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What is Pre Pack Administration?

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Pre pack administration is an insolvency procedure where a company arranges to sell its assets to a buyer before appointing administrators to facilitate the sale. It's a powerful, legal way of selling the business on to a trade buyer or third party.

Alternatively, the business can be sold to the existing directors operating under a new company ('newco'). This is usually done if the business is facing serious problems and creditor threats.

The 'newco' will need to be viable and have funding in place so it can buy the assets of the old company ('oldco') at fair value.

It can also be a solution to the threat of a winding up petition. However, pre pack administration is not permitted after a petition has been issued.

Several high profile companies have used this procedure recently: Henry LloydBarbecoa Steak Houses, Jacques Vert, Joy, and Jones the Bootmaker; Many others are looking at it as an option. Maybe it might work for you?

A step by step guide to pre pack administration

In June 2014, the UK Government issued a report on the pre pack administration process. As a result, the pre-pack pool launched in 2015. However, it has became clear that only a few companies have consulted the pool.

In light of this, we'd suggest approaching independent insolvency practitioners to help with your pre pack administration. They are subject to strict codes of practice to avoid abuse (SIP 16), which also incorporates the use of the pre pack pool.

Here we have outlined the general process of pre pack administration, or you can check out our flow chart.

1. Consult with insolvency or turnaround practitioners who are qualified to do a pre pack administration

Here are the key signs you should speak to experts about your company's financial position:

  • Threats from landlords.
  • HMRC demanding payment for PAYE and VAT.
  • The bank or trade creditors issuing warnings.
  • Directors are concerned about wrongful trading and personal risk.
  • Business has onerous contracts, too much property, too many employees or has lost market share/customers.

The advice given should be thorough and presented in writing for the board, and possibly the bank.

At this point, all options including company voluntary arrangement (CVA), trade sale, refinancing, administration, creditors voluntary liquidation and pre pack administration must be considered according to the new SIP 16 rules.

All of these should be carefully considered by the board of directors. If they decide to pursue pre pack administration, a resolution must be passed within the board meeting stating that the directors will consider the option in greater detail.

It is likely that the resolution will include the appointment of advisors. These could be insolvency practitioners (IP), turnaround practitioners, or accountants.

2. Draw up the business plan for the new company that will be created as part of the pre pack administration

If the plan is to sell the business (not the company) to a 'newco', then a plan must be drawn up.

This should include detailed profit and loss forecasts, cashflow forecasts, and balance sheet forecasts. This will give an indication of working capital requirements. The proposed administrator will require this as evidence that the new company can be viable.

If the plan is to sell to an existing trading company, the IP will require copies of management information and accounts from that buyer. Again this is to ensure that the acquirer is viable.

3. Resolve any compliance issues - Pre pack administration regulations

Under insolvency practitioners guidelines, the IP must market the business.

Often this requires sending sales memos to a database of potential buyers, placing an advert on their website and/or a local or national newspaper. It could also be listed on websites such as ip-bid.

If they get no indication of interest, they can then sell to the 'newco' or third party. However, if there is interest and several offers, your business could fall into the hands of a competitor. You may be able to buy the business back, but the outcome is not under your control.

At this stage, the IP will have to get formal valuations of the assets, intellectual property and/or goodwill of the insolvent company by RICS qualified surveyors. Generally, any offer needs to be commensurate with such valuations.

At this stage, if you/your colleagues are planning to buy the business, you must be careful with regards to your personal position. As directors of the dying company, you have a fiduciary duty of care to the company's creditors.

Starting a 'newco' can put you at risk of conflict of interest. It's likely that you will need separate legal advice on both companies, so talk to lawyers with insolvency and pre pack experience.

The IP will take advice from their lawyers as to compliance and risk. This may be required to be paid alongside their disbursement. Strictly speaking, they cannot charge time costs in advance for the pre pack work, but can can charge for consultancy and fees.

Things to consider:

Ensure the pre pack process can be carried out under your current client contracts and connections to the bank. Think:

  • Several clearing banks say they won't support pre packing to the incumbent directors/shareholders.
  • Will your landlord allow a new company to occupy their property?
  • Are your suppliers prepared to supply a 'newco'?
  • How will your creditors feel about this approach?

Step 4 - Financing the acquisition

You will need finance to fund the acquisition of the assets and business.

There are many specialist lenders who can provide factoring, asset-based lending, loans, and bank facilities. Some venture capital companies may help fund the pre-pack as part of a 'buy and build' strategy.

Financing a pre pack in 2018 and beyond is likely to be very difficult. It will probably require personal guarantees from the directors for SMEs. Larger companies may find that private equity and capital buyer removes the directors as part of the pre pack.

The funders will require a detailed plan supported by forecasts to test the valuations, and assess the possibility of making and funding a loss, as well as how their security needs will be met.

Step 5 - Start the pre pack sale

Assuming you have raised the finance, the proposed administrator has satisfied their compliance and the board of the 'newco' can fund the acquisition, you can begin.

A contract is likely to be drawn up that appoints the proposed administrator formally. They will initiate the pre-pack administration by contacting any floating charge holders (banks or lenders with security). If they have no objections, you can proceed.

However, some banks will not allow a pre pack to a related party. RBS, HBOS and HSBC for example will not generally countenance pre packs with/to directors or members of the failed company. Therefore, it may be necessary to replace the bank debt first.

Assuming all is approved, the administrator can make an application to Court stating their proposals. Almost immediately after that, the business is sold to a 'newco' or third party.

This can be done on a Friday night, and by Monday the business is trading virtually interrupted.

When is a Pre Pack Administration the best option?

A pre pack is usually the best option if there is a good underlying business and there is an imminent threat of a creditor taking drastic action like a winding up petition or indeed a cut off of supplies/services which would damage the value and trust in the business.  The essential element is finance though.  Someone has to be willing and capable of getting finance to buy the business.  This can be a third party or a connected party such as the current directors.  This insolvency process is more common for larger businesses as it is quite expensive and involved.

Flow chart to help illustrate the process

Pre Pack Administration Process Flow Chart

The advantages and disadvantages of pre pack administration

Pre pack administration is a viable business solution, but as with any venture it comes with its advantages and disadvantages.

The advantages

  1. The business continues to operate.
  2. Debts can be written off.
  3. No interruption to business operations.
  4. Quick and effective solution.
  5. Preserves company value.
  6. Costs less than trading administration.

Once the plan is ready and a contract of purchase is drawn up, the company is quickly protected by the court. This allows the administrator to sell the "business and assets".

This gets rid of debts, unwanted, or onerous contracts without disrupting the business and destroying value.

Costs of pre pack administration are considerably lower as the administrators do not need to find funding to trade the business. The process can be completed within a few days.

If the business is to be sold to a connected party (e.g. the former directors), they will need to fund the acquisition of the assets. These will need to be independently valued to avoid any issues. It is best to consult a specialist funder to help with this part of the process.

The disadvantages

  1. Negative publicity, as directors can be seen as shedding liabilities.
  2. Unsecured creditors think they have no say in the process, and feel they have lost disproportionately.
  3. Eventual sale price seems low to move things along quickly.
  4. Company may be sold to a competitor.
  5. Loss of control by the directors as new funders/private equity may insist on their removal.
  6. Job contracts have to be carried over into the 'newco' under TUPE rules.
  7. HMRC are likely to demand a VAT security deposit if there is a substantial debt. 

When considering these disadvantages, it is important to remember that the business was already insolvent prior to any appointment/reaching an agreement.

It is very likely that a protracted process ending in liquidation would have been the only alternative. This could easily result in the loss of jobs and almost certain destruction of value following publicity and delays.

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