sort of money that a purchaser

would pay. They all have their drawbacks, but they are aimed to the same end. Where it

is necessary to make assumptions for the purposes of the exercises, those conducting

them tend to have made assumptions based on professional and expert judgments as to

which are appropriate in the circumstances (those judgments sometimes encompassing a

limited range). The LEK valuation is different. Its end result is a statistical analysis,

conducted by a computer, in order to assess the statistically most likely outputs for

variations in a range of inputs which can be quite wide. It does not involve the sort of

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judgments that a more traditional valuation requires. That is not to say that there is no

judgment at all involved. Judgment is involved in selecting the ranges. Mr Chivers

suggested that there was some judgment applied in selecting some weighting within the

range, but I confess that I cannot see that in any of the supporting evidential material.

Nor does it appear to be the understanding of Mr Merrett, a managing director of

Rothschilds who has considered the exercise on behalf of the scheme companies (judging

by paragraph 21 of his 3rd witness statement). In any event, judgment lies principally in

determining the extremes of the input ranges.

44 The result is what Mr Merrett, managing director of NM Rothschild & Sons Limited,

described as a robotic exercise. He said, and Mr Southern of LEK accepted, that using a

Monte Carlo simulation is not often used in valuation exercises. Its use is not unknown in

that context - it can be used in specialist circumstances such as a pharmaceuticals

company where underlying earnings are uncertain, or in oil companies where the

simulation can be used for estimating underground reserves. However, in Mr Merrett's

view that degree of uncertainty does not exist in this case, because there is a relatively

well-established business model. Mr Southern, of LEK, says that uncertainty is

demonstrated by the uncertainties arising out of the current economic environment, and

from the different attempts of the advisers to provide a value for IMO (being the company

where the value is considered to lie). That, however, seems to me to be a different sort of

uncertainty from that referred to by Mr Merrett. Any DCF valuation is going to have some

uncertainties in it - a number of assumptions have to be made as to the future. Yet it is

not suggested that a Monte Carlo technique is appropriate to every DCF calculation. Nor is

relevant uncertainty (making the technique applicable) demonstrated by the different

approaches, or results, of different valuers - that sort of uncertainty is inevitable where

professional judgment is involved.

45 The merits of a Monte Carlo technique are also said to lie in the fact that it produces a

range of values, rather than a single point value, and that is said to be appropriate where

single point certainty cannot be said to be achievable. I am sure that it is right that a

correct approach to valuation in many cases will be to specify a range. Unless the market

is tested, and a large number of purchasers all make the same offer, there will always be

something of a range. Indeed, the valuations obtained for the group suggested ranges.

However, the Monte Carlo technique seems to me to produce not so much a range of

values, professionally assessed, but a range of possibilities. From that one may be able to

get to a view as to a value, but that is where professional judgment comes in. The results

of the application of the technique are not necessarily irrelevant to a valuation exercise,

but they are not expressed as a value, and so are of limited use. They might be used as a

step towards valuation (when some more judgment has been applied) but they are not

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themselves a valuation. To some extent the drawbacks of the technique can be seen from

Mr Southern's own evidence. In his first witness statement he said that, if it is of interest

to examine a single point estimate, as opposed to a range, of value, then that is available

in the form of median and mean values shown (£385m and £398m respectively). That is

plainly a mechanical, and not judgmental, assessment, and is highly technical. A proper

approach to valuation in a case such as this requires some real world judgments as to

what is likely to happen (such as a judgment as to the correct weighted average cost of

capital, which is a very important element in a DCF calculation), rather than a range to

which other ranges are applied in a series of random calculations to come up with some

mechanistic probability calculation. I find the former approach much more helpful and

much more relevant.

46 I confess that I also have misgivings as to the ultimate soundness of the LEK approach

from the manner in which it and the supporting material was provided. The Mezzanine

Lenders first disclosed that LEK were advising them on 1st June 2009, and their work at

that time was said to support the Mezzanine Lenders' view that the value of the company

“breaks in the mezzanine debt”. On 12th June they were asked by the scheme companies'

solicitors for a copy of valuation material relied on. Shortly thereafter the Senior Lenders'

solicitors proposed a discussion between LEK and PwC. The Mezzanine Lenders responded

on 21st June that they would let the solicitors know when they believed the meeting to be

appropriate. They never did that. On 2nd July the scheme companies' solicitors repeated

their request for the Mezzanine Lenders' valuation material, and the request was repeated

the next day in the light of the fact that it had by then become apparent that the

Mezzanine Lenders had received advice from LEK. The response was strange in the light

of the clear date of the report - the Mezzanine Lenders' solicitors said that it would be

provided on the date which the court had prescribed for the provision of the Mezzanine

Lenders' evidence (which was 10th July). It was provided with that evidence.

