In the fourth in our series of buying from an administrator we rewind the clock a little bit and look at the actions and decisions that those that run businesses in financial trouble need to making, both touching on the need to comply with their legal obligations but also how they might salvage the business.
Legal Duties
The duties of directors is a vast subject but the most critical focus for directors of a business in financial trouble is on whether the bump in the road can be overcome or whether the problems are terminal. At a time where businesses are in financial trouble directors also owe a duty to the creditors of the business. In simple terms this means that the directors should not continue to trade the business and continue to incur new credit where there is no reasonable prospect of rescuing it. This can be a fine line but for those directors that continue beyond the line there is the possibility of them being personally responsible for the losses suffered by the creditors such as under the offence of Wrongful Trading which is now once again fully in force having been to some extent suspended over the summer due to COVID. Accordingly, those directors that may have been using the suspension to buy some time may want to now take some suitable action.
The analogy I use is when you realise that what you thought was the light at the end of the tunnel is actually a train bearing down on you then stop.
To help protect the directors we always recommend (i) taking the advice of an insolvency practitioner who will be able to advise on potential restructuring options (extra financing, rationalisation, the moratorium process introduced by the Corporate Insolvency and Governance Act 2020, change of business focus) and also to independently verify management’s rescue plans and (ii) regularly assess and reassess the position of the business and document/minute the decisions to continue and the justification for doing so.
Broadly speaking the potential offences are not there to penalise the honest director who has got it wrong but those who blindly continue without regard to the consequences so these actions are both prudent and there to protect.
Can I salvage the Business?
If the situation arises where there has been no alternative but to call in the administrators then that is not necessarily the end of the business.
There is no reason why directors of an insolvent business cannot bid to buy the business back from the administrator and indeed it is common for it to happen. Whilst fresh funding may well be required (see our earlier article), the directors may well be in the best place to take up the reins again, particularly if the cause of the insolvency was something out of the blue rather than something endemic in their management.
Thought should be given to whether the whole business or perhaps only part should be bought back thereby perhaps shedding a loss making part.
Management are also well advised to make plans prior to the business entering administration. There are examples (fewer these days) of businesses entering administration and being immediately bought back by management – colloquially known as a pre-pack. Under a pre-pack management, the administrator and any secured creditors agree what is going to happen before the business even enters into administration. For that reason pre-packs have at times been criticised and the government is in the process of further restricting their use but they remain a possibility where the administrator can take the view that it will give the best result for creditors.
It also needs to be remembered that an administration leads to a loss of management control. There is no guarantee that management will end up being the preferred bidder as administrators are duty bound to get the best result for creditors. Accordingly, there is always the risk of a trade or other buyer swooping for the business and therefore administration should always be a last resort.
Example
An illustrative example of how the process can lead to an ultimate success is that of a client of mine from some years ago. The lead individual worked for a large company that had entered insolvency. He identified a particular piece of IP that was only a small part of the company’s assets and agreed terms to buy the IP from the administrators, funded by the bank that had originally banked the insolvent company. He then developed, commercialised and brought to market the product generated by the IP. Despite a bump in the road caused by the insolvency of a “blue-chip” customer which led to a second administration, he bought the business back again, continued to develop and grow it before eventually selling a thriving business to an international PLC some 10 years or so after having bought that specific piece of IP in the first place.
For more information on the topic please contact Rupert Gill.
