When is Pre-Packaged
Administration Appropriate? –
A Theoretical Consideration
Dr Peter Walton
University of Wolverhampton
What is a pre-pack?
Statement of Insolvency Practice 16 (“SIP16”):
“An arrangement under which the sale of all
or part of a company’s business or assets is
negotiated with a purchaser prior to the
appointment of an administrator, and the
administrator effects the sale immediately
on, or shortly after, his appointment.”
What are the perceived problems
with pre-packs?
Re Kayley Vending Limited [2009] BCC 578 at 583:
“A general summary of these concerns would be that the speed and
secrecy which give rise to the advantages claimed for pre-packs may
too easily lead the directors and the insolvency practitioner to arrive at
a solution which is convenient for both of them and their interests
(perhaps also satisfying a secured creditor who might be in a position
to appoint his own receiver or administrator), but which harms the
interests of the general creditors because:
(i)
(ii)
(iii)
(iv)
it may not achieve the best price for the assets;
credit may be incurred inappropriately in the pre-appointment
period;
they are deprived of the opportunity to influence the transaction
before it takes place; and
having been presented with a fait accompli , they have
insufficient information to make it worthwhile investigating and
challenging the decisions taken.”
Benefits of pre-packs?
Peter Sargent, the president of R3:
“Pre-packs are a very misunderstood
insolvency tool, and the benefits – for
example, the numbers of jobs saved – are
often lost in concerns over the impact on
unsecured creditors.”
Insolvency Service Consultation
possibilities
1.
2.
3.
4.
5.
No change
Give statutory force to the disclosure requirements
required by SIP 16
Following a pre-pack administration, restrict exit from
administration to compulsory liquidation, so as to
achieve automatic scrutiny by the official receiver of
directors’ and administrators’ actions
Require different insolvency practitioners to undertake
pre and post administration appointment work
Require the approval of the court or creditors, or both,
for the approval for all pre-pack business sales to
connected parties
• Pre-packs – how best to develop a policy?
• Evidence already out there – are we
nearer a solution?
• Due to an almost total absence of
statutory intervention in the area we have
a blank canvas to paint
• Why not consider legal theory?
Possible theories underpinning
insolvency law:
•
•
•
•
Contractarianism
Communitarianism
Forum
Multiple values/eclectic approach
Contractarianism
• Law and Economics School
• Wealth Maximisation model rests on the notion
that with any given set of entitlements creditors
would prefer a system that kept the size of the
pool of assets as large as possible
• Hypothetical Creditors’ Bargain: the contractual
terms to which at the time credit is extended, a
creditor and debtor would agree should govern
in the event of the debtor’s insolvency.
Contractarianism
• According to the Insolvency Service’s
consultation letter of June 2007, the proposed
changes recognised the policy imperative of prepacks is to maximise the return to creditors.
• In doing so there is a need to strike a balance
between the “informational interests of creditors”
whilst leaving the administrator free “to act
expeditiously and without undue hindrance” in
maximising asset realisations and returns to
creditors.
Contractarianism
• There remain real doubts as to whether
pre-packs lead to wealth maximisation due
to the lack of transparent and open
marketing of the business. This is
particularly a concern where the
incumbent management team buy the
business (e.g. Clydesdale Financial
Services Ltd v Smailes [2009] BCC 810 ).
Contractarianism
• A judgment can be made as to whether or
not wealth maximisation has been
achieved by the court, a creditors’
meeting, a subsequent liquidator or by the
appointment of an independent
administrator
• The Insolvency Service’s suggested
amendments would lead to more certainty
as to wealth maximisation
Contractarianism
• Contractarian theory assumes that the
insolvency procedure will be collective in
nature. This requires that all creditors get
a say in the process or at least have their
interests fairly protected.
• Real concerns in this regard have been
expressed by real creditors
Contractarianism
• A view expressed by the Association of British
Insurers suggests that creditors perceive a lack
of independence in management buy-out prepacks:
• “We do not believe that insolvency practitioners
can fully and properly discharge their duty to act
independently in the interests of creditors, when
they have already been engaged by the
distressed company to achieve a pre-agreed
outcome (particularly where that outcome is a
sale of parts of the business to the existing
owners).”
Contractarianism
• Would hypothetical creditors agree to a process
where the insolvency practitioners involved
freely admit that a pre-pack “offers the secured
creditors a high level of control and certainty”?
• The pre-pack process appears to have more in
common with receivership
• It would therefore seem sensible to require an
independent insolvency practitioner (“IP”) to be
appointed to assess the pre-pack
Contractarianism
• Even if the requirement for an independent
assessment of the deal were introduced,
would hypothetical creditors, contracting
ex ante from their original position, agree
to a process whereby two or possibly three
practitioners are paid fees for dealing with
one insolvent company?
Contractarianism
• One of the concerns that contractarians
express in relation to reorganisations is
they “invite dissipation of the common pool
by specialists, lawyers, accountants, and
economists, who are similarly motivated to
secure individual advantage at group
expense.”