47 Having got the report, the companies' solicitors immediately asked for details of

supporting material so that the methodology could be understood. The report itself

merely states bald conclusions, without detailing the assumptions underlying it. On 14th

July the Mezzanine Lenders' solicitors responded:

“The LEK report is based on underlying data taken from reports produced for

your clients and other information supplied by them. As it stands, the LEK report

- and more particularly the methodologies employed - is comprehensible.”

That is a very unsatisfactory response. First, it was a very unhelpful response to a perfectly

reasonable request. The underlying assumptions are obviously needed if the worth of the

report is to be tested. Anyone who really wished their valuation evidence to be understood

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would have realised that and provided the material. Second (and flowing from the first) the

report itself might be regarded as comprehensible as a matter of English, but it would not be

fully comprehensible to a valuer in the sense in which a valuer would wish to comprehend it.

Again, I would have expected a professional to have realised that. Third, it turns out that the

first sentence is not wholly accurate. The underlying data came not only from material

emanating from the scheme companies or their valuation reports; it also came from other

sources. And anyway, without identifying it, the remark, even if true, is unhelpful. The letter

went on to purport to deal with some of the specific questions raised, but not adequately.

48 Eventually some more useful background material was provided when Mr Southern's

first witness statement was served on or shortly after its date (24th July 2009). However,

even then it turns out that the form of the information is a little strange in the

circumstances. It is described by him as “the Appendix” to the LEK report of 1st July. Yet

the report itself does not purport to contain an Appendix. No document is recorded in it as

containing the material on which it is based. The document produced is not an appendix

in the sense of being part of the original document, either by annexure or by cross-

reference. It is actually in the form of prints of slides in a Powerpoint presentation,

although a coversheet has been put on the print (as what is clearly an additional page)

which describes it as an appendix and dates it as at 1st July. Its very form and content is

that which is appropriate to Powerpoint slides and not to a technical appendix to a

technical valuation. Furthermore, there is a page of Disclaimers (page 1 of the pack of

slides), which constantly describes it as a “Presentation” and its purpose is “Presentation

to the Mezzanine Syndicate dated 1st July 2009”. So its genesis does not seem to have

been that of an appendix to the report. That is not to say that it cannot contain the

relevant information. It seems to do so (or at least Mr Dicker did not complain that it did

not). However, the whole story of the emergence of the report, and then the “Appendix”,

and the form that the “Appendix” takes, do not always sit entirely comfortably with the

idea that this is a valuable exercise conducted as being the best way of ascertaining the

“intrinsic” value of the group and in which the Mezzanine Lenders had confidence.

49 All in all, therefore, I do not give the LEK valuation as much weight as I give the other

exercises. As an exercise of assessing what a third party purchaser would pay it is very

unconvincing. One cannot assume that he would pay something in the high probability

range. Purchasers do not work like that. Subjective assessments are much more weighty

factors, and the scheme companies' exercises tend to reflect that better. The most that it

does in the present case is to give pause for thought on this point: Are the purchasers in

fact getting too a good deal (too much unfair value) because in the present market sales

are unlikely to take place, and when economic conditions change the same group will be

perceived to be more valuable, and the purchasers will ultimately reap the benefit of that?

This is not quite the way the case is put, but I can see that in some circumstances it

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might be. It is, I suppose, another analysis of the “intrinsic value” which is said to differ

from current market value.

50 Having paused for thought, I have come to the conclusion that this evidence is not

good enough to establish what the MCC seeks to establish in this case. I do not think that

it is a proper way of addressing that point. It is an attempt to play with the same sort of

assumptions that are used more conventionally in valuations such as the PwC valuation,

but in a more mechanistic way which avoids having to make real judgments in an area in

which judgments are very important. It does not, in my view, demonstrate with sufficient

clarity that market conditions are currently giving the Senior Lenders an unfairly good

deal. There are other ways of dealing with that sort of point. PwC's approach on their DCF

valuation builds in their “alpha factor” - a discount to reflect the fact that a purchaser will

pay less in the present market because of economic uncertainties. One can take that

factor out again if one wants, and if one does then one still gets a figure which is

significantly less than the value of the Senior Debt (as was demonstrated at the hearing).

51 Does the exercise nevertheless demonstrate that there is a realistic chance that the

value of the group is in excess of the value of the Senior Debt, which is one of the ways in

which Mr Chivers puts it? For these purposes, again I do not think that it does. It is too

technical an approach to engender much confidence. I do not consider that I can conclude

that, on a valuation basis, the Mezzanine Lenders are getting a raw deal because there is

a good or even reasonable case for saying that they are being deprived of value. The

evidence is not that strong.

