Some questions and answers to explain phoenixism…
Introduction
Phoenixism has a bad reputation in the minds of people who have never gone through it as an owner / manager of a business which has been owed money by a company that’s done it. But a bit like going to the dentists, it’s one of those things in life that’s sometimes got to be done because the consequences of not doing it are too painful to contemplate. Why would anyone want to see what could be a perfectly good business die because of the pursuit of a principle especially when so many businesses have gone through it? For example it’s funny how you can hear the golfing fraternity when they’re playing a round complain about phoenixes when they’re on a course that’s probably taken three owners / insolvency processes before it got to the stage where it was viable.
So, what’s a phoenix and a phoenix company?
In Ancient Greek folklore, a phoenix is a bird that cyclically regenerates or is otherwise born again. Associated with the sun, it obtains a new life by arising from the ashes of its predecessor.
And that’s what a phoenix company is – a new company that arises out of the ashes of the old company by buying the ‘business and assets’ from the liquidator / administrator of the old company.
I don’t get this, surely the business and the limited company are the same thing?
No they’re not. Look at it this way…
A limited company is the legal shell that sits around the business, that holds the business.
A limited company is its own legal persona, like you or me. You and me own assets, our home, our car, our home contents. We are not those assets, we are separate from them, we just own them. And it’s the same for limited companies, they own the assets and the business – and the business is the collection of assets, processes etc that enables the company to do what it does. The company and the business are, like you and me and our assets different things. And you and me can sell our home, our car, our house contents, and we still exist, a limited company can do the same. Conversely, if you or me go into an intensive care unit, our assets still exist and someone has to protect / deal with them until such time as we might die. And it’s the same for the limited company, if it goes into ICU (formal insolvency such as liquidation or administration), the assets still exist and someone (the liquidator / administrator) has to deal with them. And ultimately if the company dies (is dissolved), unless the assets have been disposed of beforehand, there’s still a tie between the assets and the company.
But why would the business and assets be split away from the limited company?
Let’s go back to the comparison between me, you and our assets. Let’s say the kids have fled the nest and the big house you needed when you had your family around you is a bit too much now, so you downsize. That doesn’t mean there’s anything wrong with the house, it’s perfectly fine in someone else’s hands. Also, think about when people have to downsize because their income has taken a hit for whatever reason, such as illness or debt. Again, that doesn’t mean there’s anything wrong with the house, it could be perfect for a new owner, they could get many years of enjoyment out of it. And it’s the same with limited companies, a business that was sitting in a poorly, debt ridden, company might be sit perfectly in the hands of a new owner, a new limited company, the business released of its historic debt.
So can you be the owner / operator of the phoenix operation, ie could you ‘buy back’ the business and assets from the liquidator / administrator?
In short, yes you can, but there is a process that has to be followed.
The reason for that is the creditors’ interests at that stage in the company’s life come before yours as a director or shareholder. Look at it this way, ignoring the costs of the exercise, any money that’s generated from the sale gets divvied up to the creditors as a percentage in the £. The more the assets are sold for, the bigger a dividend they will get, whereas you as a shareholder / director get nothing because you are lower down the chain of payout. In addition the administrator / liquidator typically has a duty to maximise realisations for the benefit of the creditors – the IP is not working for you, he is working for the people to whom the company owes money.
Because of this, there are certain procedures that a liquidator / administrator must follow. These include some procedures set by his governing body and some by force of law. The procedures set by the IPs’ governing bodies aren’t just guidance, something that the IP can simply ignore if they want, the IP has to follow them if he wants to stay in business himself and not sued for negligence or misfeasance. And there are IPs who specialise in being appointed to cases after the ‘first IP’ has not done his job properly – the incoming IP’s job is then to attack both the IP (and his professional indemnity insurance) and you (see my blog here) if the rules have not been followed. So don’t ask the IP to cut you a deal that massively favours you and prejudices the creditors! – he shouldn’t do it and if he did, you are massively at risk of personal long after the event – read that link to my blog to best understand the level of risk.
So tell me about the process…
The IP has to be able to demonstrate to the creditors that any deal he has done with you was reasonable under the circumstances. He doesn’t have to prove it was the best potential deal by far, the deal has to stand up to an independent outsider’s scrutiny – and that’s because the guidance / laws recognise that we don’t live in a perfect world. This is a balancing act, one where there are no hard and fast rules, where the application of properly considered judgment applied to the specific circumstances of your company is vital. Just because a bloke at the golf club did it doesn’t mean an IP can do it for you. Imagine that you have the auditors coming into your business to assess your compliance with ISO 2000, it’s like that, only far in far greater detail and the implications of getting it wrong can be far more serious.
