Insolvency

A company is solvent if it is able to pay its debts in full, as and when they become
payable. It follows that a company will be considered insolvent if it cannot pay its
debts when they become due and payable.

In determining whether a company is insolvent, at common law, the courts utilise

the ‘cash flow test’ and ‘balance sheet test’. The cash flow test assesses the ability of
the company to pay its debts as they become due and payable by considering the
company’s existing debts, the date each of the debts will become due and payable
and the company’s present and expected cash resources, including whether there is
any expected company income. The cash flow test is the principal test used by the
courts when determining whether a company is solvent or insolvent.

The balance sheet test assesses the solvency of a company by comparing the total
sum of its assets against the total sum of its external liabilities. If a company’s
liabilities are greater than the total sum of its assets, the company will be deemed
insolvent under the balance sheet test.

Directors of insolvent companies owe their duties to the company's creditors, not
to its shareholders. Directors who are concerned about the financial position of their
company must consider their actions carefully and take specialist advice.

Directors of insolvent companies owe their duties to the company's creditors, not
to its shareholders. Directors who are concerned about the financial position of
their company must consider their actions carefully and take specialist advice. If an
insolvent company goes into administration or liquidation its directors can be sued
in their personal capacity for losses made by creditors if the directors continued to
trade after the company had become insolvent (wrongful trading).

Administration
Administration is an insolvency process by which a company is placed under the
control of an administrator to enable the business that the company carries on to
continue trading as a going concern If the rescue of the company is impossible,
the administrator must aim to achieve a better result for the company's creditors as
a whole than would be likely if the company were put into liquidation If the
administrator cannot achieve a better result for creditors as a whole, the purpose of
the administration is to realise the company's property to make a distribution to
the company's secured or preferential creditors To assist him in implementing
these statutory objectives, a moratorium is provided by which creditors and others
are prohibited from taking or pursuing legal proceedings against the compan y
while it is in administration.
There are two ways in which a company can go into administration: by a court
order made at a formal hearing or by certain parties lodging a series of prescribed
documents at court .
• An application for a court order can be made by one or more creditors of
the company, the company itself, its directors, a liquidator, a supervisor of
a company voluntary arrangement,.
• A company can be put into administration by filing at court a notice of
appointment and certain specified supporting documents. This procedure
may be commenced by either the company or its directors, or a party (often
a bank or other commercial lender) which has a floating charge that meets
the requirements

A company cannot go into administration unless it is insolvent,

On appointment, an administrator must take all the company's property into his
custody or control. An administrator has wide-reaching powers. He can do
anything "necessary or expedient for the management of the affairs, business and
property of the company .The administrator can, as the company's agent, cause the
company to contract with third parties. Sums due under such contracts are paid in
priority to the administrator's fees and expenses, and distributions to floating
charge holders and unsecured creditors .An administrator has a duty to perform his
functions as quickly and efficiently as is reasonably practicable with regard to the
interests of the creditors as a whole.

There is an automatic moratorium which means that it is not possible for a creditor
to bring or pursue legal proceedings against the company or its assets. If a person
(creditor) is owed money by a company that has gone into administration, often
the creditor's best option is to submit details of its claim to the administrator
(a proof of debt) and wait for the administrator to assess it.

A secured creditor is, in general terms, entitled to be repaid from the proceeds of
the secured assets of the company. He may claim as an unsecured creditor for any
balance. Once the company has repaid its secured liabilities, any remaining asset
realisations are paid to unsecured creditors, who receive a share of the assets
proportionate to the size of the company's debt to them in accordance with the pari
passu principle. The return to unsecured creditors may be very little, if anything. It
is not necessarily the case that, even if there are assets available for unsecured
creditors, any distributions will be made in an administration.

- Certain unsecured liabilities, called preferential debts, which include certain

employee claims and contributions to occupational pension schemes and
some tax liabilities, to have priority over the claims of secured creditors in
respect of any security which was created as a floating charge.
 - A small portion of the recoveries from realisations of assets which are secured
by charges created as floating charges are used to pay unsecured claims which
are not preferential debts in priority (after preferential debts) to the claims of
the secured creditors in respect of that security

Administration does not mean that the company's employees are automatically
dismissed. The administrator may "adopt" a contract of employment. Actions taken
within the first 14 days of his appointment are not taken to amount to or contribute
to adoption. Adoption of a contract appears to require action such as the payment
of wages..

When a company goes into administration, the directors' powers are curtailed. A
director cannot exercise any management power that could interfere with the
exercise of the administrator's powers without prior consent from the administrator
If the company ultimately comes out of administration and resumes trading, the
directors regain their full powers.

