Scottish Lion

Now that the sale of Scottish Lion to Berkshire Hathaway has been announced, it is appropriate to review the various stages in the history of Scottish Lion's attempts to put in place a solvent scheme of arrangement.

The first attempt, in 2005, was abandoned after a Scottish court ruling that a list of all scheme creditors should be made available to certain objectors.

A second scheme was promoted in 2009 and meetings of scheme creditors were convened to approve the scheme. Scottish Lion was by this time under new ownership.

This second scheme has been described by some as being particularly aggressive and, in spite of an apparent vote by the requisite majority in favour of the scheme at each of the creditors' meetings, it was opposed at the sanction stage by a group of US creditors. The principal grounds of objection were that the valuation of votes by the Chairman and the Independent Vote Valuer was flawed, so that in reality the requisite majority was not obtained at each meeting; that the estimation methodology was improper, and in particular was seeking to impose an "all sums net of contribution" methodology on policyholders whereas the policies were governed by US law and under the law of some or all of the relevant states a pure all sums basis was to be applied; and finally that it was unfair for the company to seek to transfer the risk back to the policyholders by terminating the cover and paying to the policyholders a sum which might in the end not prove adequate.

Lord Glennie dismissed the petition at a Case Management Conference in October 2009, after having delivered an Opinion in September 2009 which did not purport to be final but contained two very significant rulings. On the valuation issue, he ruled that the court is entitled to examine the valuation of votes both in favour of and against the scheme, because if the requisite majority has not in fact been obtained, there is no jurisdiction to sanction the scheme. This ruling was no surprise. There are no express rules for the conduct of meetings to approve schemes under Part 26 of the Companies Act, and in particular for the acceptance and valuation of disputed claims for voting purposes, but an analogy may be found in the Insolvency Rules relating to meetings convened to approve voluntary arrangements, another case where a 75% majority in value is required. These rules expressly provide that if there is a dispute as to the validity or amount of a claim for voting purposes, the Chairman of the meeting should admit the vote but mark it as objected to, and if it is material, the court will decide the matter, after hearing all the evidence, and is not restricted to whatever evidence might have been presented to the Chairman of the meeting at or before the time of the meeting.

In this case the basis for valuation affects both the valuation of claims for payment purposes in the scheme if it becomes effective, and also the question of whether the 75% majority in value was achieved.

On the question of fairness, the Lord Glennie echoed remarks of Lewison J in the British Aviation Insurance Company case, also in 2005. Lewison J considered that it was unfair for insurance companies, which are in the risk business, to terminate cover and retransfer the risk back to dissenting policyholders who are not in the risk business. Lord Glennie also expressed the view that where a company is solvent, "creditor democracy" should not be allowed to prevail and a scheme could not be forced upon dissenting creditors unless there was a particular problem to be solved or the scheme had benefits for the creditors. He followed the view taken by Lewison J that what were described in the scheme document as advantages of the scheme were in reality advantages for the company, not for the scheme creditors.

Different considerations apply where the company is insolvent, or marginally solvent, or where a particular issue needs to be addressed, as there was in the Equitable Life case, and pools have problems of their own, which can mean that any solvent scheme will have benefits for the policyholders.

Lord Glennie in his Opinion formally left it open to the company to come back to court to demonstrate some benefits for the creditors, whilst making it clear that in the absence of any such benefits he would not sanction the scheme. It seems that the company considered that there was no point in taking this issue further at first instance and that it would be better to proceed straight to appeal on this issue.

There was no appeal against the ruling on the valuation of votes. Lord Glennie's decision on this point was obviously correct. The Scottish Court of Appeal (the Inner House of Court of Session) overturned Lord Glennie's decision on whether "creditor democracy" should be allowed to prevail. Lord Glennie's ruling on this point was novel and had no basis in the authorities which the appeal court reviewed at some length. The Court of Appeal sent the case back to Lord Glennie for a full sanction hearing. This would have involved a review of  the valuation of votes, which was necessary in order to decide whether the statutory majority had in fact been obtained. It would also have had to decide the substantive issue of whether to exercise discretion in favour of sanctioning the scheme.

It was clear that the full sanction hearing would be heavily contested, and it was by no means clear that the company would succeed. In any event it always seemed likely that, if the judge at first instance decided to sanction the scheme, the opponents would appeal to the Scottish Court of Appeal.

In the circumstances the decision of the company's owners to sell to Berkshire Hathaway was a logical conclusion. Their aim was clearly to be able to extract the surplus capital relatively speedily, after providing for all the creditors. When it became clear that this was not going to be achieved any time soon, if at all, it was natural that they would seek other means of extracting the surplus capital. Berkshire Hathaway had previously bought NRG Victory after that company's attempt to promote its solvent scheme had to be abandoned, and more recently Berkshire Hathaway purchased the rump of the Equitas run-off. It is no secret that their strategy is to remain in for the long run and they were therefore natural purchasers for a company unable to promote a solvent scheme.

Comment by Peter Fidler
Senior Counsel, Insurance & Reinsurance Group (London)

From the lawyer's point of view it is a pity that some of the contentious issues raised in this case will not be decided. From a legal standpoint the net result of the whole episode is to leave us exactly where we were before this scheme was put forward. From a commercial point of view the scheme process in some circumstances is beginning to appear to be lengthier, more costly and more hazardous than hitherto and other exit routes, such as a sale or a Part VII transfer, are looking more attractive to some.

Contacts

The information in this article is for general guidance only and is not intended to be a substitute for specific legal advice. If you would like any further information please contact:




Peter Fidler
Senior Counsel, Insurance & Reinsurance Group (London)
t: +44 (0) 20 7556 4153
e: PFidler@eapdlaw.com