Chapter 10 - Insolvency law

Question 1

What is administration?

Answer 1

Administration is an insolvency process for companies struggling with cashflow issues, and is predominately designed to provide a breathing space (moratorium) from creditor action.

Question 2

What are the key purposes of administration? (3)

Answer 2

There are three key purposes of administration:
* to rescue the company as a going concern.
* if this is not parctical, to achieve a better result for the company’s creditors as a whole than would be likely with a winding-up.
* if neither is reasonably practicable, and provided the administrator does not unnecessarily harm the interests of the creditors as a whole, then to realise the company’s assets to make a distribution to one or more preferential or secured creditors

Question 3

What are the benefits of the administration process?

Answer 3

The key advantage of administration is to give the company breathing space to resolve its problems. If administration is successful the creditors should enjoy a better return in relation to past debts and the benefit of an ongoing client.

Question 4

What is an administrator? Who may appoint them? (4)

Answer 4

The third party individual responsible for leading the administration process

The following are able to appoint an administrator:
* The company acting by ordinary resolution
* The directors acting by a majority
* One or more creditors
* Qualifying floating charge holders

Question 5

What is a Qualifying Floating Charge Holder (QFCH)?

Answer 5

At least one floating charge which on its own or together with other fixed or floating charges amounts to a charge over the whole or substantially the whole of the company’s property.

The floating charge must contain power to appoint an administrator (or administrative receiver).

Question 6

In what ways may an administrator be appointed? (2)

Answer 6

1. By the court
2. Out of court

Question 7

Who is able to appoint an administrator outside of court and what are the necessary procedures?

Answer 7

The company, directors and qualifying floating charge holders can make claims outside of court provided the company is not in liquidation or already in administration. Creditors cannot make an appointment out of court

Question 8

Who must appoint an administrator in court?

Answer 8

Any party (company, directors, qualifying floating charge holders and creditors) can make claims in court. It is the only route for creditors and the only route once the company is in administration or liquidation.

Question 9

What is an administration order?

Answer 9

An administration order is an order of the court which puts an insolvency practitioner in control of the company, principally to insulate the company from its creditors and with a view to rescuing the company as a going concern.

Question 10

What is the primary duty of the administrator?

Answer 10

As soon as they takes office, the administrator must take control of the company’s property and use their powers to manage the company in accordance with any proposals that have been approved by creditors or according to any directions given by the court.

Question 11

What are the steps that the administrator should take within 7 days of appointment?

Answer 11

File notice of their appointment with the Registrar of Companies.

Require any of the company’s officers and employees to provide a statement of affairs (who have 11 days to comply with any such request).

Question 12

What are the steps that the administrator should take within 8 weeks of appointment?

Answer 12

Submit a statement of their proposals for achieving the aim of administration to:

1. the Registrar
2. the company’s creditors
3. the company’s members

The administrator should seek creditor acceptance of their proposals by the deemed consent procedure or another authorised consent method.

The administrator is also required to invite creditors to form a creditor’s committee and to ask for nominations to such a committee.

Question 13

What are the steps that the administrator should take within 1 year of appointment?

Answer 13

The administrator’s appointment is terminated unless extended by the court or (once only) by a prescribed majority of the creditors.

Question 14

What are the powers of the administrator? /96)

Answer 14

The administrator takes on the powers previously enjoyed by the directors and generally “may do anything necessarily expedient for the management of the affairs, business and property of the company.”

Specifically, they may:

1. remove or appoint a director
2. call a meeting of members or creditors
3. apply to court for directions regarding the carrying out of their functions
4. make payments to secured or preferential creditors
5. make payments to unsecured creditors, if the administrator feels that to pay the unsecured creditor will help the achievement of the administration, and otherwise with the permission of the court.
6. present or defend a petition for the winding up of the company

Any creditor or member of the company may apply to the court if they feel that the administrator has acted or will act in a way that has harmed or will harm their interest.

Question 15

During the period of administration and from the presenting of a petition for an administration order, what consequences take effect? (6)

Answer 15

Question 16

What are the advantages of administration?

Answer 16

Administration may be preferable to liquidation for the following reasons:

1. For the company, it does not necessarily cease to exist at the end of the process and it also provides temporary relief from creditors to allow breathing space to formulate rescue plans.
2. For the members, as they will continue to have shares in the company. If the administration is successful, regenerating the business should enhance share value and will restore any income from the business.
3. For the creditors, who should obtain a return in relation to their past debts.

