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28/02/2018

Guide to administration

What is an administration?

If a company cannot pay its debts when due or if its liabilities outweigh its assets (i.e. the company is insolvent), the company’s directors or a creditor may apply to the court to place the company into administration. In an administration, the running of an insolvent company’s affairs, business and property are managed by an administrator, who is required by law to be a licensed insolvency practitioner.

Administration is one of three main types of corporate insolvency procedure (the others being a company voluntary arrangement [CVA] or liquidation), and is designed to be a business rescue procedure.

While a company is in administration, creditors are prevented from taking any actions against it except with the permission of the court.

An administration is only ever a temporary state of affairs – in England and Wales, administrations have a statutory length of 12 months, although this can be extended if necessary with the agreement of creditors, or the permission of the court. They can also last for under 12 months if the administrator judges that there is no need for the administration to last any longer, provided that creditors agree.

What is the purpose of an administration?

There are three main statutory purposes of an administration. In order of priority, they are:

  1. Rescuing the company as a going concern, or
  2.  Achieving a better result for the company's creditors as a whole than would be likely if the company were wound up (without first being in administration), or
  3. Realising property in order to make a distribution to one or more secured or preferential creditors.

The administrator must perform their functions with the first of these objectives in mind, unless they think either:

  • That it is not reasonably practicable to achieve that objective, or
  • That the second objective would achieve a better result for the company's creditors as a whole.

The administrator may perform their functions with the third objective as the intended outcome only if:

  • They think that it is not reasonably practicable to achieve either of the first two objectives, and
  • They do not unnecessarily harm the interests of the creditors of the company as a whole.

Who oversees an administration?

An administrator, required by law to be a licensed insolvency practitioner, will oversee the administration. They will take over the duties and responsibilities previously held by the insolvent company’s directors (see below for details on fees and oversight of the administrator’s work).

What does an administrator do?

Once appointed, the administrator works quickly to get as accurate a picture as possible about the company’s affairs: its bank accounts, its operations, its assets. After gathering as much information as possible, the administrator will look into different possibilities for the company. Can it be restructured and its business model rescued? Can it be sold (in whole or in part) to another firm? How can the company avoid liquidation? The administrator is legally bound, as a formally appointed agent of the court, to do their best to get the best possible returns for creditors, and must be prepared to defend decisions about the outcome of the administration process in court, if necessary.

After appointment, the administrator takes over the management role previously held by a company’s directors. As a result, the administrator has broad powers to carry on the company's business and to realise its assets, including the power to remove or appoint directors.

The administrator will communicate with creditors and the court, and ensure they’re kept up to date with developments on at least a six-monthly basis. The administrator will write to all known creditors within 14 days of their appointment; when the administration is terminated, a final report will also be produced. These reports can be accessed via Companies House, where they are required to be deposited.

Who ensures the administrator is doing a good job?

There are a number of safeguards in place with regards to the behaviour of an administrator.

In the first instance, the administrator is an agent of the court, and can face legal sanctions if found to have acted in a way detrimental to creditors’ interests.

The creditors also have control over the administrator’s fee (see section below).

In some administrations, creditors choose to elect a creditors’ committee, of between three and five representatives, to oversee the administrator’s work and to ensure that good practice is followed.

Furthermore, the administrator, as noted above, is required to be a licenced insolvency practitioner, and is therefore answerable to a Recognised Professional Body (RPB), an organisation with the power to enact penalties, including fines and – in rare cases – the removal of professional qualifications. The RPBs in the UK are:

  • the Association of Chartered Certified Accountants
  • the Insolvency Practitioners’ Association
  • the Institute of Chartered Accountants of England and Wales
  • the Institute of Chartered Accountants of Scotland
  • the Institute of Chartered Accountants in Ireland.

If creditors are unsatisfied with the performance or actions of an administrator, they can complain to the Insolvency Service, or directly to the administrator’s RPB.

What are the different classes of creditor?

In an insolvency, it is usually the case that there is not enough money left in a company’s or individual’s possession for all creditors to be repaid all that they are owed.

Because of this, the government has created an ‘order of priority’ that determines the order in which creditors are paid back their money (or at least, what money can be paid back).

This order prioritises major lenders with security, often banks. These types of lenders are further up the order of priority so that they feel confident continuing to lend to businesses. If there was very little chance that a bank would receive its money back in the event of one of its debtors becoming insolvent, the bank could become unwilling to lend to other businesses in the future.