Communitarianism
• Communitarians look to balance a wide range of
different stakeholders in the insolvency of the
debtor and to consider the welfare of the
community at large
• Communitarianism considers limiting the rights
of high ranking creditors to give way to some
extent to others including the community at large
• On this basis, it might be possible to increase
the prescribed part set aside for unsecured
creditors where there is a pre-pack to sweeten
the pill
Communitarianism
• In order that insolvency law acts to benefit
society at large, communitarians would favour
the survival of businesses where feasible as well
as orderly windings up where survival is not
possible
• The economic life of a region or the nation
should be considered as significant
• The ripple effects of a business failure and its
long term consequences should be factored into
insolvency law
Communitarianism
• Turning around a financially distressed business
may have many community benefits in terms of
continued business for suppliers, continued
employment for workers and in the context of
three reported pre-pack cases continuity of legal
services for clients where the failed business
was a solicitors’ firm
• Communitarians would also argue that it is in the
interest of the community at large not to have an
insolvency procedure which brings the law into
disrepute
Communitarianism
• Road Haulage Association:
“… within the road haulage sector, far from
protecting jobs pre-packs undermine quality
and sustainable jobs within the industry and
that far more importance should be attached
to the damaging impact that a pre-pack
company has on its responsible competitor firms
and their employees within the sector.”
• A high proportion of of pre-packed businesses
fail subsequently
Communitarianism
• It does consider society’s needs in general
but articulating those needs in a legislative
form may prove problematic. Such
considerations could be taken into account
in assessing whether or not a pre-pack
was appropriate in given circumstances
but such a judgment would be potentially
problematical for a court and could lead to
a lack of certainty.
Forum Theory
• Procedurally there should be a forum available
where all interests affected by a business failure
can be heard. This would apply to those with a
direct financial interest in the failure and those
with non financial claims but still an interest in
the ongoing business (such as employees,
suppliers and customers).
• In order to satisfy Forum theorists, some form of
representation, of creditors at least, would need
to be introduced
• This could be achieved by the introduction of a
subsequent liquidation with its creditors’ meeting
and independent liquidator
Multiple Values/ Eclectic Approach
• Lists a number of distributional priorities
• Includes the relative ability to bear the costs of
default, transaction avoidance, treating creditors
with similar characteristics equally, impairment of
some creditors’ pre-insolvency rights to ensure
fairness and the:
“almost axiomatic principle of business law…that,
because equity owners stand to gain the most
when a business succeeds, they should absorb
the costs of the business’s collapse – up to the full
amount of their investment.”
Multiple Values/ Eclectic Approach
• In the context of the revival of failing business
the interests of those who are not directly
“creditors” are also to be recognised such as
older employees who would struggle to retrain
for other jobs, customers who would have to
resort to less attractive suppliers of goods and
services, suppliers who would lose current
customers, nearby property owners who suffer
declining property values and tax authorities
suffering a reduction in taxation revenue
Multiple Values/ Eclectic Approach
• A policy focussing on such values assists the
decision making process “even if it does not
dictate specific answers.”
• The critical questions under this approach
include asking a number of questions about the
business failure:
• Who may be hurt by it? How might they be hurt?
Can the hurt be avoided? At what cost can it be
avoided? Who is helped by the business failure?
Who can efficiently evaluate the risks of
business failure? Who contributed to the failure?
Who can best bear the costs? Who is expected
to bear the costs?
Multiple Values/ Eclectic Approach
• The main criticism of the multiple values
approach is that it is too widely expressed to be
of much specific assistance in developing a
policy. There is little guidance provided as to
how much emphasis needs to be given to each
of the priorities identified. It is not clear which
principles are to be seen as core and which are
of peripheral relevance.
• It is arguable that insolvency law needs to
balance the rights of all these different
stakeholders
Multiple Values/ Eclectic Approach
• The answer to this conundrum may lie in the
origins of pre-packs in the UK
• When pre-packs first became common following
the EA 2002 they were considered as useful in
certain specific types of situation e.g.
1. where the business was regulated (e.g. by the
Solicitors’ Regulatory Authority),
2. there was a “people” business with few physical
assets or
3. where a brand, intellectual property or lease
portfolios would be irrevocably damaged
Conclusion
• Something needs to be done
• Whether the new policy is informed by the
hypothetical creditors’ bargain or
communitarian, forum theory or multiple
values principles – the main problem:
• The apparent lack of independence of the
pre-pack administrator and the
consequent suspicion that unsecured
creditors get a raw deal
Conclusion
• It may have been possible for the
profession to sort these problems out with
the drafting of SIP 16 and the new Code of
Ethics
• The perception is that, especially with
management buy-out pre-packs that the
management get all the benefits and the
unsecured creditors all the pain
• The process needs to be seen to be more
collective
Conclusion
• It might be interesting to introduce
provisions balancing out that loss more in
favour of unsecured creditors
• Pre-packs could be limited to certain types
of situations only and then only with the
approval of the court
• As a minimum an independent IP needs to
appear in the process and there needs to
be a creditors’ meeting – a liquidation
subsequent to the pre-pack
Conclusion
• Requiring a creditors’ meeting prior to the
pre-pack may defeat the whole object of a
pre-pack
• Paying two or even three IPs may not lead
to wealth maximisation from the viewpoint
of the unsecured creditors
• Any solution to the ongoing furore around
pre-packs would need to emphasise
honesty and fair dealing