Vol 4 (2007) - Issue 4

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The European High Yield Association’s Proposals to the UK Treasury

The European HighYield Association (‘EHYA’) is a trade association representing participants in the European high yield bond market. It has various committees and subcommittees, including its European Insolvency Reform Committee. That Committee, which we co-chair, includes numerous insolvency professionals with experience of recent insolvencies and restructurings, and who will doubtless be at the forefront of the much-anticipated wave of restructurings to come. The Committee recently submitted to the UK Treasury a paper outlining its views on the urgent need for insol-vency reform in the UK.

There is no doubt that European finance structures are becoming ever more complex, and investors are becoming ever more diverse. Restructurings during the 1990s typically only involved bank debt and, after the appearance of high-yield debt in Europe, possibly subordinated bonds. Since then, however, as investors have sought greater security and a wider range of debt instruments, a typical capital structure may have many more layers and detailed intercreditor arrangements. In addition, investors themselves are coming from a wider range of backgrounds; traditional UK bank lenders are being joined by a variety of institutions, from European debt trading desks to US hedge funds, as both primary and secondary investors.

What are these people finding when it comes to ana-lysing the default and enforcement context in Europe? Rather surprisingly, it might seem, most of the major restructurings of recent years have taken place without any form of court supervision. In the relatively buoyant market of the last two to three years, there have not been many significant defaults, but perhaps the two most prominent recent restructurings have been those of Jarvis and Polestar. Jarvis implemented a debt for equity swap through bilateral agreement and facilitative shareholder resolutions; Polestar effected its debt restructuring through a pre-packaged administrative receivership. The most high-profile restructurings of the last wave – such as, for example, Marconi, Telewest and British Energy – generally only went to court to bind minority creditors under section 425 of the Companies Act 1985, which was never intended to be a centrepiece of the UK insolvency regime. There is no overall court supervision of this form of debt restructuring.

It is not difficult to see why formal statutory processes have been avoided. Formal insolvency proceedings are regarded by markets and stakeholders as destructive of value. There are many and varied reasons for this, but the principal ones seem to be as follows. For all the promotion of the ‘rescue culture’ among politicians and investor bodies, in the wider commercial world, as far as Europe is concerned, filing for an insolvency proceeding is still perceived as reflecting corporate failure rather than rescue, which depresses confidence in the business and enterprise value. Then, even though enforcement action against the company might be restricted by law, contract counterparties often have the freedom to walk away from their contracts with the distressed company if it files for administration or a CVA. This discourages filing, and where the company does file, this freedom has a direct impact on the viability of the business. Further, difficulties in obtaining funding during administration also make it difficult for the company to trade through the proceeding.

The EIR Committee considers that the ‘out of court’ restructurings (that were used as the model in the last restructuring cycle) will face greater challenges in the next restructuring cycle because of the more complex capital structures in the market and the multiplicity of parties.

It cannot be right for these challenges to be resolved or determined by market forces. Stakeholders approach each restructuring with their own agenda and strategy, often looking for positions of control and influence to gain leverage, not always seeking common ground and consensus. The absence of a predictable, supervised restructuring process creates a considerable layer of un-certainty, increases costs and can alter the economics of a deal. Fashioning ad hoc restructuring frameworks around market driven influences will result in greater transaction risk and higher costs of capital. It is clear to us that steps need to be taken to facilitate a more predictable outcome for corporate restructurings in the UK.