In order, the classes of creditor in an administration are:

  1. Secured/fixed charge creditors, usually banks, whose lending is tied to a specific property or asset belonging to the company or individual (e.g. a mortgage).
  2. The costs of the insolvency, such as legal fees or rent on a commercial property, and the administrator’s fee.
  3. Preferential creditors, usually the employees of an insolvent company who are owed unpaid wages, holiday pay, and/or pension contributions.
  4. Floating charge creditors, whose lending is tied to a general type of asset rather than a specific asset – for example, a lender could issue a floating charge for the goods in a company’s warehouse, whose quantity and value can vary over time.
  5. Unsecured creditors, who are usually the largest group by number, if not by size of the debts owed to them; trade suppliers, employees owed redundancy pay, customers who possess gift cards, and HM Revenue & Customs are common types of unsecured creditors.
  6. Shareholders and bond holders.

What rights do unsecured creditors have in an administration?

If there are any funds left after repayments to the creditor classes which are above unsecured creditors in the order of priority, unsecured creditors may receive all of or a proportion of their funds back. In practice, it is very unusual for unsecured creditors to get back all the monies they are owed from an insolvent company.

If there is a floating charge creditor, the administrator can hold back a portion of the funds owed to them and distribute it instead to unsecured creditors. This is called the ‘prescribed part’, and is defined as 50% of the first £10,000 of assets (that would otherwise have gone to the floating charge holder), and then, if applicable, 20% of the balance up to a total of £600,000.

The administrator has a duty to update all creditors, even unsecured creditors unlikely to receive much (if anything) of their money back, who are also entitled to attend creditors’ meetings, and to write to administrators with their views. More and more of this communication is taking place online. Following recent rules changes, creditors can choose to opt out of the administrator’s updates.

How are the administrator’s fees decided?

When a company is declared insolvent, the administrator performs an important role in trying to get the best possible deal for creditors, be that through rescuing the business, or through returning as much as possible to investors, suppliers and others who are owed money by the insolvent company. Work on an administration can take a significant amount of time, and involves the application of a wide range of specialist skills, such as forensic accountancy, fraud investigation, detailed tax knowledge, finding new sources of funding, and managing employee relations. This is why creditors – who ultimately control how much in fees the administrator will receive – seek to bring in administrators, as they know that doing so is likely to bring them a better rate of return than bypassing an administration.

The administrator’s fee is paid out of the assets of the insolvent company, and will only be paid if there is anything left over after what is owed to the first tier of creditors (secured creditors).

The fee can be decided upon in several ways, according to the Insolvency Rules 2016. These are:

  • as a percentage of the value of the property which the administrator has to deal, or
  • by reference to the time properly given by the administrator and their staff in attending to matters arising in the administration, or
  • as a fixed amount.

If the fee is not to be decided on a time-cost basis, the administrator must supply creditors with an estimate of expenses likely to be incurred, and a proposal of the work to be undertaken. If the fee is to be decided on a time-cost basis, the administrator must provide a fees estimate in advance, which acts as a cap on the final payment; if the case turns out to be more difficult or time-consuming than estimated, the administrator will have to seek approval from creditors to raise the fee from the initial estimate. The administrator will usually seek approval for fees when they send out their proposals for the administration. They have to send out their proposals for achieving the purpose of the administration within the period of eight weeks beginning with the day on which the company enters into administration.

Administration outcomes

There are various scenarios which can come about at the end of an administration:

  • The business is rescued:
    • The whole business is sold to a new company, or the existing company receives fresh capital and continues trading
    • The company might restructure its business (cutting loss-making subsidiaries, reducing costs) and re-emerge from administration
    • Part of the business could be sold to new owners or moved to a new company – the old company and unsold parts of the business will then be liquidated.
  • The company may go into liquidation, or may be dissolved if there are no funds for distribution to unsecured creditors
  • If a voluntary arrangement has been agreed during the administration, the arrangement may continue according to its terms. (It is possible for a voluntary arrangement to run concurrently with an administration.)

Notes to editors:

  • R3 is the trade body for Insolvency Professionals and represents the UK’s Insolvency Practitioners.

  • R3 comments on a wide variety of personal and corporate insolvency issues. Contact the press office, or see www.r3.org.uk for further information.

  • R3 promotes best practice for professionals working with financially troubled individuals and businesses; all R3 members are regulated by recognised professional bodies
     
  • R3 stands for 'Rescue, Recovery, and Renewal' and is also known as the Association of Business Recovery Professionals.