Insolvency Oracle

Developments in UK insolvency by Michelle Butler


2 Comments

Compliance Hot Topics

I think we all need a break from new legislation and threats of more changes, don’t we?  How about settling back into something more familiar and, I think, strangely comforting: common non-compliances.

Usually, late spring brings us the Insolvency Service’s annual review of regulation, but there’s no sign of it this year.  But we do have the ICAEW’s reports, which are well worth a read for any IP, as they highlight common issues that I think we’re all seeing.  This year, there are three ICAEW reports, although this blog only looks at their Insolvency Monitoring Report at: www.icaew.com/-/media/corporate/files/technical/insolvency/regulations-and-standards/annual-return-and-monitoring/insolvency-monitoring-report.ashx

In the report, the ICAEW highlights the following areas that have brought IPs to the Committee’s attention:

  1. Remuneration
  2. Ethics
  3. Investigations
  4. Statutory Deadlines
  5. Insolvency Compliance Reviews
  6. Information to Debtors

The ICAEW report identifies several other areas of concern as well as providing some useful tips on conducting SIP11 reviews.

 

Issues that have led to Committee-referral

The ICAEW reports that the following have led IPs to face the Insolvency Licensing Committee (“ILC”):

1. Remuneration

The ICAEW reported instances of:

  • Drawing fees without proper authority

The issues that I have seen include: drawing pre-CVL fees that do not meet the R6.7 definition; getting in a muddle with who is required to approve Administrators’ fees (and failing to make sure that this tallies with the Proposals); and accepting shareholders’ informal approval of MVL fees, rather than getting a proper resolution.

  • Fees (or proposed fees) appearing excessive or unreasonable

When I have spoken with monitors (ICAEW and IPA), I have been given examples of excessive/unreasonable fees that truly are toe-curling, although I have seen other cases that do not appear particularly damning.  I understand that both RPBs have a number of cases working through their disciplinary procedures, but I have yet to see any sanction published under this heading.  It may be a difficult allegation to make stick, but for some time I have felt that the RPBs and the InsS have been looking for a worthy scalp.

  • Failing to follow the decision procedure rules

This one frustrates me: despite the comprehensive checklists and templates that many firms have, somehow several people still manage to overlook a key component in fee proposal packs.  Often, the missing piece is a Notice of Decision Procedure when seeking a vote by correspondence.  Sometimes, it is an Invitation to Nominate Committee Members and/or a failure to seek a decision on the formation of a Committee.  In some other cases, fee proposal packs have not been circulated to all the relevant creditors, sometimes because a bunch of creditors (usually the employees) have not been provided previously with a R1.50 website notice and sometimes because IPs have assumed that, as the RPO is the major preferential creditor, it is the only one who needs to be asked to approve an Administrator’s fees in a relevant Para 52(1)(b) case.

  • Failing to provide fee estimates, where required

This is scary, considering that the Rules changed in 2015!  Personally, I haven’t seen this in a few years now.  I do still see, however, fee proposal packs lacking details of expenses, which is a necessary statutory component of all ADM, CVL, WUC and BKY fee proposal packs (and a SIP9 expectation in all case types).

The ICAEW’s tips to improve in this area are:

  • Consider using a billing authority form so that evidence of statutory approval is provided whenever a bill is raised/paid from the estate

I agree that this is valuable, although it will not ensure that valid approval has been achieved unless minutes of meetings/records of decision are signed off with similarly rigorous checks.

  • Critically review fee proposal packs: does the pack explain clearly the work done or to be done and, in light of the explanation, do the costs seem reasonable?

Yep, I agree with this too.  When considering fee estimates, I find it useful to consider the hours being proposed.  For example, it might look like good value to estimate time costs of £5,000 to recover £30,000, but if this means you’re expecting to spend three whole days to collect one book debt, then without more explanation this will look unreasonable.

 

2. Ethics

The ICAEW reported three instances where:

  • Prior relationships had not been considered

I see this so often that it makes me want to weep.  In these cases, the reviewer’s view was that the IP should have concluded that it was unethical to accept the appointment: now, that will get you into hot water.

Unsurprisingly, the ICAEW’s tips are:

  • Simply do proper ethics reviews and write them down before appointment

I wonder if this goes wrong because people independent from the case (and/or people who don’t really understand ethics) are tasked with completing the ethics review… and then the prospective office holder signs it off without thinking.  IPs, please think before you sign off an ethics review: does it disclose all prior relationships and are they well explained and evaluated?

