Petrofac Court of Appeal Hearing: Saipem and Samsung Narrow Petrofac Appeal to No-Worse-Off and Fairness Grounds; Open Offer Valid Until 7 Days After Ruling 

Relevant Documents:
Appellant’s (S&S) Skeleton Argument
AHG Skeleton Argument
S&S Annex
Respondent’s (Petrofac) Skeleton Argument

Petrofac’s Court of Appeal hearing began today in the English High Court before Justice Snowden, Justice Zacaroli and Justice Christopher Floyd. The hearing is scheduled to finish on Wednesday June 4.

The appellants, Saipem and Samsung, or S&S, joint venture partners on the Thai Oil project and competitors of Petrofac, are appealing Justice Marcus Smith’s sanction judgment of May 20.

Both sides agree that S&S are unsecured creditors under Part 26A and are likely to receive virtually zero in an insolvent liquidation – the relevant alternative, or RA – on which their share of the restructuring surplus is based. If Petrofac ceases to trade, they could benefit from at least $300 million of additional profits from losing it as a competitor. Therefore, in a wider context, S&S are much better off.
 

S&S argues the primary purpose of the plan is so that Petrofac can divorce itself from hefty losses of over $1 billion from the Thai Oil project. In legal terms, should they be able to walk away from a commercial contract in which they are jointly and severally liable for losses alongside their commercial partners, plus lump any future liabilities upon them?

Justice Marcus Smith had said that the case revolved around the direct financial benefits under the plan and the indirect economic benefits from the hypothetical liquidation of Petrofac.

Smith ruled that the indirect economic benefits were too remote and too hard to quantify; therefore, he rejected that the court had jurisdiction to consider them under the no-worse-off test, and instead the commercial aspects should be considered on fairness grounds under the court’s discretion to sanction.

S&S had argued that the plan was unfair because the benefits of the restructuring disproportionately flowed to the five-member ad hoc group Creek Advisors, FIL Investments International, Mason Capital, Fortress, and Sparta Capital Management and other new money providers, such as Nut Tree Capital.

They relied upon the recent Thames Court of Appeal judgment, which focused on benefits preserved and generated by the restructuring, and prior guidance from the courts that the views of out-of-the-money creditors should carry little or no weight was too rigid.

Smith said that the value flowing to the new money providers was justified given the substantial risk that they were assuming. He also relied on the fact that a significant proportion of the new money ($226 million) came from creditors who have no prior involvement in the Petrofac Group, and therefore the group does not owe them anything.
 

Ground 1 – No worse off

Smith had said that the indirect economic benefits to S&S from an insolvency were too remote and were hard to quantify.

This was a slightly unfair description of the evidence, say S&S in their skeleton. They had filed two expert reports – and the plan companies had not opted to cross-examine their experts. And in any event, “the court does not avoid making findings as to losses/benefits in the counterfactual just because they might be difficult to quantify.”

The argument that S&S would be better off in the relevant alternative because they would face less competition for future work and might potentially earn additional profits on new contracts is plainly wrong, argues Petrofac. If every creditor who happened to be a competitor of any company proposing a Part 26A plan would always be able to say that it has an anti-competitive incentive to see the company fail – the Part 26A regime would be rendered unworkable.

“Such an argument is contrary to the rescue culture, inherently anti-competitive and deeply unattractive,” adds Petrofac.

S&S denies that their case involves a “comparison between incomparables, comparing apples and oranges instead of apples and apples,” because the “economic consequences of Petrofac’s liquidation need to be considered in the round.”

The purpose of 901G(3) is clear, argues S&S – it is to offer “strong protections” to those whose rights are being affected by the plan – and is concerned only with comparing a creditor’s position in a restructuring plan with its position in the relevant alternative. There is nothing in the statute that requires a consideration of matters “in the round” at this stage of the analysis.

S&S submits that the proper approach for the court is to ask whether the benefits that the creditor would obtain in the relevant alternative are sufficiently closely connected to the underlying debtor-creditor relationship that the plan company seeks to compromise.

Petrofac unsurprisingly takes the narrow view adopted by Smith. The no worse off test should be focused solely on the rights of the plan creditors inter se and in their capacity as such. Due to the group’s dire financial position, the reality is that the appellants will have no choice but to shoulder the burden of those liabilities, with or without the plans, they argue.

The ordinary consequences of the contractual relationship (i.e., the benefits that Saipem and Samsung would enjoy) ought to have been taken into account by the Judge and he ought to have determined that he had no jurisdiction to sanction the plans, counter S&S.

Ground 2 – Fairness/Discretion

S&S claims that in virtually every aspect of the plans, Saipem and Samsung are being treated adversely as compared to other stakeholders, particularly unsecured creditors who have been excluded from the plan. They argue that the court should rely on the Thames Water Court of Appeal ruling on fairness.

S&S argues there are three analytical tools the court has to consider the fairness of a plan:

Allocation of the benefits: the court will consider whether, when looking at the relative contributions being made by stakeholders (including “out of the money” creditors), the proposed allocation of the benefits preserved or generated by the restructuring is fair.

The vertical comparison: although there is a statutory “no worse off” test, the court will also, at the discretion/fairness stage, compare the position of creditors under the plan as compared to their position in the relevant alternative: Thames Water at [177].

