BLP - Week 9 Corporate Insolvency

Question 1

What is the definition of insolvency under IA 1986?

Answer 1

A company is insolvent if it can’t pay its debts, indicated by:
* Cash flow test: Inability to pay debts as they fall due
* Balance sheet test: Liabilities exceed assets
* Failing to meet a statutory demand over £750
* Failing to pay a creditor to satisfy a debt enforcement judgment

Key indicators of insolvency help identify the financial distress of a company.

Question 2

What should directors do when their company is in financial difficulties?

Answer 2

1. Directors should actively monitor financial health and look for signs such as:
   * Pressures from unpaid creditors
   * Overdrawn accounts with banks refusing further credit
   * Debt levels and loans exceeding asset values
2. Directors must make informed decisions to address financial issues and minimize creditor losses.

Question 3

List the options available to directors of a company facing financial difficulties.

Answer 3

• Do Nothing - Risk of personal liability.
• Negotiate with Creditors - Informally or via CVAs/restructuring.
• Appoint an Administrator - Consider all creditors.
• Appoint a Receiver - Secured creditors recover debt.
• Liquidation - Final step, assets distributed to creditors.

Question 4

What is an informal agreement with creditors?

Answer 4

An informal agreement is used to avoid:
* The time and cost of formal insolvency arrangements
* Ending the life of a company

These agreements may be contractually binding but are not regulated by insolvency statutes.

Question 5

What is a pre-insolvency moratorium?

Answer 5

A pre-insolvency moratorium provides time to negotiate with creditors and prepare a CVA or restructuring plan, during which:
* No creditor can enforce security against assets
* Legal proceedings against the company are stayed
* No winding up procedures can commence
* No administration procedure can be commenced

This moratorium helps protect the company while seeking solutions.

Question 6

What documents are required to obtain a pre-insolvency moratorium?

Answer 6

Documents include:
* A statement that the company is, or is likely to become, unable to pay its debts
* A statement from a licensed insolvency practitioner (Monitor) supporting the moratorium

The Monitor oversees the moratorium period.

Question 7

What happens to pre-moratorium debts during a moratorium?

Answer 7

Pre-moratorium debts do not have to be paid, except:
* Monitor’s remuneration or expenses
* Goods and services supplied during the moratorium
* Rent during the moratorium
* Wages or salary
* Loans under financial services contracts

This is known as a ‘statutory repayment holiday’.

Question 8

What is a Company Voluntary Arrangement (CVA)?

Answer 8

Directors prepare a proposal, supervised by an insolvency practitioner.

Question 9

What are the advantages of a CVA?

Answer 9

Advantages include:
* No court sanction required
* Directors remain in control
* Company can continue to trade during CVA
* Trade creditors tend to support CVAs

CVAs can provide a quicker and less costly resolution compared to other procedures.

Question 10

What are the steps involved in setting up a CVA?

Answer 10

1. Proposal & Nominee – Directors draft a CVA proposal and appoint an insolvency practitioner as Nominee. If in liquidation/administration, the liquidator/administrator does this.
2. Submission – Directors submit the CVA proposal and company’s financial statement to the Nominee (who often drafts it).
3. Nominee’s Review – Within 28 days, the Nominee reports to court on whether creditors and shareholders should vote.
4. Voting Process – Creditors get at least 14 days to vote; shareholders meet within 5 days after creditors decide.
5. Approval
6. Court Report & Implementation – The Nominee reports approval to court and usually becomes the supervisor to implement the CVA.

Question 11

What are the approval requirements for a CVA?

Answer 11

• 75% in value of unsecured creditors (excluding secured creditors).
• Majority of unconnected creditors.
• Simple majority of shareholders.

Question 12

What is the effect of a CVA on creditors?

Answer 12

A CVA is binding on all unsecured creditors, including those who did not vote or voted against it, but not on secured or preferential creditors without consent.

A creditor can challenge a CVA within 28 days of the CVA’s approval by creditors being reported to the court on the grounds of ‘unfair prejudice’.

This can limit the effectiveness of the CVA for some creditors.

Question 13

What is a Restructuring Plan?