 

3. Investigations

The ICAEW reported:

  • A systemic failure to record sufficient SIP2 work

Over recent years, there has been a trend away from lengthy checklists.  While I can understand this for routine case administration not least as checklists are often completed after-the-event, this approach simply does not work for SIP2 investigations.  The RPBs expect to see contemporaneous evidence of what work has been done and the office-holder’s thinking on whether anything is worth looking into further.

  • Failure to pursue antecedent transactions

I have seen SIP2 investigations fail to pick up weird goings-on like money moving out of accounts after the company had apparently stopping trading.  I have also seen SIP2 checklists identify a potential action and then the trail goes cold.  Both are just not acceptable and, I think, usually stem from an overflowing caseload or disorganised case administration.

The ICAEW’s tips are:

  • Do the work at an early stage and then follow up; and
  • Document decisions not to continue pursuit

The ICAEW reminds us that litigation funders may be able to help.  Some IPs screw their noses up at this suggestion based on rejections they received many years’ ago.  Times have changed, so I would recommend trying again.  And if you still get a rejection, at least this can form part of your decision.  Of course, your decision will also be based on your target’s wealth: it may be a no-brainer decision, but always write it down.

 

4. Statutory Deadlines

The ICAEW reported:

  • An increasing number of systemic failures to meet deadlines

This isn’t an issue I have seen.  Perhaps it derives from poor diary/task templates?  I have seen some sub-standard designs since the 2016 Rules were introduced, but I think those issues have largely been ironed out now.  Could the problem be overwhelming caseloads?  Firms weren’t exactly working at full pelt last year, so if this is your problem, then heaven help you in 2020/21!  Also, try not to get into the habit of running off progress reports at the very end of the deadline (and remember that ADM deadlines are one month, not two): if you do that, then there is no wriggle-room when you have a flurry of new work.

The ICAEW’s tips are:

  • Have robust diary prompts and case-specific checklists; and
  • Consider appointing a staff member to oversee/chase compliance

If diaries are very detailed, sometimes it is difficult to see the wood for the trees.  Having this as one person’s duty (or requiring, say, all managers to monitor/chase) can help sift out the vital diary prompts from the not-so-important ones.  It also helps more junior staff to learn which diary lines are non-negotiable.

 

5. Insolvency Compliance Reviews

 The ICAEW reported:

  • Weak or non-existence ICRs

It is worth remembering that the ICAEW does take this seriously, so please do give ICRs a great deal of attention.

  • Failure to implement changes

Sometimes actually conducting the ICR is the easy bit.  The time required to make the necessary changes can be substantial.

The ICAEW’s tips are:

  • Use a robust checklist to carry out the ICR

The ICAEW provides a checklist (note: this works for corporate and personal cases): www.icaew.com/regulation/insolvency/support-for-insolvency-practitioners/corporate-insolvency-casework.  Some questions are subjective, e.g. re case progression, but if used critically with no preconceptions it covers all the major statutory bases.  The ICR also needs to consider key areas on a firm-wide basis.  The ICAEW’s Review of Internal Controls and Systems Helpsheet – at www.icaew.com/regulation/insolvency/support-for-insolvency-practitioners/insolvency-compliance-review-helpsheets – is a good start, but remember that, aside from the ICR itself, SIP11, client money and the Money Laundering Regs require more thorough individual attention.

  • Make the necessary changes

I recommend getting the easy wins, e.g. fixing document templates and diary lines, out of the way quickly.  Meatier tasks may take months to resolve, especially if they involve changing procedures, training staff and making sure that they have adapted to new requirements.  Plan to tackle these tasks methodically, assign the tasks to appropriate staff and follow up with chasers/meetings to make sure that progress continues to be made.  Then, review the effectiveness of the changes ideally before the next ICR is due and keep going until the issue is resolved.

 

6. Information to Debtors

The ICAEW reported:

  • Delivery of poor information to debtors presumably in a pre-IVA context

…including: omitting relevant options; rushing calls; leading the debtor; and not sufficiently explaining the pros and cons of options.

The ICAEW’s tips are:

  • Train staff;
  • Review and update scripts regularly;
  • Regularly review calls for quality; and
  • Ensure that calls are tailored to the individual and give them time to consider their options

Nothing more needs to be said, really.  Quality-controlling advice calls is a never-ending job and one that needs to be well-resourced.

 

The Worst of the Rest

Yes, there’s more… lots more.

The above issues will get you in front of the ILC, but the ICAEW’s report also highlights other issues that are worth double-checking:

  • Miscalculation of delivery timescales

Be careful of assuming first class delivery times and then using second class post.  Take care also to exclude the date of delivery and the date of a decision when calculating notice periods.