52 I have considered this conclusion particularly carefully in the light of the manner in

which the evidence has been presented. There was no cross-examination on the valuation

evidence, so I must approach a rejection of the evidence with particular care. The

absence of cross-examination has meant that my understanding (particularly of the Monte

Carlo technique and the limits of its appropriateness) is more limited than it would have

been with the benefit of the sort of testing that comes from cross-examination. However,

I have to consider the evidence as it is presented to me. The scheme companies have

produced expert evidence which is comprehensible and relates to a real point – how much

would a purchaser pay for the group now? The MCC has chosen to counter it with a

different type of evidence, which does not address that evidence but which seems to carry

out a much more theoretical exercise. I do not consider that it is successful in displacing

the companies' evidence (and indeed in some respects it does not seek to do so – it seeks

to do something different), or in raising a sufficient possibility of there being some

unrealisable value in the group of which the Senior Lenders will be the unfair beneficiaries

if the restructuring goes ahead. This also applies to the two confirmatory exercises carried

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out by LEK (identified above) which featured very little in the MCC's case.

Breach of duty or other shortcomings on the part of the boards of the scheme companies

53 I have phrased the heading to this section to encapsulate the various ways in which Mr

Chivers sought to put his case. He did indeed at one stage put it as high as saying that

the boards were in breach of duty to the companies and their creditors, though at others

he seemed to be putting it somewhat lower in a sort of “could and should have done

better by the Mezzanine Lenders and other creditors” way, stopping short of a breach of

duty.

54 The first thing to note is the late stage at which the breach of duty allegation arose.

The point was not made at all in the evidence of the MCC in this case. It was not

complained of in pre-trial correspondence either. The only reference to duties was a

reminder in correspondence that certain duties were said to be owed, but that was in a

different context. On 10th June 2009 the MCC wrote to (inter alia) the directors of

Bluebrook and the SSC stating that it had been suggested that the directors were acting

in accordance with the instructions of the “Senior Co-ordination Committee” and pointing

out that if that were right then the shadow directors would owe the same duties as a de

iure director, in the course of which they would owe duties to have regard to the interests

of all creditors. All directors were urged to have regard to those duties. This was not a

letter complaining about a breach of duty, even though the MCC had known of the

restructuring plans for some time. Nor was it really aimed at the board directors as such.

Its primary aim was the alleged shadow directors. So this letter does not complain that

the directors are not actually fulfilling their duties in agreeing to the scheme. Even more

strikingly, the point was not really made in Mr Chivers' skeleton argument served shortly

before the hearing. The closest it got was the last sentence, which says that in looking

after the interests of the companies and their stakeholders the boards should be requiring

the Senior Lenders to pay a price for the significant benefits they got.

55 This is not just a forensic point devoid of practical consequences. There is a fairness

point, both in a general sense and in a way which has affected the conduct of the case. So

far as general fairness is concerned, it was a serious allegation to aim at the directors,

who were entitled to more notice of it, and a better formulation of it, than they were

given. Such allegations should not really be made on the hoof, and as a matter of

analytical convenience, as they were in this case. But more significantly for the purposes

of this case, its late emergence meant that the opportunity to have a proper evidential

consideration of the point has been lost. It was not disputed that the directors of an

insolvent company have to pay proper regard to the interests of the creditors. However,

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what that duty means in practice will be very fact-sensitive. Here the allegation was (or

became) that the discharge of that duty (or the duty to stakeholders, as the letter

referred to above put it) meant that the directors ought to have bargained for something

to be provided to the Mezzanine Lenders. The companies were forced to deal with the

point by looking for material scattered across witness statements which were intended to

deal with different points, and the directors did not have the opportunity of putting in a

clearly focused evidential rebuttal. This was less than satisfactory, though in the end the

position became clear enough. I shall deal below with the extent to which the scheme

companies did or did not have a bargaining position, but for present purposes will

concentrate on the question of who should have been doing the bargaining.

