Pre-packs – administrators’ duties

March 2018

IP nicks phoenix fee

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If you know you have a potential conflict of interest you should try all the harder not to be adversely influenced by it. When marking team squash matches I tend as a result to give more decisions in favour of the opposition. Playing a cricket match I once in my stint as umpire gave a hat-trick (nearly) of LBW decisions against my teammates. The last of them was a close combat instructor for the marines who gave me the 1,000 yard stare in the bar for the rest of the evening. I now try to avoid umpiring whenever I can.

Why do I mention this….?

A recent case has thrown doubt on some of the standard practices of insolvency practitioners (IPs) in relation to pre-packs. A pre-pack is the process where a company is put into administration and its business and/or assets immediately sold by the administrator in a sale that was arranged before the administrator was appointed. Quite often the sale is made to a new company owned by the owner/directors of the pre-packed company. A term given to such new companies is ‘phoenix company’ – ie like a phoenix from the ashes. This kind of pre-pack can be annoying to a company’s creditors who see the company’s owners/directors carrying on before as though nothing had changed, while the creditors get little or nothing back of what they are owed. They may be especially concerned about whether the pre-pack was sold at a proper price or whether the former owner/directors bought things on the cheap.

IPs are often engaged by owner/directors of private companies to advise on pre-packs. And then if the owner/directors decide to go ahead with the pre-pack they generally appoint the same IPs to act as the administrators. This creates a clear risk of conflict of interest as the IPs will usually be keen to get the administrator job, because administrators can make a lot of easy money, and they know they may only get this job if the pre-pack is going to be to a phoenix company.

Happily most IPs behave to high standards in carrying out their roles. They have professional codes setting standards around the marketing and transparency of pre-packs, and warning them to avoid conflicts between the interests of a company’s owner/directors and those of the company itself and of its creditors. Quite often this can come as a shock to the owner/directors, as the nice Dr Jekyll who had been advising them on their insolvency problems turns into a nasty Mr Hyde when he puts his administrator’s hat on and starts digging into the company’s affairs.

In this recent case IPs (from a well-known firm of accountants I was seconded to for 6 months in the early 1990s) were appointed to advise on a possible pre-pack of a struggling tech start-up company. Despite the problems they had in getting appropriate information from the company’s directors to help them market the business, they still agreed to be appointed administrators and did a pre-pack to a phoenix company the next day. The pre-packed company’s creditors applied to get the administrators removed from office on the grounds that they had a conflict of interest that prevented them from investigating whether the pre-pack had been at below market value and marketed properly, and whether the company’s directors and the IPs had breached their duties to creditors in doing the pre-pack.

The court ordered that the administrators should be removed from office with immediate effect. The court was actually rather rude about them because throughout the case they had been in denial both that they had a conflict of interest in the first place and that it was clearly in the company’s/creditors’ interest to have the pre-pack properly investigated. The court said that they had a clear and immediate conflict of interest from the moment of their appointment, and should therefore have either sought the court’s directions as to what to do, or sought to have an additional independent administrator appointed to look into the issues they would have had a conflict in looking into.

The court didn’t go so far as to say that the mere fact that there is a potential conflict of interest should prevent IPs from accepting their appointment as administrators in these circumstances. Doing pre-packs is often a time-critical process, so it would be difficult to do things differently.

The case has not helped the reputation of IPs. It should make IPs more sensitive in the future to the fact that they clearly have potential conflicts when asked to advise on and then subsequently be appointed as administrators to implement a pre-pack to a phoenix company, and to the fact that although they can still take the appointment they need to act with the highest standards of conduct and transparency to show that they haven’t been influenced by the conflict.

Case: Ve Vegas Investors IV LLC v Shinners [2018] EWHC 186 (Ch) (08 February 2018)