In a nutshell
Insolvency law governs the position of businesses and individuals who are in financial difficulties and unable to repay their debts as they become due. Such a situation may lead to insolvency proceedings, in which legal action is taken against the insolvent entity and assets may be liquidated to pay off outstanding debts. Before a company or individual gets involved in insolvency proceedings, they will probably be involved in a restructuring or an out-of-court arrangement with creditors to work out alternative repayment schedules. The work of lawyers in the field can therefore be non-contentious (restructuring) or contentious (insolvency litigation), and their role will vary depending on whether they act for debtors or their creditors. What follows are some of the terms you’ll come across in this practice area.
Debtor: an individual or company that owes money.
Creditor: a person or institution that extends credit to another entity on condition that it is paid back at a later date.
Bankruptcy: a term used in the US to describe insolvency procedures that apply to companies, but not in the UK, where the term applies to individuals only.
Restructuring: a significant modification made to the debt, operations or structure of a company with its creditors’ consent. After a restructuring, debt repayments become more manageable, making insolvency proceedings less likely.
Insolvency proceedings: generic term that covers a variety of statutory proceedings aimed at rescuing or winding up an insolvent company.
Insolvency proceedings include the following actions:
Company voluntary arrangement (CVA): if it is clear that a business could survive if debt repayments were reduced, it can enter a CVA agreement with its creditors. Under this legally binding agreement, a struggling company is allowed to repay some, or all, of its historic debts out of future profits, over an agreed period of time.
Administration: when in administration, a company is protected from creditors enforcing their debts while an administrator takes over the management of its affairs. If the company is fundamentally sound, the administrator will implement a recovery plan aimed at streamlining the business and maximising profits. If it is apparent that the company has no future then it can be sold or liquidation can commence.
Receivership: unlike administration, this is initiated by the company’s creditors, not the company itself. A receiver is appointed by the court and must look to recover as much money as possible in order to settle the claims made by creditors. Under receivership, the interests of the creditors clearly take precedence over the survival of the company.
Liquidation: procedure by which the assets of a company are placed under the control of a liquidator. In most cases, a company in liquidation ceases to trade, and the liquidator will sell the company’s assets and distribute the proceeds to creditors. There are two forms: voluntary liquidation brought about by the company itself or compulsory liquidation brought about by court order.
Distressed M&A: the sale of all or a portion of an insolvent business is an efficient way to preserve going-concern value and avoid the potential for substantial loss of value through a piecemeal liquidation.
Pre-pack sale: refers to a deal made with an interested buyer to sell the insolvent company’s business and assets, negotiated before an administrator is appointed and completed immediately on appointment. Such schemes are becoming increasingly popular and more frequently used in the current economic climate.
What lawyers do
- Meet with clients to assess the gravity of the situation, highlight the available options and advise on the best course of action to follow. In a restructuring, advise the insolvent company on the reorganisation of its balance sheet (such as closing down unprofitable businesses or refinancing its debt) and assist in negotiations with creditors.
- Assist in insolvency filings, and once proceedings have commenced, work closely with the insolvency officeholders (that is, those appointed as administrators, receivers or liquidators) and accountants to achieve the goals set for the insolvent company.
- Provide advice to directors of insolvent companies, explaining their duties to creditors. Advise on the sale of assets or mergers and acquisitions of troubled companies.
- Assist clients in insolvency litigation and appeals. Provide preventative advice to debtor clients on liability management and ways to avoid insolvency proceedings.
- Meet with creditor clients to assess the validity of their security over the insolvent company, the strength of their position in the creditors’ pool and the best course of action to ensure full recovery.
- Assist in negotiations with debtors and insolvency officeholders.
- Represent clients in insolvency litigation and appeals.
- Assist in the tracing and valuation of debtors’ assets.
- Provide training to their clients on how to deal with insolvent companies.
Realities of the job
- Large City firms deal almost exclusively with large-scale corporate restructurings and insolvencies, and the representation of creditor groups in these matters. Smaller regional firms mostly assist on smaller corporate and personal insolvency cases.
- Corporate insolvency as a practice area is extremely varied as proceedings affect every aspect of the insolvent company. Lawyers therefore need to be conversant in a variety of legal disciplines or know when to refer matters to specialists in employment, banking, property, litigation, corporate etc.
- When financial difficulties arise in companies, the rapid deployment of a legal team is necessary to provide immediate assistance. This area of law is extremely fast-paced and lawyers are often asked to deliver solutions overnight.
- Insolvency and restructuring involves mountains of paperwork, so lawyers need to be organised and able to prioritise their workload, particularly when dealing with multiple assignments. With so much at stake, attention to detail is paramount when drafting asset sale agreements or documents to be filed at court.
- Restructuring and insolvency situations are understandably tense for both debtors and creditors, and lawyers sometimes need to deal with difficult people, so they must be able to hold their ground and show they are not easily intimidated.
- The English insolvency system has proved popular with foreign companies, especially those from Asia, as it is more flexible than other regimes. Within the EU, new rules were introduced in early 2015 to iron out some of the procedural differences between member states. They aim to wipe out the trend for 'forum shopping' which sees debtors opening proceedings in multiple jurisdictions to gain a favourable outcome.
- The UK's restructuring and insolvency legislation is not taken from EU regulations so leaving the EU would have little effect on domestic cases. Brexit would, however, complicate the processes for implementing cross-border restucturings and insolvencies, undermining the UK's reputation and attractiveness as a location for international restructuring and insolvency. International companies may increasingly seek to commence proceedings in an EU member state rather than the UK, to ensure automatic recognition across the EU.
- The first quarter of 2016 has seen the first increase in total corporate collapses in two years, predominantly driven by compulsory liquidation. Despite the upsurge the figure remains at a comparatively low 3,964, which is lower than the same period in 2015. There's also been a general shift toward restructuring, prompted by the reluctance of companies to declare insolvency. It's thought that the media coverage surrounding recent high-profile cases, such as Woolworths and BHS, and the subsequent impact on credibility have been cause for caution among lenders.
- In an unprecedented move, the Insolvency Service's investigation into the controversial and high profile collapse of BHS in early 2016 is to be published (it's currently illegal to disclose confidential Insolvency Service reports). The investigation was launched amid an atmosphere of media, public and political anger at the company's pension deficit and aims to assess the degree to which the actions of the company's directors led to its demise.
- Schemes of arrangement have become increasingly popular both in the UK and abroad. The process, entailing an agreement between a company and its creditors to restructure said company by reducing debts, is viewed as more affordable than other restructuring tools.
- The Small Business, Enterprise and Employment Act 2015 aimed to clarify the relationship between creditors and practitioners, as well as putting more onus on insolvency practitioners to monitor directors' conduct.
- The personal insolvency rate fell from 0.39% in 2009 to 0.21% in 2014 and 0.18% in 2015. The overall decline in individual insolvencies has led to a drop in declarations of bankruptcy: there were just 3,744 in the first quarter of 2016, the lowest number since 1990.