On 8 October 2020 the UK Government published draft regulations which were intended to regulate and scrutinise pre-pack sales to connected parties. The regulations required that, in relation to a sale of all or substantially all of an insolvent company’s business or assets to a connected party, either the administrator obtains the prior approval of the company’s creditors or the buyer obtains an opinion from an independent evaluator as to whether the terms of the sale are reasonable. Following a consultation period, the draft statutory instrument of the regulations was published on 24 February 2021 and will now be debated in Parliament.
A “pre-pack sale” is a sale of an insolvent company’s business and assets by its administrator where the terms of the sale are agreed and documented prior to the appointment of the administrator. The sale is concluded immediately following the appointment of the administrator. The benefit of a “pre-pack” is that it preserves the value of the business by enabling a seamless transition of the trading enterprise. Pre-pack sales occur in circa 30% of all administrations.
However, whilst a pre-pack sale may ensure the survival of the business and the retention of employees, the creditors of the seller company often criticise such sales for a lack of transparency (as they will only find out about the sale after the event) and, often, the business will have been subject to limited marketing. Furthermore, creditors are usually particularly concerned when the pre-pack sale is to a party connected to the seller (for example, existing management, shareholders, or relatives). It is estimated that approximately half of all pre-pack sales are to connected parties.
THE EXISTING REGIME
The regulations are expected to replace the current voluntary regime which was introduced in November 2015 and pursuant to which connected buyers can refer a proposed sale to the “pre-pack pool”. The pre-pack pool is a group of independent experts, set up by the insolvency industry, who review the sale proposal and determine whether it is reasonable. However, the pre-pack pool is not currently widely used by buyers. It is estimated that only 10% of eligible cases were referred to the pre-pack pool in 2019.
The intention behind the regulations is to increase both transparency for the creditors and confidence in administration sales to connected parties. The obligations set out in the regulations will be mandatory in the case of any disposal of all or substantially all of a company’s business or assets to a connected person which occurs within eight weeks of the company’s entry into administration. Therefore, the regulations will apply to both pre-pack sales and those which occur shortly after the commencement of the administration.
Under the regulations, prior to completion of a sale or disposal to a connected party, either:
(i) The administrator must obtain the approval of creditors. Such approval must be given by a simple majority of the creditors based on the value of their claim in the administration. However, the approval will not be effective if 50% or more of creditors not connected to the company vote against it; or
(ii) The buyer must obtain an independent written opinion from an independent evaluator as to whether the proposal is reasonable.
It is not clear who can (or cannot) act as an evaluator. However, both the evaluator and the administrator must consider that the evaluator is independent from the administrator and the buyer and has the requisite knowledge and experience to opine on the proposed sale. The evaluator’s opinion will set out whether, in light of the circumstances, the proposed sale is reasonable. In addition, there is no limit on the number of evaluator opinions which the buyer can obtain (although, there may be time and cost constraints in obtaining more than one opinion).
OPINIONS FILED AT COMPANIES HOUSE
Each opinion (whether favourable or not) must be sent to the seller company’s creditors and filed at Companies House. In addition, it is still possible for a sale to proceed even where the evaluator’s opinion is that the proposed sale is not reasonable. In circumstances where the administrator decides not to follow the opinion of an evaluator they must provide a statement justifying their reasons for doing so.
A “connected person” for the purpose of the regulations is as defined in paragraph 60A(3) of Schedule B1 of the Insolvency Act 1986. Therefore, any common directors, shareholders, and controlling entities (or their associates) would be considered connected. This differs from the definition of parties considered “connected” for the existing pre-pack pool regime. In particular, the existing regime excludes certain secured lenders who hold security with related voting rights. It is not clear currently whether such lenders would be considered “connected” for the purposes of the new regulations.
WHEN WILL THE REGULATIONS TAKE EFFECT?
The regulations must be enacted by 30 June 2021. Currently, it is anticipated that they will be effective from 30 April 2021. Once the regulations become effective, buyers (and administrators) will need to factor in both the time and cost of such evaluation when planning a pre-pack sale.