Insolvency procedures

This guide is based on UK law as at 1st February 2010, unless otherwise stated. It is part of a series on Financial difficulty and insolvency.

The following is a brief summary of insolvency procedures.

Administration

Administration will have one of three purposes. These, in order of desirability, are:

• to rescue the company as a going concern – as opposed to selling its business and leaving a “shell”;
• to achieve a better result for the creditors as a whole than if the company were wound up;
• to sell the business or its assets in order to pay secured and/or preferential creditors (e.g. employees owed wages/holiday pay).

Administrators can only opt for the second purpose if they think that the first is not likely to be achieved or is not in the best interests of the creditors as a whole. They may not seek to achieve the third (fallback) purpose unless they think neither the primary nor the secondary purpose is likely to be achieved and no unnecessary harm will be caused to the interests of creditors as a whole.

The advantages of an administration order are that, without the consent of adminstrator or leave of the court:

• a company cannot be wound up;
• no legal proceedings can be taken against a company;
• a receiver cannot be appointed and no other steps can be taken to enforce any security;

Once an administrator has been appointed they will take over the management of a company. This will relieve the directors from taking the critical day to day decisions and therefore minimise any risks of liability from that point on.

There are now three methods of appointing an administrator. These are explained below.

1. Appointment by the court

A company, its directors or one or more creditors can apply to the court for the appointment of an administrator. The court may appoint an administrator only if it is satisfied that a company is, or is likely to become, unable to pay its debts and that the administration order is reasonably likely to achieve one of the three potential purposes explained above.

2. Appointment by the holder of a qualifying floating charge (QFC)

A QFC is a floating charge over the whole or most of a company’s property and is created by a document that states that paragraph 14 of Schedule B1 to the Insolvency Act 1986 applies – or, more specifically, that the holder of the floating charge may appoint an administrator or (if the floating charge was created before September 15, 2003) an administrative receiver.

3. Appointment by the company or its directors

A company or its directors can appoint an administrator without a court order – i.e. make an “out of court” appointment. They will, however, be unable to do so if within the previous 12 months any of the following applied:

• the company had been in administration but that administration had come to an end at the behest of the company or its directors;
• a voluntary arrangement had ended prematurely;
• a moratorium (obtained under schedule A1 of the Insolvency Act 1986) had ended without a voluntary arrangement being approved.

Company Voluntary Arrangements (CVAs)

A CVA is an arrangement whereby the company continues to trade having reached an agreement with its creditors in satisfaction of its pre-existing debts, usually for a percentage of their face value. It can be used in cases where a liquidator or an administrator has already been appointed. The directors propose the arrangement and put it before unsecured creditors for approval. Copies of the agreed arrangement are filed at court.

The procedure to put a CVA in place, and the implementation of a CVA, must be supervised by an accountant qualified to act in insolvency matters – i.e. an insolvency practitioner.

A CVA is not necessarily a “once and for all” solution. A creditor may subsequently apply to a court on the grounds that there is significant irregularity with the CVA or that their interests are being prejudiced.

Until a CVA takes effect, a company will be unable to prevent creditors from enforcing their rights unless additional protection is sought from the court.

Voluntary winding-up

There are two types of voluntary winding-up. Both have the same result: bringing the life of a company to an end.

• A members’ voluntary winding-up depends on a declaration of solvency by directors. The directors swear that they have made a full inquiry into the company’s affairs and have concluded that it will be able to pay all its debts, together with interest, within 12 months of the declaration. The company, at a general meeting, then passes a special resolution to wind the company up and appoints an insolvency practitioner as liquidator.
• A creditors’ voluntary winding-up is begun by the shareholders, who pass a resolution saying that the company cannot by reason of its liabilities continue its business and that it is advisable to wind it up. Subsequently, the creditors’ wishes regarding the appointment of the liquidator and the conduct of the winding-up generally override the shareholders’ wishes.

Compulsory winding-up

A compulsory winding-up can be started without the involvement of a company’s shareholders. A petition is filed at court, and at a hearing some weeks later the court decides whether to make a winding-up order. If it does, the company is then in liquidation. The petition is usually filed by creditors.

Receivership

A receiver may be appointed by the holder of a fixed or floating charge granted by a company. Typically, a company will be served with a demand for repayment of monies due, and this will be followed by an appointment just hours later. Alternatively, a company may invite a charge-holder to appoint a receiver.

The receiver’s task is to recover sums due to the secured lender or to realise the lender’s security.

Historically, an administrative receiver has been appointed by the holder of a floating charge covering the whole, or substantially the whole, of the company’s property. Receivers, by contrast, have been responsible solely for assets subject to a fixed charge.

Administrative receivership, however, is dying out: the provisions of the Enterprise Act 2002 effectively abolished it for charges created after September 15, 2003.