  • Flaws in reports and fee estimates

In addition to the issues raised above, a plethora of qualitative issues arise, e.g. does the narrative explain the WIP or fee requested; are the numbers consistent throughout the doc; and are generic statements relevant to the case in question?  Something I see missing a lot are explanations as to whether the fee and expenses estimates have been (or will be) exceeded and if so why.  In some other cases, these explanations do not stack up with the WIP analysis, e.g. it might be reported that the fee estimate has been exceeded because of difficulties pursuing a certain asset, but the WIP analysis shows the fee estimate has only been exceeded in the Admin & Planning category.  Sometimes this can point to poor time-recording practices.

  • Poor case progression and dividend practices

The ICAEW reports some delays in asset recovery and in progressing dividends, as well as miscalculation of claims, especially those of employees.  Remember that in most cases you have only 2 months after the last date for proving to declare the dividend and, if you miss that, then you will need to go through the NOID rigmarole again (and, if you don’t have a good reason for missing it, then your second attempt should be at your own cost).  The ICAEW expects payment of interim dividends in appropriate cases.  I have also seen IPs put off progressing a preferential distribution until they can see their way clear to an unsecured dividend, which is not acceptable.  The ICAEW has also highlighted an issue with IPs telling creditors that they will apply the small debt provisions and then they fail to follow this through.  I have seen some initial letters and progress reports state such an intention and, although personally I think this is not binding until the NOID is issued (R14.31), to avoid any creditor confusion, I strongly recommend removing such statements from these early circulars: if you decide later to apply the small debt rules, then you can make this clear in the NOID.

  • Inadequate annual AML tasks

The ICAEW report reminds readers about the need to review the firm-based AML risk assessment annually and to carry out a full AML review.  I’ll take a closer look at this topic in a future blog when I review the ICAEW’s other annual reports.

  • Clients’ Money Regulations: a reminder for non-ICAEW IPs

The ICAEW report highlights that its Clients’ Money Regs apply to more than just ICAEW-licensed IPs.  If you work in an ICAEW-defined firm or the ICAEW is the firm’s AML Supervisor, then you need to comply with the ICAEW’s Clients’ Money Regs whether or not you are licensed as an IP by them.  To be honest, there are few differences between the IPA’s and the ICAEW’s Regs, but one notable difference is that the ICAEW requires an annual review of the operation of a client account.

  • Inadequate GDPR checks

The ICAEW reports that some are not considering on a case-by-case basis what personal data is held by the insolvent, whether it is secure and for what purpose it is held/processed.  The ICAEW also expects IPs to check whether the entity was registered with the ICO… although it is not clear what they expect you to do subsequently.  I recall that R3 asked the ICO way back in 2018 whether IPs should be maintaining (or even initiating) insolvents’ ICO registrations, which of course would attract additional costs to the estate.  But then 2018’s problems seem so last year!

 

SIP11 Reviews

The ICAEW devotes a whole page to this topic in its report.  Noteworthy points include:

  • Make sure the financial controls and safeguards are written down in the first place

I have seen more than one firm try to carry out a SIP11 review without having taken this step.  How can you check whether the firm’s processes have been followed, if they’re not written down?  SIP11 lists nine areas in paragraph 9 to document… and then adds a tenth (insurance cover) in paragraph 11.  In effect, these areas result in a cashiering manual setting out what happens to money in, payments out, bank recs etc.

  • Then review them annually

The ICAEW report highlights that traditional ICRs will not cover everything required of a SIP11 review.  Jo and I concur: if you want us to do a SIP11 review alongside your ICR, please let us know this and expect the ICR to be longer (and more expensive).  There is no prescription as regards a SIP11 review, but the ICAEW report lists four points that could be considered:

  • Review a sample of cases to see whether procedures have been followed correctly

To some extent, this will be covered by a traditional ICR, but the reviewer may only carry out full reviews of a couple of cases, which will be insufficient for SIP11 purposes.

  • Review the findings of the annual client account compliance review

From a SIP11 perspective, key issues include: how quickly client account money is moved to estate accounts; whether all post-appointment transactions are reflected on the case’s cash-book; and what happens to any interest credited to the client account.

  • Run reports from IPS etc. to review money held and bank rec frequency

I would also recommend running reports on balances held in closed cases or in “suspense” accounts.

