A number of recent high profile cases have cast a critical light on a process
used by most, if not all, insolvency firms in the UK – the pre-pack. In short,
this is where a deal to sell the assets of a failed company is agreed prior to
insolvency and is then completed immediately after the appointment of
administrators or receivers.
So why the criticisms? Unfortunately, this tool, which is used to preserve
countless businesses every year, is getting something of a bad reputation as it
appears that one day a business is failing and the next it is a new company with
no liabilities and sometimes run by the same individuals. Some creditors and
shareholders question this, assuming that the insolvency practitioner and the
directors have pushed through a quick deal which means that they win and
everyone who is owed money loses.
While this can happen on occasion, it is far from the norm – but perhaps IPs
have not done enough to explain why.
What is a pre-pack?
Actually, all we’re really talking about is a signature on a piece of paper;
the administrator agreeing to sell a business. That’s the bit that gets made
public. But what happens beforehand, out of the public eye?
Often, the company or its stakeholders have realised for some time prior to
administration that there may be trouble ahead. They may also have realised that
insolvency would destroy the business and its value for stakeholders. Gone are
the days when most failed companies would have assets such as a freehold factory
and lots of unencumbered stock and debtors to fund a receiver’s trading and sale
These days, most businesses lease or finance their assets, intellectual
property might vest in a few key people and, more often than not, the business
is a service company rather than a manufacturer. If a company waits for
insolvency, in many cases they might as well close the doors and give up. There
would be nothing to sell and all the jobs would be lost.
That’s where the IP comes in. Often, their firm is engaged by the company or
its stakeholders for a number of weeks prior to the pre-pack taking place.
During that time, you might not see much difference between what the IP does
and what their corporate finance department would do. The IP researches
interested parties, an information memorandum is prepared, confidentiality
letters are agreed, initial offers are sought, due diligence occurs and a
contract is negotiated. The transition is planned and all of it usually happens
confidentially and discreetly.
The only differences between this and a standard corporate finance deal are
that it is typically done much quicker and that an insolvency process commences
immediately before the contract is completed. In many cases, no-one else in the
outside world is aware this intensive process has taken place until the final
piece of paper is signed.
A recent case PricewaterhouseCoopers worked on was Adams Childrenswear. Adams
was the largest specialist retailer of children’s clothing in the UK, turning
over more than £250m from over 300 stores. Approaching the end of 2006, it had
suffered a severe downturn in trade, and no-one was prepared to fund ongoing
Adams and its principal stakeholders realised that an unplanned insolvency
would be a disaster. The company’s shops were primarily leased and much of its
stock would be subject to retention of title. The value of the business was in
its brand and brands don’t often stand up well to insolvency. What’s more,
thousands of jobs were at stake.
Clearly, Adams could not simply appoint an administrator and hope for the
best. Instead, the firm was instructed to market its business over an intensive
period of several weeks. Despite the uncertainty in the retail sector, the
firm’s team carried out a discreet, rapid marketing process and ultimately put
together a deal to secure the sale of 273 shops to John Shannon, the retail e
ntrepreneur, via a pre-pack administration.
Instead of facing huge uncertainty about their jobs over Christmas, 3,200
people kept their jobs and had the chance to re-build a viable, ongoing
business. Of course, some creditors lost out as is inevitable in these events,
but they had an opportunity to recoup losses by dealing with a reborn business.
The speed of the sale from insolvency meant that the business suffered minimal
disruption with its brand remaining largely untarnished by the turmoil.
That is the key point of a pre-pack. Old style, hope-for-the-best insolvency
means disruption, uncertainty and a real prospect that the business will close,
meaning everyone loses. However, an accelerated disposal process, which ends in
a pre-pack insolvency transaction, means a smooth transition with enhanced
realisations for creditors and preservation of value for a business’s goodwill
and brands. In addition, employees are also almost invariably better off.
Naturally, if a sale process is rigorous, you cannot exclude directors from
bidding to buy the business. After all, the job of an IP is to test the market
as thoroughly as possible, which means that you must talk to the directors, as
not to do so would be remiss.
In many cases, they are also the people who can deal the most quickly – they
can often skip or shorten due diligence, for example – and they can see the real
value in a business if it lost whatever was preventing it from succeeding. As
long as it is the right deal for creditors, there is nothing wrong with it, and
the IP should be able to do a deal with a director proudly.
Obviously, the odd deal may raise eyebrows, and IPs would do well to better
explain the benefits of such procedures. But the next time you see a pre-pack,
you should look beyond the deal and do not simply assume the worst.
Remember – a pre-pack is just a signature. The vast majority of IPs will have
put in a huge effort to make sure they are signing the right deal, well before
they got there.
Barry Ross is corporate restructuring partner at
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