Separate Creditor Classes for IBNR and Notified Outstanding Claims in Schemes of Arrangement: High Court Upholds Distinction in Stronghold Insurance Ltd [2018] EWHC 2909 (Ch)

Introduction

The case of Stronghold Insurance Company Ltd, Re ([2018] EWHC 2909 (Ch)) presents a pivotal decision in the realm of insolvency and creditors' schemes under the Companies Act 2006. Stronghold Insurance, an authorized insurer in run-off since 1985, sought the court's permission to convene a single class meeting of its creditors to approve a proposed scheme of arrangement aimed at settling approximately 245 potential claims. The central issue revolved around whether the inclusion of Incurred But Not Reported (IBNR) claims necessitated the formation of separate creditor classes or if a unified class would suffice. This judgment elucidates the court's stance on class constitution, particularly in cases involving diverse creditor rights and interests.

Summary of the Judgment

The High Court, Chancery Division, ultimately decided against Stronghold Insurance Company's proposal to convene a single class meeting for all creditors. It mandated the establishment of separate classes for creditors with known outstanding claims and those with IBNR claims. The court underscored that the inherent uncertainties and differing rights associated with IBNR claims necessitated distinct consideration, ensuring that each class could consult in their common interest without prejudice. This decision reinforced the principle that significant differences in creditor rights and interests require tailored approaches in the structure of schemes of arrangement.

Analysis

Precedents Cited

The judgment extensively referenced several key precedents to substantiate its decision:

Re Hawk Insurance Co Ltd [2001]: Addressed the court's jurisdiction in sanctioning schemes and set the groundwork for revising class composition at convening hearings.
Re British Aviation Insurance Co Ltd (BAIC): Highlighted the importance of selecting an appropriate comparator, emphasizing solvent run-off over insolvency as a basis for class constitution.
Re Sovereign Marine & General Insurance: Affirmed that separate classes might be necessary when creditor rights and interests significantly diverge, especially between accrued and IBNR claims.
Re NRG Victory Reinsurance Ltd: Illustrated the court's cautious approach in allowing schemes to proceed with single classes at the proponent's risk when uncertainties persist.

These cases collectively informed the court's approach to evaluating the propriety of creditor class formations, especially concerning the complexities introduced by IBNR claims.

Legal Reasoning

The court's legal reasoning was anchored in the two-stage test for class composition:

Stage One - Rights Assessment: Evaluated whether the rights of different creditor groups were sufficiently similar. The court found that IBNR creditors inherently possess uncertain claims, differentiating their rights from those with notified outstanding claims.
Stage Two - Common Interest Evaluation: Assessed if, despite differences in rights, the creditor groups could consult together in their common interest. The court determined that the qualitative differences and inherent uncertainties in IBNR claims rendered it impractical for a single class to facilitate meaningful consultation.

Additionally, the court considered the appropriate comparator for assessing these differences. Unlike Re Hawk, where insolvency and liquidation were clear comparators necessitating separate classes, Stronghold Insurance's context of solvent run-off did not align neatly with that precedent. The prolonged run-off period (33 years) and cross-holdings of claims further complicated the analysis, ultimately supporting the need for distinct classes to preserve fairness and efficacy in the scheme's approval process.

Impact

This judgment has significant implications for future schemes of arrangement, particularly in the insurance sector. It underscores the necessity of carefully evaluating creditor groups' rights and interests, especially when dealing with IBNR claims. Future practitioners must ensure that schemes accommodate distinct classes where substantial differences exist, thereby promoting equitable outcomes and facilitating smoother sanctioning processes. The decision also serves as a cautionary tale against assuming uniformity in creditor rights, especially in complex, long-standing schemes.

Complex Concepts Simplified

Incurred But Not Reported (IBNR) Claims: These are insurance claims that have been incurred but not yet reported to the insurer. They represent a significant uncertainty for insurers as the exact nature and amount of the claims are unknown.

Schemes of Arrangement (Part 26 of the Companies Act 2006): A court-approved agreement between a company and its creditors or members, allowing the company to restructure its debts or operations.

Class Meetings: Gatherings of a specific group of creditors classified together based on the similarity of their rights and interests, to vote on the proposed scheme.

Comparator: In legal analysis, the scenario or outcome used as a basis for comparison to evaluate the fairness or correctness of a proposed arrangement.

Conclusion

The High Court's decision in Stronghold Insurance Company Ltd, Re meticulously delineates the criteria for class constitution in schemes of arrangement, particularly highlighting the complexities introduced by IBNR claims. By mandating separate classes for IBNR and notified outstanding claims, the court ensures that each group's unique rights and interests are adequately represented and protected. This judgment not only clarifies the judicial approach to similar future cases but also reinforces the broader legal principles governing fairness and equity in creditors' schemes. Stakeholders in insolvency and restructuring processes must heed this ruling to formulate schemes that are both legally compliant and just for all creditor classes involved.