56 As I have just observed, there was no evidence from the companies which was

focussed on this point. However, such evidence as there is does not support the case that

the boards were under the duty alleged. No-one has suggested that those ranking below

the Mezzanine Lenders had any economic interest, and in any event I am told that there

were no other creditors of these holding and intermediate companies. That means that a

duty to have regard to the interests of the creditors other than the Senior Lenders means

a duty to act in that manner in relation to the Mezzanine Lenders. However, the

Mezzanine Lenders seem at all material times to have been fighting their own corner, and

in no way expected the directors to fight for them. They were a separate negotiating

party, trying to protect their own interests, and while that might not of itself in every case

absolve the directors from trying to take additional steps to protect them, in facts such as

the present it goes a very long way. Mr Russell's first witness statement gives a history of

the development of the schemes, and demonstrates that the companies negotiated with

both the Senior Lenders and the MCC. At paragraphs 76 to 79 he describes what he

believes to be negotiations between the SSC and the MCC to try to reach an

accommodation. There is not the faintest suggestion that the MCC was looking to the

boards to join in and assist. Those negotiations did not succeed. The boards had had

valuation material which suggested that the MCC did not have an economic interest, and

negotiated the scheme with the SSC. That material did not make it obvious that the

directors should be taking it upon themselves to negotiate an interest for a body of

creditors who had not managed themselves to negotiate an interest in direct negotiations.

They did not conduct those negotiations. I am not surprised; the directors were not

obliged to do so in those circumstances.

57 The position is even clearer when one considers the evidence from the MCC. Its first

witness statement comes from Snr Rafael Jesus Calvo Basarán. He describes the MCC as

being appointed “to coordinate the Mezzanine Lenders' participation in the restructuring of

[the group]”. The MCC is said to have continually highlighted that it sought to find a

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consensual solution that fairly reflects the Mezzanine Lenders' economic interests, and

that it remains committed to doing so. In other words, it is the negotiating party. Other

paragraphs describe direct dialogue between the SSC and the MCC. In his first witness

statement, Mr Douglas Evans, who has a lead responsibility in the MCC, provides details

of other dealings which the MCC has had, or sought to have. No reference is made to an

expectation that the boards of the scheme companies ought to be doing more. Any

complaints about a failure to agree, or a failure to deal, are made against the SSC.

58 All this is entirely inconsistent with the idea that the boards should have been

negotiating as the MCC now suggests. There is no evidence that the directors were ever

asked to do so, or ever had authority to do so, or could have ever have done so without

running the serious risk of treading on the MCC's negotiating toes. On the facts as they

appear from the evidence the duty in respect of which the Mezzanine Lenders are said to

have been in breach cannot realistically have existed, or at least not in any meaningful

sense. Coupled with the valuation evidence, the board would have been entitled to

conclude (if they had thought about it) that if the Mezzanine Lenders could not

themselves achieve anything, and in the absence of a request to do something, they (the

boards) were not obliged to start negotiating something else. Of course, there is no

evidence that the boards did think in that way, or indeed what, if anything, the board

thought about this aspect of the case, but that is because of the manner in which the

point was raised at the hearing, and its timing. I cannot draw any inferences or make any

other findings adverse to the directors in the light of those factors.

59 Nor is it clear what the directors ought to have, or could have, achieved in the

circumstances in which they found themselves. It does not seem that they had any

bargaining position. Mr Chivers sought to construct one. He relied on the following points

which he said should have been considered and deployed as appropriate by the board.

i) The situation was one in which enforcement was not in the interests of the SeniorLenders because it would have been destructive of value. What was required was aconsensual disposition on a going concern basis (as is proposed under the schemes).ii) The group had enough cash and cashflow to keep trading. It could do so profitablyand did not need the assistance of the Senior Lenders to do so (other than theirrefraining from enforcement). The ability to generate cash did not depend on the SeniorLenders.iii) The cashflow evidence showed that it would be possible for the group to pay futureinterest to the Senior Lenders, and even have some money for capital expansion,though it would not be possible to pay the Mezzanine Lenders as well. The board haddiscussed some sale and leaseback transactions to release cash. This sort of optioncould be further considered to assist future trading.iv) The Senior Lenders can be considered as having an asset with the enforcementvalue of the asset. However, obtaining the full value of the going concern asset, in theirown hands, requires the co-operation of the companies. It can be delivered only on aconsensual basis.

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v) This gave the directors a bargaining position. They could, in the words of Mr Chivers,have threatened to carry on trading. The Senior Lenders could only have stopped thatby enforcement action, which would not have been in their best interests. So thedirectors had some cards in their hands.

