Lecture 8 - Insolvency Flashcards
Insolvency Law
Insolvency law governs the process through which individuals or businesses that cannot meet their financial obligations (debts) are dealt with. The primary objective of insolvency law is to balance the interests of creditors and debtors while ensuring fair treatment, maintaining economic stability, and enabling opportunities for financial recovery or orderly liquidation
Administration
A formal insolvency process where an administrator is appointed to take control of the company with the primary goal of rescuing it as a going concern.
An administrator can be appointed by:
The directors by a majority vote
The company ‐ an ordinary resolution is required
A creditor
A Qualifying Floating Charge Holder QFCH
The applicant must show that:
The company is or is likely to be unable to pay its debts.
An administration order is likely to achieve the purpose of administration
Must give notice of application to Qualifying Fixed Charge Holder who may intervene
Benefits of administration
The company does not necessarily cease to exist. It provides temporary relief from creditors to allow a breathing space to formulate rescue plans, Allows the administrator to explore rescue or restructuring options without immediate pressure from creditors
administration is not a permanent solution; rather it is more of a holding stage while a concrete plan is devised. One of the main benefits of company administration is thata moratoriumis placed around the company meaning it is protected against legal actions from creditors, including theissuing of a winding up petition. This gives an indebted company vital breathing space to consider its future free from the threat of an impatient creditor commencing legal proceedings.
While in administration the appointed administrator will consider the potential viability of the company going forwards, while giving careful consideration to the company’s outstanding creditors and ensuring any future steps will increase their potential returns as much as possible. An exit out of administration can then be planned.
Creditors should obtain a return on their past debts and a continued business relationship in the future
Members will continue to have shares in the company and hopefully because of a successful administration an enhanced share value
Consequences of Administration
There is a moratorium over the company’s debts ‐ that is no creditor can enforce their debt during the administration period without the court’s permission.
During the administration, no resolution or court order to wind up the company can be made.
Administrator or courts consent is needed for enforcement of a fixed charge.
No recovery of leased or HP property.
No other legal proceedings
Powers of the Administrator
In everyday language an Insolvency Administrator has the power to:
Dismiss directors, managers and employees
Close outlets
Negotiate the sale of the business of the company
Put forward re-structuring proposals to creditors
Management Control: The administrator assumes full control of the company’s affairs and assets, effectively replacing the directors.
Powers include: Running the company’s day-to-day operations,
Making decisions about the company’s future.
Legal Authority administrator can:
Enter into contracts on behalf of the company.
Terminate burdensome or unprofitable agreements.
Initiate or defend legal proceedings.
Financial Powers Administrators can:
Sell or transfer company assets.
Collect and distribute funds owed to the company.
Make distributions to creditors based on priority
Duties of the Administrator
Within 7 days s/he must:
File notice of his appointment with Registrar of Companies.
Require company’s officers and employees to provide a statement of affairs (they have 11 days to do this)
Within 8 weeks s/ he must submit a statement of his proposals for achieving the aim of administration to:
The Registrar
The company’s creditors
The company’s members
Within 10 weeks s/he must hold a creditors’ meeting ‐ unless s/he considers there is insufficient property to make a distribution to unsecured creditors
The creditors may either accept the proposals or reject them (in which case the court can make an order as it sees fit including the termination of the administrator’s appointment)
One year after appointment, the administrator’s appointment is terminated unless it is extended by the court or once only by a prescribed majority of creditors
Prepack administrations
A prepack administrations is an insolvency procedure in which a company arranges to sell all or some of its assets to a buyer before appointing an administrator to facilitate the sale.
It completes either immediately upon or shortly following the appointment of the administrator.
The rationale for pre-packaging is that the administrator will get a better deal for the company and therefore more for creditors as it is in administration for as little time as possible
Objectives of Pre-Pack Administration
To maximize returns for creditors.
To preserve the business as a going concern.
To protect jobs and key relationships (e.g., with suppliers and customers).
To reduce the costs and delays associated with alternative insolvency procedures, such as liquidation
Company Voluntary Arrangement (CVA)
CVAs are governed by the Insolvency Act 1986 and are intended to avoid a company being wound up/liquidatedA 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
For medium /large companies CVAs are often combined with administration as
once the notice of appointment has been filed, a permanent moratorium begins that lasts until the company administration ends.
