Corporate insolvency: The director’s three choices

It concerns me when I meet with a director of a failing company and he or she simply doesn’t know the various insolvency procedures should their company get into financial difficulties.

There are certain key pieces of information any director of a company should know, most of which are geared to happy times and focus on the growth and profitability of the company. However, of equal importance is to have a working knowledge of what to do when the company is financially challenged, whether it is simply a cash-flow glitch or something more terminal. Below are some of the things a director should know to ensure they are prepared for the possibility of the company suffering financially.

Which alternative insolvency procedures exist?

There are three main alternative insolvency proceedings that can be implemented by a director:

• liquidation
• administration
• company voluntary arrangement (known as a CVA).

Which procedure will best protect the director’s company or business, and most importantly, the director’s personal position?

Each procedure has its own applicability and own peculiarity which render them tailor-made for the specific circumstances in which the company finds itself. It is essential that a director knows which procedure would be appropriate for his or her company’s circumstances. He or she will be making decisions against the backdrop of stress as they try to protect their company, the business and their personal position.

Why would a director place a company into liquidation, administration or a CVA?

There are a number of extremely good reasons why a director wants to be seen to be dealing with their failing company effectively and to be complying with their various duties under the legislation by protecting the company and its creditors. Obviously, they don’t want to be prosecuted for trading their company on whilst it is insolvent and thereby incurring a personal liability. Nor do they want to be disqualified as a director. It is important to remember that in a voluntary liquidation or administration the office holder will complete a return to the Disqualification Unit under the Company Directors Disqualification Act (CDDA), especially now as compensation orders can be made by the court on any disqualification.

Voluntary liquidation

This is instigated by the directors of the company and is used where the company is insolvent and, in reality, dead. Rarely is a company in voluntary liquidation traded on; more often than not, the shutters come down and the liquidator will sell the company’s assets on a forced-sale basis and pay a dividend to the creditors of the company. In essence, there is nothing to save in the company.

Administration

Let’s consider an administration order. Where the company, or more likely the business of the company, can be saved and there are aggressive creditors, the director’s first thoughts should be the possibility of an administration order. This will give the nominated administrator time to think of a rescue strategy whilst the creditors are held at bay. Maybe the company is too laden with debt to be rescued. The business could, however, be rescued and sold on, maybe to the directors or maybe to a third party. Jobs, suppliers, landlords, etc. would be saved. Of course, the administrator will again complete a return on the directors under the CDDA.

Company voluntary arrangements

If the company is in good order with a good core business but is simply suffering from a cash-flow hiccup, with sympathetic non-aggressive creditors, the directors would be advised to consider placing the company into a CVA. This is a contractual relationship between the company and its creditors under which the company agrees to pay its debts (or maybe a percentage of those debts) to the creditors over a period of time. A note of caution is that if the company fails to comply with its CVA proposals, the supervisor is usually under an obligation to petition for the compulsory winding up of the company.

The key questions in considering a CVA are:

• Is there a good core business?
• Can the company pay its outgoings together with the CVA payment?

CVAs are prevalent, especially in the retail trade, and the restaurant business in particular is a good example of the effectiveness of a CVA. The directors of a failed restaurant will be concerned that they have to pay their historical debts under the CVA, as well as their ongoing liabilities to current creditors. How will a restaurant facilitate this? Will it change its menu? Will it change its chef? What changes will it make to ensure that it is more successful than it was before?

So, any director needs to ask himself or herself the following questions when his or her company is in financial difficulties:

1. Is there anything to be saved? If not, then a voluntary liquidation might be the best route.
2. Does the company have a good core business and simply needs protection from aggressive creditors to survive or sell its business on? If so, then an administration order may be appropriate.
3. If the company has a good core business with understanding creditors and simply needs to get over a temporary cash-flow hiccup, a CVA may be the best route forward.

Certainly, directors should understand their options in case their company ever faces permanent or temporary cash-flow difficulties. It might be that a secured creditor forces the director’s choice, but at least the director will understand the rationale and consequences of that choice.

If your business is struggling, it is important that you seek legal advice on the best route forward. Please contact Tony Sampson using the below details if you require advice.