Here’s just some of what the IP has to think about:
- SIP 13 – The Disposal of Assets to Connected Parties in an Insolvency Process.First off, let me explain what the ‘SIPs’ are… They are ‘Statements of Insolvency Practice’ issued by the governing bodies who licence insolvency practitioners telling them how they must deal with certain issues. Note the word ‘must’, there is no ‘could’ or ‘should’. As the guidance on SIPs says (click here), ‘SIPs set principles and key compliance standards with which insolvency practitioners are required to comply’. There are SIPs on all sorts of ‘thorny’ and administrative topics. SIP 13 is on a topic that creditors find very thorny indeed.Click here to go to the SIP itself.
Here are some quotations from the SIP that I think are important for you to take on board…
‘The disposal of assets in an insolvency process to connected parties may give rise to concerns that assets or groups of assets may have been disposed of at less than market value and/or on more favourable terms than would have been available to a third party.
It is recognised that connected party transactions may be in the best interests of creditors but require adequate disclosure to creditors and other interested parties as soon as reasonably practicable. Transparency in all dealings is of primary importance.
It is equally important that the insolvency practitioner acts and is seen to be acting in the interests of the creditors as a whole and is able to demonstrate this. The office holder should provide creditors and other interested parties with sufficient information such that a reasonable and informed third party would conclude that the transaction was appropriate and that the office holder has acted with due regard for the creditors’ interests. As this is a connected party transaction the level of detail needs to be greater than in the reporting of a third party transaction.
An insolvency practitioner should exercise professional judgement in advising the client whether a formal valuation of any or all of the assets is necessary.
An office holder should keep a detailed record of the reasoning behind both the decision to make a sale to a connected party and all alternatives considered.
The office holder should demonstrate that they have acted with due regard to creditors’ interests by providing creditors with a proportionate and sufficiently detailed justification of why a sale to a connected party was undertaken, including the alternatives considered. Such disclosure should be made in the next report to creditors after the transaction has been concluded.’
In summary, the IP must be certain he’s able to justify to potentially cynical outsiders any sale of the business and assets of ‘oldco’ to you as ‘newco’, and he needs proper, hard, evidence to back up his decision in terms of valuations (where appropriate) and files notes of his thought processes. And after the event he has to report it to creditors in more detail than he would a sale to a third party. It’s not something that an IP can simply say ‘yes, let’s do it, it seems a good idea’ and simply get on with it. The following of a due process, the documentation surrounding it, the after-the-event reporting takes time and effort and costs money. - SIP 16 – Pre-packaged Sales in AdministrationsA ‘Pre-packaged Sale’ or ‘Prepack’ as they are commonly known is a sale of a business or assets that is negotiated prior to administration is completed by an administrator once he’s been appointed, splitting the business/assets out from the company and leaving the debts behind.Click here to go to the SIP. Note that this SIP also applies to insolvent liquidations. And it applies to assets and parts of the business, it doesn’t just apply if you buy the entire business.
If you thought that selling a business and assets to the directors / shareholders in 1 is a thorny subject with creditors, imagine how such a sale without giving any outsiders the chance to bid goes down!
Because of this there are far more safeguards and reporting duties, there’s even the ability to seek advice from an independent panel of IPs. To give you an idea of how much more is required, SIP 13 was just a page and a half long, SIP 16 is over four times as long and far more prescriptive. And pre-packs are policed, they have to be reported by the IP.
I won’t go into the detail of the SIP in this article as it will become far too long, just read the SIP please by clicking on the link above. Suffice to say the time, effort and costs of compliance with SIP 16 can be large.
- Compliance with the rules over the re-use of company namesThese rules are horrendous, they were clearly written by a civil servant with limited experience of business or the real world. Yet failure to comply with them, even if you’ve done so unintentionally, can have really terrible consequences on you. And this is one area of insolvency law that is often ignored. I have written several blogs on this – click here and here.
Summary
It makes perfectly good sense and good business practice for a director / shareholder of a company to buy back its assets and / or business from a liquidator or administrator – after all sometimes who else would buy them? Who knows the business, warts and all, better? – but there has to be a proper due process followed if the director / shareholder, the buying company and insolvency practitioner are to be best protected from not only criticism but also personal financial attack. The scale of the process will depend entirely on the circumstances. Speak to the IP early, give it some serious thought at the pre-insolvency options consideration and strategy setting meetings. Call me if you’d like some advice – 01902 672323
Paul Brindley
16 May 2020