60 This seems to me to be somewhat unreal. The group was, on any footing, technically

insolvent. That does not of itself inevitably require any particular course of action, but it is

a starting point for considering the impropriety of continued trading. Some difficulties had

arisen in the trading companies - see above. The companies could not, on any footing,

keep down further debt as it arose. The directors realised that there were problems, and

set about addressing them by engaging in discussions with the lenders. There were, as

the directors recognised, events of default under the major credit agreements. They had

valuations, none of which suggested that the Mezzanine Lenders had an economic interest

in the group. To say that in those circumstances the directors had some bargaining power

when discussing with the Senior Lenders is somewhat unrealistic. The directors properly

engaged the major creditors in discussions. To start bargaining in those circumstances is

odd. And for them to threaten to carry on trading on those circumstances, when they had

quite properly recognised a problem about that, would arguably have been to threaten to

engage in wrongful trading. There was actually a risk of further deterioration in the

position of the trading subsidiaries. Furthermore, Mr Evans has acknowledged in his own

evidence for the Mezzanine Lenders that the group would remain in difficulties in

complying with its financial covenants and a capital restructuring was required. In those

circumstances to say that the board had a negotiating position in that it could have

threatened to carry on trading is unreal and inaccurate.

61 This is not to say that the board had no negotiating position at all. It did not have to

do whatever the Senior Lenders wanted. But it was not in a position to bargain for some

additional return to other creditors if the Senior Lenders resisted that.

62 Mr Chivers sought to demonstrate, by reference to Mr Russell's witness statements,

that what the board was doing was giving effect to the wishes of the Senior Lenders. That

does not seem to me to be a fair reflection of the evidence. The passages relied on by Mr

Chivers show that there were initial discussions involving all the “stakeholders” (including,

for these purposes the Mezzanine Lenders), but when they came to naught the directors

then agreed the schemes with the Senior Lenders as being the only people whom they,

the directors, could see as having an economic interest in the company. This does not

amount to looking only to the interests of the Senior Lenders in some culpable way. It is

agreeing to a scheme which the Senior Lenders were prepared to agree to, in the belief

that the scheme could not affect the interests of anyone else (because of the size of the

debt and the value of the assets), in circumstances where the Mezzanine Lenders (looking

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after their own interests) had not been able to do a deal with the Senior Lenders, and in

circumstances in which the Senior Lenders were entitled to clear priority rights over the

Mezzanine Lenders. The companies' agreement to the scheme was in substance

acknowledging economic and business realities.

63 In this context I need to bear in mind the extent to which the boards could be seen to

be acting independently. The board of Bluebrook (which can be considered to be the

material one for these purposes) comprises 7 directors. 5 of them (including two non-

executive directors) will be transferring to the new group once the restructuring is

completed. There is a bonus structure in place there which will give the directors

significant bonuses, including a bonus if interest arrears are recovered there. Their

independence might thought to be impeached, even though Mr Russell deposes to the fact

that the board has had independent professional advisers at all times. However, there are

two directors who are not transferring and who will not have any relationship with the

new group. All board decisions at the Bluebrook level have been unanimous, so those two

directors can be taken to have approved the restructuring. They are independent for

these purposes, so the schemes have had some independent scrutiny. It is true, as the

MCC observes, that there was no committee of independent directors set up to consider

the schemes, but the two to whom I have just referred can be taken to have brought an

independent judgment to bear. On the facts of this case that, in my view, is enough to

deal with any questions of lack of independence which might otherwise arise.

Other points said to go to unfairness

64 Mr Chivers pointed to other points which supported his allegation of unfairness or

which he said indicated that the schemes should not be approved.

65 He pointed to the £12m of senior debt being left behind in the existing group. He said

that this amounted to a hurdle left in the way of the Mezzanine Lenders should a

liquidator think about bringing proceedings against one of the professionals based on a

sale at an undervalue. The first £12m would still go to the Senior Lenders, so the

liquidator would have to be satisfied that the claim was worth more than that before he or

she thought it was worth bringing proceedings. It would, and was intended to, act as a

disincentive.

66 The Senior Lenders deny that that is its purpose. It is said by them, plausibly (albeit

on instructions, and not as a matter of evidence) that the £12m is left there just in case

there is some asset which, unforeseeably, comes in. It is there to enable the Senior

Lenders to pick it up - they would have been entitled to the benefit of it had it come in

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before the schemes. In the light of the overall picture I do not think that I should or can

find a sinister import in relation to this factor. In any event I do not understand how the

deterrence is said to work unfairly in the first place. The undervalue has to exceed the

amount paid by the Senior Lenders before the claim is worth thinking about. The Senior

Lenders will have paid £301m (treating the Senior Debt as being £313m). If the assets

are worth, say, £320m, generating an undervalue of £19m, then the first £12m goes to

the Senior Lenders anyway, leaving £7m for the Mezzanine Lenders. If the £12m had

been released and had not been left behind, then the Senior Lenders would have paid

£313m. The claim is now worth £7m, which again goes to the Mezzanine Lenders. In

other words, a claim has to be worth something to the Mezzanine Lenders before it is

worth bringing, and that value to them is the same whether or not the £12m is left

outstanding. So that makes it look even less sinister.

