Schemes Of Arrangements: Legal Requirements

INTRODUCTION

Under the provisions of Sections 86 and 87 of the Companies Law (2007 Revision) (the "Law"), a Court can sanction a compromise or arrangement between a company and its creditors, or any class of its creditors, or its members or any class of them, or any combination or permutation of the creditors and members. The proposals are set out in a formal Scheme document to be approved by a majority in number representing three-fourths in value (a dual majority) of each class meeting (as set out below). Once the requisite sanction of the classes of members and creditors has been obtained and the Court has approved the Scheme, it will bind all dissentients.

A Scheme of Arrangement will not be sanctioned by the Court if it is beyond the powers of the company as stated in the memorandum and articles of association.

Section 87 of the Law specifically provides for the Court to order the transfer of any undertaking or property from one company to another when sanctioning a reconstruction or amalgamation between two or more companies.

Further, Section 87 of the Law expressly provides for the transfer of the undertaking or property of the Cayman Islands Company to a body corporate established in the islands or in any other jurisdiction.

THE REQUIRED PROCEDURE

The Scheme proposals

Whilst in Cayman there are no express legal requirements in the Law, the accepted practice is to send out with the Scheme document an explanatory memorandum detailing the proposals of the Scheme to be considered by the company's members and creditors. The Scheme document should set out in detail the mechanics of the Scheme; the circular should describe the effect the Scheme will have on the existing rights of members and/or creditors in clear and unambiguous terms. If the circular is inadequate or misleading the proposed Scheme risks being rejected by the Court. The draft explanatory memorandum or proxy statement which provides the shareholders or creditors with all the information reasonably necessary to enable them to make an informed decision about the merits of the proposed Scheme must form part of the evidence presented to the Court in support of the proposed Scheme.

Classes of members and creditors

One of the procedural requirements is that meetings of the various classes of creditors and members be summoned by the Court and, in this regard, it is only necessary to call meetings of those classes whose existing rights will be directly affected by the Scheme. It is the applicant's responsibility to identify the different classes in accordance with what the Scheme is trying to achieve and put these to the Court at the first hearing for approval. ¹A failure to identify all those affected could result in the Court refusing its sanction.

The test as to whether certain entities form a single class or different classes was set out by Bowen LJ in Sovereign Life Assurance Co v Dodd [1892] 2 QB 573 where he said:

"It seems plain that we must give such a meaning to the term 'class' as will prevent the section being so worked as to result in confiscation and injustice, and that it must be confined to those persons whose rights are not so dissimilar as to make it impossible for them to consult together with a view to their common interest."

The classes proposed by the applicant will be fixed by the Judge at the directions application. Accordingly, prior to the issuing of the summons they must be sufficiently identified by the applicant; the risk being that if in the end they reveal inadequacies, the Scheme will not be approved by the Court. It is crucial that every class of members and creditors be sufficiently identified.

Summons for directions

The company, as applicant, presents a Petition commencing the Court process and then makes an ex parte application to the Court for directions for the calling of the various meetings of the classes of members and creditors. In this application the Court orders the meetings to be held and gives directions about the length of notice, the method of giving it and the forms of proxy. The Court may also order that notice of the meetings be advertised if appropriate. From drafting the Scheme document to this stage takes approximately 4 to 6 weeks.

Meetings of various classes

In accordance with the Court's directions, the meetings of the various classes of members and creditors will be convened to consider the proposals set out in the Scheme document and circular. The meetings are usually called with the same notice period set for EGM's of the company in the articles. A majority in number representing three-fourths in value in favour of the proposals in each class meeting is required to approve the Scheme.

If a class is represented by a small number of individuals and if they all approve of the Scheme in writing their class meeting can be dispensed with.

The petition

After the voting at the various class meetings has been completed and assuming that at each class meeting a majority in number representing three-fourths in value were in favour of the proposals, the Petition comes on for hearing. Notwithstanding the fact that the requisite majority in each class meeting voted in favour of the Scheme of Arrangement, the Court still retains a discretion whether or not to approve it. Before a Court sanctions a Scheme it will normally need to be satisfied on four matters:

1. that the classes have been properly constituted;
   
   
2. that the meetings were convened and held in accordance with the directions given by the Court;
   
   
3. that the Scheme has been properly explained to shareholders or creditors so that they have been able to exercise an informed vote in respect of the Scheme;
   
   
4. that the scheme is one which an intelligent and honest man, who is a member of the relevant class and properly acting might reasonably approve.
   
   

The Courts also have the power to impose conditions on its sanction of a Scheme.

It is necessary for a director of the company to swear an affidavit in support of the Petition explaining the background to the proposals and reasons why the Scheme of Arrangement is necessary.

Effect of Court sanction

Once the sanction of the Court has been given to the Scheme it is binding on all the creditors or the classes of creditors or on the members or classes of members who are parties, and on the company. The Scheme cannot afterwards be altered even if shareholders and creditors acquiesce in the alterations. A Scheme of Arrangement will be effective once a copy of the Court order has been lodged with the Registrar of Companies. From that moment on the Scheme has quasi-statutory effect. A copy of the Court order approving the Scheme of Arrangement must thereafter be annexed to every copy of the company's Memorandum and Articles of Association.

Footnote

^{1.Order 102, rule 21(3)(b)}

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.