“How to respond effectively to the Administration moratorium”
The Administration: administrators, aims, procedures and likely outcomesAdministration is a "rescue" procedure for companies that are, or are likely to become, insolvent. It has been extensively reformed since the Enterprise Act 2002 came into force on 15th of September 2003, with the aim of making it a more efficient process. The purpose of the administration regime is to intervene in the running and management of a company that is deemed "unable to pay its debts" (within the meaning of s.123 of the Insolvency Act 1986). The moratorium on enforcement action against the company provided by the statutory procedure ensures that the company has "breathing space", protected from creditors for a set period of time, so that the administrator is able to assess the company's financial standing, arrange for the valuation of assets, and produce a proposal for the continuation of trading or the sale of assets, the business, or the company as a whole. It is increasingly common for the appointed administrator to propose other rescue options whilst an administration order is in force, ranging from improving the position of the company's creditors by proposing a company voluntary arrangement, to realising the company's assets in a more beneficial manner than could be achieved in a winding up.
There are three routes into administration: (1) by court order; (2) by notice filed at court by the holder of a qualifying floating charge (for a charge to be a "qualifying floating charge" it must relate to the whole, or substantially the whole of the company's property); or (3) by notice filed at court by the company, or its directors.
The Enterprise 2002 Act introduced Schedule B1 to the Insolvency Act 1986 to provide office-holders with a set of objectives to be guided by when deciding which course of action to take. The objectives are hierarchical, the primary purpose being the rescue of the company "as a going concern". If the administrators cannot achieve such an objective, they can look to a second objective, which is to "achieve a better result for the creditors as a whole than if the company were wound up". If that second option is not possible, the third option is "to realise property in order to make a distribution to one or more secured or preferential creditors" (Schedule B1, paras three (1) (a), (b), and (c), Insolvency Act 1986). Frequently in practice, administrators will attempt to sell the company's business as a going concern, and then liquidate the company. Sometimes this is all worked out in advance, in what is known as a "pre-pack administration".
It is common for more than one administrator to be appointed to the company, in which case they will usually agreed to act jointly and separately. An administrator takes over management and control of the company and has the power, on behalf of the company, to do all things necessary or expedient for the management of its affairs, business and property, including the power to remove and appoint directors and to borrow money secured on the assets of the company. During the administration, the administrator, therefore, has sweeping statutory powers that he may exercise. However, an administrator does not have a specific power to disclaim "onerous" property (Re P&C and R&T (Stockport) Ltd [1991] BCLC 366). Therefore, the administrator has a great deal of fire-power at his disposal, as he can hire and fire employees and directors and enter into contracts on the company's behalf (unlike the supervisor of a CVA, who merely supervises the directors' running of the debtor company).
As the wording of Schedule B1 makes clear, the collective interests of creditors are given high priority. The administrator is, therefore, tasked with weighing up the different options, making an assessment of whether they can be achieved and making an effective, and timely, decision that will ensure the highest possible return to creditors. The most typical outcome of an administration is the sale of the business and the distribution of the proceeds of sale to the creditors of the company.
The administrator (usually referred to as an "IP" [insolvency practitioner]) is required to produce formal proposals (usually a report) for the achievement of the purpose(s) of the administration within 8 weeks his appointment (or such longer period as the court allows). Within 10 weeks of his appointment, the administrator must hold a creditors' meeting to approve the proposals and, once approved, must manage the company in accordance with the proposals. Creditors can approve or reject the proposals or seek to modify them.
During the administration period, the administrator will typically either attempt to reach a compromise with creditors, so as to restructure the balance sheet into a viable form (if seeking to preserve the company as a going concern) or enter into a disposal process, with a view to selling either the company's business, or parts of it, all the best price reasonably obtainable. The administrator may make a distribution to a creditor of the company (although court approval is required if this is not to a preferential or secured creditor) and may make any other payment he thinks is likely to assist the achievement of the purpose of the administration. The administrator owes his/her duties to the company and its creditors, being required to exercise his functions, "in the interests of the creditors of the company as a whole". The administrator is both an agent of the company and an officer of the court. In exercising his functions, the administrator of a company acts as its agent. The primary effect of administrator acting as a company's agent is that, in normal circumstances the administrator will not incur personal liability in respect of any contract or any other obligation that he/she enters into on behalf of the company. Administrators will generally not give any indemnities or guarantees, either personally or on behalf of their firm or company. Under no circumstances would an administrator be willing to accept personal liability in the context of business or transaction carried out on behalf of the company in administration given that (as indicated above) the administrators act as agents of the company and will require assurances wherever possible that their personal liability will be excluded.
