Pre Packs – Pros and Cons

Pre Packs – Pros and Cons

When other alternatives such as re-financing or a Company Voluntary Arrangement (CVA) have been considered and, for whatever reason dismissed, a pre-pack administration is sometimes a viable way forward. There are pros and cons.

The reality of a business going through insolvency is that the creditors very rarely receive all of the money owed to them. It is therefore more accurate (and helpful) to consider what creditors might reasonably expect in a distressed situation. When other alternatives such as re-financing or a Company Voluntary Arrangement (CVA) have been considered and, for whatever reason dismissed, a pre-pack administration is sometimes a viable way forward. There are pros and cons.

Critics claim…

Pre-packs are a ‘rip-off’ – It is understandable that creditors who are informed of a pre-pack deal after the fact would be suspicious of the procedure. Critics also believe some business people use pre-packs to get out of debts and obligations so creditors lose out as a result.

It isn’t right that a business is sold back to the owner of the company – The sale of a business back to connected parties is not exclusively a feature of pre-packs. In 52% of all standard business sales the business was sold back to connected parties. This figure is 59% in pre-pack administrations. This differs from a ‘phoenix’ where the sale always involves the owner or connected parties. Faced with the decision between selling the business to a connected party or winding-up the company , the best decision for the creditors is to sell the business on, rather than allowing the business to fail as the returns would be considerably less.

On a more positive note…

They provide a better return for secured creditors –the average return for secured creditors in a pre-pack is 42% compared with 28% in a business sale. The average returns to unsecured creditors in insolvency cases, however, are very low, – pre-packs provide just 1% of return, whilst in business sales the average return is 3%.

The value of the business is retained – Pre-packs are deployed successfully when the business’ principal assets are the employees, forward contracts or intellectual property, as in all service businesses. Once word of a company’s financial difficulty gets out, it becomes much harder for IPs (Insolvency Practitioners) to retain the staff, suppliers and customers necessary to keep the company viable. Suppliers and customers will attempt to take their business elsewhere, leaving the company with few assets and, effectively, no business. Therefore, pre-packs are a tool to bring about the sale of a business which may have otherwise simply shut down.

There have been moves to improve the transparency of pre-packs. SIP (Statement of Insolvency Practice) 16 was introduced in January 2009 to require IPs to disclose to creditors why the decision to pre-pack was taken, the large amounts of associated information concerning that decision and the connections between the purchasing company and the company in Administration, i.e. the Directors and Shareholders.

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