Cardiff Legal

High Street Retail­ers ‘Oasis’, ‘Coast’ and ‘Karen Mil­len’, fur­niture retailer ‘MFI’, the ‘Blue­stone Group’ – who run the hol­i­day vil­lage in Pem­broke­shire, West Wales – and ‘Allied Car­pets’, the (former) second largest car­pet retailer in Bri­tain. What do they have in com­mon? Ok, the answer is a giveaway but its strik­ing how the trend of ‘Pre-​pack’ Admin­is­tra­tion has become the pop­u­lar and, some would say, con­tro­ver­sial choice of fin­an­cial res­cue for large UK companies.

Brief back­ground – The Insolv­ency Act 1986 and the Enter­prise Act 2002 set out the Admin­is­tra­tion pro­ced­ure, whereby a com­pany in fin­an­cial dif­fi­culty appoints an Insolv­ency Prac­ti­tioner (IP) to handle its affairs as a going con­cern on behalf of its Dir­ect­ors (Vol­un­tary Admin­is­tra­tion) or its Cred­it­ors (Vol­un­tary or Court Appointed).

A ‘Pre-​Pack’ Admin­is­tra­tion involves the company’s assets being sold imme­di­ately upon enter­ing into admin­is­tra­tion, with the con­sent of its main cred­it­ors, to a new com­pany. The effect is that the old com­pany dis­poses of a major pro­por­tion of its debt and its busi­ness is saved as a going con­cern – i.e. it con­tin­ues to trade and jobs are saved.

The con­tro­ver­sial fea­tures of Pre-​pack Admin­is­tra­tion are linked to its name:

• The sale of the company’s assets is arranged before enter­ing into admin­is­tra­tion — hence the term pre-​pack — and, tech­nic­ally, before the appoint­ment of an Administrator;

• The Dir­ect­ors effect­ively divert addi­tional cap­ital or resources into the new com­pany rather than using it to run the old com­pany in administration;

• Cer­tain classes of cred­it­ors (i.e. unse­cured) have no say in this pro­cess, although a com­plaint can be made to the Insolv­ency Ser­vice if a cred­itor believes the Dir­ect­ors are not act­ing in the interests of the Company.

On appoint­ment, the Admin­is­trator must assess whether the ‘pre-​packaged’ sale of the com­pany is the most viable option. The Admin­is­trator, in the­ory, does not have to accept the pre-​pack deal and must con­sider any altern­at­ive offers on the table. But in real­ity there is unlikely to be a com­pet­ing offer and, pre­vi­ously, pre-​packs were cri­ti­cised for a lack of transparency.

The Insolv­ency Act sets out strict rules about the duties and respons­ib­il­it­ies of the Admin­is­trator. How­ever, crit­ics argue that the vast major­ity of pre-​pack are approved imme­di­ately and bring into ques­tion the inde­pend­ence of the Admin­is­trator. Is the Admin­is­trator act­ing in the interest of the com­pany and its shareholders?

The recent report by the Busi­ness and Enter­prise Com­mit­tee refers to the per­cep­tion that:

Pre-​packs … fuel under­stand­able con­cerns about ille­git­im­ate, self-​serving alli­ances between dir­ect­ors and insolv­ency prac­ti­tion­ers. 

But it is the cri­ti­cisms from unse­cured cred­it­ors which has drawn the most atten­tion. This class of cred­it­ors are unpro­tec­ted in a pre-​pack sale. The idea is that big lenders (e.g. Banks) provide the major­ity of fin­ance to com­pan­ies and as such are treated as ‘pri­or­ity’ when the company’s debts are recovered in a ‘Pre-​pack sale’. How­ever, in most retail pre-​packs the unse­cured cred­it­ors — i.e. cus­tom­ers and small traders – can col­lect­ively out­weigh a single secured cred­itor (e.g. bank).

The Busi­ness and Enter­prise Com­mit­tee recently con­duc­ted a study into the Insolv­ency Ser­vice show­ing that unse­cured cred­it­ors are likely to receive only a 1% return on the debt owed by the com­pany as opposed to at least 3% under the nor­mal admin­is­tra­tion route.

Cobra Beer’s unse­cured cred­it­ors lost an estim­ated £75 mil­lion whilst the new com­pany paid only £14 mil­lion for Cobra’s assets! It is there­fore unsur­pris­ing if there is pub­lic scep­ti­cism, with the per­cep­tion that ‘Pre-​packs’ are arranged behind a cor­por­ate veil. The UK’s Insolv­ency Ser­vice has devised Rule 16, now requir­ing Admin­is­trat­ors to:

1. Explain the back­ground to their appoint­ment to the company’s creditors;

2. Explain the reason why the ‘pre-​pack’ option is best for all parties;

3. Reveal details of poten­tial pur­chasers and fin­an­cial offers;

4. Detail con­nec­tions between the new busi­ness and Dir­ect­ors of the former company.

The demise of Allied Car­pets — with over 1500 jobs in 217 out­lets at risk — par­tic­u­larly char­ac­ter­ised the pro’s & con’s of ‘Pre-​packs’. The per­ceived bene­fits were:

• Over 400 jobs were saved;

• 55 Out­lets were retained and the busi­ness saved as a going concern;

• Secured cred­it­ors received a return on their debt.

But the crit­ics argued:

• More than 1000 jobs were lost;

• Most unse­cured cred­it­ors, includ­ing trade sup­pli­ers and some cus­tom­ers, received little or nothing;

• The former Dir­ect­ors were accused of “asset strip­ping” the com­pany, acquir­ing only the most prof­it­able parts of the busi­ness and dump­ing the major­ity of the debt.

The gov­ern­ment has looked into the effect­ive­ness and fair­ness of ‘Pre-​packs’ and has emphas­ised that unse­cured cred­it­ors should be given more pri­or­ity. Other crit­ics argue that pre-​packs cre­ate an uneven play­ing field for the failed company’s com­pet­it­ors, who remain laden with their own debts yet must now com­pete against the debt free “Phoenix” company.

Lord Bili­moria sums up the con­trari­ety of the ‘Pre-​pack’ option in the res­cue of Cobra Beer:

Pre-​packs have a bad repu­ta­tion and that is quite under­stand­able. People will delib­er­ately go through the pro­ced­ure and wipe out their share­hold­ers and cred­it­ors. What a pre-​pack is meant for is why we had to use it as a last resort. The only other option at that stage was to lose everything.

So per­haps, as a true altern­at­ive to liquid­a­tion of a busi­ness, the pre-​pack scheme is the best “last resort”.

Cardiff Legal