The credit crunch has made it more important than ever for business owners to address
viability and solvency issues early. Delays in taking remedial steps now will only result in
more pain and fewer options, and will give you less time to act later on. 

Directors and managers concerned about their business should carry out an ongoing and in-depth assessment of the company, asking themselves the following five key questions:

1. Where can I improve cash generation or legitimately defer outgoings in order to
   improve the retention of cash in the company? 
2. Where are the main risks in the business? What would I do if I lost that valuable
   customer, or the bank were to withdraw its support? 
3. Are there any costs which can be moved from being ‘fixed’ to ‘variable’? 
4. Are there any areas of business that should be pruned back or sold? Is that
   person, department, service or product adding real value at this point in time? Can
   I afford to take a long term view without increasing risk? 
5. What can I do to cut my drawings from the business?

You need to be brutally honest with yourself. If you are at all unhappy with the
answers to these questions, you should re-assess all of your available options, which could
include restructuring the business using formal or informal routes. Now is not a good time to
defer that re-assessment.

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Under our previous post Permacell Finance: judgements affecting charge holders, commentators debated the then recent High Court case of Day v Haine, in which Sir Donald Rattee held that a protective award (for the employer's failure to consult on redundancies pursuant to s189 Trade Union and Labour Relations (Consolidation) Act 1992) made after the date of liquidation is not a provable debt.

The Court of Appeal has now reversed that decision - Haine v Secretary of State for Business Enterprise & Regulatory Reform & Anor [2008] EWCA Civ 626 (11 June 2008).

The Court of Appeal's approach was that this is not essentially an insolvency issue, but rather a matter of employment law in the particular context of an EU Directive. The focus of this purposive judgement appears to be on protection of the workforce through the discouragement of failure to consult by the levy of a financial penalty on the company; and there is sympathy for the Secretary of State

"to whom are transferred the workforce's rights under the 1992 Act [and who] has no means of recouping his expenditure from the employer by proving in the company's liquidation."

What is not explicitly recognised is that any such expenditure by the Secretary of State is limited by s186 Employment Rights Act 1996, whereby each employee's maximum entitlement from the Secretary of State for all employment debts is (currently) £330 per week for eight weeks.

Is it right that the financial penalty should fall largely on creditors (and partly on the Secretary of State) in an insolvency? How will that discourage directors of going concerns who might be tempted to avoid consultation?

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The time limits within which transactions at an undervalue can be upset under sections 238 and 339 of the Insolvency Act 1986 are reasonably well understood: 2 years for companies and 5 years for individuals.

Section 423, which deals with transactions at an undervalue that were intended to defraud creditors, is less straightforward. It requires proof of intention - a much more difficult hurdle than simple proof of facts - to upset a transaction successfully. And although there is no statutory time limit, historically the courts were reluctant to extend its reach too far. The recent case Sands v Clitheroe [2006] BPIR 1000 revisits these issues and great care is now required to avoid falling foul of s423.

The facts in the Sands case were that Mr Clitheroe, a practicing solicitor, gifted his interest in his home to his wife. At the time he was solvent and a partner in a fairly secure practice, but he effected the transfer in order to protect the family home in the event of the financial collapse of the partnership. After being made bankrupt 15 years later, and despite all of his creditors being "new", the court upset the transaction.

The court decided that where the intent of the transaction had been to put assets beyond creditors' reach, even though the debtor was not engaging in "risky business" and none of the bankruptcy debts existed at the time, the transaction fell within Section 423, for which there is no time limit. Notably, Section 423 applies equally to companies as to individuals.

The case shows that if a transaction is for full value or the reasons for the transaction are other than to put assets beyond the reach of creditors, it will be safe from attack under Section 423, regardless of how long ago the transaction occurred. It is, therefore, imperative that the reasons for a transaction are fully documented rather than leaving a court to assume it was to avoid creditors. The case also highlights that, where there could be a dispute as to value, it would be wise to retain evidence of the basis of valuation well beyond the appropriate statute of limitations period.

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The Court of Appeal case Oates v Stimson [2006] EWCA Civ 548 highlights the need for advisers when ascertaining parties' interests to consider not only the legal and beneficial ownership of a property but also the potential for a constructive trust to exist.

The case concerned how the equity should be split between two legal owners of a house. The parties had previously reached an oral agreement for Mr Oates to sell his interest to Mr Stimson, whereby the latter met all the outgoings and paid for certain improvements over an eight year period, despite not formalising the sale.

Although the Law of Property (Miscellaneous Provisions) Act 1989 requires a sale of an interest in land to be in writing, the Court of Appeal decided that the conduct of the parties had created a
constructive trust, "rendering it unconscionable not to permit him to enforce the oral agreement".

Therefore, if a debtor falls on hard times and the spouse continues to pay all the property outgoings over time, you need to look deeper than mere legal and assumed beneficial ownership when exploring their respective positions. Is there an earlier oral agreement and a course of conduct between them that affects their interests, and thus their available solutions?

