The first step on the road to recovery
1 Feb 10
Amidst the expected flurry of administrations and liquidations last year, a previously little-used insolvency procedure – the company voluntary arrangement — emerged. Blair Nimmo describes the procedure and outlines the mechanics of the process and the benefits it can offer to both a company and its creditors
by Blair Nimmo
Put simply, a corporate voluntary arrangement (CVA) is a proposal made by a company to its unsecured creditors to compromise or settle its debts in some way. It is a flexible process that can be tailored to the exact situation and needs of a business, for example rescheduling payments, renegotiating contracts and compromising existing liabilities.
The key features of a CVA are that the existing corporate entity stays intact, the existing directors retain control throughout the process and the restructuring proposals are subject to the approval of the company’s creditors.
Historically, CVAs have generally only been used in highly specific cases. In Scotland, the best example of this is in relation to insolvent football clubs, where a CVA has been used as an exit route from administration. In these cases, the company was already insolvent and under the control of an administrator. Recent practice has, however, seen the CVA used as an alternative to administration altogether.
High-profile examples at JJB Sports, Focus DIY and, most recently, outdoor store Blacks have demonstrated the effectiveness of the CVA in restructuring under-performing businesses. The flexibility of the process in these cases allowed directors to tailor proposals to suit their specific circumstances, including compromising closed store lease liabilities and rescheduling rental payments to assist cash-flow (moving payment terms to monthly in advance instead of the traditional quarterly in advance payment).
This has allowed the business to continue trading and, hopefully, return to viability – saving jobs, providing a higher return to creditors than might have been achieved otherwise and allowing the possibility of re-establishing shareholder value. It has also provided a return to unsecured creditors, who in many cases would be exposed to almost total loss of monies due to them were the business to have entered administration.
Mechanism
The CVA process is simple and quick. All that is required is that 14 days’ notice of a proposal be given to creditors and shareholders. Thereafter, provided the support of 75 per cent of creditors is obtained (by value of debt), implementation can be immediate. Typically, a company will consult closely with its creditors prior to issuing proposals in order to give them the best possible chance of being approved. This engagement of creditors also helps build trust and bring transparency to the process.
The support of other major stakeholders is also vital, particularly in instances where they are being asked to continue to support the business post-implementation. While a secured creditor may not have a vote on the proposal, their decision on whether to support the business or not is often the difference between a proposal being viable or not. Members are also entitled to vote on the proposals, with the acceptance threshold being set at 50 per cent by value of shareholding; however, the members’ vote cannot over-ride the creditor vote. Finally, a 28-day challenge period is allowed.
Benefits
The CVA offers a number of significant benefits. For company directors, the ability to retain control of the company is usually most significant. This has the knock-on benefit of making a CVA significantly cheaper than administration, in that it avoids the cost involved in an insolvency practitioner taking executive control of the day-to-day running of a business. It also reduces the risk that the business will quickly deteriorate, which can be seen in an administration as the stigma of insolvency causes customers and suppliers to lose confidence.
With regard to a company’s creditors, the CVA offers a more open process which seeks their approval of the proposals. This is as opposed to the perceived fait accompli nature of a sale of a business through insolvency, where unsecured creditors often receive nothing. Without the support of unsecured creditors, the proposals cannot be implemented. In addition, they may also propose amendments to the proposals at the creditors’ meeting.
Set against these benefits is the fact that, except for small companies, no protection from creditors is offered until a CVA is implemented. Therefore, in order to implement a CVA, a business requires sufficient working capital to trade through the process. It is therefore important that CVAs are planned in advance, as by the time a business runs out of cash it is too late and administration, in order to obtain protection from action by creditors, is inevitable.
This lack of protection is widely regarded as the reason why CVAs have not been more commonly used. Recent cases have shown, however, that with careful communication and management of creditors it is not essential, even where there is a very real possibility of administration if the CVA proposals are rejected.
The Government is currently consulting on extending protection from creditors while negotiating a CVA to medium and large-size companies. This is likely to remove the case for going into administration simply to secure protection from creditors and is therefore likely to see the use of CVAs increase significantly.
This could bring about a shift in the “centre of gravity” of corporate rescue, moving away from the creditor-led process which was traditionally the norm in the UK, to debtor-led restructuring. Certainly, it is likely to see CVAs become a key restructuring option for distressed UK companies.
BLAIR NIMMO CA is head of restructuring with KPMG in Scotland.