COMPANY INSOLVENCY A company becomes insolvent if it has insufficient assets to meet its liabilities and/or it cannot pay its debts on the due dates. It is the directors responsibility to know whether or not the company is trading whilst insolvent and they can be held legally responsible for continuing to trade in that situation. The decision to appoint receivers, liquidators and administrators is the responsibility of the appropriate funding bodies (i.e. banks and lending institutions), creditors, the courts or the company itself, depending on the procedure. Procedures open to an insolvent company are as follows: Administration Company Voluntary Arrangement (CVA) Administrative Receivership Compulsory Liquidation Creditors Voluntary Liquidation (CVL) Administration The administration procedure is designed to hold a business together while plans are formed either to put in place a financial restructuring to rescue the company, or to sell the business and assets (as a going concern) to produce a better result for creditors than a liquidation. A company can go into administration in a number of ways. The company, directors, or one or more secured or unsecured creditors, can make an application to the court for an administration. The court requires evidence that the company is insolvent together with a statement from the intended administrator, who must be an insolvency practitioner that the purpose of the administration is likely to be achieved. The company is then placed under the day-to-day control and management of administrators. It is their responsibility to formulate proposals and present these to the creditors to vote on. Once a company is placed into administration it is protected by a moratorium. While rescue proposals are being prepared, no creditor can take steps (without the Page 1 of 10
administrator s agreement or the court s permission) to disturb the business or recover any assets. The appointment of an administrator expires after one year, although at the end of this period the court can grant an extension. At the end of an administration if all assets have been realised, with the consent of the court an administrator has the power of distribution. Once funds have been distributed to creditors, the administrator is able to have the company struck off the register of companies at Companies House. Otherwise, the exit route from administration in England and Wales is for the company to go into a Company Voluntary Arrangement (or scheme of arrangement) or Creditors Voluntary Liquidation (CVL). In Scotland, the choice of exit route also includes a compulsory liquidation with the court appointing the administrators as liquidators immediately on discharge of the administration order. Company Voluntary Arrangement (CVA) A company voluntary arrangement is an insolvency procedure, initiated by the Co- Director(s), designed to rescue the company, which is often preceded by an administration in order to protect the company while the rescue takes place. It is a renegotiation by the company of the payments due to all of their creditors and is subject to a creditors meeting and vote. The CVA will usually involve creditors writing off part of their debt in order to restore the company to solvency, which in turn preserves some value for the shareholders and enables control to be handed back to the directors. A CVA must be supervised by a licensed insolvency practitioner, who acts as the nominee pending the approval of the arrangement and usually becomes the supervisor once it comes into effect. The company continues to trade through the duration of the CVA and the result of a successful CVA is the rescue of the company. Administrative Receivership An administrative receiver is appointed under a charge which covers the bulk of the company s assets, including goodwill. This type of charge is referred to as a floating charge or debenture. The holder of the charge, ie the lender, is often referred to as the debenture holder. This may be one lender or sometimes a consortium of lenders. Only a floating chargeholder can appoint an administrative receiver. A company cannot appoint its own receiver. There is no court involvement and the process can be invoked Page 2 of 10
very quickly. The company directors, perhaps on professional advice, will often request the lender to make the appointment, hence the expressions calling in the receivers and inviting the bank to appoint receivers. The company may trade on whilst the sale of the business is sought. At the end of a receivership, if the assets realise insufficient funds to pay the chargeholder in full, there will be no money available for unsecured creditors. The Registrar of Companies will then take steps to strike the company off the register. If there are funds available for unsecured creditors, the receiver will pass these funds over to a liquidator who will agree the claims of unsecured creditors and distribute the surplus to them. The company will only be struck off the register at the conclusion of the liquidation. Liquidation Liquidation means turning a company s assets into cash and then distributing these funds to its creditors. Liquidations are the end of the road for a company. After the assets are sold and the proceeds are distributed the company will be struck off the company register. Most companies which go into insolvent liquidation have already stopped trading and it is therefore unusual for a liquidator to be able to carry on the business. Even where a company is still trading, when it