The administration will end automatically after one year unless (as is often the position is in large or complex cases) the administrator's term of office is extended with the consent of the creditors or the court.
Payments by the Administrator
If there is a sale of all or part of the company's business, administrators can elect to distribute the proceeds which they have realised to the company's creditors, although they usually decide to transfer the proceeds to a liquidator, who would then deal with the distribution process.
In either case, the administrator or a liquidator is under a duty to make such distributions in accordance with a statutory order of priority which runs in the following descending order:
(1) proceeds of fixed charged assets (less direct realisation costs) to fixed charge holders;
(2) expenses of the administration (which include contracts entered into by the administrators as agent for the company in administration);
(3) the "prescribed part" set aside for unsecured creditors from realisations of floating charge assets (up to a maximum of £600,000);
(4) proceeds of floating charge assets (less preferential debts and the "prescribed part" as above) to floating charge holders;
(5) unsecured creditors; and
(6) any surplus to shareholders per shareholder rights.
As is evident from the above, unsecured claims rank beneath claims by secured creditors. All unsecured liabilities arising out of obligations incurred before the date of administration rank "pari passu" (i.e. ranking equally) with each other.
Administration expenses
Expenses of the administration have priority over other claims other than those of fixed charge holders. Although the administrator does not assume personal responsibility for the contracts entered into on behalf of the company, any liability incurred under a contract entered into whilst the company is in administration will be payable as an expense of the administration. Expenses include (but not are not limited to):
(1) expenses properly incurred by the administrator in performing his functions;
(2) any necessary disbursements made by the administrator; and
(3) the remuneration of any person who has been employed by the administrator to perform services for the company.
Expenses properly incurred by the administrator in performing his functions in the administration of the company will rank ahead of all other expenses (such as contractual obligations), including the administrator's remuneration. The administrator will therefore not get paid until the relevant expenses have been fully repaid. Contractual counterparties can take a certain amount of comfort from this - for example, the obligation to pay for services supplied after the date of administration will rank (on a distribution) above the right of administrators to remuneration. It is for these reasons that administrators will therefore want to keep the expenses of the administration to a minimum and to incur as few liabilities as possible. Consequently, when the administrators are entering into agreements in relation to pre-administration contracts, wording is likely to be included that the pre-existing contractual liabilities remain as unsecured claims, although administrators are likely to concede that post-administration obligations under the contract rank as expenses. The administrator will wish to avoid a situation where a counterparty argues that by entering into an agreement in relation to an existing contract this elevates the unsecured claim to an expense.
The question of the extent to which the administrators may actually be acting for the benefit of those to whom the business of the company sold can seem particularly pressing in the context of what are known as "pre-pack" administrations. In a pre-pack, the insolvency practitioner is involved in planning in advance an arrangement under which the business of the company is to be sold immediately after his appointment, bypassing the statutory procedure of a creditors' meeting, and without any direction from the court. The pre-pack is the most appropriate procedure where the insolvency is such that there will be no surplus available for distribution to the company's unsecured creditors and the proposed sale is likely to be advantageous by comparison with what might be yielded if all the statutory formalities were followed.
The Moratorium
Once an application for the appointment of an administrator has been lodged, or notice of intention to make an appointment out of court has been given, an interim moratorium automatically arises, the purpose of which is to protect the company and its assets from creditor action in the short period until the administrator is appointed. By para.43(6) of Sch. B1 to the Insolvency Act 1986, no legal proceedings may be instituted against a company in administration otherwise than with the consent of the administrator or with permission of the court.
Once the full moratorium comes into effect, an administrative receiver may not may no longer be appointed and winding-up petitions are either dismissed or suspended.