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A unanimous appeal verdict but a divergence of reasoning characterise the Law Lords' speeches in McGrath and another v Riddell and others [2008] UKHL 21.

The significant point of the judgement is not the result of English assets being remitted to Australia, but the absence of majority support for the proposition that it is English common law or judicial principles, rather than section 426 Insolvency Act 1986, that allow the result.

Commentators suggesting that the judgement paves the way for foreign liquidators to seize English assets in cross-border insolvency disputes (eg Norton Rose, who acted for the Australian liquidators, and Accountancy Age) may therefore have overstepped the mark.

In the liquidations of four HIH insurance group companies, the Australian court sought the assistance of the English High Court through s426 Insolvency Act 1986 in directing that the English provisional liquidators, who had been appointed over the companies' English assets - mostly reinsurance claims, should remit the assets to the Australian liquidators for distribution rather than distributing them through an English liquidation.

Under the Australian regime an insurance company's assets are applied first to Australian debts and reinsurance proceeds are applied to the reinsured liabilities, whereas under the English regime at the time of the provisional liquidators' appointment (which was therefore applicable in this case although insurance insolvency priorities have since been changed) such assets would be distributed pari passu among insurance, reinsurance and other unsecured creditors.

The appeal was allowed and the assets are to be remitted, but there was disagreement in the judgements over how the decision could be reached.

Lord Hoffmann (with Lord Walker agreeing) analysed the doctrine of ancillary liquidation, noting that:

"the judicial practice to which I have referred . . . is inconsistent with the broad proposition that creditors cannot be deprived of their statutory rights under the English scheme of liquidation."

He went on to say that allowing the appeal and directing remittal of the assets to Australia was exercising a power established under English common law, and he concluded:

"this is a case in which it is appropriate to give the principle of universalism full reign."

Lord Phillips declined to support this view, saying:

"I do not propose to stray from the firm area of common ground [allowing the appeal on the basis of s426] onto the controversial area of whether, in the absence of statutory jurisdiction, the same result could have been reached under a discretion available under the common law."

Lord Scott was very clear in his opposing view:

"The proposition that the assistance and directions sought . . . could be given under an inhernet power of the court . . . is unacceptable . . . [and] would constitute the usurpation by the judiciary of a role expressly conferred by Parliament on the Secretary of State."

"It would, in my opinion, as I hope I have made apparent, have been sufficient [to justify a refusal] if the country of the principal winding up had not been a "relevant country or territory" for section 426 purposes."

"I would allow this appeal but repeat that I would do so on the footing that the power to accede to the Australian liquidators' request derives from section 426 and not from any inherent jurisdiction of the court."

Lord Neuberger similarly disagreed with Lord Hoffmann:

"I take the view that it would not have been open to an English court to make the order sought by the Australian liquidators in the absence of section 426(4) and (5) of the 1986 Act."

Under s426 it has always been open to the English courts to choose to apply the law of a "relevant country or territory" designated as such by the Secretary of State. This judgement clarifies the exercise of the court's discretion under s426 but it does not extend the geographical boundaries.

It has been suggested that this judgement will make it easier for foreign office-holders to obtain the assistance of the English courts under The Cross-Border Insolvency Regulations 2006. I would observe that the cross-border regulations restrict the court's discretion rather more than does s426, for example in Article 21(2):

"Upon recognition of a foreign proceeding, whether main or non-main, the court may, at the request of the foreign representative, entrust the distribution of all or part of the debtor's assets located in Great Britain to the foreign representative or another person designated by the court, provided that the court is satisfied that the interests of creditors in Great Britain are adequately protected."

and Article 22(1):

"In granting or denying relief under article 19 or 21, or in modifying or terminating relief under paragraph 3 of this article or paragraph 6 of article 20, the court must be satisfied that the interests of the creditors (including any secured creditors or parties to hire-purchase agreements) and other interested persons, including if appropriate the debtor, are adequately protected."

How do you see universalism developing in the response of English courts to requests from foreign liquidators and courts for assistance and directions?

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As the major (English) trading creditor of the London branch of a troubled bank registered and with its principal operations and headquarters in Switzerland but with other branches in a variety of largely offshore jurisdictions, what insolvency process would you seek to have employed in which jurisdiction in order best to protect your interests? The majority of the bank's assets are in England and you fear that without proper control being exercised they might be dissipated in the impending collapse.

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Experian reports a rise in UK corporate insolvency: up 8.5% in Q1 2008 compared to Q1 2007, in line with our last forecast here.

Business sectors identified as suffering include agriculture, banking, food retail and clothing (although some of the sample sizes are small), but 10% of the quarter's failures are in building and construction.

Regionally, the East Midlands is hardest hit with insolvencies up 53.6%.

Creditors' voluntary liquidations increased by 14.1% but compulsory liquidations fell by 2.2%, perhaps reinforcing concerns about confidence as debtors go for CVLs whilst fewer creditors are pursuing compulsory winding-up. The popularity of the procedures amenable to corporate rescue - administrations and company voluntary arrangements - continues with growth of 23.7% and 37.6% respectively.

