What is Voluntary Administration?
Voluntary Administration is the legal procedure used as a rescue mechanism by companies that are having financial difficulties to prevent liquidation. It involves the appointment of an independent Administrator that is made by the Directors of the company. When the appointment is made, the Administrator manages the affairs of the company so that the best possible outcome is achieved for all persons that have an interest in the business.
Understanding Voluntary Administration
When Companies get into trouble, the Directors must find a way of dealing with the situation that is before them. The options of the past have only been liquidation or to fight it out with creditors as they run out of patience. There had to be a middle ground where Companies that could survive, were given an opportunity to do so. Voluntary Administration, or VA as it is commonly known, is that answer. Voluntary Administration was incorporated into New Zealand law in 2006 and came into force on 1 November 2007. It is now widely accepted as being an alternative to liquidation.
How VA can help Companies in financial distress
A Company experiencing financial difficulties is backed up against a wall with options available to it being less and less as the situation gets worse. The real value in the business activity starts to become drowned in a torrent of creditor demands and claims. Voluntary Administration puts an immediate and effective stop to all that activity for two very important benefits; the creditors can get to understand their actual position in the Company, and the Company can get some breathing space to organise a recovery plan for creditors to consider.
Considering VA as an option
Voluntary Administration cannot create viability, but it can liberate it. The candidate Company is one that will have inherent value and is viable. The situation that it is confronting may have been because it has suffered an event, like a single project loss, or it has a cost burden that, if freed from, would return it to profitability. Voluntary Administration is not magical though. Like everything in life, it requires commitment, fortitude and skills. All three must be applied to a commercial activity that has the potential to recover based in its actual or potential viability.
The VA model
The Voluntary Administration process is made up of three separate parts; the initiating phase, the investigation phase and the decision phase.
The initiating phase starts by the appointment of the Administrator. This is normally a simple document executed by the Directors. This phase ends on day eight when the first meeting of creditors is convened, and the Directors appointment is affirmed by the Creditors.
The investigation phase involves the Administrator engaging in the affairs of the Company so that a better understanding of the business can be gained and a proposal for rehabilitation and recovery can be submitted to creditors.
The final phase is the decision phase. This starts on day twenty when the Administrators Report is provided and ends on day twenty-five when the Watershed Meeting is held.
Some important facts before we get to the Watershed Meeting:
- The Administrator becomes heavily involved in the affairs of the Company from Day one.
- The day count is for working days only. For example, statutory holidays are excluded from the count of days.
- Full control of the business is passed to the Administrator at the time of the appointment.
- The Directors remain in office but are not entitled to speak or contract in the name of the Company without authority.
- The devolving of power has an obligation attached to it. The Administrator is personally liable for all the obligations of the Company during the Administration that have been authorised by the him or her.
- The Administration is designed to be quick so that the outcome of the Company can be determined without delay.
- During the period of the Administration, day one to the date of the Watershed Meeting, creditors rights are severely curtailed. For example, the landlord cannot re-enter, suppliers cannot recover product and guarantors cannot be called upon to meet the Company’s obligation.
- Any Court proceedings for liquidation can be adjourned on application until the end of the Administration.
- The duration of the Administration can be extended by consent of the Court. This often happens in complex commercial situations where twenty working days is not enough to get a thorough understanding of the business and prepare a report for the creditors.
- For voting purposes, shareholders that have contributed funds to the Company are probably creditors and have equal footing to third party creditors.
The Watershed Meeting
The Watershed meeting is held on day twenty-five. It is called a Watershed Meeting because it is a watershed event in the life of the Company. On day one the Directors devolve power and authority to the Administrator for the purpose of investigating the affairs of the Company and proposing a solution that is contained in the Administrators Report.
The law is very clear when it states that the object of the Voluntary Administration is to administer its affairs in a way that maximises the opportunity of the Company to continue in existence. Clearly the law proposes VA as an alternative to liquidation and it is the mission of the Administrator to achieve that outcome. How this will be done is unique to each different Company and will be covered fully in the Administrators Report.
The ultimate decision now though, around the Company’s future, rests with the Creditors. And it should be so when fully considered because it is highly likely that the creditors have a bigger stake in the Company than its shareholders.
The rights to decide though are restricted to three options as shown in the diagram below. The Administrators Report, delivered to Creditors before the Watershed Meeting, will have a recommendation that is designed to bring about the best possible outcome for both Creditors and Shareholders. The ultimate outcome is that the Creditors support a Deed of Company arrangement.
The Deed of Company Arrangement
Often called a DoCA, this is the document that is the basis of the agreement reached between the Company and its Creditors. It is the deal that has been struck to ensure that the Company can continue to trade. There will be standard terms involved but at the heart of the document is the arrangements made to ensure the Company survives and that liquidation is avoided.
If a DoCA is recommended the terms of the it will be spelt out in the Administrators report. If approved by the Creditors at the Watershed Meeting, the Administrator will prepare the DoCA and ensure it is executed within 15 working days.
Some important points about the DoCA:
- When the DoCA is signed the Administration comes to an end and the period of the DoCA commences.
- It is not uncommon for the period of the DoCA to be two or three years. Often it will take this length of time for the rehabilitation of the business.
- The Administrator will become the Deed Administrator and will now have a co-operative role with the Directors of the Company.
- Creditors that were owed money before the commencement of the Administration are typically subordinated so that the Company can meets its current obligations as they fall due. The deal will often include payment of the frozen amounts across time from future profits earned.
- The DoCA will include many points that are important to the Shareholders. A term that is frequently included is that Creditors are prevented from pursuing guarantors while the DoCA is in force.
Starting Voluntary Administration
Starting the VA process is very simple. All that is required is the resolution of the Directors to appoint an Administrator. There are other ways (secured creditor, Court, liquidator) for the VA to commence but the most common way by far will be by resolution of the Directors.
The act of starting the Administration by the Directors is really a statement saying that they have run out of options to deal with the affairs of the Company and the Company needs the protection of the VA process to see if liquidation can be avoided. There is an important time limitation though regarding the Directors right to start the process. If a creditor has started liquidation proceedings against the Company, the Directors have only ten working days to make an appointment or their right to do so is lost.
Costs of the VA
Costs of the Administration is an obligation of the Company that is making the appointment, not the Shareholders or Directors. There should be open discussion on this topic before the VA starts to ensure all parties know what is expected of them. The VA is first and foremost an activity designed to restore the business back to good health. The costs of running the process cannot be so great that rehabilitation can’t be achieved because of the cost burden of that process. Full and frank discussion is required before getting started.
Selection of Administrator
Choosing an Administrator is vital. The Voluntary Administration process is a major event in the Company’s life and the person chosen to run that process will have significant impact on the outcome.
Preventing liquidation by way of Voluntary Administration is by no means an easy feat. The start of the process disrupts everything that is normal, and a great flurry commences with everyone scrambling to understand what has happened and how it will affect them. This a time when a cool head counts, and experience is essential.
The VA brings heavy time demands to meet the requirements of an organisation that has been impacted by a major event. Dealing with all the new issues requires dedication and commitment from both the Administrator and Directors.
The establishment of the business that is now faltering will most likely have been created with many years hard work, self-denial and financial commitment. The circumstances that it is now in will not have occurred overnight and will not be repaired instantly. Can it be done, and should it be done are big questions to be answered but they should be asked because liquidation is final and, often, all that is really required is some breathing space to recreate the business in current terms.