Validity of administrations questioned

But the rise in administrations is not necessarily welcome, according to the latest research on the subject, nor is it always being used appropriately as an insolvency tool.

A study commissioned by the Insolvency Service – prepared by Lancaster University research fellows Alan Katz and Michael Mumford – has found that the use of administrations as an insolvency tool has increased following its introduction.

The Act was designed to encourage more corporate rescues while balancing out the needs of creditors, however concerns have been raised in recent times that administrations are being undertaken on cases that do not meet the Act’s statutory requirements.

Of the cases looked into by the researchers, they found 57% had a ‘clear justification’ for using the tool – amounting to 94% by asset value.

A further 14% were regarded under generally accepted interpretations of the Act as justifiable, but administration was chosen in these cases solely to provide a convenient method of sale of the business in circumstances that appeared equally achievable if the company had entered liquidation.

The other 29% were considered ‘weak’ or ‘non-existent’ in terms of justification for choosing administration as the insolvency tool.

While these cases did not represent a great deal of value, judged individually each case could represent a level of assets where one ‘should be concerned about potential abuse’, Mumford and Katz argue.

They suggest clarification and reform of the regulatory guidance to insolvency practitioners on the circumstances where administration may properly be used to deal with cases having no clearly demonstrable benefit over liquidation.

Despite their concerns Mumford and Katz make other recommendations to change the insolvency landscape in favour of more administrations. As administrations have proved popular for their ease of use and potential to provide good returns and save businesses, they recommend a reform of the law so that administrations replace creditors’ voluntary liquidation.

CVLs are used when a company is liquidated by shareholders but there are not enough assets to pay all the creditors.

Mumford and Katz argue that the rescue of a business is easier and quicker to achieve under administration than a CVL, while realising distribution of assets to secured and preferential creditors was an eligible reason to undertake an administration.

Other cases looked into by the researchers found some hypothetical advantage of a CVL, but the advantage was either very marginal or totally inconsequential in context of the case.