My own experience is that more businesses are considering an insolvency procedure than either 3 or 12 months ago. Certainly, businesses cannot borrow their way out of trouble at the moment and the signs are that advice about facing insolvency is being sought earlier - offering more prospect of a constructive solution.

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Some say we are on the brink of a major slow down. Clearly the economy is not as strong as it has been, but surely the real questions are:

• just how sharp is the ‘adjustment’ likely to be;
• how long will it last; and
• where will it be felt most?

Let’s look back over some recent figures and at the same time consider what the future may hold:

• Currently GDP is growing at 2.9% pa and is expected to fall to under 2% over the next few months. Research has shown a 1% drop in GDP growth could lead to a 10% increase in corporate insolvencies (see our previous post). The economy has been incredibly resilient throughout the last decade, but the credit crunch has ended that period of stability.
• Whilst inflation is presently running just above the government’s target at just 2.2%, the Bank of England is forecasting a rise to over 3% in the near future giving rise to further pressures on disposable income. 
• House prices are weakening generally across the country, although less so in London. The recent reduction in loan to value ratios and income multiples on offer will restrict mortgage funding and reduce both demand and consumer confidence.
• Total personal debt levels, at £1.4 trillion, are huge and growing at £1 million every 5 minutes, more than three times the rate of inflation. The growth in personal debt may be slowing, but record numbers of personal insolvencies and a significant number of borrowers defaulting support the trend towards less excessive consumer spending.

In summary, the main aspects of the economy are less volatile than, say, the 1980s to early '90s when huge swings could be expected. The economy has certainly become more unstable during the last 6 months, but overall, I expect the ‘adjustment’ to be relatively shallow and short-lived, with the pain being suffered more in particular regions or sectors :

• Retailers who enjoy a strong market position and are well organised and managed are likely to fare better than their weaker competitors. Suppliers of ‘growth support services’ into retailers, such as shopfitters, can expect a further deterioration in both sales volumes and margins, causing viability and solvency issues (see previous post).
• Pubs and restaurants have already seen their takings fall as a result of consumers’ reduced free cash, the smoking ban, and cheap supermarket alcohol. Fixed costs remain high, and leisure outlets with poor procedures and low staff morale are at risk.
• Confidence is low in the construction industry, despite the Olympics Effect and government housing requirements. Many construction related companies will not be able to cope with any further reduction in prices or any deferral of work or payment by the major employers(see previous post).

The slow down in these parts of the economy will no doubt create added opportunities for Insolvency Practitioners to bring their turnaround skills to bear to rescue ailing but viable businesses, as well as to assist in close down scenarios. As always, early attention to potential problems increases the likelihood that a turnaround will be achievable.

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An interesting case passed through the Court of Appeal a few weeks ago, which counsel for the bank concerned said could impact on a good number of cases where banks have acquiesced in allowing borrowers to remain in their homes.

In the National Westminster Bank v Ashe case, a trustee in bankruptcy took action to defeat Nat West's second charge over a property on the basis that the bank's debt, and its rights of repossession, had both become statute barred under the Limitation Act 1980. The fact that the case was taken by a trustee in bankruptcy is not relevant, the principles apply to any case where a lender defers taking recovery action.

In the Nat West case, the bank had to concede that its right to sue the debtor for repayment of the debt was statute barred - the debtor had made no payments, nor had he acknowledged the existence of the debt, for well over twelve years. The main argument on which the bank relied related to a technicality in the Limitation Act: it argued that the debtor had not been in 'adverse possession'  for the purposes of the Act (ie the debtor could not benefit from expiry of the limitation period), which if the court had agreed would mean that the bank could still take possession. In this case the bank had, through a fairly standard 'all monies' legal charge, acquired an immediate right of repossession when the charge was signed, but it simply failed to follow it through.

The Judges were not particularly sympathetic with the bank. They chose instead to uphold the principles of the Limitation Act in preventing stale claims being brought, protecting settled interests from being disturbed, and bringing finality to disputes. In essence, the Judges told the bank it should have taken more substantial steps, sooner, to get its money back because, after all, it was a large bank with access to specialist legal advice. The Judges decided that the debtor had been in 'adverse possession' with the result that the right of possession was not enforceable and the bank lost its money.

Does this case open, as counsel for the bank suggested, the floodgates for thousands of debtors to avoid paying old secured debts which they have ignored?

We do not think so. First off, not all mortgages contain a right of repossession at the date of the mortgage, indeed many mortgages limit the lender's right of repossession; and secondly, instances where a charge holder has been paid nothing on his debt and received no contact from the debtor  acknowledging either the debt or the title for over twelve years are probably few and far between. It will mean, however, that the banks will be dusting off their security documentation and applying more pressure, and earlier, on debtors to acknowledge the debt and title so as not to trip up limitation issues.