The administration of a company automatically ends after one calendar year or any
agreed period. In practice, many companies remain in administration for more than
one year and complex administrations can last several years. If the administration
leads to the rescue of the company as a going concern, the administrator hands
control of the company back to the directors once the administration ends.
However, this is rare in practice. More commonly, the net proceeds of the company's
assets are distributed to the company's creditors, either by the administrator or by a
subsequently appointed liquidator (who may be the same person as the
administrator). Depending on the circumstances, the administration can therefore
end either by the company moving into liquidation or by the company being
dissolved without a [Link] some cases administrations are used as an initial
step designed to enable the company to propose and implement a company
voluntary arrangement, which, if approved by the members of the company and by
its creditors, in each case by the required majorities, may also enable the
administration to end.

Receivership
A receivership is a court-appointed tool that can assist creditors to recover funds
in default and can help troubled companies to avoid bankruptcy . In the first
instance, having a receivership in place makes it easier for a lender to recover funds
due to them when a borrower defaults on a loan.

In the second case, a receivership may occur as a step in a

company's restructuring process, with the goal of returning the company to
profitability. A receivership could also arise during a shareholder dispute to complete
a project, liquidate assets, or sell a business, for example.
A receivership is a process or a solution that is put in place to protect a company. In
its original meaning, a receivership can help creditors to recover amounts
outstanding under a secured loan when the borrower defaults on its loan payments.
Receiverships also can be useful for companies that are in financial distress; they can
occur as part of a restructuring or when a company is headed toward bankruptcy. A
"receiver," or trustee, steps in to manage the entire company, its assets, and all
financial and operating decisions. While the receivership is operative, the company's
principals remain in place as material contributors, but their authority is limited.

A receivership itself is not a legal process, but it is usually is invoked during legal
proceedings, with either the secured creditor (lender) or a court of law appointing a
receiver to act as trustee of a business. Privately appointed receivers will generally
act only on behalf of the secured creditor that appointed them, but court -appointed
receivers act on behalf of all creditors.

The receiver must be an independent party, with no prior business relationship to

either the borrower or lender, and can never act for the benefit of one party and the
detriment of the other.

In the case of a restructuring, the appointed receiver generally has ultimate decision-
making power over the company's assets and management decisions, including the
authority to stop paying dividends or applicable interest payments. The receiver also
ensures that all previous company operations comply with government standards
and regulations while maximizing profits.

The receiver customarily works with the company to help avoid bankruptcy and
complete liquidation of all assets. However, a receiver may choose to shed select
assets for the purpose of paying some creditors and bringing the company into a
period of recovery. Should these efforts fail—or be seen as insufficient from the
start—the court may order a company's assets to be liquidated. In that case, a
liquidator would oversee the sale of assets and collect the funds to repay creditors.
When the assets are all sold, the company ceases to exist.

- A receivership is a tool that can assist creditors to recover funds in default

and can help troubled companies to avoid bankruptcy.
- The goal of a receivership is to return companies to profitability.
- In a receivership, the court appoints an independent "receiver," or trustee,
who effectively manages all aspects of a troubled company's business.
- For the duration of a receivership, the company's principals remain in place
but have little authority.

Why would a company go into receivership?

1. The company requires finance for its activities and borrows from a lender or other
secured lender.
2. In consideration for providing the loan, the lender requires security. Normally the
company will sign a debenture with a fixed and floating charge. This offers the lender
security over the assets of the company.
3. If the terms of the agreement are breached or the company does not conform to the
lender's wishes, the charge holder can:
- Appoint investigating accountants to ascertain how secure or
not the lender's debt is and determine the best route forward
(not always receivership).
- Demand formal repayment of the loans without notice.
- Appoint a receiver through the courts to administer and receive
the company's assets.
4. The receiver has a duty to collect the lender's debts only, They are not generally
concerned with the other unsecured creditors or shareholders' exposure.

Receivership - A typical appointment:

Having borrowed against a business plan that has not worked, a company finds that
it is suffering cash flow problems. In an effort to survive, the company reports its
problems to the lender and the lender asks for more information on the problems
the company faces. Struggling with the problems of fire fighting, the directors find
it difficult to produce the information. Often the accountancy and reporting systems
are not robust and a lot of time is needed to work out where the company is going,
what the depth of the problems is and the necessary reporting to the lender is
delayed.

As time goes by, the company's overdraft is constantly at its limit, because monies
don't come in fast enough from customers. Clearly this should set alarm bells ringing
at the company - it most certainly does at the lender. They call this ceiling borrowing,
and take it as a sign that the directors are losing control. When this happens the
lender will review the account and will typically take some or all of the following
steps:

What the Lender will do

1. The lender will ask for a reduction in its exposure.

2. It will ask for increased security from the directors or shareholders. Usually this takes
the form of personal guarantees to support the security that the company has given
through the debenture.
3. It may ask for new capital to be introduced by the shareholders. Problem is though,
occasionally, this only has the effect of reducing the lender exposure as the lender
takes this cash to reduce the borrowing.
4. It can ask for a new business plan from the directors, along with regular reporting.
5. It may ask for the company to consider receivables finance (factoring) to remove its
borrowing and move to a factor. Often the lender's own factoring company.

