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Pre-pack Administrations – The New Regime

11th March 2021

Pre-pack Administrations – The New Regime

Love them or loathe them, pre-pack administrations are likely to remain an important tool of the insolvency profession - and the use of the procedure is expected to increase over the coming months. 

Here David Ellis, head of insolvency at Higgs & Sons, considers the changes to the rules coming into effect in April and asks if they will address concerns regarding possible misuse of the pre-pack procedure.

What is a pre-pack administration?

There is no statutory definition of a “pre-pack”, although the term is typically used to describe the sale of an insolvent business by an administrator back to its directors immediately after the commencement of the insolvency. 

The main concern so far as the creditors are concerned is generally that there is little or no marketing of the business.  Creditors are then unhappy to find that the same directors control the business after the insolvency and that the business continues to trade much as it did previously, except that the creditors of the original business are unpaid.

Most insolvency practitioners are able to show how the position of the creditors and the employees is much better than it would have been if the business had closed entirely, but the message does not always get through.

Over the years a number of steps have been taken to ensure that any pre-pack is in the best interests of the creditors.  On the basis that there remain concerns from the market, the most recent review was undertaken by the Insolvency Service between 2017-2020.  Conclusions reached were that the pre-pack process should not be banned. Instead recommendations were put forward as a result of this and they resulted in a new Statutory Instrument, with the snappy title “the Administration (restrictions on disposals etc to connected persons) Regulations 2021” - which is due to come into effect in April.

What changes are introduced by the new regulations?

With effect from the end of April it is not open to an administrator to sell the business back to connected parties within the first eight weeks after appointment unless either:

  • The creditors have consented to the sale; or
  • A report has been obtained from an independent “Evaluator”.

The reasoning is that eight weeks gives plenty of time for any competitors or prospective buyers to become aware of the insolvency and to put forward alternative offers for the business.  Likewise, as the administrator should be acting in the best interests of the creditors, if they agree to the sale then there is no-one left to object.

Unfortunately, some sales need to go ahead at short notice, for example because the goodwill or some other asset of value would be quickly eroded once news of the failure becomes public.  In these circumstances an eight-week delay will be too long, as will the time taken to circulate the creditors and sound them out on the possibility of going ahead with a sale to the original directors.  This is where the use of the independent person's report is intended to offer the buyer and the insolvency practitioner some protection.

There are two main concerns with regard to the independent person's report. 

The first is that regulations do not give any guidance as to what qualifications are required by the independent person.  It is not necessary that the evaluator should be a qualified accountant, insolvency practitioner or solicitor.  All that is required is that whoever prepares the report is satisfied that their knowledge and experience is sufficient for the purposes of making the report, that they have professional indemnity insurance and that they are independent.

The second concern with the report is that, even if the evaluator considers that the sale is not in the best interests of creditors, it is still possible for the administrator to go ahead with this.  In these circumstances, however, the administrator will need to explain to the creditors why the report was discounted.

Although it seems unlikely that many sales at short notice will go ahead without the approval of an evaluator, the new regulations have received a mixed response.  Those who believe that the pre-pack process is being abused consider that the regulations have not gone far enough and/or that directors should be prevented from buying back their business from an insolvency practitioner.  Those working within the insolvency industry tend to feel that the regulations will be imposing additional unnecessary burdens to their work in saving jobs and businesses.

I expect to see the use or pre-packs increase in the weeks and months ahead,  In spite of the flaws, it seems that the need for independent approval for the terms of the sale will offer a degree of reassurance to the creditors without imposing significant additional cost or delay.  As such this should help to make them more palatable to their detractors.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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