Yes, I know it’s an odd title, but all will become clear, I hope.
Water takes the line of least resistance, so when a river course forces water to make a laborious curve, the water eventually finds a short-cut, bypassing the tiresome curve and leaving it high and dry, as a lake cut off from the dynamic water-flow.
I understand the political imperatives behind the pre-pack puffing and blowing… I think. I also know that Teresa Graham’s vision of a revised SIP16, along with the voluntary pre-pack pool, viability review, and generally sensible marketing essentials, will come to fruition. However, I suspect that this may be only postponing another inevitable: legislation, which finally may choke the life out of pre-packs… but only because industry will find another way.
When Teresa Graham’s report was released in June 2014 (http://goo.gl/oVhnXt), I resisted the urge to blog my thoughts, mainly because there were plenty of other people more authoritative than me who were saying much the same things that I was thinking. Bill Burch’s blog was a good one: http://goo.gl/Esm5yr.
Whatever our criticisms are, the Graham Report has reached the status of something indisputable in the same way that the OFT market study on corporate insolvency has. I feel that we are past the point where the principles are up for debate, as demonstrated by the ICAEW’s announcement of the SIP16 consultation: the JIC is “solely seeking views on whether it will be practical for an insolvency practitioner to comply with the requirements contained in the revised version of the SIP” (http://goo.gl/yVepVw). Still, it’s nice of them to ask.
To Market or Not to Market?
I think we have come a long way in a relatively short time: Dr Frisby’s 2007 research suggested that perhaps only 8% of pre-packed businesses had been marketed, whereas I would not be surprised if now less than 8% of pre-packed businesses were not marketed.
Is a sale preceded by zero marketing ever acceptable anymore? Ms Graham accepted as “true in some circumstances” that marketing is not possible or that marketing itself will harm creditors’ proposals (paragraph 9.24). However, I am not sure what message we should be taking away from the revised SIP16, which states that “marketing a business is an important element in ensuring that the best available price is obtained for it”: does this mean that, if a business is not marketed, the best available price is never ensured? And where does best outcome fit in? The best sale price is not the whole story.
“Comply or Explain”
For many years, we have regarded SIPs as required practice, not best practice. Thus, when we are told to do something, we know we should do it or be prepared to face the wrath of our regulator. Of course, there will always be circumstances in which one has to decide to break a rule – a bit like needing to drive across a road’s solid white line in the interests of safety – but I feel that a rule-book that states: “this is what you should do” and then immediately follows this with: “but if you don’t, then this is what you should do” lacks credibility, doesn’t it?
The SIP (paragraph 10) states that “any marketing should conform to the marketing essentials”. However, it then states that “where there has been deviation from any of the marketing essentials, the administrator is to explain how a different strategy has delivered the best available price.” Ah, so as long as we can justify that our focus has been to achieve “the best available price”, then we don’t need to follow the “marketing essentials”. Not only does that not make them particularly essential, but it also makes me wonder: why have them at all? Why not simply state: “do (and explain) what you think is right to achieve the best possible price”? Possibly because that was the world before the first SIP16 was born – and evidently it was not enough to instil confidence in the process.
Hindsight is a Wonderful Thing
The marketing essentials include: “particularly with sales to connected parties… the administrator needs to explain how the marketing strategy has achieved the best outcome for creditors”. This assumes that the correct marketing strategy will always achieve the best outcome for creditors. With the best will in the world, this is unrealistic.
For example, a director offers £100,000 to purchase the business and assets. Attempts are made to attract other interested parties, but no one else comes forward, so the deal is done with the director at £100,000. Taking the marketing costs into consideration, has this achieved the best outcome for creditors? And what if, seeing that no one else is interested and, perhaps in the pre-administration pause, nervous staff or customers jump ship, the director decides to drop his offer to £80,000, has the marketing strategy still achieved the best outcome for creditors? With hindsight, maybe the best marketing strategy would have been not to have marketed at all.
Maybe we’re being asked not to measure creditors’ outcome in financial terms alone. Ms Graham reported that some people she spoke to “stated that, if returns are to be low, they would not mind a slightly reduced return… if the sale and marketing process was more transparent” (paragraph 7.26). So maybe “best outcome” includes a sense of contentment that at least there were attempts to search out the best offer. I doubt that this is how we’re meant to interpret the SIP – after all, a few creditors might prefer to see a business destroyed rather than to see it back in the hands of the directors – and of course an administrator can only really measure success in terms of achieving the statutory purpose of administration. It seems a big ask to expect marketing strategies always to achieve the best outcome.
I should point out that I am not anti-marketing. I just struggle with this unrealistic SIP. If I close my critical eye, I can see that, in general, the revised SIP’s approach to marketing is sensible. Whether it will make a difference to prices paid for businesses, I don’t know. It seems to me that all too often the present incumbents are so emotionally caught up in a business that they offer more than anyone independent in any event. I also regularly see IPs playing hard-ball, declining a hand-shake in an effort to extract increased offers. If the revised SIP ensures that all IPs do the sensible thing in marketing (or even in deciding not to market) a business and are seen to be doing it, then fair enough.