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The European High Yield Association has announced refinements to its proposals to the Treasury on insolvency law reform.

Its original submission in April 2007 identified perceived shortcomings of the Enterprise Act reforms:

". . . the administration procedure has not been widely used in distressed situations and, more generally, statutory processes have been avoided.

We believe this occurs for the following reasons:

• despite the best efforts of those in government and elsewhere, administrations and Company Voluntary Arrangements (CVAs) are still perceived in the UK as reflecting corporate failure rather than rescue, which depresses confidence in the business and enterprise value;
• the ability of suppliers and customers to abandon their contracts with the distressed company if it makes a formal insolvency filing discourages filing, and where filing does ultimately occur, the ability to cancel contracts destroys the value of the business; and
• difficulties in obtaining funding in administration impair the company's ability to trade through the proceeding."

The first point above is uncontroversial; a direct remedy to the second by a simple extension of the administration and small CVA moratoria enjoys the support of the City of London Law Society (here), amongst others; and the third point refers to DIP funding (although some might argue that administration is inimical to the concept of debtor in posession).

Under a heading "Facilitating 'out-of-court' restructurings in the UK" then come three suggestions leading to "a call for a court supervised restructuring process":

• An all-encompassing stay on actions should be available to prevent value destruction as this is currently seen as an inevitable consequence of filing for insolvency in the UK. In other jurisdictions, notably the US and France, contractual termination provisions are not enforceable. The current stay deployed by English law does not go far enough in protecting failing businesses and allows customers and suppliers to terminate contractual relations just when their continued commitment is most crucial to the rescue.
• A framework should be created for fast judicial resolution of valuation disputes in restructurings, short of administration proceedings. This will enable practise and precedent to develop in restructuring valuations, thus providing stakeholders with relative certainty of outcome, whilst avoiding the value loss that arises through administration.
• Creditors or shareholders with no economic interest in the revalued enterprise should not be able to block restructurings or force full insolvency proceedings. A mechanism is needed to deal fully with 'out of the money' claims in restructurings.

It is these lightly sketched but far-reaching proposals that are now refined and extended - and will be considered in a subsequent post.

 

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Directors' duties

Directors' duties can be onerous at the best of times. The general duties have been codified in the Companies Act 2006 and are summarised simply in the following Ministerial statement:

1. Act in the company’s best interests taking everything you think relevant into account.
2. Obey the company’s constitution and decisions taken under it.
3. Be honest and remember that the company’s property belongs to it and not to you or its shareholders.
4. Be diligent, careful and well informed about the company’s affairs. If you have any special skills or experience use them.
5. Make sure the company keeps records of your decisions.
6. Remember that you remain responsible for the work you give to others.
7. Avoid situations where your interests conflict with those of the company. When in doubt disclose potential conflicts quickly.
8. Seek external advice where necessary, particularly if the company is in financial difficulty.

Troubled companies

But things get more difficult if the company has financial problems.

Directors must recognise that when a company’s assets exceed its liabilities or it cannot pay its debts as they fall due, their primary duty ceases to be to the shareholders and the interests of creditors become paramount.

Failure to carry out his duties with the appropriate degree of skill and care may render a director liable for wrongful trading if he knew or ought to have known that the company could not avoid insolvent liquidation. The guilty director may then be liable to compensate creditors for the losses caused by his conduct. He may also be disqualified from acting as a director for up to 15 years. 

Practical steps

What can you do as a director to protect yourself when your company is in financial difficulties?

1. Hold regular full board meetings and keep comprehensive minutes of commercial decisions and the reasons for them - indeed, keep notes of all significant discussions about the company's affairs.
2. Make sure that you have full financial information and are aware of the extent of creditor pressure, court or recovery action by creditors and disputes.
3. Make sure that the decisions you take are taken in the interests of creditors.
4. Seek specialist advice. You are not expected to know all the answers about how to deal with financial distress.
5. If you know or suspect that there is no reasonable prospect of the company avoiding insolvent liquidation, discuss the situation at a full board meeting with a view to taking specialist advice and initiating a formal insolvency procedure.
6. Take independent advice if fellow directors do not share your concerns about the company’s solvency.
7. Do not take further credit.
8. Take steps to minimise losses to all creditors equally.

Points 7 and 8 can be particularly challenging in the real world and will be much easier to deal with if you have the benefit of specialist insolvency advice.

Seek advice early as this not only protects you as a director, it widens the options for rescue and turnaround action.

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We reported just over a year ago (here) on Euler Hermes' 2006-2007 Insolvency Outlook, which suggested a 3% increase in business insolvencies in 2007.

Their latest report, issued in November 2007, forecasts under the headline

 "United Kingdom - A rise in insolvencies in sight"

an 8% increase in insolvencies in 2008. Interestingly, it relates that increase to GDP growth of 2%.