goes into liquidation the liquidator will rarely trade on in the hope of salvaging something of the business as his powers to do so are limited. There are different styles of liquidation, being solvent and insolvent. A solvent liquidation (a members voluntary liquidation) is where the company is able to pay off its creditors in full. Insolvent liquidations are where creditors will not be paid in full; this can arise in several ways. It may follow on from a receivership or administration as a way of distributing surplus funds, or recognising that it is insolvent, the company itself may resolve to go into liquidation (creditors voluntary liquidation). Finally a court can make a winding up order (compulsory liquidation) on the petition of an unpaid creditor or the company itself, its directors or shareholders. Members Voluntary Liquidation This is the winding up of a company which is able to pay its debts in full. This may arise when a company has fulfilled its purpose, when the shareholders wish to realise their investments or when a group is reorganised and companies which are surplus to requirements need to be tidied away. All debts are paid and any surplus assets are Page 3 of 10
distributed to shareholders (members). The liquidation must still be carried out by a licensed insolvency practitioner. Compulsory Liquidation Compulsory liquidation can be instigated by any creditor; the creditor starts the process by petitioning the court for a winding up order. This will be made as long as the court is satisfied that the creditor is owed over 750.00 and that the company is insolvent. In England and Wales the case is first referred by the court to the official receiver. If the assets are likely to cover the administrative costs of the liquidation the official receiver will call a creditors meeting to appoint a liquidator other than himself, if not he remains in office. In Scotland there is no official receiver, so the court will appoint a nominated insolvency practitioner as interim liquidator when it grants the winding up order. The interim liquidator must call a creditors meeting to appoint a liquidator. From this point on the legal and practical consequences are not dissimilar to a creditors voluntary liquidation. However a court has been necessary to begin the process and there are some additional requirements to fulfil in terms of court process. Creditors Voluntary Liquidation In a creditors voluntary liquidation the shareholders pass a shareholders resolution (75% majority required) to wind up the company and appoint a liquidator who must be a licensed insolvency practitioner. The creditors then meet and either confirm the liquidator s appointment or appoint another one of their choosing. Voting is by majority (by value) of creditors. A liquidator should act in the best interests of all creditors. When he follows a receiver he will also review the acts of the receiver (e.g. check the validity of the receiver s appointment and ensure the receiver has properly disposed of the assets under his control). A liquidator also has the power to investigate suspected misconduct by the directors or others involved in the company and to bring appropriate proceedings. The liquidator will agree the claims of the creditors and distribute the surplus to them. The company will be struck off the register at Companies House on the conclusion of the liquidation. Page 4 of 10
Creditors Meetings All known creditors will be notified when a company enters in to any type of insolvency (with the exception of voluntary arrangements) and the insolvency will be advertised in the London Gazette (England & Wales) and two newspapers in the area where the company has its principal place of business. A meeting of creditors is often convened with the primary purpose of deciding which insolvency practitioner is to be appointed in the case of liquidations or to consider proposals in administrations and voluntary arrangements. However creditors meetings may also be held for a variety of other purposes. A creditors meeting can be a useful forum to learn about the reasons for insolvency and for creditors to pass on information to the appointed practitioner. Practitioners should distribute a detailed report following the meeting and they will be receptive to creditors contacting them subsequently, to discuss any queries or concerns There are formal votes at most meetings relating to the appointment of a liquidator. However, it is not necessary for a creditor to attend in person to vote. A company can nominate an individual to attend on its behalf, and any creditor can vote by sending in a proxy form or appointing an individual to attend as his proxy (see note below). Where a company voluntary arrangement or an administration is proposed, there is scope to vote on substantial changes to a proposal and it can be useful to attend in person to consider these. This is more important in a voluntary arrangement as all creditors who received notice of the meeting are bound by the terms of the arrangement. A creditors committee or, in liquidations, a liquidation committee may be appointed at the meeting. This is a representative group of creditors appointed to work with the insolvency practitioner and in some types of procedure, but not all, to exercise a degree of supervision (e.g. in approving the insolvency practitioner s fee). There is no requirement to appoint a creditors committee; it is up to the creditors whether they wish to appoint one. Proxy A proxy is a formal instruction to an individual (who may be the chairman of the meeting or anybody else) to vote on behalf of the creditor at a meeting. The creditor may instruct the proxyholder to vote in a particular way or use his discretion. In a liquidation the resolutions upon which a creditor votes at a creditors meeting normally involve: Page 5 of 10