• If they are still not satisfied that the directors are in control and if the lender
is concerned about its exposure it will ask for investigating accountants or
reporting accountants to look at the business. Normally this is a large firm of
accountants who send an insolvency practitioner (IP) into the business to
ascertain:
Is the business viable?
• Is the company stable?
• Does it have a long term future if the present difficulties can be overcome?
• Is the lender's exposure sufficiently covered in the event of a failure?
• In this report the IP calculates what the assets of the business are worth on a
going-concern basis and in a forced sale scenario or closure basis.
• Investigating accountants often recommend that the lender sticks with the
business, but that the lender should limit any further borrowing to the fully
secured variety - in other words the directors must secure it personally against
property for example.
• If the IP thinks that the company is in serious risk of failure and that the
lenders may lose money in that event, he/she will usually recommend to the
lender that they appoint a receiver or administrator.
• Usually the lender (bizarrely) requires the directors to "request the lender to
appoint a receiver". This is face-saving, and designed to deflect criticism from
the lender to the directors.

Once they are appointed what is the receiver's role and powers?

1. A receiver will quickly ascertain what the prospects for business are and decide
whether to sell some or all of the assets, the business as a whole, or to continue to
trade whilst a better deal can be achieved.
2. They may remove directors and employees without impunity.
3. They ultimately decides the way forward and will often not take advice from the
directors.
4. They must pay the preferential debts (employees claims for arrears of pay) first from
any charge collections.
5. If a deal is to be done with directors the receiver must first advertise the business
and its assets for sale.
6. They must conform to the tight rules and regulations governing receivership and
reports
7. A receiver must investigate the conduct of the directors of the business and file a
report.

Disadvantages of Receivership
The company is rarely saved in its existing form. Its assets will be subject to
"meltdown" ( most people know that in receivership or liquidation assets are sold at
a knock down price), often jobs and economic activity are lost. The directors will
typically lose their employment and any monies the company is due to them, and the
company may cease to trade. In addition the director's conduct is investigated.

From the creditors' perspective, it is unlikely that any unsecured creditors will receive
any of their money back and often they lose a valuable customer. Clearly the cost of
receivership can be very high and the lender has to underwrite the receiver's costs.

Advantages of receivership

The lender can take control where directors have maybe lost control. The receiver
also has power to act to save the business quickly. The lender can ensure that its
exposure is (at least) not increased and hopefully recover all of its money. For
directors, the advantages are that it mitigates the risk of wrongful trading and may
crystallise a very difficult position allowing them to get on with th eir lives.

Preferential creditors may see their debts repaid by the receiver.

Liquidation
Liquidation can be voluntary or compulsory. The distinction is relatively
straightforward – voluntary liquidation describes a situation where a company
chooses to enter liquidation by a decision of its directors and or members, whereas
compulsory liquidation is where a company enters liquidation as a result of a court
order that the company be wound up.

Compulsory liquidation is usually the result of a creditor applying to the court for
the company to be wound up, and the court will generally appoint the liquidator
nominated by the creditor making the application.

Compulsory liquidation is not promising for creditors hoping to recover debts

owed to them. A positive aspect of such a situation is that the liquidator is required
to reconcile the debts owed by the insolvent company as far as possible, in line
with the rules of priority concerning secured and unsecured creditors.

Voluntary liquidation can either be the result of a voluntary winding up of the

company, or the result of voluntary administration. Voluntary administration is
markedly more promising from the perspective of creditors, but can only occur in
certain circumstances. A creditors voluntary liquidation can occur as the result of an
administration whereas a members voluntary liquidation can only occur in
circumstances where the company does not presently owe any debts and does not
expect to be insolvent for at least 12 months. Voluntary liquidation as a result of a
 voluntary administration is more likely to result in an outcome where creditors will
be able to recover all or a larger proportion of the debt owed to them.

Dissolution

Dissolution is the procedure that ends a company’s existence as a legal entity

In other words, the existence of the company is terminated, and the process is carried
out by filing documents to dissolve the company as a business entity. Unless
exceptions apply, a company’s dissolution commences the winding up of the
company’s affairs and leads to the company’s ultimate termination.

The Dissolution of a company may take place in two ways.

• First in which the company is transferred to another company under the scheme of
reconstruction or amalgamation. In such a case, the transfer of company will be
dissolved by an order of the court without it being wound up.
• In second scenario, the company shall undergo winding up process where the assets
of the company shall be realized and proceeds shall be used to pay its liabilities. Once
the debts have been settles, the remaining amount, if any, shall be distributed
amongst the stakeholders and court shall pass the order of dissolution of the
company and strike its name off the register of Registrar of the Companies.

Summary
The distinctions between administration, receivership and liquidation bear great
significance for creditors in terms of any attempts to recover debts owed to them.
Understanding these differences and their consequences is important for any
creditor looking to understand the particular circumstances where they are more
likely or less likely to recover part or all of the debt owed to them. Should you require
advice or assistance in relation to debt recovery or the administration,