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Voluntary arrangements really can work - a case study - news article image

Voluntary arrangements really can work - a case study

28 Sep 2017

5 minute read

The concept of voluntary arrangements grew out of The Cork Report. Commissioned by the Government in the early 1970s, the report later formed the basis of the Insolvency Act 1986. 

The Cork Committee found that the legal framework surrounding insolvency did not lend itself easily to the possibility of rescue and recovery, instead focusing on the death and destruction of businesses that got into financial difficulty and the harsh realities of bankruptcy for individuals in trouble. As a result, the committee introduced the concept of administration for companies and voluntary arrangements for individuals, corporates and partnerships. The concept focused on the ‘debtor in possession’ and rescue and recovery processes to try to strike a better balance between the debtors (corporate or personal) and the creditors. The concept was that a ‘debtor in possession’ was likely to give potential for a far better return to creditors. 

It’s now just over 30 years since the Insolvency Act 1986 came into force so we thought this would be a good time to review what that Act has achieved in terms of voluntary arrangements. To exemplify this, we have highlighted one case which for us represents everything that is good about voluntary arrangements. 

What was the situation in this case?

The case involved a local hotel and restaurant with a very good reputation run. The business was run as a family partnership that had incurred losses for a number of years and had built up substantial rent arrears with the landlord, arrears in respect of PAYE and VAT with HMRC and debts due to local suppliers. The three members of the family involved had put pretty much all of their personal wealth into the business. 

What were the options available?

The first option considered was to sell the business on a growing concern basis. Finding the right buyer would generate a lump sum that would be immediately available for the creditors but, based on valuations obtained, would not be enough to pay the creditors in full, leaving the partners with residual liabilities. The partners would also face a prospect of having to find alternative employment as well as completely losing their investment. It was also apparent that the landlord would have to be persuaded to accept a covenant from a new tenant and would have to agree to the assignment of the lease. To agree this, the landlord would require repayment of the rent arrears which would reduce the balance of sums becoming available for the other creditors. Based on previous dealings with HMRC it was also likely that they would reject any proposal put forward as the projected dividend for HMRC - and other unsecured creditors - would have been below the magic 25 p in the £ that is considered by many creditors to be a ‘must achieve’ figure. 

With the first option dismissed, the next option was a sale of assets on a break up basis. However, there really is not much value to be achieved from second hand beds, kitchen equipment and other chattels found in hotels. 

What then of a rescue and recovery? Convincing creditors to seriously consider a rescue and recovery proposal often comes down to two questions. Firstly, what will be different in terms of trading activities in the future that means there will be a profit to distribute to creditors? Secondly, and crucially, why should creditors trust the very people who have steered the business to its current position to take the necessary remedial action? 

Actions Taken 

A lot of work was done with the partners to review the activities of the business and pull together a business plan that included big changes to the restaurant. Meetings were held with the landlord to agree terms on how best to deal with the rent arrears and various essential suppliers were approached to obtain their views of future potential trading relationships. Cash flows and profit and loss projections were pulled together which showed that - if successfully implemented - the business would return to profitability enabling payments to be made to creditors. 

A proposal for a voluntary arrangement was drafted which we considered achieved the right balance between making repayments to unsecured creditors, paying all future liabilities, including rent, PAYE and VAT, as and when they fell due; paying back rent arrears in the same proportion as payments would be made to the unsecured creditors, and creating an asset for the benefit of the partners in the future from which, if they chose, they could recover their investment. The proposal was duly presented to creditors, a meeting held and, after some negotiation on the finer points, a firm agreement reached which would run for five years. Throughout this process our mantra was that it would not be easy; the V.A. was not a ‘get out of jail free’ card but if it was successful, the partners would be running a highly successful business that was free from debt within five years. From this point, the future choices for them would be enormous on whether to continue trading or sell. 

How did we implement it? 

Nothing, of course, goes to plan. Cashflows and p&l accounts trying to project the future for five years are at best lucky guesswork and at worse complete fiction. The process wasn’t easy and in year two in particular, payments that should have been made for the benefit of creditors just did not happen. The relationship between us as Supervisor of the voluntary arrangement with responsibilities to the creditors, and the partners were at times difficult but more hard work was put in by the partners and they turned a corner and by the end of the fifth year the creditors had received all that they had been promised in the proposal and the partners were free to go their own way. As is always ‘our way’ we did not replace the existing team of professional advisors at the start of the process but instead worked with them to help a mutual client in times of difficulty and at the end of the five years those relationships remained in place to help the partners continue to develop their business. 

Comment 

Nothing in this case study is unique or unusual. It encompassed all of the normal issues of numerous stakeholders pulling in different directions and the Insolvency Practitioner, in the middle, firstly helping to devise the plan, secondly persuading all parties to climb on board, before finally implementing the plan accordingly. Perhaps there was one unique moment; We remember a phone call with the existing accountant during which they commented; ‘The partners think you really hate them….’ Our response was ‘you could not be further from the truth, we really respect them for the sacrifices they are making to get this thing back up and running but we have a job to do and we are going to do it. If that means we have to be a bit tough to get them on track then so be it!’ Unbeknown to us, the accountant had us on speaker phone and the partners were in the room. A big gamble by the accountant as to how we would respond but it paid off, the partners pulled themselves around and all came good. 

Our view of voluntary arrangements is that they are still an essential tool in the kit bag of Insolvency Practitioners. With good planning and preparation, they are a vital potential exit route from financial distress. V.A.s are not a get out of jail free card or an easy option but, as with the hotel referred to above, an excellent mechanism to reconstruct, rebuild and create wealth. In writing this piece we have checked the hotel concerned on ‘Trip Advisor’ - where they have excellent reviews and are still owned by the same family. A good outcome for all concerned and proving the point that in the right hands, a ‘debtor in possession’ process achieved a better outcome for creditors and everyone else involved.

Voluntary arrangements really can work - a case study - news article image

Author:

Hayley Simmons

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