Pre-packaged insolvency

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Pre-packaged insolvency (a "pre-pack") is a kind of bankruptcy procedure, where a restructure plan is agreed in advance of a company declaring its insolvency. In the United States pre-packs are often used in a Chapter 11 filing. In the United Kingdom, pre-packs have become popular since the Enterprise Act 2002, which has made administration the dominant insolvency procedure. Such arrangements are also available in Canada under the Companies' Creditors Arrangements Act.

United Kingdom[edit]

The term "pre-pack sale" has been defined by the Association of Business Recovery Professionals as, "an arrangement under which the sale of all or part of a company’s business or assets is negotiated with a purchaser prior to the appointment of an administrator, and the administrator effects the sale immediately on, or shortly after, his appointment".[1] The difference between a pre-pack sale and a normal sale is that ordinarily the administrator markets the business and negotiates the terms of the sale after his appointment.

The reasons why an administrator sells on a pre-pack basis, rather than after post-appointment marketing, vary from case to case, but often involve the following considerations. A pre-pack sale avoids the costs and risks of trading, and indeed the company and the administrator may not have the funds to trade. The value of the business may deteriorate during administration trading. There may be other factors to prevent trading, such as regulatory problems.[2]

The courts have held that an administrator can sell the company's assets immediately upon his appointment, without court approval or the approval of the creditors,[3] and can do so even if the majority creditor objects.[4] They have even approved transactions which, as a "necessary evil", have made payments to the former management while leaving little or nothing for unsecured creditors.[5]

In January 2009 the Association of Business Recovery Professionals issued its Statement of Insolvency Practice 16 [6] which requires insolvency practitioners to disclose the following matters to all creditors as soon as possible after the completion of the sale:

● The source of the administrator’s initial introduction

● The extent of the administrator’s involvement prior to appointment

● Any marketing activities conducted by the company and/or the administrator

● Any valuations obtained of the business or the underlying assets

● The alternative courses of action that were considered by the administrator, with an explanation of possible financial outcomes

● Why it was not appropriate to trade the business, and offer it for sale as a going concern, during the administration

● Details of requests made to potential funders to fund working capital requirements

● Whether efforts were made to consult with major creditors

● The date of the transaction

● Details of the assets involved and the nature of the transaction

● The consideration for the transaction, terms of payment, and any condition of the contract that could materially affect the consideration

● If the sale is part of a wider transaction, a description of the other aspects of the transaction

● The identity of the purchaser

● Any connection between the purchaser and the directors, shareholders or secured creditors of the company

● The names of any directors, or former directors, of the company who are involved in the management or ownership of the purchaser, or of any other entity into which any of the assets are transferred

● Whether any directors had given guarantees for amounts due from the company to a prior financier, and whether that financier is financing the new business

● Any options, buy-back arrangements or similar conditions attached to the contract of sale.

A pre-pack administration offers quite a few advantages[7] but it also has a downside.[8] The main benefit is the 'continuity' of the business - the company is protected by the Court. This gets rid of debts, contracts and possibly some employees (TUPE issues are normally addressed beforehand). Another big advantage is that the cost of the process is lower than trading administration, as the administrators do not need to find funding to trade the business. The downside of a pre-pack administration is that it can attract negative publicity if the former directors are seen to be shedding liabilities.

The Insolvency Service monitors compliance with SIP 16.[9] Its reports show that in 2010 it reported 10 insolvency practitioners to their licensing bodies, and in 2011 it reported 21.[10]

United States[edit]

In the United States, typically the term pre-packaged insolvency is recoined as pre-packaged bankruptcy. A conventional bankruptcy case is one in which the debtor files for Chapter 11 relief without having agreed in advance to the terms of a plan of reorganization with its creditors. During the course of the Chapter 11 case, the debtor or, if the debtor does not retain the exclusive right to propose a plan, a creditor or creditor group may formulate and propose a plan of reorganization.[11]

a company undergoing Chapter 11 reorganization is effectively operating under the protection of the court until it emerges. An example is the airline industry; in 2006 over half the industry's seating capacity was on airlines that were in Chapter 11.[12]

In 2009, a new entity completed the purchase of continuing operations, assets and trademarks of General Motors as a part of the 'pre-packaged' Chapter 11 reorganization.[13][14] As ranked by total assets, GM's bankruptcy marks one of the largest corporate Chapter 11 bankruptcies in U.S. history. The Chapter 11 filing was the fourth-largest in U.S. history, following Lehman Brothers Holdings Inc., Washington Mutual and WorldCom Inc.[15] A new entity with the backing of the United States Treasury was formed to acquire profitable assets, under section 363 of the Bankruptcy Code, with the new company planning to issue an initial public offering (IPO) of stock in 2010.[16] The remaining pre-petition creditors claims are paid from the former corporation's assets.[13][16]

