LONDON (LPC) – The UK government could face hefty losses on loans made to struggling businesses during the Covid-19 pandemic due to its new insolvency law that can force lenders to accept unfavourable terms during a debt restructuring process.
The new ‘Restructuring Plan’, part of the government’s Corporate Insolvency & Governance Bill being debated in parliament this week, empowers one class of creditors to force a debt restructuring plan on another class of creditors, in what is known as a cross class cramdown.
It therefore gives a majority of creditors the power to force a debt restructuring onto a single class of creditors who do not agree with it.
This could result in the government having to accept debt write offs on Coronavirus Business Interruption Loans (CBILs) and Coronavirus Large Business Interruption Loans (CLBILs), which are 80% guaranteed by the government.
“We expect to see restructurings in the second half of the year that include these (government guaranteed) bank loans,” said one restructuring lawyer. “Under the new laws you can now cram down a single class — it would be ironic if this class was these loans.”
The new law requires 75% of lenders, based on value across all the classes, to approve a debt restructuring. This is a far lower hurdle to overcome than the current UK scheme of arrangement system, which requires 75% by value and 50% of creditors in each class to approve the plan before it goes to court. The new law has the ability to cram down a dissenting class unlike the old system.
SUSCEPTIBLE
Some £8.9bn of CBILs were approved by the end of May, providing small and medium-sized businesses with loans of up to £5m each. The vast majority of the loans are unsecured and sit lower down the capital structure, making them susceptible to the will of higher-ranking lenders.
“There is no carve-out in the bill for CBIL loans, and so yes, they could be written down as part of a restructuring. The bank that provided the CBIL loan would be able to rely on the government for a shortfall of up to 80% of the loan,” a second lawyer said.
The loans could be written off completely or they could end up as part of a debt for equity plan, with the government left holding equity stakes in businesses.
“I think a lot of CBILs will be converted into equity – the government could end up the largest minority equity holder in the UK,” a second lawyer said.
SLOW TAKE UP
CLBILs, which provide larger corporates with loans of up to £200m, will mainly be secured. As they will rank on an equal basis to existing senior secured lenders, the debt is less likely to be crammed down.
However, the situation is complicated by the fact that existing senior secured lenders have to agree to a dilution of their security when a company takes a CLBIL. Restructuring advisers believe this is why the take up of these loans has been so low, with only 154 agreed so far.
It could also create a more complicated restructuring process where senior secured lenders become pitted against each other.
“Normally secured lenders would form one class in a restructuring, but there is scope for gerrymandering where some secured lenders form a different class and try to override another,” a third restructuring lawyer said.
Under the new bill, there are some safe guards against this as a court has to be satisfied that none of the dissenting classes would be any worse off under the plan than they would be in the event of an alternative process such as a liquidation.
However, the final approval of the plan lies with the judge.
“It is a bit of a blunt instrument as it is. It will come down to how competent a judge is in understanding what is fair and what the motivations are of the different classes of creditors,” a fourth restructuring lawyer said.
(Editing by Claire Ruckin and Christopher Mangham)
