Sino-Ocean tries UK-style workout
The debt restructuring of Chinese property developer Sino-Ocean Holdings is shedding light on a relatively new regime introduced by the UK at the peak of the Covid pandemic called "restructuring plan under Part 26A", which offers borrowers more flexibility compared to the standard scheme of arrangement.
The main difference between a Part 26A restructuring plan and a scheme of arrangement, which has been the usual route in Asia, is that the former allows a cross-class "cram down" and removes the obligation of a 50% approval threshold (by number of votes).
While a scheme requires the support of all classes, the Part 26A plan can be passed with one class approving and binding other dissenting classes.
“Under English law the options include scheme of arrangement and restructuring plan under 26A, which includes the concept of a cross-class cram down. If you’re the issuer, of course you may go to the one with more flexibility,” said Richard Woodworth, a restructuring and insolvency partner at Linklaters.
Sino-Ocean said in July that it planned to implement its restructuring through a combination of mechanisms including Part 26A, as well as schemes of arrangement in the UK, Hong Kong or other jurisdictions and a consent solicitation. If the deal goes through, it would be the second major Asian restructuring implemented through Part 26A following Hong Kong Airlines in 2022.
All the developer’s bonds are governed by English law and are split into three classes (B, C, D), making it a prime candidate to use Part 26A. However, its offshore loans (Class A) are governed by Hong Kong law, meaning that Sino-Ocean needs to gain consent from creditors to commit to English law to fully utilise the regime.
“Although they have 22 bank loans governed by Hong Kong law, these loans hold a better position than bondholders, hence the willingness to amend the documentation to English law,” said Foreky Wong, founding partner at Fortune Ark Restructuring.
Sino-Ocean’s restructuring is still in progress and has met strong opposition from bondholders so far. Bondsupermart analysts said in an article in July they view the terms are more favourable to bank creditors.
The developer said at the end of August that it had gained the support of 72.5% of Class A creditors but did not disclose the level of support from bondholders. The threshold to pass the restructuring is 75% in value.
Even if the proposal crosses the 75% bar, cramming down the dissenting bondholders in classes B, C and D is not a foregone conclusion.
“It’s an extremely aggressive proposal, which is very favourable to certain stakeholders in the company and imposing a lot of pain on bondholders … So even if the company is able to achieve 75% consent of one class, there are serious questions about whether they will be able to implement the cross-class cram down,” said Linklaters' Woodworth, who is representing an ad hoc group of bondholders.
In general, a cross-class cram down comes with two conditions: none of the dissenting class should be worse off than they would be in the “relevant alternative”, and at least one class, which would receive a payment in the “relevant alternative”, approves it.
What constitutes the relevant alternative is a matter of debate. A Hong Kong-based lawyer said the liquidation analysis should be used as the alternative, a view held by many market participants, but Woodworth said that alternative restructuring proposals should be considered.
“So the point that may be litigated is, if this deal doesn’t happen, would the consequence be liquidation? Or would the consequence be an alternative restructuring proposal?” Woodworth said.
New regime
The restructuring plan under Part 26A was introduced by the UK in 2020 to rescue companies in financial distress during the Covid-19 pandemic.
Most of the Part 26A provisions are similar to the English scheme of arrangement. Companies need to have a connection with the UK – for instance have debt governed by English law – and treat all creditors fairly. A convening hearing and a sanction hearing must be held to decide on the classes set up and the fairness issue.
Judges will also take a number of factors into consideration to sanction a cross-class cram down.
“The other thing the judge will look at is the voting patterns,” said Woodworth. “Who are voting in favour of the proposal? Is it just creditors who are getting a special fee or related party creditors who are pushing this through? Or is it genuine support from independent creditors who don’t have other relationships with the group?”
Part 26A requires 75% support in value but not 50% in number, which removes the risk that restructuring plans will be blocked by small bondholders.
“If plans achieve support from 75% in value, indicating all major creditors' agreement, smaller creditors cannot block the deal to seek greater benefits for themselves. We have previously managed deals where certain obstinate creditors attempted to obstruct the scheme for their own gain, ultimately to the detriment of everyone involved,” said Fortune Ark Restructuring's Wong.
Not for everyone
While the terms of Part 26A are appealingly flexible, market participants do not expect many defaulted Chinese property developers to take that route due to jurisdiction issues.
UK courts can only sanction a restructuring of English law-governed debt, so for Chinese developers with debt under Hong Kong laws there are high hurdles.
The simplest solution is having all holders of Hong Kong-governed debt consent to commit to English law, as is the plan in Sino-Ocean’s case.
Failing that, there would have to be a parallel scheme of arrangement in Hong Kong. But without a similar cross-class cram down mechanism in Hong Kong, uncertainties remain whether the restructuring can be sanctioned there.
Hong Kong Airlines did a parallel scheme of arrangement in Hong Kong in addition to the restructuring plan under Part 26A, but the case did not utilise the cross-class cram down feature.