Made to order
Date: 13 November 2009
Authors: Malcolm Dowden & Saira Malik
Issue: Vol 159, Issue 7393
Categories: Features, Property
Legislative policy, embodied in changes made by Insolvency Act 2000 and Enterprise Act 2002, has reduced court involvement in the initiation of insolvency processes. Despite an increase in the number of out-of-court or “self certifying” appointments of administrators, it remains common to apply for an administration order where a “pre-pack” has been agreed as the order “blesses” the arrangement.
In Re Kayley [2009] EWHC 904 (Ch) the court responded to Counsel’s invitation to offer general guidance on pre-pack administrations. The key issue was the type and extent of information required by the court to inform its decision, and the extent to which the court should take an active role in seeking information, rather than leaving disadvantaged creditors to incur the cost and uncertainty of challenge following subsequent disclosure.
The judge acknowledged concerns relating to pre-packs:
A pre-packaged business has not been exposed to the market, which may lead to it being disposed of for less than would have been obtained had it been marketed for an appropriate period.
Where a pre-pack is effected through administration, stakeholders’ rights to participate in the decision-making process are frustrated.
The pre-pack process is insufficiently transparent. Creditors, or at least certain classes of creditors, are not provided with information allowing them to measure impropriety or unlawfully prejudice to their interests.
A want of accountability. Creditors are entitled to challenge the practitioner's conduct but cannot do so without the information necessary to mount a challenge.
Pre-packs may be unacceptably biased towards secured creditors, notably floating charge holders. There may be no incentive to negotiate a price much over the amount necessary to discharge secured indebtedness.
Where a pre-pack involves the sale of the business to a party previously connected with the company, usually as director, it resembles “Phoenixing”. The risk of collusion is amplified where a business sale is effected through a pre-pack.
The judge added that there may be difficulty obtaining funding in order to enable the administrator to continue to trade while he negotiates a sale of the business. If the negotiation process takes place before his appointment, and the business is continuing to trade in that period, there is an obvious risk that credit incurred in that period will not be paid so that the negotiation takes place at the expense of the creditors.
Statement of Insolvency Practice 16
SIP 16 came into force in January 2009. It reminds insolvency practitioners that they should keep a detailed record of their reasoning in order to explain and justify the decision to implement a pre-pack.
It reminds practitioners that the administrator’s power to sell assets without prior approval from creditors may be subject to challenge under para 74 (unfair harm to the interests of one or more creditors or members) or 75 (misfeasance) Insolvency Act 1986, Sch B1.
Specifically, it highlights the potential liability of directors and others who caused the company to incur credit in the period prior to entry into administration and of the duty of the administrator when realising assets to act in the interest of creditors as a whole.
What information should the court have?
In reaching its decision, the court is likely to be assisted by the provision of information in relation to the pre-pack transaction and its background. It is likely that information required by SIP 16 should in any event be supplied to the court in keeping with the obligation under Insolvency Rules 1986, rule 2.4(2)(e), to provide information likely to assist the court.
If information is commercially sensitive it should still be provided, but made subject to a confidentiality order under rule 7.31(5).
Exercise of the court’s discretion
The court must be alert to see, so far as it can, that the procedure is at least not being obviously abused to the disadvantage of creditors. If it is, or may be, the court may conclude that it is inappropriate to give the pre-pack the apparent blessing conferred by making an administration order.
Indicating that the court might well adjourn an application if information is incomplete or unconvincing, the judge considered that it would not be satisfactory to wait until an application is actually opposed.
That would rely on the court’s ability to give directions for the filing of further evidence on the hearing of the opposed application. Information sufficient to evaluate the proposed pre-pack is likely to assist the petitioning creditor in deciding whether or not to oppose the application. He should not have to commit himself to opposition, with the cost implications that entails, in order to obtain that information.
The judge also gave short shrift to the argument that information not made available to the court on the hearing of the application would be provided to creditors in due course. That would leave it to creditors, once armed with that information, to exercise any remedy in respect of unfair harm or misfeasance afterwards. While that is the primary mechanism for remedying abuse, it is far from effective and places the burden on creditors to justify unpicking a fait accompli.
Although emphatically not a practice direction, the guidance provided in Re Kayley is an extremely useful indication that the court will expect those seeking an administration order “blessing” a pre-pack to ensure that information required to assess the rationale and impact of the pre-pack is available by the hearing.
Malcolm Dowden, solicitor, LexisPSL Saira Malik, paralegal, LexisPSL
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