  • Review a sample of bank recs

I have seen bank recs with uncleared adjusting entries or uncleared receipts signed off month after month without any apparent thought as to what is behind these.  Understandably, uncleared payments can sit around for longer, but they do need to be resolved at some stage.

Although not included in the ICAEW’s list, the report does note that the firm’s bonding and insurance procedures also need to be reviewed as part of the SIP11 exercise.  This could include a comparison of your open case list against your bond insurer’s, which would help identify whether bonds are being released appropriately.  You could also review whether bond schedules are issued before the 20th day of the following month – look particularly at appointments occurring right at the end of the month, as they can easily fail to hit IPS etc. in time for the following month’s bordereau – and see how swiftly increases are arranged.  Of course, the firm’s insurances are reviewed annually on renewal, but you could prove SIP11 compliance by keeping a record of that renewal consideration by the IP(s) in the same location as the SIP11 review docs.

 


Leave a comment

The revised SIP6: was it worth the wait?

With the benefit of 6 months of working under the clunky new rules, I’d expected (ok, I’d hoped) that the revised SIP6 would address some of the practical issues arising from the new rules and that we’d see clarity on some of the vague language of v1. The limited changes in v2 have done little to clear the fog. Did we miss the opportunity presented by the consultation to inform the regulators of our difficulties?

You can access a tracked-changes comparison of the revised with the original SIP6 at: SIP6 comparisons to 01-01-18

In brief, the changes introduced by the revised SIP6 were:

  • Clarification that the S100 information should ordinarily be made available “on request” and can be made available via a website;
  • Movement of information about the IP’s (or firm’s or associates’) prior involvement from the S100 information pack to the circular providing notice of the proposed S100 decision and an expansion of the explanation to include the ethical consequences of any prior involvement; and
  • Removal of the requirement to send notices convening a decision process to everyone on the same day.

My personal response to the SIP6 consultation is here: SIP_6_questionnaire_MB

 

Should the S100 information be sent to creditors?

The most material change is the method of disseminating the “key information likely to be of interest to prospective participants” in the S100 decision process. It was hinted at when the original SIP6 was released: the RPBs’ covering emails announcing the release on 10 March 2017 had indicated that the S100 information “should be available to creditors… where they request it”. However, this non-binding note sat uncomfortably next to the SIP itself, which simply stated that the information “should ordinarily be available”. The revised SIP6 now clarifies that the information “should ordinarily be available, on request”, adding that it may be made available via a website.

I find this approach odd. Does this mean that IPs no longer need to compile the information as a matter of routine? Or would an IP be criticised for not having the information ready notwithstanding the absence of any requests? Granted, it would be a very brave IP that gambled on the chances that no one would ask for the information in view of the time it takes to compile it… but if the only creditors are HMRC and a couple of connected parties..?

The flip-side is: if no one asks for the information, is it still a “reasonable and necessary” cost to compile it? As it seems that IPs are no longer strictly required to produce a report for every S100 – but only where a creditor requests it – I think it could be only a matter of time before part of an IP’s S100 fee is challenged as not reasonable and necessary and therefore not strictly an allowable expense of the liquidation (R6.7(2)). Thanks, RPBs, for putting IPs between a rock and a hard place.

Personally, I disliked the original SIP6’s hark-back to the S98 report. The Insolvency Service has given us a low-cost deemed consent route into liquidation. It seemed logical to me for SIP6 to follow through on this model. As we have broken away from physical S98 meetings, isn’t the time over for deficiency accounts and lame reasons for the company’s demise? Instead of putting the effort into providing creditors with information whilst operating under the company’s instruction pre-liquidation, wouldn’t it be more valuable to require the liquidator to provide such information once they’ve had an opportunity to investigate matters, as in Administrations? Wouldn’t this sit better with the image of the IP as office holder and help dispel the perception that they’re cosy with the director?

Of course, some S100s will attract attention and it is only right that, where a meeting has been convened, those attending the meeting receive some answers to their questions (and the S100 pack may go some way to explaining the quantum/basis of a prospective liquidator’s proposed fee). However, to produce the copious amount of information required to meet SIP6 on the off-chance that someone will ask for it seems insensible. The SIP doesn’t even require IPs to inform creditors that such information is available on request.

 

Elevating ethics

SIP6 (both original and revised) stipulates that the required information “facilitates the making of an informed decision” on the appointment of a liquidator. It had seemed to me that the only item in the original list of information that was truly relevant to this question was “details of any prior involvement with the company or its directors that could reasonably be perceived as presenting a threat to that insolvency practitioner’s objectivity”: if the advising IP had become too embroiled in material events just prior to the liquidation, then creditors may decide to look for an independent liquidator.

