The truth is that those directors who are alive to the realities are the ones who are most likely to save their business and come out the other side. But this requires some understanding of how the insolvency system can be used to your advantage. Insolvency can actually save a business if it is handled correctly.
The way to save a business is by a process called administration. To best understand administration, you also need to understand how the other, more formal insolvency procedures work:
Liquidation is where an insolvent company shuts down (either voluntarily, or by court order on the petition of a creditor). A liquidator is appointed to realise the assets of the company (usually at fire-sale prices), close down operations, and pay creditors as far as is possible. The process of a creditor applying to court is called winding up.
Receivership occurs where there is a debenture (or mortgage) given by a company to a creditor - usually a bank.
Where the company defaults, the creditor will send in a receiver (usually an accountant) to take control of the assets which are the subject of the debenture. Their aim is to realise those assets (sometimes, the whole company itself) not for the benefit of creditors generally, but specifically for the creditor, which holds the debenture.
Once a receiver has paid off the debenture holder, there is usually nothing left of the company and it goes into liquidation.
Voluntary arrangements are a cheaper and more informal method of insolvency, whereby, through the assistance of an insolvency professional, creditors agree a global compromise with the debtor, eg to accept 10p in the pound. This only works with the co-operation of the creditors.
Administration cuts across the potential problems of the procedures mentioned above. The idea is that the directors, the creditors or the company can apply to the court to appoint an insolvency professional as administrator of the company. This person then acts like a trustee.
The specific purpose of the appointment is usually to allow the company time to trade out of difficulty, or, if that is not feasible, to allow a better realisation of assets to pay creditors.
Even where a company cannot survive despite administration, it is often the case that the people behind the company will be able to buy their business back off the administration and continue to trade without the historical debts.
So, all may not be lost. The important point is to act quickly and take advice if you are in trouble.
If you are an ostrich, and do not act soon enough, there may be nothing to save. Your creditors may try to get in first and wind up the company, leaving you with nothing.
If you receive a winding up petition, it is not too late. It is still possible to go for administration. But you need to act quickly. The professional advisers who deal with administrations are lawyers and insolvency practitioners, usually in combination. A lawyer who works in insolvency will be able to bring in the right insolvency practitioner for the job.
The economy is in a bad way. Businesses are falling over in fairly quick succession these days. Ostriches are an endangered species.
Michael Clinch is partner and head of litigation on insolvency and administrations at law firm Picton Howell
The advantages of administration
- It is a relatively inexpensive and fast procedure
- The consent of the creditors body is not required
- It puts a freeze on court proceedings, such as winding up petitioners, against the company, giving breathing space to trade out or refinance
- An insolvency professional takes over the company and, in the right circumstances, will turn the business around.
This was first published in January 2003