Three months on, forecasts are for rather lower GDP growth. The Bank of England Inflation Report published on 13 February suggests (here) a decline to well below 2% GDP growth during 2008, particularly when the Governor's introductory remark is taken into account:

"the potential for further falls in asset prices and tightening of credit conditions means that the balance of risks around the central projection is on the downside, particularly over the next eighteen months."

Euler Hermes' previous report (linked here) noted the strong negative correlation between insolvency and GDP growth, and the elasticity - a 1% fall in GDP growth gives a 10% rise in insolvencies.

With the lower GDP growth now forecast by the Bank of England, the prospects are for a somewhat larger increase in insolvencies than Euler Hermes' November forecast of 8%.

PS Does anyone know why there was an anomaly in the q4 2006 administration statistic? From the Insolvency Service figures there appear to be perhaps 700 extra appointments that quarter, mainly in London.

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Shopfitter JDS Group Limited was not saved by a critical mass of 350 staff and £30m turnover as it went into administration on 12 February, suggesting that retail problems (see our previous post - Retail insolvencies as the credit crunch hits the high street), or their underlying causes, may be knocking-on into the construction sector.

Certainly, the construction industry is not confident at the moment - less so than retailers according to the ICAEW Business Confidence Monitor (here).

The ICAEW also notes:

"In line with the expected slowdown in predicted capital spending growth, a greater
proportion of firms report increased challenge in raising capital currently compared with 12 months ago. This is particularly the case for those in the Property, Communications and Construction sectors."

JDS is just the first sizeable specialist contractor facing insolvency. Building.co.uk reports More specialists face the axe amid insolvency fears, suggesting that smaller specialist contractors will be the losers.

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We reported in our earlier blog 'Retail Insolvency News', that the New Year is a time when retail insolvencies tend to come to the fore. 

Some British retailers, hit by poor Christmas trading, may struggle to pay their December rent bills, forcing them into insolvency or a debt restructuring in the New Year.  Experts are predicting that the most likely to run into trouble are 'big ticket' retailers selling discretionary products.  

So noted Credit Today recently.  As one of those whose view they sought I think there are systemic risks and that big-ticket, discretionary-spend retailers are in the front line.

But so far 2008's prominent retail insolvencies have been in shoes (Stead & Simpson and Dolcis), books (The Works) and fashion (Elvi and Base Menswear).

The common thread is undistinguished chains at the low end of the middle market being most  at risk, with the credit crunch affecting future levels of retail spending and spending on non-essential delayable purchases. Differentiation and a nose for fickle customer demand remain the key factors for survival.

The Financial Times observes (here) that the tally of retail failures is lower than it might have been. Restructuring takes longer because of the more complex stakeholder structures found now compared to 5 years ago, and some of the weaker players saw the New Year's problems coming. Together these factors encouraged some retailers to start taking advice and acting early enough to avoid administration.

 

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The cash flow or commercial insolvency test contains a flexible and fact sensitive futurity requirement in the phrase “as they fall due”, according to Briggs J in Cheyne Finance Plc (in receivership) [2007] EWHC 2402 (Ch).

Cheyne was a structured investment vehicle (“SIV”). It was one of the first SIVs to go into receivership as a result of the credit crunch. The receivers sought the court's directions as they had to identify whether an “Insolvency Event”, which was defined by reference to the cash flow test in s123 Insolvency Act 1986, had occurred.

s123(1)(e) provides that a company is deemed unable to pay its debts:

“if it is proved to the satisfaction of the court that the company is unable to pay its debts as they fall due”

The wider implications of the Cheyne decision, which is the first time the court has considered this section, are that technical insolvency may be triggered earlier in some cases than might have been expected.

The judge gave the following example:

“The company has £1,000 ready cash and a very valuable but very illiquid asset worth £250,000 which cannot be sold for 2 years. It has present debts of £500, but a future debt of £100,000 due in 6 months. On any commercial view the company clearly cannot pay its debts as they fall due, but it is, or would be balance sheet solvent”.

In other words, if the company can continue to pay its present debts, but it cannot pay a known future debt, it is insolvent. 

Consider a company with positive net assets but limited cash, say £100,000, which it is burning at a rate of £50,000 per month. In one month’s time it has to pay a wages bill of £60,000. Provided that on the balance of probability it will continue to burn cash at £50,000 per month, it is insolvent now, not just in a month’s time when it no longer has the cash to pay its present debts.

This decision seems especially relevant during the current credit crunch when companies may have positive net assets but insufficient liquidity. It emphasises the need to take specialist advice early.

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We reported in September 2007 (here) the consultation paper issued by the Insolvency Service setting out its proposals to modernise and streamline the law governing insolvency procedures.

You may recall the disenfranchising proposal requiring creditors to “opt in” if they wish to receive information on or to participate in the insolvency process.

The Insolvency Service now reports (here) that the consultation was completed in December 2007. Responses are being reviewed and necessary changes to primary legislation will be taken forward in late 2008, with a view to implementation on 1 October 2009.