In view of the fact that the SIP6 report is only provided on request, I think it is only right that this requirement is shifted out of the SIP6 report and into documents that are issued to creditors. New paragraph 11 of SIP6 addresses this:

“An insolvency practitioner should disclose the extent of their (and that of their firm and/or associates) prior involvement with the company or its directors or shareholders, any threats identified to compliance with the fundamental principles of the Insolvency Code of Ethics, and the safeguards applied to mitigate those threats. This disclosure should be made with the notices convening the deemed consent or decision procedure.”

This is a positive change, I think, and I do like the wider scope of this disclosure, which requires IPs to examine and explain the ethical threats presented by any prior involvement. But unfortunately it does mean that there is a new lack of transparency over the IPs’/firms’/associates’ involvement after the notices have been sent.

 

Is that all?

The only other change (other than semantics) was to drop the requirement for the notices to be sent on the same business day to all known prospective participants in the decision process (old SIP6 paragraph 8).

The SIP6 consultation closed on 13 October 2017. Granted, two months is a short time in the world of committees. It takes time to draft, redraft, achieve in-principle agreement, and then drive documents through RPBs’ approval processes. I wonder if the emergent few changes have left those who worked on the project asking themselves if it was all worth the effort. Then again, perhaps the consultation responses gave them the feeling that we were all pretty-much happy with the SIP as it was.

 

A missed opportunity?

The SIP consultation had included some valuable questions exploring the difficulties encountered in applying the SIP and the new decision processes and asking where “the SIP fails to provide adequate direction”. We were also asked whether creditors had fed back anything about the value of the SIP6 S100 information. Surely, the RPBs have accumulated some valuable responses, haven’t they?

I accept that a SIP is not the place for guidance. It is there to address mischiefs and potential abuses. But, having asked the questions, I would hope that the RPBs received useful feedback, which could be used to help us make the new rules work for all.

My own thoughts on where the SIP was unclear on exactly what was expected of IPs were:

  • What measures are expected in order for IPs to “facilitate participation” (paragraph 3) in a decision process? As this is a fundamental SIP6 principle, presumably it relates to more than just the S100 information? Does it relate to the choice of decision process? For example, could IPs be clobbered for using an internet-based platform in an area with poor connectivity? Could it have application in cases with overseas creditors? What did the drafter have in mind?
  • What do “sufficient and proportionate safeguards against participation by persons who are not properly entitled to participate” (paragraph 8) look like? Is this referring to the level of diligence expected in reviewing proofs? Or is this about checking IDs before being allowed into a meeting? As this requirement was never in SIP8, perhaps the RPBs felt it was needed specifically to deal with virtual meetings, so does this indicate where the RPBs stand on the question of providing the full dial/login details for a virtual meeting upfront?
  • Personally, I’d appreciate a clear steer on what constitutes “an explanation of any material transactions conducted in the preceding 12 months” (paragraph 12 (iv)) that needs to be disclosed (on request) for S100s, as some IPs have expressed surprise at my view that this would cover the sale of the company’s remaining assets just before liquidation.

Unfortunately, I think that those ambiguities remain in SIP6 v2.

Some other new areas that might have usefully been covered in the SIP are:

  • What are creditors’ views of the absence of a statutory Gazette notice for deemed consent processes? Is there any expectation on IPs to Gazette except perhaps where they are very confident about the creditor list provided by the company? Seemingly not, but is this not open to abuse?
  • How do you allow creditors to inspect proofs at a virtual meeting?
  • When does healthy competition stray into actions bringing the profession into disrepute? Is it acceptable for an IP (or their staff or associates) to cast aspersions on the conduct of the members’ nominated liquidator?

But the opportunities for such clarity and guidance have passed. As with so many other aspects of the new rules and other legislation, we have to get up to speed damned fast, faster than it seems the SIPs can move. I have no doubt that the face of S100s will continue to change, but whether we can expect any SIP6 v3 is doubtful.

 

 


Leave a comment

BHS: lessons for IPs?

0317-kenya

Now that all the pantomiming is over, are there any lessons to glean from the Select Committees’ efforts? I think so. Allegations of “group think” and suggestions of advisers being too heavily incentivised to drive through a particular outcome could lead some to ponder “there but for the grace of God…” Whether or not mud is warranted, some stains may prove stubborn to remove.