The moratorium suspends the power of creditors to take certain actions against the company in administration or its property. The moratorium does not, however, prevent the enforcement of contractual rights (such as the right to terminate a contract on the basis that the counterparty has gone into administration). The moratorium therefore suspends, rather than extinguishes, rights.
The moratorium prevents the following (unless administrator or the court agreed that sucks such actions can be taken):
(1) the enforcement of security over the company's property;
(2) the repossession of goods in the company's possession under a hire-purchase agreement (which term includes retention of title provisions);
(3) the right of forfeiture by peaceable re-entry;
(4) the appointment of an administrative receiver; and
(5) any legal process (including legal proceedings, execution, distress) against the company or its property.
(6) No resolution many passed, and no order may be made to wind the company.
This moratorium, or "statutory freeze", is at the heart of the administration procedure. The risk to the property owner therefore is that its assets are being used for "free". A property owner will therefore want to give consideration to lifting the statutory stay imposed by the moratorium.
Lifting the Stay/Applying for Permission of the Administrator or Court
Certain substantive rights, and actions, may be taken against the company with the permission of the court, or the consent of the administrator. Before any action is taken, the practitioner should consider whether the client wants the asset back, or alternatively to derive an income stream (usually in the form of rent) from the administrator.
The first port of call for a creditor wishing to enforce a right, or claim, is to seek the permission of the administrator to enforce that right. The administrator should be given notice as soon as possible. It will be the rare case of an application for permission being made to the court without first informing the administrator; although, in exceptional cases, that course may be justified if the property is in jeopardy, or at serious risk, for some reason e.g occupation by unknown third parties who are trading from the premises. If there is a risk of the property in question being transferred, assigned, or possession being afforded to a third party (without the consent of the landlord or property owner) the practitioner should give consideration to an application to court to lift the stay, and also to give consideration to seeking an injunction, to avoid the risk of an unauthorised possession transfer of the property asset.
If the administrator refuses consent (as is often the case in practice) to lifting the stay, the creditor should give consideration to whether or not to apply to the court to "lift" the statutory moratorium following the principles established by Nicholls LJ in Re Atlantic Computer Systems plc [1992] Ch 505.
The Atlantic Computer guidelines (Nicholls LJ at 542A) are as follows:
(1) the applicant for lifting the stay carries the burden of proof;
(2) the stay is intended to assist the company under the management of the administrator to achieve the purpose for which the administration order was made;
(3) if granting leave (or permission) to a landlord of land or the hirer of goods to exercise his proprietary rights and repossess his land or goods is unlikely to impede the achievement of that purpose, leave should normally be given;
(4) in other cases, when a landlord seeks possession, the court has to carry out a "balancing exercise", balancing the legitimate interest of the landlord and the legitimate interest of the other creditors of the company;
(5) in carrying out the balancing exercise, great importance, or weight, is normally given to the proprietary interest of the landlord;
(6) the underlying principle is that an administration is for the benefit of unsecured creditors and should not be conducted at the expense of those who have proprietary rights which they are seeking to exercise save to the extent that this may be unavoidable, and even then this will usually be acceptable only to a strictly limited extent; and
(7) thus, it will normally be a sufficient ground for the grant of leave if significant loss will be caused to the landlord by a refusal to grant leave. For this purpose, loss comprises any kind of financial loss, direct or indirect, including loss by reason of delay, and may extend to loss which is not financial. But if substantially greater loss would be caused to others by the grant of leave, or loss which is out of all proportion to the benefit which leave would confer on the landlord, that may outweigh the loss to the landlord caused by a refusal.
(8) in assessing these respective losses, the court will have regard to matters such as: the financial position of the company, its ability to pay rent arrears and the continuing rentals, the administrator's proposals, the period for which the administration order has already been in force and is expected to remain in force, the effect on the administration if leave were given, the effect on the applicant if leave were refused, the end result sought to be achieved by the administration, the prospects of that result being achieved, and the history of the administration so far.