Answer 13

A Restructuring Plan can only be used by companies facing financial difficulties and requires:
* Court approval (sanction)
* Creditors and shareholders divided into classes
* Approval by at least 75% in value of those voting in each class

This plan can bind all creditors, including secured creditors.

Question 14

When can the court exclude creditors and shareholders from voting on a restructuring plan?

Answer 14

If they have no genuine economic interest in the company.

Question 15

What is a cross-class cramdown in a Restructuring Plan?
Under what conditions can the court approve a cross-class cramdown?

Answer 15

• A cross class cramdown means that one rank of creditor can force the Plan on another class of creditor who has voted against the Plan.
• The dissenting class is no worse off than if the Plan were not approved.
• At least one class of creditors/members who would receive payment or have a genuine economic interest in the company has approved the Plan.

Question 16

What are the statutory objectives of an administrator in administration?

Answer 16

Objectives are:
1. Rescue the Company as a Going Concern
2. Maximise Returns for Creditors
3. Sell Assets for Secured Creditors

Question 17

What is the role of the administrator?

Answer 17

An administrator can:
* Carry on the business
* Take possession and sell company property
* Borrow money
* Make decisions on behalf of the company
* Remove and appoint directors

Directors cannot make management decisions without the administrator’s consent.

Question 18

True or False: An administrator can pay dividends to unsecured creditors without court permission.

Answer 18

False

Administrators must obtain court permission to pay dividends.

Question 19

Fill in the blank: The CVA proposal must be reported to court but there is no requirement for the court to _______.

Answer 19

[approve the CVA proposal]

This allows for flexibility in the process.

Question 20

Who can initiate a Company Voluntary Arrangement (CVA)?

Answer 20

Initiated by:
* Directors
* Liquidator
* Administrator

This allows for various stakeholders to propose a CVA depending on the company’s circumstances.

Question 21

What must a company do within 8 weeks of entering administration?

Answer 21

Produce a proposal to restructure liabilities through a scheme of arrangement, restructuring plan, or CVA. Must be approved by creditors.

Question 22

What is a key advantage of putting a company into administration?

Answer 22

The company gains protection through a ‘full moratorium’.

Question 23

What does a full moratorium prevent?

Answer 23

• No order or resolution to wind up the company may be made or passed
• No administrative receiver may be appointed
• No steps may be taken to enforce security over the company’s property
• No legal proceedings may be commenced or continued against the company
• A landlord may not forfeit a lease of the company’s premises

Question 24

What is a pre-packaged administration?

Answer 24

A sale of the business and assets prepared for a selected buyer prior to the company’s entry into administration.

Question 25

What is receivership?

Answer 25

An enforcement action for secured creditors, distinct from administration’s collective creditor focus.

Question 26

What are the three types of receivership?

Answer 26

* Administrative receivership * Fixed charge receivership * Court-appointed receivership

Question 27

What is compulsory liquidation?

Answer 27

A court-based process for placing a company into liquidation.

Question 28

Who can apply for a winding up order?

Answer 28

* A creditor * The company (acting by shareholders) * The directors * An administrator * An administrative receiver * The supervisor of a CVA * The Secretary of State for Business

Question 29

What is the most common ground for a winding up petition?

Answer 29

The company’s inability to pay its debts.

Question 30

What happens to employees upon a winding up order?

Answer 30

Employees are automatically dismissed.

Question 31

What is a Members' Voluntary Liquidation (MVL)?

Answer 31

A liquidation process available only to solvent companies.

Question 32

What declaration must directors make for an MVL?

Answer 32

A declaration of solvency stating the company can pay its creditors in full within 12 months.

Question 33

What is the role of a liquidator?

Answer 33

* Secure and realise the assets of the company * Distribute to the company’s creditors * Take control of all property of the company

Question 34

What is the statutory order of priority for creditor payments in liquidation?

Answer 34

* Liquidator’s fees and expenses * Amount due to the fixed charge creditor * Liquidator’s other remuneration, costs, and expenses * Preferential creditors (Tier 1 and Tier 2) * Unsecured creditors

Question 35

What are the two types of voluntary liquidation?

