Insurance: Appeal Upheld Reversing Dismissal of Scottish Lion Scheme of Arrangement

The Inner House of the Court of Session (Scotland’s civil appeal court) has unanimously upheld an appeal against the previous dismissal of the Scottish Lion Scheme of Arrangement and has remitted the petition back to the first instance Judge, Lord Glennie. This reverses Lord Glennie’s Opinion (delivered in September 2009) that appeared to have the effect that Schemes of Arrangement, whereby solvent but run-off UK insurers can crystallise their liabilities and wind up a company, should not be sanctioned unless creditors unanimously vote in favour of the proposal.

Background

Scottish Lion had been in run-off since 1994 and its remaining portfolios contained business with exposure to asbestos, pollution and health hazard losses which all could give rise to future claims. Scottish Lion proposed a Scheme of Arrangement with all of its creditors in relation to its underwriting business, which would bring the run off and its associated uncertainties to an end. Five creditors objected to the Scheme on the grounds that it amounted to a “confiscation of their valuable rights, for which they have paid substantial premiums, for no or wholly inadequate compensation.” Scottish Lion filed a petition for the sanction of the Scheme.

The minority creditors (American corporations with IBNR claims) challenged the decision of the chairman of the creditors’ meetings that the requisite majority of creditors (75%) were in favour of the Scheme. They contended that the methodology employed by the chairman to evaluate claims for voting purposes was not fair and reasonable.

At first instance Lord Glennie held that, where a company is solvent, a majority of creditors should not always be able to compel a dissenting minority to be bound by a Scheme of Arrangement. For more detail on Lord Glennie’s decision click here

The Appeal

The issue for the Inner House was whether Lord Glennie was entitled to dismiss the petition essentially upon a preliminary point: “namely that, this being a ‘solvent scheme’, the petitioner could not succeed in its opposed application for sanction in the absence of an offer to establish that there was ‘a problem requiring a solution’.” The court found that Lord Glennie had erred by resolving the preliminary point in favour of the creditors and dismissing the petition, and the case should be referred back to first instance to proceed accordingly.

Scottish Lion had applied for sanction of the solvent scheme under section 889 of the Companies Act 1870. The judges found that there was nothing in the Companies Act (or subsequent legislation) to suggest that applications for sanction of a solvent scheme are in principle to be dealt with differently from those where the company is insolvent or on the verge of insolvency. Solvency is only a factor to be taken into consideration.

The existence of a “problem” – as in an adverse situation facing both the company and its creditors – may be a factor in favour of the granting of sanction. But, the Judges held that this was not “a precondition to the sanctioning of a scheme, whether solvent or otherwise”. It was for the court, having regard to all the evidence to decide on sanction, using its discretion over “the balance . . . of advantage over disadvantage of the scheme”. The onus to satisfy the court rests on the petitioner as applicant.

The scheme was a proposal that the creditors would be entitled to receive certain sums based on a scheme of valuation, the payment of which would discharge their contingent claims. The minority creditors would prefer to retain their existing rights but the Judges said that the loss of these contractual rights “cannot be said a priori to be something which would disable the court sanctioning the scheme”.

Ultimately, the Judges could “see no basis in the authorities for the view that ‘creditor democracy’ operates only where ‘failure to agree would ruin it for all’”.
The argument that the proposal in this scheme was unreasonable needed to be addressed when the whole relevant factual circumstances were before the court. At that stage, the argument that “insured with long tail policies are being required to accept current estimated values in lieu of their contingent claims may, possibly with other arguments, win the day”.

At the present stage, this argument was not “so overwhelming a factor against the granting of sanction” so as to deny the petitioner the chance to establish the positive benefits of the scheme, as well as the “soundness and robustness” of the procedures it had put in place for valuing claims.

The Judges also held that account should be taken of “any contention that some of the creditors who voted in favour of the scheme had a special interest by reason that compositions had been privately agreed with them in advance of the vote. That might, if established, be a ‘blot’ on the scheme”.

Comment

• The Opinion of the Inner Court of the Court of Session has been hailed as a “landmark” decision that will bring clarity and certainty to the run-off market.
• The Judges confirmed that in principle, when applying for sanction, solvent schemes of arrangement should not be treated any differently from insolvent schemes. Solvency is only one factor to be taken into consideration. Further, the loss of dissidents’ contractual rights under a scheme was similarly only one factor, not a reason to dismiss the sanctioning of a scheme. The court has a discretion to sanction a scheme, having regard to all the evidence before it, by looking at the balance of advantages over disadvantages.
• However, as an indication of what may be expected for the future sanctioning of schemes, the Judges stipulated that petitioners in favour must be able to demonstrate “the positive benefits of the scheme, as well as the soundness and robustness of the procedures it has put in place for valuing claims”. Ultimately, although the original ruling has been overturned which must come as a relief for future administrators of solvent schemes, the onus has been left on them to demonstrate that they have treated all policyholders equally, before a scheme will be sanctioned.

Further reading:
Opinion of the Inner House of the Court of Session delivered by the Lord President in the Petition of The Scottish Lion Insurance Company v (First) Goodrich Corporation and Others [2009] CSIH 9