Radical reforms to Insolvency law: the Enterprise Bill

2002 has all the indices of being one amazing year in the field of insolvency law. It promises to be a period of unprecedented change both on the national and international front and as a result of case law and legislative changes. The purpose of this article is to outline the provisions of the Enterprise Bill (the "Bill"). Part 10 of the Bill, now presented to Parliament, contains the most fundamental reforms to the domestic insolvency regime since the Insolvency Act 1986. By way of summary, the Bill introduces provisions which:

• significantly expand the administration procedure;
• remove the right of floating charge holders to appoint administrative receivers (except in certain excepted areas where administrative receivership will be preserved);
• abolish crown preference in all insolvency;
• are aimed at reducing the stigma associated with honest failures; and
• set out an attempt to provide more effective protection against reckless and culpable bankrupts.

The new administration procedure

By far, the most important changes proposed in the Bill relate to the administration procedure. Administrations were first introduced under the Insolvency Act 1986. They were envisaged as a rescue tool which would promote the rescue of business undertakings in difficult financial straits. The number of administrations has been below expectations and certainly, from the statistics available for the period up to the late 90s, is the least used formal insolvency process. When administrations have been used, there has also been some concern that companies have remained in administration for years without any clear justification, thus depriving unsecured creditors of distributions.

The Bill proposes significant changes to the existing administration procedure enabling administrators to be appointed in and out of court. Administrators may be appointed:

• by the court upon the application of the company, its directors or liquidators; or
• out of court by the holder of a "qualifying floating charge" (as defined in the Bill); or
• out of court by the company or its directors.

Whether an administrator is appointed in or out of court, the administrator will nonetheless constitute an officer of the company.

The Bill replaces the four statutory purposes for which administration orders may currently be made so that the primary objective will be to rescue the company. Where this primary objective cannot reasonably be achieved, the administrator is to perform his function with the objective of achieving a better result for creditors as a whole than would be likely on a winding up. If that is not possible, the objective is to realise property in order to make a distribution to one or more secured or preferential creditors.

Conduct of the administration

The administration is to be conducted within a much more streamlined and challenging time frame. The out of court appointment by a floating charge holder contemplates simply the filing of a notice in court, such notice identifying the administrator and his consent to act together with a statutory declaration from the floating charge holder, stating that it holds an enforceable floating charge. This is in contrast to the present procedure, which involves the filing of, an invariably, detailed report (rule 2.2 report) from the proposed administrator and a witness statement from a director of the company. The preparation of these formal documents is both time consuming and expensive: these factors often acting as a deterrent to a cash-strapped board of directors considering administration as an option for their company. It is envisaged that this new procedure will substantially cut down on the time and cost of the paperwork necessary to support an administration petition.

An appointment of an administrator by the company/its directors out of court is slightly more procedural as it will involve 5 days’ notice being provided to any party who may be entitled to appoint an administrative receiver. Upon the service of the notice of intention to appoint, an interim moratorium commences. Although the Bill includes scant detail of the interim moratorium (the finer detail to be addressed in the rules which will eventually accompany the Bill) it is likely to be similar to the present moratorium under the Insolvency Act 1986.

Period of administration

As mentioned previously, one of the most frequent criticisms levelled by creditors of the present administration system is the length of time a company remains in administration. There have been examples of companies remaining in administration without any apparent justification, for years and years. Although this may be justified in the most complicated cases, the view is that in the more "run of the mill cases", the administration should be completed within a few months. The Bill envisages that the administrator will automatically vacate office 3 months after the date the administration commenced. However, the term can be extended for an additional period of up to 3 months with the consent of creditors. Alternatively, an administrator can apply to court for an extension for as long as deemed necessary by the courts.

Administrators' powers to make distributions to creditors

Unlike the present position, the Bill gives the administrator power to make distributions to preferential creditors, secured creditors and in certain situations, unsecured creditors. This provision represents a significant extension of the administrators existing powers.

Prohibition of appointment of administrative receivers

The Bill addresses the government's stated intention to abolish administrative receiverships. Subject to various defined exceptions after a relevant date (to be specified in a statutory instrument) no administrative receiver may be appointed in respect of any floating charge. The exceptions to the prohibition are:

• capital market arrangements;
• public private partnerships – in this instance an administrative receiver may still be appointed over a project company which is a public private partnership project and includes step-in rights;
• utility projects – this exception covers projects designed for regulated businesses which includes step-in rights. These terms are defined in the Bill but in general terms, a regulated business is one which is carried on under a licence granted under one of the utilities acts such as the Telecommunications Act 1984, Gas Act 1986 and the Electricity Act 1989;
• Project Finance – the "project" company must be expected to incur debts of at least £50m and the "project creditor" must have step-in rights. Again the definitions are set out in the schedule;
• Financial Market Contracts – a receiver may be appointed over a company which is subject to certain market contracts.

Therefore, after a date to be identified by statutory instrument and save in the excepted circumstances referred to above, administrative receivership is to be abolished.

Abolition of preferential creditors

Certain payments to the crown which had hitherto been preferential will lose their preferential status and the money which would have otherwise gone to crown preferential creditors will be ring-fenced for the company's unsecured creditors.

The Bill simply proposes the introduction of a new section to the Insolvency Act which requires the relevant insolvency practitioner to make a "prescribed part" of the company's net property available to discharge unsecured debts. A decision how best to calculate his "prescribed part" has been deferred.

Will the Bill affect your business?

If financiers to the construction industry are lending to / investing in companies which fall within the excepted cases referred to above, the financiers are unlikely to be affected by the Bill. Although financiers who are lending to operators in the construction industry and hold security by way of a floating charge need to understand the Bill and will need to amend their security documents to ensure that they hold a "qualifying floating charge", the Bill should give such lenders little cause for concern. This is because the procedure for enforcing their security by appointing an administrator, is envisaged to involve a filing of statutory forms and should not result in any greater formality than presently exists for the appointment of an administrative receiver. Alternatively, if the borrowing company wishes to file out of court for an administrator the financier will be entitled to receive notice of the appointment. Indeed, if the financier objects to the company's proposed administrator, the financier can apply to court for its nominee to be appointed as administrator. The enforcement process is likely to be much easier for the financier and we would suggest that the benefits of administration, which following the implementation of the Bill will be much more streamlined, will outweigh any disadvantages.

If you are an employer, contractor or a sub-contractor and your counterparty commences administration, it will be important to understand what this new procedure means. Except in complicated situations, it should mean that the period of administration is much shorter, that reports/meetings are held with creditors much earlier (e.g. creditors must be provided with the administrators' proposals for achieving the purpose of the administration within 28 days, as opposed to the present 3 months, from the administrators' appointment); that the whole process is much more inclusive of unsecured creditors (e.g. to extend out of court the period of the administration order beyond 3 months the administrator needs the consent of 50% of the unsecured creditors) and that enforcement will invariably be a collective procedure within the administrator owing a duty to all creditors.

The "jury is out" on whether this new regime will be both quicker and less expensive than the existing administration process. At this stage, the insolvency practitioners are, in general, embracing with enthusiasm the corporate insolvency amendments envisaged by the Bill. Only time will tell whether the Bill will enhance, as it sets out to do, its most basic objective of fostering and encouraging a "rescue culture".

For further information please contact Rita Lowe at [email protected] or on +44 (0)20 7367 2798.