Insolvency gravy train to hit buffers?

It’s becoming increasingly apparent that the world of insolvency has become an unregulated free-for-all where it no longer seems to matter in whose hands property or assets end up.

Even supposedly reputable accountancy firms such as Deloitte, Ernst & Young, KPMG and PwC have been known to ‘stitch-up’ insolvencies to suit narrow interests — including their own and those of favoured bankers and business partners.

One of the insolvency practitioners’ favourite tricks is to extend the duration of insolvencies so that dividends due to creditors end up lining insolvency practitioners’ pockets (through exorbitant, time-based fees). Another is to dump unsecured creditors or illegally cherry-pick creditors through the abuse of pre-packaged administrations.

The latter seems to have happened in PwC’s recent pre-packaged administration (prepack) of Aviemore Highland Resort (see my Sunday Times column from about four months ago, “The revolving door that shuts out taxpayers“). PwC insolvency partner Bruce Cartwright assured me at the time that this insolvency was all perfectly legal and above board.

However people with knowledge of the matter argue that it doesn’t seem right that the state-owned Lloyds Banking Group is having to write off the bulk of its £46m loan to Aviemore Highland Resort, while small local creditors (food suppliers etc) get paid off in full.

They’re also wondering why the resort’s former part-owners, who became its sole owners following the pre-pack — Donald Macdonald’s Macdonald Hotels — were able to wash their hands of AHR’s massive debts and continue to trade as though  nothing had changed.

To me, something stinks about this deal. When challenged on the matter in July, Cartwright cited Statement of Insolvency Practice 16, which took effect in January 2009, and assured me that everything that happened in the AHR pre-pack abided by those rules.

However one does wonder if this cosy pre-pack really met with the principle of clause seven, which states: “When considering the manner of disposal of the business or assets … the administrator must perform his functions in the interests of the company’s creditors as a whole.”

There are examples where administrations, receiverships and liquidations are imposed by banks or others without the appropriate Court orders in place. These include the FSA’s December 2003 liquidation of the accountancy firm Dobb White & Co and the 1988 receivership of Barry Chapman’s JS Bass Group of companies.

The professional services firms that were tasked with closing down the 50 or so companies destroyed in the notorious Bank of Scotland Reading scandal (an alleged fraud that cost the bank an estimated £1bn) also seem to have much to answer for. The firms concerned, which include KPMG, PwC, Vantis, MCR (formerly Menzies Corporate Restructuring) and Hurst Morrison Thomson (HMT), would appear to have mishandled these insolvencies.

The administrations in question took place between May and October 2007 as part of an attempt by the bank to cover up the Reading scandal. The companies’ assets were sold off at fire-sale prices to vehicles which, in many cases, were owned, controlled by or linked to David Mills (founder both of now dissolved Quayside Corporate Services and Core Enterprise Management and a director of off-balance-sheet vehicle The Sandstone Organisation) and his associates — even though higher prices could have been obtained on the open market

There’s also the curious case of Ury Estate in Aberdeenshire. This 1,500 acre estate near Stonehaven was acquired by Jonathan Milne’s FM Developments, with loans from Bank of Scotland, in 2001. FM planned to build a Jack Nicklaus-designed golf course, an upmarket hotel and over 200 houses on the site. But FM went bust in February 2009.

Administrator Fraser Gray of Zolfo Cooper then sought to sell the estate, appointing Savills as selling agents. But this turned out to be a bit of a farce / charade, since FM Developments had granted “an agricultural tenancy” and a “right to buy” to Jonathan Milne’s co-director and first-cousin-once-removed John I Forbes, with the blessing of Bank of Scotland, in 2003. Zolfo claims it is seeking evidence of the existence of the ‘right to buy’ and ‘agricultural tenancy’, but some observers suspect a disposal of the estate at a firesale price to Mr Forbes will follow.

In instances such as these, the people who are getting shafted include the public (in that they part-own the banks concerned, which readily accept low-ball bids for distressed assets, as long as these come from businessmen they “favour”), HM Revenue and Customs, other small  creditors — as well as notions such as truth and justice.

However it seems the politicians are wising up to the fact the UK’s insolvency profession may have become the favoured stamping ground for ‘Artful Dodger’ types. In April 2009, the Business & Enterprise Committee of the House of Commons produced a report into the insolvency profession that suggested public confidence will evaporate unless urgent changes are made.

The report stated that: “public confidence in the insolvency regime will be damaged unless prompt, robust and effective action is taken to ensure that pre-pack administrations are transparent and free from abuse. Unsecured creditors tend to be kept in the dark and recover even less than they would in a normal administration. This causes particular outrage where the existing management buy back the business and continue to trade clear of the original debts (“Phoenix pre-packs”). Pre-packs of this kind fuel understandable concerns about illegitimate, self-serving alliances between directors and insolvency practitioners.”

“The new practice statement, Statement of Insolvency Practice 16* is a responsible first step… but if this does not prove effective then it will be necessary to take more radical action, possibly by giving stronger powers to the creditors or the court.

“In the meantime, we urge anyone who suspects the abuse of pre-packs to contact either the Insolvency Service or the body that licenses the insolvency practitioner concerned. We also encourage large creditors, in particular HMRC, to take an active role in rooting out abuse.”

Let’s hope the coalition government of David Cameron grasps the urgency and significance of the Business and Enterprise Committee’s conclusions.

Given this background, today’s announcement that the Office of Fair Trading is launching a “market study” into corporate insolvency is also to be welcomed. Cynics may talk of shutting the stable-door after horses have bolted, but I say better late than never.

The ‘market study’ will examine the structure of the market, how insolvency practitioners are appointed and aspects of the market that “may result in harm”, such as higher fees or lower recovery rates for certain classes of creditors.

The OFT is launching the review following “concerns raised within government, including the Insolvency Service which is an executive agency of the Department for Business, Innovation and Skills  (DBIS), and the industry itself. The study will cover the whole of the UK. Initially, the OFT intends to analyse data from interested parties “including accountancy firms, law practices, government, regulators and trade bodies”.

The OFT said it will be speaking to key parties directly but is inviting anyone who else wishes to make a submission to write to:

Corporate Insolvency Market Study,
Office of Fair Trading,
Level 4C, Fleetbank House,
2-6 Salisbury Square,
London EC4Y 8JX.

Email corporateinsolvency@oft.gsi.gov.uk

This ‘market study’ could lead to enforcement action by the OFT; a reference of the market to the Competition Commission; recommendations for changes in laws and regulations; recommendations to regulators, self-regulatory bodies and others to consider changes to their rules; encouraging firms to take voluntary action; campaigns to promote consumer education and awareness; ‘a clean bill of health’ for the industry.

I sincerely it doesn’t become another whitewash.

•  To read Insolvent Abuse by Prof Prem Sikka, Jim Cousins MP, Austin Mitchell MP, Christine Cooper and Patricia Arnold, click here
• For Kevin Reed’s piece on the OFT inquiry, published in in Accountancy Age on 19 November 2009, click here
• * SIP 16 is always cited by insolvency practitioners when you challenge them on abuse of pre-pack administrations. Their classic line is to say something along the lines of”yes there were some problems in the past but it’s all fine now — since we introduced SIP16…”

This blog post was published on 12 November 2009