Tenant Administration - advice for Landlords
The moratorium has a direct impact on the landlord of a company in administration as paragraph 43 provides that without the consent of the administrator, or the permission of the court, a landlord may not exercise a right of forfeiture by peaceable re-entry in relation to premises let to the company, and that no legal process, which includes any legal proceedings, execution or distress, may be instituted or continued against the company. The moratorium does not relieve the company from its obligations under the lease, but removes the immediate threat of enforcement action against its assets, which might frustrate the purpose of the administration
Often a landlord will become aware of "danger signs" from tenants that they are in financial distress e.g. tenants slipping into arrears, requesting rental "holidays", or moving to monthly payments - these circumstances should all alert the landlord to the possibility that an administrator is just round the corner.
Perhaps the most common scenario in practice that an adviser will be presented with is where a landlord of commercial premises learns that his tenant company has recently gone into administration; that the administrators are still in occupation of the premises; but the administrators inform the landlord that there are no funds available to meet the last quarter's rent. The landlord, obviously, wants to be paid his rent. How can the landlord, in such circumstances, prevail upon the administrators to pay the rent? The immediate difficulty that presents itself to the landlord in this situation is that the landlord has no direct remedy against the administrators for arrears of rent. The company remains the tenant, and it, rather than the administrators, remain liable for rent and the other sums due under the lease.
However, there are ways of prevailing upon the administrators to pay both the arrears of rent that have accrued since the beginning of the administration, in addition to the ongoing rent and other sums falling due under the lease while the administration continues. The court can impose such a requirement on the administrators as a condition of any refusal of permission to the landlord in its application to the court to exercise the right of forfeiture, or distress, that ordinarily would be available to a landlord in such a situation. It is most important, however, for a landlord to act quickly to press the administrator to pay the rent (and other sums falling due), or to issue an application for permission to forfeit the lease or to distrain against items in the premises. Such applications are often compromised by the administrator being forced to concede the payment of rent. The practitioner should therefore seek to explain, applying the principles in Atlantic Computer, why, in the particular facts of his client's case, the "balancing exercise" favours the lifting of the moratorium. As indicated, the practitioner will often seek to obtain the agreement of the administrator to have the rent paid as an expense of the administration by way of a compromise.
The landlord should also consider whether the tenant is likely to continue trading until a buyer for the company is found - all well and good if occupation and payment of rent is seamless - or the administrator is simply using the premises to hold a closing down sale to realise the stock. If it is the latter, the landlord should consider the issue of exercising his right to levy distress. Distress allows a landlord to seize goods from leased premises and sell them to raise money to cover arrears of rent. A landlord must obtain the permission of the court before exercising this remedy.
The fundamental question for a landlord faced with a tenant which is about to, or has already gone into administration, will often be whether he will get permission from the court (or administrator) to proceed against it. The landlord may want to proceed against the company for non-payment of rent, distrain, seek possession, or he may seek permission to pursue the tenant for other breaches of covenant, such as a covenant against alienation. In deciding whether or not to allow a landlord to raise proceedings, and applying the Atlantic Computer guidelines, the court must balance the competing interests of the landlord with the objective of the administration. For example, the terms of sale of a tenant's business in administration will often provide for the transfer of the tenant's assets to a third party, including any premises. This can frequently result in the third party occupying the tenant's premises in breach of the alienations provisions of the tenant's lease. If the landlord seeks the permission of the court to forfeit it is combined with a request for an order for possession and that is enforceable against the tenant and any unauthorised occupier of the premises.
In Atlantic Computer (supra) the Court of Appeal held that a landlord should ordinarily be granted permission to exercise its right of forfeiture unless the premises are required by the tenant company in order to facilitate the administration. However, as noted above, the court can, and in many cases should, require administrators to meet the rent that has fallen due during the administration as a condition of any refusal to grant permission to forfeit. Administrators can agree to pay such rent as a cost of the administration, and they should do so in the face of a request to forfeit where they require continued use of the premises for the purposes of the administration, thus making an application to court by the landlord unnecessary. Although the court did not expressly consider the point, it is thought that a similar consideration should apply to the question of whether permission should be granted for a landlord to exercise its right of distress over assets in the premises. However, following the decision of Re Salmet International Limited (in administration) [2001] BCC 796, it seems that the court cannot order administrators to meet rent accruing during the administration other than as a condition of refusal to grant the landlord permission to forfeit or to distrain. Therefore, the application should be for permission to forfeit, distrain, or exercise some other legal remedy, not for an order that the administrators pay the rent to the landlord.