Another modernisation project relates to the Insolvency Rules. The Insolvency Rules Committee is expected to complete its work on the revisions in late 2008 and the changes are planned to come into force on 1 October 2009.

Companies House expects revisions to the insolvency forms to require procedural changes, which will also be implemented by October 2009.

Further consultation is planned in relation to the Insolvent Partnerships Order and the Administration of Insolvent Estates of Deceased Persons Order and those and other insolvency related statutory instruments are also to be revised ready for implementation by 1 October 2009.

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An industry news snippet for those who missed it: Tenon's recent acquisition of Haines Watts BRI's insolvency practice was done through an administration pre-pack (PwC were the administrators).

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A members' voluntary liquidation ("MVL") can be a tax efficient exit option for the shareholders of a solvent company.

Under current legislation shareholders receiving a distribution through an MVL or, where appropriate, using Extra Statutory Concession C16, may benefit from the business asset taper relief provisions.

The government has recently announced (http://www.hmrc.gov.uk/cgt/disposal.htm) that as from 6 April 2008 all capital gains will be taxed at a flat rate of 18% irrespective of the marginal income tax rate of the taxpayer concerned; and also that the current systems of taper relief and of indexation allowance will be abolished. Alongside these reforms the government will introduce a tax relief for entrepreneurs that will deliver a 10% tax rate for up to the first £1 million of lifetime capital gains.

MVL 

An MVL is a statutory procedure for realising assets, agreeing and settling liabilities and distributing surplus funds to shareholders. The majority of MVLs arise as a result of:

• Tax planning - Taking advantage of changes in tax legislation when it may be appropriate to withdraw capital, or alternatively divide the business interest between shareholder groups
  and mitigate or defer tax liabilities (S.110 reorganisations).
• Retirement planning - Shareholders who are considering retirement and wish to realise the value of their investment. A liquidator has the power to accept or reject claims of creditors and can disclaim onerous assets, such as leases, if appropriate.
• Group reorganisations - The removal of dormant, non-trading or redundant companies in order to reduce costs, group restructuring or the release of capital for use elsewhere within the group.
• End of specific purpose - The orderly closure of a company which has achieved the specific purpose for which it was incorporated.

Tax planning

An MVL is not simply a case of passing a resolution and completing the winding up. It is important that the process is planned and the company suitably organised in order to minimise tax liabilities and maximise any commercial advantages. For example, consideration should be given to either making a pre-liquidation "income" distribution or a post-liquidation "capital" distribution.

Pre-appointment planning is particularly important at present, as those anticipating paying CGT
at a certain rate, whether 10% or 40% or some rate between, may find a different rate applying to their capital gain after 6 April 2008. Individuals who do not benefit from the current business asset taper relief provisions are likely to be better off under the new rules unless they have substantial indexation allowance. Other tax related matters to consider prior to liquidation:

• A new 12 month accounting period for corporation tax purposes begins at the date a company resolves to wind up.
• The surrender of trading losses by way of group relief.
• The realisation of capital gains and their offset.
• The tax consequences of moving assets between group companies.

Other issues

• The Companies Act 2006 (http://www.dti.gov.uk/bbf/co-act-2006/index.html) introduces changes to company law that will directly affect directors and shareholders. From 1 October 2008 the time limit for making an application to Court for the restoration of a liquidated company to the register after dissolution will be six years. The time limit is currently two years. The six year time limit will also apply to companies struck off and dissolved by application of the directors (presently 20 years). It remains essential, therefore, that thorough due diligence is undertaken to identify and deal with all actual and contingent liabilities and onerous contracts to avoid any future action against the company and its directors.
• When a company is struck off owning property, that property vests in the Crown as 'bona vacantia'. As share capital and non-distributable reserves (including the share premium) cannot be repaid otherwise than by liquidation or the buy back of shares, or Court Order, the equivalent assets will pass to the Crown. The Office of the Treasury Solicitor has confirmed
  that where a company has been struck off by application of the directors it will waive the right to recover any unauthorised distribution of less than £4,000.
  

An MVL can be a tax efficient and cost effective way of bringing a company to a formal end. An alternative may be to make an application to Companies House for striking-off.

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In 2003 the Enterprise Act made several major changes to insolvency law, including dropping the preferential status of the main government departments and the creation, through Section 176A of the Insolvency Act 1986, of a 'prescribed part'. This was done in an attempt to improve the chances of unsecured creditors receiving some return in 'larger' liquidations. It has taken until now to answer the question of whether a floating charge holder who experiences a shortfall on their secured debt, which would fall to be unsecured, can share in the 'prescribed part', discussed in a previous post here.

In a judgement handed down by the Birmingham High Court recently in the Permacell Finesse case, HHJ Purle QC decided that floating charge holders should not have a further crack of the whip by sharing in the prescribed part.

The Judge made his views abundantly clear, saying:

'The prohibition on distributing the prescribed part to a floating charge holder is in my judgment absolute'.