The House of Commons Work and Pensions and BIS Committees’ report can be found at: goo.gl/Yi9eMI

 

“A remarkable level of ‘group think’”

Referring to the several advisers to Sir Philip Green and to Dominic Chappell, the Committee report states that “many of those closely involved claim to have drawn comfort from the presence of others”. Names such as Goldman Sachs and respected law firms and accountants appear to have lent credibility to the proceedings.

During the evidence sessions, some witnesses valiantly attempted to explain to the Committee members the scope of customer due diligence checks and the relatively narrow terms of their engagements. The Committees’ response may be discerned from the report (paragraph 64):

“The only constraint beyond the legally required checks is the risk that a company is willing to take that its reputation may be tarnished by association with a particular client or deal. In the case of BHS, it appears that advisory firms either did not consider the reputational risk or demonstrated a remarkable level of ‘group-think’ in relying solely on each other’s presence.”

IPs and related professionals work in a fairly small pond. Although we like to think we’re a robustly independent bunch, could we be at risk of some complacency when we encounter the same old faces?

 

“Advisers were rewarded handsomely”

It is perhaps less fair for the Committees to target the advisers on the levels of their fees. The firm that provided a financial due diligence report on BHS to the prospective purchaser, RAL, were set to be paid four times the fee if the transaction were successful than if it were aborted. The Committee also noted that “advisers were doubly dependent on a successful transaction because RAL did not have the resources to pay them otherwise” (the report does not refer to the existence of any guarantees, which was disclosed in the evidence sessions).

The firm tried to put their engagement into context by explaining the additional risks inherent in a successful purchase and by pointing out the ethical and professional standards that safeguard against such arrangements generating perverse strategies (http://goo.gl/ugfiIP).

The Committees were forced to admit that neither of the advisers “can be blamed for the decision by RAL to go ahead with the purchase”. That said, they did feel that the transaction advisers’ report “could have more clearly explained the level of risk associated with the acquisition” and, in the Committees’ typical emotive style, they stated that the advisers were (paragraph 73):

“…increasingly aware of RAL’s manifold weaknesses as purchasers of BHS. They were nonetheless content to take generous fees and lend both their names and their reputations to the deal.”

 

Countering the Self-Interest Argument

The Committees’ suggestion is that the advisers were too tied into a particular outcome, leading to doubts as to the veracity of their advice. Of course, almost everyone who gives advice – from pensions advisers to dentists – suffer this scepticism. When IPs act both as solutions advisers and implementers, accusations of acting in one’s self-interest are levelled as if they are statements of the blindingly obvious. Such perceptions of being unprofessionally influenced by self-interest are not only articulated by unregulated advisers looking to pigeon-hole IPs into creditors’ pockets, but also are reflected time and again in the Government’s/Insolvency Service’s proposals, for example on how to deal with the pre-pack “problem”, the perennial debates around IPs’ fees and the more recent moratorium proposals.

How do we counter this perception? Personally, I don’t believe the solution lies in setting thresholds on where advisers’ work should end – I was pleased that the early pre-pack suggestions of using a different administrator or a different subsequent liquidator were not taken up – as this risks the evolution of unwritten partnerships with the assumption that the self-interest and self-review arguments automatically fall away.

The perception can only really be tackled by doing a good job, by serving our clients’ interests best and being attentive to our (near-)insolvent clients’ obligations. We also need to remain alert to relationships and when we have stepped over the threshold. We must not see the Insolvency Code of Ethics only in terms of the “Specific Situations”, which I feel is very much an appendix to the real substance of the Code. The Code is by design largely non-prescriptive, but this means that we need to:

  • reflect on prior relationships, e.g. when we have acted as adviser (to the insolvent or to its creditors)
  • evaluate the relationship: is it “significant”, i.e. does it give rise to a threat to our objectivity (or any other fundamental principle)?
  • Can we reduce that threat to an acceptable level?
  • If not, we must have the strength of character to accept the conclusion that we should not take the appointment.
  • And of course, if we do think we can still take the appointment, we need to set out our reasonings and regularly review the position and effectiveness of any safeguards; ticking boxes on an ethics checklist is highly unlikely to be sufficient.

Calls continue to be made for directors to seek help early, when more doors to rescue remain open. IPs are being seen less often solely as insolvency office holders and they have augmented their insolvency skills accordingly.

R3 has just published two helpsheets for individuals and company directors with financial difficulties (at http://goo.gl/WOfCKI and http://goo.gl/eyHlia). These aim to dispel many of the misconceptions about IPs. As the falling insolvency statistics illustrate, IPs can and do help people and businesses get back on track without resorting always to formal insolvency tools.