Answer 35

* Members’ voluntary liquidation * Creditors’ voluntary liquidation

Question 36

What is the principle of 'pari passu' in liquidation?

Answer 36

Creditors of the same rank share on an equal and proportionate basis relative to the assets available.

Question 37

What happens if a liquidator assesses that a company cannot pay its debts during an MVL?

Answer 37

The MVL must be converted into a Creditors’ Voluntary Liquidation (CVL).

Question 38

What is the liability for false declaration in an MVL?

Answer 38

Directors without reasonable grounds can face fines or imprisonment.

Question 39

What is the role of the Official Receiver in compulsory liquidation?

Answer 39

Becomes the first liquidator and notifies the Registrar of Companies and all known creditors.

Question 40

What is the maximum amount for employee claims classified as preferential creditors?

Answer 40

£800 per employee plus accrued holiday pay.

Question 41

What must happen for a creditor's choice of liquidator to take precedence in a CVL?

Answer 41

Creditors must approve the nominated liquidator or put forward their own choice.

Question 42

True or False: A fixed charge receiver must be a licensed insolvency practitioner.

Answer 42

False. Fixed charge receivers do not have to be licensed insolvency practitioners.

Question 43

What is the purpose of a validation order in the context of a winding-up petition?

Answer 43

To approve any transfer of company assets after a winding-up petition is filed.

Question 44

Fill in the blank: Liquidators have very limited powers to carry on the business of a company and will usually _______.

Answer 44

close a company’s business and dismiss employees.

Question 45

What is Tier 1 in employee claims during winding up?

Answer 45

Employee claims for unpaid remuneration due in the four months before the relevant date, subject to a maximum of £800 per employee plus accrued holiday pay and certain pension scheme contributions.

Question 46

What does Tier 2 include in the context of winding up?

Answer 46

Specific Crown debts such as unpaid PAYE, employee NI deductions, and VAT owed to HMRC.

Question 47

What is the priority of Tier 1 and Tier 2 preferential debts?

Answer 47

Tier 1 preferential debts must be paid in full before Tier 2 preferential debts.

Question 48

What is the purpose of the prescribed part fund?

Answer 48

To reserve funds for unsecured creditors that do not flow into the pockets of floating charge holders.

Question 49

When was the prescribed part fund introduced?

Answer 49

The Enterprise Act 2002 introduced the prescribed part fund.

Question 50

What does 'net property' refer to in the context of winding up?

Answer 50

The proceeds of selling property other than that subject to a fixed charge, after deduction of the liquidator’s expenses and any preferential debts.

Question 51

What percentage of the first £10,000 of net property proceeds is ring-fenced for unsecured creditors?

Answer 51

50% of the first £10,000 of net property proceeds.

Question 52

What is the maximum fund limit for floating charges created before and after 6 April 2020?

Answer 52

£600,000 for floating charges created before 6 April 2020 and £800,000 for those created on or after that date.

Question 53

How are remaining funds from floating charge assets distributed?

Answer 53

Distributed to floating charge creditors, usually in the order of priority agreements between them.

Question 54

What does 'pari passu' mean in relation to unsecured creditors?

Answer 54

All unsecured creditors are treated equally, sharing funds proportionally.

Question 55

How are interest payments handled for unsecured creditors?

Answer 55

Interest accrues on unsecured debts from the commencement of the winding up.

Question 56

What is the payout priority for shareholders in a winding up scenario?

Answer 56

Shareholders are paid last, with preference shareholders typically having priority over ordinary shareholders.

Question 57

Why do most insolvent companies lack funds for shareholders?

Answer 57

Assets are typically depleted by higher-ranking creditor claims.

Question 58

In most insolvent liquidations, what do shareholders generally receive?

Answer 58

Shareholders do not receive any return from their shares.

Question 59

Fill in the blank: The prescribed part fund is '_______' and applies to realisations from floating charges created on or after 15 September 2003.

Answer 59

ring-fenced

Question 60

True or False: A floating charge holder can claim for a dividend out of the prescribed part fund for any shortfall incurred under its security.

Answer 60

False