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Pre-packs: a change for change’s sake?

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8th Aug 2011
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The new proposed legislation on pre-packaged sales in administration and liquidation - “the three days’ notice rule” - now appears unstoppable and will be on the statute book this autumn, explains CBW’s Carl Bowles.

This follows two consultations, both this year and last, with the insolvency profession and stakeholders. The clear and laudable aim of the legislators is to achieve greater transparency in the procedure, and address the perception of ‘phoenixism’ – the sale of the business to the company’s existing management, which can act to the disadvantage of unsecured creditors.

A pre-packaged sale (pre-pack) is an agreement for the sale of an insolvent company’s business and assets which is put in place before the company goes into a formal insolvency process, usually administration. Statement of Insolvency Practice 16 requires this to be fully justified - to be in the best interest of creditors as a whole - by an administrator in a report to creditors explaining his actions within 14 days of his appointment. There is an express statutory remedy pursuant to the misfeasance provisions of the Insolvency Act 1986 should an administrator or liquidator (office holder) sell assets at an undervalue.

The proposed rules, namely, the Insolvency (Amendment) (No. 2) Rules 2011 will require administrators, once in office, to give three days’ notice to creditors when proposing to sell a significant proportion of a company’s assets or business to a connected party. This will have application where the assets have not been previously offered or available for sale in the open market by the office holder, or within the three months immediately before entering formal insolvency.

The proposed notice, in addition, to the company’s particulars will include: the sale price, the nature of the connection to the purchaser and surprisingly, the independent valuations. This is likely to lead to unintended consequences.

The publishing of valuations, at this stage, before completion, may allow the proposed purchaser to reduce an offer, negotiated by the proposed office holder, in line with valuations. Thereby reducing the pot available to creditors. Any delay caused by a creditor's response to a notice may cause a purchaser to walk away, forcing the insolvent company into liquidation (through lack of funding for a trading administration).

Steven Law, president of R3 commented at the consultation stage: “three days is a long time in business, and if unable to trade in that period the business risks losing key staff and customers”. 

Indeed, three days is likely to become six, when you take account of the service rules. Prepacks are usually chosen because of the speed of the procedure which helps preserve the value and goodwill of the business. This delay can have a significant detrimental impact on the business and value. We can expect adverse publicity, ransom creditor payments, termination of contracts, and key staff and customers going elsewhere, all of which acts to negate the benefits of a prepack sale.

The proposed rules appear ill thought-out. For example, what is a creditor to do with this notice? If he objects, should he seek injunctive relief? Could a spurious objection delay the sale and jeopardise any value in the business? How will requests for lengthy due diligence, which may or may not result in a better offer, be dealt with?

The expected result, which does not sit with the “rescue culture”, will be to put many more companies into liquidation. Once there is an announcement of an intended pre-pack to creditors, a business' value is likely to be eroded. Without the certainty of a completed solution to the business' financial problems, its customers, suppliers and key employees may simply disappear. Secured and unsecured creditors can expect lower returns and considerably fewer jobs being saved than under a pre-pack.

Carl Bowles is an insolvency practitioner with accountancy firm, Carter Backer Winter (CBW).  He can be reached at [email protected].

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