The Judge seems to have given effect to what he believes was parliament's intention at the time, namely to give banks and other floating charge holders the benefit of increased realisations through the abolition of Crown preference without having a detrimental effect on the unsecured creditors' distribution prospects.

The case will probably come as no surprise to bankers and other institutional floating charge holders as it is a case of quid pro quo.

However, the decision presumably comes as another blow to the charge holder in Permacell, coming soon after the Employment Appeals Tribunal made a 'protective award' of 90 days pay to employees because the employees were not properly consulted about their proposed redundancies under the Trade Union and Labour Relations (Consolidation) Act 1992.

The Act requires that employees be consulted even in an insolvency situation where there can be only one outcome. And claims under a protective award rank preferentially, i.e. before the floating charge. Follow this link to the EAT decision: Evans & Others -v- Permacell Finesse Limited (In Administration).

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Here's a view on the UK's economic outlook from Howard Reed, Chief Economist at the Institute for Public Policy Research, published in the New Statesman: Was Northern Rock the worst of it?

Despite huge stock market falls in the last two days, the balance of comment still appears to be that the underlying UK economy is in reasonable shape and whilst we can expect further tightening a recession is not on the cards.

Reports following analysis of January's Monetary Policy Committee minutes at Bloomberg and Channel 4 News illustrate current thinking (although the latter notes that George Soros, billionaire investor, disagrees. . . ).

No recession, I agree, but we certainly haven't seen the worst of the turbulence. In the business world I think there are many who have not yet come to terms with either the dramatic change in lenders' appetites or the effect the turbulence has had on consumer sentiment.

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Creditors who petition the court for the winding-up of a company or the bankruptcy of an individual as a debt-collecting remedy are not free from risk.

HHJ Peter Coulson QC sets out in Jacob v Vockrodt [2007] EWHC 2403 (QB) when petitioning is an abuse of process that could involve the tort of malicious presentation of a bankruptcy petition.

The key parts of the judgement on abuse of process are:

Mr. Davies relied on the well-known passage in the judgment of Harman J in Re a Company [1983] BCLC 492 in which he said:

"First, it is trite law that the Companies Court is not and should not be used as (despite the methods in fact often adopted) a debt-collecting court. The proper remedy for debt collecting is an execution upon a judgment, a distress, a garnishee order or some such procedure. On a petition in the Companies Court, in contrast with an ordinary action there is not a true lis between the petitioner and the company which they can deal with as they will. The true position is that a creditor petitioning the Companies Court is invoking a class right (see Re Crigglestone v. Coal Co. [1986] 2 Ch 327) and his petition must be governed by whether he is truly invoking that right on behalf of himself and all others of his class rateably, or whether he has some private purpose in view. It has long been an order that a petition presented for the purpose of putting pressure on the company is not properly presented: see Re a Company [1894] 2 Ch. 349 and, in a slightly different context, Re Bellador Silk Ltd. [1965] 1 All ER 667."

It is, of course, right that a bankruptcy petition must not be utilised where the petitioner knows that the debt is the subject of a bona fide dispute, but chooses to proceed with the petition in any event, so as to put illegitimate pressure on the other party to pay the debt. But the authorities cited above cannot be taken as authority for any wider principle or proposition. In my judgment, the correct approach to the facts, in a situation where the petition has failed and it is subsequently suggested that the presentation was malicious, was that applied in Partizan Ltd v OJ Kilkenny & Co Ltd [1998] 1 BCLC 157 by Rimer J, when he concluded at page 173:

"It follows that I am not satisfied that, when it presented the petition, Kilkenny was moved by notice or considerations different in any way from those which ordinarily motivate creditors who petition to wind up a company on the grounds that a debt claimed to be due to them (not being one which is regarded by the petitioner as disputed on substantial grounds) is unpaid despite demand; namely, at least an element of hope that, if the company can pay the debt despite its previous failure to do so, it will pay it and, if it cannot do so, a hope and expectation that it will be placed in liquidation so that there can be an orderly realisation of its assets for the benefit of its creditors generally."

What the cases show (and the point I take Rimer J to be addressing by the phrase in brackets in the quotation from his judgment set out above), is that the presentation of a petition is an abuse of process only if the petitioner knows or believes that the debt is in truth the subject of a substantial dispute.

Take care when petitioning if there is a substantial dispute!

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Three interesting procedural points relating to the bankruptcy of individuals arose in Law Society v Dixit Shah [2007] EWHC 2841 (Ch), where recovery was sought from bankrupt solicitors' professional indemnity insurers.

1. Discharge of a bankrupt merely extinguishes a creditor's remedy of enforcement, not the underlying cause of action.
2. The court can accept or reject a proof of debt (under its general jurisdiction from Section 363 of the Insolvency Acy 1986) without the trustee having considered the matter first.
3. A proof may be admitted or rejected for reasons other than determining a right to vote or participate in a dividend, where the proof of debt procedure is directed to satisfying the claim of a legitimate creditor (here, through the Third Party (Rights against Insurers) Act 1930) without any possible harm to any other creditor.