67 Mr Chivers went on to point out that directors of an insolvent company do not owe

duties to particular sections of the creditors only, and that a board of an insolvent

company cannot insist that the business of a company should survive as a going concern

- a dominant intention to preserve the business is not a legitimate consideration. In

support of these propositions he cited Re Pantone 485 Ltd [2002] BCLC 266 and Sydlow

Pty Ltd v Melwren Pty Ltd (1994) 13 ACSR 144 . The first of those propositions is true, but

is irrelevant on the facts of this case. The directors of the scheme companies have not

sought to act in the interests of one section of creditors at the expense, or to the

detriment, of the creditors as a whole. They have entered into arrangements with the

section of secured creditors with priority over subordinated creditors who, on the facts as

known to them, would not have any interest in the assets because of their subordination.

That is entirely different from the situation where directors advance the cause of one

creditor at the expense of other creditors who thereby lose a benefit they would otherwise

have. The second proposition is also plainly true. Where a company is insolvent, then a

consideration of whether or not to try to preserve the business as a going concern or not

must be guided by what is in the interests of the creditors and not by reference to some

unconsidered dominant intention to do so, or some dominant consideration to do so in the

interests of some third party without an adequate claim. In Sydlow there was a finding

that the directors had sought to preserve a business not in the interests of the company,

but in the interests of a third party whose success they wished to promote. That caused

detriment to the company and its general body of creditors. Again, that is not a proper

analysis of the facts surrounding the present schemes. The directors were not promoting

the continuation of the group business as a going concern in the interests of the Senior

Lenders and at the expense of the Mezzanine Lenders. They were assisting in a disposal

on a going concern basis in the interests of the company, because it procured a greater

level of discharge of debt than would be the case on a break up or insolvency disposition,

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in favour of someone who was, in effect, the sole beneficial owner of the assets anyway

(because of the security and subordination position) and not at the expense of the

Mezzanine Lenders at all (because of the valuations and the absence of an economic

interest in the asset).

68 Accordingly Mr Chivers' follow-up submission fails too. He sought to deploy the

principles that he got from those two cases to attack what the explanatory memorandum

described as the objectives of the restructuring - to create a new corporate structure for

the business with an improved balance sheet, and to avoid the prospect of having to put

some group companies into administration or liquidation which, if had occurred, would

lead to less recovery for the Senior Lenders than would be the case under the schemes.

Since, on the figures (and in particular on the valuation figures which the companies had,

unchallenged at the time by any rival valuation from the Mezzanine Lenders) and on the

priority arrangements, the Senior Lenders were the only persons interested in the assets,

the objectives (shared by the Senior Lenders) were not impeachable on that basis.

69 Mr Chivers went on to seek to draw some applicable principles from Re Greenhaven

Motors Ltd [1999] BCC 463 . He relied on it as demonstrating what the court does when a

compromise is before it and it does not produce a benefit for the creditors. In that case

the court was asked to approve a compromise entered into by a liquidator. The company

had no assets. It sought to compromise a possession action brought against it, and a

counterclaim against the claimant, by agreeing, amongst other things, to give up the

counterclaim. The Court of Appeal said that compromise should not be sanctioned. At the

end of his judgment Chadwick LJ said:

“The question for the court is whether a compromise which provides no

discernible benefits, but which just might do some harm to the creditors and

contributories, should be sanctioned. I am satisfied that that question should be

answered in the negative.”

70 Mr Chivers submitted that this case established that when considering the situation

where a corporate entity is releasing its claims, in order to assess the benefit to the

company you have to look at the benefit to persons other than the creditor who is

“compromising” with the company. You cannot, he says, merely treat the release of a

debt against the company as amounting to corporate benefit; there had to be some

valuable consideration, and the court had to be satisfied that the value of the asset being

transferred is at least equal to the value of the asset being received. On the basis of the

evidence, the court could not be satisfied that the assets being transferred were equal to

the value of the outstanding Senior Debt.

