Faced with a US$7 billion level of funded indebtedness, the Digicel group concluded a comprehensive debt restructuring in June 2020 that left its shareholders intact. A key aspect of the restructuring plan was an innovative Bermuda scheme of arrangement that was used as an alternative to Chapter11 bankruptcy. Edward Rance, an associate at Conyers, reports.
Digicel is a leading communications and entertainment provider in the Caribbean, Central America and Asia Pacific, operating across 31telecommunications markets. Despite solid fundamentals, the Digicel group was faced with significant reductions in voice revenues, due to an industry-wide trend of voice services being substituted by data usage by mobile subscribers. Growth in Digicel's data revenues proved insufficient to offset this decline, and because Digicel had historically relied on debt capital to fund investment, the industry shift arose at a time when the group was heavily indebted: the group had a debt burden exceeding US$7 billion.
Digicel therefore began considering strategic transactions to restructure its total indebtedness and reduce its interest expense. Its situation was made more pressing by the covid-19 pandemic.
Discussions with an ad hoc group of Digicel's noteholders resulted in a transaction that combined exchange offers by two of the group's main debtors - Digicel Group One Limited and Digicel Group Two Limited - with a group reorganisation and a recapitalisation funded by the group's owner.
Crucially, as we discuss below, taking a Bermuda-law scheme of arrangement route allowed the group to write-off certain out-of-the-money subordinated notes without the need to obtain consent from any of these noteholders, while simultaneously allowing the group's owners to maintain their equity participation and control.
The debt restructuring
It was important to Digicel to avoid a potentially value destructive and expensive bankruptcy proceeding, particular at the height of the covid-19 pandemic. Instead, an exchange offer was launched whereby a newly-incorporated Bermuda company, Digicel Group 0.5 Limited, offered to exchange existing notes issued by Digicel Group One Limited and Digicel Group Two Limited for new notes with reduced principal values, extended maturities and different coupons (including payment in kind interest).
The exchange offer featured a "scheme condition": by exchanging their notes, noteholders were deemed to have granted a power of attorney to an exchange agent to vote their notes in a Bermuda law scheme of arrangement that would be launched upon the relevant series of notes achieving a 75% acceptance threshold. This both added a binding element to the exchange while preserving Digicel's optionality over whether or not it wanted to initiate a Bermuda law scheme. It is thought that this is the first time soliciting votes in advance of actually launching a scheme has been used in Bermuda, and will form a precedent for companies wishing to have this option on debt restructurings in the future.
Digicel conducted a valuation exercise that concluded the value of the group's assets most likely "broke" in Digicel Group One Limited, and there was no value attributable to the shares of the structurally subordinated debt in its parent company, Digicel Group Two Limited. Digicel Group Two Limited noteholders were offered some exchange consideration albeit that the amount offered was at a significantly lower value than that offered to holders at Digicel Group One Limited.
The aim of including Digicel Group Two Limited in the exchange was to avoid any challenge to the restructuring over valuation at that level. Digicel concluded that more structurally subordinated debt at Digicel Group Three Limited (the shareholder of Digicel Group Two Limited) was not to be offered the opportunity to participate in the restructuring, as it was even more remote from where the value broke. Debt at that level was to be effectively written-off due to the corporate reorganisation.
The corporate reorganisation and recapitalisation
The issuer of the new notes in the debt restructuring was Digicel Group 0.5 Limited, a company whose shareholder was the same as the ultimate beneficial owner of the existing group structure. As part of the restructuring, all the assets of the group holding companies were to be transferred to Digicel Group 0.5 Limited, with this company becoming the new parent entity of the group. An important distinction was that intermediate debtor entities between Digicel's ultimate shareholder and Digicel 0.5 Limited were to be effectively "cut-out", meaning all of those holding notes issued by the "old" debtors would cease to have access to any of the group's assets if they did not exchange.
A consequence of this approach was that the debt at Digicel Group Three Limited (and indeed any non-exchanging debt at Digicel Group One Limited and Digicel Group Two Limited) would be left behind in an insolvent shell. By leaving such debt and intermediate entities behind, it became possible for the current shareholder of the group to recapitalise the new parent entity, Digicel Group 0.5 Limited through a significant equity contribution, without the value of this contribution leaking to out-of-the-money notes or non-exchanging holders. Similarly, by deliberately not pursuing a traditional debt-to-equity swap, the owners of Digicel were permitted to maintain control over their equity.
The Bermuda law scheme
The debt restructuring, the corporate reorganisation and the recapitalisation were all implemented as part of a Bermuda law scheme of arrangement for Digicel Group One Limited. Digicel chose not to conduct a scheme for Digicel Group Two Limited, as it would have crammed non-exchanging holders into the new consideration issued by Digicel Group 0.5 Limited, and there by diluted the value of the new consideration to exchanging holders. This approach was possible because Digicel Group Two Limited was, on valuation evidence, out-of-the-money.
The full terms of the restructuring, including the leaving behind of non-exchanging notes at Digicel Group Two Limited and all notes at Digicel Group Three Limited, went before the Bermuda court. The court was satisfied that it could sanction a restructuring that left structurally subordinated creditors of the group with no recovery on the basis that value broke in Digicel Group One Limited.
However, the court even went further and said it was also persuaded it could sanction the transfer of assets to Digicel Group 0.5 Limited as a new parent entity under a so called "transfer scheme" order, because the beneficial ownership of the group would not change. The court also did not object to the recapitalisation by the group's beneficial owner, despite no offer of equity being made to exchanging noteholders.
The Bermuda scheme, once sanctioned, was then recognised under Chapter15 of the US Bankruptcy Code.
Several novel features of the Digicel restructuring are worth noting: (i) the acceptance that scheme votes can be solicited before launching the scheme as part of a more conventional exchange offer; (ii) the sanction of a scheme that provided for no recovery by out-of-the-money or non-exchanging creditors; (iii) the use of the "transfer scheme" provisions of the Companies Act 1981 of Bermuda to reconstitute an insolvent group in a new, solvent structure with new capital from an existing, formerly out-of-the-money shareholder.
This deal ultimately presents an alternative to a debt-to-equity swap worth considering where there is little appetite for shareholders to dilute their effective control of a corporate debtor.
Originally published in Global Restructuring Review
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.