Why the right advice is priceless in a pre-pack

The question of how much an insolvent company is worth lies at the heart of the most controversial of insolvency procedures, the pre-pack administration, writes Milsted Langdon partner and licensed insolvency practitioner Roger Isaacs.

A pre-pack involves the sale of the insolvent company immediately after an administrator is appointed, under terms agreed beforehand and often to former directors or connected parties. The first creditors know of the insolvency is the notice informing them that the company has gone bust and been sold – hence the adverse publicity pre-packs attract.

Regulation, in the form of Statement of Insolvency Practice 16, requires the administrator to give full disclosure as to the rationale for the sale. But the question often asked is whether the business could have been sold for more had it been marketed differently.

While it is fairly easy to establish the worth of assets like book debts, property, plant and machinery, valuing intangibles like goodwill, including intellectual property such as websites, reputation, customer lists and the company name, is far harder. The best way to ascertain the market value of anything is to put it up for sale and see what the highest bidder bids, which is why any reputable insolvency practitioner (IP) would like nothing better than to market a business for sale as widely as possible.

The fatal flaw in this approach is that in many cases, once word gets out that a business is for sale in distressed circumstances, the value of its goodwill plummets as customers desert in droves, employees leave and competitors do all they can to hasten its demise.

Banks may freeze accounts and suppliers often insist on being paid cash on delivery or may arrive unannounced to take back goods not yet paid for. Staff cannot be paid, orders cannot be filled and whatever business might have been salvaged will be destroyed.

This demonstrates the dilemma behind every pre-pack. How can the prospective administrator ensure that marketing maximises the realisable value of the company’s goodwill and intangible assets without being so vigorous it destroys what is being sold?

There may also be a conflict of interest if directors are preparing a bid to buy the company via a pre-pack. As directors, they have a duty to sell the assets for as much as possible. As bidders, they would like the price they pay to be as low as possible.

These challenges underline how vital it is for directors to work with an IP with the right mix of skills to ensure the best outcome for them and for their company. Unfortunately, some advisers of insolvent businesses – not licensed insolvency practitioners – make extravagant promises to directors about the ease of throwing their companies into administration and buying them back cheaply via a pre-pack.

In our experience, directors seduced by those offers often end up regretting it as they and their new companies start receiving legal claims seeking to unravel the pre-pack agreements. Such claims can come several years down the line from liquidators appointed to succeed the administrator who undertook the original pre-pack.

Using a reputable and skilled insolvency practitioner minimises the chances of criticism of the pre-pack and of a subsequent legal challenge. With careful, considered planning, it is possible – as the Milsted Langdon team has proved time and time again – to achieve the right balance between the interests of interested parties, be they directors, shareholders, investors or creditors.

Insolvency will never be anyone’s preferred option but the key to a successful rescue is to ensure that a distressed sale doesn’t cause undue distress to those involved.

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