Another review of Pre Pack Administration

14 March 2013

So here we go again!  The Government is looking at whether the pre pack administration process needs to be reformed.  Last year they looked at providing a "window" of three days for connected parties and unsecured creditors to be consulted on the possible restructuring or sale of the business.  The idea was abandoned by the then Minister responsible, Edward Davey, as he was not convinced that it would lead to a better deal for creditors.

So what has changed and why the change of heart?  In previous reforms the regulation SIP16 was brought in to ensure that the business was marketed properly so that any party buying the business, especially if they  connected to the previous directors, did not have an unfair advantage in any purchase.  The problem is that wherever there is a pre pack people feel that they have been "stitched up"  This is understandable as in many cases a pre pack means that an unsecured creditor knows nothing about the business being in difficulty until they are told that they have to accept that they won't be paid and that by the way the business has been sold.

So what is the alternative?

If we look at it from the side of the business and the employees a pre pack can be a very useful and sometimes the only way to save a business.  Everyone is angry when they lose money and in many cases if the business went into administration or liquidation they would not get advance notice anyhow.

So if they did what would happen?

Suppliers would immediately cut off credit, customers would stop ordering worrying about fulfillment, and the landlords might forfeit the lease.  All this would immediately erode or destroy the value of the business.  Unsecured creditors are, in most cases, left with no return in administration or liquidation anyhow so the press is misleading when journalists imply that this is unique to pre packs.  The business has to be insolvent and be threatened in a way that means that continuing trade will be impossible. Such actions might be withdrawal of funding to pay wages etc, winding up petitions, suppliers withdrawing supply. This means that the debts are likely to be very onerous.

Is the process being abused?

The arguments are mainly directed at the value of the business.  After the event people come forward saying.  "I would have paid more" or it "wasn't marketed properly".  It is easy to say such things after the event and any SIP16 report should allay some of those concerns.  Assets will generally need  to be valued by a Chartered Surveyor and in every case if assets are to be sold to connected parties.

What about a CVA?

Well we argue that this is in many cases a better proposition  for the business  A company voluntary arrangement or CVA  is where the company seeks agreement from its creditors to write off part of the (unsecured) debt and repay an agreed dividend over a three-to-five-year period.

This requires determination from the directors of the business to turn around the company.

A CVA still has many of the powers of other insolvency procedures, in that it can quickly cut costs by terminating contracts of employment or lease obligations for instance.

It should also help generate cashflow by freezing payments to creditors while turning current assets of stock, WIP and debtors into cash. Assets aren’t subject to the massive devaluation that always occurs in administration or liquidation.

In a CVA the return to unsecured creditors is usually between 35-100p in £1, whereas in administrations and pre-pack administrations the return is usually 10p or less.

Another reason that CVAs are not considered is the simple fact that many people don’t actually know about them. Directors and their advisers, including accountants, should consider CVA as a powerful alternative if they are looking at a pre pack administration.

What reforms would be suggest to pre packs?

Perhaps a simple rule could be that in a pre pack administration the administrator can't be the liquidator of the company as well.  This may reduce the possibility of the IPs preferring the route of pre packs as being more lucrative than say a CVA.  However, there would be practical problems with this and it would increase overall costs as a new liquidator would not be familiar with the company or its problems.  But it would tackle some of the perception problem.