On 24 February 2022, Russia invaded Ukraine in a major escalation of the conflict between the countries that began in 2014. The invasion by Russia was swiftly followed by international condemnation and a raft of sanctions which imposed financial, trade and other restrictions on Russia.
The High Court has recently been asked to grapple with the impact of those sanctions on a Scheme of Arrangement under Part 26 of the Companies Act 2006 and an administration under Schedule B1 to the Insolvency Act 1986. The cases provide helpful guidance on how the courts might approach similar issues in the future.
Nostrum Oil & Gas PLC ("Nostrum")
The first case is Nostrum Oil & Gas PLC in which the Court sanctioned (i.e. approved) a Scheme of Arrangement (the "Scheme"), notwithstanding that some of the Scheme Creditors were the direct or indirect target of sanctions imposed by the UK, EU, the US and Guernsey.
Nostrum is a company incorporated in England and Wales and is the ultimate parent of a corporate group (the "Group") which operates an oil and gas business in Kazakhstan. It became apparent that the Group was over-leveraged. The purpose of the Scheme was to allow for the implementation of a comprehensive financial restructuring of the Group.
Nostrum itself was not the subject of any international sanctions. However, the Scheme would impose a moratorium on the Scheme Creditors that would allow Nostrum to apply for licences from the relevant bodies responsible for the respective sanctions regimes in order to implement the restructuring of the Group. The licences were necessary because some of the Scheme Creditors were direct or indirect targets of sanctions (described in the judgment as the "Sanctions Disqualified Persons"). Without the appropriate licences, the Sanctions Disqualified Person were prohibited from dealing with the notes that were the subject of the Scheme.
The judge was satisfied that the Scheme provided a better deal for the scheme creditors than the alternative of liquidation and as a result the Scheme was considered to be fair. Regarding the Sanctions Disqualified Persons, any distribution to this group would be held on bare trust until they were no longer sanctioned. The judge considered that this did not place the Sanctions Disqualified Persons at any greater disadvantage than the constraints they already faced under the sanctions. The Scheme was therefore a fair and proper way to deal with the situation of the Sanctions Disqualified Persons and it was appropriate to approve the Scheme.
Petropavlovsk plc (in administration)
In the second case, Petropavlovsk PLC the High Court gave directions that the administrators appointed to that company "be at liberty" to enter into a sale of the company's assets even though there was a risk that sanctions might impact the ability of the administrators to distribute the sale proceeds to creditors or shareholders.
Petrapavlovsk plc (“the Company”) was placed into administration on 18 July 2022. Again, the Company was a holding company that owned a group of gold mining and exploration companies (the "Group") operating in eastern Russia. The administrators appointed to the Company applied to the Court for directions pursuant to paragraph 63 of Schedule B1 to the Insolvency Act 1986 that the administrators be at liberty to proceed with the sale of the Company’s business.
Neither the Company nor the proposed purchaser were the subject of sanctions. The administrators, with the benefit of advice from specialist leading counsel, were of the view that the sale would not give rise to a breach of any sanctions. However, the sale was not without risk and the administrators were concerned that the sale was not something that they should proceed with without directions from the Court. There was a degree of urgency to the application as any delay might have resulted in the prospective purchaser proceeding with enforcement action against the Company’s subsidiaries in Russia.
Office of Financial Sanctions Implementation ("OFSI")
Prior to the Company's entry into administration, solicitors had written a detailed letter to OFSI, who are responsible for implementing the UK’s financial sanctions. The letter informed OFSI of the intended administration of the Company and the application for directions concerning the sale of the Company's assets. The letter stated that the Company’s directors did not consider a licence was required but welcomed the opportunity to discuss this with OFSI.
Once appointed, the administrators also attempted to engage with OFSI in advance of the hearing of the administrators' application. It was not until the evening before the hearing that OFSI confirmed that the appropriate way to proceed would be for the administrators to take their own view on whether a licence was required, and if so, make the necessary application.
Test under paragraph 63 of Schedule B1
The judge considered that the test for whether the Court should "bless" the decision of the administrators was similar to the test applied to trustees. Like a trustee, an administrator is given powers to take decisions in relation to property placed under its control. The administrator must not stray beyond those powers and cannot breach prohibitions found outside the Insolvency Act, such as prohibitions imposed by the criminal law. The Court can check that the proposed exercise of the administrator's power is a proper one.
In a case where there is no real doubt as to whether the administrators have the power in question or would be breaching a prohibition by taking the step in question, the Court will simply be concerned with whether the administrators genuinely held the view that what they proposed would be for the benefit of the company and its creditors, and that they were acting rationally and without being affected by a conflict of interest in reaching that view.
On the other hand, if a real doubt exists, the Court must carefully consider whether it is right to authorise the administrators to act in the manner proposed and thereby give the administrators insulation from liability in respect of the step proposed.
Applying the Test
The judge was quite clear that it would not be proper for him to make a decision that bound OFSI as to the interpretation of the sanctions legislation. OFSI had not been represented and because of the urgency the judge had not heard full arguments. However, this did not prevent the judge, on the basis of the material before him, considering the level of risk involved in the proposed sale. In an appendix to the judgment, the judge explained why he considered there to be "little practical risk" of the proposed sale breaching the sanctions legislation. The judge considered that this was a case where there was no real doubt regarding the administrator's power to enter into the transaction.
Clearly there will be situations where the risk will be higher, and in those cases it might be prudent for an administrator to apply for a licence from OFSI. However, as the judge acknowledged, it could take up to six months or more for a licence to be granted and so considering the urgency in this case, he was not going to criticise the administrators for not applying for a licence.
The judge then looked at how the administrators had arrived at their decision and found that they had carefully considered the different options, with the benefit of expert advice, and come to the view that the sale was in the best interests of all stakeholders. That view, the judge found, was a rational one, having considered relevant factors.
The judge agreed with the letter from OFSI that it was for the administrators to form their own view on the application of the sanctions legislation, but that did not prevent the Court in the appropriate case from giving guidance as to whether the administrators would be acting appropriately in taking a particular step. Importantly for those acting as administrators, the judge said:-
"The jurisdiction to seek directions is there to assist the practitioner in difficult cases if there is a good reason for applying to Court, and therefore the fact that the case is made particularly difficult by the possibility of breach of the criminal law is not a factor that should deter the Court from making the directions sought."
The judge confirmed that he was prepared to give directions that the administrators "be at liberty" to enter into a sale of the Company's assets.
Consequences of the Court's Order
In making the order, the Court gave the administrators insulation from liability to creditors and shareholders in respect of the sale. The judge was careful to point out that the order does not go any further than that. It does not protect the administrators from prior failures that might have taken place leading up to the decision to enter into the sale, and importantly it does not give the administrators insulation from "outsiders taking legal action against them" which would obviously include any criminal proceedings for breach of the sanctions regime. That said, the administrators will have taken comfort from the judge's analysis and conclusion that any risk of a breach was extremely low.
Final Word
It is likely that we will see more of these types of cases as businesses continue to be impacted by sanctions. It is important that all stakeholders are aware of how the sanctions regime might impact a restructuring or a distressed situation and the options available to overcome those obstacles.
Brodies Corporate Crime & Investigations Team have a wealth of experience of guiding clients through issues related to the sanctions regime. If you have any questions related the matters in this article, they would be more than happy to speak with you.
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