Question 17

RECEIVERSHIP

Question 18

What is a CVA?

Answer 18

A CVA is an agreement between the company and its creditors, which sets out how the company’s debts are to be paid and in what proportions.

Question 19

What is the aim of Company Voluntary Arrangements (CVAs)?

Answer 19

Company voluntary arrangements (CVAs) were introduced by the Insolvency Act 1986 and are intended to avoid a company being wound up.

Question 20

Is a company entitled to continue trading for the duration of the CVA?

Answer 20

Yes.

A company is entitled to continue trading for the duration of the CVA, although existing creditors are likely to renegotiate the terms of their dealings with the company and seek greater protection.

Question 21

What may a CVA comprise of?

Answer 21

A CVA may comprise either one or both of a ‘composition of debts’ (where the company agrees to pay a limited proportion of its total debt, eg, 60p in the pound) or a ‘scheme of arrangement’ (where the company agrees to pay its debts over a defined period, typically 3–5 years).

A CVA may result in one or more creditors taking an interest in the company by way of a debt-equity swap.

Question 22

Is creditor approval of a CVA required?

Answer 22

Yes.

Creditor approval of a CVA is required, either by the deemed consent procedure or an alternative consent method.

Question 23

What are the consequences on creditors upon approval of a CVA?

Answer 23

If approved, the CVA becomes binding on all unsecured creditors.

Preferential creditors, however, retain their priority, and secured creditors remain entitled to enforce their security against the company (unless they agree otherwise).

Question 24

How may any creditor entitled to vote challenge the approval of the CVA?

Answer 24

Any creditor entitled to vote may also challenge the approval of a CVA within 28 days of the court being notified of the results of the creditors’ and members’ meetings.

Question 25

What is winding up or liquidation?

Answer 25

Winding up, or liquidation, is the process of terminating the life of a company and is carried out by a liquidator.

Question 26

When is a company most likely to be wound up?

Answer 26

A company is most likely to be wound up where it has become insolvent.

Question 27

How may liquidation proceed? (3)

Answer 27

Liquidation may proceed as a members’ voluntary winding up (where the company is solvent) or as a creditors’ voluntary winding up (where the company is insolvent).

Alternatively, liquidation may be imposed compulsorily on the company by the court.

Question 28

What is the process by which members voluntary liquidation proceeds?

Answer 28

Suitable only where the company is solvent

1. Commenced by a special resolution of the members (commences at date of resolution)
2. Directors give a declaration of solvency (If they cannot, the process automatically becomes a creditors voluntary liquidation)
3. Notice in the London Gazette within 14 days of the resolution
4. Company appoints liquidator by ordinary resolution

In a members’ voluntary winding up the creditors play no part, since the assumption is that their debts will be paid in full.

Question 29

What is the process by which creditors voluntary liquidation proceeds?

Answer 29

Suitable where the directors are unable to make a declaration of solvency
1. Shareholders pass resolution to wind up the company. The directors nominate liquidators under the deemed consent procedure.
2. Directors call a creditors’ meeting within 14 days of the proposed resolution giving 7 days’ notice of the meeting to creditors
3. Meeting:
* Director’s present a statement of the company’s affairs.
* Creditors may appoint a liquidator (but must act to do so, or the directors’ choice will be deemed to stand) and, if so, their choice will take priority over the company’s choice.
* Members and creditors form a liquidation committee to assist the liquidator

Question 30

How many creditors must object to a director proposed liquidator for it to be disapproved?

Answer 30

The creditors must make a decision on the nomination of the liquidators after three days of the delivery of the directors’ nomination. If less than 10% of the creditors in value object, the proposal is deemed to be approved.

Question 31

What is the liquidator bound to do?

Answer 31

The liquidator is bound to realise the company’s assets and apply the proceeds in a particular order, including distributing any surplus to contributories once creditors have been satisfied.

Question 32

What is a declaration of solvency?

Answer 32

This is a statutory declaration that the directors have made full enquiry into the affairs of the company and are of the opinion that it will be able to pay its debts in full, together with interest (at the applicable rate), within a specified period not exceeding 12 months.