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71 It was not wholly clear to me whether Mr Chivers was relying on this submission in

support of his proposition that the schemes could not amount to a “compromise” within

the meaning of the section (as to which see the next section of this judgment), or

whether this was a point going to discretion. So far as it was the former, it does not assist

him. The case did not decide that the transaction in that case was not a compromise; it

held that it was not a compromise which the court should sanction. So far as it raises

factors going to discretion, it is operating in a different environment. The function of a

court asked to sanction a compromise by a liquidator involves considering whether the

interests of those interested in the assets of the company in liquidation are best served by

letting the company enter into the compromise, or by not letting it enter into the

compromise. This is not the same exercise as a court conducts when considering a

scheme of arrangement under section 899 . The latter exercise has been set out in a

number of well-known authorities, and while the exercise may in some cases share some

elements with the liquidation compromise cases, the emphasis and overall issue is

different – see for example the formulation by David Richards J in Re Telewest

Communications plc (No 2) [2005] 1 BCLC 772 at para 20. One only has to read that

formulation, and compare it with Chadwick LJ's summary in Greenhaven, to see why that

is the case.

Whether this is a “compromise or arrangement”

72 Section 899 of the Companies Act 2006 provides that parties may “agree a

compromise or arrangement” and the court may “sanction the compromise or

arrangement”. Mr Chivers submitted that the schemes did not fall within that wording. His

first point was that a compromise or arrangement involves an element of reciprocity of

benefit, and that in a situation in which one party gives up everything and gets nothing in

return then there is no compromise or arrangement. In support of this proposition he

relied on In re NFU Development Trust [1972] 1 WLR 1548 . In that case the scheme

provided that all existing members of a company apart from 5 gave up all rights in

respect of their shares, and that on a winding up all surplus assets were to be paid to

another body or company having the same objects, or to charity. Brightman J cited In re

Alabama, New Orleans Texas and Pacific Junction Railway [1891] 1 Ch 313 and went on

to say:

“The word ‘compromise’ implies some element of accommodation on each side. It

is not apt to describe a total surrender. A claimant who abandons his claim is not

compromising it. Similarly, I think that the word ‘arrangement’ in this section

implies some element of give and take. Confiscation is not my idea of an

arrangement. A member whose rights are expropriated without any


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compensating advantage is not, in my view, having his rights rearranged in any

legitimate sense of that expression.”

73 Mr Chivers sought to apply that to the present case.

74 It does not seem to me that it can be applicable. That was a case in which the

members were giving up their rights and getting nothing back in return. If the “right” (if

that is what it was) to have surplus assets transferred to another company might be

regarded as to some extent a right, Brightman J did not regard it as being one for these

purposes. The present schemes are nothing like that. The schemes release the scheme

claims, but it is part of an arrangement under which those claims are substituted by new

claims against the new group, and the assets of the existing group are to be transferred.

True it is that the scheme companies do not themselves promise to do much under the

scheme, but the schemes are part of a wider arrangement. The situation is really nothing

like that in the NFU case, where there was absolutely nothing passing back to the

members. It is right to describe the present schemes as being certainly arrangements,

and probably compromises as well. The present case is not a complete surrender.

75 Accordingly, the schemes within this case are, as a matter of jurisdiction, compromises

or arrangements within section 89 .

Other matters relied on by the companies and the Ssc

76 So far I have concentrated on the case of the MCC for saying that schemes are unfair

to the Mezzanine Lenders. The scheme companies and the SSC had their own points

which they relied on in support of their case that the schemes worked no unfairness

towards the Mezzanine Lenders. In many respects they were counterparts to, or answers

to, points made by the MCC, but I should deal with some of them.

77 Their combined cases relied on the following:

i) The scheme companies required restructuring. That was accepted by everyone,including the MCC, apparently.ii) The companies have obtained valuations of the business as a going concern, or haveconducted an exercise to see how much a going concern sale might realise (theRothschild exercise). Those valuations and exercises pointed to valuations which weremuch less than the value of the Senior Debt. They were proper exercises, notconducted on a break-up or even a fire-sale exercise (though the King Sturge exercisecame up with a figure for a quick sale as an alternative figure) and their results wereconsistent in that the best figures fell well short of the Senior Debt.iii) There were discussions which involved the MCC, and the SSC had been prepared toallow the Mezzanine Lenders some participation in the new group on a nuisance basis,but that has been withdrawn.

