The insolvency system - time for a rethink

Figures published in the first week of February by the Insolvency Service showed that the number of companies going into liquidation accelerated sharply in the 4th quarter of 2008. With no end in sight to the economic downturn, it seems inevitable that bankruptcies will soon approach the record levels of the early 1990s. What can be done?

Government support for the business sector has, so far, focused on measures to improve bank lending and the supply of credit. However, the UK insolvency framework is another aspect of the economic architecture that could do more to promote the survival of viable companies. The time has come to review policy in this area, and – where appropriate – to incorporate lessons that have been learned from the insolvency systems of other countries.

For example, the Chapter 11 bankruptcy regime in the United States arguably does a better job in sustaining enterprises as going concerns than the existing UK approach. Chapter 11 allows companies experiencing financial difficulties to seek a moratorium on creditor proceedings. The existing board of directors continues to run the business – albeit subject to some constraints - and is given the opportunity to propose a reorganisation plan within a reasonable period. This contrasts with the administration process in the UK, where a court-appointed administrator takes over from management.

The chapter 11 approach is not a panacea, and is subject to its own problems. However, it does have the advantage of encouraging company management to seek a reorganisation with creditors at an early stage. In addition, existing management is often better placed to implement a successful reorganisation of the business than an insolvency practitioner. In contrast, administration in the UK is a management-displacing process which – despite the risk of prosecution for wrongful trading – may not be embraced by boards until the problems of the company are terminal.

The last major piece of UK legislation in this area – the Enterprise Act 2002 – sought to encourage the rehabilitation of companies in administration. However, in practice, companies “emerge” from administration as going concerns in a disappointingly small proportion of cases. Administrators often take the view that a rescue is not practicable or in the interests of creditors. A review published last year by the Insolvency Service found that the proportion of companies being rescued from administration was no greater than that emerging from old-fashioned administrative receivership.

In these difficult times, it is an opportune moment to consider if the UK insolvency framework remains fit for purpose. A rethink is needed. Reform in this area has the potential to produce a better long-term outcome for employees, creditors and the economy in general, and help foster an enterprise culture that is more supportive of companies in their hour of need.

 

Comments

[Stephen Poole]

The increase of insolvency today is not necessarily down to poor managment, its mainly down to the banks not being supportive during cashflow issue's. So therefore the existing managment are still capable of running a successful company but have been let down by their bankers. So a chapter 11 idea would benefit everybody and hopefully would stop successful Businesses going to the wall just because of cashflow

[Peter Windatt]

The move towards "debtor in possession" style insolvency is very much Chapter 11 influenced. Other news very much to the fore at the moment is "Pre-Packs" for which Administrators are being widely berated - here is a business rescue and, no, creditors don't like this either.
One major issue to be overcome when looking at business rescue is TUPER and employee claims/rights etc. that can follow a business sale - how many business sales have been lost as a result of the potential TUPE liability going across to the prospective purchaser.
We have a buffet of insolvency options available to us and, for individuals with modest liabilities, the Debt Relief Order is coming in in April (Debts under £15k, disposable income <£50 and assets <£300 - wipe the slate clean without the need for bankruptcy...).
With insolvency practitioners, including myself, getting busier doubtless next we will be being looked at ever more closely re our fees etc.
One marked difference between companies I dealt with in 1985, when I started working in this field, and those I am dealing with today is that in '85 Companies owned assets and there were assets requiring to be liquidated, today it is much more smoke and mirrors with assets on hire, lease purchase, debts being factored and everything else subject to various securities and prior calls.
Whilst Administrations might not save more than Administrative Receiverships the decline of the latter also meant the decline in those willing to fund ongoing trading - if you can't do a pre-pack who will fund/how will the Administrators fund, ongoing trading whilst a purchaser, other than the existing management, is sought.
Well thought through proposals for alternatives most welcome I'm sure. Especially if they look to help the legions of small SME companies as much as the PLC's - not many £650k p.a. pensions for failure in these.

[Manson]

The Insolvency Act 1986 and its associated legislation was fatally flawed from the beginning and was drafted in the interests of secured creditors, in particular banks, at the expense of the company, its unsecured creditors and shareholders. The only winners have been Insolvency Practioners and their advisers, as well as the banks who appoint them. Reform is long overdue.