Leave a comment

Tomlinson: IPs caught in the cross-fire

IMGP2089

Banks have become the 21st century pariahs. It seems that they can do nothing right and they cannot afford to do anything wrong. Lawrence Tomlinson may have banks, and RBS in particular, sighted in his cross-hairs, but is there much in his report that should concern the IP regulators or may herald changes for IPs?

Tomlinson’s published report can be found at: http://www.tomlinsonreport.com/docs/tomlinsonReport.pdf.

The IP’s role: pre-appointment

A large part of the report raises issues regarding companies’ routes into the RBS’ Global Restructuring Group and how, once there, companies find it almost impossible to escape it alive. IPs become wrapped into this argument via Tomlinson’s observations over the opaque nature of the Independent Business Review process: the bank selects the IP and usually only the bank sees the report. When you add to this the fact that the cost of the IBR is passed to the company, I can see how this may rankle, although I am not sure that this makes the whole process flawed.

Tomlinson raises the issue of conflict of interest: he states that “it is easy to see how these reports may be used to protect the bank’s interests at the expense of the business. Much of the high value work received by these firms comes from the banks so it is naturally in their interest to protect the bank’s financial position”. Inevitably, the work of the IBR IP is fraught – can they really act independently? But who really is expecting them to do so? The IP’s client is the bank, not the company, so, at a time when the bank’s and the company’s interests cease to be aligned, it would seem to me to be foolish to assume that the IP introduced by the bank is not advising first and foremost the bank on how to protect its interests. If the company wants its own advice, then it should instruct its own IP. Of course some do, although Tomlinson fails to mention the barriers to some companies and their instructed IPs working to find a solution acceptable to the bank.

The appointment of administrators

Tomlinson writes that there are many occasions when the IBR IP later is appointed administrator. This seems to be a general comment rather than RBS-targeted, which might have been difficult to make stack up, as I understand that it is RBS’ policy not to appoint the IBR IP as administrator, is it not?

It is also not clear whether the cases involving directors who feel mistreated by the banks are the same cases in which the IBR IP later became the administrator. I think this is important because, on its own, an IBR IP becoming administrator is not an heinous act. On the other hand, if we take one of Tomlinson’s worst case scenarios, where a business was only considered insolvent because of a property revaluation, the directors were frozen out of any opportunity to offer solutions, and they protested that the IBR leading to the bank’s decision to appoint an administrator was flawed, then one might expect the IP to decline the appointment.

The Insolvency Code of Ethics states: “Where such an investigation was conducted at the request of, or at the instigation of, a secured creditor who then requests an Insolvency Practitioner to accept an insolvency appointment as an administrator or administrative receiver, the Insolvency Practitioner should satisfy himself that the company, acting by its board of directors, does not object to him taking such an insolvency appointment. If the secured creditor does not give prior warning of the insolvency appointment to the company or if such warning is given and the company objects but the secured creditor still wishes to appoint the Insolvency Practitioner, he should consider whether the circumstances give rise to an unacceptable threat to compliance with the fundamental principles.” If an IP still decides to accept the appointment amidst protestations, clearly he should be prepared to encounter a complaint and perhaps worse.

Tomlinson makes the point that “once an administrator has been appointed, the directors lose their right to legal redress”. Whilst directors lose their management powers and the administrator acquires the power to bring any legal proceedings on behalf of the company – and I should point out that I’m not a solicitor – there is precedent for directors to take some actions, e.g. challenging the validity of the administrator’s appointment, as demonstrated in Closegate (http://wp.me/p2FU2Z-4I). Challenges may also be made to court by shareholders (or creditors) (Paragraph 74 of Schedule B1 of the Insolvency Act 1986) and courts can order the removal of administrators (Paragraph 88). Of course, these measures cost money and probably will not reverse any damage done.

The IP’s role: post-appointment

More to the point, I think, is the risk of conflict of interest for bank panel IPs generally. Tomlinson puts it this way: “The relationship between the bank, IPs, valuers and receivers should undergo careful analysis. The interdependency of these businesses on banks for generating custom establishes a natural loyalty and bend towards the interests of the banks. Often the bank recommends or instructs the IP directly, so their preferential treatment is critical to their clientele. Maintaining independence and a fair hand for all parties involved appears extremely difficult.”

