12.7 Chapter 7: Critique of the English scheme of arrangement

Chapter 7 offers a comparative analysis and critique of the English scheme of arrangement.

The cost and complexity of a scheme are a point of critique. The procedure could be streamlined and made considerably faster, easier and cheaper by doing away with the need for the first hearing, by allowing creditors to vote without the need to hold meetings, and by having a sanction hearing only if an interested party so requests within a certain period. When it comes to voting the head-count test should be abolished. A further shortcoming is that the scheme contains no provisions for dealing with executory contracts, in particular ipso facto and change-of-control clauses.

A constraint on the possible contents of a scheme is the requirement that a scheme must always contain an element of give and take. This is an obstacle to using a scheme for the purpose of eliminating the rights of parties who no longer have an economic interest.

In this regard, another flaw of the scheme of arrangement is that it contains no provision for imposing a scheme over the objections of dissenting out-of-the-money classes. A scheme has no cram-down mechanism. It therefore cannot be used on its own to extinguish the rights of dissenting classes that have no economic interest. In order for dissenting out-of-the-money classes to be removed from the capital structure, the assets of the company have to be transferred to a new entity (a transfer scheme). This is unwieldly and not always possible or desirable.

A further shortcoming of the scheme is that creditors cannot implement a scheme without the approval of the company (i.e. the controlling shareholders). As long as this is the case, the introduction of a cram-down mechanism in England will not be effective in dealing with controlling shareholders who are out-of-the money and who seek to extract hold-out value. These shareholders will still be able to use their control to prevent the company from proposing a scheme, or consenting to a scheme that one or more creditors have proposed, under which the existing shareholders would receive nothing.

The scheme of arrangement currently contains no insolvency test. If the scheme were to be supplemented with a cram-down mechanism, the introduction of an insolvency test, in my view, cannot be avoided. There is insufficient justification to interfere with parties’ rights, and all the more so where the interference occurs against a majority will, if the company is solvent and there is no true need to interfere.