Why a Cva Can Be the Best Option for Insolvent Companies

A Company Voluntary Arrangement (CVA) is an extremely useful procedure under UK law for both shareholders and creditors of a company on the brink of insolvency. Because all parties have to agree to the procedure and approve it before it comes into being, it really is democracy in action.

With 75 per cent of all those with an interest in the outcome having to express that outcome, CVAs are unlikely to fall victim to disgruntled creditors or those with an axe to grind. Barring statutory or material errors – or lies or frauds – they are often the best way to bring about the best outcome for all those concerned with the company, including employees.
How does a CVA work? Essentially, the company makes an offer to its creditors in the form of a proposal, which the creditors must either accept, modify or reject.  If the creditors reject the proposal, the only effective course of action is for them to commence proceedings against the company.  A pre-requisite for a CVA is for the company to be, or about to become, insolvent. However, the company must also be viable in the longer term and there must be a value in maintaining the company, rather than opting for liquidation. It would not be sensible or appropriate to put forward a CVA as a solution unless it was reasonable to consider than the company concerned had a future.

In simple terms, a company is insolvent when its liabilities exceed its assets or and it is unable to meet its debts as they fall due. Once insolvency is admitted and documentation is issued to creditors, this is a formal acknowledgement of the start of the insolvency process. Creditors may then be entitled to institute winding-up proceedings. A CVA is a way of reaching a mutual acceptable solution for both the company shareholders and creditors and, where possible, achieving the best outcome for each party, without the company being wound up or put into liquidation.

Most CVA proposals are accepted, albeit with amendments.  Amendments cannot be made without the specific agreement of the shareholders, although can be put forward by the directors, the nominee, the members or the creditors.  There are also provisions to protect rights of preferential creditors, who are in most cases primarily employees with outstanding wages and holiday pay.

A CVA proposal has to be both logical and practically workable.  If, for some reason, the arrangement should later fail, the likely result is the liquidation of the company. The arrangement binds every debt that exists at the date it is accepted, which means that if an unexpected debt comes to light, that it does not necessarily derail the process.

“Unforeseen” problems can occur – there might be an unknown shortfall on a property sale, for example, or a large guaranteed creditor discovered, or a personal injury claim made late in the day. There are obvious cost implications to such issues, but an insolvency practitioner will engage in as much due diligence as is possible. The test is that, when it comes to background checks, valuations, levels and types of debts and checking documentation,  preparation are made for a CVA, or an alternative, that is ‘fit, fair and feasible’.

While CVAs work well in instances where all parties are prepared to work in co-operation and are comfortable with the procedure, they are not a magic panacea. In many cases, not only will CVAs not be appropriate, but an insolvency practitioner would have a statutory duty to proceed towards liquidation rather than to seek another solution. The CVA process takes a certain amount of willingness on both sides to make it work, and sometimes there will be those within a company who will not accept it. It will only proceed where everyone is realistic about the situation and are willing all to pull in the same direction. This means that a CVA can only succeed if it has the support of its bankers and other financiers.

What is also true is that the company concerned must be a viable business, or clearly have the potential to be viable. In such cases, they are likely to be companies that are otherwise profitable but have been knocked off course by an event out of the blue. This could be anything that constitutes a one-off or easily remedied problem – a sudden illness, a supplier going out of business, a fire in a warehouse or an internal fraud. For example, travel agents after 9/11 suffered a total drying-up of trade, but there was no doubt that interest in travel would revive, as it duly did after six months or so.

One example I come across is a fashion house that lost an entire season’s collection after the ship carrying its precious cargo to Asia was captured by pirates. In addition, their insurance cover proved to be inadequate in the face of the catastrophic loss of the entire stock. Yet there was no doubt that the business itself was otherwise thriving and expanding, and with a CVA in place the business was able to put itself back on track.

By opting for a CVA, the limited company as well as the business can be retained. This may have many advantages, from maintaining the debt relief and tax efficiencies of the existing business, to holding on to a well-known name or highly regarded brand name. It is sometimes possible to hang on maintain or sell key parts of a business through liquidation, but it is much easier to ensure the integrity of the company if there is a voluntary agreement in place, to maintain business relationships and maximise the value of the company and its assets. With a CVA, there is almost always some debt forgiveness, which in turn helps the struggling company with cash flow and to steer it back toward profitability.

While all the options will be explored, a CVA remains an effective way of maintaining the goodwill of a company at a time of difficulty. It also gives creditors and suppliers the option of continuing to trade with the business once the current problems have been successful addressed. It enables all parties to make an agreement knowing where they stand and helps them look forwards, towards a stable and successful future business relationship.