Floyd J appeared determined to ensure that legal technicalities should not prevent the third party claimants being able to recover from the insurers. Read the judgment (link above) for more detail.

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For those of you who are not accountants - or don't read Accountancy Age - the quotes below are from its article "Retailers protected from impact of Trident ruling" published on 10 January 2008.

We reported the UK government's decision to exempt companies in administration from empty property rates in an earlier post.

President of R3 Patricia Godfrey says the decision couldn’t have been better timed for retailers: ‘With the effects of the credit crunch increasingly likely to be felt in the New Year, this move will help administrators save business and jobs.’

Mercer & Hole business recovery partner Chris Laughton agrees, highlighting the credit crunch as likely to lead to more retail insolvencies. Removing the preferential treatment on business rates for unoccupied properties would save businesses.

‘The decision will help what will be a higher number of retail insolvencies than last year,’ Laughton says.

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The Northern Rock crisis has prompted Alistair Darling, Chancellor of the Exchequer, to announce proposals for a special insolvency regime for banks in the UK. Following the publication of a consultation paper in October 2007, “Banking reform – protecting depositors”, and consideration of its results, the Chancellor revealed in an interview with the Financial Times, reported here on 3 January, some hints about his intentions.

Details are patchy – perhaps deliberately – with the Chancellor planning to release more information to the Treasury Select Committee on Thursday 10 January.

It seems that the FSA (Financial Services Authority) would have a role to step in at the beginning of one or more “trigger events” such as the provision of emergency funding by the Bank of England.

A debatable observation from the Chancellor was that “Insolvency laws make it actually quite difficult to move quickly if you need to take action”. He also appeared to criticise the US system, where he said a healthy bank could find itself being restructured, while he suggested that there may be ideas worth following in the Canadian and Belgian systems.

What special insolvency regime does your experience suggest will work for banks?

 

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"Retail insolvencies start the year" was one of Insolvency Blog's first posts of 2007.

It's hardly surprising to see retail administrations at this time of year - over-leveraged and under-performing retailers have minimum borrowings after the Christmas sales peak and secured creditors will naturally choose that point to stop the losses.

. . . constructive use of formal insolvency . . . can often add value when a business is saleable and the right restructuring team is brought in early enough.

Paul's comment on the retail sector was:

I think the consumer has the last word on who survives - if they wish for identikit high streets, or doughnut towns, or McDonalds bacon sandwiches, so be it.

History seems to be repeating itself. The Sunday Telegraph notes here this week that:

• Insolvency experts are on standby amid fears several high street retailers could collapse in January
  
• Consumers turn to sub-prime lenders as credit squeeze bites
  
• Footwear and clothing retailers have been particularly badly hit by the downturn in consumer confidence
  

Consumer confidence will be the biggest factor in retail business distress for the next few months, and with the weak housing market and a generally cooling economy there is cause for concern.

But the way to address business stress is, as it was a year ago:

• take advice early
• ask a situational expert
• don't panic!

Happy New Year!

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Companies in administration are to get a permanent exemption from empty property rates, Local Government Minister, John Healey, announced on 17 December. His decision on companies in administration was a consistent view put to the Department for Communities and Local Government in consultation and brings such businesses into line with those in liquidation and individuals subject to bankruptcy proceedings who already enjoy exemptions:

"We are committed to the promotion of a rescue culture which provides opportunities for insolvent companies that have viable underlying businesses to be rescued wherever possible. A permanent exemption will remove any potential for decisions about whether to enter administration to be distorted by differences in rates liability."

The department is now drafting the relevant secondary legislation to give effect to the reforms on empty property relief including introducing the new six month exemption from empty property rates for vacant industrial and warehouse properties, as announced in the 2007 Budget. The aim is to lay this secondary legislation before Parliament so that all aspects of the new reforms to empty property relief can come into effect on 1 April 2008.

R3, the Association of Business Recovery Professionals, notes here that the decision will overturn the controversial decision in the Trident Fashions case - Exeter City Council v Bairstow & Ors [2007] EWHC 400 (Ch) (02 March 2007). Commenting on the Government's move, the President of R3, Patricia Godfrey, said:

"This decision couldn't have come at a better time. With the effects of the credit crunch increasingly likely to be felt in the New Year, this move will help administrators save business and jobs."

The effects of the Trident decision and how it might be mitigated are discussed in our previous post here.

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According to the Yorkshire Post's article "6pm update: Bates free to stay at Elland Road - Yorkshire Post", Ken Bates, Mark Taylor and Shaun Harvey have been "allowed to continue to remain directors of the club after their involvement in a previous Leeds United-related liquidation left them in breach of insolvency rules".

We gave the background to this story in a previous post. The detail of the recent judgment is not clear from the press report, which suggests that the judge gave retrospective leave for the three men to act as directors of the club. Does anyone have a copy of the judgement so we can see what really happened?

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