Friday October 2, 2020

How light touch administrations can be used to help companies in distress

The COVID-19 pandemic has brought to light a powerful element in an administrators’ existing arsenal – a process that has become known as the ‘light touch’ administration.

Instead of assuming full management responsibilities – a usual course of action in administration proceedings – ‘light touch’ administrations involve administrators permitting the continuation of certain management powers to a business’ existing management team; leveraging their existing expertise including organisational and sector knowledge to help support the administration’s purpose.

Due to the unforeseen pandemic and its unprecedented effect on businesses, there has been further cause for the appointment of ‘light touch’ administrations as many businesses were in difficulty due to external factors outside of their control.

However, they are still relatively rare and can be limited in their useful application, although understanding how they work, and learning from recent cases, can undoubtedly help us to support businesses in distress.

What are ‘light touch’ administrations? What are their strengths, and where are their limitations?

The ‘light touch’ administration is an underused tool for insolvency practitioners, but the foundation of these processes have long been established by UK insolvency law.

From a legal perspective, the contemporary ‘light touch’ administration is underpinned by the stipulations of paragraph 64 of Schedule B1 to the Insolvency Act 1986, which grants administrators the power to allow a company’s existing management team to continue running a business in administration – with their supervision – without having to seek creditor approvals first.

Within this framework, a ‘light touch’ administration involves administrators consenting to the management team of a business in administration carrying out certain management functions while the administration is underway. The ‘light touch’ of the name reflects this structure.

As a result of delegating certain responsibilities, administrators take more of a supervisory role in the running of the business while it is in the administration process – working alongside management teams, rather than replacing them outright. This can offer a number of advantages.

Firstly, it enables administrators to supplement their own expert skillset with the on-the-ground knowledge of management team members to ultimately bolster the business’ chance of being successfully rescued.

Maintaining consistent leadership, and preserving relationships that management team members hold with internal and external stakeholders, can help to minimise disruption throughout the administration procedure.

The administrators are intrinsically involved in the day to day running of the business, however by avoiding the need to replace every management function with a member of an administrator’s team, it can help to lower the cost of administration.

‘Light touch’ administration will not be suitable in all cases.

Ultimately, the process hinges on administrators and stakeholders having full confidence that the continued inclusion of a firm’s leadership team in its management serves the best interest of the company overall.

In many instances, that confidence will have been shaken, and full management responsibilities will be assumed by the administrators – as some creditors may prefer to work directly with the insolvency practitioners while a business recovers. Against this backdrop, ‘light touch’ administrations will likely only be pursued in instances where firms are deemed to need the protection of administration through no fault of leadership team members themselves.

What are the key considerations for carrying out a ‘light touch’ administration?

The success of a ‘light touch’ administration will ultimately hinge on the administrators managing the risk of any behaviour that would jeopardise the administration procedure, while being able to execute their statutory duties and, if possible, rescue the company as a going concern.

With this in mind, the very first consideration will be determining whether a ‘light touch’ administration would be appropriate for the business in question.

To be suitable, the senior leadership team needs to be well advised, experienced and mindful of their fiduciary responsibilities. The administrator must have a high degree of trust in the integrity of the management team.

In addition to reviewing the leadership, it will be important to assess the strength and quality of a business’ internal processes and financial reporting – administrators should be satisfied that these are robust enough to protect against vulnerabilities like fraud.

Establish a consent protocol

As a ‘light touch’ administration involves delegating management responsibilities, administrators will need to establish exactly what management teams will, and won’t, be permitted to do as their next action.

This is achieved by establishing a ‘protocol agreement’, commonly referred to as a ‘consent protocol’ – a contract that establishes powers that company directors are authorised to hold and the conditions they must comply with to exercise these powers.

The details of a consent protocol will vary from business-to-business. However, it could set parameters around commitments to costs which would rank as expenses of the administration, payment authorisations, consent to administrators having access to company bank accounts and stipulations on how and when directors are expected to report to the administration team.

The consent protocol is the foundation to a ‘light touch’ administration’s execution, so careful consideration should be given to what powers are permitted.

Protocols can be adjusted as administrations proceed, but in our experience it is better to set stringent parameters from the outset as it will likely be easier to relax restrictions at a later date than to tighten them later down the line.

Set control and oversight procedures

Once consent protocols have been agreed, administrators will need to review the current business processes and reporting lines to ensure sufficient control is maintained. Any weaknesses identified will need to be augmented with additional controls.

The administrators will need to determine how they efficiently deploy their own team members to ensure adequate supervision without duplicating efforts – the very nature of a ‘light touch’ administration means that administrators don’t need to replicate every role in a management team, but will need to ensure they have enough ‘touch points’ to have sufficient control of operations.

Initially cash payments and undertaking commitments with suppliers are fundamental to control and reporting lines should be established to ensure that administration expenses and payments out of the business cannot be effected without administrators’ staff sign-off.

Initial negotiations with suppliers can be undertaken by company staff with strict parameters around what agreements can be made, this can be augmented by the administrators’ staff.

Having a process like this in place means you are able to leverage the insight and experience of the management team, while carefully controlling costs and cashflow in line with the administration’s objectives.

Communicate

But it’s not just enough to establish control mechanisms – they also need to be communicated to all relevant stakeholders.

This will naturally involve internal communication – outlining to heads of departments and their teams what powers they do and don’t have – but should also be extended to stakeholders outside the business.

The administrator should contact the business’ suppliers on day one of appointment to explain that all costs and commitments need to be first approved by a member of the administration team. Employees of the business would be able to provide evidence to suppliers that an agreement had been fully approved.

Ultimately, this is to help reduce the risk of unauthorised and unexpected commitments – if suppliers are also aware of the controls in place, they are less likely to agree to an unsanctioned commitment. Most suppliers will wish to conclude negotiations directly with the administrator rather than with their existing relationship contact within the business.

Despite best efforts to the contrary, it is possible that single staff members working independently attempt to work outside of the agreed framework to negotiate their own deals without sufficient authorisation.

These actions should be identified by control processes implemented and potential commitments not authorised with no detriment to the estate.  Ultimately, strong oversight procedures and good communication – with internal and external stakeholders – will help to reduce the likelihood of such incidents occurring, and minimise the risk to the administration team.

What does the future hold?

COVID-19 has generated specific circumstances where ‘light touch’ administrations provide an effective method for protecting otherwise viable businesses against creditor action.

In the long-term, ‘light touch’ administrations are likely to remain relatively niche. This is precisely because the conditions in which they are likely to be a viable option – specifically, where a business is forced to enter administration due to pressures outside management team’s controls – are so rare.

Despite this, their value should not be overlooked.

Where conditions are right, ‘light touch’ administrations can provide administrators with an effective method for protecting and stabilising a company in times of distress – leveraging a management team to help give a business the best chance of survival, while reducing disruption and cutting costs.

This article was first published in RECOVERY in September 2020.