Pre-pack administration is a formal procedure that enables an insolvent company to sell its assets to the existing directors, a trade buyer or another third party.
The transaction is performed by the administrator almost immediately following their appointment.
What is a pre-pack administration?
The key factor that differentiates a pre-pack administration from a regular company administration is that in a pre-pack, a buyer is chosen and the sale negotiated before the administrator is appointed.
In a regular administration, should the company itself not be able to be rescued, an administrator will advertise the business for sale after they are appointed.
In many cases, the business is sold to the existing directors, who form a new company, or ‘newco’, for the purpose. The newco will need to be viable and have funding in place in order to buy the business.
When would a pre-pack administration be used?
A pre-pack administration is a complex insolvency procedure and tends to be fairly costly, meaning it’s generally suited to medium to larger companies.
It can be an appropriate course of action in circumstances where the company’s ability to trade faces a severe threat.
For example, it may work well if a company is threatened with a winding-up petition (although it’s not allowed via an out-of-court route if a petition has already been issued), or if a major supplier or client withdraws their support.
For a pre-pack administration to take place, the procedure must be in the best interests of the company and its creditors.
The company must be insolvent and unable to repay its unsecured creditors.
A pre-pack administration is often justified where it results in a greater result for unsecured creditors than a liquidation.
In fact, this justification is one of the three statutory tests – the others being rescuing the company to be rescued as a going concern or allowing a dividend to be paid to secured/preferential creditors.
What’s the process?
If your company is facing severe pressure from creditors – for example, you’re being threatened with liquidation or receivership – it’s vital to act quickly.
We strongly advise contacting a licensed insolvency practitioner (IP) for advice at the earliest opportunity.
The IP will assess your business to work out the best course of action. The IP must consider all possible options and ensure the chosen procedure maximizes returns for creditors.
If a pre-pack administration is decided upon, the following course of action is likely:
- The IP will organize a valuation of the company’s assets and produce a statement of affairs
- If the business is to be sold to a newco, a detailed plan must be drawn up demonstrating the newco’s viability and ability to acquire the business
- If it is to be sold to an existing company, the IP will obtain copies of the buyer’s accounts and management information to ensure it is viable and has the required funds
- The IP must also market the business for sale. If they receive no interest, they can sell to the newco or existing company (not the company soon to be placed into administration).
However, if they receive offers, they are in a position to select the most viable buyer with the best offer, meaning the business could potentially be sold to a competitor
- The company (shortly after the deal is agreed in principle) is placed into administration, meaning all legal action against it will be suspended (without court or the administrator’s consent)
- The administrator will initiate the pre-pack administration and the business will be sold
- The administrator will arrange a creditors’ meeting to explain the reasons for choosing this insolvency procedure, and a subsequent recommendation for liquidation will often be given
- The recommendation is often ratified by creditors, the company is liquidated and the creditors are repaid pro-rata using the proceeds from the liquidated assets
What are the advantages of a pre pack administration?
The advantages of a pre pack administration include:
- It facilitates the sale of the business or part of a business as a going concern without disrupting operations
- The business’ reputation and image are less likely to be compromised, meaning jobs, suppliers and customers can more easily be retained
- The sale is completed immediately upon the administrator’s appointment, thereby avoiding potential losses that can be incurred during regular administrations. This preserves funds for the creditors.
- It retains the value of assets, which can be difficult to realise in a regular administration
What are the disadvantages of a pre pack administration?
Pre pack administration is a complex process, and there are a number of potential drawbacks to consider:
- Some of the company’s current customers, suppliers and creditors may suffer a financial loss after the business is sold to the newco
- Your landlord may be reluctant to transfer the lease to the newco – it is often a good idea to speak to them (with or without the IP) in advance to gauge whether this is a possibility
- Your suppliers may not continue to support the business after it is transferred to the newco. The success of the newco may be impacted without the support of key stakeholders, so make sure they’re on board before embarking on a pre pack administration
Critics of the pre pack administration process argue that it allows directors to walk away from the company’s debts while leaving creditors unpaid.
However, as we mentioned previously, companies generally only enter into a pre pack administration if they are unable to repay those debts – so the creditors would end up unpaid either way. In these situations, administration or liquidation are usually the only options remaining.
If you, as a company director, plan to buy the business, care is needed with regard to your personal position. Setting up a newco to buy the business may put you at risk of conflict of interest.
In October 2020 the government announced that new laws would be introduced requiring mandatory independent scrutiny of pre pack sales where connected parties are involved.
The new legislation aims to ensure pre pack administrations are in the best interest of creditors.
The pre-appointment procedure
A company can enter administration via several routes. In most instances, it would be by resolution of the board.
This would then facilitate a filing of a sworn document known as a notice of intention to appointment of an administrator, pursuant to Schedule B1 of the Insolvency Act 1986.
If there is a pre pack administration then the process is also subject to Statement of Insolvency Practice 16, more commonly known as SIP 16, a copy of which can be found here.
A very brief summary of SIP 16 is that the business should be valued, marketed and then a sale agreed in advance of the administration (the sale agreement is usually agreed and signed in advance of the administration and completed immediately, or just after, the administration taking effect).
The process from instruction of an insolvency practitioner, through the appointment to closure would be as follows:
- Insolvency practitioner (IP) instructed
- IP appoint agent to value and market the business (5-10 day process)
- Sale is agreed and sale agreements drafted and agreed between parties, that being the IP and purchaser. Terms can be for full consideration on completion or with a deferred element
- If there is a holder of a qualifying floating charge (QFC), they have the ability to appoint an administrator of their choosing, although they may allow the directors to appoint an administrator
Early engagement is key to ensure the QFC holder is apprised of the situation throughout. The IP will usually make contact with them in order to ensure they have an understanding of the strategy
- Administration takes effect and sale is completed, this is usually between 10 and 15 days from the IP’s instruction, although it can be shorter or longer
- At this point the business and assets transfer to the purchaser. The company in administration is left with the sale consideration and any other assets to be realised, which, subject to costs, is then distributed amongst creditors by the IP and the company is dissolved
With regard to fees, the pre-appointment fees can be paid in advance, by the company, or paid from the funds realised in the administration, subject to approval of creditors via a ‘decision procedure’.
Essentially, creditors vote as to whether they believe the fees are reasonable. The post appointment fees are also voted upon by creditors.
We’re here to help
If your company is facing pressure from creditors, we can help. We have years of experience offering advice and assistance to struggling companies.
Get in touch with us today to arrange a free, no obligation consultation.
The article was originally published by Hudson Weir.