The choice of liquidator; Agreeing the basis of fees; Confirming certain powers to ensure the liquidator can do his job without constant reference to the creditors; and In some cases the formation of a creditors committee to work with the liquidator. The proxy form should be completed in accordance with the instructions on the proxy form. A statement of claim (which will be provided with the proxy form) will also have to be produced. A creditors say in the decisions of the meeting depends upon his share of the total claims of those voting at the meeting. Lodging a claim All known creditors will be invited to lodge a claim by the insolvency practitioner. The practitioner will advertise his appointment and invite creditors to write in lodging their claims. The insolvency practitioner will agree the claims; the insolvency practitioner may ask for any document he sees fit to support the claim, the burden of proof and cost of that proof lies with the creditor. Creditors would be well advised to keep copies of all documents relating to their claims until the final distributions have been made. Priority of claims Any individual or organisation holding a fixed charge over a company s assets is paid first out of the sale proceeds of those assets (after the costs of realisation). Then after the payment of other costs and expenses, the next group to receive funds, if there are any left, are preferential creditors. Almost all Crown preferential claims were abolished by the Enterprise Act 2002 and preferential creditors now primarily comprise employees claims for arrears of pay or accrued holiday pay, and unpaid contributions to occupational pension schemes and state scheme premiums, all within certain specified limits. Then, if there is a floating charge created after 14 September 2003, a proportion of the remaining funds, (the basis being a percentage of the free assets (called the prescribed part) subject to a maximum of 600,000) is made available for unsecured creditors. Next comes any creditor with a floating charge. Fourth in line are unsecured creditors and finally the shareholders. Payment of Dividend The timing of any distribution can vary from a few months to several years. Cases which involve litigation can last a long time. It can also take time to agree all creditors claims, Page 6 of 10
especially matters such as tax, liquidation damages on failure to complete a contract, pension fund claims against the company and similar complex issues. Once satisfied the claims are valid the insolvency practitioner will make the distributions firstly to the secured creditors, then the preferential creditors, then floating charge holders, and then any surplus funds to the unsecured creditors by way of a dividend. All unsecured creditors rank equally, and the monies may be paid all at once or there may be a number of dividends paid over a period of months or years depending on the complexity of the case. Creditors who have not lodged a claim will not be included in any distributions that are made. General advice to members Steps that could be considered to limit exposure: Request that large deposits be paid into a separate client trust deposit account and ask for evidence that this has been carried out. The level of any deposits or stage payments could be negotiated, to reduce exposure in the event of insolvency. Obtain insurance from a third party this is expensive but may be worth while for large purchases. If goods and deposits are paid on credit cards, you may find your credit card company will offer some level of protection on the purchase(s) in the event of an insolvency. This would be under the credit card company s usual purchase protection guidelines. Once a company has entered in to any form of insolvency you should contact the insolvency practitioner as soon as you are aware of the situation and explain your position. It is difficult to give any general advice as each case will vary. However the insolvency practitioner should be able to offer advice on the best course of action. If you are creditor (in most cases you are likely to be unsecured creditor) you should lodge a claim with the insolvency practitioner as soon as possible along with copies of all supporting documents (keep originals until the end of the insolvency - remember the whole process can sometimes take years) Customers of insolvent companies may be debtors or creditors for example if the company provided goods or services that had not been paid for at the time of insolvency those monies will still be due in full and the insolvency practitioner will take necessary steps to recover the assets. If the customer has placed a deposit and the goods or services were not provided and can no longer be provided, then the customer will rank as an unsecured creditor of the company. Page 7 of 10
