As any experienced director knows, running your own firm isn’t just about enjoying the benefits during the good times but making some tough calls when things get bumpy.
One example of this is when the company is facing financial difficulties and their legal duty shifts from promoting the success of the company to protecting the interests of creditors.
When insolvency becomes a live option, two paths generally emerge – administration or liquidation.
While the latter is the final destination for a business, administration can often be a better diversion – especially for directors concerned with fulfilling their fiduciary duties and minimising personal exposure and finance risk.
Most simply, administration often provides a better outcome for creditors – the people the company owes money to.
Here’s why…
The statutory object is a better result
The main difference is in the legal purpose of the procedure.
An administrator has to legally do their best to rescue the company as a going concern. If a total rescue isn’t possible then their secondary statutory objective is explicitly to achieve a better result for the company’s creditors as a whole than would be likely if the company were wound up/liquidated.
In a liquidation the primary goal is to simply realise any assets and distribute the proceeds – usually on a break-up basis.
Administration is designed to preserve value, not strip it.
Preserving going concern value against break-up value
In a liquidation, assets are sold whenever buyers can be found. When a company ceases trading immediately then all its intangible assets – goodwill, brand reputation, customer loyalty etc – vanish. This forces the sale of physical assets on a “break-up” basis which almost always yields the lowest financial return for creditors.
An administration, particularly if it’s a pre-pack arrangement, facilitates the sale of the business as a going concern.
By keeping the business trading or selling it immediately as a functioning entity, the administrator preserves the value of work in progress and debtor books (which are notoriously difficult to collect once a company stops trading.)
A business sold as a living entity is worth significantly more than a pile of used computers and equipment – resulting in a larger pot of money available for distribution to creditors.
Moratoriums: protection from aggressive creditors
Administration provides a power legal tool that liquidation doesn’t – an automatic moratorium.
Once a company files a notice of intention to appoint administrators then a legal ring-fence is placed around the business. This stops creditors from taking any enforcement action including filing winding-up petitions or sending bailiffs to retrieve assets.
This breathing space is crucial for creditors as a whole because it prevents aggressive creditors from tearing the company apart to settle their individual debts to the detriment of everyone else.
It allows the administrators time to organise a calm, strategic sale of assets to maximise the overall return to all.
Reducing creditor claims through preserving jobs
One of the overlooked financial benefits of administration is its impact on the volume of claims against the company.
In a liquidation, the business usually ceases to trade, leading to immediate redundancies for staff. These redundant employees then become preferential and unsecured creditors for their unpaid wages, holiday pay and redundancy entitlements.
This reduces and dilutes the pool of money available to other creditors.
In an administration, particularly a pre-pack sale, employees often transfer over to new owners under TUPE regulations (Transfer of Undertakings (Protection of Employment)).
Because their jobs and accrued rights are saved, there is no need for them to claim against the insolvent estate. This significantly reduces the total value of unsecured claims, meaning the remaining dividend is shared among fewer creditors, increasing payouts for suppliers, HMRC and the other creditors.
Enhanced powers of investigation and recovery
Liquidators historically had broader powers than administrators to pursue directors for misconduct but the legal landscape has changed to the benefit of creditors in administration.
The Small Business, Enterprise and Employment Act 2015 gives administrators power to bring claims of wrongful trading and fraudulent trading – powers which were previously reserved for liquidators.
Administrators can also assign these claims to third parties. This means that if the company lacks the funds to sue a director for misconduct, the claim can be sold to a litigation funder.
Proceeds from these claims would go directly into the pot for creditors. This ensures that directors are held accountable and creditors have more options to recover money without the delay of moving from administration to liquidation.
Sometimes companies are irrecoverable and liquidation is the only option for a business without a viable future.
For every other company undergoing financial challenges, administration can be a powerful rescue tool.
Preserving value, shielding assets from legal attack, protecting jobs and utilising enhanced recovery powers are all valid reasons why directors should explore every avenue available to them before accepting liquidation.
Get in touch with us for a free initial consultation if you think or know your business might need some expert professional advice on handling these issues – before they become a reality.