European Perspective: The West Lothian Question In Voluntary Arrangements

A version of this article was published in the Winter 2011 issue of Recovery. It has been reprinted here with permission.

THE ROLE OF DISINTERESTED CREDITORS IN THE APPROVAL PROCESS

As the question of Scottish independence resurfaces, the West Lothian question remains embedded, thorn-like, in the side of British politics and democracy 35 years after it was first posed: How is it that Scottish members of Parliament with no apparent interest in a matter applying only to England and Wales are entitled to vote on it?

An identical question arises with voluntary arrangements: Why should a creditor who is to be paid in full have the right to vote on a proposal that compromises the claims and rights of others? The increasing popularity of company voluntary arrangements ("CVAs") gives some urgency to the resolution of this question. In this article, we will look at whether CVAs can be used to differentiate between creditors and the legal issues that arise if they are used to do so. The issues discussed here apply equally to individual voluntary arrangements, but for the sake of convenience, we restrict our discussion to CVAs.

Unlike schemes of arrangement, where creditors must be divided into distinct classes to ensure sufficient protection of their divergent interests, CVAs require the support of only 75 percent in value of the total mass of creditors (and only 50 percent in value of the total mass of creditors unconnected with the debtor) to be passed (Rule 1.19 of the Insolvency Rules). Where a CVA proposes to treat a class of creditors differently from other classes, there is a clear danger that if the differentiated class holds under 25 percent of the voting rights, it will be powerless to prevent other creditors from approving the debtor's proposal.

The small number of provisions of the Insolvency Act 1986 and the associated Rules speak of creditors as a collective. Thus, the debtor's proposal and the notice of the creditors' meeting must be sent out to all creditors, and all of them must be invited to attend the meeting and vote on the proposal. There is no basis for excluding a category of creditors on the grounds that it has no interest in the proposal or that it has no economic interest in the debtor (as is the case with a "scheme of arrangement", a procedure under the Companies Act 1985 enabling a compromise or arrangement between a company and its creditors, its members or any class of them, subject to ratification by the court).

One may...