At present only small companies benefit from the 28 days moratorium. A moratorium period stops any legal action and offers the breathing space needed to prepare for negotiations with creditors
A CVA is a compromise, and all stakeholders stand to lose something. The company and its stakeholders benefit from the company receiving breathing space and an opportunity to focus on profitable elements of the business. That hopefully means a happier ending in the long run, even if the immediate result is redundancies and lost income
To be effective, the company must use the opportunity to tackle the underlying problem that led to the debts and poor performance in the first place. A CVA without a sustainable business plan is simply delaying the company’s inevitable failure. In the case of many high profile CVAs there is thought to be a profitable and viable core business, and the objective of the CVA is to salvage that
A CVA provides the opportunity to renegotiate debts and current lease agreements to put the company on an improved financial footing. The release of cash previously needed to service debt is used to move the business forward, and directors remain in control of the company
Liquidation
Liquidation is the formal process of winding up a company’s affairs, where the company’s assets are sold off (liquidated) to pay creditors, and the company is subsequently dissolved. The primary aim of liquidation is to distribute the company’s assets among creditors and to formally end the company’s existence if it can no longer continue to operate due to insolvency.
Compulsory liquidation and creditors’ voluntary liquidation are proceedings for insolvent companies
Compulsory Liquidation
Under this method, the company is forced into liquidation by one or more of its creditors. Under the Insolvency Act 1986 creditors may apply to the court for the compulsory liquidation of a company There are seven possible reasons:
The two most common reasons are
The company cannot pay its debts
It is just and equitable to wind up the company
A court can order the liquidation of a company on the grounds that it would be just and equitable to do so. The courts have used this power to wind up companies for reasons such as there is deadlock in the management of small companies or that there was a justifiable lack of confidence in the management or that the company was formed for a fraudulent purpose. It must be shown that no other remedy is available
Voluntary Liquidation
voluntary liquidation occurs when a company’s shareholders or directors decide to liquidate the company, usually when the company is insolvent, but it can also be used when a company is solvent but needs to wind down.
Types of Voluntary Liquidation:
Creditors’ Voluntary Liquidation
Members’ Voluntary Liquidation
Members voluntary liquidation
Members voluntary liquidation is where the company is solvent, but the members decide to close the business down
Process: The shareholders appoint a liquidator and agree to the terms of the liquidation. An independent declaration of solvency is required to confirm the company can pay all its debts within 12 months.
Outcome: The company is liquidated, and any remaining assets are distributed to shareholders after creditor payments
Creditors’ voluntary liquidation
A CVL is initiated when a company is insolvent, and its directors believe the company cannot continue in business.
Process: The directors of the company agree to wind up the company, and creditors vote on the liquidator’s appointment. The liquidator then sells the company’s assets, pays creditors, and ensures the company is properly dissolved.
Outcome: The company is dissolved after the liquidation process is completed
This liquidation is NOT initiated by the creditors.
Where a company intends to wind up voluntarily, but the directors are unable to make a declaration of insolvency the liquidation proceeds as a creditors’ voluntary winding up
During the period before the creditors meeting but after the resolution for winding up the members’ nominee will act as provisional liquidator. During this period, the liquidator’s powers are restricted to:
Taking control of company’s property
Disposing of perishable or other goods which might diminish in value
Doing other things necessary for the protection of the company’s assets
This restriction is necessitated by the practice of ‘Centrebinding’ whereby the assets are fraudulently disposed of before the creditors’ meeting.
At the creditors’ meeting the creditors can appoint their own nominee to act as liquidator.
The directors of the company must prepare and lay before the creditors’ meeting a statement of affairs of the company, but they do not have to make a declaration of insolvency
The Role of the Liquidator
Settle the list of contributories‐members who have an obligation to contribute to a winding up.
Collect and realise the company’s assets.
Discharge the company’s debts.
Redistribute any surplus to the contributories according to the entitlement rights attached to their shares
Securing Assets: The liquidator takes control of all the company’s assets, including physical property, intellectual property, financial accounts, and any outstanding debts owed to the company.
Freezing Company Activities: The liquidator stops the company from continuing any trading activities or entering into any new contracts unless necessary for the liquidation process.
Paying Secured Creditors: Secured creditors (those with collateral or guarantees, such as banks) are typically paid first from the proceeds of asset sales
Debt Collection: The liquidator may also pursue outstanding debts owed to the company, including legal action to recover any funds