Criticism[edit]

A review from Wolverhampton University identified the several criticisms of pre-pack sales. There is a general concern that the pre-pack administrator, in agreeing to the pre-pack in consultation with the company’s management team (and usually its secured creditors), favours the interests of the managers and secured creditors ahead of those of the unsecured creditors. The speed and secrecy of the transaction often lead to a deal being executed, about which the unsecured creditors know nothing and offers them little or no return.[17]

There is often a suspicion that the consideration paid for the business may not have been maximized due to the absence of open marketing. Credit may have been incurred inappropriately prior to the pre-pack and this may not be fully investigated.[18] Criticism of this nature had been levelled at pre-pack sales by John Moulton of Alchemy Partners in January 2009, saying 'Pre-packs could be very easily abused. Bad management can plan for a prepack months in advance, line up an administrator - and then be back running the business immediately. It means when retailers fail they are often being kept with the same directors when it would be much healthier if new management arrived and with fresh money to invest".[19]

Pre-packs have received somewhat of a mixed press due to unsecured creditor frustration with directors buying the company and/or assets, often at an undervalue. However, pre-pack sales come with positive aspects. For example, employee jobs are saved in 82% of cases. This helps employment figures within the host nation. [20]

References[edit]

  1. ^ http://www.r3.org.uk/media/documents/technical_library/SIPS/SIP%2016%20E&W.pdf
  2. ^ see, for example, Re DKLL Solicitors [2007] EWHC 2067 (Ch), http://www.bailii.org/ew/cases/EWHC/Ch/2007/2067.html for consideration of these issues
  3. ^ Re T&D Industries Plc [2000] 1 WLR 646; Re Transbus International Limited [2004] 1 WLR 2654
  4. ^ Re DKLL Solicitors [2007] EWHC 2067 (Ch), http://www.bailii.org/ew/cases/EWHC/Ch/2007/2067.html
  5. ^ Re Halliwells LLP [2010] EWHC 2036 (Ch) at para 20 http://www.bailii.org/cgi-bin/markup.cgi?doc=/ew/cases/EWHC/Ch/2010/2036.html&query=halliwells+and+LLP&method=boolean
  6. ^ http://www.r3.org.uk/media/documents/technical_library/SIPS/SIP%2016%20E&W.pdf
  7. ^ http://www.realbusinessrescue.co.uk/pre-pack-administration/advantages Advantages of Pre-Pack Administration, Keith Tully, Retrieved 3 October 2014
  8. ^ Steven, Keith. "Pre-pack administration", London. Retrieved on 12 June 2014.
  9. ^ http://www.bis.gov.uk/insolvency/insolvency-profession/regulation/statements-of-insolvency-practice/sip-16-reports-pre-packs
  10. ^ http://www.accountancyage.com/aa/news/2174788/21-ips-reported-compliance-pre-packs-2011
  11. ^ "The Pros And Cons Of Prepackaged Bankruptcy". Law 360. Retrieved 28 July 2014. 
  12. ^ Isidore, Chris; Senior, /Money (2005-09-14). "Delta and Northwest airlines both file for bankruptcy". CNN. Retrieved November 17, 2005. 
  13. ^ a b Stoll, John D., and Neil King Jr. (July 10, 2009).GM Emerges From Bankruptcy.The Wall Street Journal. Retrieved on July 10, 2009.
  14. ^ "Obama: GM bankruptcy viable, achievable - Autos- msnbc.com". MSNBC. Retrieved 2009-06-01. 
  15. ^ Tkaczyk, Christopher (June 1, 2009). "The 10 Largest U.S. Bankruptcies: From Lehman to Texaco, the Mighty Have Fallen, Taking Down Billions and Billions with Them". money.cnn.com (Fortune). Retrieved June 1, 2009. 
  16. ^ a b Stoll, John D., and David McLaughlin (July 2, 2009).General Motors Aims for IPO Next Year.The Wall Street Journal. Retrieved on July 10, 2009.
  17. ^ Wellard, Mark; Walton, Peter (26 Sep 2012). "A Comparative Analysis of Anglo-Australian Pre-packs: Can the Means Be Made to Justify the Ends?". International Insolvency Review 21 (3): 143–181. Retrieved 28 July 2014. 
  18. ^ "When is pre-packaged administration appropriate?"http://www.ntu.ac.uk/nls/document_uploads/112698.pdf
  19. ^ http://www.dailymail.co.uk/money/article-1104725/Pre-pack-deals-risk-cheating-creditors-Private-equity-boss-warns-abuse-quickie-bankruptcy.html#ixzz0rDL91vtB
  20. ^ Smith, Mike. "Pre-Packs". Retrieved 24 July 2014.