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iv) There was no obligation, given the valuations, to consider a scheme involving theMezzanine Lenders, who had no economic interest in the companies.v) By the time the schemes were put in place, the Senior Lenders had decided topropound schemes which conferred no benefit on the Mezzanine Lenders. They wereentitled to do that. The subordination arrangements left the Senior Lenders in a positionin which they could enforce their rights, and procure the release of any interests of theMezzanine Lenders which would technically stand in their way. What the restructuringdoes is in essence to give effect to something which the Mezzanine Lenders are not in aposition to resist.vi) The Senior Lenders could bring about an auction of the companies now, andthemselves bid up to the value of the senior debt without causing any additionalprejudice to themselves or the Mezzanine Lenders. Such a state of affairs would havethe same effect as the overall arrangements of which the schemes form part.vii) The Mezzanine Lenders have a safeguard in the form of clause 12 of theIntercreditor Agreement . If they really thought that the debts were being sold at anundervalue, or at a price which gave the Senior Lenders a good prospect of a benefit inthe future which was unfair to the Mezzanine Lenders (because it deprived them of thatbenefit) then they could buy out the Senior Lenders and do the restructuringthemselves, with the benefits which they claim to flow from the restructuring to theSenior Lenders. They have chosen not to do so. They do not seem to want to run therisk.viii) The Senior Lenders were not just helping themselves to assets with a value inexcess of their debt. They were not fully enforcing at this stage (in the sense of havingthe assets sold and applied to reduce their debt). They are leaving debt outstandingand turning debt in to equity, so as to allow trading to continue. They were taking arisk, which was a genuine risk in that it might not work and which might leave themworse off at the end of the day. The affairs of the new group might not flourish, andthey will bear the risk of that.ix) Absent these schemes, enforcement is a very serious possibility, if not aninevitability. It is no answer to say, as Mr Evans does, that enforcement is notinevitable because a deal can be done with Mezzanine Lenders. There is no certainty ofa deal, and the deal that has been proposed by them (see below) is unattractive.x) The overall arrangements provide an additional safeguard in that an administratorhas to be satisfied that the deal is appropriate on the figures.xi) There is no realistic alternative to the arrangements (and therefore the scheme)other than a full-blown enforcement, which it is common ground will not see the SeniorLenders paid out completely. Under a “Lock-Up agreement” 85% of the Senior Lenders(by value), and the companies, have signed up to this, and no other, restructuring, andhave opposed any alternative to the schemes.xii) The arrangements and the schemes are to the benefit of the companies because alot more debt is being written off than the value of the assets which are beingtransferred.

78 I accept all those points, and do not need to elaborate on most of them. However, one

or two of them should be dealt with.

79 The Senior Lenders have decided to run a risk, which is a real one in the

circumstances. If the business does not succeed, then they may end up being worse off

than they are now. If it does succeed, then they will be better off. It is their decision to

run that risk, and neither outcome is certain. It is to be assumed that the Senior Lenders

think it is more likely that they will succeed than that they will fail – otherwise they would

not enter into the overall arrangements. But there is nonetheless a risk, and it is a real

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risk to them. It is a risk that the Mezzanine Lenders are not prepared to run themselves –

they are not prepared to buy out the senior debt and take over the arrangement. Their

response is to say that they should have a slice of the benefit after the Senior Lenders

have had a proper return. Their most recent proposals allow the Mezzanine Lenders a

return when the Senior Lenders have had an additional return of 19% over 3 years. Mr

Dicker submitted that that was not much better than putting the money into a savings

account, and there is something to be said for his point. It does not strike me that that is

a very handsome return for the risks being undertaken, though I received no evidence

about that. However, I cannot make a real finding about it, which illustrates another of

the difficulties about the MCC's approach. They say that I should refuse to sanction the

schemes, leaving the parties to negotiate again so that the MCC can seek to agree

another deal, and that that is a sensible and legitimate aim. But it does not seem very

sensible to me. How am I to know that the MCC will not make unreasonable demands? If

it matters, how is the reasonableness of those demands to be measured in the present

circumstances? How can I be at all confident that there would not be a full enforcement

(which the Mezzanine Lenders could not oppose) with a loss of value to the Senior

Lenders and no return at all to the Mezzanine Lenders? The fact is that I cannot. Refusing

to sanction the scheme in order to throw the parties into a further negotiation is not a

legitimate or sensible use of the court's power. I have to judge the schemes as they are,

on their merits, and either sanction them or refuse to sanction them. If I do the latter, the

parties will have to take their own course in relation to future negotiations or future

tactics, but that will be the result of a refusal to sanction on grounds other than a wish to

generate a further negotiation.

Conclusion

80 In the light of my findings and determinations above, then as between the scheme

companies and the Senior Lenders on the one hand, and the MCC and the Mezzanine

Lenders on the other, it seems to me to be right to sanction the schemes, (or at least not

to refuse to sanction them) and I so find. The Mezzanine Lenders are not bound by the

schemes, and therefore their legal rights are unaffected. So far as it is said that in the

circumstances the schemes are part of an overall arrangement which works unfairly to

them, I find that they do not. I do not consider they have a relevant economic interest in

the scheme companies.

81 In these circumstances I will go on to consider the remaining matters which have to be

considered in order to decide whether or not to sanction the schemes.

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