The horizontal comparison: the court will compare “the rights conferred under the Plan on different groups of creditors”: Thames Water at [119] and [177]. There is a significant overlap between the horizontal comparison and the consideration of the allocation of the benefits of the restructuring.

S&S claims that the senior creditors participating in the new money (which is the AHG plus a number of additional funds) will receive a return of between 141% and 166% of the value of their contribution. They cite authorities from Bluebrook that the senior creditors are getting “too much unfair value” or “an unfairly good deal.”

The judge seemed to recognize this, as he described this aspect of the plans as involving a departure from the pari passu principle, say S&S in their skeleton argument.

But Smith did not regard this as unfair because of certain findings he made about the riskiness of the new money. “This is a high-risk restructuring, and the rewards to the providers of New Money are considerable. But I consider this to be reflective of risk, not a gouging of a company that is going bust.”

S&S submits that this is a misunderstanding of the evidence.

Unlike Thames, it is not a debate about whether the plan company has secured the best commercial terms. The Plan companies’ unchallenged evidence shows that the day one post restructuring value of the equity is $1.5 billion to $1.8 billion. It is this equity value that is delivering the profits, says S&S. New money providers will enjoy huge profits for which there is no justification, it claimed.

S&S submits that there is a further problem in Smith’s analysis.

“If the new money is ‘highrisk’, that can only be because there is a risk that the plan companies’ expert valuation evidence might be, contrary to their own case, wrong. But if the valuation evidence is wrong, it means that the warrants being offered to Saipem and Samsung are worthless and Saipem and Samsung are, in substance, being offered absolutely nothing at all in respect of the $1 billion debt being extinguished through the plans. That would also be patently unfair.”

Petrofac says that the ‘enrichment point’ as described by the appellants in their closing arguments at sanction hearing stage, as Andrew Thornton KC put it, “is too much jam for everybody else and too much downside for us.”

“Given that the judge has made a clear finding of fact that the new money is properly priced (and given that no evidence to the contrary was adduced), it is impossible to understand how the Appellants can challenge the fairness of the Plans,” says Petrofac. The appellants’ problem is much the same as the problem that arose in Thames Water, where the Court of Appeal held that the absence of any evidence was fatal to an equivalent ground of appeal,” they added.

While recognizing S&S’s position as unsecured creditors and their share of the upside is less than secured creditors, the benefits must be shared in a proportionate way and in a way that properly recognizes the very significant contribution being made by them, says S&S.

Justice Smith gave no weight at all to the fact that Saipem and Samsung will be worse off under the plans in exercising his discretion to sanction, they argue in their skeleton. “It simply cannot be right that this point is given no weight at all.”

When considering the real-world consequences to Saipem and Samsung, the question for the court is whether they are treated fairly under the plans. “When considering fairness, regard must be had to the fact that Saipem and Samsung will be worse off under the plans.”

This point is drafted in a tendentious manner, counters Petrofac. If the appellants fail on Ground 1, then it necessarily follows that the “no worse off” test is satisfied. In relation to Ground 2, the appellants’ argument is that the court should nevertheless refuse to sanction the plans (as a matter of general discretion) so as to ensure that the appellants can benefit from a reduced level of competition in the market, which would result from Petrofac’s collapse into insolvency. This argument should be rejected:

Open offer is not the relevant alternative – but is relevant for discretion

S&S had contended that the relevant alternative to Petrofac’s restructuring plans is the “open offer” put forward by them to the Plan Companies on April 4. They point out that they do not consider the offer to be “fair” to them – it is simply a pragmatic step they have taken in light of litigation risk.

While S&S should receive some recognition for giving up their claims as a contribution to help Petrofac stay in business, there is a problem with this argument, said Smith J. in his judgment. As for the plan to work, all of the unsecured creditors must give up their claims, and it is difficult to see why S&S should recover more than their fellow unsecured shareholder claimants, he explained.

S&S do not seek to revive the “relevant alternative is a different plan” argument in their appeal. However, they do contend that the existence of the open offers and the limited delta between them is relevant to the question of discretion. This is not a case in which opposing creditors have failed to engage seriously with a plan company. On the contrary, S&S have made an offer that broadly corresponds, in economic terms, to what the plan companies themselves are willing to offer, they add.

This is a curious ground of appeal, says Petrofac. The judge found that the appellants’ offer was incapable of implementation, and there is no challenge to that finding on appeal. The judge also held that the appellants’ offer was unfair, since it contemplated that the appellants alone would receive additional cash and equity instruments (with no one else receiving comparable benefits). This is why the judge described the open offer as “the financial equivalent of a ransom strip.”

According to their skeleton, the open offer from S&S is still open and will remain open until seven days after an appeal ruling. Therefore, if the plans are not sanctioned, the plan companies’ creditors will have the opportunity to do a deal on economic terms that broadly replicate what they have previously said they are prepared to offer, S&S suggests.

Whereas Petrofac argues that it is on the brink of financial collapse and key customers have threatened to cancel contracts if there are any further delays to the implementation of its restructuring.

Counsel

The plan company is represented by David Allison KC, Henry Phillips and Stefanie Wilkins instructed by Linklaters.

Saipem and Samsung are represented by Andrew Thornton KC and Jon Colclough, instructed by Mayer Brown and their financial advisor is Alvarez & Marsal. The bondholder ad hoc group is represented by Daniel Bayfield KC and Riz Mokal instructed by Weil Gotshal.