October 2011
By Deborah Gudgeon
Deborah Gudgeon asks what conclusions pension trustees can draw from recent examples
We have not seen the level of corporate failures that was anticipated over the last few years, but there have been a number of high profile administrations involving defined benefit pension schemes recently which give trustees plenty to reflect upon.
The implication of the Nortel and Lehman rulings has strengthened the position of TPR and trustees in certain circumstances but has led to great uncertainty in the restructuring community and negatively impacted the availability of new funding in some distressed circumstances. Under these rulings, the High Court held that financial support directions (FSDs) fell to be treated as an expense of that administration - ranking after secured creditors but above administration costs and unsecured creditors.
However, the ruling only applies to FSDs issued after the appointment of an administrator and FSDs already in issue will continue to be treated as an unsecured creditor of the business. From a restructuring perspective, this creates an untenable position with the potential threat of a preferential and material liability crystallising post appointment of the administrator.
Legal consensus is that the appeal will not be upheld and that the law will need to be changed to resolve what even the presiding judge felt was an anomalous ruling. In the interim, it was expected that the ruling would lead to a preference among creditors for restructuring rather than administration where there was a defined benefit pension scheme involved. However, both Silentnight and Polestar illustrate that there are also inherent pitfalls for pension funds in restructuring proposals.
In the case of Silentnight, HIG Capital acquired the senior secured debt and overdraft of the business, seeking to secure it’s future via a Creditors Voluntary Arrangement which requires the approval of 75 per cent (by value) of unsecured creditors. Crucially, the pension scheme is valued on a Section 75 basis for the purpose of a CVA and this normally means the pension scheme can veto any agreement.
The proposed CVA offered differing terms to the unsecured creditors - this was widely rumoured to be 65p in the pound for trade creditors and only 6p in the pound, and a 10 per cent equity stake in the business, for the pension scheme. Although supported by suppliers, employees and HMRC, agreement could not be reached with the PPF who assessed that the scheme would receive more in an administration.
HIG Capital exercised its legitimate power as a secured creditor to put the business into administration, buying the core trade and assets from the administrator contemporaneously and paying nothing to the pension scheme or the PPF. It is not clear what the return to the unsecured creditors will have been in the administration but it will have reflected greater equality between the trade creditors and the PPF than the proposed CVA.
The chronology at Polestar is somewhat different as TPR had agreed in 2006 that the company could hive off its pension fund liability, estimated at £150 million, in return for payments totalling £45 million over 12 years. There was no employer insolvency event but the transaction was part of a restructuring by the investors. In 2010, the trustees agreed to defer payments totalling £2.5 million as Polestar was again in financial difficulties.
As the company continued to suffer from poor trading and a massive debt burden, the trustees were faced with an ultimatum - to accept a one-off payment of £3.5 million in full and final settlement of the pension obligation or to maintain its claim to future payments and effectively take their chances in the administration. Upon their acceptance of the £3.5 million, Polestar was sold to Sun Capital Partners for £1 and assumption of £95 million of debt.
These recent examples raise some interesting questions, in particular how do we balance a "corporate rescue" culture with the interests of pensioners when pension fund deficits are generally a material factor in insolvency. Shedding liabilities via a pre-pack is entirely legal and creating an obligation on new owners to meet unsustainable and volatile pension obligations would inevitably lead to more business liquidations. However, the status quo is open to potential abuse. Meanwhile, trustees may wish to seek independent advice at an early stage to negotiate the optimal position for the pension scheme amongst a myriad of competing stakeholders.
Written by Deborah Gudgeon, director at Gazelle Group