Accordingly, if a landlord wishes to maximise its prospects of recovering rent once a tenant has gone into administration, the following strategy should be adopted:
(1) the landlord should request permission from the administrators to exercise its right of forfeiture or distress as soon as arrears begin to accrue;
(2) if the administrator requires continued use of the premises, or the chattels therein, and are unwilling to consent to the exercise of the right of the landlord to forfeit or to distrain, the administrators should agree to meet the rent falling due since the onset of the administration;
(3) if the administrators failed to do so, the landlord should apply to the court for permission to forfeit the lease and/or distrain against goods, and the court can impose such requirement as a condition of a refusal of permission to forfeit or distrain;
The landlord should guard against delay. If the landlord delays in making such request of the administrators, and delays in making any subsequent application for permission, the landlord may find that the administrator no longer requires the use of the premises and so are amenable to the lease being forfeited (leaving the landlord with his rent having been unpaid). Alternatively, the administrators may no longer require the use of stock or equipment in the premises over which distress could have been levied and may have already removed such goods, stock and equipment and sold them on. With delay, the landlord will have lost the opportunity to prevail upon the administrators to meet the rent, may have lost goods, and the right to distrain against the tenant's goods, and such delay would also likely to be fatal to any application to court for permission to enforce any such proprietary rights.
Examples of decided cases:
In Metro Nominees (Wandsworth) (No.1) Limited v. Rayment [2008] BCC 40, a landlord sought permission to exercise a right of re-entry against a company in administration. It was held (by Judge Norris QC), applying the guidance in Atlantic Computers, that permission should be given to the landlord to forfeit the lease. The dominant factor in granting permission was that the unsecured creditors' interests would largely be unaffected by the giving of permission to forfeit. Shortly after the company had entered administration, a sale of its undertaking and assets to a new company had been agreed, which included the agreement for the sale of the leasing question for £1. The judge appears to have been unimpressed by the fact that "the administrators were really acting as front men for" the new company, and that the unsecured creditors' only interest in the outcome of "the landlord and tenant battle" was in receiving that £1.
If a landlord inadvertently begins proceedings in breach of the moratorium without having secured the requisite permission, the situation is not necessarily lost. It would appear that such proceedings are not a nullity, and that a late application can be made for permission to proceed (Carr v. British International Helicopters Limited [1993] BCC 855). Nevertheless, a breach of the moratorium provisions may give rise to a claim in damages (Euro Commercial Leasing Ltd v. Cartwright & Lewis [1995] 2 BCLC 618).
In Innovate Logistics Ltd (in Administration) v. Sunberry Properties Ltd [2008) EWCA Civ 1261, the Court of Appeal decided an application for permission to commence proceedings for breach of an alienation covenant in the context of a pre-pack administration. In that case, a company's frozen foods business was sold to a third party on the same day as administrator was appointed. As the court found, the purpose of the administration was to ensure the continuity of the business and the orderly collection of debts. The purchaser, who was the operator of another cold storage business, did not wish to take an assignment of the company's lease, but it was granted a 6 month licence of the relevant premises at a fee which enabled the administrator to continue to pay the rent. However, the landlord complained that this arrangement was a breach of the alienation covenant in the lease of the premises. As the purpose of the licence was to enable the purchaser to continue trading from the premises so that the administrators could collect the debts, the court decided that the purpose of the administration was not achieved simply by the sale of the business. The company was still to derive substantial benefit from the arrangement, and this required the purchaser temporarily to remain in the premises. The court accordingly held that the intended proceedings would impede the administration and the achievement of its purpose, and that as in the meantime the landlord was still receiving its rent, the Atlantic Computers balance favoured the company. The Court of Appeal exercise discretion afresh, and permission was refused.