Will the revised SIP improve confidence in pre-packs?
I do believe that the pre-pack pool may persuade some that the deal was right (although there are bound to be those who simply widen their scope of conspirators to include the pool). I suspect the pool will be used sometimes, but I do wonder whether we will see many viability reviews: why would a director put his neck on the line (given the risk of Newco’s failure), if he doesn’t have to? What’s the worst that will happen if no viability review were created? The administrator would report that he’d asked for one, but not received it. If the existing statutory offence for failing to submit a Statement of Affairs does not persuade directors to submit one, I cannot see that a SIP requirement for a viability review will have any greater success.
And will the review be worth the paper it’s written on? It’s not as if the director is going to forecast a meltdown. Teresa Graham hopes that viability reviews “will reduce incidences of failure… by focussing the minds of those controlling new companies” (paragraph 8.27). Well, I guess it could clean the rose-tinted specs of some directors reluctant to accept defeat; it might make a few think twice about going through with Newco at all, perhaps resulting in more fire-sales.
Cutting off the Flow
The SIP requirements for connected parties (or is that “purchasing entities”? The revised SIP is inconsistent on this point) to approach the pool and to prepare a viability review are voluntary, but the government has waved its stick, proposing in the current Bill a reserve power to restrict pre-packs (and potentially all sales in administrations), which “would only be used if the voluntary reforms are not successfully implemented” (http://goo.gl/IbQsLd).
How will the government measure success? Will it be in increased sales considerations (which would be difficult to compare and which might happen simply because of more buoyant market conditions)? Or by creditors reporting “improved confidence” in pre-packs?
The issue I have is that, to paraphrase Gloria Hunniford (in her One Show report in June 2013: http://goo.gl/wqcQJd), the perception of a company going bust one day and re-opening the next with the same directors and the same products in the same spot will always be greeted by some with horror and disgust. As long as something approaching this occurs – whether it is a pre-pack administration with all the bells and whistles or something else – I cannot see these critics feeling any more comfortable about them.
Teresa Graham wrote: “To hobble the whole process to eliminate some areas of sub-optimal behaviour seems to me to be akin to throwing the baby out with the bathwater” (paragraph 8.11). I think that the expectation of the use of the pre-pack pool and viability reviews, along with the ever-more complex disclosure requirements of the revised SIP16, does hobble the process, especially so if the government resorts to legislation in the future.
Ever since the first SIP16 was released, we’ve seen the flow of business sales start to diverge away from pre-pack administrations. I remember being at a conference shortly after the first SIP16 was released and an IP telling me that it heralded the death-knell for pre-pack administrations; he’d envisaged that all sales would be done pre-liquidation or immediately on liquidation. And of course, as currently worded, SIP16 does not apply to sales where there have been no negotiations with the purchaser prior to the appointment of administrators. A coach and horses can also be driven easily through the SIP16’s use of an undefined “connected party” (personally, I’d prefer to see something on the lines of SIP9, e.g. “proposed sales that could reasonably be perceived as presenting a threat to the vendor’s objectivity by virtue of a professional or personal relationship with the proposed purchaser”). With such burdens thrown on connected party pre-pack administrations, does anyone seriously think that this will be the option of choice over simpler, cheaper, methods?
Pre-pack administrations could end up being rarely used, left high and dry whilst a dynamic stream of businesses are bought and sold along a more efficient route. Having all but legislated pre-pack administrations out of existence, what will the government do then? Who knows – but by then, we will probably have a new government ministering to us.
The consultation closes on 2 February 2015 – the ICAEW has released it as a JIC consultation, but I’ve not seen any other body announce it. I thought I’d add my penny’s worth. My response is here: MB SIP16 response 25-01-15, although I have to confess that I’ve only tackled the semantics: if we’re to be measured against this SIP, then at least I’d like to see it less ambiguous.
January 26, 2015 at 9:00 am
Excellent article Michelle, and I agree with your views; i’d also add that ‘best available price’ doesn’t necessarily equate to ‘best outcome for creditors’ in that you often taken into account (1) availability of funds (2) preferential creditors (3) jobs saved / employee costs (4) termination costs and so on. if the best available price is from the director, on a deferred consideration basis, the IP/adminsitrator may prefer to opt for a lower offer with immediate cash… and so on and many a so forth… now i just need to work out what an oxbow lake is!
January 26, 2015 at 9:20 pm
Ah yes, indeed Fiona, the IP might prefer a bird in the hand – a good point, thanks. On the face of it, it does seem that IPs might not be complying with the revised SIP16 if they prefer to go with the lower immediate and certain cash offer over a less certain conditional/deferred offer. This cannot be right and I hope that someone (you?) will add it to the consultation response (as mine is already in).
You surprise me, Fiona! I would have thought that, as a fellow adventurer, you would have sprinted around an oxbow lake or two in your time!