We’ve seen this argument play out in the pre-pack arena: if directors are in control of appointing an IP as administrator, how can creditors be confident that the IP, on appointment, will be acting with due regard for their interests? Similarly, how can other stakeholders be confident that an IP will not be persuaded by this “natural loyalty” towards the bank controlling their appointment to act contrary to his duties as administrator? In a number of cases, I would suggest that it is academic: if the bank is the only party with any real interest – or it shares that with the unsecured creditors looking to a prescribed part – then any bias towards the bank will achieve the same result as if there were none… although this may overlook the first objective of an administration, which is to rescue the company as a going concern.

Tomlinson is right: maintaining the IP’s balance here is extremely difficult, although I would be inclined to take receivers out of the equation, as there is no real change of “hat” for IPs in those cases. Until now, we have depended on the professionalism of the parties and the legal and regulatory processes to wield a stick towards any who stray, but I guess that we live in an age when that is no longer seen as adequate.

Tomlinson highlights another risk of conflict of interest in relation to selling assets: “RBS is in a particularly precarious position given its West Registrar commercial portfolio under which it can make huge profits from the cheap purchase of assets from ‘distressed’ businesses… Others have stated that they believe their property was purposefully undervalued in order for the business to be distressed, enabling West Registrar to buy assets at a discount price.” This is a new one on me and I’m not aware of any other bank being in a similarly “precarious position”. Although I would have thought that there would be little criticism levelled against IPs selling to West Registrar where it represents the best deal – and Tomlinson does not appear to be suggesting transactions at an undervalue by administrators – as we all know, there is a risk of getting caught up in allegations of stitch-ups wherever there is a connected party sale, whether that involves a director’s purchase in a pre-pack or a party connected to an appointing creditor.

The Repercussions

The most IP-relevant solution suggested by Tomlinson is:

“It is also important that the wider potential conflicts of interest between the banks, IBRs, valuers, administrators, insolvency practitioners and receivers are given careful consideration. Where these conflicts occur, it does so at the expense of the business. If collusion did not happen between these parties and their relationships were more transparent, then better fairness between the parties could be ensured. This requires further investigation and consideration by the Government to ensure that the law is being upheld and these conflicts do not impact on the businesses ability to operate.”

As mentioned previously, the Insolvency Code of Ethics covers specifically the scenario of an IP carrying out an IBR then contemplating an insolvency appointment. Personally, I think it does this rather well – it addresses not only how to view an objection by the directors, but also how the IP has acted prior to the insolvency appointment, how he has interacted with the company, whether he made clear who his client was etc. However, there is no ultimate ban on the IP accepting the appointment; as with most ethical issues, it is left to the IP to consider whether the threats can be managed or they render his appointment inappropriate. I would not be surprised if, down the line, there were a call for there to be a ban that an IBR IP could not be appointed as administrator. If it were a legislative measure, we could have fun and games defining such items as what constitutes IBR work and for how long a subsequent appointment would be prohibited, but it could be done.

But would it have the desired effect? It would certainly increase the costs of some administrations, as the built-up knowledge and in many respects positive relationships of the IBR IP would be lost to the administrator. It might also have limited effect, as the “natural loyalty” could persist in any IP who has the prospect of more than one bank appointment, be it a case on which he carried out an IBR or a case on which he’d had no prior connection. I believe it is a natural tendency in all professions and trades to protect one’s clients and work sources and I do not believe it is something that can be avoided entirely.

As with pre-packs, I would prefer the solution to involve those who feel mistreated doing something about it, calling to account anyone who acted contrary to their duties, ethical or otherwise. As with pre-packs, however, the devil is in establishing a clear understanding of what is and what is not acceptable behaviour, rather than simply trusting a gut feeling. Tomlinson has aired a few relevant issues, but also some irrelevant ones, I think, which unfortunately cloud the picture.

But is anyone listening? The FT reported yesterday (http://www.ft.com/cms/s/0/550c5360-5c31-11e3-931e-00144feabdc0.html#ixzz2mVVnGjFz) that George Osborne has washed his hands of the report, although Mr Cable seems more convinced that there are genuine problems. However, whatever the conclusions of the FCA’s skilled person’s review, I am sure that insolvency regulators already are contemplating their next step. Some will see the Tomlinson report as an opportunity to renew calls for the end to bank panels of IPs. With a revision of the Insolvency Code of Ethics moving up the agenda of the Joint Insolvency Committee, I can see the ethics of the move from pre-appointment work to a subsequent appointment again being the subject of debate.

(01/02/14 UPDATE: BBC4’s File on Four programme, “Design by Default?”, can be accessed at http://www.bbc.co.uk/iplayer/episode/b03q8z4f/File_on_4_Default_by_Design/)