Glossary of insolvency terms used Administrative Receiver (in Scotland simply a receiver ) Insolvency practitioner appointed in an administrative receivership. The administrative receiver is commonly known as the receiver not to be confused with official receiver Administrator Insolvency practitioner appointed in an administration Company Voluntary Arrangement (CVA) A proposal by the directors for payment in full or part of their company s debts. If the company is in liquidation or administration, either the liquidator or the administrator may put forward such proposals. It is a rescue procedure aimed at preserving the company and maximising the potential dividend for creditors. Compulsory Liquidation. Liquidation brought about by order of court, usually because an unpaid creditor petitions the court having exhausted all other remedies. In England and Wales, the official receiver first takes control but, if there are assets to pay the costs insolvency practitioner may be appointed by creditors. In Scotland, an interim liquidator is always appointed at the same time as a winding up order is granted. Creditors Voluntary Liquidation (CVL) Winding up of an insolvent company, brought about by a resolution of shareholders. At a subsequent creditors meeting, the liquidator will either be confirmed in office or replaced by the creditors choice. Debenture This term has no precise meaning. One definition is a document acknowledging a debt, usually issued by a company. Debentures may be secured or unsecured, but the term is commonly used to describe a document containing a floating charge and possibly also some sort of fixed security. Dividend in insolvencies. Distribution of funds to creditors in an administration, liquidation, and CVA Enterprise Act 2002 Legislation effective on 15 September 2003 (as regards corporate insolvency) and 1 April 2004 (as regards personal insolvency) intended to facilitate company rescue and the swift rehabilitation of debtors. The Act has come into effect by importing new and revised sections into the Insolvency Act 1986, which remains the primary piece of legislation for UK insolvency. Floating Charge An equitable charge on property that may change from time to time in the ordinary course of the business (for example, stock). Such a charge can be converted (or crystallised) into a fixed charge over those assets. Insolvency Practitioner (IP) A person authorised (licensed) by one of the recognised professional bodies to act in insolvency matters, including the winding up of a solvent company. Page 8 of 10
Since March 1990, IPs must pass an examination before they are able to apply for a licence. Liquidation Process which eventually brings a company s existence to an end after distributing its assets to creditors / shareholders. London Gazette. The Gazette is the official newspaper of record which contains various statutory notices and advertisements. It is published daily. Moratorium A moratorium was introduced for small companies in January 2003 under the Insolvency Act 2000. It is a suspension of creditors legal rights to take action against a company. Official Receiver. A civil servant and also a court officer attached to the Insolvency service (an executive agency of the BERR). The official receiver is first on the scene in any bankruptcy or compulsory liquidation in England and Wales but not in any other form of insolvency. Not to be confused with administrative receiver. Prescribed part. A new concept, introduced by the Enterprise Act 2002, where an amount is set aside out of floating charge assets, to be made available to unsecured creditors. This only applies in insolvencies where there is a floating charge entered into on or after 15 September 2003 Proxy. Document by which a creditor authorises another person to represent him at a creditors meeting. The proxy may be a general proxy, giving the proxy holder discretion as to how he votes, or a special proxy requiring him to vote as directed by the creditor. Secured Creditor A creditor with security over some or all of the debtors assets. In essence he is paid before ordinary creditors. Unsecured Creditor Strictly any creditor who does not hold security. More commonly used to refer to any ordinary creditor who has no preferential rights, although, in fact preferential creditors invariably will also be unsecured. In any event, almost the last in the queue, ahead only of shareholders Page 9 of 10
This leaflet has been produced with the assistance of PricewaterhouseCoopers LLP. For more information on your statutory protection kindly contact the RYA Legal Team on 023 8060 4223 or by email legal@rya.org.uk USEFUL CONTACTS: Companies House Crown Way Tel: 0870 33 33 636 Maindy Email: enquiries@companies-house.gov.uk Cardiff Website: www.companieshouse.gov.uk CF14 3UZ PricewaterhouseCoopers LLP 1 Embankment Place Tel: 020 7583 5000 London Website: www.pwc.com WC2N 6RH The Insolvency Practitioners Association Valiant House Tel: 020 7623 5108 4-10 Heneage Lane Website:www.insolvency-practitioners.org.uk London EC3A 5DQ The Insolvency Service 21 Bloomsbury Street Tel: 0845 602 9848 London Website: www.insolvency-practitioners.org.uk WC1B 3QW RYA Responsibility Statement: The RYA Legal Team provides generic legal advice for RYA members, affiliated clubs and Recognised Training Centres. The information contained in this Guidance represents the RYA s interpretation of the law as at the date of this edition. The RYA takes all reasonable care to ensure that the information contained in this Guidance is accurate and that any opinions, interpretations and guidance expressed have been carefully considered in the context in which they are expressed. However, before taking any action based on the contents of this Guidance, readers are advised to confirm the up to date position and to take appropriate professional advice specific to their individual circumstances. Page 10 of 10