Monday, 26 January 2009

Will the latest “pre-pack” trend continue despite the recently introduced SIP 16?

The biggest business trend at the moment within the fashion sector is the “pre-packaged” sale. This is the process where a buyer is lined up for a struggling business before it actually goes into administration. Since pre-packs generally don’t require approval of either the courts or creditors, the deals can be put together quickly, often taking creditors by surprise. This has led to a growing tide of criticism against the use of “pre-packs”, particularly where the buyer is the former owner of the insolvent business.

As the Independent reported, the Business and Enterprise Regulatory Reform Committee will be grilling Stephen Speed, head of the Insolvency Service (the industry regulator) this week on 27 January. The Committee chairman, Tory MP, Peter Lull explained “There are growing concerns about the way some businessmen are using pre-packaged administrations as a way of getting out of their debts and other obligations”.

As reported in Drapers before Christmas, the concern that creditors’ interests are being over-looked has led to the introduction of new rules that apply from 1 January 2009. The new practice statement (SIP 16) must be read in conjunction with the new Insolvency Code of Ethics which places a duty of objectivity on insolvency practitioners (IPs). In summary, SIP 16 does two things. First it reminds IPs of the duties which they owe to all parties affected by a pre-pack sale and second, it introduces a new formal requirement to disclose detailed information to creditors, including a justification of why a pre-pack sale was undertaken. Whilst this was previously best practice in any event, the formalisation of the information requirements may help to focus an insolvency practitioner when considering the benefit of the pre-pack to all of the company's stakeholders.

IPs are reminded that while they don’t require prior consent from creditors, they are vulnerable to claims if their conduct falls below the standard required of them in the Insolvency Act 1986. The statement focuses on the IPs duties and obligations in the pre-appointment period and states that IPs must be clear about the nature and extent of their role and their relationship with directors. It highlights the importance of the directors seeking independent advice where the IP is advising the company, particularly where the directors are looking to purchase assets through the sale.

In terms of the new disclosure requirements, SIP 16 places an obligation on administrators to provide creditors with a detailed explanation and justification of why a pre-packaged sale was undertaken, so that the creditors can be satisfied that the administrator has acted with due regard to their interest. Some have suggested that this is a pyrrhic victory for creditors, since, by the time they receive the report, the deal will already be complete. However, certain key information must now be disclosed to creditors in the first notification informing them that an IP has been appointed. This includes:
· the source of the administrator's initial introduction and extent of involvement prior to the appointment;
· any valuations obtained of the business or the underlying assets;
· the alternative courses of action that were considered, together with an explanation of possible financial outcomes and any connection between the purchaser and the directors, shareholders or secured creditors of the company; and
· whether efforts were made to consult with major creditors.
Fashionista is interested to see whether SIP 16 in fact results in IPs being less willing to sell struggling businesses using a pre-pack or whether disgruntled unsecured creditors will use the more detailed information provided to question whether the IP appointed acted with due regard to their interests. While Fashionista welcomes the new transparency that SIP 16 should bring, in the current economic climate, the limited availability of funding is more likely to slow the rate of pre-packs than the new SIP 16.