Why Using the Right Language Around Insolvency Matters for Struggling Businesses

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by Martin Kingman 
| 23 June 2024

    Insolvency is a challenging topic, and with business failures rising in Britain, it’s more important than ever to use accurate language when discussing it. Unfortunately, misleading terminology, often used by Politicians and the media, can perpetuate stigma and deter struggling companies from seeking the help they need.  Understanding the correct terminology is essential for legal accuracy and enabling businesses to make informed decisions.

     

    The Importance of Using Accurate Terminology

      As using precise and accurate language can minimise confusion and reduce the stigma surrounding insolvency, we have put together a clear explanation of the most common insolvency procedures and their purposes.

       

      Liquidation 

      Liquidation is the formal process of selling a company’s assets to pay its creditors. The liquidator replaces the board of directors during liquidation and manages the company’s affairs. The company is dissolved once the assets are sold and distributed among creditors. For example, Lloyds Pharmacy recently underwent liquidation, leading to its disappearance from high streets and Sainsbury’s stores.

       

      There are two main types of liquidation:

      1. Compulsory Liquidation – Ordered by a court, typically after a creditor files a petition.
      2. Voluntary Liquidation: Initiated by the company itself.
      • Creditors’ Voluntary Liquidation (CVL) – When directors choose to liquidate due to insolvency.
      • Members’ Voluntary Liquidation (MVL) – For solvent companies that opt to wind up voluntarily.

       

      Both types of liquidation involve selling off a company’s assets and distributing the proceeds to creditors according to a ranked order known as the “insolvency waterfall.”  This ranking determines the priority of payments, ensuring that preferential creditors, such as employees owed wages, receive compensation before unsecured creditors. The outcome of liquidation is ultimately the dissolution of the company.

      Adminstration

      Administration is an insolvency procedure designed to rescue a company or achieve better outcomes for creditors than liquidation. Administrators aim to keep the company operational, if possible, or restructure its debts to maximise the return to creditors. Ideally, the company continues as a going concern or is sold as a whole. For example, the fashion retailer Ted Baker recently entered administration to facilitate its sale. In addition, a special administration procedure is available for nationally important sectors.

      Company Voluntary Arrangement (CVA) 

      A Company Voluntary Arrangement (CVA) is a formal arrangement between a company and its creditors to pay back a portion of its debts over time. It’s a rescue procedure that allows directors to remain in control of the company while it continues to operate. For example, The Body Shop is currently seeking a CVA after appointing administrators.

      Standalone Moratorium

      A moratorium grants companies 20 business days of breathing space to evaluate their recovery options, free from creditor pressure. It allows directors to stay in control and continue operating the business while assessing rescue plans. This breathing space benefits many businesses facing temporary cash flow issues.

      Restructuring Plan

      A Scheme of Arrangement is a debt restructuring tool found in the Companies Act 2006 that allows solvent companies to reorganise their financial obligations. It’s essentially a deal between a company and its creditors or shareholders. It’s akin to an individual consolidating their credit cards or arranging a plan to repay arrears.

      The Reality of Corporate Insolvency

      While UK insolvency laws aim to prioritise business rescue, only 6% of the 26,595 insolvencies in 2023 involved a rescue procedure. The remaining 94% ended in liquidation. Could it be that inaccurate terminology contributes to the stigma around insolvency, preventing businesses from seeking help early enough?

      Fighting Stigma with Facts

      Understanding the correct terminology and using accurate language is crucial in reducing the stigma around insolvency. Encouraging businesses to seek help earlier can increase the chances of recovery and ultimately help save jobs and livelihoods.

       

      • Administration vs Collapse – Administration is designed to rescue, not destroy.
      • CVAs Give Companies Control – They empower directors to turn the business around.
      • Moratoriums Provide Breathing Space – They offer time to evaluate and implement recovery plans.

       

      If your business is facing financial challenges or uncertainty, it’s crucial to seek professional advice promptly. Understanding the available insolvency procedures, such as administration, Company Voluntary Arrangements (CVAs), or moratoriums, can make a significant difference in maximising your company’s chances of recovery.

      Don’t wait until it’s too late. Contact our team to help you explore the best options for your business and potentially pave the way for a successful turnaround.

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