The declaration must:
* be made by all the directors or, if there are more than two, by a majority of them
* include a statement of the company’s assets and liabilities as at the latest practicable date before the declaration is made
* be made not more than five weeks before the resolution to wind up is passed
* be delivered to the registrar within 15 days after the meeting.

Question 33

What are the grounds for compulsory liquidation? Explain each (2)

Answer 33

1. That the company is unable to pay its debts: Creditor owed more than £750 and unpaid within 21 days of demand for payment.
2. That it is just and equitable to wind up the company

Question 34

How may the BEIS (Department for Business, Energy and Industrial Strategy) petition for the compulsory winding up of a company?

Answer 34

1. If a public company has not obtained a trading certificate within one year of incorporation
2. Following a report by BEIS inspectors that it is in the public interest and just and equitable for the company to be wound up

Question 35

What are the consequences of liquidation? (7)

Answer 35

• Any disposition of the company’s property and any transfer of its shares subsequent to the commencement of liquidation is void unless the court orders otherwise.
• Any legal proceedings in progress against the company are halted (and none may be commenced) unless the court gives leave
• Any seizure of the company’s assets after commencement of liquidation is void.
• The employees of the company are automatically dismissed and the liquidator assumes the powers of management previously held by the directors.
• Any floating charge crystallises.
• The assets of the company may remain the company’s legal property but under the liquidator’s control, unless the court orders the assets to be vested in the liquidator.
• The business of the company may continue, but it is the liquidator’s duty to continue it with a view only to realisation, for instance by sale as a going concern.

Question 36

What are the roles of the liquidator?

Answer 36

1. settle the list of contributories (ie, members who have a liability to contribute in the event of a winding up)
2. collect and realise the company’s assets
3. discharge the company’s debts
4. redistribute any surplus to the contributories according to the entitlement rights attached to their shares

Question 37

Once a liquidation is complete, how must the liquidator act?

Answer 37

In a voluntary winding up, they must prepare an account showing how the winding up has been dealt with and lay it before a meeting of the members and/or creditors. Within the following week they should then file details with the Registrar.

In a compulsory winding up, the liquidator must go back to the court which then makes an order dissolving the company. He then files the order and the Registrar records on the company file that the company is dissolved as from the date of the order.

Question 38

How may charged or transactions entered into or debts incurred by the company be invalidated?

Answer 38

Question 39

What is the order of priority with respect to charges?

Answer 39

Where different charges over the same property are given to different creditors, their priority must be determined.

Order of payment:
1. Fixed charges rank according to the order of creation (i.e. the one created first takes priority).
2. Floating charges (broadly floating charges) also take priority according to the order of creation.
3. A fixed charge created before a floating one has priority
4. A floating charge created before a fixed charge will only take priority over the latter if, when the latter was created, the fixed charge had notice of the floating charge.

Question 40

What is a negative pledge clause?

Answer 40

A creditor to whom a floating charge is given may seek to protect himself against losing his priority, by including in the terms of his floating charge a prohibition against the company creating a fixed charge over the same property, which would otherwise take priority

Question 41

Outline the order of priority of payment during liquidation

Answer 41

1. Fixed charges
2. Costs including the costs of getting in the assets, liquidator’s remuneration and all costs incidental to the liquidation procedure
3. Preferential debts: i) employees’ wages (for a prescribed period and subject to a prescribed maximum), ii) accrued holiday pay, iii) contributions to an occupational pension fund
4. Secondary preferential debts: HMRC in relation to taxes collected by a business on their behalf (ie PAYE and NI)
5. Floating charges – subject to ring-fencing
6. Unsecured ordinary creditors
7. Deferred debts – i.e. dividends declared but not paid and interest accrued on debts since liquidation
8. Members – any surplus (meaning that the company is in fact solvent) is distributed to members according to their rights under the articles or the terms of issue of their shares.

Question 42

What is ring fencing?

Answer 42

A percentage of assets is ‘ring-fenced’ for unsecured creditors where there is a minimum fund for distribution of £10,000,

Question 43

Outline how ring fencing works?

Answer 43

If there is a minimum fund for distribution of £10,000 then:
* 50% of the first £10,000 of floating charge realisations is put aside for the unsecured creditors
* 20% of the floating charge realisations thereafter (up to a maximum) is put aside for the unsecured creditors

The remaining pot is paid out to floating charges and the set aside amount to the unsecured creditors