U.K.-listed subprime lender Non-Standard Finance, or NSF, is considering using a scheme of arrangement or restructuring plan to compromise about £16.9 million in customer redress claims. The claims arise from an ongoing review of sales by NSF’s guarantor loans division by the Financial Conduct Authority, or FCA.
NSF follows
Amigo Loans and
Provident Financial, both companies with substantially similar business models, in attempting to use an English court-based process to compromise redress liabilities. However, it will likely be the first lender to do so with new
guidance from the FCA in place.
Amigo’s first proposed scheme of arrangement was
refused sanction in May 2021 following opposition in court from the FCA. The failure “
cast a shadow” over Provident’s scheme,
sanctioned three months later and Provident was keen to distance its scheme from the defects identified in Amigo. The latter’s second scheme,
sanctioned earlier this year, was designed to learn from criticism leveled by the court at its first scheme and build on Provident’s success.
Key lessons from Amigo and Provident for NSF include the importance of (i) early engagement with the FCA (now to some extent formalized by the FCA’s guidelines) (ii) tailoring scheme documents to non-commercial creditors (iii) appointing an independent customer advocate (iv) ensuring a fair allocation of losses and the division of benefits among stakeholders, and (v) correctly evidencing the relevant alternative.
Effect of FCA Guidance on NSF
In its guidance, issued in July, the FCA was clear that it retains broad discretion when assessing the fairness of a compromise. Notably, this inquiry is broader in scope than that conducted by the court and any action based on it is independent of and not influenced by creditor approval or the court’s approval of a scheme or plan.
The FCA expects to be notified early about the possibility of a scheme or restructuring plan and provided with extensive information. This includes financial information, the substance of the proposal, classes, estimated returns to creditors and associated methodology for calculating claims. In the case of NSF, the new redress methodology proposed by the company has not been yet approved by the FCA
The company has also been clear that the timetable for any court application is being determined by engagement with the FCA and the group’s key stakeholders.
Unlike in previous cases, the FCA will charge the scheme or plan company a Special Project Fee for any work done including by external advisors. This will necessarily increase costs for NSF.
According to the FCA’s
handbook, the hourly rates for FCA staff are as follows: £45 for an administrator, £75 for an associate, £130 for a technical specialist, £145 for a manager, and £255 for any other person employed by the FCA. The FCA will also charge for any external advisors it may have to engage.
The FCA has said that no letter of non-objection will be forthcoming. This issue created a degree of prevailing uncertainty for Amigo and Provident. For a time, the companies did not know whether the FCA would mount a formal challenge in court. The FCA is also clear that it retains the discretion to oppose and make representation at either or both court hearings for a scheme or restructuring plan.
The FCA’s response to the redress schemes has been unpredictable in the past. The regulator
wrote to the court outlining its objections to Amigo’s first scheme and appeared at the sanction hearing to challenge the application.
FCA submissions at Provident’s convening hearing were
welcomed by the court as “proper, helpful and what would be expected” of a body whose function it is to protect the interests of consumers. However the FCA subsequently
provided similar written opposition to Provident’s scheme before the sanction hearing but explained that it would not appear in court. The judge
said he was puzzled by the decision to send a letter to the court in which it explained that it neither supported nor challenged the scheme.
Under the new guidance, when deciding whether to participate in the court process the FCA will consider the following factors:
- Whether the proposal fairly balances the interests of all creditors;
- The number and type of creditors subject to the compromise;
- The total amount of liabilities subject to the compromise;
- The average amount of liability being compromised;
- Whether the compromise gives rise to matters of public interest (e.g. a consumer protection perspective); and
- Whether the firm has provided adequate information on the compromise for the regulator to perform its assessment.
Other Lessons from Amigo and Provident The Relevant Alternative.
In declining Amigo’s first scheme, the court was
not satisfied that the true alternative to the scheme was an immediate insolvency, i.e. a situation in which unsecured redress claimants would have received nothing.
Like Provident, NSF argues that absent the scheme the company would become insolvent. In its Sept. 28 earnings call management said: “Without the court process, the directors believe a capital raise would not be successful and therefore insolvency is the most likely outcome – in which case there would likely be no payment of redress liabilities.”
Provision of Information to Non-Commercial Creditors
The nature of guarantor loans, where a loan is advanced to an individual with weak credit history, but guaranteed by a family member or friend, means that the general body of redress claimants may not be financially sophisticated or accustomed to reviewing complex legal documents.
In declining to sanction Amigo’s first scheme, the judge
said redress creditors lacked the necessary information or experience to enable them properly to appreciate the alternative options available to them or to understand the basis on which they were being asked to sacrifice the great bulk of their claims.
Provident subsequently appointed an independent customer advocate to answer customer queries and attend court. The practice was adopted by Amigo for its second scheme and may be considered by NSF. Amigo was also careful, the second time around, to couch the scheme documents - such as the practice statement letter and explanatory statement - in plain language, comprehensible to its intended audience. This effort was
praised by the court at the convening hearing and helped convince the court as to the overall fairness of the proposal.
Fairness: Sharing the Pain
A central consideration for the FCA is whether the firm has put forward the best proposal possible for customers. The FCA
opposed Amigo’s first scheme on the grounds that other stakeholders, the shareholders and secured creditors, would be left untouched. In declining the scheme the court was
concerned about the distributional fairness of the plan and noted a rise in the company’s share price after the proposal was announced.
In common with Provident and Amigo’s second successful scheme, NSF appears to propose a contribution from shareholders that will be a key consideration for the court.
In a recent earnings call, NSF’s management has said it anticipates a “substantial capital raise which…will materially dilute the interests of existing equity holders – most likely to negligible value unless they choose to participate.” The proceeds of the raise will be used to fund a cash pot to finance an agreed portion of redress liabilities to affected customers.
Although the cash pot will not be sufficient to repay redress creditors in full, the company says the compromise is “in the best interests of customers with redress claims, as well as the group’s other stakeholders.”
Related to the overall fairness of the scheme or plan is whether the offending business continues to trade. The FCA guidance states: “we would be concerned if a firm proposes a compromise which pays customers less than their full redress entitlement but continues to trade, where such redress liabilities have been caused by serious and/or deliberate misconduct by the firm.”
In Amigo’s failed scheme, the guarantor lending business would continue trading with any benefit or surplus occurring to shareholders rather than redress claimants. Provident, wound down its guarantor loans division. Likewise, in 2021 NSF
placed its guarantor loans business into a managed run-off in June 2021 that is due to complete by 2025.