Economic indicators tell us 2023 is set to be a challenging year with many countries still struggling to recover from the cost of the pandemic, combined with the impacts of the war in Ukraine driving up energy and food costs globally along with inflation gripping most western nations.

We are already starting to see the signs of distress in the supply chain, creating new challenges for the maintenance of a supply chain whether through maintaining or recruiting an adequate workforce for production; managing escalating costs of supply; or navigating the regulatory frameworks for the smooth flow of goods across borders.

It is inevitable that in 2023 we are likely to see more corporate insolvencies. On the one hand this raises concerns for the maintenance of supply chains but on another creates opportunities for the bold. We have seen a number of clients taking ownership of struggling businesses or private capital being deployed to implement a turnaround of an ailing business under new ownership. Often the favoured implementation tool is the pre-pack sale out of administration.

Pre-Packs – Opportunities for the Bold

The first question we are often asked is whether the pre-pack process is “legal” given that the assets of a company are immediately transferred upon the appointment of administrators and creditors are left unpaid in the insolvent administration. However, this is the function of the administration process where, upon appointment, unsecured creditors can only make an unsecured claim in the administration and the administrator is obliged to realise the assets of the company in the interests of the creditors as a whole. It is widely accepted that greater value for the sale of a business and assets is achieved when the pre-pack process is used and there is frictionless business continuity as opposed to the issues which can undermine value where an officeholder seeks to trade a business in administration before sale.

Pre-packs have historically attracted a bad press, however this is usually linked to dubious sales to existing management for limited consideration. This is not the norm and the UK Government has recently legislated under The Administration (Restrictions on Disposal etc to Connected Persons) Regulations 2021 which should now ensure that any connected party transaction is independently approved before completion.

Of course, pre-pack sales are a very useful tool for arms-length purchasers seeking acquisitions, or circumstances where the cost of acquisition may actually be lower than the cost of continuing support within a supply chain. There is also the opportunity to put in place an appropriate corporate and funding structure to secure the future of a business and its employees.

The pre-pack process is simple. The terms of sale are agreed with the proposed administrators before the administration commences and the parties agree that the sale will be effected immediately upon the appointment of the administrators at court which then avoids the headaches of funding and trading a company in administration.

Speed and the Accelerated M&A Process (“AMA”)

Speed is critical to effecting a pre-pack sale and this is one of the key issues which causes concern for buyers who have not experienced the process before. Transactions are regularly concluded in compressed timetables - often with a marketing exercise and sale completed within 2 weeks (or less) which is vastly different to a solvent sale.

The pre-cursor to any pre-pack is the accelerated AMA which is a sale process often run to map the cash runway of the distressed company so that marketing and sale can be concluded before cash runs out. The cash runway will always be determinative of the timetable and is generally inflexible unless a buyer wishes to volunteer funding prior to a sale which is unusual in contemplation of an insolvent sale.

Making an Offer

It should be remembered, without stating the obvious, that the pricing on an insolvent company is somewhat different to a solvent one with a real focus on the actual value of certain asset classes and their true worth. For instance whilst a book value for stock in the business may be high this needs to be priced against the retention of title risk for claims from suppliers following insolvency. Thought also needs to be given in terms of suppliers or supplier concentration and whether unpaid suppliers will be needed following an acquisition. It is possible that unpaid suppliers will decline to provide new supplies especially if credit insurers were involved in the pre-insolvency supply.

Key Terms

It is important to understand that an insolvency sale is like no other and there will be no flexibility on key terms such as:

  • The assets will be sold as seen with no covenant to title or assurance on the ownership of assets;
  • The buyer will not receive any assurance, representations or warranties in relation to title or the assets and no indemnities from the seller;
  • To the contrary, the buyer will be asked to provide indemnities to the seller and the administrators, this is generally for any liabilities which may arise for the seller and the administrators post completion in relation to the sale of the business and assets;
  • exclusion of personal liability for the administrators;
  • standard answers to full sets of enquiries (e.g. CPSE in respect of real estate) will not be provided given the limited knowledge of the administrator – only specific enquiries will be addressed so far as the seller and administrator are able to do so. Any information shared, as above, will not be represented or warranted.

The sale agreement, and any ancillary documents, will be signed by the seller company and the administrators, but the administrators will be signing to receive the benefit of the indemnities in the agreement and the exclusion of personal liability only.

Sale Contract/Asset Classes

  • IPR – always make sure that you have visibility on the rights that exist and ensuring that there is no challenge or competition for those rights.
  • Goodwill – the residual value of the business which is closely related to your right to continue the business using its existing name and brands
  • Plant & Equipment – consider third party rights whether by way of hire purchase or lease
  • Customer Contracts – consider the impact of the administration on contracts and make sure you have confidence in them continuing post sale;
  • Book Debts – these are usually excluded from a sale, but you may offer to recover them in return for a commission;
  • Retention of Title Stock – this will be excluded from the sale and the administrators will want an indemnity to protect against any claims. You may be asked to support in providing access to retention of title stock and/or dealing with resulting claims;
  • Tax – where there is a transfer as a going concern then no VAT should be payable on the sale however, where it is a pure asset sale then VAT will be charged on the price of the assets
  • Apportionment - apportioning the responsibility for discharging liabilities is normally split with the completion date as the dividing line for responsibility
  • Books and Records – statutory books will be excluded from the sale and retained by the administrators who will also want to retain access to records that are transferring
  • Data Protection – this has developed into a hot topic through the changing legislation and it is key to ensure that this is covered as part of the sale so that there is clarity on the handling of personal data post sale.
  • Further Assurance – given the accelerated pace at which a transaction will need to be close, it will be key to ensure that you have the benefit of a further assurance clause from the seller and the administrator (at your cost) to provide reasonable assistance to perfect title to any assets post-completion.

Outside of the key contract terms, it is essential to make sure that the appointment of the administrators is valid and that signed releases are available from any secured creditors.

Employees

The assessment of employee rights and the impact of the Transfer of Undertakings (Protection of Employment) Regulations 2006 (“TUPE”) is always a key area for review as part of any due diligence exercise. There are limited exceptions or carve outs under TUPE and this is an area which can cause insolvent transactions to fail as a consequence of transferring employee costs. This is a significant focus point and one which will impact the value of any consideration a buyer is willing to pay.

Due Diligence

Given the issues raised in the key terms in respect of title and warranty it is essential that you “kick the tyres” properly before committing to buy and ensure any identified issues are reflected in the price. You should have access to a data room as part of any AMA process and you should not be afraid to ask questions or to seek specific documents if they are not in the data room. There is limited time to assess the position and therefore the opportunity should be taken to ask the questions and investigate, whilst recognising that the proposed administrator may not be able to produce all of the information requested. Often the assessment of a potential pre-pack sale is made on imperfect information on the basis that it is not unusual for the books and records of distressed companies to be incomplete. Always make sure that you get access to management and assess the quality of the management team given that they will likely be transferring with the business and you want to be confident that you can rely upon them as the business moves forward.

Summary

Pre-packs represent a well-developed tool to implement a restructure of an insolvent company in order to ensure the continuation of the business, whether as a bolt on acquisition, or to maintain a supply chain. The process is fast and efficient, but it is essential that you understand the rules of engagement if you want to be successful in the AMA and the pricing of acquisition.

Provided that you assess the transfer risks a pre-pack presents a great opportunity to acquire a good trading business without responsibility for the historic creditor base of the company which may have previously afflicted business performance.

It is clear that pre-packs represent great opportunities to create value for those who are prepared to be bold.