Like many pieces of well-meaning legislation, pre-packs (or pre-packaged sales) are neither without flaws nor without just criticism; however many of the controversy surrounding them relates more to the way in which they have been misused than to serious failings with the system itself.

Pre-packs have been held open to abuse as being essentially a new twist on the old problem of asset-stripping.  The Insolvency Service took steps to stop this by introducing new guidelines for Administrators, which took effect in January 2009.  One of the key points of these guidelines is that Administrators must provide creditors with both the name of the buyer in the pre-pack transaction and whether or not there is any connection between the buyer and the company.  The Insolvency Service has also indicated that although these guidelines are not actually points of law, failure to follow them could leave Administrators open to disciplinary proceedings.  They have also indicated that they will rigorously pursue any directors who use pre-packs as a means to dispose of company debts before buying back the healthy part of the business.

There have also been concerns raised that Administrators may have their professional judgement swayed by the need to win business for their company.  In other words, if company directors have decided that they wish to implement a pre-pack, they will have a preference for appointing an Administrator who will support them in their plans.  There were allegations that Administrators were tacitly accepting the creation of Phoenix companies (raised from the ashes of pre-packs) purely because they were made aware that they were being offered the business on this basis.  The 2009 guidelines address this situation and creditors who have concerns about the manner in which a pre-pack has been conducted can contact the Insolvency Service directly through their hotline as a simpler alternative to initiating legal proceedings.

Possibly the biggest issue with pre-packs is the fact that they can be organized in secrecy.  Unsecured creditors do not have to be consulted before the sale takes place.  (Secured creditors do as they have to agree to their security being released).  This is a complex issue.  While it is true to say that, in theory, unsecured creditors usually have the opportunity to recover more of their money if the standard Administration procedure is followed, it is also fair to say that many companies use pre-packs because they have literally run out of money (or very nearly so) and simply would not survive long enough to go through Administration.  This being so, the aim of the pre-pack process should be to sell as much of the business as possible for as much money as possible.  If it becomes public knowledge that a business is being sold due to financial difficulties, its value may drop dramatically, which is why pre-packs are often highly confidential proceedings.  There is also a very real risk of losing key employees, which could devalue a business still further, particularly if they move to a company’s direct competitors.  Again, if creditors believe that they have been meaningfully disadvantaged by the pre-pack process, they can contact the Insolvency Service for assistance.

The 2009 Insolvency Service guidelines have gone a long way towards rectifying concerns about pre-packs.  While they remain under scrutiny, all indications are that they will remain in much their current form for the foreseeable future.

The pre-pack system has been under investigation yet again but is seen as an unnecessary exercise. The government began another consultation to look into the practice that has given struggling companies a way to organize the business’ sale prior to it entering into insolvency. This results in the said company leaving the administration free of most of its heavy debt.

There was a previous proposal that creditors should be given a three-day notice prior to the effectivity of the pre-pack administration in order for them to challenge the said deal. But after months and months of consultation over this proposal, it seems the issue is alive again. This new movement in the issue even has the method’s critics surprised that this is being discussed yet again since criticism on the matter have calmed down over the past few months—unlike how it was during the peak of the financial crisis.

Pre-pack administration has helped a company like AEA Technology. It has once been part of the Atomic Energy Authority that has been advising both the US and UK governments. AEA couldn’t afford its pension liability worth £165m. That is why last November it entered into pre-pack administration and it was sold almost instantly for £18m.

This move has managed to save about 390 jobs but has left Lloyds, the group’s sole banker, with most of its estimated £48m worth of loans to the British-based company. A consultancy called Ricardo, AEA’s buyer, did not take on the pension liability. Instead, they passed it on to Pension Protection Fund, a controversial move that tends to leave creditors that are unsecured quite vulnerable. When this happens, the pension fund is usually cast aside and will have to be saved by PPF.

To be honest, pension schemes and the PPF might not be as welcoming when it comes to changes in the practice, even if it is seen that pre-packs make for a good excuse to push liabilities on to the fund. However, PPF seems to endorse this revived consultation because it gives a company’s creditors a better understanding of what will happen to them at a company that is struggling. They want transparency to be included in the process so the parties involved would know what they were getting into.

But a few industry insiders believe that there has not been concrete evidence of pre-packing leaving any person or companies involved worse off than it has been. In fact, it may have aided in keeping pension liabilities under wraps with the help of PPF.