In the decision of Goldacre (Office) Ltd v Nortel Networks UK Ltd (In Administration) [2009] EWHC 3389 (Ch), the court held that an administrator was liable to pay in advance a full quarter's rent contractually due under a commercial lease as an expense of the administration pursuant to Insolvency Rule (IR) 2.67, notwithstanding that the administrators were only occupying a small part of the premises, the majority of which were sublet or unoccupied. Further, the court held that the administrators would remain liable for so long as the administrators retained the use of any part of the premises, no matter how small. Landlords will obviously be greatly encouraged by this decision, as the case could be seen as reversing a recent judicial trend in favour of administrators over the proprietary rights of landlords and will no doubt strengthen a landlord's position in their negotiations with the administrators of an insolvent tenant.
The impact of the moratorium on contracts generally
The enforceability of a contractual obligation will generally depend on whether the obligation arose before or after the administration. Those that arose before the administration will be "money claims" and will be enforceable only in exceptional circumstances. In Re Nortel Networks UK Ltd (In Administration) [2010] EWHC 826 (Ch), the court held that it would be in an exceptional case that the court would give a creditor whose claim was simply a "monetary one" a right by the taking of proceedings to override and pre-empt the statutory moratorium machinery. By contrast, contractual obligations (for payment by a supplier for example) entered into after the administration, and usually by direct negotiations with the administrator, will be payable as an expense of the administration.
Entering into administration does not automatically terminate the company's contracts and the administrator (unlike a liquidator) is given no express power to disclaim a contract if "onerous". The administrator may nonetheless, after weighing the interests of the company against those of the creditors, decide, on a balance of fairness test, not to perform the contract if non-performance would help to achieve the purpose of the administration. The moratorium does not prevent counterparties from terminating contracts with the company and it is a typical term of many contracts that they may be terminated upon the company entering into and insolvency procedure such as administration. The administrator may therefore need to negotiate with key suppliers and customers of the company if he wishes to enable the company to continue trading.
The impact of the moratorium on the repossession of stock, equipment and goods (and retention of title)
The moratorium prevents steps being taken to repossess goods in the company's possession under a "hire purchase agreement", and this phrase is given in the extended definition to include a conditional sale agreement, a chattel leasing agreement and a retention of title agreement (Schedule B 1, para 111(1)). The restriction of an owner repossessing such goods applies not only where the goods of physically in the possession of the company, but also when the company has released, hired or passed physical possession to a third party (Re Atlantic Computer Systems plc [1992] Ch 505). However, it is probable that an owner's demand for return of his goods from the administrator is not the taking of "a step" to repossess in contravention of the moratorium (Barclays Mercantile Business Finance Limited v. Sibec Developments Limited [1992] 1 WLR 1253).
A party relying on a retention of title clause should ensure that there is an express term in the contract for the supply of goods limiting the ability of the receiving party to deal with the goods in the event of an administration. The Court of Appeal held in Sandhu (t/a Isher Fashions UK) v Jet Star Retail Ltd & Ors [2011] EWCA Civ 459 that no term will be implied in contracts for the provision of goods on retention of title terms, limiting the ability of the receiving party to deal with the good solely in the usual course of its business. Accordingly, unless there is an express provision to the contrary, there is nothing preventing an administrator from dealing with goods held on such a basis. In Sandhu, the Claimant issued a claim on the basis that the Defendant, which was in administration, had no right to deal with goods supplied to it by the Claimant on retention of title terms. The Claimant's claim was based on the argument that whilst the supply contract permitted the Defendant to deal with the goods, that permission was limited to dealings in the ordinary course of the Defendant's business, which trading in an administration fell outside of. The supply contract expressly provided that the Claimant could serve notice preventing any further dealing with the goods in the event that the Defendant entered any informal insolvency process. However, no such notice was served. The Court of Appeal affirmed the decision of the High Court to the effect that it is within the parties' rights to include an express provision limiting the permitted uses to those in the ordinary course of the recipient's business and stated that it was of the view that in such a case trading in administration would fall outside the ordinary course of business. As such, if notice had been served by the Claimant under the relevant provision it would have been effective. However, in the absence of any express provision none would be implied.
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