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Buying an insolvent business – key considerations

When a company or a business enters into a formal insolvency situation it can look like the end of the road. However, it need not be as the underlying business, or part of it can still be viable and worth saving. In this article, our insolvency solicitors look at when and how a business can be acquired out of insolvency, what the process is and what differences arise when buying an insolvent business compared to a solvent business.

The benefits of buying an insolvent business

Correctly structured, the sale of business out of insolvency can have benefits for buyer, seller and the third parties who have an interest in the business.

  • For the insolvent business the prime benefit is the realisation of value in order to pay creditors and/or restructure its finances.
  • For the buyer the prime benefit is that certain legacy liabilities of the insolvent business can be left behind.
  • For employees it may be the case that their employment transfers to the buyer, preserving jobs rather than leading to redundancies.
  • For customers, suppliers, landlords and other third parties dealing with the business their commercial arrangements may continue when they otherwise would have ended.

Buying a business out of insolvency from an administrator or a liquidator:

Typically, when a company or business enters into formal insolvency, an administrator or liquidator is appointed to manage its affairs and it is with this person that a potential buyer will negotiate a potential purchase.

What is administration?

Administration is a rescue process, either of the company, or of the business or parts of it being sold as a going concern. An administrator is likely to either agree a sale before the company enters administration (known as a prepack) or trade the company for a short time to enable a sale as a going concern.

What is liquidation?

Liquidation is a more permanent remedy, and the company is not expected to recover. Assets are collected and creditors paid by the administrator to the extent possible. However, sometimes it is possible for a liquidator to sell a business by way of a prepack sale, similar to an administrator, while the company is still trading.

The process:

The administrator and liquidator are collectively known as the office holder. The business is not sold by the existing directors but by the office holder acting for the company or business. Therefore, even if it is sold by way of a prepack, the sale will only complete on or after the date the office holder is appointed.

Because an administration is more of a rescue remedy than liquidation it is more often the case that a buyer will buy a business from an administrator rather than a liquidator. However, the process is very similar for both, particularly if buying via a prepack sale. In administration, the company may be traded for a while post appointment of the administrator, allowing more opportunity to effect a sale as a going concern if necessary.

How is the insolvent business valued?

Office holders have specific professional rules they must follow when selling an insolvent business, and these are stricter if selling to an existing director or directors of the company or business in insolvency, which is frequently the case. They must be independent, they must obtain an independent valuation of the business, and they must allow for a reasonable marketing period for the business before agreeing a final sale price. This ensures that the best price overall is obtained for the business in the best interests of the creditors overall. This remains the case regardless of who brought about their appointment.

It is frequently the case that a new company will be set up by directors of the insolvent company or business to make an offer for sale of the business, and they may be vying with competitors in the market. However, often the only offer for the business will be from the former directors, who know the business and believe the viable parts can be saved, in particular the goodwill they have built up over the years. This inside knowledge can put the former directors in a strong bargaining position with the office holder.

How do I purchase an insolvent business?

On a practical level, once the offer has been accepted by the office holder, the sale will go ahead as soon as possible. Delay can have a negative effect on the value of the business in many ways, so time is of the essence. Too much delay can see employees and customers and suppliers move on, and goodwill diminish.

The office holder will arrange for a sale agreement to be drafted by their solicitor, and the buyer will instruct their own solicitor to act for them on the sale.

What are the key differences when buying an insolvent business?

There are quite significant differences when buying an insolvent business from an office holder compared to a solvent business. The main one is that it is the office holder selling the business, not the directors, and therefore their day to day knowledge of the business is necessarily sparse by comparison.

It is also the case that an office holder is under a duty to deal with an insolvent business without unnecessary delay. For that reason, they are less likely to agree a deferred purchase price unless this is very limited, and they will not give the usual representations or warranties. The business will be ‘sold as seen’ with very little, if any, recourse.

There is therefore very limited opportunity for a potential purchaser to complete any due diligence, but this is inevitably reflected in the price. Equally, there is little room for negotiation of the terms of sale.

Aside from price and risk the main key differences are:

  • The officer holder will not accept any personal liability under the contract save for reasons of negligence or similar.
  • The standard protection of the purchaser under the Unfair Contract Terms Act 1977 will usually be explicitly excluded in the sale contract.
  • The buyer will usually be expected to indemnify the office holder in respect of all future claims concerning the business and assets after the sale. This is because once the sale has gone through, the company or business itself is not likely to continue in existence for more than a few months, and so any future financial claims against the business must be down to the buyer.
  • Due to the speed of the transaction, the sale will often complete before consents or new contracts are obtained, even if these are sold under the contract. So, for example, while a licence may be granted for the buyer to remain in the business premises for a limited time, a lease assignment will need to be agreed and negotiated separately with the landlord following sale. Similarly with any equipment on a hire purchase agreement.
  • The sale agreement may include customer or supplier lists but novation of contracts will inevitably take place following sale, and are therefore ultimately subject to the agreement of the customers or suppliers. This is a risk that is taken by the buyer, and the sale price should reflect this.

A buyer will usually accept these risks as they are often overridden by the discount applied to the sale, and if the buyer was a director of the company or business in insolvency, they will be able to make an educated decision on how high these risks are.

How can we help?

Buying a viable business from an office holder can be both a risk and an opportunity for a buyer. At Harper James our corporate and insolvency solicitors have many years of experience in advising buyers of insolvent businesses and acting for office holders on selling them and can work for you to reduce the risk of purchase and address all relevant issues.

About our expert

Eleanor Stephens

Eleanor Stephens

Senior Recovery & Insolvency Solicitor
Eleanor Stephens is a senior insolvency solicitor with over 20 years' specialist knowledge in all aspects of insolvency, both corporate and personal, covering contentious and non-contentious matters.

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