Running a business has always been a challenge, but the global pandemic has been one of the toughest that company directors have encountered. Directors face some important challenges that they will need to recognise as such and make the right decisions in response. We look at the decisions that directors of small or medium-sized companies in the UK might be forced to take
1) Early warning signs
Signs of financial stress include lower turnover, declining margins, and an increase in customer complaints or returns. Directors must act in good time in order to adjust their direction if necessary.
2) In the eye of the storm
A director that has read the signs and prepared accordingly will be able to survive a short storm. They may have cut costs or raised funds to tide it over if necessary. But if they are buffeted by a prolonged crisis and meet other unexpected hazards, a company’s survival may be at stake. For instance, it may have seen its products superseded by technological developments or embargoed in key markets, or fallen victim to rivals’ more nimble manoeuvring. Any of these would raise the prospect of longer-term losses.
3) Statutory demands/Winding-up petition
The company may be particularly vulnerable to creditor action, such as statutory demands, which
can lead to a winding-up order. Even at this point, it may be possible to batten down the hatches and ride out the storm or find a way to stabilise the business. But it will take considerable skill to do so.
4) Take advice
If directors haven’t already sought expert advice, now is the time to do so.
5) Breathing space
The Corporate Insolvency and Governance Act 2020 allows companies a moratorium against creditors, but only when a firm can’t pay its debts and it’s likely a moratorium would rescue it as a going concern. This provides breathing space but isn’t a solution; using a moratorium requires careful consideration.
6) Hard choices
The company director has to decide whether to battle on or abandon ship. There are a number of options available, depending on the position of the business. Here are five of them.
If the decision is made to carry on, this will require expert advice in helping find additional sources of funding as well as decisions over whether to sell off parts of the business and how to cut costs.
If the company is insolvent, there are different challenges. Directors must then act in the interests of creditors (rather than shareholders) and can be personally liable for breach of their duties or insolvency law. If they continue running a loss-making business and incurring more debt, it would be like running a ship into a reef with the near inevitable consequence. The question then is what can be saved and how?
If directors are unable to turn around a failing company, it is likely that the company will ultimately face compulsory liquidation (wound up by the court). The company’s assets are then liquidated and proceeds distributed to creditors (and shareholders if sufficient). In practice, the company has few, if any, assets to pay creditors. Depending upon the circumstances, the directors may face sanctions.
If a company is unable to pay its debts (is insolvent) it may be put into administration. It is then under the control of the administrator who is required to meet certain statutory objectives including rescuing the company as a going concern or, failing that, achieving a better result for the company’s creditors as a whole than if the company were wound up. The company in administration benefits from a moratorium against creditors.
Administration may lead to various outcomes, including a Company Voluntary Arrangement (CVA, see below) or, ultimately, liquidation. One common outcome is for all or part of the business of the company to be sold to a third party (the proceeds being used to repay creditors of the company so far as possible). This may preserve jobs and business, but typically involves losses for some creditors (and shareholders).
Company Voluntary Arrangement
It may still be possible to save the company largely intact. For instance, a Company Voluntary Arrangement may allow a company to avoid liquidation by coming to a binding agreement or compromise with its creditors with minimal involvement of the courts. The company’s assets then come under the control of a supervisor, rather than the directors.